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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 2000
Commission File Number 33-94670-01
FARMERS GROUP, INC.
Incorporated in Nevada I.R.S. Employer Identification No.
4680 Wilshire Boulevard 95-0725935
Los Angeles, California 90010
(323) 932-3200
Securities registered pursuant to Section 12(b) of the Act:
Name of Each Exchange
Title of Each Class on Which Registered
- --------------------- -----------------------
8.45% Cumulative Quarterly Income New York Stock Exchange
Preferred Securities, Series A (QUIPS)
(liquidation preference $25 per share)*
8.25% Cumulative Quarterly Income New York Stock Exchange
Preferred Securities, Series B (QUIPS)
(liquidation preference $25 per share)*
*Issued by Farmers Group Capital (Series A) and Farmers Group Capital II
(Series B) and the payments of trust distributions and payments on
liquidation or redemption are guaranteed under certain circumstances by
Farmers Group, Inc., the owner of 100% of the common securities issued by
Farmers Group Capital and Farmers Group Capital II, Delaware statutory
business trusts.
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 (or for such shorter period that
the registrant was required to file such reports), and (2) has been subject
to such filing requirements for the past 90 days.
Yes /X/ No / /
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. /X/
Registrant's Common Stock outstanding on December 31, 2000 was 1,000 shares.
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FARMERS GROUP, INC.
AND SUBSIDIARIES
TABLE OF CONTENTS
Page
------
PART I
ITEM 1. Business 4
ITEM 2. Properties 12
ITEM 3. Legal Proceedings 12
ITEM 4. Submission of Matters to a Vote of Security Holders 12
PART II
ITEM 5. Market for Farmers Group, Inc.'s Common Equity and
Related Stockholders Matters 12
ITEM 6. Selected Financial Data 12
ITEM 7. Management's Discussion and Analysis of Financial 14
Condition and Results of Operations
ITEM 7a. Quantitative and Qualitative Disclosures about Market
Risks 21
ITEM 8. Financial Statements and Supplementary Data 22
ITEM 9. Changes in and Disagreements with Accountants on 62
Accounting and Financial Disclosures
PART III
ITEM 10. Directors and Executive Officers of Farmers Group, Inc. 62
ITEM 11. Executive Compensation 64
ITEM 12. Security Ownership of Certain Beneficial Owners 67
and Management
ITEM 13. Certain Relationships and Related Transactions 67
PART IV
ITEM 14. Exhibits, Financial Statement Schedules and Reports 69
on Form 8-K
SIGNATURES 71
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DOCUMENT SUMMARY
The following summary is qualified in its entirety by the more detailed
information and the Consolidated Financial Statements of the Company,
including the notes thereto, appearing elsewhere in this document. Unless
the context requires otherwise, (i) references to the Company are to Farmers
Group, Inc. ("FGI") and its subsidiaries, (ii) references to the P&C Group are
to Farmers Insurance Exchange, Fire Insurance Exchange and Truck Insurance
Exchange (each an "Exchange" and collectively, the "Exchanges"), their
respective subsidiaries, Farmers Texas County Mutual Insurance Company
("FTCM"), Foremost County Mutual Insurance Company and Foremost Lloyds of Texas
in 2000 and to the Exchanges, their respective subsidiaries and FTCM in 1999
and 1998, (iii) references to Farmers Life are to Farmers New World Life
Insurance Company, (iv) references to the Life Insurance Subsidiaries are to
Farmers Life, The Ohio State Life Insurance Company ("OSL") and Investors
Guaranty Life Insurance Company ("IGL") and (v) references to the Insurance
Subsidiaries are to Farmers Life and Farmers Reinsurance Company ("Farmers Re")
in 2000, 1999 and 1998, to Farmers Life, OSL, IGL and Farmers Re in 1997 and to
Farmers Life, OSL and IGL in 1996. As a result of a unification of the holding
structure of the Zurich Financial Services Group in October 2000, Zurich
Financial Services was renamed Zurich Group Holding and a new group holding
company, Zurich Financial Services, was formed. As such, references to Zurich
are to the new group holding company, Zurich Financial Services.
Unless otherwise indicated, financial information, operating statistics
and ratios applicable to the Company and the Insurance Subsidiaries set forth
in this document are based on generally accepted accounting principles ("GAAP")
and the same information with regard to the P&C Group is based on statutory
accounting practices ("SAP"). Unless otherwise specified, the financial
information for the P&C Group is on a statutory combined basis. Any reference
to the "Subsidiary Trusts" is to Farmers Group Capital and Farmers Group
Capital II, consolidated wholly owned subsidiaries of Farmers Group, Inc. Any
reference to "Note" is to the Notes to Consolidated Financial Statements
included in Item 8 of this Report.
PART I
ITEM 1. Business
The Company
General. The Company's principal activities are the provision of
management services to the P&C Group and the ownership and operation of the
Insurance Subsidiaries. As of December 31, 2000, the Company had total assets
of $12.3 billion, stockholders' equity of $6.3 billion and for the period ended
December 31, 2000, the Company had consolidated operating revenues of $3.4
billion. As of December 31, 2000, the Insurance Subsidiaries had total assets
of $7.2 billion, combined SAP capital and surplus (including asset valuation
reserve) of $1.7 billion, life policies-in-force of 1.2 million and for the
period ended December 31, 2000, the Insurance Subsidiaries had combined SAP
life premiums and deposits received of $0.6 billion and non-life reinsurance
premiums of $1.0 billion. The financial results and assets and liabilities of
the P&C Group are not reflected in the consolidated financial statements of
the Company.
In December 1988, B.A.T Industries p.l.c. ("B.A.T") acquired 100%
ownership of the Company through its wholly owned subsidiary BATUS Financial
Services. Immediately thereafter, BATUS Financial Services was merged into
FGI. The acquisition was accounted for as a purchase and, accordingly, the
acquired assets and liabilities were recorded in the Company's consolidated
balance sheets based on their estimated market values at December 31, 1988.
In September 1998, the financial services businesses of B.A.T, which
included the Company, were merged with Zurich Insurance Company ("ZIC"). The
businesses of ZIC and the financial services businesses of B.A.T were
transferred to Zurich Group Holding ("ZGH"), formerly known as Zurich Financial
Services, a Swiss company with headquarters in Zurich, Switzerland. As a
result, each two shares of the Company's prior outstanding stock were
recapitalized into one share of Class A Common Stock, par value $1.00 per share
("Ordinary Shares"), and one share of Class B Common Stock, par value $1.00 per
share ("Income Shares"). Under the merger agreement, all Ordinary Shares
became wholly owned by ZGH and all Income Shares became wholly owned by Allied
Zurich Holdings Limited, an affiliated company created during the restructuring
of B.A.T. This merger was accounted for by ZGH as a pooling of interests under
International Accounting Standards.
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Operating Segments
Financial information by operating segment can be found in Note Z.
Following are descriptions of the Company's operating segments.
