UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
X ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2002
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from __________ to __________.
Commission File Number 1-7422
AMERICAN GENERAL FINANCE, INC.
(Exact name of registrant as specified in its charter)
Indiana 35-1313922
(State of incorporation) (I.R.S. Employer Identification No.)
601 N.W. Second Street, Evansville, IN 47708
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (812) 424-8031
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the 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, 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 [ ]. Not applicable.
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Securities Exchange Act of 1934). Yes No X
The registrant meets the conditions set forth in General Instructions I(1)(a)
and (b) of Form 10-K and is therefore filing this Form 10-K with the reduced
disclosure format.
As the registrant is an indirect wholly owned subsidiary of American
International Group, Inc., none of the registrant's common stock is held by
non-affiliates of the registrant.
At March 14, 2003, there were 2,000,000 shares of the registrant's common
stock, $.50 par value, outstanding.
2
TABLE OF CONTENTS
Item Page
Part I 1. Business . . . . . . . . . . . . . . . . . . . . . . 3
2. Properties . . . . . . . . . . . . . . . . . . . . . 24
3. Legal Proceedings . . . . . . . . . . . . . . . . . 24
4. Submission of Matters to a Vote of Security
Holders . . . . . . . . . . . . . . . . . . . . . *
Part II 5. Market for Registrant's Common Equity and Related
Stockholder Matters . . . . . . . . . . . . . . . 26
6. Selected Financial Data . . . . . . . . . . . . . . 26
7. Management's Discussion and Analysis of Financial
Condition and Results of Operations. . . . . . . . 27
7A. Quantitative and Qualitative Disclosures About
Market Risk . . . . . . . . . . . . . . . . . . . 47
8. Financial Statements and Supplementary Data . . . . 47
9. Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure . . . . . . 90
Part III 10. Directors and Executive Officers of the Registrant . *
11. Executive Compensation . . . . . . . . . . . . . . . *
12. Security Ownership of Certain Beneficial Owners
and Management and Related Stockholder Matters . . *
13. Certain Relationships and Related Transactions . . . *
14. Controls and Procedures . . . . . . . . . . . . . . 91
Part IV 15. Exhibits, Financial Statement Schedules, and
Reports on Form 8-K . . . . . . . . . . . . . . . 92
* Items 4, 10, 11, 12, and 13 are not included, as per conditions met
by Registrant set forth in General Instructions I(1)(a) and (b) of
Form 10-K.
3
PART I
Item 1. Business.
GENERAL
American General Finance, Inc. will be referred to as "AGFI" or
collectively with its subsidiaries, whether directly or indirectly
owned, as the "Company" or "we". AGFI was incorporated in Indiana
in 1974 to become the parent holding company of American General
Finance Corporation (AGFC). AGFC was incorporated in Indiana in 1927
as successor to a business started in 1920. Since August 29, 2001,
AGFI has been an indirect wholly owned subsidiary of American
International Group, Inc. (AIG), a Delaware corporation. AIG is a
holding company, which through its subsidiaries is engaged in a broad
range of insurance and insurance-related activities and financial
services in the United States and abroad.
AGFI is a financial services holding company whose principal subsidiary
is AGFC. AGFC is also a financial services holding company with
subsidiaries engaged primarily in the consumer finance and credit
insurance businesses. We conduct the credit insurance business to
supplement our consumer finance business through Merit Life Insurance
Co. (Merit) and Yosemite Insurance Company (Yosemite), which are both
subsidiaries of AGFC.
Concurrent with AIG's indirect acquisition of the Company in August
2001, American General Bank, FSB (AG Bank), a subsidiary of AGFI, was
merged into AIG Federal Savings Bank, a non-subsidiary affiliate of
AGFI, with AIG Federal Savings Bank being the surviving entity. AG
Bank previously operated as a traditional thrift, whose products
included deposit and savings accounts, residential mortgage and home
equity loans, and private label services.
At December 31, 2002, the Company had 1,405 offices in 45 states,
Puerto Rico, and the U.S. Virgin Islands and approximately 7,600
employees. Our executive offices are located in Evansville, Indiana.
This annual report on Form 10-K is available free of charge on our
Internet website (http://www.agfinance.com).
Selected Financial Information
Selected financial information of the Company was as follows:
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Average net receivables $12,409,908 $11,726,436 $11,408,913
Average borrowings $11,471,189 $10,704,644 $10,518,190
Yield - finance charges as a
percentage of average net
receivables 13.85% 14.60% 14.19%
4
Item 1. Continued
At or for the
Years Ended December 31,
2002 2001 2000
Borrowing cost - interest
expense as a percentage
of average borrowings 4.88% 5.93% 6.59%
Interest spread - yield
less borrowing cost 8.97% 8.67% 7.60%
Operating expenses as a
percentage of average
net receivables 4.52% 4.70% 4.75%
Allowance ratio - allowance for
finance receivable losses as
a percentage of net finance
receivables 3.34% 3.74% 3.26%
Charge-off ratio - net charge-offs
as a percentage of the average
of net finance receivables at
the beginning of each month
during the period 2.41% 2.26% 1.81%
Charge-off coverage - allowance
for finance receivable losses
to net charge-offs 1.56x 1.70x 1.86x
Delinquency ratio - gross finance
receivables 60 days or more
past due as a percentage
of gross finance receivables 3.67% 3.71% 3.41%
Return on average assets 2.48% 1.70% 1.59%
Return on average equity 24.49% 14.34% 13.03%
Ratio of earnings to fixed charges
(refer to Exhibit 12 for
calculations) 1.85x 1.55x 1.46x
Debt to tangible equity ratio -
debt to equity less goodwill
and accumulated other
comprehensive income 8.66x 8.89x 7.50x
Debt to equity ratio 8.16x 8.24x 6.61x
5
Item 1. Continued
CONSUMER FINANCE OPERATION
The consumer finance operation makes loans directly to individuals,
offers retail sales financing to merchants, purchases portfolios of
finance receivables originated by others, and offers credit and non-
credit insurance through its 1,405 branch offices and its centralized
operational support. Our customers are usually described as non-
conforming, non-prime, or sub-prime.
We make home equity loans, originate secured and unsecured consumer
loans, and extend lines of credit. We generally take a security
interest in the real property and/or personal property of the borrower.
At December 31, 2002, real estate loans accounted for 69% of the amount
and 11% of the number of net finance receivables outstanding, compared
to 64% of the amount and 9% of the number of net finance receivables
outstanding at December 31, 2001. Real estate loans are secured by
first or second mortgages on residential real estate and generally have
maximum original terms of 360 months. Non-real estate loans are
secured by consumer goods, automobiles, or other personal property or
are unsecured and generally have maximum original terms of 60 months.
We purchase retail sales contracts and provide revolving retail
services arising from the retail sale of consumer goods and services by
approximately 20,000 retail merchants. We also purchase private label
receivables originated by AIG Federal Savings Bank, a non-subsidiary
affiliate of ours, arising from the sales by approximately 40 retail
merchants under a participation agreement. Retail sales contracts are
closed-end accounts that consist of a single purchase. Revolving
retail and private label are open-end revolving accounts that can be
used for repeated purchases. Retail sales contracts are secured by the
real property or personal property giving rise to the contract and
generally have maximum original terms of 60 months. Revolving retail
and private label are secured by the goods purchased and generally
require minimum monthly payments based on outstanding balances.
To supplement our lending and retail sales financing activities, we
purchase portfolios of real estate loans, non-real estate loans, and
retail sales finance receivables with customers that meet our credit
quality standards and profitability objectives.
We also offer credit life, credit accident and health, credit related
property and casualty, and non-credit insurance to our consumer finance
customers. These insurance products are issued by affiliated as well as
non-affiliated insurance companies. The benefits of these insurance
products for both our customers and the consumer finance operation are
described under "Insurance Operation".
Retail sales finance obligations that we purchase from merchants
provide an important source of new loan customers. These customers
have demonstrated an apparent need to finance a retail purchase and a
willingness to use credit. After purchase of the retail sales finance
obligation, we contact the customer using various marketing methods.
We attempt to have the customer visit one of our branch offices to
discuss his or her overall financial needs with our consumer lending
specialists. Any resulting loan may pay off the customer's retail
sales finance obligation and consolidate debts with other creditors.
6
Item 1. Continued
At the time of loan origination, our consumer lending specialists, who
are licensed to offer insurance products, explain our credit and non-
credit insurance products to the customer. The customer then
determines whether to purchase any insurance products.
We also originate loans by solicitation of current customers obtained
through portfolio acquisitions and former customers who have recently
paid off their loans. In addition, we purchase customer lists from
major list compilers based on our predetermined selection criteria. We
market our financial products to these potential customers using
various solicitation methods. We also use various Internet loan
application sources, including our own website, to obtain potential
customer contacts. We forward these applications to our branch offices
where consumer lending specialists contact potential customers in
attempts to initiate lasting relationships.
Our branch offices are supported by centralized administrative and
operational functions. Our centralized operational support functions
include the following:
* real estate loan processing;
* revolving retail and private label processing;
* merchant services;
* retail sales finance approvals;
* real estate loan approvals;
* customer solicitations;
* retail sales finance collections;
* retail sales finance payment processing;
* real estate owned processing; and
* charge-off recovery operations.
We continually seek to identify functions that could be more cost-
effective if centralized, thereby reducing costs and freeing our
consumer lending specialists in our branches to concentrate on
providing service to our customers.
7
Item 1. Continued
We control and monitor our branch network through a variety of methods
including the following:
* Our operational policies and procedures standardize various
aspects of branch lending, collections, and business
development processes.
* Our finance receivable systems control amounts, rates, terms,
and fees of our customers' accounts; create loan documents
specific to the state in which the branch operates; and
control branch cash receipts and disbursements.
* Our home office accounting personnel reconcile bank accounts,
investigate discrepancies, and resolve differences.
* Our credit risk management system reports are used by various
personnel to compare branch lending and collection activities
with predetermined parameters.
* Our field operations management structure is appropriate to
control a large, decentralized organization with each
succeeding level staffed with more experienced personnel.
* Our field operations incentive compensation plan aligns branch
activities and goals with corporate strategies by basing a
portion of branch personnel and field operations management
total compensation on profitability and credit quality.
* Our internal audit department audits branches for operational
policy and procedure and state law and regulation compliance.
Internal audit reports directly to AIG to enhance
independence.
See Note 22. of the Notes to Consolidated Financial Statements in Item
8. for further information on the Company's consumer finance business
segment.
Finance Receivables
We carry finance receivables at amortized cost which includes accrued
finance charges on interest bearing finance receivables, unamortized
deferred origination costs, and unamortized net premiums and discounts
on purchased finance receivables. They are net of unamortized finance
charges on precomputed receivables and unamortized points and fees.
Although a significant portion of insurance claims and policyholder
liabilities originate from the finance receivables, our policy is to
report them as liabilities and not net them against finance
receivables. Finance receivables relate to the financing activities of
our consumer finance business segment, and insurance claims and
policyholder liabilities relate to the underwriting activities of our
insurance business segment.
8
Item 1. Continued
Amount, number, and average size of net finance receivables originated
and renewed and net purchased by type (retail sales contracts,
revolving retail, and private label comprise retail sales finance) were
as follows:
Years Ended December 31,
2002 2001 2000
Amount Percent Amount Percent Amount Percent
Originated and renewed
Amount (in thousands):
Real estate loans $2,572,734 37% $2,193,452 33% $2,086,721 31%
Non-real estate loans 2,742,647 39 2,759,478 41 2,728,318 41
Retail sales finance 1,642,246 24 1,728,061 26 1,917,128 28
Total $6,957,627 100% $6,680,991 100% $6,732,167 100%
Number:
Real estate loans 59,757 4% 58,066 3% 58,540 3%
Non-real estate loans 766,582 46 784,953 45 829,852 42
Retail sales finance 824,162 50 905,801 52 1,064,865 55
Total 1,650,501 100% 1,748,820 100% 1,953,257 100%
Average size (to nearest
dollar):
Real estate loans $43,053 $37,775 $35,646
Non-real estate loans 3,578 3,515 3,288
Retail sales finance 1,993 1,908 1,800
Net purchased
Amount (in thousands):
Real estate loans $2,355,181 92% $ 904,629 84% $ 405,848 44%
Non-real estate loans 124,983 5 27,085 3 450,655 49
Retail sales finance 84,053 3 143,065 13 66,748 7
Total $2,564,217 100% $1,074,779 100% $ 923,251 100%
Number:
Real estate loans 39,158 38% 14,753 22% 6,343 5%
Non-real estate loans 35,222 34 13,399 20 86,114 71
Retail sales finance 28,176 28 38,633 58 29,476 24
Total 102,556 100% 66,785 100% 121,933 100%
Average size (to nearest
dollar):
Real estate loans $60,146 $61,318 $63,984
Non-real estate loans 3,548 2,021 5,233
Retail sales finance 2,983 3,703 2,264
Net purchased was net of sales of $68.7 million during 2001 and $27.1
million during 2000. We had no sales in 2002.
9
Item 1. Continued
Amount, number, and average size of total net finance receivables
originated, renewed, and net purchased by type were as follows:
Years Ended December 31,
2002 2001 2000
Amount Percent Amount Percent Amount Percent
Originated, renewed,
and net purchased
Amount (in thousands):
Real estate loans $4,927,915 52% $3,098,081 40% $2,492,569 33%
Non-real estate loans 2,867,630 30 2,786,563 36 3,178,973 41
Retail sales finance 1,726,299 18 1,871,126 24 1,983,876 26
Total $9,521,844 100% $7,755,770 100% $7,655,418 100%
Number:
Real estate loans 98,915 6% 72,819 4% 64,883 3%
Non-real estate loans 801,804 46 798,352 44 915,966 44
Retail sales finance 852,338 48 944,434 52 1,094,341 53
Total 1,753,057 100% 1,815,605 100% 2,075,190 100%
Average size (to nearest
dollar):
Real estate loans $49,820 $42,545 $38,416
Non-real estate loans 3,576 3,490 3,471
Retail sales finance 2,025 1,981 1,813
Amount of net purchased as a percentage of total originated, renewed,
and net purchased was as follows:
Years Ended December 31,
2002 2001 2000
Real estate loans 48% 29% 16%
Non-real estate loans 4 1 14
Retail sales finance 5 8 3
Total 27% 14% 12%
10
Item 1. Continued
Amount, number, and average size of net finance receivables by type
were as follows:
December 31,
2002 2001 2000
Amount Percent Amount Percent Amount Percent
Net finance receivables
Amount (in thousands):
Real estate loans $ 9,498,046 69% $ 7,624,824 64% $ 7,280,234 62%
Non-real estate loans 2,958,925 21 2,922,557 24 3,027,989 26
Retail sales finance 1,389,241 10 1,440,908 12 1,453,588 12
Total $13,846,212 100% $11,988,289 100% $11,761,811 100%
Number:
Real estate loans 218,615 11% 189,907 9% 184,591 9%
Non-real estate loans 927,604 48 953,600 48 1,017,127 47
Retail sales finance 805,734 41 868,064 43 944,923 44
Total 1,951,953 100% 2,011,571 100% 2,146,641 100%
Average size (to nearest
dollar):
Real estate loans $43,446 $40,150 $39,440
Non-real estate loans 3,190 3,065 2,977
Retail sales finance 1,724 1,660 1,538
Geographic Distribution
Geographic diversification of finance receivables reduces the
concentration of credit risk associated with a recession in any one
region. The largest concentrations of net finance receivables were as
follows:
December 31,
2002 2001 2000
Amount Percent Amount Percent Amount Percent
(dollars in thousands)
California $ 2,160,846 16% $ 1,374,599 12% $ 1,582,130 13%
N. Carolina 887,243 6 850,995 7 831,977 7
Florida 840,182 6 772,830 7 740,186 6
Illinois 786,593 6 731,238 6 698,181 6
Ohio 785,506 6 741,702 6 678,238 6
Indiana 598,832 4 586,625 5 597,898 5
Georgia 591,970 4 510,140 4 477,110 4
Virginia 553,386 4 500,137 4 486,607 4
Other 6,641,654 48 5,920,023 49 5,669,484 49
Total $13,846,212 100% $11,988,289 100% $11,761,811 100%
11
Item 1. Continued
Average Net Receivables
Average net receivables by type were as follows:
Years Ended December 31,
2002 2001 2000
Amount Percent Amount Percent Amount Percent
(dollars in thousands)
Real estate loans $ 8,184,040 66% $ 7,356,898 63% $ 7,211,254 63%
Non-real estate loans 2,858,016 23 2,954,690 25 2,801,815 25
Retail sales finance 1,367,852 11 1,414,848 12 1,395,844 12
Total $12,409,908 100% $11,726,436 100% $11,408,913 100%
Growth in average net receivables by type was as follows:
Years Ended December 31,
2002 2001 2000
Percent Percent Percent
Amount Change Amount Change Amount Change
(dollars in thousands)
Real estate loans $ 827,142 11% $ 145,644 2% $ 983,674 16%
Non-real estate loans (96,674) (3) 152,875 5 292,403 12
Retail sales finance (46,996) (3) 19,004 1 124,027 10
Total $ 683,472 6% $ 317,523 3% $1,400,104 14%
Finance Charges and Yield
We recognize finance charges as revenue on the accrual basis using the
interest method. We amortize premiums and discounts on purchased
finance receivables as a revenue adjustment. We defer the costs to
originate certain finance receivables and the revenue from
nonrefundable points and fees on loans and amortize them to revenue on
the accrual basis using the interest method over the lesser of the
contractual term or the estimated life based upon prepayment
experience. If a finance receivable liquidates before amortization is
completed, we charge or credit any unamortized premiums, discounts,
origination costs, or points and fees to revenue at the date of
liquidation. We recognize late charges, prepayment penalties, and
deferment fees as revenue when received.
We stop accruing revenue when the fourth contractual payment becomes
past due for loans and retail sales contracts and when the sixth
contractual payment becomes past due for revolving retail and private
label. Beginning in third quarter 2001, in conformity with AIG policy,
we reverse amounts previously accrued upon suspension. Prior to AIG's
indirect acquisition of the Company, we did not reverse amounts
previously accrued upon suspension. After suspension, we recognize
revenue for loans and retail sales contracts only to the extent of any
additional payments we receive.
12
Item 1. Continued
Finance charges and yield by type of finance receivable were as
follows:
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Real estate loans:
Finance charges $ 902,925 $ 872,914 $ 822,458
Yield 11.03% 11.87% 11.41%
Non-real estate loans:
Finance charges $ 616,094 $ 638,019 $ 603,461
Yield 21.56% 21.59% 21.54%
Retail sales finance:
Finance charges $ 199,854 $ 201,552 $ 193,050
Yield 14.61% 14.25% 13.83%
Total:
Finance charges $1,718,873 $1,712,485 $1,618,969
Yield 13.85% 14.60% 14.19%
See Management's Discussion and Analysis in Item 7. for information on
the trends in yield.
Finance Receivable Credit Quality Information
A risk in all consumer lending and retail sales financing transactions
is the customer's unwillingness or inability to repay obligations.
Unwillingness to repay is usually evidenced in a consumer's historical
credit repayment record. An inability to repay usually results from
lower income due to unemployment or underemployment, major medical
expenses, or divorce. Occasionally, these types of events are so
economically severe that the customer must file for protection under
the bankruptcy laws. Because we evaluate credit applications with a
view toward ability to repay, our customer's inability to repay occurs
after our initial credit evaluation and funding of an outstanding loan.
We use credit risk scoring models at the time of borrower application
to assess our risk of the applicant's unwillingness or inability to
repay. These models are developed and based upon numerous factors
including past customer credit repayment experience. The risk scoring
models are periodically revalidated based on current portfolio
performance. We extend credit to those consumers who fit our risk
guidelines as determined by these models and, in some cases, manual
underwriting. Price and size of the loan or retail sales finance
transaction are generally in relation to the estimated credit risk
assumed.
