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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark one)
(X) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 1999
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _____________ to ____________
Commission File Number: 1-9293
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PRE-PAID LEGAL SERVICES, INC.
(Exact name of registrant as specified in its charter)
Oklahoma 73-1016728
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
321 East Main
Ada, Oklahoma 74820
(Address of principal executive offices) (Zip Code)
Registrant's telephone number including area code: (580) 436-1234
Securities registered pursuant to Section 12(b) of the Exchange Act:
Name of each exchange on
Title of each class which registered
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Common Stock, $0.01 Par Value New York Stock Exchange
Securities registered under Section 12 (g) of the Exchange Act: None
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K ( ).
State the aggregate market value of the voting stock held by non-affiliates
of the registrant. The aggregate market value shall be computed by reference to
the price at which the stock was sold, or the average bid and asked prices of
such stock, as of a specified date within the past 60 days prior to the date of
the filing: As of March 15, 2000 - $497,803,736.
Indicate the number of shares outstanding of each of the registrant's classes
of common stock, as of the latest practicable date: As of March 15, 2000 there
were 22,554,143 shares of Common Stock, par value $.01 per share, outstanding.
DOCUMENTS INCORPORATED BY REFERENCE.
Portions of the Company's definitive proxy statement for its 2000 annual
meeting of shareholders are incorporated into Part III of this Form 10-K by
reference.
PRE-PAID LEGAL SERVICES, INC.
FORM 10-K
For the year ended December 31, 1999
TABLE OF CONTENTS
PART I.
ITEM 1. DESCRIPTION OF BUSINESS
General
Acquisition of TPN, Inc. d.b.a. The Peoples Network
Acquisition of Universal Fidelity Life Insurance Company
Industry Overview
Description of Memberships
Specialty Legal Service Plans
Provider Law Firms
Marketing
Operations
Quality Control
Competition
Regulation
Employees
Foreign Operations
ITEM 2. DESCRIPTION OF PROPERTY
ITEM 3. LEGAL PROCEEDINGS
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF
SECURITY HOLDERS
PART II.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
Market Price of and Dividends on the Common Stock
Recent Sales of Unregistered Securities
ITEM 6. SELECTED FINANCIAL DATA
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
General
Results of Operations:
Comparison of 1999 to 1998
Comparison of 1998 to 1997
Liquidity and Capital Resources
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH
ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE
PART III.
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PART IV.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES,
AND REPORTS ON FORM 8-K
SIGNATURES .......................................................
** Information required by Part III is incorporated by reference from the
Company's definitive proxy statement for its 2000 annual meeting of
shareholders.
PRE-PAID LEGAL SERVICES, INC.
FORM 10-K
FOR THE YEAR ENDED DECEMBER 31, 1999
Forward-Looking Statements
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All statements in this report concerning Pre-Paid Legal Services, Inc.
(the "Company") other than purely historical information, including, but not
limited to, statements relating to the Company's future plans and objectives,
expected operating results and assumptions relating to future performance
constitute "Forward-Looking Statements" within the meaning of Section 21E of the
Securities Exchange Act of 1934 and are based on the Company's historical
operating trends and financial condition as of December 31, 1999 and other
information currently available to management. The Company cautions that the
Forward-Looking Statements are subject to all the risks and uncertainties
incident to its business, including but not limited to risks relating to the
marketing of its Memberships, Membership persistency, regulation and competition
risks and the risk relating to the continued active participation of its
principal executive officer, Harland C. Stonecipher. Moreover, the Company may
make acquisitions or dispositions of assets or businesses, enter into new
marketing arrangements or enter into financing transactions. None of these can
be predicted with certainty and, accordingly, are not taken into consideration
in any of the Forward-Looking Statements made herein. For all of the foregoing
reasons, actual results may vary materially from the Forward-Looking Statements.
PART I.
ITEM 1. DESCRIPTION OF BUSINESS
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General
Pre-Paid Legal Services, Inc. was one of the first companies in the United
States organized solely to design, underwrite and market legal expense plans.
The Company's predecessor commenced business in 1972 and began offering legal
expense reimbursement services as a "motor service club" under Oklahoma law. In
1976, the Company was formed and acquired its predecessor in a stock exchange.
The Company began offering Memberships independent of the motor service club
product by adding a legal consultation and advice service, and in 1979 the
Company implemented a legal expense benefit which provided for partial payment
of legal fees in connection with the defense of certain civil and criminal
actions. The Company's legal expense plans (referred to as "Memberships")
currently provide for or reimburse a portion of the legal fees associated with a
variety of legal services in a manner similar to medical reimbursement plans. At
December 31, 1999, the Company had 827,979 Memberships in force with members in
all 50 states, the District of Columbia and the Canadian provinces of Ontario
and British Columbia. Approximately 90% of such Memberships were in 28 states
and the Canadian province of Ontario.
Acquisition of TPN, Inc. d.b.a. The Peoples Network ("TPN")
TPN was merged into the Company effective October 2, 1998. Since its
inception in 1994, TPN had marketed personal and home care products, personal
development products and services together with PRIMESTAR(R) satellite
subscription television service to its members through a network marketing sales
force. TPN had a sales force of approximately 30,000 distributors at the time of
the acquisition of which approximately 13,000 immediately became Company sales
associates after the acquisition. The personal development products and services
are delivered to the sales force and subscribers via the Company's own channel
known as the "SUCCESS CHANNEL" on the PRIMESTAR(R) digital satellite network.
The acquisition of TPN greatly enhanced the Company's ability to communicate
with the combined sales force via the "SUCCESS CHANNEL." The Company has
utilized this communications platform for recruiting new sales associates, sales
training, motivation, personal development and product sales. The ability to
communicate with people in their homes or offices via digital satellite
broadcasting technology has furthered the Company's recruiting and training of
new sales associates as well as existing associates. The acquisition qualified
as a "pooling of interests" for financial reporting purposes and accordingly the
1995 through 1998 financial information contained herein has been restated to
include the operating results of TPN.
Acquisition of Universal Fidelity Life Insurance Company
The Company completed its acquisition of Universal Fidelity Life Insurance
Company ("UFL") on December 30, 1998. UFL, based in Duncan, Oklahoma, was a
subsidiary of Pioneer Financial Services, Inc. ("Pioneer"), which is a member of
the Conseco group of companies. As part of the transaction, Pioneer Life
Insurance Company, a wholly-owned subsidiary of Pioneer, entered into a 100%
coinsurance agreement with UFL assuming all of the assets and liabilities
relating to Medicare supplement and health care business written by UFL. UFL
retained its existing life insurance business with 1999 annual premiums of
approximately $1 million and has continued to provide claims processing for the
coinsured Medicare supplement and health care policies and receive full cost
reimbursement for such services. UFL markets primarily to individuals, age 65
and over, in New Mexico, Oklahoma and Texas. The acquisition of UFL was
accounted for using the purchase method of accounting for business combinations.
The transaction has not had a material effect on the Company's operating
results. UFL continues to market new life and Medicare supplement and health
insurance policies through existing general agency relationships, retaining the
new life insurance business and coinsuring the Medicare supplement and health
policies in their entirety to Pioneer. UFL's operations are fully self-contained
and are supported as necessary by the Company's various operating departments.
Due to the acquisition of UFL, the Company now has two reportable segments
(legal service plans and life insurance) that have separate operating teams and
infrastructures and that offer different products and services. See Notes to
Consolidated Financial Statements, Note 15 for summarized financial information
concerning the Company's reportable segments.
Since the acquisition of UFL, the Company has been working with Conseco to
develop a cooperative marketing alliance designed to allow Conseco's agents to
offer the Company's legal plans to their customers. It is expected that Conseco
will focus primarily on their existing group accounts. The UFL acquisition
provided the Company with a potentially significant new marketing partner as
well as an opportunity to manufacture specialty insurance products for the
benefit of its sales associates.
Industry Overview
Legal service plans, while used in Europe for many years, were first
developed in the United States in the late 1960s. Since that time, there has
been substantial growth in the number of Americans entitled to receive various
forms of legal services through legal service plans. According to estimates
developed by the National Resource Center for Consumers of Legal Services
("NRC") during 1999, there were 115 million Americans entitled to service
through at least one legal service plan, compared to 4 million in 1981, 15
million in 1985, 58 million in 1990 and 98 million in 1996. The legal service
plan industry continues to evolve and market acceptance of legal service plans,
as indicated by the continuing growth in the number of individuals covered by
plans, is increasing.
Legal service plans are offered through various organizations and
marketing methods and contain a wide variety of benefits. The types of plans
offered include "free" plans that generally provide limited benefits on an
automatic enrollment basis without any direct cost to the individual user. Free
plans include those sponsored by labor unions, the American Association of
Retired Persons, the National Education Association and military services
according to NRC estimates, accounted for approximately 57% of covered persons
in 1999. The NRC estimates that an additional 27% are covered by employee
assistance plans that are also automatic enrollment plans without direct cost to
participants designed to provide limited telephonic access to attorneys for
members of employee groups. Employer paid plans pursuant to which more
comprehensive benefits are offered by the employer as a fringe benefit are
estimated by the NRC to account for approximately 5% of covered persons in 1999.
According to the NRC, the remaining covered persons in 1999 were covered
by individual enrollment plans, other employment based plans, including
voluntary payroll deduction plans, and miscellaneous plans. These plans were
estimated by the NRC to account for approximately 11% of the market in 1999 and
represent the market segment in which the Company primarily competes. According
to the NRC, these plans typically have more comprehensive benefits, higher
utilization, involve higher costs to participants, and are offered on an
individual enrollment or voluntary basis.
Of the current work force covered by legal service plans, only 8% was
estimated by the NRC to be covered by plans having benefits comparable to those
provided by the Company's Memberships. Accordingly, the Company believes that
significant opportunities exist for successful marketing of the Company's
Memberships to employee groups and other individual consumers.
Description of Memberships
The Company has offered legal services under two types of Memberships:
closed panel and open panel. Since 1987, substantially all of the Memberships
sold by the Company have been closed panel Memberships that allow members to
access legal services through a network of independent law firms ("provider law
firms") under contract with the Company. Provider law firms are paid a fixed fee
on a capitated basis to render services to plan members residing within the
state or province in which the provider law firm is licensed to practice.
Because the fixed fee payments by the Company to provider law firms in
connection with closed panel plans do not vary based on the type and amount of
benefits utilized by the member, the closed panel plans provide significant
advantages to the Company in managing claims risk. At December 31, 1999, closed
panel Memberships comprised approximately 97% of the Company's active
Memberships. Prior to 1987, the Company sold primarily open panel Memberships
which allow members to locate their own lawyer to provide legal services
available under the Membership with the member's lawyer being reimbursed for
services rendered based on usual, reasonable and customary fees.