Provision of Management Services to the P&C Group; and Other. The
Company is attorney-in-fact ("AIF") for the Exchanges, which operate in the
property and casualty insurance industry. On March 7, 2000, the Exchanges
acquired Foremost Corporation of America and its subsidiaries ("Foremost"), a
prominent writer of insurance for manufactured homes, recreational vehicles and
other specialty lines. Each policyholder of the Exchanges appoints the Company
as the exclusive AIF to provide management services to the P&C Group. For such
services, the Company earns management fees based primarily on a percentage of
gross premiums earned by the P&C Group. The P&C Group is owned by the
policyholders of the Exchanges, FTCM and Foremost County Mutual Insurance
Company as well as the underwriters of Foremost Lloyds of Texas. Accordingly,
the Company has no ownership interest in the P&C Group nor is the Company
directly affected by the underwriting results of the P&C Group. This is in
contrast to a typical property and casualty insurance holding company which
depends on dividends from owned and operated subsidiaries which are subject to
fluctuations in underwriting results. The management fees comprise a
significant part of the Company's revenue and, as a result, the Company's
ongoing financial performance depends on the volume of business written by,
and the business efficiency and financial strength of, the P&C Group.
As AIF, the Company provides management services to the non-claims side
of the P&C Group's business. These management services include selecting
risks, preparing and mailing policy forms and invoices, collecting premiums and
performing certain other administrative and managerial functions. The P&C
Group is responsible for its own claims functions, including the settlement and
payment of claims and claims adjustment expenses. The P&C Group is also
responsible for the payment of commissions and bonuses for agents and district
managers, and its own premium and income taxes.
The Company is contractually permitted to receive a management fee based
on the gross premiums earned by the P&C Group. The range of fees has varied by
line of business over time. During the past five years, aggregate management
fees have averaged between 12% and 13% of gross premiums earned by the P&C
Group. In order to enable the P&C Group to maintain appropriate capital and
surplus while offering competitive insurance rates, the Company has
historically charged a lower management fee than the contractually permitted
fee of 20% (25% in the case of the Fire Insurance Exchange). The Company has
been able to do this while maintaining appropriate profit margins through
enhanced operating efficiencies that encompass the use of economies of scale
and technology and the standardization of procedures. The P&C Group has
reported a growing volume of premiums, which has generated a corresponding rise
in management fee income to the Company. Gross premiums earned by the P&C
Group on a U.S. GAAP basis were $11.4 billion, $10.8 billion and $10.3 billion
for 2000, 1999 and 1998, respectively, giving rise to management fee revenues
to the Company of $1.49 billion, $1.40 billion and $1.27 billion, respectively,
for the same years.
The P&C Group markets personal auto, homeowners, selected commercial and
specialty insurance products. For the year ended December 31, 2000,
approximately 59.1% of net premiums earned was from auto insurance policies,
22.9% was from homeowner policies and the remainder was primarily from
commercial policies. As of December 31, 2000, the P&C Group had total assets
of $16.1 billion, surplus as regards policyholders of $3.8 billion,
policies-in-force of 16.4 million and for the year ended December 31, 2000, had
gross premiums earned of $11.4 billion on a U.S. GAAP basis.
The Company, through its wholly owned subsidiary Prematic Service
Corporation ("Prematic"), allows individuals and businesses purchasing
insurance from one or more members of the P&C Group and Farmers Life to
combine, if they so choose, all premiums due into a single payment. In
practice, Prematic combines amounts due from a single insured for all policies
in-force into a single amount and then bills the insured on a periodic basis.
For this service, Prematic collected service fees totaling $81.6 million in
2000 and generated net income of $25.7
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million for the year. FGI has certain other nonmaterial subsidiaries, the
results of which are included in the Company's consolidated results.
Life Insurance. On April 15, 1997, the Company sold two of its life
insurance subsidiaries, OSL and IGL, to Great Southern Life Insurance Company,
a subsidiary of Americo Life, Inc. These subsidiaries contributed $5.5 million
to net income in 1997.
The Company's remaining life insurance subsidiary, Farmers Life, markets
a broad line of individual life insurance products, including universal life,
term life and whole life insurance, structured settlements and annuity
products, predominantly flexible premium deferred annuities. In 2000, Farmers
Life entered the variable universal life and annuities markets.
As of December 31, 2000, Farmers Life provided insurance to nearly 1.2
million people and managed approximately $1.7 billion of annuity funds.
Farmers Life's investment philosophy emphasizes long-term fundamental value in
the selection of the investment mix for its portfolio. As of December 31,
2000, approximately 77.4% of Farmers Life's portfolio was invested in fixed
income securities and cash and 6.4% in equity securities and owned real estate.
As of December 31, 2000, approximately 93.6% of Farmers Life's fixed income
securities were rated investment grade. Farmers Life's ratio of SAP capital
and surplus (including asset valuation reserve) to total assets as of December
31, 2000 was 22.3%.
Farmers Reinsurance Company. Farmers Re is a wholly owned subsidiary of
FGI. On January 1, 1998, Farmers Re entered into an auto physical damage
reinsurance treaty with the P&C Group. This treaty provides for monthly
premiums of $83.3 million and recoveries of a quota share percentage of
ultimate net losses sustained by the P&C Group in its auto physical damage
lines of business. This treaty, which will remain in effect until terminated
by either party, also provides for the P&C Group to receive a provisional
ceding commission of 20% of premiums with additional experience commissions
that depend on loss experience. This experience commission arrangement limits
Farmers Re's potential underwriting gain on the assumed business to 2.5% of
premiums assumed.
Under this quota share reinsurance treaty, Farmers Re assumed $1,000.0
million of premiums in 2000, 1999 and 1998. Total losses and loss adjustment
expenses paid by Farmers Re were $596.9 million, $554.8 million and $549.2
million in 2000, 1999 and 1998, respectively, while total reinsurance
commissions paid were $288.1 million in 2000, $313.7 million in 1999 and $319.9
million in 1998. In March 2000, Farmers Re and the P&C Group commuted $106.4
million of losses and loss adjustment expenses associated with the 1999
accident year. As a result, in May 2000, Farmers Re paid the P&C Group $106.4
million of losses and loss adjustment expenses and $9.0 million of accrued
interest in settlement of this commutation. Similarly, in March 1999, Farmers
Re and the P&C Group commuted $105.9 million of losses and loss adjustment
expenses associated with the 1998 accident year. In order to settle this
commutation, in May 1999, Farmers Re paid the P&C Group $105.9 million of
losses and loss adjustment expenses and $8.2 million of accrued interest.
Employees
As of December 31, 2000, the Company had 7,533 employees.
Business Environment
Strategic Objectives. The Company's strategic objective is to assist
the Farmers Insurance Group of Companiesr in providing world-class personal
insurance and a full range of financial services solutions to individuals,
families and small businesses, thereby earning them the reputation of being
first choice in protecting and building people's assets within their chosen
markets. The Company intends to achieve this objective by (i) maintaining its
long-standing tradition of providing high-quality customer service, (ii)
expanding the Company's portfolio of value-added products and services, (iii)
cross-selling insurance products and services to the P&C
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Group's more than 10.5 million existing customers, (iv) investing in technology
to improve the efficiency and quality of service, (v) capitalizing on the
strong brand name recognition of Farmers Insurance Group of Companies in
their 41 state operating territory and (vi) forming strategic alliances to
capitalize on the distribution capabilities of the agency force.