Our policy is to charge off each month to the allowance for finance
receivable losses non-real estate loans on which payments received in
the prior six months have totaled less than 5% of the original loan
amount and retail sales finance that are six installments past due. We
start foreclosure proceedings on real estate loans when four monthly
installments are past due. When foreclosure is completed and we have
13
Item 1. Continued
obtained title to the property, we obtain a broker purchase offer,
which is a real estate broker's or appraiser's estimate of the
property's sale value without the benefit of a full interior and
exterior appraisal and lacking sales comparisons. We reduce finance
receivables by the amount of the real estate loan, establish a real
estate owned asset valued at lower of cost or 85% of the broker
purchase offer, and charge off any loan amount in excess of that value
to the allowance for finance receivable losses. We occasionally extend
the charge-off period for individual accounts when, in our opinion,
such treatment is warranted. We increase the allowance for finance
receivable losses for recoveries on accounts previously charged off.
Charge-offs, recoveries, net charge-offs, and charge-off ratio by type
of finance receivable were as follows:
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Real estate loans:
Charge-offs $ 58,592 $ 54,615 $ 49,869
Recoveries (4,546) (4,540) (4,635)
Net charge-offs $ 54,046 $ 50,075 $ 45,234
Charge-off ratio .67% .68% .63%
Non-real estate loans:
Charge-offs $225,294 $200,917 $160,294
Recoveries (27,170) (27,071) (29,708)
Net charge-offs $198,124 $173,846 $130,586
Charge-off ratio 6.94% 5.87% 4.66%
Retail sales finance:
Charge-offs $ 54,916 $ 49,060 $ 40,167
Recoveries (9,501) (8,679) (9,712)
Net charge-offs $ 45,415 $ 40,381 $ 30,455
Charge-off ratio 3.31% 2.85% 2.19%
Total:
Charge-offs $338,802 $304,592 $250,330
Recoveries (41,217) (40,290) (44,055)
Net charge-offs $297,585 $264,302 $206,275
Charge-off ratio 2.41% 2.26% 1.81%
Establishing and maintaining customer relationships is very important
to us. A delinquent payment often indicates that the customer is
experiencing temporary financial difficulties. We view collection
efforts as opportunities to help our customers solve their temporary
financial problems and retain our customer relationships.
We may rewrite a delinquent account if the customer has sufficient
income and it does not appear that the cause of past delinquency will
affect the customer's ability to repay the new loan. We subject all
renewals, whether the customer's account is current or delinquent, to
the same credit risk underwriting process as we would a new customer.
14
Item 1. Continued
We may allow a deferment, which is a partial payment that extends the
term of an account. The partial payment amount is usually the greater
of one-half of a regular monthly payment or the amount necessary to
bring the interest on the account current. We limit a customer to two
deferments in a rolling twelve-month period.
To accommodate a customer's preferred monthly payment pattern, we may
agree to a customer's request to change a payment due date on an
account. An account's due date will not be changed if the change will
affect the thirty day plus delinquency status of the account at month
end.
Delinquency (gross finance receivables 60 days or more past due) based
on contract terms in effect and delinquency ratio by type of finance
receivable were as follows:
December 31,
2002 2001 2000
(dollars in thousands)
Real estate loans:
Delinquency $300,001 $251,759 $239,462
Delinquency ratio 3.19% 3.31% 3.28%
Non-real estate loans:
Delinquency $178,696 $171,514 $148,621
Delinquency ratio 5.42% 5.24% 4.42%
Retail sales finance:
Delinquency $ 44,565 $ 41,798 $ 32,493
Delinquency ratio 2.87% 2.56% 1.95%
Total:
Delinquency $523,262 $465,071 $420,576
Delinquency ratio 3.67% 3.71% 3.41%
We establish the allowance for finance receivable losses primarily
through the provision for finance receivable losses charged to expense.
We believe the amount of the allowance for finance receivable losses is
the most significant estimate we make. Our Credit Strategy and Policy
Committee evaluates our finance receivable portfolio monthly. This
review determines any adjustment necessary to maintain the allowance
for finance receivable losses at a level we consider adequate to absorb
losses inherent in the existing portfolio.
15
Item 1. Continued
Changes in the allowance for finance receivable losses were as follows:
At or for the
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Balance at beginning of year $ 448,251 $ 383,415 $ 395,626
Provision for finance receivable
losses 303,585 289,302 206,275
Allowance related to net
acquired (sold) receivables 8,780 14,836 (12,211)
Charge-offs (338,802) (304,592) (250,330)
Recoveries 41,217 40,290 44,055
Other charges - additional
provision - 25,000 -
Balance at end of year $ 463,031 $ 448,251 $ 383,415
See Management's Discussion and Analysis in Item 7. for further
information on finance receivable loss and delinquency experience and
the related allowance for finance receivable losses.
Real Estate Owned
We acquire real estate owned through foreclosure on real estate loans.
We record real estate owned in other assets, initially at lower of cost
or 85% of the broker purchase offer, which approximates the fair value
less the estimated cost to sell. If we do not sell a property within
one year of acquisition, we reduce the carrying value by five percent
of the initial value each month beginning in the thirteenth month.
Prior to AIG's indirect acquisition of the Company in August 2001, we
did not begin this writedown until the nineteenth month. The other
charges recorded in third quarter 2001 included $5.0 million to adjust
for this difference. We continue the writedown until the property is
sold or the carrying value is reduced to ten percent of the initial
value. We charge these writedowns to other revenues. We record the
sale price we receive for a property less the carrying value and any
amounts required to be refunded to the customer as a gain or loss in
other revenues. We do not profit from foreclosures in accordance with
the American Financial Services Association's Voluntary Standards for
Consumer Mortgage Lending. We only attempt to recover our investment
in the property, including expenses incurred.
16
Item 1. Continued
Changes in the amount of real estate owned were as follows:
At or for the
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Balance at beginning of year $ 49,985 $ 45,864 $ 52,232
Properties acquired 73,745 59,026 45,758
Properties sold or disposed of (65,629) (45,043) (48,562)
Monthly writedowns (9,089) (9,862) (3,564)
Balance at end of year $ 49,012 $ 49,985 $ 45,864
Real estate owned as a percentage
of real estate loans 0.52% 0.66% 0.63%
Net gains (losses) on real estate
owned sales $ 2,933 $ (1,059) $ 4,184
Changes in the number of real estate owned properties were as follows:
At or for the
Years Ended December 31,
2002 2001 2000
Balance at beginning of year 1,006 834 728
Properties acquired 1,418 1,557 1,467
Properties sold or disposed of (1,473) (1,385) (1,361)
Balance at end of year 951 1,006 834
Sources of Funds
We fund our consumer finance operation principally through the
following sources:
* net cash flows from operating activities;
* issuances of long-term debt;
* short-term borrowings in the commercial paper market;
* borrowings from banks under credit facilities; and
* capital contributions from parent.
17
Item 1. Continued
Average Borrowings
Average borrowings by term of debt were as follows:
Years Ended December 31,
2002 2001 2000
Amount Percent Amount Percent Amount Percent
(dollars in thousands)
Long-term debt $ 7,344,323 64% $ 6,024,311 56% $ 5,708,732 54%
Short-term debt 4,126,866 36 4,617,152 43 4,765,923 45
Deposits - - 63,181 1 43,535 1
Total $11,471,189 100% $10,704,644 100% $10,518,190 100%
Average borrowings by rate of debt were as follows:
Years Ended December 31,
2002 2001 2000
Amount Percent Amount Percent Amount Percent
(dollars in thousands)
Fixed rate debt $ 7,416,440 65% $ 7,306,430 68% $ 6,595,668 63%
Floating rate debt 4,054,749 35 3,398,214 32 3,922,522 37
Total $11,471,189 100% $10,704,644 100% $10,518,190 100%
Interest Expense and Borrowing Cost
Interest expense and borrowing cost by term of debt were as follows:
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Long-term debt:
Interest expense $432,764 $401,073 $379,160
Borrowing cost 5.89% 6.66% 6.64%
Short-term debt:
Interest expense $126,527 $230,684 $312,496
Borrowing cost 3.06% 4.99% 6.54%
Deposits:
Interest expense $ - $ 3,726 $ 2,595
Borrowing cost - 5.90% 5.94%
Total:
Interest expense $559,291 $635,483 $694,251
Borrowing cost 4.88% 5.93% 6.59%
18
Item 1. Continued
Interest expense and borrowing cost by rate of debt were as follows:
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Fixed rate debt:
Interest expense $480,285 $488,540 $439,475
Borrowing cost 6.48% 6.69% 6.67%
Floating rate debt:
Interest expense $ 79,006 $146,943 $254,776
Borrowing cost 1.95% 4.31% 6.47%
Total:
Interest expense $559,291 $635,483 $694,251
Borrowing cost 4.88% 5.93% 6.59%
The Company's use of interest rate swap agreements to fix floating-rate
debt or float fixed-rate debt, the effect of which is included in the
rates above, is described in Note 11. of the Notes to Consolidated
Financial Statements in Item 8.
Contractual Maturities
Contractual maturities of net finance receivables and debt at December
31, 2002 were as follows:
Net Finance
Receivables Debt
(dollars in thousands)
2003 $ 1,366,060 $ 4,950,574
2004 1,609,388 2,097,877
2005 1,190,771 1,479,335
2006 739,925 1,273,961
2007 488,632 1,355,550
2008 and thereafter 8,451,436 1,784,633
Total $13,846,212 $12,941,930
See Note 4. of the Notes to Consolidated Financial Statements in Item
8. for contractual maturities and principal cash collections of net
finance receivables by type.
19
Item 1. Continued
INSURANCE OPERATION
The insurance operation markets insurance products to our consumer
finance customers. Cash generated from operations is invested in
investment securities, commercial mortgage loans, investment real
estate, and policy loans and is also used to pay dividends.
Merit is a life and health insurance company domiciled in Indiana and
licensed in 46 states, the District of Columbia, and the U.S. Virgin
Islands. Merit principally writes or assumes (through affiliated and
non-affiliated insurance companies) credit life, credit accident and
health, and non-credit insurance.
Yosemite is a property and casualty insurance company domiciled in
Indiana and licensed in 45 states. Yosemite principally writes or
assumes credit-related property and casualty insurance.
Our credit life insurance policies insure the life of the borrower in
an amount typically equal to the unpaid balance of the finance
receivable and provide for payment in full to the lender of the finance
receivable in the event of the borrower's death. Our credit accident
and health insurance policies provide for payment to the lender of the
installments on the finance receivable coming due during a period of
the borrower's disability due to illness or injury. Our credit-related
property and casualty insurance policies are written either to protect
the lender's interest in property pledged as collateral for the finance
receivable or to provide for payment to the lender of the installments
on the finance receivable coming due during a period of the borrower's
unemployment. The borrower's purchase of credit life, credit accident
and health, or credit-related property and casualty insurance is
voluntary with the exception of lender-placed property damage coverage
for property pledged as collateral. In these instances, we obtain
property damage coverage through Yosemite under the terms of the
lending agreement if the borrower does not provide evidence of coverage
with another insurance carrier. Non-credit insurance policies are
primarily ordinary life level term coverage. The purchase of this
coverage is voluntary. Customers usually either finance premiums for
insurance products as part of the finance receivable or pay premiums
monthly with their finance receivable payment, but they may pay the
premiums in cash to the insurer. We do not offer single premium credit
insurance products to our real estate loan customers.
Merit and Yosemite have entered into reinsurance agreements with other
insurance companies, including certain affiliated companies, for
assumption of various non-credit life, individual annuity, group
annuity, credit life, credit accident and health, and credit-related
property and casualty insurance where our insurance subsidiaries assume
the risk of loss. The reserves for this business fluctuate over time
and in certain instances are subject to recapture by the insurer. At
December 31, 2002, reserves on the books of Merit and Yosemite for
these reinsurance agreements totaled $112.6 million.
See Note 22. of the Notes to Consolidated Financial Statements in Item
8. for further information on the Company's insurance business segment.
20
Item 1. Continued
Premiums earned, premiums written, and losses incurred by type of
insurance were as follows:
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Premiums Earned
Credit insurance premiums earned:
Credit life $ 37,576 $ 41,046 $ 38,958
Credit accident and health 47,726 50,405 48,006
Property and casualty 55,645 53,537 50,016
Other insurance premiums earned:
Non-credit life 38,097 39,157 48,539
Non-credit accident and health 7,323 6,136 6,689
Premiums assumed under
coinsurance agreements 2,631 2,725 1,156
Total $188,998 $193,006 $193,364
Premiums Written
Credit insurance premiums written:
Credit life $ 23,263 $ 29,333 $ 45,486
Credit accident and health 40,458 44,570 55,981
Property and casualty 55,186 54,048 58,387
Other insurance premiums written:
Non-credit life 38,097 39,157 48,539
Non-credit accident and health 7,323 6,136 6,689
Premiums assumed under
coinsurance agreements 2,631 2,725 1,156
Total $166,958 $175,969 $216,238
Losses Incurred
Credit insurance losses incurred:
Credit life $ 21,869 $ 21,830 $ 18,409
Credit accident and health 26,494 24,814 24,412
Property and casualty 9,247 15,715 12,397
Other insurance losses incurred:
Non-credit life 11,996 11,102 20,142
Non-credit accident and health 4,485 3,751 4,031
Losses incurred under
coinsurance agreements 9,184 10,899 8,963
Total $ 83,275 $ 88,111 $ 88,354
21
Item 1. Continued
Life insurance in force by type of insurance was as follows:
December 31,
2002 2001 2000
(dollars in thousands)
Credit life $3,091,211 $3,126,473 $3,075,206
Non-credit life 3,104,772 3,275,199 3,343,066
Total $6,195,983 $6,401,672 $6,418,272
Investments and Investment Results
We invest cash generated by our insurance operation primarily in bonds.
We invest in, but are not limited to, the following:
* bonds;
* commercial mortgage loans;
* short-term investments;
* limited partnerships;
* preferred stock;
* investment real estate;
* policy loans; and
* common stock.
AIG subsidiaries manage the majority of our insurance operation's
investments.
Investment results of our insurance operation were as follows:
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Net investment revenue (a) $ 82,812 $ 81,711 $ 80,807
Average invested assets (b) $1,252,625 $1,231,187 $1,148,950
Adjusted portfolio yield (c) 6.84% 7.03% 7.35%
Net realized (losses) gains
on investments (d) $ (4,400) $ (2,989) $ 2,809
(a) Net investment revenue is after deducting investment expense but
before net realized gains or losses on investments and provision
for income taxes.
(b) Average invested assets excludes the effect of Statement of
Financial Accounting Standards 115.
(c) Adjusted portfolio yield is calculated based upon the definitions
of net investment revenue and average invested assets listed in
(a) and (b) above.
(d) Includes net realized gains or losses on investment securities
and other invested assets before provision for income taxes.
22
Item 1. Continued
See Note 6. of the Notes to Consolidated Financial Statements in Item
8. for information regarding investment securities for all operations
of the Company.
REGULATION
Consumer Finance
The Company's consumer finance subsidiaries are subject to various
state and federal laws and regulations. Applicable federal laws
include:
* the Equal Credit Opportunity Act (prohibits discrimination
against credit-worthy applicants);
* the Fair Credit Reporting Act (governs the accuracy and use of
credit bureau reports);
* the Truth in Lending Act (governs disclosure of applicable
charges and other finance receivable terms);
* the Fair Housing Act (prohibits discrimination in housing
lending);
* the Real Estate Settlement Procedures Act (regulates certain
loans secured by real estate);
* the Federal Trade Commission Act; and
* the Federal Reserve Board's Regulations B, C, P, and Z.
In many states, the Company relies on federal law to preempt state law
restrictions on interest rates and points and fees for first lien
residential mortgage loans. The Company also relies on the Federal
Alternative Mortgage Transactions Parity Act in many states to preempt
state restrictions on variable rate loans and balloon payments. The
Company makes residential mortgage loans under the provisions of these
and other federal laws. The Company is also subject to federal laws
governing practices and disclosures when dealing with consumer or
customer information.
Various state laws also regulate our consumer lending and retail sales
financing businesses. The degree and nature of such regulation vary
from state to state. The laws under which a substantial amount of our
business is conducted generally:
* provide for state licensing of lenders;
* impose maximum term, amount, interest rate, and other charge
limitations;
* regulate whether and under what circumstances insurance and
other ancillary products may be offered in connection with a
lending transaction; and
* provide for consumer protection.
Certain of these laws prohibit the taking of liens on real estate for
loans of small dollar amounts, except liens resulting from judgments.
These state laws may require contract disclosures in addition to those
required under federal law and may limit remedies available in the
event of default by an obligor on the credit.
23
Item 1. Continued
The federal government is considering, and a number of states,
counties, and cities have enacted or may be considering, laws or rules
that restrict the credit terms or other aspects of residential mortgage
loans that are typically described as "high cost mortgage loans".
These requirements may impose specific statutory liabilities in cases
of non-compliance and may also limit or restrict the terms of covered
loan transactions. Additionally, some of these laws may restrict other
business activities or business dealings of affiliates of the Company
under certain conditions.
Insurance
State authorities regulate and supervise our insurance subsidiaries.
The extent of such regulation varies by product and by state, but
relates primarily to the following:
* conduct of business;
* types of products offered;
* standards of solvency;
* limitations on dividend payments and other related party
transactions;
* licensing;
* deposits of securities for the benefit of policyholders;
* permissible investments;
* approval of policy forms and premium rates;
* periodic examination of the affairs of insurers;
* form and content of required financial reports; and
* reserve requirements for unearned premiums, losses, and other
purposes.
The states in which we operate regulate credit insurance premium rates
and premium refund calculations.
COMPETITION
Consumer Finance
The consumer finance industry is highly competitive due to the large
number of companies offering financial products and services, the
sophistication of those products, capital market resources of some
competitors, and general acceptance and widespread usage of available
credit. We compete with other consumer finance companies as well as
other types of financial institutions that offer similar products and
services.
Insurance
Our insurance operation supplements our consumer finance operation. We
believe that our insurance companies' abilities to market insurance
products through our distribution systems provide a competitive
advantage over our insurance competitors.
24
Item 2. Properties.
Our investment in real estate and tangible property is not significant
in relation to our total assets due to the nature of our business.
AGFC subsidiaries own two branch offices in Riverside and Barstow,
California and two branch offices in Hato Rey and Isabela, Puerto Rico.
AGFI owns eight buildings in Evansville, Indiana, one of which is a
branch office of a subsidiary of AGFC. The other buildings contain
certain administrative offices of AGFI and its subsidiaries, our
insurance operation, and the majority of our centralized operational
support. Merit owns an office building in Houston, Texas that is
leased to third parties and affiliates and also owns a consumer finance
branch office in Terre Haute, Indiana that is leased to an affiliate.
We generally conduct branch office operations, branch office
administration, other operations, and operational support in leased
premises. Lease terms generally range from three to five years.
Item 3. Legal Proceedings.
Satellite Dish Operations Bankruptcy
In August 1999, a subsidiary of the Company, A.G. Financial Service
Center, Inc. (Financial Service Center), formerly named American
General Financial Center, filed a voluntary petition to reorganize
under Chapter 11 of the United States Bankruptcy Code with the United
States Bankruptcy Court for the Southern District of Indiana. The
decision to reorganize was necessitated by the judgment rendered
against Financial Service Center by a Mississippi state court in May
1999 in the amount of $167 million. The filing for reorganization
under Chapter 11 was limited to Financial Service Center and was
intended to provide a fair and orderly process for managing the claims
against Financial Service Center. Prior to the bankruptcy filing,
Financial Service Center had assets of approximately $7 million.
The plan of reorganization was confirmed by the bankruptcy court in
February 2001 and distribution under the plan is substantially
complete. Certain creditors have appealed the confirmation of the
plan, but we do not expect their appeal to prevail. We expect our
remaining recorded liability related to this matter to be sufficient to
cover the costs of the plan of reorganization.