Family Legal Plan
The Family Legal Plan currently marketed in most jurisdictions by the
Company consists of five basic benefit groups that provide coverage for a broad
range of preventive and litigation-related legal expenses. The Family Legal Plan
accounted for approximately 95% of the outstanding Memberships at December 31,
1999. In addition to the Family Legal Plan, the Company markets other
specialized legal services products specifically related to employment in
certain professions described below
In 12 states, the Company's plans are available in the Spanish language.
For the Spanish language plans, the provider law firms have both bilingual staff
and lawyers and the Company has bilingual staff for both customer service and
marketing service functions. The Company will continue to evaluate making its
plans available in additional languages in markets where demand for such a
product is expected to be sufficient to justify this additional cost.
In exchange for a fixed monthly, semi-annual or annual payment, members
are entitled to specified legal services. Those individuals covered by the
Membership include the individual who purchases the Membership along with his or
her spouse and never married children living at home up to age 21 or up to age
23 if the children are full time college students. Also included are children up
to age 18 for whom the member is legal guardian and any dependent child,
regardless of age, who is mentally or physically disabled. Each Membership,
other than the Business Owners' Legal Solutions Plan, is guaranteed renewable,
except in the case of fraud or nonpayment of Membership fees. Historically, the
Company has not raised rates to existing members. If new benefits become
available, existing members may choose the newer, more comprehensive plan at a
higher rate or keep their existing Memberships. Memberships are automatically
renewed at the end of each Membership period unless the member cancels prior to
the renewal date or fails to make payment on a timely basis.
The basic legal service plan Membership is sold as a package consisting of
five separate benefit groups. Memberships range in cost from $10.00 to $26.00
per month depending in part on the schedule of benefits, which may vary from
state or province in compliance with regulatory requirements. Benefits for most
corporate and commercial matters are excluded from open panel Memberships.
Benefits for domestic matters, bankruptcy and drug and alcohol related matters
are limited in most Memberships.
Preventive Legal Services. These benefits offer unlimited toll-free access
to a member's provider law firm for advice and consultation on any legal matter.
These benefits also include letters and phone calls on the member's behalf,
review of personal contracts and documents, each up to 10 pages in length, last
will and testament preparation for the member and annual will reviews at no
additional cost.
When these benefits are offered on the open panel plan basis, they permit
half-hour consultations for personal legal matters with the lawyer of choice and
pay a lawyer's reasonable fee for covered consultations. This benefit, however,
does not provide for a duplication of services previously billed relating to the
same matter per Membership in a 90-day period. The member is responsible for any
fees incurred as a result of legal work in addition to the half-hour
consultation or legal assistance provided under this benefit.
Automobile Legal Protection. These benefits offer legal assistance for
matters resulting from the operation of a licensed motor vehicle. Members have
assistance available to them at no additional cost for: (a) defense in the court
of original jurisdiction of moving traffic violations deemed meritorious, (b)
defense in the court of original jurisdiction of any charge of manslaughter,
involuntary manslaughter, vehicular homicide or negligent homicide as the result
of a licensed motor vehicle accident, (c) up to 2.5 hours of assistance per
incident for collection of minor property damages (up to $2,000) sustained by
the member's licensed motor vehicle in an accident, (d) up to 2.5 hours of
assistance per incident for collection of personal injury damages (up to $2,000)
sustained by the member or covered family member while driving, riding or being
struck as a pedestrian by a motor vehicle, and (e) up to 2.5 hours of assistance
per incident in connection with an action, including an appeal, for the
maintenance or reinstatement of a member's driver's license which has been
canceled, suspended, or revoked. No coverage under this benefit of the basic
legal service plan is offered to members for pre-existing conditions, drug or
alcohol related matters, or for commercial vehicles over two axles or operation
without a valid license.
Trial Defense. These benefits offer assistance to the member and the
member's spouse through an increasing schedule of benefits based on Membership
year. Up to 60 hours are available for the defense of civil or job-related
criminal charges by the provider law firm in the first Membership year. The
criminal action must be within the scope and responsibility of employment
activities of the member or spouse. Up to 2.5 hours of assistance are available
prior to trial, and the balance is available for actual trial services. The
schedule of benefits under this benefit area increases by 60 hours each
Membership year to: 120 hours in the second Membership year, 3 hours of which
are available for pre-trial services; 180 hours in the third Membership year,
3.5 hours of which are available for pre-trial services; 240 hours in the fourth
Membership year, 4 hours of which are available for pre-trial services, to the
maximum limit of 300 hours in the fifth Membership year, 4.5 hours of which are
available for pre-trial services. This benefit excludes domestic matters,
bankruptcy, deliberate criminal acts, alcohol or drug-related matters, business
matters, and pre-existing conditions.
In addition to the pre-trial benefits of the basic legal plan described
above, there are additional pre-trial hours available as an option, or add-on,
to the basic plan. These optional benefits cost $9.00 per month and add 15 hours
of pre-trial services during the first year of the Membership incrementing 5
additional hours each Membership year to the maximum limit of 35 hours in the
fifth Membership year. These pre-trial hours are in addition to those hours
already provided by the basic plan so that the member, in the first year of the
Membership, has a combined total of 17.5 pre-trial hours available escalating to
a combined total of 39.5 pre-trial hours in the fifth Membership year. The
Company has experienced increased sales of this option during the last three
years.
IRS Audit Protection Services. This benefit offers up to 50 hours of legal
assistance per year in the event the member, spouse or dependent children
receive written notification of an Internal Revenue Service ("IRS") audit or are
summoned in writing to appear before the IRS concerning a tax return. The 50
hours of assistance are available in the following circumstances: (a) up to 1
hour for initial consultation, (b) up to 2.5 hours for representation in
connection with the audit if settlement with the IRS is not reached within 30
days, and (c) the remaining 46.5 hours of actual trial time if settlement is not
achieved prior to litigation. Coverage is limited to audit notification received
regarding the tax return for years during which the Membership is effective.
Representation for charges of fraud or income tax evasion, business and
corporate tax returns and certain other matters are excluded from this benefit.
With pre-trial benefits limited to 2.5 hours to 4.5 hours based on the
Membership year for trial defense (without the pre-trial option described) and
3.5 hours for the IRS audit benefit, these benefits do not ensure complete
pre-trial coverage. In order to receive additional pre-trial IRS audit or trial
defense benefits, a matter must actually proceed to trial. The costs of
pre-trial preparation that exceed the benefits under the Membership are the
responsibility of the member. Provider law firms under the closed panel
Membership have agreed to provide to members any additional pre-trial services
beyond those stipulated in the Membership at a 25% discount from the provider
law firm's customary and usual hourly rate.
The automobile related benefits, trial defense benefits and IRS audit
benefits available on an open panel plan basis provide comparable benefits with
limitations based on fees incurred rather than hours of service.
Preferred Member Discount. Provider law firms under the closed panel
Membership have agreed to provide to members any legal services beyond those
stipulated in the Membership at a fee discounted 25% from the provider law
firm's customary and usual hourly rate.
Legal Shield benefit
The Legal Shield plan can be added to the standard or expanded Family
Legal Plan for $1 per month and provides members with 24-hour access to a
toll-free number for provider law firm assistance if the member is arrested or
detained. The Legal Shield member, if detained, can present their Legal Shield
card to the officer that has detained them to make it clear that they have
access to legal representation and that they are requesting to contact a lawyer
immediately. The benefits of the Legal Shield plan are subject to conditions
imposed by the detaining authority, which may not allow for the provider law
firm to communicate with the member on an immediate basis.
Canadian Family Plan
The Family Legal plan is currently marketed in the Canadian provinces of
Ontario and British Columbia. The Company began operations in these provinces
during June and July of 1999, respectively. The plan currently marketed in
British Columbia provides primarily the preventive legal services and preferred
member discount described above. Benefits of the Ontario plan include expanded
preventive benefits including assistance with Canadian Government agencies,
warranty assistance and small claims court assistance as well as the preferred
member discount. Canadian membership fees collected during 1999 were
approximately $1 million in U.S. dollars. The Company plans to expand operations
in other provinces and territories of Canada.
Specialty Legal Service Plans
In addition to the Family Legal plan described above, the Company also
offers other specialty or niche legal service plans. These specialty plans
usually contain many of the Family Legal plan benefits adjusted as necessary to
meet specific industry or prospective member requirements. In addition to those
specialty plans described below, the Company will continue to evaluate and
develop other such plans as the need and market allow.
Commercial Driver Legal Plan
The Commercial Driver Legal Plan, developed in 1986, is designed
specifically for the professional truck driver and offers a variety of
driving-related benefits, including coverage for moving and non-moving
violations. This plan provides coverage on a closed panel plan basis for persons
who drive a commercial vehicle. This legal service plan is currently offered in
45 states. In certain states, the Commercial Driver Legal Plan is underwritten
by the Road America Motor Club, an unrelated motor service club. During the
years ended December 31, 1999, 1998 and 1997, this plan accounted for
approximately 1.1%, 1.4% and 2.2%, respectively, of Membership fees. The Plan is
available at the monthly rate of $35.95 or at a group rate of $32.95. Benefits
include the motor vehicle related benefits described above, defense of
Department of Transportation violations and the 25% discounted rate for services
beyond plan scope, such as defense of non-moving violations, bail and arrest
bonds, and services for family vehicles.
Law Officers Legal Plan
The Law Officers Legal Plan, developed in 1991 and marketed to law
enforcement officers, provides 24-hour job-related emergency toll-free access to
a provider law firm and provides legal services associated with administrative
hearings. This plan was designed to meet the legal needs of persons in the law
enforcement profession and is currently marketed at the monthly rate of $16.00
or at a group rate of $14.95. The Company has members covered under the Law
Officers Legal Plan in 24 states. The Law Officers Legal Plan offers the basic
family legal plan benefits described above without the motor vehicle related
benefits. These motor vehicle benefits are available in the Law Officers Legal
Plan only for defense of criminal charges resulting from the operation of a
licensed motor vehicle. Additionally, at no charge to the member, a 24-hour
emergency hotline is available to access the services of the provider law firm
in situations of job-related urgency. The Law Officers Legal Plan also offers
representation at no additional charge for up to ten hours (five hours per
occurrence) for two administrative hearings or inquiries per year and one
pre-termination hearing per Membership year before a review board or arbitrator.