Marketing and Distribution. The P&C Group and Farmers Life operate
using federally registered trade names, including Farmers Insurance Group of
Companiesr, Farmers Insurance Groupr and Farmersr, and distribute their
respective insurance products in 29 states (primarily in western and midwestern
states) through a common network of direct writing agents and district
managers. As of December 31, 2000, this network consisted of approximately
15,000 direct writing agents and approximately 500 district managers, each of
whom is an independent contractor. The size, efficiency and scope of this
agency force have made it a major factor in the Company's growth. Each direct
writing agent is required to first submit business to the insurers in the
Farmers Insurance Group of Companies within the classes and lines of business
written by such insurers. To the extent that such insurers decline such
business, or do not underwrite it, the direct writing agents may offer the
business to other insurers.
Farmers' direct writing agents market to family accounts and small
businesses. They leverage these relationships using an extensive portfolio of
products to increase the number of policies per household or account. The P&C
Group's existing relationships with more than 10.5 million customers provide a
potential opportunity for future growth in policies-in-force and life insurance
sales. Higher retention rates and profitability are expected to be achieved on
business written with households having multiple policies.
Farmers promotes its brand name throughout its operating territory
through television, radio and print advertising on both a national and local
basis. To further assist the direct writing agency force in marketing Farmers'
products, they are provided access to the Farmers Agency Information Management
System which enables the agent to deliver high-quality consumer focused service
at the point of sale. Furthermore, Farmers' formalized policyholder recontact
program, the "Farmers Friendly Reviewr", builds customer loyalty and provides
a vehicle for enhanced policy retention and future internal growth through the
cross-selling of property and casualty and life products. Additionally, in
2000, Farmers completed the rollout of its Agency Dashboard to the entire
direct writing agency force in its core 29-state territory. The Agency
Dashboard is a secure internet website that the Farmers agency force can use to
obtain forms, manuals, sales brochures and online training, as well as the
latest news and bulletins they need to efficiently run their businesses. In a
rapidly evolving U.S. personal lines market place, the Agency Dashboard gives
Farmers' agents a major competitive edge, taking advantage of internet
technology.
In 1999, the Company and the P&C Group expanded their operations into
twelve new eastern states and expanded into new specialty lines of business,
such as recreational products. This was a result of the merger with ZIC and
was accomplished with the assistance of Zurich Personal Insurance employees,
who became employees of either the Company or the P&C Group as of
January 1, 2000. The distribution of Farmers' products in these new eastern
states is accomplished through a network of approximately 800 independent
agents, many of whom have established books of business.
Additionally, in 2000, the Exchanges' acquisition of Foremost enabled the
P&C Group to increase its presence in the specialty homeowners market and
enabled the P&C Group's direct writing agency force to distribute Foremost
products. Foremost writes insurance throughout the United States,
particularly in southern and southwestern states. Foremost's insurance
products are primarily offered through three distribution channels: general and
independent agents, mobile home and recreational vehicle dealer agents and
direct marketing.
Competition. Property and casualty insurance is a very competitive
industry with approximately 3,300 insurers operating in the United States.
Many property and casualty insurers with a small all-lines national market
share have a significant market share within a single state or a specialty
market. The P&C Group competes in its
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selected markets through brand name recognition of the Farmers Insurance
Group of Companies, customer service, product features, financial strength,
price and the agency force.
There is substantial competition among insurance companies seeking
customers for the types of products sold by Farmers Life. Approximately 1,500
life insurance companies in the United States offer products similar to those
offered by Farmers Life, and many use similar marketing techniques. Farmers
Life competes on the basis of customer service, product features, financial
strength and price. Many of the products offered by Farmers Life contain
significant cash accumulation features; therefore, these products compete with
product offerings of banks, mutual funds and other financial institutions as
well.
Regulatory and Related Matters. The Insurance Subsidiaries and the P&C
Group are subject to extensive state regulatory oversight in the jurisdictions
in which they do business. The Company and the P&C Group constitute an
insurance holding company system as defined by the insurance laws and
regulations of various jurisdictions. As such, certain transactions between an
insurance company and any other member company of the system, including
investments in subsidiaries and distributions by an insurance company to its
shareholders, are subject to regulation and oversight by the state of domicile
of the applicable insurance company and certain other states where the
insurance company writes a substantial amount of insurance business. Insurers
having insufficient statutory capital and surplus are subject to varying
degrees of regulatory action depending on the level of capital inadequacy. As
of December 31, 2000, neither the Insurance Subsidiaries nor the P&C Group were
subject to such regulatory actions. Most of the business of Farmers Life and
the P&C Group is subject to regulation with respect to policy rates and related
matters. In addition, assessments are levied against Farmers Life and the P&C
Group as a result of participation in various types of mandatory state guaranty
associations. Existing federal laws and regulations affect the taxation of
life insurance products and insurance companies.
Investments
During the years ended December 31, 2000, 1999 and 1998, the Insurance
Subsidiaries had pretax net investment income and realized investment gains/
(losses) of $414.5 million, $360.4 million and $292.6 million, respectively,
and the Company other than the Insurance Subsidiaries (collectively, the
"Noninsurance investment portfolio") had pretax net investment income and
realized investment gains of $195.6 million, $192.7 million and $197.5 million,
respectively. As of December 31, 2000, the book value of the Insurance
Subsidiaries investment portfolio was approximately $5.6 billion and the book
value of the Noninsurance investment portfolio was approximately $1.5 billion.
The Board of Directors of the Company is responsible for developing investment
policies and the Investment Committee, which is comprised of eleven officers
of the Company who are appointed by the Board of Directors, is responsible for
administering such policies. During 1998, Zurich Scudder Investments, Inc.,
formerly known as Scudder Kemper Investments, Inc., took over management of the
Insurance Subsidiaries investment portfolio and the Noninsurance investment
portfolio in accordance with these policies. Prior to that, the Company's
investment department managed these portfolios.
The investment philosophy for both the Insurance Subsidiaries investment
portfolio and the Noninsurance investment portfolio emphasizes long-term
fundamental value in the selection of the investment mix. For the Insurance
Subsidiaries, the assets backing the Farmers Life interest sensitive investment
portfolio are internally segregated along product lines in order to closely
match the funding assets with the underlying liabilities to policyholders. The
asset/liability matching system is the basis by which credited interest rates
are determined. In the Noninsurance investment portfolio, excluding
certificates of contribution and surplus notes of the P&C Group and notes from
affiliates, relatively short maturities are maintained to ensure liquidity.