25
Item 3. Continued
Other
AGFI and certain of its subsidiaries are also parties to various other
lawsuits and proceedings, including certain class action claims,
arising in the ordinary course of business. In addition, many of these
proceedings are pending in jurisdictions, such as Mississippi, that
permit damage awards disproportionate to the actual economic damages
alleged to have been incurred. Based upon information presently
available, we believe that the total amounts that will ultimately be
paid arising from these lawsuits and proceedings will not have a
material adverse effect on our consolidated results of operations or
financial position. However, the frequency of large damage awards,
including large punitive damage awards that bear little or no relation
to actual economic damages incurred by plaintiffs in some
jurisdictions, continues to create the potential for an unpredictable
judgment in any given suit.
26
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder
Matters.
No trading market exists for AGFI's common stock. AGFI is an indirect
wholly owned subsidiary of AIG. AGFI paid the following cash dividends
on its common stock:
Quarter Ended 2002 2001
(dollars in thousands)
March 31 $ 85,003 $ 67,801
June 30 61,996 59,996
September 30 - 50,500
December 31 - 260,006
Total $146,999 $438,303
At the end of fourth quarter 2001, we increased our leverage target to
9.0 to 1 for debt to tangible equity. Approximately $210.0 million of
the $260.0 million fourth quarter 2001 dividend was due to our change
in targeted leverage. See Management's Discussion and Analysis in Item
7., and Note 16. of the Notes to Consolidated Financial Statements in
Item 8., regarding limitations on the ability of AGFI and its
subsidiaries to pay dividends.
To manage our leverage of debt to tangible equity, AGFI received a
capital contribution from its parent totaling $33.0 million in third
quarter 2002. AGFI also received a non-cash capital contribution from
its parent of $7.3 million in fourth quarter 2002 reflecting AIG's
assumption of certain benefit obligations effective January 1, 2002.
Item 6. Selected Financial Data
The following selected financial data should be read in conjunction
with the consolidated financial statements and related notes in Item
8., Management's Discussion and Analysis in Item 7., and other
financial information in Item 1.
At or for the Years Ended December 31,
2002 2001 2000 1999 1998
(dollars in thousands)
Total revenues $ 1,999,838 $ 1,998,498 $ 1,909,916 $ 1,731,602 $ 1,609,105
Net income (a) 346,826 228,257 207,938 179,734 187,359
Total assets 15,484,286 13,531,654 13,408,395 12,635,307 11,172,923
Long-term debt 9,566,256 6,301,433 5,670,670 5,716,991 5,176,965
(a) Per share information is not included because all of AGFI's common stock
is indirectly owned by AIG.
27
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations.
Management's Discussion and Analysis of Financial Condition and Results
of Operations should be read in conjunction with the consolidated
financial statements and related notes in Item 8. and other financial
information in Item 1.
FORWARD-LOOKING STATEMENTS
This Annual Report on Form 10-K and our other publicly available
documents may include, and the Company's officers and representatives
may from time to time make, statements which may constitute "forward-
looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995. These statements are not historical
facts but instead represent only our belief regarding future events,
many of which are inherently uncertain and outside of our control.
These statements may address, among other things, the Company's
strategy for growth, product development, regulatory approvals, market
position, financial results and reserves. The Company's actual results
and financial condition may differ, possibly materially, from the
anticipated results and financial condition indicated in these forward-
looking statements. The important factors, many of which are outside
of our control, which could cause the Company's actual results to
differ, possibly materially, include, but are not limited to, the
following:
* changes in general economic conditions, including the interest
rate environment in which we conduct business and the
financial markets through which we access capital;
* changes in the competitive environment in which we operate,
including the demand for our products, customer responsiveness
to our distribution channels and the formation of business
combinations among our competitors;
* the effectiveness of our credit risk scoring models in
assessing the risk of customer unwillingness or inability to
repay;
* shifts in collateral values, contractual delinquencies, credit
losses and the level of personal bankruptcies;
* changes in laws or regulations that affect our ability to
conduct business or the manner in which we conduct business,
such as licensing requirements, pricing limitations or
restrictions on the method of offering products;
* the costs and effects of any litigation or governmental
inquiries or investigations that are determined adversely to
the Company;
* changes in accounting standards or tax policies and practices
and the application of such new policies and practices to the
manner in which we conduct business;
* our ability to integrate the operations of our acquisitions
into our business;
* changes in our ability to attract and retain employees or key
executives to support our businesses; and
* natural events and acts of God such as fires or floods
affecting our branches or other operating facilities.
28
Item 7. Continued
Readers are also directed to other risks and uncertainties discussed in
other documents we file with the Securities and Exchange Commission.
We are under no obligation to (and expressly disclaim any such
obligation to) update or alter any forward-looking statement, whether
written or oral, that may be made from time to time, whether as a
result of new information, future events or otherwise.
OVERVIEW
We are in the consumer finance and credit insurance businesses. The
basic functions of our consumer finance operation are to borrow money
at wholesale prices and to lend money at retail prices and offer credit
and non-credit insurance products. The basic functions of our
insurance operation are to write and assume various insurance products
for customers of our consumer finance operation and to invest premiums
received in various investments.
BASIS OF REPORTING
We prepared our consolidated financial statements using accounting
principles generally accepted in the United States (GAAP). The
statements include the accounts of AGFI and its subsidiaries, all of
which are wholly owned. We eliminated all intercompany items. We made
estimates and assumptions that affect amounts reported in our financial
statements and disclosures of contingent assets and liabilities.
Ultimate results could differ from our estimates.
At December 31, 2002, 86% of our assets were net finance receivables
less allowance for finance receivable losses. Our finance charge
revenue is a function of the amount of average net receivables and the
yield on those average net receivables. GAAP requires that we
recognize finance charges as revenue on the accrual basis using the
interest method. The only discretion we have is the point of
suspension of the accrual of this finance charge revenue.
At December 31, 2002, 93% of our liabilities were debt issued primarily
to support our net finance receivables. Our interest expense is a
function of the amount of average borrowings and the borrowing cost on
those average borrowings. GAAP requires that we recognize interest on
borrowings as expense on the accrual basis using the interest method.
Interest expense includes the effect of our interest rate swap
agreements.
Our insurance revenues consist primarily of insurance premiums
resulting from our consumer finance customers purchasing various credit
and non-credit insurance policies. Insurance premium revenue is a
function of the premium amounts and policy terms. GAAP dictates the
methods of insurance premium revenue recognition.
We invest cash generated by our insurance operation primarily in
investment securities, which were 8% of our assets at December 31,
2002, and to a lesser extent in commercial mortgage loans, investment
real estate, and policy loans, which are included in other assets. We
report the resulting investment revenue in other revenue. GAAP
requires that we recognize interest on these investments as revenue on
the accrual basis using the interest method. The only areas of
29
Item 7. Continued
discretion we have are determining the point of suspension of the
accrual of this investment revenue and when the investment security's
decline in fair value is considered to be other than temporary and is
to be reduced to its fair value.
CRITICAL ACCOUNTING POLICIES
Our finance receivable portfolio consists of approximately $13.8
billion of net finance receivables due from approximately 2.0 million
customer accounts. These accounts were originated or purchased and are
serviced by our centralized operational support or by our 1,405 branch
offices in 45 states, Puerto Rico, and the U.S. Virgin Islands.
To manage our exposure to credit losses, we use credit risk scoring
models for finance receivables that we originate or perform due
diligence investigations for finance receivables that we purchase. We
also have standard collection procedures supplemented with data
processing systems to aid the centralized operational support and
branch personnel in their finance receivable collection processes.
Despite our efforts to avoid losses on our finance receivables, our
customers are subject to national, regional, and local economic
situations and personal circumstances that affect their abilities to
repay their obligations. These circumstances include lower income due
to unemployment or underemployment, major medical expenses, or divorce.
Occasionally, these types of events are so economically severe that the
customer must file for protection under the bankruptcy laws.
Our Credit Strategy and Policy Committee evaluates our finance
receivable portfolio monthly. Within our three main finance receivable
types are sub-portfolios, each consisting of a large number of
relatively small, homogenous accounts. We evaluate these sub-
portfolios as groups. None of our accounts are large enough to warrant
individual evaluation for impairment. Our Credit Strategy and Policy
Committee considers numerous factors in estimating losses inherent in
our finance receivable portfolio, including the following:
* current economic conditions;
* prior finance receivable loss and delinquency experience; and
* the composition of our finance receivable portfolio.
Our Credit Strategy and Policy Committee uses several ratios to aid in
the process of evaluating prior finance receivable loss and delinquency
experience. Each ratio is useful, but each has its limitations. These
ratios include:
* Delinquency ratio - gross finance receivables 60 days or more
past due (3 or more contractual payments have not been made)
as a percentage of gross finance receivables.
* Allowance ratio - allowance for finance receivable losses as a
percentage of net finance receivables.
* Charge-off ratio - net charge-offs as a percentage of the
average of net finance receivables at the beginning of each
month during the period.
* Charge-off coverage - allowance for finance receivable losses
to net charge-offs.
30
Item 7. Continued
We use migration analysis as one of the tools to determine the
appropriate amount of allowance for finance receivable losses.
Migration analysis is a statistical technique that attempts to predict
the future amount of losses for existing pools of finance receivables.
This technique applies empirically measured historical movement of like
finance receivables through various levels of repayment, delinquency,
and loss categories to existing finance receivable pools. These
results are aggregated for all segments of the Company's portfolio to
arrive at an estimate of future finance receivable losses for the
finance receivables existing at the time of analysis. We calculate
migration analysis using several different scenarios based on varying
assumptions in order to evaluate the widest range of possible outcomes.
If we had chosen to establish the allowance for finance receivable
losses at the highest and lowest levels produced by the various
migration analysis scenarios, our allowance for finance receivable
losses at December 31, 2002 and 2001 and provision for finance
receivable losses and net income for 2002 and 2001 would have changed
as follows:
At or for the
Years Ended December 31,
2002 2001
(dollars in millions)
Highest level:
Increase in allowance for finance
receivable losses $ 15.8 $ 31.4
Increase in provision for finance
receivable losses 15.8 31.4
Decrease in net income (11.1) (20.1)
Lowest level:
Decrease in allowance for finance
receivable losses $(106.4) $(120.0)
Decrease in provision for finance
receivable losses (106.4) (120.0)
Increase in net income 75.0 76.8
The Credit Strategy and Policy Committee exercises its judgement, based
on each committee member's experience in the consumer finance industry,
when determining the amount of the allowance for finance receivable
losses. If its review concludes that an adjustment is necessary, we
charge or credit this adjustment to expense through the provision for
finance receivable losses. We consider this estimate to be a critical
accounting estimate that affects the net income of the Company in total
and the pretax operating income of our consumer finance business
segment. We document the adequacy of the allowance for finance
receivable losses and the analysis of the trends in credit quality
considered by the Credit Strategy and Policy Committee to support its
conclusions. See Provision for Finance Receivable Losses for further
information on the allowance for finance receivable losses.
31
Item 7. Continued
OFF-BALANCE SHEET ARRANGEMENTS
We have not entered into material off-balance sheet arrangements as
defined by Securities and Exchange Commission rules.
LIQUIDITY AND CAPITAL RESOURCES
Liquidity
Our sources of funds include operations, issuances of long-term debt,
short-term borrowings in the commercial paper market, and borrowings
from banks under credit facilities. AGFI has also historically
received capital contributions from its parent to support finance
receivable growth and maintain targeted leverage.
Principal sources and uses of cash were as follows:
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Principal sources of cash:
Operations $ 568.8 $ 720.1 $ 620.0
Net issuances of debt 1,766.1 420.9 622.9
Capital contributions 33.0 - -
Total $2,367.9 $1,141.0 $1,242.9
Principal uses of cash:
Net originations and purchases
of finance receivables $1,885.3 $ 562.0 $ 968.1
Dividends paid 147.0 438.3 107.1
Total $2,032.3 $1,000.3 $1,075.2
Net cash from operations decreased in 2002 due to changes in various
components of taxes receivable and payable and other assets and other
liabilities resulting from routine operating activities, partially
offset by higher finance charges and lower interest expense. Net cash
from operations increased in 2001 due to higher finance charges and
lower interest expense. Net originations and purchases of finance
receivables and net issuances of debt increased in 2002 due to
significant increases in real estate loan acquisitions. Net
originations and purchases of finance receivables and net issuances of
debt decreased in 2001 due to a slowing economy. Dividends paid, less
capital contributions received, reflect changes in net income retained
by AGFI to maintain equity and total debt at a targeted ratio. See
Capital Resources for the fourth quarter 2001 change in targeted
leverage and resulting dividends.
32
Item 7. Continued
We believe that our overall sources of liquidity will continue to be
sufficient to satisfy our foreseeable operational requirements and
financial obligations. The principal risk factors that could decrease
our sources of liquidity are delinquent payments from our customers and
an inability to access capital markets. The principal factors that
could increase our cash needs are significant increases in net
originations and purchases of finance receivables. We intend to
mitigate liquidity risk factors by continuing to operate the Company
within the following strategies:
* maintain a finance receivable portfolio comprised mostly of
real estate loans, which generally represent a lower risk of
customer non-payment;
* originate and monitor finance receivables with our proprietary
credit risk management system;
* maintain an investment securities portfolio of predominantly
investment grade, liquid securities; and
* maintain a capital structure appropriate to our asset base.
Consistent execution of our business strategies should result in
continued profitability, strong credit ratings, and investor
confidence. These results should allow continued access to capital
markets for issuances of our commercial paper and long-term debt. At
December 31, 2002, we had $4.3 billion of long-term debt securities
registered under the Securities Act of 1933 and available for issuance.
We also maintain committed bank credit facilities to provide an
additional source of liquidity for needs potentially not met through
capital markets. See Note 10. of the Notes to Consolidated Financial
Statements in Item 8. for information on our credit facilities.
At December 31, 2002, material contractual obligations were as follows:
Less than From 1-3 From 4-5 Over 5
1 year years years years Total
(dollars in millions)
Debt:
Long-term debt $ 1,574.9 $ 3,577.2 $ 2,629.5 $ 1,784.6 $ 9,566.2
Short-term notes
payable 3,375.7 - - - 3,375.7
Operating leases 47.7 62.1 18.1 16.6 144.5
Total $ 4,998.3 $ 3,639.3 $ 2,647.6 $ 1,801.2 $13,086.4
Debt
Based on the strength of our current credit ratings, we expect to
refinance maturities of our debt. Any adverse changes in our operating
performance or credit ratings could limit our access to capital markets
to accomplish these refinancings.
Operating Leases
Operating leases represent annual rental commitments for leased office
space, automobiles, and data processing and related equipment. At
December 31, 2002, our rental commitments totaled $144.5 million.
33
Item 7. Continued
Capital Resources
December 31,
2002 2001
Amount Percent Amount Percent
(dollars in millions)
Long-term debt $ 9,566.2 66% $ 6,301.4 50%
Short-term debt 3,375.7 23 4,853.5 39
Total debt 12,941.9 89 11,154.9 89
Equity 1,586.8 11 1,354.6 11
Total capital $14,528.7 100% $12,509.5 100%
Net finance receivables $13,846.2 $11,988.3
Debt to tangible equity ratio 8.66x 8.89x
Our capital varies with the level of net finance receivables. The
capital mix of debt and equity is based primarily upon maintaining
leverage that supports cost-effective funding.
We issue a combination of fixed-rate debt, principally long-term, and
floating-rate debt, principally short-term. AGFC obtains our fixed-
rate funding through public issuances of long-term debt with maturities
generally ranging from three to ten years. Most floating-rate funding
is through AGFI and AGFC sales and refinancing of commercial paper and
through AGFC issuance of long-term, floating-rate debt. Commercial
paper, with maturities ranging from 1 to 270 days, is sold to banks,
insurance companies, corporations, and other accredited investors.
AGFC also sells extendible commercial notes with initial maturities of
up to 90 days, which may be extended by AGFC to 390 days. At December
31, 2002, commercial paper included $359.3 million of extendible
commercial notes.
We participate in credit facilities to support the issuance of
commercial paper and to provide an additional source of funds for
operating requirements. At December 31, 2002, credit facilities
totaled $3.2 billion (including $3.0 billion of committed credit
facilities) with remaining availability of $3.1 billion. See Note 10.
of the Notes to Consolidated Financial Statements in Item 8. for
additional information on credit facilities.
Our committed credit facilities at December 31, 2002 expire as follows:
Committed Credit Facilities
(dollars in millions)
2003 $1,500.0
2007 1,500.0
Total $3,000.0
34
Item 7. Continued
Until fourth quarter 2001, AGFI paid dividends to (or received capital
contributions from) its parent to manage AGFI's leverage of debt to
tangible equity (equity less goodwill and accumulated other
comprehensive income) to 7.5 to 1. At the end of fourth quarter 2001,
following discussions with the credit rating agencies, we increased our
leverage target to 9.0 to 1. This increase was based on our success
with managing credit risk and maintaining a lower risk finance
receivable portfolio. Approximately $210.0 million of the $260.0
million fourth quarter 2001 dividend was due to the change in targeted
leverage.
AGFI's ability to pay dividends is substantially dependent on the
receipt of dividends or other funds from its subsidiaries, primarily
AGFC. Certain AGFC financing agreements effectively limit the amount
of dividends AGFC may pay. These agreements have not prevented AGFI
from managing its capital to targeted leverage. See Note 16. of the
Notes to Consolidated Financial Statements in Item 8. for information
on dividend restrictions.
ANALYSIS OF OPERATING RESULTS
Net Income
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Net income $346.8 $228.3 $207.9
Amount change $118.5 $ 20.4 $ 28.2
Percent change 52% 10% 16%
Return on average assets 2.48% 1.70% 1.59%
Return on average equity 24.49% 14.34% 13.03%
Ratio of earnings to fixed charges 1.85x 1.55x 1.46x
Net income for 2002 included a $30.0 million reduction in the provision
for income taxes resulting from a favorable settlement of income tax
audit issues. Net income for 2002 did not include goodwill
amortization due to the adoption of Statement of Financial Accounting
Standards 142 on January 1, 2002. Net income included goodwill
amortization of $7.8 million for 2001 and $7.9 million for 2000.
Net income for 2001 included charges of $78.3 million ($50.9 million
aftertax) resulting from our review of our businesses and the assets
supporting those businesses, as well as the adoption of AIG's
accounting policies and methodologies, in connection with AIG's
indirect acquisition of the Company.
Net income for 2000 included a charge of $50.0 million ($32.5 million
aftertax) for the estimated loss on a fraud against our mortgage
warehouse lending subsidiary that was discovered in June 2000.
35
Item 7. Continued
The impact of the other charges on net income was as follows:
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Net income $346.8 $228.3 $207.9
Other charges, aftertax - 50.9 32.5
Net income excluding other charges $346.8 $279.2 $240.4
See Note 17. of the Notes to Consolidated Financial Statements in Item
8. for further information on these charges. See Note 22. of the Notes
to Consolidated Financial Statements in Item 8. for information on the
results of the Company's business segments.
We manage the components of our revenue and expenses in response to
economic events and to achieve our profitability objectives. In 2002,
a sluggish economy decreased our borrowing cost; however, the low
interest rate environment had the anticipated effect of also reducing
our yield. We continued to invest in business development programs,
including new branch openings and a second customer solicitation
center, but still controlled operating expenses. In 2001, a slowing
economy resulted in lower borrowing cost but higher net charge-offs.
We invested in business development programs, including new branch
openings, and increased our allowance for finance receivable losses in
response to higher delinquency, charge-offs, unemployment, and personal
bankruptcies. In 2000, an accelerating economy resulted in higher
borrowing cost but favorable net charge-off experience. We increased
our finance charge rates on new business, which was reflected in our
yield in 2001. We also controlled operating expenses in 2000.