Preparation and/or counsel for post-termination hearings are also available to
members as a schedule of benefits, which increases with each Membership year.
The schedule of benefits is similar to that offered under the Family Legal Plan
Trial Defense, including the availability of the optional pre-trial hours
described above for an additional $9.00 per month. During the years ended
December 31, 1999, 1998 and 1997, the Law Officers Legal Plan accounted for
approximately 2.1%, 2.4% and 2.2%, respectively, of the Company's Membership
fees.
Business Owners' Legal Solutions Plan
The Business Owners' Legal Solutions plan was developed during 1995 and
provides business oriented legal service benefits for small businesses with 99
or fewer employees. This plan was developed and test marketed in selected
geographical areas and more widely marketed beginning in 1996 at a monthly rate
of $69.00. This plan provides small businesses with legal consultation and
correspondence benefits, contract and document reviews, debt collection
assistance and reduced rates for any non-covered areas. During 1997, the
coverage offered pursuant to this plan was expanded to include trial defense
benefits and membership in GoSmallBiz.com, an unrelated Internet based service
provider. Through GoSmallBiz.com, members may receive unlimited business
consultations from business consultants and have access to timely small business
articles, educational software, Internet tools and more. This expanded plan is
currently marketed at a monthly rate ranging from $75 to $125 depending on the
number of employees and provides business oriented legal service benefits for
any for-profit business with 99 or fewer employees. This plan is available in 29
states and represented approximately 3.8%, 2.8% and 2.1% of the Company's
Membership fees during 1999, 1998 and 1997, respectively.
Home-Based Business Rider
The Home-Based Business plan was designed to provide small business owners
access to commonly needed legal services. It can be added to the Expanded Family
Legal Plan in approved states. To qualify, the business and residence address
must be the same with three or fewer employees and be a for-profit business that
is not publicly traded. Benefits under this plan include unlimited business
telephone consultation, three business contracts per month, three business and
debt collection letters per month and discounted trial defense rates. This plan
also includes membership in GoSmallBiz.com.
Comprehensive Group Legal Services Plan
The Company introduced in late 1999 the new Comprehensive Group plan,
designed for the large group employee benefit market. This new plan provides all
the benefits of the Family Legal Plan as well as mortgage document preparation,
assistance with uncontested legal situations such as adoptions, name changes,
separations and divorces. Additional benefits include the preparation of health
care power of attorney and living wills or directives to physicians. The Company
expects this plan to improve the Company's competitive position in the large
group market during 2000.
Provider Law Firms
The Company currently markets Memberships on a closed panel basis. Closed
panel Memberships allow members to access legal services through a network of
independent provider law firms under contract with the Company generally
referred to as "provider law firms." Provider law firms are paid a fixed fee on
a per capita basis to render services to plan members residing within the state
or province in which the provider law firm is licensed to practice. Because the
fixed fee payments by the Company to provider law firms in connection with
closed panel Memberships do not vary based on the type and amount of benefits
utilized by the member, the closed panel Memberships provide significant
advantages to the Company in managing claims risk. Prior to 1987, the Company
sold Memberships on an open panel basis. At December 31, 1999, closed panel
Memberships comprised approximately 97% of the Company's active Memberships
while open panel Memberships accounted for the remainder.
Open panel Memberships allow members to locate their own lawyer to provide
legal services available under the Membership. Members' lawyers are reimbursed
for services rendered according to a payment schedule commonly termed "usual,
reasonable, and customary" relevant to the average cost of legal services in
their area.
Provider law firms are selected to serve closed panel plan members based
on a number of factors, including recommendations from provider law firms and
other lawyers in the area in which the candidate provider law firm is located
and in neighboring states, investigation by the Company of bar association
standing and client references, evaluation of the education, experience and
areas of practice of lawyers within the firm, on-site evaluations by Company
management, and interviews with lawyers in the firm who would be responsible for
providing services. The vast majority of the Provider firms are "AV" rated by
Martindale-Hubbell, the highest rating possible. Martindale-Hubbell has
maintained ratings for the legal community for over a century. According to
Martindale-Hubbell, its ratings reflect the confidential opinions of bar members
and the judiciary, and attest to the individual lawyer's legal ability and
adherence to professional standards of ethics. The Company regularly conducts
extensive random surveys of members who have used the legal services of the
provider law firms, compiles the results of such surveys and immediately
notifies the provider law firm of the survey results. If a member indicates that
the legal service rendered did not meet his or her expectations, the member is
immediately contacted to resolve the issue.
Each member of the provider law firm rendering services must have at least
two years of experience as an lawyer, unless the Company waives this requirement
due to special circumstances such as instances when the lawyer demonstrates
significant legal experience acquired in an academic, judicial or similar
capacity other than as an lawyer. The Company provides continuous training to
the provider law firms and their support staff through on-site training that
allows the Company to observe the individual lawyers of provider law firm as
they directly assist the members.
Agreements with provider law firms: (a) generally permit termination of
the agreement by either party upon 60 days prior written notice, (b) permit the
Company to terminate the Agreement for cause immediately upon written notice,
(c) require the firm to maintain a specified minimum amount of malpractice
insurance, (d) preclude the Company from interference with the lawyer-client
relationship, and (e) provide for periodic review of services provided. The
Company is precluded from contracting with other law firms to provide the same
service in the same geographic area, except in situations where the designated
law firm has a conflict of interest, the Company enrolls a group of 500 or more
members, or when the agreement is terminated by either party. Provider law firms
are precluded from contracting with other prepaid legal service companies
without Company approval. Provider law firms receive a fixed monthly payment for
each closed plan member who are residents in the service area and are
responsible for providing the Membership benefits without additional
remuneration. If a closed panel Membership provider law firm delivers legal
services to an open panel member, the law firm is reimbursed for services
rendered according to the open panel Membership.
The Company has had occasional disputes with Provider law firms, some of
which have resulted in litigation. The toll-free telephone lines utilized and
paid for by the Provider law firms are owned by the Company so that in the event
of a termination, the members' calls can be rerouted very quickly. Nonetheless,
the Company believes that its relations with provider law firms are generally
good. At the end of 1999, the Company had provider law firms representing 41
states and two provinces compared to 38 states at the end of 1998 and 36 at the
end of 1997. During the last three years, the Company's relationships with a
total of three provider law firms were terminated by the Company or the provider
law firm.
The Company's agreements with provider law firms require the provider law
firms to indemnify the Company against liabilities resulting from legal services
rendered by the provider law firm.
Marketing
Multi-Level Marketing
The Company markets Memberships through a multi-level marketing program
which encourages individuals to sell Memberships and allows individuals to
recruit and develop their own sales organizations. Commissions are paid only
when a Membership is sold and are not based solely on recruitment. When a
Membership is sold, commissions are paid to the associate making the sale, and
to other associates (often as many as 11 others) who are in the line of
associates who directly or indirectly recruited the selling associate. The
Company provides training materials, organizes area-training meetings and
designates personnel at the home office specially trained to answer questions
and inquiries from associates. The Company offers various communication avenues
to its sales associates to keep such associates informed of any changes in the
marketing of its Memberships. The five primary communication vehicles utilized
by the Company to keep its sales associates informed include an interactive
voice-mail service, The Connection monthly magazine, the weekly Communication
Show that may be viewed on the Primestar satellite system or via the Company's
Internet webcasts, an interactive voice response system and the Company's
website, prepaidlegal.com.
Multi-level marketing is primarily used for product marketing based on
personal sales since it encourages individual or group face-to-face meetings
with prospective purchasers of the product and has the potential of attracting a
large number of sales personnel within a short period of time. The Company's
marketing efforts towards individuals typically target the middle income family
or individual and seek to educate potential members concerning the benefits of
having ready access to legal counsel for a variety of everyday legal problems.
Memberships with individuals or families sold by the multi-level sales force
constituted 75% of the Company's Memberships in force at December 31, 1999
compared to 76% at December 31, 1998 and 1997. Although other means of payment
are available, approximately 56% of fees on Memberships purchased by individuals
or families are paid on a monthly basis by means of automatic bank draft.
The Company's marketing efforts towards employee groups, principally on a
payroll deduction payment basis, are designed to permit its sales associates to
reach more potential members with each sales presentation and strive to
capitalize on, among other things, what the Company perceives to be a growing
interest among employers in the value of providing legal service plans to their
employees. Memberships sold through employee groups constituted approximately
25% of total Memberships in force at December 31, 1999 compared to 24% at
December 31, 1998 and 1997. The majority of employee group Memberships are sold
to school systems, governmental entities and businesses. No group accounted for
more than 1% of the Company's consolidated revenues from Memberships during
1999, 1998 or 1997.
Sales associates under the Company's multi-level marketing system are
generally engaged as independent contractors and are provided with training
materials and are given the opportunity to participate in Company training
programs. Sales associates are required to complete a specified training program
prior to marketing the Company's Memberships to employee groups. All advertising
and solicitation materials used by sales associates must be approved by the
Company prior to use. A substantial number of the Company's sales associates
market the Company's Memberships on a part-time basis only. At December 31,
1999, the Company had 204,137 "active" sales associates compared to 159,268 and
123,470 "active" sales associates at December 31, 1998 and 1997, respectively. A
sales associate is considered to be "active" if he or she has sold at least
three new Memberships per quarter or if he or she retains a personal Membership.
During 1999, the Company had 64,611 sales associates who sold at least one
Membership, of which 41,121 (64%) made first time sales, compared to 51,026 and
37,404 sales associates producing at least one Membership sale in 1998 and 1997,
respectively, of which 34,522 (68%) and 25,909 (69%), respectively, made first
time sales.
The Company derives revenues from services provided to its multi-level
marketing sales force, principally from a one-time enrollment fee of $65 from
each new sales associate and the sale of marketing supplies and promotional
materials to associates. In January 1997, the Company implemented a new self
funded combination classroom and field training program, titled Fast Start to
Success ("Fast Start"), aimed at increasing the level of new Membership sales
per associate. The Fast Start program provides a direct economic incentive to
existing associates to help train new recruits. Associates who successfully
complete the program by writing three new Memberships and recruiting three new
sales associates or by personally selling five new Memberships within 60 days of
the associate's start date advance through the various commission levels at a
faster rate. Associates in states that require the associate to become licensed
will have 60 days from the issue date on their license to complete the same
requirements. The program requires a one-time training fee of $184 per new
associate, or a total of $249 including the one time enrollment fee of $65
described above, and upon successful completion of the program provides for the
payment of certain training bonuses and covers the additional training materials
used in the program. Amounts collected from sales associates are intended
primarily to offset the Company's direct and indirect costs incurred in
recruiting, monitoring and providing materials to sales associates and are not
intended to generate material profits from such activities.