The Insurance Subsidiaries investment portfolio and the Noninsurance
investment portfolio are both comprised of a broad range of assets, including
corporate fixed income securities, mortgage-backed securities, taxable and
tax-exempt government securities, preferred stock, common stock, owned real
estate, mortgage loans and short-term instruments. The Insurance Subsidiaries
investment portfolio also includes policy loans and Standard & Poor's 500
Composite Stock Price Index ("S&P 500") call options. Approximately 20.3% of
the
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Noninsurance investment portfolio consists of notes issued by Zurich
Financial Services (UKISA) Limited, formerly known as British American
Financial Services (UK and International), Ltd., ("UKISA"), a subsidiary of
ZGH, and 16.8% consists of a note issued by Orange Stone (Delaware) Holdings
Limited, formerly known as Old Stone (Delaware) Holdings Limited, ("OSDH"),
also a subsidiary of ZGH. Approximately 12.5% and 8.9% of the Noninsurance
investment portfolio and the Insurance Subsidiaries investment portfolio,
respectively, consists of certificates of contribution and surplus notes of
the P&C Group. See Item 13 and Notes F and G.
Approximately 94.2% of the fixed income securities in the Insurance
Subsidiaries investment portfolio are rated investment grade and approximately
96.3% of the fixed income securities in the Noninsurance investment portfolio
are rated investment grade. Approximately 59.1% of the mortgage-backed
securities in the Insurance Subsidiaries investment portfolio are guaranteed by
the Government National Mortgage Association ("GNMA"), Federal Housing
Authority ("FHA"), Federal National Mortgage Association ("FNMA") or Federal
Home Loan Mortgage Corporation ("FHLMC"), and approximately 87.1% of the
remaining 40.9% are rated "AAA". Approximately 36.1% of the mortgage-backed
securities in the Noninsurance investment portfolio are guaranteed by GNMA,
FHA, FNMA or FHLMC, and the remaining 63.9% are rated "AAA".
The following table sets forth the book value of each portfolio, by asset
category, as of December 31, 2000 and 1999.
Book Value of Invested Assets
(Amounts in millions)
As of December 31,
-------------------------------------------------------------
2000 1999
------------------------- ---------------------------
Book Value % Book Value %
---------- --------- ---------- ----------
Insurance Subsidiaries
Fixed income securities $ 4,375.3 77.5 % $ 4,376.3 85.0 %
Mortgage loans 37.0 0.6 35.9 0.7
Equity securities 304.9 5.4 213.4 4.2
Owned real estate 89.4 1.6 66.7 1.3
Cash and cash equivalents 84.4 1.5 96.0 1.9
Certificates of contribution and
surplus notes of the P&C Group 502.5 8.9 119.0 2.3
Policy loans 218.2 3.8 201.7 3.9
S&P 500 call options 26.3 0.5 32.7 0.6
Other 9.9 0.2 6.7 0.1
--------- ------- ---------- ----------
Total $ 5,647.9 100.0 % $ 5,148.4 100.0 %
========= ======= ========== ==========
Noninsurance
Fixed income securities $ 302.2 20.3 % $ 578.3 23.0 %
Mortgage loans 0.1 0.0 0.1 0.0
Equity securities 242.1 16.3 334.2 13.3
Owned real estate 69.7 4.7 49.5 2.0
Cash and cash equivalents 132.3 8.9 217.5 8.7
Certificates of contribution and
surplus notes of the P&C Group 184.8 12.5 23.3 0.9
UKISA notes 302.0 20.3 1,057.0 42.1
OSDH note 250.0 16.8 250.0 10.0
Other 3.3 0.2 0.8 0.0
--------- ------- ---------- ----------
Total $ 1,486.5 100.0 % $ 2,510.7 100.0 %
========= ======= ========== ==========
Investment Accounting Policies. The Company follows the provisions of
Statement of Financial Accounting Standards ("SFAS") No. 115, "Accounting for
Certain Investments in Debt and Equity Securities".
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This Statement addresses the accounting and reporting for investments in equity
securities that have readily determinable market values and for all
investments in debt securities. As of December 31, 2000 and 1999,the Company
classified all investments in equity and debt securities as available-for-sale
under SFAS No. 115, with the exception of $61.1 million in 2000 and $59.7
million in 1999 which relate to a grantor trust and are classified as trading
securities under SFAS No. 115. The available-for-sale investments are reported
on the balance sheet at market value, with unrealized gains and losses, net of
tax, excluded from earnings and reported as a component of stockholders'
equity. The trading investments are reported on the "Other assets" line of the
consolidated balance sheet at market value with both realized and unrealized
gains and losses included in earnings, net of tax, in the year in which they
occur.
In compliance with a Securities and Exchange Commission ("SEC") staff
announcement, the Company has recorded certain entries to the Deferred Policy
Acquisition Costs ("DAC") and Value of Life Business Acquired ("VOLBA") line of
the consolidated balance sheet in connection with SFAS No. 115. The SEC
requires that companies record entries to those assets and liabilities that
would have been adjusted had the unrealized investment gains or losses from
securities classified as available-for-sale actually been realized, with
corresponding credits or charges reported directly to stockholders' equity.
Real estate held for investment is accounted for on a depreciated cost
basis. Real estate held for sale is carried at the lower of fair value less
selling costs or depreciated cost less a valuation allowance. Marketable
securities are carried at market. Other investments, which consist primarily
of the UKISA notes receivable, the OSDH note receivable, certificates of
contribution of the P&C Group, surplus notes of the P&C Group and policy loans,
are carried at the unpaid principal balances.
S&P 500 call options, which are held by Farmers Life, are carried at
estimated fair value. Unrealized gains and losses resulting from changes in
the estimated fair value of the call options are recorded as an adjustment to
the interest liability credited to policyholders. In addition, realized gains
and losses from maturity or termination of the call options are offset against
the interest credited to policyholders during the period incurred. Premiums
paid on call options are amortized to net investment income over the term of
the contracts.
Fixed Income Securities. As of December 31, 2000, approximately 77.5% of
the Insurance Subsidiaries investment portfolio and 20.3% of the Noninsurance
investment portfolio were invested in fixed income securities. These
investments included taxable and tax-exempt government securities, domestic and
foreign corporate bonds, redeemable preferred stock and mortgage-backed
securities. Approximately 94.2% and 96.3% of the fixed income securities in
the Insurance Subsidiaries investment portfolio and Noninsurance investment
portfolio, respectively, were rated investment grade. The following table sets
forth the market values of the various categories of fixed income securities
included within the portfolios as of December 31, 2000.
Value of Fixed Income Securities
(Amounts in millions)
Insurance Subsidiaries Noninsurance Total
---------------------- ----------------------- -----------------------
Market Market Market
Value % Value % Value %
----------- -------- ----------- --------- ----------- ---------
Mortgage-backed $ 2,002.1 45.8 % $ 103.1 34.1 % $ 2,105.2 45.0 %
Corporate 1,851.3 42.3 28.5 9.4 1,879.8 40.2
U.S. Government 262.5 6.0 0.4 0.1 262.9 5.6
Municipal 165.7 3.8 159.5 52.8 325.2 7.0
Foreign 63.1 1.4 0.0 0.0 63.1 1.3
Redeemable preferred stock 30.6 0.7 10.7 3.6 41.3 0.9
--------- ------- -------- ------- --------- -------
Total $ 4,375.3 100.0 % $ 302.2 100.0 % $ 4,677.5 100.0 %
========= ======= ======== ======= ========= =======
Credit Ratings. The National Association of Insurance Commissioners
("NAIC") maintains a valuation system that assigns quality ratings known as
"NAIC designations" to publicly traded and privately placed fixed
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income securities. The NAIC designations range from 1 to 6, with categories 1
(highest) and 2 considered investment grade and categories 3 through 6
(lowest) considered non-investment grade. As of December 31, 2000, the
Insurance Subsidiaries held $253.8 million in below investment grade bonds,
representing 4.5% of total invested assets, and the Noninsurance investment
portfolio held $10.7 million in below investment grade bonds, representing
0.7% of total invested assets.