36
Item 7. Continued
Our statements of income line items as percentages of each year's
average net receivables were as follows:
Years Ended December 31,
2002 2001 2000
Revenues
Finance charges 13.85% 14.60% 14.19%
Insurance 1.54 1.67 1.72
Other 0.72 0.77 0.83
Total revenues 16.11 17.04 16.74
Expenses
Interest expense 4.51 5.42 6.09
Operating expenses 4.52 4.70 4.75
Provision for finance
receivable losses 2.45 2.47 1.81
Insurance losses and loss
adjustment expenses 0.67 0.75 0.77
Other charges - 0.66 0.44
Total expenses 12.15 14.00 13.86
Income before provision for
income taxes 3.96 3.04 2.88
Provision for income taxes 1.17 1.09 1.06
Net income 2.79% 1.95% 1.82%
37
Item 7. Continued
Factors that specifically affected the Company's operating results were
as follows:
Finance Charges
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Finance charges $ 1,718.9 $ 1,712.5 $ 1,619.0
Amount change $ 6.4 $ 93.5 $ 163.5
Percent change -% 6% 11%
Average net receivables $12,409.9 $11,726.4 $11,408.9
Yield 13.85% 14.60% 14.19%
Finance charges increased due to the following:
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Increase in average net
receivables $ 84.0 $ 40.4 $182.4
(Decrease) increase in yield (77.6) 56.7 (22.2)
(Decrease) increase in
number of days - (3.6) 3.3
Total $ 6.4 $ 93.5 $163.5
Growth in average net receivables by type was as follows:
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Real estate loans $ 827.2 $ 145.6 $ 983.7
Non-real estate loans (96.7) 152.9 292.4
Retail sales finance (47.0) 19.0 124.0
Total $ 683.5 $ 317.5 $1,400.1
Percent change 6% 3% 14%
In 2002, the low interest rate environment caused significant increases
in both originations and liquidations of our real estate loans.
However, we took advantage of the record real estate loan refinancings
that occurred in the market in general and acquired $2.4 billion of
real estate loan portfolios from third party originators. In 2001, a
slowing economy limited average net receivable growth.
38
Item 7. Continued
Changes in yield in basis points (bp) by type were as follows:
Years Ended December 31,
2002 2001 2000
Real estate loans (84) bp 46 bp (18) bp
Non-real estate loans (3) 5 (42)
Retail sales finance 36 42 (52)
Total (75) 41 (32)
Yield decreased in 2002 primarily reflecting a lower real estate loan
yield resulting from the low interest rate environment. We anticipate
further decreases in yield in 2003. Yield increased in 2001 primarily
due to higher yield on real estate loans originated, renewed, and
purchased during 2000 and the first half of 2001 in response to rising
interest rates from mid-1999 through mid-2000.
Insurance Revenues
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Insurance revenues $191.2 $195.4 $196.2
Amount change $ (4.2) $ (0.8) $ 11.7
Percent change (2)% -% 6%
Insurance revenues declined during 2002 reflecting a higher proportion
of average net receivables that are real estate loans, as well as a
decrease in the amount of premiums permitted to be charged in a number
of states. Our experience is that customers purchase fewer insurance
products on real estate loans than on non-real estate loans.
Insurance revenues were as follows:
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Earned premiums $189.0 $193.0 $193.4
Commissions 2.2 2.4 2.8
Total $191.2 $195.4 $196.2
Earned premiums decreased in 2002 and 2001 due to lower premium volume
and lower premium rates.
39
Item 7. Continued
Other Revenues
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Other revenues $ 89.7 $ 90.6 $ 94.7
Amount change $ (0.9) $ (4.1) $ 3.1
Percent change (1)% (4)% 3%
Average invested assets $1,252.6 $1,231.2 $1,149.0
Adjusted portfolio yield 6.84% 7.03% 7.35%
Net realized (losses) gains
on investments $ (4.4) $ (3.0) $ 2.8
Other revenues were as follows:
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Investment revenue $85.9 $87.9 $92.4
Writedowns on real estate owned (9.1) (4.9) (3.6)
Net gains (losses) on real estate
owned sales 2.9 (1.1) 4.2
Other 10.0 8.7 1.7
Total $89.7 $90.6 $94.7
The decrease in other revenues for 2002 was primarily due to lower
revenue on mortgage warehouse lending activity and higher writedowns on
real estate owned, partially offset by net gains on foreclosed real
estate in 2002 compared to net losses in 2001 and higher service fee
income from a non-subsidiary affiliate. During first quarter 2002, we
discontinued the operations of our mortgage warehouse lending
subsidiary.
The decrease in other revenues for 2001 was primarily due to net losses
on foreclosed real estate in 2001 compared to net gains in 2000 and
lower investment revenue, partially offset by mark-to-market and
portfolio servicing adjustments recorded in 2000. The decrease in
investment revenue reflected net realized losses in 2001 compared to
net realized gains in 2000 and a decline in adjusted portfolio yield of
32 basis points, partially offset by growth in average invested assets
for the insurance operation of $82.2 million. The increase in average
invested assets in 2001 was primarily due to investment of insurance
operation's cash flows. The decrease in adjusted portfolio yield in
2001 reflected market conditions.
As a result of the higher interest rate levels in the last half of 1999
and the first half of 2000, we made mark-to-market and portfolio
servicing adjustments to write-down mortgage loans generated by outside
originators and serviced by our warehouse lending subsidiary that were
not sold in the normal course of business to secondary mortgage
investors. These mark-to-market and portfolio servicing adjustments
reduced other revenues by approximately $8.0 million during 2000.
40
Item 7. Continued
Interest Expense
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Interest expense $ 559.3 $ 635.5 $ 694.3
Amount change $ (76.2) $ (58.8) $ 120.5
Percent change (12)% (8)% 21%
Average borrowings $11,471.2 $10,704.6 $10,518.2
Borrowing cost 4.88% 5.93% 6.59%
Interest expense (decreased) increased due to the following:
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Increase in average borrowings $ 45.5 $ 12.3 $ 81.8
(Decrease) increase in borrowing
cost (121.7) (70.7) 38.0
(Decrease) increase in
number of days - (0.4) 0.7
Total $ (76.2) $(58.8) $120.5
Changes in average borrowings by type were as follows:
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Long-term debt $1,320.0 $ 315.6 $ 277.5
Short-term debt (490.3) (148.8) 1,016.8
Deposits (63.1) 19.6 18.8
Total $ 766.6 $ 186.4 $1,313.1
Percent change 7% 2% 14%
AGFC issued $4.6 billion of long-term debt in 2002, compared to $1.9
billion in 2001. The proceeds of the 2002 long-term debt issuances
were used to support finance receivable growth and to repay commercial
paper.
Changes in borrowing cost in basis points by type were as follows:
Years Ended December 31,
2002 2001 2000
Long-term debt (77) bp 2 bp 3 bp
Short-term debt (193) (155) 84
Deposits n/a (4) 75
Total (105) (66) 36
41
Item 7. Continued
Federal Reserve actions lowered the federal funds rate a total of 475
basis points between December 2000 and December 2001 and another 50
basis points on November 6, 2002 resulting in a low market rate
environment. These actions resulted in lower rates for short-term debt
and long-term debt in 2002 and lower rates for short-term debt in 2001.
Operating Expenses
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Operating expenses $561.5 $550.8 $542.4
Amount change $ 10.7 $ 8.4 $ 17.6
Percent change 2% 2% 3%
Operating expenses as a
percentage of average
net receivables 4.52% 4.70% 4.75%
Operating expenses were as follows:
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Salaries and benefits $316.3 $302.5 $292.1
Other 245.2 248.3 250.3
Total $561.5 $550.8 $542.4
The increase in operating expenses for 2002 was primarily due to higher
salaries and benefits, data processing, and administrative expenses
allocated from AIG, partially offset by the absence of goodwill
amortization in 2002.
The increase in operating expenses for 2001 was primarily due to higher
salaries and benefits and litigation expenses, partially offset by
higher deferred loan origination costs.
The increases in salaries and benefits for 2002 and 2001 reflected
higher competitive compensation and rising benefit costs.
The improvements in operating expenses as a percentage of average net
receivables in 2002 and 2001 reflected controlled operating expenses.
The decrease in operating expenses as a percentage of average net
receivables in 2002 also reflected moderate finance receivable growth.
42
Item 7. Continued
Provision for Finance Receivable Losses
At or for the
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Provision for finance
receivable losses $303.6 $289.3 $206.3
Amount change $ 14.3 $ 83.0 $ (0.3)
Percent change 5% 40% -%
Net charge-offs $297.6 $264.3 $206.3
Charge-off ratio 2.41% 2.26% 1.81%
Charge-off coverage 1.56x 1.70x 1.86x
60 day+ delinquency $523.3 $465.1 $420.6
Delinquency ratio 3.67% 3.71% 3.41%
Allowance for finance
receivable losses $463.0 $448.3 $383.4
Allowance ratio 3.34% 3.74% 3.26%
Changes in net charge-offs by type were as follows:
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Real estate loans $ 4.0 $ 4.8 $ 6.9
Non-real estate loans 24.3 43.3 (3.5)
Retail sales finance 5.0 9.9 (3.7)
Total $33.3 $58.0 $(0.3)
Changes in charge-off ratios in basis points by type were as follows:
Years Ended December 31,
2002 2001 2000
Real estate loans (1) bp 5 bp 1 bp
Non-real estate loans 107 121 (68)
Retail sales finance 46 66 (50)
Total 15 45 (27)
Net charge-offs and the charge-off ratio increased in 2002 and 2001
reflecting a sluggish economy in 2002 and a slowing economy in 2001 and
higher levels of unemployment and personal bankruptcies.
43
Item 7. Continued
Changes in delinquency from the prior year end by type were as follows:
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Real estate loans $48.2 $12.3 $25.5
Non-real estate loans 7.2 22.9 (7.7)
Retail sales finance 2.8 9.3 3.8
Total $58.2 $44.5 $21.6
Changes in delinquency ratio from the prior year end in basis points by
type were as follows:
Years Ended December 31,
2002 2001 2000
Real estate loans (12) bp 3 bp 26 bp
Non-real estate loans 18 82 (95)
Retail sales finance 31 61 10
Total (4) 30 (5)
The delinquency ratio at December 31, 2002 decreased due to a higher
proportion of net finance receivables that are real estate loans, which
generally have lower delinquency. The delinquency ratio at December
31, 2001 increased reflecting slowing economic conditions in 2001. The
increase in delinquency at December 31, 2002 and 2001 also reflected
higher net finance receivables.
Our Credit Strategy and Policy Committee evaluates our finance
receivable portfolio monthly to determine the appropriate level of the
allowance for finance receivable losses. We believe the amount of the
allowance for finance receivable losses is the most significant
estimate we make. In our opinion, the allowance is adequate to absorb
losses inherent in our existing portfolio. The increase in the
allowance for finance receivable losses at December 31, 2002 was due
to:
* increases to the allowance for finance receivable losses
through the provision for finance receivable losses in 2002
totaling $6.0 million (these increases were necessary in
response to our increased delinquency and net charge-offs and
the higher levels of both unemployment and personal
bankruptcies in the United States);
* increase to the allowance for finance receivable losses in
2002 of $8.7 million resulting from a purchase business
combination.
The allowance as a percentage of net finance receivables declined in
2002 reflecting purchases of higher quality real estate loans during
the last half of 2002. The increase in the allowance ratio in 2001
reflected slowing economic conditions.
44
Item 7. Continued
Charge-off coverage, which compares the allowance for finance
receivable losses to net charge-offs, declined in 2002 and 2001
reflecting higher net charge-offs, partially offset by increases to
allowance for finance receivable losses.
Insurance Losses and Loss Adjustment Expenses
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Insurance losses and loss
adjustment expenses $83.3 $88.1 $88.4
Amount change $(4.8) $(0.3) $ 1.8
Percent change (5)% -% 2%
Insurance losses and loss adjustment expenses were as follows:
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Claims incurred $85.3 $90.3 $83.0
Change in benefit reserves (2.0) (2.2) 5.4
Total $83.3 $88.1 $88.4
Claims incurred decreased $5.0 million for 2002 primarily due to
decreases in claim reserves, partially offset by increases in claims
paid.
Benefit reserves decreased $7.6 million for 2001 due to decreased sales
of non-credit insurance products. Claims incurred increased $7.3
million for 2001 primarily due to increased credit insurance loss
experience.
Other Charges
In third quarter 2001, we recorded charges of $78.3 million ($50.9
million aftertax) resulting from our review of our businesses and the
assets supporting those businesses, as well as the adoption of AIG's
accounting policies and methodologies, in connection with AIG's
indirect acquisition of the Company.
In second quarter 2000, we recorded a charge of $50.0 million ($32.5
million aftertax) for the estimated loss on the fraud against our
mortgage warehouse lending subsidiary that was discovered in June 2000.
See Note 17. of the Notes to Consolidated Financial Statements in Item
8. for further information on these charges.
45
Item 7. Continued
Provision for Income Taxes
Years Ended December 31,
2002 2001 2000
(dollars in millions)
Provision for income taxes $145.3 $128.3 $120.7
Amount change $ 17.0 $ 7.6 $ 17.8
Percent change 13% 6% 17%
Pretax income $492.2 $356.5 $328.6
Effective income tax rate 29.53% 35.98% 36.72%
Provision for income taxes increased during 2002 and 2001 primarily due
to higher taxable income, partially offset by a lower effective income
tax rate. During fourth quarter 2002, we reduced the provision for
income taxes by $30.0 million resulting from a favorable settlement of
income tax audit issues. This decreased the effective income tax rate
for 2002.
ANALYSIS OF FINANCIAL CONDITION
Asset Quality
We believe that our geographic diversification reduces the risk
associated with a recession in any one region. In addition, 96% of our
finance receivables at December 31, 2002 were secured by real property
or personal property. While finance receivables have some exposure to
further economic uncertainty, we believe that the allowance for finance
receivable losses is adequate to absorb losses inherent in our existing
portfolio. See Analysis of Operating Results for further information
on allowance ratio, delinquency ratio, and charge-off ratio and Note 2.
of the Notes to Consolidated Financial Statements in Item 8. for
further information on how we estimate finance receivable losses.
Investment securities are the majority of our insurance operation's
investment portfolio. Our investment strategy is to optimize aftertax
returns on invested assets, subject to the constraints of safety,
liquidity, diversification, and regulation.
Asset/Liability Management
We manage anticipated cash flows of our assets and liabilities,
principally our finance receivables and debt, in an effort to reduce
the risk associated with unfavorable changes in interest rates not met
by changes in finance charge yields of our finance receivables. Real
estate loans have an expected life of 2.7 years (although this can
change in response to interest rate changes), non-real estate loans
have an expected life of 1.6 years and retail sales finance receivables
have an expected life of 9 months. The weighted-average years to
maturity for our long-term debt was 3.5 years at December 31, 2002.
46
Item 7. Continued
We fund finance receivables with a combination of fixed-rate and
floating-rate debt and equity. Management determines the mix of fixed-
rate and floating-rate debt based, in part, on the nature of the
finance receivables being supported.
We limit our exposure to market interest rate increases by fixing
interest rates that we pay for term periods. The primary way we
accomplish this is by issuing fixed-rate debt. To supplement fixed-
rate debt issuances, AGFC also alters the nature of certain floating-
rate funding by using interest rate swap agreements to synthetically
create fixed-rate, long-term debt, thereby limiting our exposure to
market interest rate increases. Additionally, AGFC has swapped fixed-
rate, long-term debt to floating-rate, long-term debt. Including the
effect of interest rate swap agreements that effectively fix floating-
rate debt or float fixed-rate debt, floating-rate debt represented 35%
of our average borrowings for 2002 compared to 32% for 2001.
REGULATION AND OTHER
Regulation
The regulatory environment of the consumer finance and insurance
businesses is described in Item 1.
Taxation
We monitor federal and state tax legislation and respond with
appropriate tax planning.
47
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
The fair values of certain of our assets and liabilities are sensitive
to changes in market interest rates. The impact of changes in interest
rates would be reduced by the fact that increases (decreases) in fair
values of assets would be partially offset by corresponding changes in
fair values of liabilities. In aggregate, the estimated impact of an
immediate and sustained 100 basis point increase or decrease in
interest rates on the fair values of our interest rate-sensitive
financial instruments would not be material to our financial position.
The estimated increases (decreases) in fair values of interest rate-
sensitive financial instruments were as follows:
December 31, 2002 December 31, 2001
+100 bp -100 bp +100 bp -100 bp
(dollars in thousands)
Assets
Net finance receivables,
less allowance for
finance receivable
losses $(354,578) $ 386,430 $(319,469) $ 344,436
Fixed-maturity investment
securities (73,058) 77,812 (54,178) 44,508
Liabilities
Long-term debt (227,886) 240,637 (122,677) 128,189
Interest rate swap agreements 10,114 (9,979) 37,902 (72,169)
At each year end, we derived the changes in fair values by modeling
estimated cash flows of certain of our assets and liabilities. The
assumptions we used adjusted cash flows to reflect changes in
prepayments and calls but did not consider loan originations, debt
issuances, or new investment purchases.
Readers should exercise care in drawing conclusions based on the above
analysis. While these changes in fair values provide a measure of
interest rate sensitivity, they do not represent our expectations about
the impact of interest rate changes on our financial results. This
analysis is also based on our exposure at a particular point in time
and incorporates numerous assumptions and estimates. It also assumes
an immediate change in interest rates, without regard to the impact of
certain business decisions or initiatives that we would likely
undertake to mitigate or eliminate some or all of the adverse effects
of the modeled scenarios.
Item 8. Financial Statements and Supplementary Data.
The Report of Management's Responsibility, Report of Independent
Accountants, Report of Independent Auditors, and the related
consolidated financial statements are presented on the following pages.
48
REPORT OF MANAGEMENT'S RESPONSIBILITY
The Company's management is responsible for the integrity and fair
presentation of our consolidated financial statements and all other
financial information presented in this report. We prepared our
consolidated financial statements using accounting principles generally
accepted in the United States (GAAP). We made estimates and
assumptions that affect amounts recorded in the financial statements
and disclosures of contingent assets and liabilities.
The Company's management is responsible for establishing and
maintaining an internal control structure and procedures for financial
reporting. These systems are designed to provide reasonable assurance
that assets are safeguarded from loss or unauthorized use, that
transactions are recorded according to GAAP under management's
direction and that financial records are reliable to prepare financial
statements. We support the internal control structure with careful
selection, training and development of qualified personnel. The
Company's employees are subject to AIG's Code of Conduct designed to
assure that all employees perform their duties with honesty and
integrity. We do not allow loans to executive officers. The systems
include a documented organizational structure and policies and
procedures that we communicate throughout the Company. Our internal
auditors report directly to AIG to strengthen independence. They
continually monitor the operation of our internal controls and report
their findings to the Company's management and AIG's internal audit
department. We take prompt action to correct control deficiencies and
address opportunities for improving the system. The Company's
management assesses the adequacy of our internal control structure
quarterly. Based on these assessments, management has concluded that
the internal control structure and the procedures for financial
reporting have functioned effectively and that the consolidated
financial statements fairly present our consolidated financial position
and the results of our operations for the periods presented.
49
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors of
American General Finance, Inc.:
In our opinion, the consolidated financial statements listed in the
index appearing under Items 15(a)(1) and (2) on page 92 present fairly,
in all material respects, the financial position of American General
Finance, Inc. and its subsidiaries (the "Company") at December 31,
2002, and the results of their operations and their cash flows for the
year then ended in conformity with accounting principles generally
accepted in the United States of America. In addition, in our opinion,
the financial statement schedule at and for the year ended December 31,
2002 listed in the index appearing under Item 15(d) on page 93 presents
fairly, in all material respects, the information set forth therein
when read in conjunction with the related consolidated financial
statements. These financial statements and financial statement
schedule are the responsibility of the Company's management; our
responsibility is to express an opinion on these financial statements
and financial statement schedule based on our audit. We conducted our
audit of these statements in accordance with auditing standards
generally accepted in the United States of America, which require that
we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the
amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by
management, and evaluating the overall financial statement
presentation. We believe that our audit provides a reasonable basis
for our opinion.
As discussed in Note 3, the Company adopted Statement of Financial
Accounting Standards No. 142, Goodwill and Other Intangible Assets, on
January 1, 2002. Additionally, as discussed in Note 21, the Company
has changed its method of accounting for pensions for the year ended
December 31, 2002.