Regional Vice Presidents
The Company has a group of Regional Vice Presidents ("RVPs") responsible
for associate activity in a given geographic region and with the ability to
appoint Area Coordinators within the RVP's region. The RVPs have weekly
reporting requirements as well as quarterly sales and recruiting goals. The RVP
and Area Coordinator program provides a basis to effectively monitor current
sales activity, further educate and motivate the sales force and otherwise
enhance the relationships between the associates and the Company. New products
and initiatives will continue to be channeled through the RVPs and Area
Coordinators. At December 31, 1999, the Company had 33 RVPs in place.
Pre-Paid Legal Benefits Association
The Pre-Paid Legal Benefits Association was founded in 1999 with the
intent of providing sales associates the opportunity to have access, at their
own expense, to health insurance and life insurance benefits. Membership in the
Association allows a sales associate to become eligible to enroll in numerous
benefit programs, as well as take advantage of attractive affinity agreements.
Membership in this association is open to sales associates that reach a certain
level within the Company's marketing programs who also maintain an active
personal legal services membership. The Benefits Association is a separate
association not owned or controlled by the Company and is governed by a 16
member Board of Directors, including four officer positions. None of the
officers or directors of the Benefits Association serve in any such capacity
with the Company. The Benefits Association employs a Director of Associate
Benefits as well as a third-party benefits administration company, both paid by
the Association. Affinity programs available to members of the Benefits
Association include credit cards, long-distance plans including paging, wireless
services and Internet service provider offerings, real estate planning programs
and a travel club. As determined by its Board of Directors, some of the revenue
generated by the Benefits Association through commissions from vendors of the
benefit and affinity programs may be used to make open-market purchases of the
Company's stock for use in stock awards to Benefit Association members based on
criteria established by the Benefits Association. Members of the Benefits
Association have access to purchase a variety of nutritional items ranging from
vitamins to facial care items and faculty items such as motivational books,
tapes and audios ("core products" as discussed below).
Cooperative Marketing
The Company is continuing to develop a cooperative marketing strategy
pursuant to which the Company seeks arrangements with insurance and service
companies that have established sales forces. Under such arrangements, the
agents or sales force of the cooperative marketing partner market the Company's
Memberships along with the products already marketed by the partner's agents or
sales force. Such arrangements allow the cooperative marketing partner to
enhance its existing customer relationships and distribution channels by adding
the Company's product to the marketing partner's existing range of products and
services, while the Company is able to gain broader Membership distribution and
access to established customer bases.
The Company has cooperative marketing agreements with the Chicago-based
CNA, one of the 10 largest U.S. insurance companies, and Atlanta-based Primerica
Financial Services ("PFS"), a subsidiary of the Travelers Group, Inc. PFS is one
of the largest financial services marketing organizations in North America with
more than 100,000 personal financial analysts across the U.S. and Canada.
Neither of these arrangements, which were entered into in the 1997 fourth
quarter, produced significant Membership fees during 1999. Additionally, the
Company is developing a marketing alliance designed to allow the 160,000 agents
who represent Carmel, Indiana-based Conseco's insurance companies to offer the
Company's legal plans to their customers. It is expected that Conseco will focus
primarily on their existing group accounts. This arrangement did not result in
any Membership sales during 1999.
The fee and commission structures in connection with Memberships sold
under cooperative marketing arrangements are generally similar to the structure
found in the Company's multi-level marketing system, although the specific terms
of each cooperative marketing arrangement may vary depending on the strength of
and the specific marketing, training and administrative responsibilities assumed
by the cooperative marketing partner.
The Company has had mixed success with cooperative marketing arrangements
in the past and is unable to predict with certainty what success it will
achieve, if any, under its current cooperative marketing arrangements.
Internet marketing alliances
The Company is actively developing an Internet marketing alliance strategy
pursuant to which the Company will seek arrangements with established Internet
companies, many of which provide content related to legal issues to those
visiting their web sites. Under such proposed alliances, those visiting the
legal content web sites of the alliance partner will have the opportunity to
learn more about legal service plans including the ability to immediately
purchase a Membership on-line. Such arrangements allow the alliance partner to
derive an additional revenue source from those already visiting their websites
and allow the Company to benefit from the tremendous volume of individuals
visiting such sites. The Company anticipates that such alliances will be
additionally designed to enhance its existing customer relationships by making
such legal content available to existing and prospective members. Such alliances
should allow the Company to gain broader Membership distribution and access to
established customer bases. The Company has recently hired a Vice-President of
Business and Internet Development to focus exclusively on such possible
alliances.
Product and satellite subscription sales
Prior to the merger, TPN had developed and derived most of their revenues
from their "Global Mall" collection of personal and home care products, jewelry,
books, audiocassettes and videotapes focusing on personal achievement. Personal
achievement and motivational speakers and coaches who became faculty members of
TPN made available their existing products as well as developed new TPN content
specific products. Other products and services sold by TPN included satellite
television subscriptions for the PRIMESTAR(R) digital satellite network,
Internet access and web sites, long distance and travel services. These services
were provided by various business partners that compensated TPN and its
distributors on a commission basis. Subsequent to the merger, the Company
evaluated the various products and services offered and has significantly
reduced the number of such goods and services that will continue to be offered.
The Company has identified approximately 25 core products that historically have
generated the majority of TPN's product sales. These core products, together
with the line of personal development products offered and developed by TPN
faculty members, will continue to be offered to the Company's sales associates
at discounted prices through the Benefits Association described above. Also
subsequent to the merger, PRIMESTAR(R) digital satellite network was acquired by
DirecTV, Inc., a unit of Hughes Electronics Corporation. As part of the
conversion strategy of DirecTV to convert existing PRIMESTAR(R) subscribers to
DirecTV subscribers, the Company is prohibited by DirecTV from selling
additional PRIMESTAR(R) subscriptions. The Company is negotiating with DirecTV
as well as other direct to home broadcasting companies to move the SUCCESS
CHANNEL from the PRIMESTAR(R) system to other distribution platforms. The
Company is currently webcasting portions of the SUCCESS CHANNEL to subscribers
via the Internet and plans on increasing the use of the Internet for such
purposes.
Operations
The Company's corporate operations involve Membership application
processing, member-related customer service, various associate-related services
including commission payments, receipt of Membership fees, related general
ledger accounting, and managing and monitoring the provider law firm
relationships.
The Company employs a computerized management information system to
control operations costs and monitor benefit utilization. Among other functions,
the system evaluates benefit claims, monitors member use of lawyers, and
monitors marketing/sales data and financial reporting records. The Company
believes its management information system has substantial capacity to
accommodate increases in data flow before substantial upgrades will be required.
The Company believes this excess capacity may enable it to make significant
increases in the volume of its business and the number of members serviced with
less than commensurate increases in administrative costs.
The Company's operations also include departments specifically responsible
for marketing support and regulatory and licensing compliance. Additionally, as
a result of the TPN merger, the Company has moved all former TPN operations to
its headquarters and consolidated such activities within its existing
departments. The Company's production staff is responsible in part for the
development of new audio and video sales materials as well as the continued
development and operation of the SUCCESS CHANNEL.
Quality Control
The Company systematically monitors the delivery of services provided by
provider law firms to members through periodic member surveys, review of
telephone data and review of member complaints. Additionally, approximately 89%
of members are represented by provider law firms who are connected via
high-speed digital links to the Company's management information systems,
providing additional real time monitoring capability. Problems discovered in
connection with member surveys or complaints are evaluated to determine remedial
actions which the Company might recommend to provider law firms and in the most
extreme cases may result in the termination of a provider law firm. The Company
meets with provider law firms frequently to encourage dialogue and information
sharing relating to the timely and effective delivery of services to members and
requires provider law firms that are not connected to the Company's management
information systems to provide various statistical reports to the Company to
enable the Company to monitor Membership usage.
The Company has an extensive database of lawyers who have provided
services to its members. Lawyers with whom members have experienced service
problems are not listed on the Company's referral list for use by members when a
designated provider law firm is not available.
The Company also closely monitors the performance of its home office
personnel, especially those who have telephone contact with members or sales
associates. The Company records home office employee telephone calls with its
members and sales associates to assure that Company policies are being followed
and to gather data about recurring problems which may be avoided through
modifications in policies.
Competition
The Company competes in a variety of market segments in the prepaid legal
services industry, including, among others, individual enrollment plans,
employee benefit plans and certain specialty segments. According to 1999
estimates by NRC, an estimated 19% of the total estimated market in the segments
in which the Company competes is served by a large number of small companies
with regional areas of emphasis. The remaining 81% of such market are served
primarily by the Company and five other principal competitors: Hyatt Legal
Services, ARAG Group (formerly Midwest Legal Services), LawPhone, National Legal
Plan and the G. E. Financial (formerly Signature Group).
If a greater number of companies seek to enter the prepaid legal services
market, the Company will experience increased competition in the marketing of
its Memberships. However, the Company believes its competitive position is
enhanced by its actuarial database, its existing network of provider attorney
firms and its ability to tailor products to suit various types of distribution
channels or target markets. Serious competition is most likely from companies
with significant financial resources and advanced marketing techniques.
Regulation
The Company is regulated by or required to file with or obtain approval of
State Insurance Departments, Secretaries of State, State Bar Associations and
State Attorney General offices depending on individual state opinions of
regulatory responsibility for legal expense plans. The Company is also required
to file with similar government agencies in Canada. While some states or
provinces regulate legal expense plans as insurance or specialized legal expense
products, others regulate them as services.
As of December 31, 1999, the Company or one of its subsidiaries was
marketing new Memberships in 33 states or provinces that require no special
licensing or regulatory compliance. The Company's subsidiaries serve as
operating companies in 16 states that regulate Memberships as insurance or
specialized legal expense products. The most significant of these wholly owned
subsidiaries are Pre-Paid Legal Casualty, Inc. ("PPLCI") and Pre-Paid Legal
Services, Inc. of Florida ("PPLSIF"). Of the Company's total Memberships in
force as of December 31, 1999, 35% were written in jurisdictions that subject
the Company or one of its subsidiaries to insurance or specialized legal expense
plan regulation.
The Company began selling Memberships in the Canadian provinces of Ontario
and British Columbia during 1999. The Memberships currently marketed by the
Company in such provinces do not constitute an insurance product and therefore
are exempt from insurance regulation.