Mortgage-backed Securities. Mortgage-backed securities ("MBS") are the
largest component of the Insurance Subsidiaries fixed income portfolio,
representing approximately 45.8% of its fixed income portfolio, as of December
31, 2000. The Noninsurance investment portfolio's MBS represented
approximately 34.1% of its fixed income portfolio as of December 31, 2000.
Approximately 59.1% of the MBS in the Insurance Subsidiaries investment
portfolio are guaranteed by various government agencies and government
sponsored entities, including the GNMA, FHA, FNMA or FHLMC, and 87.1% of the
remaining 40.9% are rated "AAA". Approximately 36.1% of the MBS in the
Noninsurance investment portfolio are guaranteed by GNMA, FHA, FNMA or FHLMC,
and the remaining 63.9% are rated "AAA". The primary risk in holding MBS is
the cash flow uncertainty that arises from changes to prepayment speeds as
interest rates fluctuate. To reduce the uncertainties surrounding the cash
flows of MBS, the Insurance Subsidiaries investment portfolio held significant
MBS investments in collateralized mortgage obligations ("CMOs") including
$704.4 million of planned amortization classes ("PACs") and $18.0 million of
targeted amortization classes ("TACs"), and the Noninsurance investment
portfolio held $5.0 million of PACs. These securities provide protection by
passing a substantial portion of the risk of prepayment uncertainty to other
tranches.
Mortgage Loans. As of December 31, 2000, the Insurance Subsidiaries
investment portfolio included mortgage loans with an aggregate book value of
approximately $37.0 million, or 0.6%, of total invested assets, and the
Noninsurance investment portfolio included mortgage loans of $0.1 million.
All mortgage loans included in the Insurance Subsidiaries investment
portfolio are secured by first mortgages. The majority of the mortgage loan
portfolio consists of loans secured by office buildings, light industrial
properties and retail properties located primarily in unanchored shopping
centers. Exposure to potential losses from future mortgage loan foreclosures
and the operation or sale of properties acquired through foreclosures is
limited because the Insurance Subsidiaries have not issued any mortgage loans
since 1989, and the majority of the individual remaining mortgage loan balances
are less than $1.0 million.
Equity Securities. In order to diversify and to limit its exposure in
any single market sector, the Company's common stock portfolio is invested in
the equities of many of the 3,000 largest United States Companies, which
represent approximately 98% of the investable United States equity market.
Owned Real Estate. As of December 31, 2000, the Insurance Subsidiaries
investment portfolio included owned real estate investments with a book value
of $89.4 million, or 1.6% of total invested assets, and the Noninsurance
investment portfolio included owned real estate investments with a book value
of $69.7 million, or 4.7% of total invested assets. The Insurance Subsidiaries
real estate holdings fall into two categories: real property assets that were
acquired directly as an equity investment and foreclosed equity real estate
properties. The Noninsurance investment portfolio owned real estate holdings
were all acquired directly as equity investments.
Problem Investments-Fixed Income Securities. In 2000, the Company wrote
down approximately $22.4 million in fixed income securities held in the
Insurance Subsidiaries investment portfolio. As of December 31, 2000, none of
the fixed income securities held in the Noninsurance investment portfolio or
the Insurance Subsidiaries investment portfolio were classified as "problem" or
"potential problem" assets.
Problem Investments-Mortgage Loan Investments. As of December 31, 2000,
none of the mortgage loans held by the Insurance Subsidiaries investment
portfolio or the Noninsurance investment portfolio were classified as "troubled
loans".
12
ITEM 2. Properties
The Company owns three buildings in Los Angeles and eleven business
service centers in which its administrative operations are conducted. In
addition, the Company owns a building in the state of Washington in which the
operations of Farmers Life are conducted.
ITEM 3. Legal Proceedings
The Company is a party to numerous lawsuits arising from its normal
business activities. These actions are in various stages of discovery and
development, and some seek punitive as well as compensatory damages. In the
opinion of management, the Company has not engaged in any conduct which should
warrant the award of any material punitive or compensatory damages. The
Company intends to vigorously defend its position in each case, and management
believes that, while it is not possible to predict the outcome of such matters
with absolute certainty, ultimate disposition of these proceedings should not
have a material adverse effect on the Company's consolidated results of
operations or financial position. In addition, the Company is, from time to
time, involved as a party in various governmental and administrative
proceedings.
ITEM 4. Submission of Matters to a Vote of Security Holders
The shareholders of the Company held their annual meeting on April 24,
2000. Martin D. Feinstein, Jason L. Katz, John H. Lynch and Keitha T.
Schofield were re-elected to the Board of Directors (the "Board") of the
Company. New directors elected to the Board include Cecilia M. Claudio, Gerald
E. Faulwell, Stephen J. Feely, Leonard H. Gelfand, Paul N. Hopkins, Stephen J.
Leaman and C. Paul Patsis. The election of each director was unanimous and
uncontested. No other matters were voted upon at this meeting.
PART II
ITEM 5. Market for Farmers Group, Inc.'s Common Equity and Related
Stockholders Matters
N/A
ITEM 6. Selected Financial Data
The following table sets forth summary consolidated income statement data,
consolidated balance sheet data and other operating data for the periods
indicated. The following consolidated income statement data of the Company for
each of the years in the five-year period ended December 31, 2000, and the
consolidated balance sheet data of the Company as of December 31, 2000 and each
of the preceding four years ended December 31, have been derived from the
Company's audited consolidated financial statements. The following data should
be read in conjunction with the Company's Consolidated Financial Statements and
related notes, "Management's Discussion and Analysis of Financial Condition and
Results of Operations" and other financial information appearing elsewhere
herein.
Income statement data includes the effect of amortizing the purchase
accounting entries related to B.A.T's acquisition of the Company in December
1988. Major items incorporated in the purchase price of the Company include
goodwill and the value of the AIF relationships of the P&C Group (see Note A).
The amortization of these two items, which is being taken on a straight-line
basis over forty years, reduced annual pretax income by approximately $102.8
million in each of the years 1996 through 2000.