/s/ PricewaterhouseCoopers LLP
Chicago, Illinois
February 14, 2003
50
REPORT OF INDEPENDENT AUDITORS
The Board of Directors
American General Finance, Inc.
We have audited the accompanying consolidated balance sheet of American
General Finance, Inc. (a wholly owned indirect subsidiary of American
International Group, Inc.) and subsidiaries as of December 31, 2001,
and the related consolidated statements of income, shareholder's
equity, cash flows, and comprehensive income for each of the two years
in the period ended December 31, 2001. Our audits also included the
financial statement schedule as of or for each of the two years in the
period ended December 31, 2001 listed in the Index at Item 15(a).
These financial statements and schedule are the responsibility of the
Company's management. Our responsibility is to express an opinion on
these financial statements and schedule based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts
and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made
by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial
position of American General Finance, Inc. and subsidiaries at December
31, 2001, and the consolidated results of their operations and their
cash flows for each of the two years in the period ended December 31,
2001, in conformity with accounting principles generally accepted in
the United States. Also, in our opinion, the related financial
statement schedule, when considered in relation to the basic financial
statements taken as a whole, presents fairly, in all material respects,
the information set forth therein.
As discussed in Note 3. to the consolidated financial statements, in
2001 the Company changed its method of accounting for derivative
financial instruments.
/s/ Ernst & Young LLP
Indianapolis, Indiana
January 31, 2002
51
American General Finance, Inc. and Subsidiaries
Consolidated Balance Sheets
December 31,
2002 2001
(dollars in thousands)
Assets
Net finance receivables (Notes 2. and 4.):
Real estate loans $ 9,498,046 $ 7,624,824
Non-real estate loans 2,958,925 2,922,557
Retail sales finance 1,389,241 1,440,908
Net finance receivables 13,846,212 11,988,289
Allowance for finance receivable
losses (Note 5.) (463,031) (448,251)
Net finance receivables, less allowance
for finance receivable losses 13,383,181 11,540,038
Investment securities (Note 6.) 1,227,156 1,142,186
Cash and cash equivalents 153,660 179,002
Other assets (Note 7.) 720,289 670,428
Total assets $15,484,286 $13,531,654
Liabilities and Shareholder's Equity
Long-term debt (Notes 8. and 11.) $ 9,566,256 $ 6,301,433
Short-term notes payable:
Commercial paper (Notes 9. and 11.) 3,315,674 4,853,520
Notes payable to banks 60,000 -
Insurance claims and policyholder
liabilities (Note 12.) 472,348 495,588
Other liabilities (Note 13.) 442,932 452,354
Accrued taxes 40,259 74,200
Total liabilities 13,897,469 12,177,095
Shareholder's equity:
Common stock (Note 14.) 1,000 1,000
Additional paid-in capital 920,276 880,594
Accumulated other comprehensive
loss (Note 15.) (68,938) (61,687)
Retained earnings (Note 16.) 734,479 534,652
Total shareholder's equity 1,586,817 1,354,559
Total liabilities and shareholder's equity $15,484,286 $13,531,654
See Notes to Consolidated Financial Statements.
52
American General Finance, Inc. and Subsidiaries
Consolidated Statements of Income
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Revenues
Finance charges $1,718,873 $1,712,485 $1,618,969
Insurance 191,230 195,393 196,241
Other 89,735 90,620 94,706
Total revenues 1,999,838 1,998,498 1,909,916
Expenses
Interest expense 559,291 635,483 694,251
Operating expenses 561,519 550,787 542,412
Provision for finance receivable
losses 303,585 289,302 206,275
Insurance losses and loss
adjustment expenses 83,275 88,111 88,354
Other charges (Note 17.) - 78,297 50,000
Total expenses 1,507,670 1,641,980 1,581,292
Income before provision for income
taxes 492,168 356,518 328,624
Provision for Income Taxes
(Note 18.) 145,342 128,261 120,686
Net Income $ 346,826 $ 228,257 $ 207,938
See Notes to Consolidated Financial Statements.
53
American General Finance, Inc. and Subsidiaries
Consolidated Statements of Shareholder's Equity
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Common Stock
Balance at beginning of year $ 1,000 $ 1,000 $ 1,000
Balance at end of year 1,000 1,000 1,000
Additional Paid-in Capital
Balance at beginning of year 880,594 877,576 876,708
Capital contributions from
parent and other 39,682 3,018 868
Balance at end of year 920,276 880,594 877,576
Accumulated Other Comprehensive
(Loss) Income
Balance at beginning of year (61,687) 2,631 (6,696)
Change in net unrealized
gains (losses):
Investment securities 23,792 3,543 9,327
Interest rate swaps (31,391) (67,513) -
Minimum pension liability 348 (348) -
Balance at end of year (68,938) (61,687) 2,631
Retained Earnings
Balance at beginning of year 534,652 757,060 656,223
Net income 346,826 228,257 207,938
Common stock dividends (146,999) (438,303) (107,101)
Disposition of American General
Bank, FSB - (12,362) -
Balance at end of year 734,479 534,652 757,060
Total Shareholder's Equity $1,586,817 $1,354,559 $1,638,267
See Notes to Consolidated Financial Statements.
54
American General Finance, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Cash Flows from Operating Activities
Net Income $ 346,826 $ 228,257 $ 207,938
Reconciling adjustments:
Provision for finance receivable losses 303,585 289,302 206,275
Depreciation and amortization 153,211 149,262 149,405
Deferral of finance receivable
origination costs (60,215) (58,488) (54,254)
Deferred income tax (benefit) charge (58,601) (27,827) 21,728
Change in other assets and other liabilities (59,970) 24,499 (74,750)
Change in insurance claims and
policyholder liabilities (23,240) (23,859) 57,347
Change in taxes receivable and payable (33,546) 63,738 64,040
Other charges - 78,297 50,000
Other, net 756 (3,042) (7,714)
Net cash provided by operating activities 568,806 720,139 620,015
Cash Flows from Investing Activities
Finance receivables originated or purchased (8,184,075) (6,516,578) (6,281,876)
Principal collections on finance receivables 6,298,802 5,954,613 5,313,806
Acquisition of First Horizon (208,666) - -
Disposition of American General Bank, FSB - (39,998) -
Investment securities purchased (806,989) (1,024,964) (644,246)
Investment securities called and sold 713,653 982,127 525,338
Investment securities matured 42,475 10,310 10,720
Change in premiums on finance receivables
purchased and deferred charges (88,465) (36,628) (22,528)
Other, net (13,023) (16,495) (19,884)
Net cash used for investing activities (2,246,288) (687,613) (1,118,670)
Cash Flows from Financing Activities
Proceeds from issuance of long-term debt 4,638,983 1,892,820 1,240,329
Repayment of long-term debt (1,394,998) (1,265,867) (1,290,234)
Change in deposits - 28,924 41,853
Change in short-term notes payable (1,477,846) (234,993) 630,993
Capital contributions from parent 33,000 - -
Dividends paid (146,999) (438,303) (107,101)
Net cash provided by (used for)
financing activities 1,652,140 (17,419) 515,840
(Decrease) increase in cash and cash equivalents (25,342) 15,107 17,185
Cash and cash equivalents at beginning of year 179,002 163,895 146,710
Cash and cash equivalents at end of year $ 153,660 $ 179,002 $ 163,895
See Notes to Consolidated Financial Statements.
55
American General Finance, Inc. and Subsidiaries
Consolidated Statements of Comprehensive Income
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Net Income $ 346,826 $ 228,257 $ 207,938
Other comprehensive (loss) gain:
Net unrealized (losses) gains:
Investment securities 32,220 2,396 17,204
Interest rate swaps:
Transition adjustment - (42,103) -
Current period (151,142) (121,636) -
Minimum pension liability 535 (535) -
Income tax effect:
Investment securities (11,288) (796) (6,051)
Interest rate swaps:
Transition adjustment - 14,736 -
Current period 52,900 42,573 -
Minimum pension liability (187) 187 -
Net unrealized (losses) gains,
net of tax (76,962) (105,178) 11,153
Reclassification adjustments
for realized losses (gains)
included in net income:
Investment securities 4,400 2,989 (2,809)
Interest rate swaps 102,848 59,872 -
Income tax effect:
Investment securities (1,540) (1,046) 983
Interest rate swaps (35,997) (20,955) -
Realized losses (gains)
included in net income,
net of tax 69,711 40,860 (1,826)
Other comprehensive (loss) gain,
net of tax (7,251) (64,318) 9,327
Comprehensive income $ 339,575 $ 163,939 $ 217,265
See Notes to Consolidated Financial Statements.
56
American General Finance, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2002
Note 1. Nature of Operations
American General Finance, Inc. will be referred to as "AGFI" or
collectively with its subsidiaries, whether directly or indirectly
owned, as the "Company" or "we". Since August 29, 2001, AGFI has
been an indirect wholly owned subsidiary of American International
Group, Inc. (AIG). AIG is a holding company, which through its
subsidiaries is engaged in a broad range of insurance and insurance-
related activities and financial services in the United States and
abroad.
AGFI is a financial services holding company whose principal subsidiary
is American General Finance Corporation (AGFC). AGFC is also a
financial services holding company with subsidiaries engaged primarily
in the consumer finance and credit insurance businesses. At December
31, 2002, the Company had 1,405 offices in 45 states, Puerto Rico and
the U.S. Virgin Islands and approximately 7,600 employees.
In our consumer finance operation, we:
* make home equity loans;
* originate secured and unsecured consumer loans;
* extend lines of credit;
* purchase retail sales contracts and provide revolving retail
services arising from the retail sale of consumer goods and
services by approximately 20,000 retail merchants; and
* purchase private label receivables originated by a non-
subsidiary affiliate arising from the sales by approximately
40 retail merchants under a participation agreement.
To supplement our lending and retail sales financing activities, we
purchase portfolios of real estate loans, non-real estate loans, and
retail sales finance receivables. We also offer credit and non-credit
insurance to our consumer finance customers.
In our insurance operation, we principally write and assume credit
life, credit accident and health, credit-related property and casualty,
and non-credit insurance covering our consumer finance customers and
property pledged as collateral. See Note 22. for further information
on the Company's business segments.
We fund our operations principally through net cash flows from
operating activities, issuances of long-term debt, short-term
borrowings in the commercial paper market, borrowings from banks under
credit facilities, and capital contributions from our parent.
On September 16, 2002, we acquired the majority of the assets of First
Horizon Money Centers, a consumer financial services subsidiary of
First Tennessee Bank National Association, in a purchase business
combination. The fair value of the assets acquired totaled $208.7
million, representing real estate loans, non-real estate loans, and
retail sales finance receivables. We also acquired certain branch
office locations by assuming the branch office leases and hired certain
branch office personnel. We included the acquisition of First Horizon
in our consolidated financial statements since the date of acquisition.
57
Notes to Consolidated Financial Statements, Continued
One of AGFI's former subsidiaries, American General Bank, FSB (AG Bank)
operated as a traditional thrift, whose products included deposit and
savings accounts, residential mortgage and home equity loans, and
private label services. Concurrent with AIG's indirect acquisition of
the Company in August 2001, AG Bank was merged into AIG Federal Savings
Bank, a non-subsidiary affiliate of AGFI, with AIG Federal Savings Bank
being the surviving entity.
At December 31, 2002, the Company had $13.8 billion of net finance
receivables due from approximately 2.0 million customer accounts and
$6.2 billion of credit and non-credit life insurance in force covering
approximately 1.0 million customer accounts.
Note 2. Summary of Significant Accounting Policies
BASIS OF PRESENTATION
We prepared our consolidated financial statements using accounting
principles generally accepted in the United States (GAAP). The
statements include the accounts of AGFI and its subsidiaries, all of
which are wholly owned. We eliminated all intercompany items. We made
estimates and assumptions that affect amounts reported in our financial
statements and disclosures of contingent assets and liabilities.
Ultimate results could differ from our estimates. To conform to the
2002 presentation, we reclassified certain items in prior periods.
CONSUMER FINANCE OPERATION
Finance Receivables
We carry finance receivables at amortized cost which includes accrued
finance charges on interest bearing finance receivables, unamortized
deferred origination costs, and unamortized net premiums and discounts
on purchased finance receivables. They are net of unamortized finance
charges on precomputed receivables and unamortized points and fees. We
determine delinquency on finance receivables contractually.
Although a significant portion of insurance claims and policyholder
liabilities originate from the finance receivables, our policy is to
report them as liabilities and not net them against finance
receivables. Finance receivables relate to the financing activities of
our consumer finance business segment, and insurance claims and
policyholder liabilities relate to the underwriting activities of our
insurance business segment.
58
Notes to Consolidated Financial Statements, Continued
Revenue Recognition
We recognize finance charges as revenue on the accrual basis using the
interest method. We amortize premiums and discounts on purchased
finance receivables as a revenue adjustment. We defer the costs to
originate certain finance receivables and the revenue from
nonrefundable points and fees on loans and amortize them to revenue on
the accrual basis using the interest method over the lesser of the
contractual term or the estimated life based upon prepayment
experience. If a finance receivable liquidates before amortization is
completed, we charge or credit any unamortized premiums, discounts,
origination costs, or points and fees to revenue at the date of
liquidation. We recognize late charges, prepayment penalties, and
deferment fees as revenue when received.
We stop accruing revenue when the fourth contractual payment becomes
past due for loans and retail sales contracts and when the sixth
contractual payment becomes past due for revolving retail and private
label. Beginning in third quarter 2001, in conformity with AIG policy,
we reverse amounts previously accrued upon suspension. Prior to AIG's
indirect acquisition of the Company, we did not reverse amounts
previously accrued upon suspension. After suspension, we recognize
revenue for loans and retail sales contracts only to the extent of any
additional payments we receive.
Allowance for Finance Receivable Losses
We establish the allowance for finance receivable losses primarily
through the provision for finance receivable losses charged to expense.
We believe the amount of the allowance for finance receivable losses is
the most significant estimate we make. Our Credit Strategy and Policy
Committee evaluates our finance receivable portfolio monthly. Within
our three main finance receivable types are sub-portfolios, each
consisting of a large number of relatively small, homogenous accounts.
We evaluate these sub-portfolios for impairment as groups. None of our
accounts are large enough to warrant individual evaluation for
impairment. Our Credit Strategy and Policy Committee considers
numerous factors in estimating losses inherent in our finance
receivable portfolio, including the following:
* current economic conditions;
* prior finance receivable loss and delinquency experience; and
* the composition of our finance receivable portfolio.
Our policy is to charge off each month to the allowance for finance
receivable losses non-real estate loans on which payments received in
the prior six months have totaled less than 5% of the original loan
amount and retail sales finance that are six installments past due. We
start foreclosure proceedings on real estate loans when four monthly
installments are past due. When foreclosure is completed and we have
obtained title to the property, we obtain a broker purchase offer,
which is a real estate broker's or appraiser's estimate of the
property's sale value without the benefit of a full interior and
exterior appraisal and lacking sales comparisons. We reduce finance
receivables by the amount of the real estate loan, establish a real
estate owned asset valued at lower of cost or 85% of the broker
purchase offer, and charge off any loan amount in excess of that value
59
Notes to Consolidated Financial Statements, Continued
to the allowance for finance receivable losses. We occasionally extend
the charge-off period for individual accounts when, in our opinion,
such treatment is warranted. We increase the allowance for finance
receivable losses for recoveries on accounts previously charged off.
We may rewrite a delinquent account if the customer has sufficient
income and it does not appear that the cause of past delinquency will
affect the customer's ability to repay the new loan. We subject all
renewals, whether the customer's account is current or delinquent, to
the same credit risk underwriting process as we would a new customer.
We may allow a deferment, which is a partial payment that extends the
term of an account. The partial payment amount is usually the greater
of one-half of a regular monthly payment or the amount necessary to
bring the interest on the account current. We limit a customer to two
deferments in a rolling twelve-month period.
Real Estate Owned
We acquire real estate owned through foreclosure on real estate loans.
We record real estate owned in other assets, initially at lower of cost
or 85% of the broker purchase offer, which approximates the fair value
less the estimated cost to sell. If we do not sell a property within
one year of acquisition, we reduce the carrying value by five percent
of the initial value each month beginning in the thirteenth month.
Prior to AIG's indirect acquisition of the Company in August 2001, we
did not begin this writedown until the nineteenth month. We continue
the writedown until the property is sold or the carrying value is
reduced to ten percent of the initial value. We charge these
writedowns to other revenues. We record the sale price we receive for
a property less the carrying value and any amounts required to be
refunded to the customer as a gain or loss in other revenues. We do not
profit from foreclosures in accordance with the American Financial
Services Association's Voluntary Standards for Consumer Mortgage
Lending. We only attempt to recover our investment in the property,
including expenses incurred.
Customer Relationships
Customer relationships, included in other assets, are intangible assets
we acquire by assigning a portion of the purchase price on certain
portfolio acquisitions to the customer relationships. In those
instances, we expect our relationships with the customers to last
beyond the terms of the finance receivables we purchased. We charge
customer relationships to expense in equal amounts generally over six
years.
60
Notes to Consolidated Financial Statements, Continued
INSURANCE OPERATION
Revenue Recognition
We recognize credit insurance premiums on closed-end real estate loans
and revolving finance receivables as revenue when billed monthly. We
defer credit insurance premiums collected in advance in unearned
premium reserves which are included in insurance claims and
policyholder liabilities. We recognize unearned premiums on credit
life insurance as revenue using the sum-of-the-digits or actuarial
methods, except in the case of level-term contracts, which we recognize
as revenue using the straight-line method over the terms of the
policies. We recognize unearned premiums on credit accident and health
insurance as revenue using an average of the sum-of-the-digits and the
straight-line methods. We recognize unearned premiums on credit-
related property and casualty insurance as revenue using the straight-
line method over the terms of the policies or appropriate shorter
periods. We recognize non-credit life insurance premiums as revenue
when collected but not before their due dates.
Policy Reserves
Policy reserves for credit life, credit accident and health, and
credit-related property and casualty insurance equal related unearned
premiums. We base claim reserves on Company experience. We estimate
reserves for losses and loss adjustment expenses for credit-related
property and casualty insurance based upon claims reported plus
estimates of incurred but not reported claims. We accrue liabilities
for future life insurance policy benefits associated with non-credit
life contracts when we recognize premium revenue and base the amounts
on assumptions as to investment yields, mortality, and surrenders. We
base annuity reserves on assumptions as to investment yields and
mortality. We base non-credit life, individual annuity, group annuity,
credit life, credit accident and health, and credit-related property
and casualty insurance reserves assumed under coinsurance agreements
where we assume the risk of loss on various tabular and unearned
premium methods.
Acquisition Costs
We defer insurance policy acquisition costs, principally commissions,
reinsurance fees, and premium taxes. We include them in other assets
and charge them to expense over the terms of the related policies or
reinsurance agreements.
61
Notes to Consolidated Financial Statements, Continued
INVESTMENT SECURITIES
Valuation
We currently classify all investment securities as available-for-sale
and record them at fair value. We adjust related balance sheet
accounts as if the unrealized gains and losses on investment securities
had been realized, and record the net adjustment in accumulated other
comprehensive income (loss) in shareholder's equity. If the fair value
of an investment security classified as available-for-sale declines
below its cost and we consider the decline to be other than temporary,
we reduce the investment security to its fair value, and recognize a
realized loss.
Revenue Recognition
We recognize interest on interest bearing fixed maturity investment
securities as revenue on the accrual basis. We amortize any premiums
or discounts as a revenue adjustment using the interest method. We
stop accruing interest revenue when the collection of interest becomes
uncertain. We record dividends as revenue on ex-dividend dates. We
recognize income on mortgage-backed securities as revenue using a
constant effective yield based on estimated prepayment of the
underlying mortgages. If actual prepayments differ from estimated
prepayments, we calculate a new effective yield and adjust the net
investment in the security accordingly. We record the adjustment,
along with all investment revenue, in other revenues.
Realized Gains and Losses on Investment Securities
We specifically identify realized gains and losses on investment
securities and include them in other revenues.