At December 31, 1999, UFL was licensed to sell life and accident and
health insurance policies in New Mexico, Nebraska, Oklahoma and Texas. These
policies are sold by independent licensed agents through existing general agency
relationships in these states. In the near term, the Company expects these
policies will continue to be sold by UFL's agent network rather than the
Company's sales associates. Prior to selling these insurance policies on behalf
of UFL, existing associates, to the extent necessary, would be required to
obtain the necessary licenses and approvals from these states prior to any sales
activity.
In states with no special licensing or regulatory requirements, the
Company commences operations only when advised by the appropriate regulatory
authority that proposed operations do not constitute conduct of the business of
insurance. There is no assurance that Memberships will be exempt from insurance
regulation even in states or provinces with no specific regulations. In these
situations, the Company or one of its subsidiaries would be required to qualify
as an insurance company in order to conduct business.
PPLCI serves as the operating company in most states where Memberships are
determined to be an insurance product. PPLCI is organized as a casualty
insurance company under Oklahoma law and as such is subject to regulation and
oversight by various state insurance agencies. These agencies regulate the
Company's forms, rates, trade practices, allowable investments and licensing of
agents and sales associates. These agencies also prescribe various reports,
require regular evaluations by regulatory authorities, and set forth-minimum
capital and reserve requirements. The Company's insurance subsidiaries are
routinely evaluated and examined by representatives from the various regulatory
authorities in the normal course of business. Such examinations have not and are
not expected to adversely impact the Company's operations or financial condition
in any material way. The Company believes that all of its subsidiaries meet any
required capital and reserve requirements. Dividends paid by PPLCI are
restricted under Oklahoma law to available surplus funds derived from realized
net profits.
The Company is required to register and file reports with the Oklahoma
Insurance Commissioner as a member of a holding company system under the
Oklahoma Insurance Holding Company System Regulatory Act. Transactions between
PPLCI, UFL and the Company or any other subsidiary must be at arms-length with
consideration for the adequacy of PPLCI's or UFL's surplus, and must have prior
approval of the Oklahoma Insurance Commissioner. Payment of any dividend by
PPLCI or UFL to the Company from its statutory surplus or net gain from
operations requires approval of the Oklahoma Insurance Commissioner. During
1999, the Company received an $8 million dividend from PPLCI and a $12.5 million
dividend from UFL after receiving all necessary regulatory approvals. Any change
in control of the Company, defined as acquisition by any method of more than 10%
of the Company's outstanding voting stock, including rights to acquire such
stock by conversion of preferred stock, exercise of warrants or otherwise,
requires approval of the Oklahoma Insurance Commissioner. Holding company laws
in some states, in which PPLCI and UFL operate, such as Texas, provide for
comparable registration and regulation of the Company.
Certain states have enacted special licensing or regulatory requirements
designed to apply only to companies offering legal service products. These
states most often follow regulations similar to those regulating casualty
insurance providers. Thus, the operating company may be expected to comply with
specific minimum capitalization and unimpaired surplus requirements; seek
approval of forms, Memberships and marketing materials; adhere to required
levels of claims reserves, and seek approval of premium rates and agent
licensing. These laws may also restrict the amount of dividends paid to the
Company by such subsidiaries. PPLSIF is subject to restrictions of this type
under the laws of the State of Florida, including restrictions with respect to
payment of dividends to the Company.
As the legal plan industry matures, the Company anticipates enactment of
additional legislation that would affect the Company and its subsidiaries. The
Company cannot predict with any accuracy if such legislation would be adopted or
its ultimate effect on operations, but expects to continue to work closely with
regulatory authorities to attempt to minimize any undesirable impact.
The Company's operations are further impacted by the American Bar
Association Model Rules of Professional Conduct ("Model Rules") and the American
Bar Association Code of Professional Responsibility ("ABA Code") as adopted by
various states. Arrangements for payments to a lawyer by an entity providing
legal services to its members are permissible under both the Model Rules and the
ABA Code, so long as the arrangement prohibits the entity from regulating or
influencing the lawyer's professional judgment. The ABA Code prohibits lawyer
participation in closed panel legal service programs in certain circumstances.
The Company's agreements with provider law firms comply with both the Model
Rules and the ABA Code. The Company relies on the lawyers serving as the
designated provider law firms for the closed panel benefits to determine whether
their participation would violate any ethical guidelines applicable to them. The
Company and its subsidiaries comply with filing requirements of state bar
associations or other applicable regulatory authorities.
The Company also is required to comply with state, provincial and federal
laws governing the Company's multi-level marketing approach. These laws
generally relate to unfair or deceptive trade practices, lotteries, business
opportunities and securities. The Company has experienced no material problems
with marketing compliance. In jurisdictions that require associates to be
licensed, the Company receives all applications for licenses from the associates
and forwards them to the appropriate regulatory authority. The Company maintains
records of all associates licensed, including effective and expiration dates of
licenses and all states in which an associate is licensed. The Company does not
accept new Membership sale applications from any unlicensed associate in such
jurisdictions.
Employees
At December 31, 1999, the Company and its subsidiaries employed 491
individuals on a full-time basis, exclusive of independent agents and sales
associates. None of the Company's employees are represented by a union.
Management considers its employee relations to be good.
Foreign Operations
The Company began operations in the Canadian provinces of Ontario and
British Columbia during June and July 1999, respectively, and derived aggregate
revenues, including Membership fees and revenues from associate services, from
Canada of $2.7 million in U.S. dollars during the remainder of 1999. The Company
had no foreign revenue from any source during 1998 or 1997. Due to the relative
stability of the United States and Canadian foreign relations and currency
exchange rates, the Company believes that any risk of foreign operations or
currency valuations is minimal and would not have a material effect on the
Company's financial condition, liquidity or results of operations.
ITEM 2. DESCRIPTION OF PROPERTY
- --------------------------------
The executive and administrative offices of the Company and its
subsidiaries are located at 321 East Main Street, Ada, Oklahoma. These offices,
containing approximately 40,000 square feet of office space, are owned by the
Company. Additionally, the Company completed construction during 1999, of a new
facility containing approximately 17,000 square feet of office and warehouse and
shipping space. The Company now has three buildings located on its property
located approximately five miles from the Company's executive and administrative
offices. The Company previously completed construction of its Customer Care
facility during 1998 that contains approximately 10,000 square feet of office
and call center space. The Customer Care is adjacent to the material
distribution center constructed during 1997 containing 8,600 square feet of
inventory, package assembly and shipping space. While the Company currently
fully utilizes these existing facilities, management believes that it will have
no difficulty in securing additional facilities in close proximity to its office
building if necessary for future expansion.
In addition to the property described above that is owned by the Company,
the Company opened an additional Customer Care facility in Antlers, Oklahoma
during March 2000, in building space provided at no cost to the Company. This
facility will contain approximately 50 additional Customer Care representatives
initially with the option of adding another 50 to 100 representatives in the
next two years.
The executive and administrative offices of Universal Fidelity Life
Insurance Company ("UFL"), a wholly owned subsidiary, are located at 2211 North
Highway 81 in Duncan, Oklahoma. These offices, containing approximately 20,000
square feet of office space, were constructed in 1986 and are owned by UFL.
Additionally, UFL completed construction during 1993 on a separate 2,400 square
foot climate-controlled building used primarily for printing activities and
equipment storage. The Company currently fully utilizes these facilities but
owns several acres of additional real estate at this location that could be used
for future business expansion.
ITEM 3. LEGAL PROCEEDINGS
- --------------------------
The Company is a defendant in an action brought by Aetna Life Insurance
Company ("Aetna") against the Company and Primedia Workplace Learning, Inc., and
Primedia, Inc. in the District Court of Dallas County, which was filed on
February 9, 1999. Aetna alleges that the Company's predecessor in interest, TPN,
Inc., breached an agreement to lease certain premises in Dallas, Texas and is
liable to Aetna for damages for such breach. In the alternative, Aetna alleges
that Primedia, Inc. and Primedia Workplace Learning, Inc. are liable for damages
to Aetna for failure to properly vacate the leased premises under the terms of
an indemnity agreement in Aetna's favor. Aetna seeks damages for unpaid rent and
other charges from November 1, 1998 until the earlier of the releasing of the
premises involved or the expiration of the five year term of the lease, at the
rate of approximately $35,000 per month, plus pre- and post-judgment interest,
attorneys fees and costs. The Company denies liability to the Plaintiff, intends
to vigorously defend this action and contends that Primedia, Inc. and/or
Primedia Workplace Learning, Inc. are liable to Aetna for the damages sought by
Aetna in the lawsuit, pursuant to the terms of an indemnity agreement between
Aetna and those defendants. Therefore, the Company does not expect the action to
have a material adverse effect on the Company's financial condition, liquidity
or results of operations.
The Company is a named defendant in certain other lawsuits arising in the
ordinary course of the Company's business. While the outcome of these lawsuits
cannot be predicted with certainty, the Company does not expect these matters to
have a material adverse effect on the Company's financial condition, liquidity
or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
- ------------------------------------------------------------
None.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
- ------------------------------------------------------------------------------
Market Price of and Dividends on the Common Stock
At March 15, 2000, there were 5,156 holders of record (including brokerage
firms and other nominees) of the Company's common stock which is listed on the
New York Stock Exchange under the symbol "PPD." The following table sets forth,
for the periods indicated, the range of high and low sales prices for the common
stock, as reported by the New York Stock Exchange (American Stock Exchange
through May 12, 1999).
High Low
---- ---
2000:
1st Quarter (through March 15)...................... $32.44 $19.88
1999:
4th Quarter......................................... $39.94 $19.88
3rd Quarter......................................... 39.38 25.56
2nd Quarter......................................... 29.63 22.25
1st Quarter......................................... 39.25 23.13
1998:
4th Quarter......................................... $34.75 $13.50
3rd Quarter......................................... 40.50 21.50
2nd Quarter......................................... 41.31 30.00
1st Quarter......................................... 44.19 28.50
The Company has never declared a cash dividend on its common stock. For
the foreseeable future, it is anticipated that earnings generated from the
operations of the Company will be used to finance the Company's growth and to
repurchase shares of its stock and that cash dividends will not be paid to
holders of the common stock. Any decision by the Board of Directors of the
Company to pay cash dividends in the future will depend upon, among other
factors, the Company's earnings, financial condition and capital requirements.