13
Year ended December 31,
-------------------------------------------------------------------
2000 1999 1998 1997 1996
----------- ----------- ----------- ----------- -----------
(Amounts in millions)
INCOME STATEMENT DATA
Consolidated operating revenues $ 3,446.5 $ 3,270.4 $ 3,031.2 $ 2,009.0 $ 2,013.2
=========== =========== =========== =========== ===========
Management services to property
and casualty insurance companies;
and other:
Operating revenues $ 1,588.8 $ 1,489.7 $ 1,358.2 $ 1,324.9 $ 1,245.4
----------- ----------- ----------- ----------- -----------
Salaries and employee benefits 406.3 373.2 328.6 335.8 337.2
Buildings and equipment expenses 104.0 91.5 145.4 95.8 87.3
Amortization of AIF relationships
and goodwill 102.8 102.8 102.8 102.8 102.8
General and administrative expenses 278.0 266.3 204.1 202.6 170.3
----------- ----------- ----------- ----------- -----------
Total operating expenses 891.1 833.8 780.9 737.0 697.6
Merger related expenses(see Note E) 0.0 0.2 21.1 0.0 0.0
----------- ----------- ----------- ----------- -----------
Total expenses 891.1 834.0 802.0 737.0 697.6
----------- ----------- ----------- ----------- -----------
Operating income 697.7 655.7 556.2 587.9 547.8
Net investment income 127.1 117.5 135.1 144.2 112.8
Net realized gains 68.5 75.3 62.4 73.4 5.1
Gain on sale of subsidiaries 0.0 0.0 0.0 19.0 0.0
Dividends on preferred securities
of subsidiary trusts (42.1) (42.1) (42.1) (42.1) (42.1)
----------- ----------- ----------- ----------- -----------
Income before provision for
taxes 851.2 806.4 711.6 782.4 623.6
Provision for income taxes 348.1 325.3 290.8 332.2 275.1
----------- ----------- ----------- ----------- -----------
Management services income 503.1 481.1 420.8 450.2 348.5
----------- ----------- ----------- ----------- -----------
Insurance Subsidiaries:
Life and annuity premiums 228.7 209.7 173.9 161.1 170.4
Non-life reinsurance premiums 1,000.0 1,000.0 1,000.1 0.0 0.0
Life policy charges 214.5 210.6 206.4 216.6 241.7
Net investment income 353.4 335.6 307.4 293.2 317.7
Net realized gains/(losses) 61.1 24.8 (14.8) 13.2 38.0
----------- ----------- ----------- ----------- -----------
Total revenues 1,857.7 1,780.7 1,673.0 684.1 767.8
----------- ----------- ----------- ----------- -----------
Non-life losses and loss adjustment
expenses 686.9 661.3 655.1 0.0 0.0
Life policyholders' benefits
and charges 381.0 347.8 308.3 294.4 335.1
Amortization of deferred policy
acquisition costs and value of
life business acquired 108.8 102.6 90.1 104.0 108.8
Life net commissions 3.9 13.5 18.9 18.2 21.0
Non-life reinsurance commissions 288.1 313.7 319.9 0.0 0.0
General and administrative expenses 51.7 44.3 41.7 47.8 63.4
----------- ----------- ----------- ----------- -----------
Total operating expenses 1,520.4 1,483.2 1,434.0 464.4 528.3
----------- ----------- ----------- ----------- -----------
Income before provision for
taxes 337.3 297.5 239.0 219.7 239.5
Provision for income taxes 115.1 101.6 83.0 76.4 80.1
----------- ----------- ----------- ----------- -----------
Insurance Subsidiaries
income 222.2 195.9 156.0 143.3 159.4
----------- ----------- ----------- ----------- -----------
Consolidated net income $ 725.3 $ 677.0 $ 576.8 $ 593.5 $ 507.9
=========== =========== =========== =========== ===========
BALANCE SHEET DATA
Total investments (1) $ 7,134.4 $ 7,659.1 $ 7,402.2 $ 6,576.0 $ 6,605.3
Total assets 12,333.8 12,796.3 12,686.6 12,117.4 12,928.8
Total debt 0.0 0.0 0.0 0.1 0.2
Company obligated mandatorily
redeemable preferred securities
of subsidiary trusts holding
solely junior subordinated
debentures ("QUIPS") 500.0 500.0 500.0 500.0 500.0
Stockholders' equity 6,256.4 (2) 7,099.2 7,034.4 6,781.6 6,503.8
OTHER OPERATING DATA (unaudited)
Ratio of debt to total
capitalization (3) 7.4 % 6.6 % 6.6 % 6.9 % 7.1 %
Ratio of earnings to fixed
charges (4) 22.9 x 21.0 x 19.5 x 20.2 x 15.5 x
- ----------------------------
(1) Includes cash and cash equivalents, marketable securities and notes
receivable-affiliates.
(2) On October 23, 2000, a $1,075,000,000 special dividend was paid to Allied
Zurich Holdings Limited in connection with the Zurich capital structure
unification in October 2000.
(3) The ratio of debt to total capitalization has been determined by dividing
the sum of total debt plus QUIPS by stockholders' equity plus QUIPS.
(4) The ratio of earnings to fixed charges has been determined by dividing
the sum of income before income taxes plus fixed charges by fixed charges.
Fixed charges consist of interest, capitalized interest, dividends paid to
QUIPS holders, amortization of QUIPS offering expenses and that portion of
rent expenses deemed to be interest.
14
ITEM 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations
General
The Company's principal activities are the provision of management
services to the P&C Group and the ownership and operation of the Insurance
Subsidiaries. Revenues and expenses relating to these principal business
activities are reflected in the Company's Consolidated Financial Statements
prepared in accordance with GAAP, which differs from SAP, which the Insurance
Subsidiaries are required to use for regulatory reporting purposes.
On March 7, 2000, the Exchanges acquired Foremost, a prominent writer of
insurance for manufactured homes, recreational vehicles and other specialty
lines. The Company provides management services in respect of this business
and, as with its services to the P&C Group, receives compensation based on a
percentage of gross premiums earned.
Farmers Life, a wholly owned subsidiary of the Company, underwrites and
sells life insurance, structured settlement and annuity products as well as
variable universal life and variable annuity products. Revenues attributable
to traditional life insurance products, such as whole life or term life
contracts, as well as structured settlements with life contingencies are
classified as premiums as they become due. Future benefits are associated with
such premiums (through increases in liabilities for future policy benefits),
and prior period capitalized costs are amortized (through amortization of DAC)
so that profits are generally recognized over the same period as revenue
income. Revenues attributable to universal life, variable universal life and
variable annuity products consist of policy charges for the cost of insurance,
policy administration charges, surrender charges and investment income on
assets allocated to support policyholder account balances on deposit. Revenues
for deferred annuity products consist of surrender charges and investment
income on assets allocated to support policyholder account balances. Expenses
on universal life and annuity policies as well as on variable products include
interest credited to policyholders on policy balances as well as benefit claims
incurred in excess of policy account balances. Revenues attributable to
structured settlements without life contingencies consist of investment income
on assets allocated to support the policyholder benefits schedule and expenses
consist of interest credited to policyholders on policy balances.
The Company provides reinsurance coverage to the P&C Group through its
subsidiary, Farmers Re, which was formed and licensed to conduct business in
December 1997. In January 1998, Farmers Re entered into a quota share
reinsurance treaty with the P&C Group under which it reinsures a percentage of
the auto physical damage business written by the P&C Group (see Note C).