OTHER
Other Invested Assets
Commercial mortgage loans, investment real estate, and insurance policy
loans are part of our insurance operation's investment portfolio and
are included in other assets. We recognize interest on commercial
mortgage loans and insurance policy loans as revenue using the interest
method. We stop accruing revenue when collection of interest becomes
uncertain. We recognize pretax operating income from the operation of
our investment real estate as revenue monthly. Other invested asset
revenue is included in other revenues.
Cash Equivalents
We consider all short-term investments with a maturity at date of
purchase of three months or less to be cash equivalents.
62
Notes to Consolidated Financial Statements, Continued
Goodwill
On January 1, 2002, we adopted Statement of Financial Accounting
Standards (SFAS) 142, "Goodwill and Other Intangible Assets." During
the first quarter of each year, we test both the consumer finance
business segment and the insurance business segment for goodwill
impairment. Impairment is the condition that exists when the carrying
value of goodwill exceeds its implied fair value. We assess the fair
value of the underlying business using a projected ten year earnings
stream, discounted using the Treasury "risk free" rate. The "risk
free" rate is the yield on ten year U.S. Treasury Bills as of December
31 of the prior year. If the required impairment testing suggests that
goodwill is impaired, we reduce goodwill to an amount that results in
the carrying value of the underlying business approximating fair value.
See Note 3. for information on the adoption of SFAS 142.
Prior to our adoption of SFAS 142, we charged goodwill to expense in
equal amounts over 20 to 40 years.
Income Taxes
We establish deferred tax assets and liabilities for temporary
differences between the financial reporting basis and the tax basis of
assets and liabilities, using the tax rates expected to be in effect
when the temporary differences reverse.
We provide a valuation allowance for deferred tax assets if it is
likely that some portion of the deferred tax asset will not be
realized. We include an increase or decrease in a valuation allowance
resulting from a change in the realizability of the related deferred
tax asset in income.
Derivative Financial Instruments
On the date we enter into a derivative contract, we designate the
interest rate swap agreement as a cash flow hedge or a fair value
hedge. We recognize the fair values of interest rate swap agreements
in the consolidated balance sheet in other assets or other liabilities
depending on their positive or negative fair values. Cash flow hedges
hedge the variable cash flows to be paid on recognized liabilities and
fair value hedges hedge the fair value of recognized liabilities. We
formally document all relationships between the interest rate swap
agreement and the hedged liability. This documentation includes the
following:
* our risk management objective;
* our strategy in entering into the interest rate swap
agreement; and
* our method to measure hedge effectiveness and ineffectiveness.
63
Notes to Consolidated Financial Statements, Continued
We also formally assess, both at the interest rate swap agreement
inception and ongoing, whether the interest rate swap agreements are
highly effective in offsetting changes in cash flows or fair values of
the hedged liabilities. We report the effective portion of the gain or
loss on the instruments as a component of other comprehensive income.
We report any ineffectiveness in other revenues.
If we discontinue hedge accounting because we determine the interest
rate swap agreement no longer qualifies as an effective hedge, we will
continue to carry the interest rate swap agreement in the balance sheet
at its fair value, and recognize changes in fair value in income. For
cash flow hedges, we will reclassify amounts we previously recorded in
other comprehensive income to income as earnings are affected by the
variability in cash flows of the hedged item. For fair value hedges,
we will reverse the recorded fair value adjustment of the hedged item
to income.
If we terminate an interest rate swap agreement before maturity, we
will remove it from the balance sheet.
We accrue the differences between amounts payable and receivable on
interest rate swap agreements as adjustments to interest expense over
the lives of the agreements. We include the related amounts payable to
and receivable from counterparties in other liabilities and other
assets.
Fair Value of Financial Instruments
We estimate the fair values disclosed in Note 24. using discounted cash
flows when quoted market prices or values obtained from independent
pricing services are not available. The assumptions used, including
the discount rate and estimates of future cash flows, significantly
affect the valuation techniques employed. In certain cases, we cannot
verify the estimated fair values by comparison to independent markets
or realize the estimated fair values in immediate settlement of the
instruments.
Note 3. Accounting Changes
On January 1, 2002, we adopted SFAS 142, "Goodwill and Other
Intangible Assets." SFAS 142 provides that goodwill and other
intangible assets with indefinite lives are no longer to be amortized.
These assets are to be reviewed for impairment annually, or more
frequently if impairment indicators are present. We will continue to
amortize separable intangible assets that have finite lives over their
useful lives. The amortization provisions of SFAS 142 apply to
goodwill and intangible assets acquired after June 30, 2001.
Amortization of goodwill and intangible assets acquired prior to July
1, 2001 continued through December 31, 2001. During first quarter
2002, we determined that the required impairment testing related to the
Company's goodwill and other intangible assets did not require a write-
down of any such assets. There has been no indication of impairment
since our review of the Company's goodwill during the first quarter of
2002.
64
Notes to Consolidated Financial Statements, Continued
In 2001, we adopted SFAS 133, "Accounting for Derivative Instruments
and Hedging Activities," which requires all derivative instruments to
be recognized at fair value in the balance sheet. Changes in the fair
value of a derivative instrument are reported in net income or
comprehensive income, depending upon the intended use of the derivative
instrument. Upon adoption of SFAS 133, we recorded cumulative
adjustments of $42.1 million to recognize the fair value of interest
rate swap agreements related to debt in the balance sheet, which
reduced accumulated other comprehensive income in shareholder's equity
by $27.4 million. During 2001, we reclassified into earnings $13.6
million of net realized losses which related to the cumulative
adjustment.
In 2001, we conformed to Emerging Issues Task Force (EITF) Issue 99-20,
"Recognition of Interest Income and Impairment on Purchased and
Retained Beneficial Interests in Securitized Financial Assets." As a
result of applying the impairment provisions of EITF 99-20, we recorded
a $1.0 million ($.6 million aftertax) write-down of the carrying value
of certain collateralized debt obligations in other revenues.
In November 2002, the Financial Accounting Standards Board issued
Interpretation No. 45 (FIN 45), "Guarantor's Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others." FIN 45 elaborates on the disclosures to be
made by a guarantor in its financial statements about its obligations
under certain guarantees that it has issued. It also clarifies that a
guarantor is required to recognize, at the inception of a guarantee, a
liability for the fair value of the obligation undertaken in issuing
the guarantee. Certain guarantee contracts are excluded from both the
disclosure and recognition requirements of FIN 45, including, among
others, residual value guarantees under capital lease arrangements,
commercial letters of credit, and loan commitments. The disclosure
requirements of FIN 45 are effective as of December 31, 2002. The
recognition requirements of FIN 45 are to be applied prospectively to
guarantees issued or modified after December 31, 2002. We do not
expect the adoption of FIN 45 to have a material impact on our
consolidated results of operations, financial position, or liquidity.
65
Notes to Consolidated Financial Statements, Continued
Note 4. Finance Receivables
Components of net finance receivables by type were as follows:
December 31, 2002
Real Non-real Retail
Estate Estate Sales
Loans Loans Finance Total
(dollars in thousands)
Gross receivables $9,409,294 $3,297,232 $1,550,215 $14,256,741
Unearned finance charges
and points and fees (148,421) (432,747) (176,463) (757,631)
Accrued finance charges 79,664 41,788 13,194 134,646
Deferred origination costs 12,864 36,223 - 49,087
Premiums, net of discounts 144,645 16,429 2,295 163,369
Total $9,498,046 $2,958,925 $1,389,241 $13,846,212
December 31, 2001
Real Non-real Retail
Estate Estate Sales
Loans Loans Finance Total
(dollars in thousands)
Gross receivables $7,613,988 $3,274,716 $1,634,686 $12,523,390
Unearned finance charges
and points and fees (152,301) (444,604) (210,658) (807,563)
Accrued finance charges 69,296 42,760 15,910 127,966
Deferred origination costs 10,787 37,645 - 48,432
Premiums, net of discounts 83,054 12,040 970 96,064
Total $7,624,824 $2,922,557 $1,440,908 $11,988,289
Real estate loans are secured by first or second mortgages on
residential real estate and generally have maximum original terms of
360 months. Non-real estate loans are secured by consumer goods,
automobiles or other personal property, or are unsecured and generally
have maximum original terms of 60 months. Retail sales contracts are
secured principally by consumer goods and automobiles and generally
have maximum original terms of 60 months. Revolving retail and private
label are secured by the goods purchased and generally require minimum
monthly payments based on outstanding balances. At December 31, 2002,
96% of our net finance receivables were secured by the real and/or
personal property of the borrower, compared to 97% at December 31,
2001. At December 31, 2002, real estate loans accounted for 69% of the
amount and 11% of the number of net finance receivables outstanding,
compared to 64% of the amount and 9% of the number of net finance
receivables outstanding at December 31, 2001.
66
Notes to Consolidated Financial Statements, Continued
Contractual maturities of net finance receivables by type at December
31, 2002 were as follows:
Real Non-Real Retail
Estate Estate Sales
Loans Loans Finance Total
(dollars in thousands)
2003 $ 237,985 $ 741,561 $ 386,514 $ 1,366,060
2004 312,176 982,718 314,494 1,609,388
2005 328,584 713,588 148,599 1,190,771
2006 340,851 325,936 73,138 739,925
2007 341,666 108,387 38,579 488,632
2008+ 7,936,784 86,735 427,917 8,451,436
Total $ 9,498,046 $ 2,958,925 $ 1,389,241 $13,846,212
Company experience has shown that customers will renew, convert or pay
in full a substantial portion of finance receivables prior to maturity.
Contractual maturities are not a forecast of future cash collections.
Principal cash collections and such collections as a percentage of
average net receivables by type were as follows:
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Real estate loans:
Principal cash collections $2,953,426 $2,462,318 $1,854,554
% of average net receivables 36.09% 33.47% 25.72%
Non-real estate loans:
Principal cash collections $1,614,216 $1,655,484 $1,610,183
% of average net receivables 56.48% 56.03% 57.47%
Retail sales finance:
Principal cash collections $1,731,160 $1,836,811 $1,849,069
% of average net receivables 126.56% 129.82% 132.47%
Unused credit limits extended by a non-subsidiary affiliate (whose
private label finance receivables are fully participated to the
Company) and the Company to their customers were $3.5 billion at
December 31, 2002 and $3.6 billion at December 31, 2001.
Company experience has shown that the funded amounts have been
substantially less than the credit limits. All unused credit limits,
in part or in total, can be cancelled at the discretion of the
affiliate and the Company.
67
Notes to Consolidated Financial Statements, Continued
Geographic diversification of finance receivables reduces the
concentration of credit risk associated with a recession in any one
region. The largest concentrations of net finance receivables were as
follows:
December 31, 2002 December 31, 2001
Amount Percent Amount Percent
(dollars in thousands)
California $ 2,160,846 16% $ 1,374,599 12%
N. Carolina 887,243 6 850,995 7
Florida 840,182 6 772,830 7
Illinois 786,593 6 731,238 6
Ohio 785,506 6 741,702 6
Indiana 598,832 4 586,625 5
Georgia 591,970 4 510,140 4
Virginia 553,386 4 500,137 4
Other 6,641,654 48 5,920,023 49
Total $13,846,212 100% $11,988,289 100%
Finance receivables on which we stopped accruing revenue totaled $388.8
million at December 31, 2002 and $341.1 million at December 31, 2001.
Our accounting policy for revenue recognition on revolving retail and
private label finance receivables provides for the accrual of revenue
up to the date of charge-off at six months past due. We accrued
revenue on revolving retail and private label finance receivables
greater than 90 days contractually delinquent of $.8 million at
December 31, 2002 and $.6 million at December 31, 2001.
Note 5. Allowance for Finance Receivable Losses
Changes in the allowance for finance receivable losses were as follows:
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Balance at beginning of year $ 448,251 $ 383,415 $ 395,626
Provision for finance receivable
losses 303,585 289,302 206,275
Allowance related to net
acquired (sold) receivables 8,780 14,836 (12,211)
Charge-offs (338,802) (304,592) (250,330)
Recoveries 41,217 40,290 44,055
Other charges - additional
provision - 25,000 -
Balance at end of year $ 463,031 $ 448,251 $ 383,415
See Note 2. for information on the determination of the allowance for
finance receivable losses and Note 17. for discussion of other charges.
68
Notes to Consolidated Financial Statements, Continued
Note 6. Investment Securities
Fair value and amortized cost of investment securities by type at
December 31 were as follows:
Fair Value Amortized Cost
2002 2001 2002 2001
(dollars in thousands)
Fixed maturity investment
securities:
Bonds:
Corporate securities $ 549,552 $ 532,295 $ 530,229 $ 528,551
Mortgage-backed securities 179,155 209,128 170,909 207,119
State and political
subdivisions 446,605 315,640 429,637 314,263
Other 26,593 47,146 24,447 45,436
Redeemable preferred stocks - 9,063 - 8,329
Total 1,201,905 1,113,272 1,155,222 1,103,698
Non-redeemable preferred
stocks 5,109 4,225 5,624 4,251
Other long-term investments 19,586 24,133 19,586 24,133
Common stocks 556 556 606 606
Total $1,227,156 $1,142,186 $1,181,038 $1,132,688
Unrealized gains and losses on investment securities by type at
December 31 were as follows:
Unrealized Gains Unrealized Losses
2002 2001 2002 2001
(dollars in thousands)
Fixed-maturity investment
securities:
Bonds:
Corporate securities $35,401 $19,660 $16,078 $15,916
Mortgage-backed securities 8,246 3,543 - 1,534
State and political
subdivisions 16,986 5,409 18 4,032
Other 5,198 1,710 3,052 -
Redeemable preferred stocks - 738 - 4
Total 65,831 31,060 19,148 21,486
Non-redeemable preferred
stocks 55 - 570 26
Common stocks - - 50 50
Total $65,886 $31,060 $19,768 $21,562
69
Notes to Consolidated Financial Statements, Continued
The fair values of investment securities sold or redeemed and the
resulting realized gains, realized losses, and net realized gains
(losses) were as follows:
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Fair value $756,128 $992,437 $536,058
Realized gains $ 9,147 $ 16,441 $ 14,166
Realized losses 13,547 19,430 11,357
Net realized (losses) gains $ (4,400) $ (2,989) $ 2,809
Contractual maturities of fixed-maturity investment securities at
December 31, 2002 were as follows:
Fair Amortized
Value Cost
(dollars in thousands)
Fixed maturities, excluding
mortgage-backed securities:
Due in 1 year or less $ 23,714 $ 23,432
Due after 1 year through 5 years 186,126 175,306
Due after 5 years through 10 years 389,539 374,157
Due after 10 years 423,371 411,418
Mortgage-backed securities 179,155 170,909
Total $1,201,905 $1,155,222
Actual maturities may differ from contractual maturities since
borrowers may have the right to prepay obligations. The Company may
sell investment securities before maturity to achieve corporate
requirements and investment strategies.
Other long-term investments consist of five limited partnerships.
These limited partnerships provide diversification and have high
yielding, long-term financial objectives. These limited partnerships
invest primarily in private equity investments, high yielding
securities, and mezzanine investments within a variety of industries.
At December 31, 2002, our total commitments for these five limited
partnerships were $47.3 million, consisting of $21.2 million funded and
$26.1 million unfunded.
Bonds on deposit with insurance regulatory authorities had carrying
values of $8.4 million at December 31, 2002 and $7.9 million at
December 31, 2001.
70
Notes to Consolidated Financial Statements, Continued
Note 7. Other Assets
Components of other assets were as follows:
December 31,
2002 2001
(dollars in thousands)
Goodwill $161,885 $161,885
Income tax assets (a) 152,469 94,326
Fixed assets 93,365 102,704
Other insurance investments 67,438 78,813
Real estate owned 49,012 49,985
Customer relationships 44,294 64,712
Prepaid expenses and deferred
charges 29,802 35,755
Other (b) 122,024 82,248
Total $720,289 $670,428
(a) The components of net deferred tax assets are detailed in Note
18.
(b) Effective January 1, 2003, we acquired Wilmington Finance, Inc.,
an originator and seller of residential mortgage loans. In
anticipation of this acquisition, we entered into a warehouse
line participation agreement to provide interim funding support
to the mortgage originator totaling $50.0 million. See Note 25.
for further information on this acquisition.
Changes in goodwill by business segment were as follows:
Consumer
Finance Insurance Total
(dollars in thousands)
Balance December 31, 2000 $178,255 $ 12,562 $190,817
Amortization (7,323) (458) (7,781)
Impairment loss - other charge (a) (20,177) - (20,177)
Disposition (b) (974) - (974)
Balance December 31, 2001 149,781 12,104 161,885
Balance December 31, 2002 $149,781 $ 12,104 $161,885
(a) In third quarter 2001, we decided to exit the warehouse lending
business and wrote off remaining goodwill of $20.2 million
applicable to our warehouse lending subsidiary through the other
charge.
(b) In third quarter 2001, we reduced goodwill by $1.0 million
resulting from the merger of AG Bank into AIG Federal Savings
Bank.
71
Notes to Consolidated Financial Statements, Continued
The impact of goodwill amortization on net income was as follows:
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Reported net income $346,826 $228,257 $207,938
Goodwill amortization,
net of tax - 5,058 5,136
Adjusted net income $346,826 $233,315 $213,074
Customer relationships are net of accumulated amortization of $77.3
million at December 31, 2002 and $72.3 million at December 31, 2001.
Customer relationships amortization expense totaled $24.4 million in
2002 and $22.8 million in 2001. In addition to customer relationships
amortization expense in 2001, we reduced customer relationships through
the other charge by $12.0 million resulting from post-business
combination plans in connection with AIG's indirect acquisition of the
Company.
At December 31, 2002, estimated customer relationships amortization
expense for the next five years was as follows:
Customer Relationships
Amortization Expense
(dollars in thousands)
2003 $19,350
2004 14,413
2005 7,113
2006 1,583
2007 1,211
Note 8. Long-term Debt
Carrying value and fair value of long-term debt at December 31 were as
follows:
Carrying Value Fair Value
2002 2001 2002 2001
(dollars in thousands)
Senior debt $9,566,256 $6,301,433 $9,849,447 $6,469,832
Weighted average interest rates on long-term debt were as follows:
Years Ended December 31, December 31,
2002 2001 2000 2002 2001
Senior debt 5.89% 6.66% 6.64% 5.09% 6.41%
72
Notes to Consolidated Financial Statements, Continued
Contractual maturities of long-term debt at December 31, 2002 were as
follows:
Carrying Value
(dollars in thousands)
2003 $1,574,900
2004 2,097,877
2005 1,479,335
2006 1,273,961
2007 1,355,550
2008-2012 1,784,633
Total $9,566,256
At December 31, 2002, we had $4.3 billion of long-term debt securities
registered under the Securities Act of 1933 and available for issuance.
A debt agreement contains restrictions on consolidated retained
earnings for certain purposes (see Note 16.).
Note 9. Short-term Notes Payable
AGFI and AGFC issue commercial paper with terms ranging from 1 to 270
days. The weighted average maturity of our commercial paper at
December 31, 2002 was 31 days.
Included in commercial paper are extendible commercial notes that AGFC
sells with initial maturities of up to 90 days which may be extended by
AGFC to 390 days. At December 31, 2002, extendible commercial notes
totaled $359.3 million.
Information concerning short-term notes payable for commercial paper
and to banks under credit facilities was as follows:
At or for the
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Average borrowings $4,126,072 $4,603,669 $4,765,422
Weighted average interest
rate, at year end:
Money market yield 1.45% 1.95% 6.58%
Semi-annual bond
equivalent yield 1.45% 1.96% 6.67%
73
Notes to Consolidated Financial Statements, Continued
Note 10. Liquidity Facilities
We participate in credit facilities to support the issuance of
commercial paper and to provide an additional source of funds for
operating requirements. At December 31, 2002, AGFC had committed
credit facilities totaling $3.0 billion, including a facility under
which AGFI is an eligible borrower for up to $300 million. The annual
commitment fees for the facilities currently average 0.07% and are
based upon AGFC's long-term credit ratings.