In addition, the Company's ability to pay dividends is dependent in part on its
ability to derive dividends from its subsidiaries. The payment of dividends by
PPLCI and UFL is restricted under the Oklahoma Insurance Code to available
surplus funds derived from realized net profits and requires the approval of the
Oklahoma Insurance Commissioner for any dividend representing more than 10% of
such accumulated available surplus or an amount representing more than the
previous years net profits. During 1999, the Company received an $8 million
dividend from PPLCI and a $12.5 million dividend from UFL after receiving all
necessary regulatory approvals. PPLSIF is similarly restricted pursuant to the
insurance laws of Florida. At December 31, 1999, neither PPLCI, UFL nor PPLSIF
had funds available for payment of substantial dividends without the prior
approval of the respective insurance commissioners.
Recent Sales of Unregistered Securities
None.
ITEM 6. SELECTED FINANCIAL DATA
- --------------------------------
The following table sets forth selected financial and statistical data for
the Company as of the dates and for the periods indicated. As a result of the
1998 fourth quarter acquisition of TPN, Inc. ("TPN") that was accounted for as a
pooling of interests, the 1995 through 1998 periods have been restated to
include the operating results of TPN, which was formed in August 1994 but did
not commence significant operations until 1995. The 1998 balance sheet data
contained herein reflects the December 30, 1998 acquisition of Universal
Fidelity Life Insurance Company ("UFL") that was accounted for as a purchase
transaction and accordingly, no operating results of UFL prior to 1999 are
included in the income statement data. Beginning in 1999, UFL's operating
results are included in other revenues and expenses. This information is not
necessarily indicative of the Company's future performance. The following
information should be read in conjunction with the Company's Consolidated
Financial Statements and Notes thereto included elsewhere herein.
Year Ended December 31,
--------------------------------------------------------------
1999 1998 1997 1996 1995
-------- -------- -------- -------- --------
Income Statement Data: In thousands, except ratio, per share and Membership amounts)
Revenues:
Membership fees...................................................$ 157,217 $ 110,003 $ 76,688 $ 50,582 $ 31,290
Product sales..................................................... 5,888 27,779 41,070 26,425 22,214
Associate services................................................ 22,816 17,255 12,143 5,646 3,183
Interest income................................................... 3,380 2,576 1,689 1,303 1,344
Other............................................................. 6,939 2,840 1,814 1,678 1,352
--------- --------- --------- -------- --------
Total revenues................................................... 196,240 160,453 133,404 85,634 59,383
Costs and expenses: --------- --------- --------- -------- --------
Membership benefits............................................... 51,833 36,103 25,132 16,871 10,574
Product costs..................................................... 4,174 17,967 27,017 20,568 17,102
Commissions....................................................... 37,412 24,261 16,717 11,476 7,708
General and administrative expenses............................... 19,366 21,902 20,311 15,150 13,194
Associate services and direct marketing........................... 16,038 14,738 11,431 4,544 2,573
Depreciation...................................................... 3,076 2,944 2,026 533 477
Premium taxes .................................................... 1,461 1,206 866 533 242
Other............................................................. 2,953 - - - -
--------- --------- --------- -------- --------
Total costs and expenses......................................... 136,313 119,121 103,500 69,514 51,870
--------- ------- ------- -------- -------
Income before income taxes......................................... 59,927 41,332 29,904 16,120 7,513
Provision for income taxes......................................... 20,974 11,122 12,381 5,857 2,526
--------- ------ ------ -------- -------
Net income......................................................... 38,953 30,210 17,523 10,263 4,987
Less dividends on preferred shares................................. 10 10 13 15 125
--------- --------- -------- -------- -------
Net income applicable to common stockholders.......................$ 38,943 $ 30,200 $ 17,510 $ 10,248 $ 4,862
========= ========= ======== ======== =======
Basic earnings per common share....................................$ 1.69 $ 1.29 $ .76 $ .46 $ .24
Diluted earnings per common share..................................$ 1.67 $ 1.26 $ .74 $ .44 $ .22
Weighted average number of common shares outstanding - basic... 23,099 23,456 23,127 22,332 19,947
Weighted average number of common shares outstanding - diluted. 23,374 23,906 23,575 23,319 22,408
Membership Benefit Cost and Statistical Data:
Loss ratio (1)..................................................... 33.0% 32.8% 32.8% 33.4% 33.8%
Product cost ratio (1)............................................. 70.9% 64.7% 65.8% 77.8% 77.0%
Expense ratio (1).................................................. 35.7% 34.4% 32.2% 35.1% 39.5%
New Memberships sold............................................... 525,352 391,827 283,723 194,483 109,922
Period end Memberships in force.................................... 827,979 603,017 425,381 294,151 203,535
Cash Flow Data:
Net cash provided by (used in) operating activities............$ 17,552 $ 9,895 $ 14,472 $ (911) $ 998
Net cash provided by (used in) investing activities............ 10,636 (31,427) (6,254) (2,855) 2,968
Net cash provided by (used in) financing activities............ (26,601) 2,414 3,464 4,973 (7,895)
Balance Sheet Data:
Total assets.......................................................$ 193,775 $ 167,903 $ 105,716 $ 66,810 $ 40,118
Total liabilities.................................................. 79,311 66,599 36,246 21,654 12,233
Stockholders' equity .............................................. 114,464 101,304 69,470 45,156 27,885
(1)The loss ratio represents Membership benefit costs as a percentage of
Membership fees. The product cost ratio represents product costs as a
percentage of product sales. The expense ratio represents the total of
commissions, general and administrative expenses and premium taxes as a
percentage of Membership fees and product sales. These ratios do not measure
total profitability because they do not take into account all revenues and
expenses.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
- ------------------------------------------------------------------------
RESULTS OF OPERATIONS
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General
Prior Year Acquisitions
The consolidated financial statements and related discussions thereof give
retroactive effect to the 1998 merger with TPN, Inc. d.b.a. The People's Network
("TPN") which was accounted for as a pooling of interests. TPN was merged into
the Company in a tax-free exchange of 999,992 shares (after adjustment for
fractional shares) of the Company's common stock effective October 2, 1998.
Additionally, the 1998 consolidated balance sheet data reflects the December 30,
1998 acquisition of Universal Fidelity Life Insurance Company ("UFL") that was
accounted for as a purchase transaction and accordingly, none of the operating
results of UFL are included in any periods prior to 1999. (See Notes to
Consolidated Financial Statements-Note 2 for additional information regarding
these 1998 acquisitions).
Of the shares of Company common stock issued in the TPN merger, 75,000
shares remain in escrow pending the resolution of certain specified
contingencies, relating to pending or threatened litigation against TPN at the
time of the Merger.
Membership Fees and Membership Benefit Costs
The Company's principal revenues are derived from Membership fees, most of
which are collected on a monthly basis. Memberships are generally guaranteed
renewable and non-cancelable except for fraud, non-payment of Membership fees or
upon written request by the member.
Membership benefit costs vary depending on the type of Membership. Closed
panel plans provide the Membership benefits through a designated provider law
firm with whom the Company has arranged for the services to be provided in a
particular geographic area. Provider law firms receive a fixed monthly payment
for each member in their service area and are responsible for providing the
Membership benefits without additional remuneration. The fixed cost aspect of
closed panel plans provides significant advantages to the Company in managing
its claims risk. Under closed panel plans, the Company has the ability to more
effectively monitor the quality of legal services provided and, due to the
volume of claims that may be directed to particular provider law firms, has
access to larger, more diversified law firms. At December 31, 1999,
approximately 97% of the Company's Memberships were closed panel plans compared
to 94% at December 31, 1998.
Membership benefit costs relating to open panel Memberships, which
constituted approximately 3% of Memberships in force at December 31, 1999, are
based on the usual, reasonable and customary fee for providing the required
services. Such costs are generally paid on a current basis, as most costs are
certain in amount and require only limited investigation. The Company maintains
a reserve for estimated incurred but not reported open panel Membership benefit
costs as well as costs which are in the payment process. These reserves are
reviewed annually by an independent actuary as necessary in conjunction with the
preparation and filing of financial statements and other reports with various
state insurance regulatory authorities. Underwriting risks associated with the
open panel Memberships are managed primarily through contractual benefit
limitations and, as a result, underwriting decisions are not necessarily based
on individual Membership purchases.
Product sales and product costs
Product sales consist primarily of the sale of personal and home care
products, jewelry, books, audiocassettes and videotapes focusing on personal
achievement. Other products and services include digital satellite television
subscriptions, Internet access and web sites, long distance and travel services
provided by business partners. The Company has certain alliances with business
partners, whereby sales associates buy products or services provided by such
business partners and in return, the Company receives commissions on the sales
of such goods and services. Revenues from these transactions are included in
Product sales in the Statement of Income.
Product costs consist primarily of the actual cost paid to acquire such
goods and services. Costs to purchase products and deliver services are included
in Product costs in the Statement of Income
Commissions
Beginning with new Memberships written after March 1, 1995, the Company
implemented a level commission schedule which results in the Company incurring
commission expense related to the sale of its legal expense plans on a basis
more consistent with the collection of the fees generated by the sale of such
Memberships. Prior to March 1, 1995, the Company had incurred much higher
commissions (approximately 70%) during the first year of the Membership with
substantially lower commissions (approximately 16%) in all subsequent years. The
level commission structure results in the Company incurring commissions at the
rate of approximately 25% per year for all Membership years.
Prior to January 1997 the Company advanced commissions at the time of sale
of all new Memberships. In January 1997, the Company implemented a policy
whereby the associate receives only earned commissions on the first three sales
unless the associate has successfully completed the new training program that
was implemented at the same time. For all sales beginning with the fourth
Membership or all sales made by an associate successfully completing the new
training program, the Company currently advances commissions at the time of sale
of a new Membership. The amount of cash potentially advanced upon the sale of a
new Membership, prior to the recoupment of any charge-backs (described below),
represents an amount equal to up to three years commission earnings. Although
the average number of marketing associates receiving an advance commission
payment on a new Membership is 12, the overall initial advance may be paid to
more than twenty different individuals, each at a different level within the
overall commission structure. This commission advance immediately increases an
associate's account with the Company and represents prepaid commissions on
active Memberships.
Should a Membership lapse before the advances have been recovered for each
commission level, the Company immediately generates an immediate "charge-back"
to the applicable sales associate to recapture 50% of any unearned advance. This
charge-back is deducted from any future advances that would otherwise be payable
to the associate for additional new Memberships. The Company historically has
been able to immediately recover the majority of such charge-backs. Any
remaining unrecovered advance on a Membership that has lapsed represents a
receivable from the associate and is reflected as commission advances and is
categorized as current or non-current based on the expected recovery period.