Year Ended December 31, 2000 Compared to Year Ended December 31, 1999
Management Services to Property and Casualty Insurance Companies; and Other
Operating Revenues. Operating revenues, which primarily consist of
management fees paid to the Company as a percentage of gross premiums earned by
the P&C Group, increased from $1,489.7 million in 1999, to a record level of
$1,588.8 million in 2000, an increase of $99.1 million, or 6.7%. This growth
was primarily attributable to higher volumes of gross premiums earned by the
P&C Group, which increased $589.5 million, or 5.5%, to $11,394.4 million in
2000. The increase in gross premiums earned was driven primarily by $390.3
million of premiums earned as a result of the acquisition of Foremost. Growth
in Commercial and Fire management fees also contributed to the increase in
management fees between years.
Total Expenses.
Salaries and Employee Benefits. Salaries and employee benefits
increased from $373.2 million in 1999 to $406.3 million in 2000, an
increase of $33.1 million, or 8.9%. This increase was due to $35.9
million
15
of expenses incurred in connection with providing management services to
the business assumed from Foremost.
Buildings and Equipment Expenses. Buildings and equipment expenses
increased from $91.5 million in 1999 to $104.0 million in 2000, an
increase of $12.5 million, or 13.7%, due primarily to expenses incurred in
connection with providing management services to the business assumed from
Foremost.
Amortization of AIF Relationships and Goodwill. Purchase accounting
entries related to the acquisition of the Company by B.A.T in December
1988 include both goodwill (capitalized at $2.4 billion) and the value of
the AIF relationships of the P&C Group (capitalized at $1.7 billion). The
amortization of these two items, which is being taken on a straight-line
basis over forty years, reduced pretax income by approximately $102.8
million for both 2000 and 1999.
General and Administrative Expenses. General and administrative
expenses increased from $266.3 million in 1999 to $278.0 million in 2000,
an increase of $11.7 million, or 4.4%. This increase was a result of
expenses incurred in connection with providing management services to the
business assumed from Foremost. Partially offsetting this increase in
expense between years was $3.7 million of Year 2000 Project related
expenses incurred in 1999. No similar expenses were incurred in 2000.
Merger Related Expenses. Expenses incurred by the Company as a
result of the merger between B.A.T's financial services businesses and ZIC
amounted to $0.2 million in 1999 (see Note E).
Net Investment Income. Net investment income increased from $117.5
million in 1999 to $127.1 million in 2000, an increase of $9.6 million, or
8.2%, due to higher investment yields.
Net Realized Gains. Net realized gains decreased from $75.3 million in
1999 to $68.5 million in 2000, a decrease of $6.8 million, or 9.0%. This
decrease was due primarily to losses incurred on sales of bonds in the third
quarter of 2000 as a result of the liquidation of a sizable portion of the
fixed income portfolio which was used to help fund the payment of the $1,075.0
million special dividend associated with the Zurich capital structure
unification in October 2000.
Dividends on Preferred Securities of Subsidiary Trusts. Dividend expense
related to the $500.0 million of QUIPS issued in 1995 was $42.1 million in both
1999 and 2000.
Provision for Income Taxes. Provision for income taxes increased from
$325.3 million in 1999 to $348.1 million in 2000, an increase of $22.8 million,
or 7.0%, as a result of an increase in pretax income between years.
Management Services Income. As a result of the foregoing, management
services income increased from $481.1 million for the year ended December 31,
1999 to $503.1 million for the year ended December 31, 2000, an increase of
$22.0 million, or 4.6%.
Insurance Subsidiaries
Farmers Re
Under the quota share reinsurance treaty, Farmers Re assumed $1,000.0
million of premiums in each of the years ended 2000 and 1999. Losses and loss
adjustment expenses incurred under this treaty were $686.9 million in 2000 and
$661.3 million in 1999 and non-life reinsurance commissions paid were $288.1
million in 2000 and $313.7 million in 1999. Income before taxes increased from
$53.3 million in 1999 to $77.3 million in 2000, an increase of $24.0 million,
or 45.0%. This increase was due primarily to increased realized capital gains
and
16
investment income. Farmers Re's contribution to net income was $52.6 million
and $37.7 million in 2000 and 1999, respectively.
Farmers Life
Total Revenues. Total revenues increased from $752.2 million in 1999 to
$805.0 million in 2000, an increase of $52.8 million, or 7.0%.
Life and Annuity Premiums. Life and annuity premiums increased $19.0
million, or 9.1%, between years. This growth in premiums was due to an
increase in the volume of traditional policies in-force as well as an
increase in the number of structured settlements with life contingencies
issued in 2000.
Life Policy Charges. Life policy charges increased $3.9 million in
2000, or 1.8%, over 1999, reflecting growth in universal life-type
insurance in-force.
Net Investment Income. Net investment income increased $14.3
million, or 4.7%, over 1999 due primarily to an increase in average
invested assets.
Net Realized Gains. Net realized gains increased $15.6 million, or
64.5%, from $24.2 million in 1999 to $39.8 million in 2000 due primarily
to an increase in gains realized on stock sales.
Total Operating Expenses. Total operating expenses increased from $508.0
million in 1999 to $545.0 million in 2000, an increase of $37 million, or 7.3%.
Life Policyholders' Benefits and Charges. Life policyholders'
benefits expense and charges increased from $347.8 million in 1999 to
$381.0 million in 2000, an increase of $33.2 million, or 9.5%.
Policy Benefits. Policy benefits, which consist primarily of
death and surrender benefits on life products, increased $4.0 million
over 1999 to $141.8 million, due to higher mortality experience in
the Farmers Flexible Universal Life ("FFUL") product line as well as
growth in the volume of policies in-force in 2000.
Increase in Liability for Future Benefits. Increase in
liability for future benefits expense increased from $52.2 million in
1999 to $76.3 million in 2000. This increase was primarily
attributable to higher sales volumes related to structured
settlements and growth in the volume of traditional life insurance
in-force in 2000.
Interest Credited to Policyholders. Interest credited to
policyholders, which represents the amount credited to policyholder
funds on deposit under universal life-type contracts and deferred
annuities, increased from $157.8 million in 1999 to $162.9 million in
2000, or 3.2%, reflecting growth in the universal life fund balance.
General Operating Expenses. General operating expenses increased
from $160.2 million in 1999 to $164.0 million in 2000, an increase of
increase of $3.8 million, or 2.4%.
Amortization of DAC and VOLBA. Amortization expense increased
from $102.6 million in 1999 to $108.8 million in 2000, due to
differences in the mix of business.
Net Commissions. Net commissions expense decreased from $13.5
million in 1999 to $3.9 million in 2000, due to higher co-insurance
activity.
17
General and Administrative Expenses. General and administrative
expenses increased $7.2 million, from $44.1 million in 1999 to $51.3
million in 2000. This increase was due primarily to expenses
incurred in 2000 related to entering the variable market as well as
expanding the number of states in which Farmers Life is licensed.
Provision for Income Taxes. Provision for income taxes increased from
$86.0 million in 1999 to $90.4 million in 2000 due to higher pretax operating
income.
Farmers Life Income. As a result of the foregoing, Farmers Life income
increased from $158.2 million in 1999 to $169.6 million in 2000, an increase of
$11.4 million, or 7.2%.