At December 31, 2002, AGFI and certain of its subsidiaries also had
uncommitted credit facilities totaling $171.0 million which could be
increased depending upon lender ability to participate its loans under
the facilities.
Available borrowings under all facilities are reduced by any
outstanding borrowings. At December 31, 2002, AGFI's outstanding
borrowings totaled $60.0 million. There were no amounts outstanding at
December 31, 2001. AGFC guarantees its subsidiary borrowings under
uncommitted credit facilities. AGFC does not guarantee any borrowings
of AGFI.
Note 11. Derivative Financial Instruments
Our principal borrowing subsidiary is AGFC. AGFC uses derivative
financial instruments in managing the cost of its debt and is neither a
dealer nor a trader in derivative financial instruments. AGFC has
generally limited its use of derivative financial instruments to
interest rate swap agreements. These interest rate swap agreements are
designated and qualify as cash flow hedges or fair value hedges.
AGFC uses interest rate swap agreements to limit our exposure to market
interest rate risk in the funding of our operations. Most of our swaps
synthetically convert certain short-term or floating-rate debt to a
long-term fixed-rate. The synthetic long-term fixed rates achieved
through interest rate swap agreements are slightly lower than could
have been achieved by issuing comparable long-term fixed-rate debt.
Additionally, AGFC has swapped fixed-rate, long-term debt to floating-
rate, long-term debt. As an alternative to funding without these
derivative financial instruments, AGFC's interest rate swap agreements
did not have a material effect on the Company's other revenues,
interest expense, or net income in any of the three years ended
December 31, 2002.
Notional amounts and weighted average receive and pay rates were as
follows:
At or for the
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Notional amount $2,940,000 $2,500,000 $2,450,000
Weighted average receive rate 2.28% 2.06% 6.72%
Weighted average pay rate 5.24% 6.58% 6.71%
74
Notes to Consolidated Financial Statements, Continued
Notional amount maturities and the respective weighted average interest
rates at December 31, 2002 were as follows:
Notional Weighted Average
Amount Interest Rate
(dollars in
thousands)
2003 $ 445,000 7.86%
2004 920,000 6.05
2005 525,000 5.25
2006 100,000 7.03
2007 750,000 2.36
2008 200,000 5.50
Total $2,940,000 5.24%
Changes in the notional amounts of interest rate swap agreements were
as follows:
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Balance at beginning of year $2,500,000 $2,450,000 $1,295,000
New contracts 1,050,000 320,000 1,380,000
Expired contracts (610,000) (270,000) (225,000)
Balance at end of year $2,940,000 $2,500,000 $2,450,000
AGFC is exposed to credit risk in the event of non-performance by
counterparties to derivative financial instruments. AGFC limits this
exposure by entering into agreements with counterparties having high
credit ratings and by basing the amounts and terms of these agreements
on their credit ratings. AGFC regularly monitors counterparty credit
ratings throughout the term of the agreements. At December 31, 2002,
AGFC had notional amounts of $1.1 billion in interest rate swap
agreements with a highly-rated AIG affiliate.
AGFC's credit exposure on derivative financial instruments is limited
to the fair value of the agreements that are favorable to the Company.
At December 31, 2002, the interest rate swap agreements were recorded
at fair value of $137.7 million in other liabilities. AGFC does not
expect any counterparty to fail to meet its obligation; however, non-
performance would not have a material impact on the Company's
consolidated results of operations and financial position.
AGFC's exposure to market risk is mitigated by the offsetting effects
of changes in the value of the agreements and of the related debt being
hedged. During 2002, we reported an immaterial amount of
ineffectiveness in other revenues. At December 31, 2002, we expect to
reclassify $70.3 million of net realized losses on interest rate swap
agreements from accumulated other comprehensive income to income during
the next twelve months.
75
Notes to Consolidated Financial Statements, Continued
Note 12. Insurance
Components of insurance claims and policyholder liabilities were as
follows:
December 31,
2002 2001
(dollars in thousands)
Finance receivable related:
Unearned premium reserves $187,631 $209,670
Benefit reserves 14,520 10,421
Claim reserves 35,823 35,305
Subtotal 237,974 255,396
Non-finance receivable related:
Benefit reserves 212,702 218,840
Claim reserves 21,672 21,352
Subtotal 234,374 240,192
Total $472,348 $495,588
Our insurance subsidiaries enter into reinsurance agreements among
themselves and with other insurers, including affiliated insurance
companies. Insurance claims and policyholder liabilities included the
following amounts assumed from other insurers:
December 31,
2002 2001
(dollars in thousands)
Affiliated insurance companies $ 64,387 $ 73,446
Non-affiliated insurance companies 48,227 40,559
Total $112,614 $114,005
Our insurance subsidiaries' business reinsured to others was not
significant during any of the last three years.
76
Notes to Consolidated Financial Statements, Continued
Our insurance subsidiaries file financial statements prepared using
statutory accounting practices prescribed or permitted by each
insurance company's state of domicile. These are comprehensive bases
of accounting other than GAAP.
Reconciliations of statutory net income to GAAP net income were as
follows:
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Statutory net income $78,149 $87,632 $58,027
Change in deferred policy
acquisition costs (8,678) (7,561) 12,650
Reserve changes 2,919 (669) 19,298
Deferred income tax benefit (charge) 8,299 1,512 (6,599)
Amortization of interest
maintenance reserve (1,456) (2,322) (710)
Goodwill amortization - (458) (458)
Other, net (5,623) (5,500) (2,263)
GAAP net income $73,610 $72,634 $79,945
Reconciliations of statutory equity to GAAP equity were as follows:
December 31,
2002 2001
(dollars in thousands)
Statutory equity $734,146 $664,461
Deferred policy acquisition costs 66,018 76,043
Reserve changes 84,119 83,001
Net unrealized gains 46,119 9,479
Goodwill 13,794 13,794
Decrease in carrying value
of affiliates (24,932) (20,708)
Asset valuation reserve 17,134 15,685
Deferred income taxes (36,074) (28,670)
Interest maintenance reserve (1,985) 6,766
Other, net 26,100 7,186
GAAP equity $924,439 $827,037
77
Notes to Consolidated Financial Statements, Continued
Note 13. Other Liabilities
Components of other liabilities were as follows:
December 31,
2002 2001
(dollars in thousands)
Interest rate swap agreements fair
values $137,682 $103,867
Uncashed checks, reclassified from
cash 113,402 119,124
Accrued interest 104,679 121,975
Salary and benefit liabilities 18,796 33,311
Other 68,373 74,077
Total $442,932 $452,354
The decrease in salary and benefit liabilities reflected AIG's
assumption of certain benefit obligations totaling $12.9 million
effective December 31, 2002.
Note 14. Capital Stock
AGFI has two classes of authorized capital stock: special shares and
common shares. AGFI may issue special shares in series. The board of
directors determines the dividend, liquidation, redemption, conversion,
voting and other rights prior to issuance. Par value, shares
authorized, and shares issued and outstanding at December 31, 2002 and
2001 were as follows:
Shares
Issued and Outstanding
Par Shares December 31,
Value Authorized 2002 2001
Special Shares - 25,000,000 - -
Common Shares $0.50 25,000,000 2,000,000 2,000,000
78
Notes to Consolidated Financial Statements, Continued
Note 15. Accumulated Other Comprehensive Loss
The components of accumulated other comprehensive loss were as follows:
December 31,
2002 2001
(dollars in thousands)
Net unrealized losses on interest
rate swaps $ (98,904) $ (67,513)
Net unrealized gains on investment
securities 29,966 6,174
Net unrealized losses on minimum
pension liability - (348)
Accumulated other comprehensive loss $ (68,938) $ (61,687)
Note 16. Retained Earnings
AGFI's ability to pay dividends is substantially dependent on the
receipt of dividends or other funds from its subsidiaries. State laws
restrict the amounts our insurance subsidiaries may pay as dividends
without prior notice to, or in some cases prior approval from, their
respective state insurance departments. At December 31, 2002, the
maximum amount of dividends which our insurance subsidiaries may pay in
2003 without prior approval was $85.6 million. At December 31, 2002,
our insurance subsidiaries had statutory capital and surplus of $734.1
million. Merit Life Insurance Co. (Merit), a wholly owned subsidiary
of AGFC, had $52.7 million of accumulated earnings at December 31, 2002
for which no federal income tax provisions have been required. Merit
would be liable for federal income taxes on such earnings if they were
distributed as dividends or exceeded limits prescribed by tax laws. No
distributions are presently contemplated from these earnings. If such
earnings were to become taxable at December 31, 2002, the federal
income tax would approximate $18.4 million.
Certain AGFC financing agreements effectively limit the amount of
dividends AGFC may pay. Under the most restrictive provision contained
in these agreements, $642.1 million of the retained earnings of AGFC
was free from restriction at December 31, 2002.
79
Notes to Consolidated Financial Statements, Continued
Note 17. Other Charges
AIG ACQUISITION
In September 2001, we recorded one-time charges totaling $78.3 million
($50.9 million aftertax), resulting from AIG's and the Company's joint
assessment of the business environment and post-business combination
plans. These charges recognized that certain assets had no future
economic benefit or ability to generate future revenues. These costs
included asset impairment charges related to goodwill and customer
relationships intangibles that resulted from previous business
acquisitions. Also included were certain adjustments associated with
conforming the Company's balances to AIG's accounting policies and
methodologies, as well as an increase in the allowance for finance
receivable losses to reflect AIG's and the Company's assumptions about
the business environment.
MORTGAGE WAREHOUSE LENDING
In June 2000, we discovered a potential fraud committed against a
subsidiary that conducted mortgage warehouse lending activities in our
consumer finance operation. Mortgages processed by one originator
allegedly had been funded based on fraudulent information. In July
2000, the originator's license was suspended and the originator and its
parent company filed for bankruptcy. Based on the available
information, we recorded a charge of $50.0 million ($32.5 million
aftertax) in second quarter 2000 for our loss related to this fraud.
We are pursuing all appropriate remedies and believe our recorded
liability is sufficient to cover this loss.
Note 18. Income Taxes
For the period August 30, 2001 to December 31, 2001 and the year 2002,
the life insurance subsidiaries of AGFC file separate federal income
tax returns. AGFI and all other AGFI subsidiaries file a consolidated
federal income tax return with AIG. We provide federal income taxes as
if AGFI and the other AGFI subsidiaries file separate tax returns and
pay AIG accordingly under a tax sharing agreement.
For the year 2000 and the period January 1, 2001 to August 29, 2001,
AGFI and all of its subsidiaries were included in a federal income tax
return with our then parent company and the majority of its
subsidiaries. We provided federal income taxes as if AGFI and other
AGFI subsidiaries filed separate tax returns and paid our then parent
company accordingly under a tax sharing agreement.
80
Notes to Consolidated Financial Statements, Continued
Components of provision for income taxes were as follows:
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Federal:
Current $197,226 $152,218 $ 94,085
Deferred (60,601) (30,051) 17,021
Total federal 136,625 122,167 111,106
State 8,717 6,094 9,580
Total $145,342 $128,261 $120,686
Reconciliations of the statutory federal income tax rate to the
effective tax rate were as follows:
Years Ended December 31,
2002 2001 2000
Statutory federal income tax rate 35.00% 35.00% 35.00%
Contingency reduction (6.10) - -
State income taxes 1.11 1.11 1.89
Amortization of goodwill - .60 .71
Nontaxable investment income (.64) (.98) (1.01)
Other, net .16 .25 .13
Effective income tax rate 29.53% 35.98% 36.72%
During fourth quarter 2002, we reduced the provision for income taxes
by $30.0 million resulting from a favorable settlement of income tax
audit issues. This decreased the effective income tax rate for 2002.
The Internal Revenue Service (IRS) has completed examinations of AIG's
tax returns through 1990. The IRS has also completed examinations of
our previous parent company's tax returns through 1999.
81
Notes to Consolidated Financial Statements, Continued
Components of deferred tax assets and liabilities were as follows:
December 31,
2002 2001
(dollars in thousands)
Deferred tax assets:
Allowance for finance receivable
losses $145,663 $103,426
Interest rate swap agreements 32,014 36,354
Deferred insurance commissions 4,054 8,254
Goodwill 5,910 8,057
Other 21,013 12,646
Total 208,654 168,737
Deferred tax liabilities:
Loan origination costs 16,619 16,309
Insurance reserves (2,321) 8,582
Fixed assets 7,001 6,055
Other 34,886 43,465
Total 56,185 74,411
Net deferred tax assets $152,469 $ 94,326
State net operating loss (NOL) carryforwards were $593.8 million at
December 31, 2001 and expired in 2002. These carryforwards resulted
from a 1995 state audit of a return and the state's acceptance of an
amended return. The valuation allowance relating to the state NOL
carryforwards totaled $43.5 million at December 31, 2001.
Note 19. Lease Commitments, Rent Expense and Contingent Liabilities
Annual rental commitments for leased office space, automobiles and data
processing and related equipment accounted for as operating leases,
excluding leases on a month-to-month basis, were as follows:
Lease Commitments
(dollars in thousands)
2003 $ 47,711
2004 36,510
2005 25,570
2006 11,861
2007 6,179
subsequent to 2007 16,628
Total $144,459
82
Notes to Consolidated Financial Statements, Continued
Taxes, insurance and maintenance expenses are obligations of the
Company under certain leases. In the normal course of business, leases
that expire will be renewed or replaced by leases on other properties.
Future minimum annual rental commitments will probably not be less than
the amount of rental expense incurred in 2002. Rental expense totaled
$51.5 million in 2002, $49.4 million in 2001, and $47.9 million in
2000.
AGFI and certain of its subsidiaries are parties to various lawsuits
and proceedings, including certain class action claims, arising in the
ordinary course of business. In addition, many of these proceedings
are pending in jurisdictions, such as Mississippi, that permit damage
awards disproportionate to the actual economic damages alleged to have
been incurred. Based upon information presently available, we believe
that the total amounts that will ultimately be paid arising from these
lawsuits and proceedings will not have a material adverse effect on our
consolidated results of operations or financial position. However, the
frequency of large damage awards, including large punitive damage
awards that bear little or no relation to actual economic damages
incurred by plaintiffs in some jurisdictions, continues to create the
potential for an unpredictable judgment in any given suit.
Note 20. Consolidated Statements of Cash Flows
Supplemental disclosure of certain cash flow information was as
follows:
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Interest paid $547,676 $649,737 $685,059
Income taxes paid 238,632 95,975 34,385
AGFI received a non-cash capital contribution from its parent of $7.3
million in fourth quarter 2002 reflecting AIG's assumption of certain
benefit obligations effective January 1, 2002. See Note 21. for
further information on the Company's benefit plans.
Note 21. Benefit Plans
Effective January 1, 2002, the Company's employees participate in
various benefit plans sponsored by AIG, including a noncontributory
qualified defined benefit retirement plan, various stock option and
purchase plans, and a 401(k) plan.
AIG's U.S. plans do not separately identify projected benefit
obligations and plan assets attributable to employees of participating
affiliates. AIG's projected benefit obligations exceeded the plan
assets at December 31, 2002 by $428.5 million.
83
Notes to Consolidated Financial Statements, Continued
Prior to January 1, 2002, the Company's employees participated in our
then parent company's benefit plans. AGFI accounted for its
participation in these plans as if it had its own plans.
AGFI's portion of the retirement plans' funded status was as follows:
December 31,
2001 2000
(dollars in thousands)
Projected benefit obligation $123,648 $ 99,622
Plan assets at fair value 95,030 112,194
Plan assets (less than) in excess
of projected benefit obligation (28,618) 12,572
Other unrecognized items, net 27,660 (10,615)
(Accrued) prepaid pension expense $ (958) $ 1,957
Components of pension expense were as follows:
Years Ended December 31,
2001 2000
(dollars in thousands)
Service cost $ 3,849 $ 3,914
Interest cost 8,245 7,488
Expected return on plan assets (10,283) (10,061)
Net amortization and deferral 260 199
Pension expense $ 2,071 $ 1,540
Additional assumptions concerning the determination of pension expense
were as follows:
Years Ended December 31,
2001 2000
Weighted average discount rate 7.25% 8.00%
Expected long-term rate of
return on plan assets 10.35 10.35
Rate of increase in
compensation levels 4.25 4.50
The accrued liability for postretirement benefits was $6.2 million at
December 31, 2001. These liabilities were discounted at the same rates
used for the pension plans. Postretirement benefit expense totaled $.8
million in 2001 and 2000.
84
Notes to Consolidated Financial Statements, Continued
Note 22. Segment Information
We have two business segments: consumer finance and insurance. Our
segments are defined by the type of financial service product offered.
The consumer finance segment makes home equity loans, originates
secured and unsecured consumer loans, extends lines of credit, and
purchases retail sales contracts from, and provides revolving retail
services for, retail merchants. We also purchase private label
receivables originated by a non-subsidiary affiliate of ours, under a
participation agreement. To supplement our lending and retail sales
financing activities, we purchase portfolios of real estate loans, non-
real estate loans, and retail sales finance receivables. We also offer
credit and non-credit insurance to our consumer finance customers. The
insurance segment writes and assumes credit and non-credit insurance
through products that are offered principally by the consumer finance
segment.
We evaluate the performance of the segments based on pretax operating
earnings. The accounting policies of the segments are the same as
those disclosed in Note 2., except for the following:
* segment finance charge revenues are not reduced for the
amortization of the deferred origination costs;
* segment operating expenses are not reduced for the deferral of
origination costs (segment operating expenses for 2001 also
excluded the amortization of goodwill);
* segment finance receivables exclude deferred origination
costs; and
* segment investment revenues exclude realized gains and losses
and certain investment expenses.
Intersegment sales and transfers are intended to approximate the
amounts segments would earn if dealing with independent third parties.
The following tables display information about the Company's segments
as well as reconciliations of the segment totals to the consolidated
financial statement amounts. The adjustments in the reconciliations
include the following:
* amortization of deferred origination costs, realized gains
(losses) on investments, and certain investment expenses for
revenues;
* realized gains (losses) and certain other investment revenue
and pension expense (2001 and 2000 also included the
amortization of goodwill) for pretax income; and
* goodwill, deferred origination costs, other assets, and
corporate assets that are not considered pertinent to
determining segment performance for assets. Corporate assets
include cash, prepaid expenses, deferred charges, and fixed
assets.