Additionally, even though a commission advance may have been fully recovered on
a particular Membership, no additional commission earnings from any Membership
will be paid to an associate until all previous advances on all Memberships,
both active and lapsed, have been recovered. During 1999, 21% of all associates
submitting new Memberships accounted for 75% of all such new Memberships
produced thereby further enhancing the recovery of commission advances.
The Company's commission advance policy exposes the Company to the risk of
uncollectible commission advances, particularly for associates who do not
receive commissions on a large number of Memberships or who experience below
average Membership persistency. The Company closely monitors such commission
advances to ensure maximum recoverability and maintains a recoverability reserve
which at December 31, 1999 and 1998, was $4.5 million and $4.0 million,
respectively.
Associates also receive compensation when associates sponsored by them or
other associates that they have sponsored in their organization successfully
complete the new training program implemented by the Company in January 1997. In
order to successfully qualify, the new associate going through the training
program must produce three new Memberships and recruit three new associates or
personally sell five new memberships within 60 days of becoming an associate.
Prior to February 1999, TPN distributors received commissions from the
sale of personal and home care products, personal development products,
communication services and satellite subscription sales. These commissions were
paid to the distributor actually making the sale as well as other distributors
in his organization. Commissions on goods and services were not advanced and
have averaged approximately 32% of the product sales price. These commissions
were paid at the time of sale and subject to recovery only in the event of
returned goods or refunds.
Membership Persistency
One of the major factors affecting the Company's profitability and cash
flow is Membership persistency, which represents the ability of the Company to
retain a Membership, and therefore receive fees, once it has been written. The
Company monitors its overall Membership persistency rate, as well as the
persistency rates with respect to Memberships sold by individual associates and
agents and persistency rates with respect to Membership sales by geographic
region and payment method. The Company's Membership persistency rate measures
the number of Memberships in force at the end of a year as a percentage of the
total of (i) Memberships in force at the beginning of such year, plus (ii) new
Memberships sold during such year. From 1981 through the year ended December 31,
1999, the Company's annual Membership persistency rates, using the foregoing
method, have averaged approximately 75.1%. The annual Membership persistency
rates were 73.4%, 73.8% and 73.6% for 1999, 1998 and 1997, respectively. The
Company's overall Membership persistency rate varies based on, among other
factors, the relative age of total Memberships in force. The Company's overall
Membership persistency rate could become lower when the Memberships in force
include a higher proportion of newer Memberships. During the last three years,
the Company has experienced significant increases in new Membership sales and,
as a result, the percentage of newer Memberships in its total Memberships in
force has increased. Unless offset by other factors, this increase could result
in a decline in the Company's overall Membership persistency rate as determined
by the formula described above, but does not necessarily indicate that the new
Memberships written are less persistent, only that the ratio of new Memberships
to total Memberships is higher than it averaged during the 1981 through 1999
period. The Company's financial condition and results of operations may be
materially adversely affected if the persistency rates of existing and new
Memberships become materially lower than the Company's historical experience.
Operating Ratios
Three principal operating measures monitored by the Company in addition to
Membership persistency are the loss ratio, product cost ratio and the expense
ratio. The loss ratio represents Membership benefit costs as a percentage of
Membership fees. The product cost ratio represents product costs as a percentage
of product sales. The expense ratio represents the total of commissions, general
and administrative expenses and premium taxes as a percentage of Membership fees
and product sales. The Company strives to maintain these ratios as low as
possible. These ratios do not measure total profitability because they do not
take into account all revenues and expenses.
Cash Flow Considerations Relating to Sales of Memberships
The Company generally advances significant commissions at the time a
Membership is sold. Since approximately 92% of Membership fees are collected on
a monthly basis, a significant cash flow deficit is created at the time a
Membership is sold. This deficit is reduced as monthly Membership fees are
remitted and no additional commissions are paid on the Membership until all
previous commission advances have been fully recovered. Since the cash advanced
at the time of sale of a new Membership may be recovered over a multi-year
period, cash flow from operations may be adversely affected depending on the
number of new Memberships written in relation to the existing active base of
Memberships and the composition of new or existing sales associates producing
such Memberships.
Income Tax Matters-Net Operating Losses
At December 31, 1999, the Company has utilized its net operating loss
carryforwards ("NOLs") for Federal regular tax purposes. The Company has general
business and rehabilitation tax credit carryforwards of approximately $261,000
expiring primarily in 2000 to 2001, and an alternative minimum tax ("AMT")
credit carryforward of $586,000 that does not expire. The Company generated
taxable income for the year ended December 31, 1999 and utilized NOLs originally
generated in 1996 and 1997 in their entirety. Additionally, the Company has NOLs
in the amount of $4.7 million representing the remaining NOLs of TPN as of the
October 1998 acquisition date. A valuation allowance has been established for
these NOLs and the general business and rehabilitation tax credits as the
Company does not believe it is more likely than not that the tax benefits of
these carryforwards and credits will be realized prior to expiration due in part
to utilization restrictions imposed by Section 382 as discussed below.
The ability of the Company to utilize NOLs and tax credit carryforwards to
reduce future federal income taxes of the Company is subject to various
limitations under the Internal Revenue Code of 1986, as amended (the "Code").
One such limitation is contained in Section 382 of the Code which imposes an
annual limitation on the amount of a corporation's taxable income that can be
offset by those carryforwards in the event of a substantial change in ownership
as defined in Section 382 ("Ownership Change"). In general, an Ownership Change
occurs if during a specified three-year period there are capital stock
transactions that result in an aggregate change of more than 50% in the
beneficial ownership of the stock of the Company. However, the Company does not
have control over all possible variables which can affect the Ownership Change
calculation and, accordingly, it is possible that an Ownership Change could
occur in the future. The effect of any such Ownership Change on the Company's
financial condition or results of operations cannot be determined because it is
dependent upon unknown future facts and circumstances at the time of any such
change, including, among others, the amount of any Company's NOLs, the fair
market value of the Company's stock and the Company's other tax attributes. The
acquisition of TPN by the Company constituted an Ownership Change of TPN. As a
result, the ability of the Company to utilize TPN's $4.7 million in NOLs is
limited to approximately $978,000 per year. Although the Company did not utilize
any of the TPN NOL during 1998, it did fully utilize the available amount during
1999. However, due to anticipated continuing growth and the expected
availability of other tax benefits, the Company does not believe it is more
likely than not that the tax benefits of the TPN NOL carryforward will be
realized. The TPN NOL expires in years 2015 through 2018.
Associate Services
The Company derives revenues from services provided to its marketing sales
force, principally from a one-time enrollment fee of approximately $65 from each
new sales associate and the sale of marketing supplies and promotional materials
to associates on an ongoing basis. In January 1997, the Company implemented a
training program ("Fast Start") that allows an associate who successfully
completes the program to advance through the various commission levels at a
faster rate. Associates participating in this program pay a one-time fee of $249
instead of the $65 fee. The increased fee covers the additional training and
materials used in the training program. The Company enrolled 92,644 new sales
associates during 1999 compared to 75,737 during 1998 and 58,121 during 1997,
resulting in significant increases in associate services revenues and costs. The
Company's direct costs of providing materials and services to associates are
reflected as costs of associate services and direct marketing. Amounts collected
from sales associates are intended primarily to offset the Company's direct and
indirect costs incurred in recruiting, monitoring and providing materials to
sales associates and are not intended to generate material profits from such
activities.
TPN's revenues were primarily comprised of receipts for goods and services
provided by TPN to its distributors and other customers. Distributors were
required to purchase a distributor kit that included training materials and
business support literature. TPN distributors were required to meet certain
sales production levels to be eligible to receive commissions and many
distributors elected to purchase products through an automatic monthly bank or
credit card draft. These practices, which resulted in enhanced product sales,
were discontinued in February 1999.
Insurance operations
UFL retained its existing life insurance business as a part of the
Company's 1998 acquisition of UFL. The life insurance operations of UFL
generated approximately $1 million in life insurance premiums and has continued
to provide claims processing for the coinsured Medicare supplement and health
care policies and receive full cost reimbursement for such services from the
coinsurer. UFL markets primarily to individuals, age 65 and over, in New Mexico,
Oklahoma and Texas.
Investment Policy
The Company's investment policy is to some degree controlled by certain
insurance regulations, which, coupled with management's own investment
philosophy, results in a conservative investment portfolio that is not risk
oriented. The Company's investments consist of common stocks, investment grade
(rated Baa or higher) preferred stocks and investment grade bonds primarily
issued by corporations, the United States Treasury, federal agencies, federally
sponsored agencies and enterprises as well as mortgage-backed securities and
state and municipal tax-exempt bonds. The Company is required to pledge
investments to various state insurance departments as a condition to obtaining
authority to do business in certain states.
Disclosures About Market Risk
The Company's consolidated balance sheets include a certain amount of
assets and liabilities whose fair values are subject to market risk. Due to the
Company's significant investment in fixed-maturity investments, interest rate
risk represents the largest market risk factor affecting the Company's
consolidated financial position. Increases and decreases in prevailing interest
rates generally translate into decreases and increases in fair values of those
instruments. Additionally, fair values of interest rate sensitive instruments
may be affected by the creditworthiness of the issuer, prepayment options,
relative values of alternative investments, liquidity of the instrument and
other general market conditions.
As of December 31, 1999, substantially all of the Company's investments
were in investment grade (rated Baa or higher) fixed-maturity investments and
interest-bearing money market accounts. The Company does not hold any
investments classified as trading account assets or derivative financial
instruments.
The table below summarizes the estimated effects of hypothetical increases
and decreases in interest rates on the Company's fixed-maturity investment
portfolio. It is assumed that the changes occur immediately and uniformly, with
no effect given to any steps that management might take to counteract that
change. The hypothetical changes in market interest rates reflect what could be
deemed best and worst case scenarios. The fair values shown in the following
table are based on contractual maturities. Significant variations in market
interest rates could produce changes in the timing of repayments due to
prepayment options available. The fair value of such instruments could be
affected and, therefore, actual results might differ from those reflected in the
following table:
Estimated
after
Hypothetical
Fair Value at in interest rate change in
December 31 (bp=basis points) interest rate
------------- ----------------- -------------
Dollars in thousands)
Fixed-maturity investments at December 31, 1999 (1)... $ 22,870 100 bp increase $21,528
200 bp increase 20,573
50 bp decrease 23,084
100 bp decrease 23,624
Fixed-maturity investments at December 31, 1998 (1)... $ 35,790 100 bp increase $35,142
200 bp increase 33,988
50 bp decrease 36,831
100 bp decrease 37,304
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(1)Excluding short-term investments with a fair value of $3.3 million and $2.4
million at December 31, 1999 and 1998, respectively.