85
Notes to Consolidated Financial Statements, Continued
At or for the year ended December 31, 2002:
Consumer Total
Finance Insurance Segments
(dollars in thousands)
Revenues:
External:
Finance charges $ 1,803,472 $ - $ 1,803,472
Insurance 994 190,236 191,230
Other (17,057) 87,746 70,689
Intercompany 78,878 (75,869) 3,009
Interest expense 513,685 - 513,685
Provision for finance
receivable losses 304,844 - 304,844
Pretax income 465,259 84,436 549,695
Assets 13,472,988 1,320,844 14,793,832
At or for the year ended December 31, 2001:
Consumer Total
Finance Insurance Segments
(dollars in thousands)
Revenues:
External:
Finance charges $ 1,788,875 $ - $ 1,788,875
Insurance 1,111 194,282 195,393
Other (5,465) 91,134 85,669
Intercompany 80,064 (77,000) 3,064
Interest expense 591,024 - 591,024
Provision for finance
receivable losses 288,709 - 288,709
Pretax income 347,222 86,418 433,640
Assets 11,645,931 1,261,589 12,907,520
At or for the year ended December 31, 2000:
Consumer Total
Finance Insurance Segments
(dollars in thousands)
Revenues:
External:
Finance charges $ 1,692,881 $ - $ 1,692,881
Insurance 1,129 195,112 196,241
Other (8,512) 89,086 80,574
Intercompany 76,622 (73,641) 2,981
Interest expense 640,504 - 640,504
Provision for finance
receivable losses 206,846 - 206,846
Pretax income 327,761 90,524 418,285
Assets 11,337,094 1,220,235 12,557,329
86
Notes to Consolidated Financial Statements, Continued
Reconciliations of segment totals to consolidated financial statement
amounts were as follows:
At or for the
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Revenues
Segments $ 2,068,400 $ 2,073,001 $ 1,972,677
Corporate (7,197) (13,499) (11,176)
Adjustments (61,365) (61,004) (51,585)
Consolidated revenue $ 1,999,838 $ 1,998,498 $ 1,909,916
Interest Expense
Segments $ 513,685 $ 591,024 $ 640,504
Corporate 45,606 44,459 53,747
Consolidated interest
expense $ 559,291 $ 635,483 $ 694,251
Provision for Finance
Receivable Losses
Segments $ 304,844 $ 288,709 $ 206,846
Corporate (1,259) 593 (571)
Consolidated provision for
finance receivable losses $ 303,585 $ 289,302 $ 206,275
Pretax Income
Segments $ 549,695 $ 433,640 $ 418,285
Corporate (53,050) (65,247) (83,599)
Adjustments (4,477) (11,875) (6,062)
Consolidated pretax income $ 492,168 $ 356,518 $ 328,624
Assets
Segments $14,793,832 $12,907,520 $12,557,329
Corporate 516,853 443,318 624,556
Adjustments 173,601 180,816 226,510
Consolidated assets $15,484,286 $13,531,654 $13,408,395
87
Notes to Consolidated Financial Statements, Continued
Note 23. Interim Financial Information (Unaudited)
Our quarterly statements of income for 2002 and 2001 were as follows:
2002 Quarter Ended
Dec. 31, Sep. 30, June 30, Mar. 31,
(dollars in thousands)
Revenues
Finance charges $444,636 $427,457 $422,926 $423,854
Insurance 49,841 47,839 48,050 45,500
Other 23,602 19,896 23,087 23,150
Total revenues 518,079 495,192 494,063 492,504
Expenses
Interest expense 147,557 135,914 138,588 137,232
Operating expenses 138,598 139,424 139,882 143,615
Provision for finance
receivable losses 88,270 71,404 72,852 71,059
Insurance losses and loss
adjustment expenses 22,281 19,201 19,811 21,982
Total expenses 396,706 365,943 371,133 373,888
Income before provision for
income taxes 121,373 129,249 122,930 118,616
Provision for Income Taxes 13,336 46,013 43,766 42,227
Net Income $108,037 $ 83,236 $ 79,164 $ 76,389
2001 Quarter Ended
Dec. 31, Sep. 30, June 30, Mar. 31,
(dollars in thousands)
Revenues
Finance charges $429,452 $432,030 $430,678 $420,325
Insurance 48,798 48,314 50,203 48,078
Other 22,522 22,433 20,831 24,834
Total revenues 500,772 502,777 501,712 493,237
Expenses
Interest expense 144,480 157,238 161,577 172,188
Operating expenses 130,829 141,986 142,460 135,512
Provision for finance
receivable losses 95,352 66,272 67,646 60,032
Insurance losses and loss
adjustment expenses 22,413 21,462 20,978 23,258
Other charges - 78,297 - -
Total expenses 393,074 465,255 392,661 390,990
Income before provision for
income taxes 107,698 37,522 109,051 102,247
Provision for Income Taxes 38,376 13,354 39,419 37,112
Net Income $ 69,322 $ 24,168 $ 69,632 $ 65,135
88
Notes to Consolidated Financial Statements, Continued
Note 24. Fair Value of Financial Instruments
The carrying values and estimated fair values of certain of the
Company's financial instruments are presented below. The reader should
exercise care in drawing conclusions based on fair value, since the
fair values presented below can be misinterpreted and do not include
the value associated with all of the Company's assets and liabilities.
December 31, 2002 December 31, 2001
Carrying Fair Carrying Fair
Value Value Value Value
(dollars in thousands)
Assets
Net finance receivables,
less allowance for
finance receivable
losses $13,383,181 $13,432,536 $11,540,038 $11,286,604
Investment securities 1,227,156 1,227,156 1,142,186 1,142,186
Cash and cash equivalents 153,660 153,660 179,002 179,002
Liabilities
Long-term debt 9,566,256 9,849,447 6,301,433 6,469,832
Short-term notes payable 3,375,674 3,375,674 4,853,520 4,853,520
Interest rate swap
agreements 137,682 137,682 103,867 103,867
Off-Balance Sheet Financial
Instruments
Unused customer credit
limits - - - -
Limited partnership commitments - 26,110 - 27,545
VALUATION METHODOLOGIES AND ASSUMPTIONS
We used the following methods and assumptions to estimate the fair
value of our financial instruments.
Finance Receivables
We estimated fair values of net finance receivables, less allowance for
finance receivable losses using projected cash flows, computed by
category of finance receivable, discounted at the weighted-average
interest rates offered for similar finance receivables at December 31
of each year. We based cash flows on contractual payment terms
adjusted for delinquencies and finance receivable losses. The fair
value estimates do not reflect the value of the underlying customer
relationships or the related distribution systems.
89
Notes to Consolidated Financial Statements, Continued
Investment Securities
When available, we used quoted market prices as fair values of
investment securities. For investment securities not actively traded,
we estimated fair values using values obtained from independent pricing
services or, in the case of some private placements, by discounting
expected future cash flows using each year's December 31 market rate
applicable to yield, credit quality, and average life of the
investments.
Cash and Cash Equivalents
The fair values of cash and cash equivalents approximated the carrying
values.
Long-term Debt
We estimated the fair values of long-term debt using cash flows
discounted at each year's December 31 borrowing rates.
Short-term Notes Payable
The fair values of short-term notes payable approximated the carrying
values.
Interest Rate Swap Agreements
We estimated the fair values of interest rate swap agreements using
market recognized valuation systems at each year's December 31 market
rates.
Unused Customer Credit Limits
The unused credit limits available to the customers of the non-
subsidiary affiliate that sells private label receivables to the
Company under a participation agreement and to the Company's customers
have no fair value. The interest rates charged on these facilities can
be changed at the affiliate's discretion for private label, or are
adjustable and reprice frequently for loan and retail revolving lines
of credit. These amounts, in part or in total, can be cancelled at the
discretion of the affiliate and the Company.
Limited Partnership Commitments
The fair values of limited partnership commitments equal the commitment
amounts since the partnership may call these commitments on demand.
90
Notes to Consolidated Financial Statements, Continued
Note 25. Subsequent Event
During fourth quarter 2002, AGFI entered into a definitive agreement to
acquire Wilmington Finance, Inc. (WFI), a majority owned subsidiary of
WSFS Financial Corporation. WFI is an originator and seller of
residential mortgage loans. The transaction closed effective January
1, 2003 at a purchase price of $117.1 million.
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure.
As previously reported in AGFI's Current Report on Form 8-K dated April
22, 2002, the Company changed independent auditors effective with the
year beginning January 1, 2002. There were no disagreements, as
defined in Securities and Exchange Commission rules, between the
Company and its previous independent auditors.
91
PART III
Item 14. Controls and Procedures
(a) Evaluation of disclosure controls and procedures
The conclusions of our principal executive officer and principal
financial officer about the effectiveness of the Company's
disclosure controls and procedures based on their evaluation of
these controls and procedures as of a date within 90 days of the
filing date of this annual report on Form 10-K are as follows:
The Company's disclosure controls and procedures are designed to
ensure that information required to be disclosed by the Company
is recorded, processed, summarized and reported within required
timeframes. The Company's disclosure controls and procedures
include controls and procedures designed to ensure that
information required to be disclosed is accumulated and
communicated to the Company's management, including its principal
executive officer and principal financial officer, as appropriate
to allow timely decisions regarding required disclosure.
The Company's management, including its principal executive
officer and principal financial officer, assesses the adequacy of
our disclosure controls and procedures quarterly. Based on these
assessments, the Company's principal executive officer and
principal financial officer have concluded that the disclosure
controls and procedures have functioned effectively and that the
consolidated financial statements fairly present our consolidated
financial position and the results of our operations for the
periods presented.
(b) Changes in internal control
There were no significant changes in the Company's internal
controls or in other factors that could significantly affect
these controls subsequent to the date of management's most recent
evaluation, including any corrective actions with regard to any
significant deficiencies and material weaknesses.
92
PART IV
Item 15. Exhibits, Financial Statement Schedules, and Reports on Form
8-K
(a) (1) and (2) The following consolidated financial statements of
American General Finance, Inc. and subsidiaries are included in
Item 8:
Consolidated Balance Sheets, December 31, 2002 and 2001
Consolidated Statements of Income, years ended December 31,
2002, 2001, and 2000
Consolidated Statements of Shareholder's Equity, years ended
December 31, 2002, 2001, and 2000
Consolidated Statements of Cash Flows, years ended December
31, 2002, 2001, and 2000
Consolidated Statements of Comprehensive Income, years ended
December 31, 2002, 2001, and 2000
Notes to Consolidated Financial Statements
Schedule I--Condensed Financial Information of Registrant is
included in Item 15(d).
All other financial statement schedules have been omitted because
they are inapplicable.
(3) Exhibits:
Exhibits are listed in the Exhibit Index beginning on page
103 herein.
(b) Reports on Form 8-K
No Current Reports on Form 8-K were filed during fourth quarter
2002.
(c) Exhibits
The exhibits required to be included in this portion of Item 15.
are submitted as a separate section of this report.
93
Item 15(d).
Schedule I - Condensed Financial Information of Registrant
American General Finance, Inc.
Condensed Balance Sheets
December 31,
2002 2001
(dollars in thousands)
Assets
Cash and cash equivalents $ 289 $ 61
Investment in subsidiaries 1,818,267 1,556,995
Notes receivable from subsidiaries 297,470 325,562
Other assets 72,183 39,136
Total assets $2,188,209 $1,921,754
Liabilities and Shareholder's Equity
Long-term debt $ - $ 1,262
Short-term notes payable:
Commercial paper 254,533 282,068
Notes payable to banks 60,000 -
Notes payable to subsidiaries 269,328 267,765
Other liabilities 17,531 16,100
Total liabilities 601,392 567,195
Shareholder's equity:
Common stock 1,000 1,000
Additional paid-in capital 920,276 880,594
Other equity (68,938) (61,687)
Retained earnings 734,479 534,652
Total shareholder's equity 1,586,817 1,354,559
Total liabilities and shareholder's equity $2,188,209 $1,921,754
See Notes to Condensed Financial Statements.
94
Schedule I, Continued
American General Finance, Inc.
Condensed Statements of Income
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Revenues
Dividends received from subsidiaries $154,692 $431,234 $185,115
Interest and other 20,389 24,626 29,557
Total revenues 175,081 455,860 214,672
Expenses
Interest expense 21,254 32,280 44,861
Operating expenses 2,713 12,929 6,349
Other charges - 20,277 -
Total expenses 23,967 65,486 51,210
Income before income taxes and equity
in undistributed (overdistributed)
net income of subsidiaries 151,114 390,374 163,462
Income Tax Credit 1,252 14,455 7,573
Income before equity in undistributed
(overdistributed) net income of
subsidiaries 152,366 404,829 171,035
Equity in Undistributed (Overdistributed)
Net Income of Subsidiaries 194,460 (176,572) 36,903
Net Income $346,826 $228,257 $207,938
See Notes to Condensed Financial Statements.
95
Schedule I, Continued
American General Finance, Inc.
Condensed Statements of Cash Flows
Years Ended December 31,
2002 2001 2000
(dollars in thousands)
Cash Flows from Operating Activities
Net Income $ 346,826 $ 228,257 $ 207,938
Reconciling adjustments:
Equity in (undistributed) overdistributed
net income of subsidiaries (194,460) 176,572 (36,903)
Change in other assets and other liabilities (38,695) (28,862) (34,840)
Other charges - 20,277 -
Other, net 7,657 9,484 (24,841)
Net cash provided by operating activities 121,328 405,728 111,354
Cash Flows from Investing Activities
Capital contributions to subsidiaries (66,737) - -
Net additions to fixed assets (1,200) (1,128) (958)
Net cash used for investing activities (67,937) (1,128) (958)
Cash Flows from Financing Activities
Repayment of long-term debt (1,284) (1,894) (4,234)
Change in commercial paper (27,535) 40,000 242,068
Change in notes payable to banks 60,000 - (211,000)
Change in notes receivable or payable
with subsidiaries 29,655 (4,679) (30,104)
Capital contributions from parent 33,000 - -
Dividends paid (146,999) (438,303) (107,101)
Net cash used for financing activities (53,163) (404,876) (110,371)
Increase (decrease) in cash and cash equivalents 228 (276) 25
Cash and cash equivalents at beginning of year 61 337 312
Cash and cash equivalents at end of year $ 289 $ 61 $ 337
See Notes to Condensed Financial Statements.
96
Schedule I, Continued
American General Finance, Inc.
Notes to Condensed Financial Statements
December 31, 2002
Note 1. Accounting Policies
AGFI's investments in subsidiaries are stated at cost plus the equity
in undistributed (overdistributed) net income of subsidiaries since the
date of the acquisition. The condensed financial statements of the
registrant should be read in conjunction with AGFI's consolidated
financial statements.
Note 2. Other Charges
In September 2001, AGFI recorded one-time charges totaling $20.3
million ($13.2 million aftertax), resulting from AIG's and AGFI's joint
assessment of the business environment and post-business combination
plans. These charges recognized that certain assets had no future
economic benefit or ability to generate future revenues. These costs
included an asset impairment charge related to goodwill that resulted
from a previous business acquisition.
97
Signatures
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized, on
March 14, 2003.
AMERICAN GENERAL FINANCE, INC.
By: /s/ Donald R. Breivogel, Jr.
Donald R. Breivogel, Jr.
(Senior Vice President and Chief
Financial Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of
the registrant and in the capacities indicated on March 14, 2003.
Frederick W. Geissinger* Robert A. Cole*
Frederick W. Geissinger Robert A. Cole
(President and Chief Executive (Director)
Officer and Director -
Principal Executive Officer)
William N. Dooley*
William N. Dooley
/s/ Donald R. Breivogel, Jr. (Director)
Donald R. Breivogel, Jr.
(Senior Vice President and
Chief Financial Officer - Jerry L. Gilpin*
Principal Financial Officer) Jerry L. Gilpin
(Director)
George W. Schmidt*
George W. Schmidt Ben D. Hendrix*
(Vice President, Controller, Ben D. Hendrix
and Assistant Secretary - (Director)
Principal Accounting Officer)
*By: /s/ Donald R. Breivogel, Jr.
Stephen L. Blake* Donald R. Breivogel, Jr.
Stephen L. Blake (Attorney-in-fact)
(Director)
98
Certifications
I, Frederick W. Geissinger, President and Chief Executive Officer,
certify that:
1. I have reviewed this annual report on Form 10-K of American
General Finance, Inc.;
2. Based on my knowledge, this annual report does not contain any
untrue statement of a material fact or omit to state a material
fact necessary to make the statements made, in light of the
circumstances under which such statements were made, not
misleading with respect to the period covered by this annual
report;
3. Based on my knowledge, the financial statements, and other
financial information included in this annual report, fairly
present in all material respects the financial condition, results
of operations and cash flows of the registrant as of, and for,
the periods presented in this annual report;
4. The registrant's other certifying officer and I are responsible
for establishing and maintaining disclosure controls and
procedures (as defined in Exchange Act Rules 13a-14 and 15d-14)
for the registrant and have:
a) designed such disclosure controls and procedures to ensure
that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us
by others within those entities, particularly during the
period in which this annual report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this annual report (the "Evaluation
Date"); and
c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures
based on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed,
based on our most recent evaluation, to the registrant's auditors
and the audit committee of registrant's board of directors (or
persons performing the equivalent functions):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the
registrant's ability to record, process, summarize and
report financial data and have identified for the
registrant's auditors any material weaknesses in internal
controls; and
b) any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal controls; and
99
6. The registrant's other certifying officer and I have indicated in
this annual report whether there were significant changes in
internal controls or in other factors that could significantly
affect internal controls subsequent to the date of our most
recent evaluation, including any corrective actions with regard
to significant deficiencies and material weaknesses.
Date: March 14, 2003
/s/ Frederick W. Geissinger
Frederick W. Geissinger
President and Chief Executive
Officer
100
Certifications
I, Donald R. Breivogel, Jr., Senior Vice President and Chief Financial
Officer, certify that:
1. I have reviewed this annual report on Form 10-K of American
General Finance, Inc.;
2. Based on my knowledge, this annual report does not contain any
untrue statement of a material fact or omit to state a material
fact necessary to make the statements made, in light of the
circumstances under which such statements were made, not
misleading with respect to the period covered by this annual
report;
3. Based on my knowledge, the financial statements, and other
financial information included in this annual report, fairly
present in all material respects the financial condition, results
of operations and cash flows of the registrant as of, and for,
the periods presented in this annual report;
4. The registrant's other certifying officer and I are responsible
for establishing and maintaining disclosure controls and
procedures (as defined in Exchange Act Rules 13a-14 and 15d-14)
for the registrant and have:
a) designed such disclosure controls and procedures to ensure
that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us
by others within those entities, particularly during the
period in which this annual report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this annual report (the "Evaluation
Date"); and
c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures
based on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed,
based on our most recent evaluation, to the registrant's auditors
and the audit committee of registrant's board of directors (or
persons performing the equivalent functions):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the
registrant's ability to record, process, summarize and
report financial data and have identified for the
registrant's auditors any material weaknesses in internal
controls; and
b) any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal controls; and
101
6. The registrant's other certifying officer and I have indicated in
this annual report whether there were significant changes in
internal controls or in other factors that could significantly
affect internal controls subsequent to the date of our most
recent evaluation, including any corrective actions with regard
to significant deficiencies and material weaknesses.
Date: March 14, 2003
/s/ Donald R. Breivogel, Jr.
Donald R. Breivogel, Jr.
Senior Vice President and
Chief Financial Officer
102
SUPPLEMENTAL INFORMATION TO BE FURNISHED WITH REPORTS FILED PURSUANT TO
SECTION 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 BY REGISTRANTS
WHICH HAVE NOT REGISTERED SECURITIES PURSUANT TO SECTION 12 OF THE
SECURITIES EXCHANGE ACT OF 1934.
No annual report to security-holders or proxy material has been sent to
security-holders.
103
Exhibit Index
Exhibit
Number
(3) a. Restated Articles of Incorporation of American General
Finance, Inc. (formerly Credithrift Financial, Inc.) dated May
27, 1988 and amendments thereto dated September 7, 1988 and
March 20, 1989. Incorporated by reference to Exhibit (3)a.
filed as a part of the Company's Annual Report on Form 10-K
for the year ended December 31, 1988 (File No. 1-7422).
b. By-laws of American General Finance, Inc. Incorporated by
reference to Exhibit (3)b. filed as a part of the Company's
Annual Report on Form 10-K for the year ended December 31,
1992 (File No. 1-7422).
(4) a. The following instruments are filed pursuant to Item
601(b)(4)(ii) of Regulation S-K, which requires with certain
exceptions that all instruments be filed which define the
rights of holders of the Company's long-term debt and our
consolidated subsidiaries. In the aggregate, the outstanding
issuances of debt at December 31, 2002 under the following
Indenture exceeds 10% of the Company's total assets on a
consolidated basis:
Indenture dated as of May 1, 1999 from American General
Finance Corporation to Citibank, N.A. Incorporated by
reference to Exhibit (4)a.(1) filed as a part of our
Quarterly Report on Form 10-Q for the quarter ended
September 30, 2000 (File No. 1-7422).
b. In accordance with Item 601(b)(4)(iii) of Regulation S-K,
certain other instruments defining the rights of holders of
the Company's long-term debt and our subsidiaries have not
been filed as exhibits to this Annual Report on Form 10-K
because the total amount of securities authorized and
outstanding under each instrument does not exceed 10% of the
total assets of the Company on a consolidated basis. We
hereby agree to furnish a copy of each instrument to the
Securities and Exchange Commission upon request.
(12) Computation of ratio of earnings to fixed charges
(23)(a) Consent of PricewaterhouseCoopers LLP, Independent Accountants
(23)(b) Consent of Ernst & Young LLP, Independent Auditors
(24) Power of Attorney