The table above illustrates, for example, that an instantaneous 200 basis
point increase in market interest rates at December 31, 1999 would reduce the
estimated fair value of the Company's fixed-maturity investments by
approximately $2.3 million at that date. At December 31, 1998, and based on
the fair value of fixed-maturity investments of $35.8 million, an
instantaneous 200 basis point increase in market interest rates would have
reduced the estimated fair value of the Company's fixed-maturity investments
by approximately $1.8 million at that date. The Company's increased
sensitivity to rising interest rates is due to an overall increase in
interest rates at December 31, 1999 as compared to December 31, 1998 and the
additional investments with maturities over ten years. The definitive extent
of the interest rate risk is not quantifiable or predictable due to the
variability of future interest rates, but the Company does not believe such
risk is material.
The Company primarily manages its exposure to interest rate risk by
purchasing investments that can be readily liquidated should the interest rate
environment begin to significantly change.
Year 2000 Issues
The Company did not experience any significant malfunctions or errors in
its operating or business systems when the date changed from 1999 to 2000. Based
on operations since January 1, 2000, the Company does not expect any significant
impact to its ongoing business as a result of the "Year 2000 issue." However, it
is possible that the full impact of the date change, which was of concern due to
computer programs that use two digits instead of four digits to define years,
has not been fully recognized. For example, it is possible that Year 2000 or
similar issues may occur with billing, payroll, financial closings at month end,
quarterly, or year-end. The Company believes that any such problems are likely
to be minor and correctable. In addition, the Company could still be negatively
affected if its customers or suppliers are adversely affected by the Year 2000
or similar issues. The Company currently is not aware of any significant Year
2000 or similar problems that have arisen for its customers and suppliers.
Testing and conversion of system applications commenced during 1993 and
was completed during 1999. Testing of the Company's information technology
systems (as modified for Year 2000 issues) with system dates set beyond January
1, 2000 successfully occurred in February 1999. The Company was also exposed to
the risk that one or more of its vendors or service providers could experience
Year 2000 problems that impact the ability of such vendor or service provider to
provide goods and services. Though this was not considered as significant a risk
with respect to the suppliers of goods, due to the availability of alternative
suppliers, the disruption of certain services, such as utilities, could,
depending upon the extent of the disruption, have a material adverse impact on
the Company's operations. Further, the Company must rely on other entities such
as the Federal Reserve and its member banks whose Year 2000 readiness efforts it
does not control. The Company relies on such entities for the timely processing
of its monthly Automated Clearing House transactions and credit card
transactions. The Company has initiated a comprehensive program to assess the
Year 2000 compliance of its key vendors and service providers in order to
determine the extent to which the Company is vulnerable to such third parties
that fail to remedy their own Year 2000 issues. In this regard, the Company
initiated formal communications with its significant vendors and financial
institutions to assess their Year 2000 readiness. No material costs related to
Year 2000 compliance efforts by the Company regarding such third parties have
been incurred to date. These efforts did not reveal any vendor or service
provider Year 2000 issue that the Company believed would have a material adverse
impact on the Company's operations.
Costs incurred through the end of 1999 have not been material and were
expensed as incurred. Any additional Year 2000 costs will continue to be funded
out of cash flow from operations. The vast majority of the Company's Year 2000
remediation plan has been accomplished by the Company's internal programming
staff and costs were not incremental costs to the Corporation, but rather
represented the redeployment of existing information technology resources.
Although concentration on Year 2000 compliance has delayed other programming
projects, such delays have not had and are not expected to have a material
adverse impact on the Company's financial condition or results of operations.
Accounting Standard to be Adopted
Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities," ("SFAS 133") was issued in June
1998. This Statement establishes accounting and reporting standards for
derivative instruments, including certain derivative instruments embedded in
other contracts, (collectively referred to as derivatives) and for hedging
activities. It requires the Company recognize all derivatives as either assets
or liabilities in the balance sheet and measure those instruments at fair value.
The accounting for changes in the fair value of a derivative (that is, gains and
losses) depends on the intended use of the derivative and the resulting
designation. In June 1999, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 137 that deferred the effective
date of SFAS 133 for one year. The Company will adopt SFAS 133 on January 1,
2001 as required. SFAS 133 applies to all entities and is effective for all
fiscal quarters of fiscal years beginning after June 15, 2000. The Company
believes that it holds no derivative instruments at December 31, 1999.
Results of Operations
Comparison of 1999 to 1998
The Company reported net income applicable to common shares of $38.9
million, or $1.67 per diluted common share, for 1999, up 29% from net income
applicable to common shares of $30.2 million, or $1.26 per diluted common share,
for 1998. The increase in the net income applicable to common shares for 1999 is
primarily the result of increases in Membership fees for 1999 as compared to
1998.
Membership fees totaled $157.2 million during 1999 compared to $110.0
million for 1998, an increase of 43%. Membership fees and their impact on total
revenues in any period are determined directly by the number of active
Memberships in force during any such period. The active Memberships in force are
determined by both the number of new Memberships sold in any period together
with the persistency, or renewal rate, of existing Memberships. New Membership
sales increased 34% during 1999 to 525,352 from 391,827 during 1998. At December
31, 1999, there were 827,979 active Memberships in force compared to 603,017 at
December 31, 1998, an increase of 37%. Additionally, the average annual fee per
Membership has increased from $229 for all Memberships in force at December 31,
1998 to $238 for all Memberships in force at December 31, 1999, a 4% increase,
as a result of a higher portion of active Memberships containing the additional
pre-trial hours benefit at an additional cost to the member together with
increased sales of the Business Owners' Legal Solutions plan.
Product sales declined 79% during 1999 to $5.9 million from $27.8 million
in 1998 primarily due to the concentration on Membership sales as opposed to the
sale of goods and services following the TPN acquisition. The trend of declining
product sales is expected to continue as the array of goods and services
previously available for sale through TPN is dramatically narrowed and sales
efforts are more closely focused on the sale of new Memberships and the
recruitment of new sales associates.
Associate services revenue increased 32% from $17.3 million for 1998 to
$22.8 million during 1999 as a result of more new associates recruited and as a
result of Fast Start which resulted in the Company receiving training fees of
approximately $12.6 million during 1999 compared to $9.3 million during 1998.
The field training program, titled Fast Start to Success ("Fast Start"), is
aimed at increasing the level of new Membership sales per associate. Fast Start
requires a training fee of $184 per new associate and upon successful completion
of the program provides for the payment of certain training bonuses. In order to
be deemed successful for Fast Start purposes, the new associate must write three
new Memberships and recruit three new sales associates or personally sell five
memberships within 60 days of becoming an associate. The $12.6 million and $9.3
million for 1999 and 1998, respectively, in training fees was comprised of $184
from each of approximately 68,535 new sales associates who elected to
participate in Fast Start in 1999 compared to 50,622 that paid the $184 during
1998. New associates electing to participate in Fast Start increased to 74% of
new associates during 1999 from 67% for 1998. Total new associates enrolled
during 1999 were 92,644 compared to 75,737 for 1998, an increase of 22%. While
the number of new associates increased during 1999, the number of new
Memberships sold, at least partially as a result of the Fast Start program,
increased even more significantly. Future revenues from associate services will
depend primarily on the number of new associates enrolled and the number who
choose to participate in the Company's training program, but the Company expects
that such revenues will continue to be largely offset by the direct and indirect
cost to the Company of training (including training bonuses paid), providing
associate services and other direct marketing expenses.
Interest income for 1999 increased 31% to $3.4 million from $2.6 million
for 1998. Interest income increased primarily as a result of increased
commission advances, which, under certain circumstances, incur an interest
charge at prime rate. At December 31, 1999 the Company reported $37.4 million in
cash and investments (after utilizing more than $29.4 million to repurchase
approximately 1.2 million shares of its common stock) compared to $50.1 million
at December 31, 1998.
Primarily as a result of the increase in Membership fees, total revenues
increased to $196.2 million for 1999 from $160.5 million during 1998, an
increase of 22%.
Membership benefits totaled $51.8 million for 1999 compared to $36.1
million for 1998, and represented 33% of Membership fees for both 1999 and 1998.
This loss ratio (Membership benefits as a percentage of Membership fees) should
remain near 35% as the portion of active Memberships that provide for a
capitated benefit continues to increase.
Product costs declined more than $13.7 million, or 77%, during 1999 to
$4.2 million from $18.0 million for 1998 in conjunction with the 79% decline in
product sales. Product costs as a percentage of product sales were 71% for 1999
compared to 65% during 1998. Product costs are expected to decline
proportionately as product sales decline as more emphasis is placed on
Membership sales rather than the sale of goods and services.
Commission expense was $37.4 million for 1999 compared to $24.3 million
for 1998, and represented 24% and 22% of Membership fees for such years.
Commission expense, as a percentage of Membership fees, should remain at or near
25% of Membership fees in future years based on the existing commission
structure.
General and administrative expenses during 1999 and 1998 were $19.4
million and $21.9 million, respectively, and represented 10% and 14% of total
revenues for such years. Management expects further gradual decreases in general
and administrative expenses when expressed as a percentage of total revenues as
a result of certain economies of scale and the integration of TPN and UFL
operations.
Associate services and direct marketing expenses increased to $16.0
million for 1999 from $14.7 million for 1998 primarily as a result of Fast Start
training bonuses paid of approximately $7.5 million during 1999 compared to $6.3
million in 1998. Additional costs of supplies due to increased purchases by
associates and higher staffing requirements for associate related service
departments also contributed to the increase. These expenses also include the
costs of providing associate services and marketing costs other than commissions
that are directly associated with new Membership sales.
Depreciation and amortization increased from $2.9 million for 1998 to $3.1
million for 1999. This increase was primarily due in part to increased
amortization of production costs by $425,000.
The Company's expense ratio, which represents commissions, general and
administrative expenses and premium taxes as a percentage of Membership fees and
product sales, was 36% for 1999 compared to 34% for 1998. The loss ratio,
product cost ratio and the expense ratio do not measure total profitability
because they do not take into account all revenues and expenses.
The provision for income taxes increased during 1999 to $21.0 million
compared to $11.1 million for 1998, representing 35.0% and 26.9% of income
before income taxes for 1999 and 1998, r