Consolidated Net Income
Consolidated net income of the Company increased from $677.0 million in
1999 to $725.3 million in 2000, an increase of $48.3 million, or 7.1%.
Year Ended December 31, 1999 Compared to Year Ended December 31, 1998
Management Services to Property and Casualty Insurance Companies; and Other
Effective January 1, 1999, the P&C Group began assuming all personal
lines business written by Zurich's subsidiary, Maryland Casualty Company
("MCC"). The Company provides management services in respect of this business
and, as with its services to the P&C Group, receives compensation based on a
percentage of gross premiums earned.
Operating Revenues. Operating revenues totaled $1,489.7 million in 1999,
up $131.5 million, or 9.7%, from 1998. This growth was primarily attributable
to higher volumes of gross premiums earned by the P&C Group, which grew $474.0
million, or 4.6%, to $10,804.9 million in 1999. The increase in gross premiums
earned was driven by the P&C Group's assumption of MCC's personal lines
business as well as the expansion of operations into twelve eastern states.
Management fees earned on this assumed business totaled $50.7 million for the
year ended December 31, 1999. Also contributing to the increase in operating
revenues between years was the fact that, effective January 1999, management
fee rates on all lines of business were increased 0.25% resulting in a $26.2
million increase in management fee revenues in 1999.
Total Expenses. Total expenses as a percentage of operating revenues
decreased from 59.0% in 1998 to 56.0% in 1999, a decrease of 3.0 percentage
points. This decrease was the result of the Company incurring $21.1 million of
merger related expenses and writing-off $46.0 million of impaired assets in
1998.
Salaries and Employee Benefits. Salaries and employee benefits
increased from $328.6 million in 1998 to $373.2 million in 1999, an
increase of $44.6 million, or 13.6%. This increase was due in large part
to $33.2 million of expenses incurred in connection with providing
management services to the personal lines business previously managed by
MCC.
Buildings and Equipment Expenses. Buildings and equipment expenses
decreased from $145.4 million in 1998 to $91.5 million in 1999, a decrease
of $53.9 million, or 37.1%. A key driver behind this reduction was the
$43.6 million write-off of capitalized software costs that were no longer
deemed recoverable in 1998. Exclusive of this write-off, buildings and
equipment expenses were $10.3 million lower than the prior year due to a
$23.2 million decrease in information technology systems software
amortization expense in 1999, offset in part by $6.7 million of expenses
incurred in connection with providing management services to the personal
lines business previously managed by MCC.
18
Amortization of AIF Relationships and Goodwill. The amortization of
these two items, reduced pretax income by approximately $102.8 million for
both 1999 and 1998.
General and Administrative Expenses. General and administrative
expenses increased from $204.1 million in 1998 to $266.3 million in 1999,
an increase of $62.2 million, or 30.5%. This increase in expense was
primarily due to $19.1 million of expenses incurred in connection with
providing management services to the personal lines business previously
managed by MCC, $18.0 million of expenses related to a project to
implement a new financial accounting and reporting system for the Company
and the P&C Group and a $4.6 million increase in expenses resulting from
outsourcing the management of the Company's investment portfolios
beginning in July 1998. The remaining increase is primarily due to higher
business levels.
Merger Related Expenses. Expenses incurred by the Company as a
result of the merger between B.A.T's Financial Services Businesses and ZIC
decreased from $21.1 million in 1998 to $0.2 million in 1999 (see Note E).
Net Investment Income. Net investment income decreased $17.6 million, or
13.0%, from $135.1 million in 1998 to $117.5 million in 1999. This decrease
was primarily due to the redemption of $650.0 million of certificates of
contribution of the P&C Group in July 1998, which yielded 8.95% interest, and
the subsequent purchase of $1,057.0 million of notes from BAFS, yielding 5.62%
interest.
Net Realized Gains. Net realized gains increased from $62.4 million in
1998 to $75.3 million in 1999, an increase of $12.9 million, due primarily to
gains recognized on sales of common stock. These common stock gains were
realized within the context of FGI's overall equity investment strategy.
Dividends on Preferred Securities of Subsidiary Trusts. Dividend expense
was $42.1 million in both 1998 and 1999.
Provision for Income Taxes. Provision for income taxes increased from
$290.8 million in 1998 to $325.3 million in 1999, an increase of $34.5 million,
or 11.9%, as a result of the increase in pretax income between years.
Management Services Income. As a result of the foregoing, management
services income increased from $420.8 million for the year ended December 31,
1998 to $481.1 million for the year ended December 31, 1999, an increase of
$60.3 million, or 14.3%. Exclusive of the merger related expenses and the
write-off of impaired assets in 1998, management services income increased
$18.4 million, or 4.0%, between years.
Insurance Subsidiaries
Farmers Re
Under the quota share reinsurance treaty, Farmers Re assumed $1,000.0
million of premiums in each of the years ended 1999 and 1998. Losses and loss
adjustment expenses incurred under this treaty were $661.3 million in 1999 and
$655.1 million in 1998 and non-life reinsurance commissions paid were $313.7
million in 1999 and $319.9 million in 1998. Income before taxes increased from
$37.2 million in 1998 to $53.3 million in 1999, an increase of $16.1 million,
or 43.3%. This increase was due primarily to increased investment income as a
result of a higher invested asset base. Farmers Re's contribution to net
income was $37.7 million and $25.4 million in 1999 and 1998, respectively.
19
Farmers Life
Total Revenues. Total revenues increased from $660.6 million in 1998 to
$752.2 million in 1999, an increase of $91.6 million, or 13.9%.
Life and Annuity Premiums. Life and annuity premiums increased $35.8
million, or 20.6%, between years. This increase was due to growth in the
volume of term and whole life insurance in-force coupled with Farmers Life
entering the structured settlement market in January 1999.
Life Policy Charges. Life policy charges increased $4.2 million
in 1999, or 2.1%, over 1998, reflecting a 1.9% growth in universal
life-type insurance in-force.
Net Investment Income. Net investment income increased $13.9
million, or 4.7%, over 1998, due to higher bond interest income as a
result of a 9.7% growth in average invested assets.
Net Realized Gains/(Losses). Net realized gains/(losses)
increased $37.7 million, from a $13.5 million loss in 1998 to a $24.2
million gain in 1999, due to higher gains realized on bond sales.
The net realized loss in 1998 reflects a $26.0 million writedown of
Russian bond holdings.
Total Operating Expenses. Total operating expenses increased from $458.8
million in 1998 to $508.0 million in 1999, an increase of $49.2 million, or
10.7%.
Life Policyholders' Benefits and Charges. Life policyholders'
benefits and charges increased from $308.3 million in 1998 to $347.8
million in 1999, an increase of $39.5 million, or 12.8%.
Policy Benefits. Policy benefits increased $3.8 million
over 1998 to $137.8 million, due to a 5.7% growth in the volume
of total life insurance in-force and an increase in death
benefits per thousand of insurance in-force.
Increase in Liability for Future Benefits. The liability
for future benefits expense increased from $23.7 million in 1998
to $52.2 million in 1999. This increase was primarily
attributable to higher volumes of traditional life insurance
in-force, particularly whole life, and the fact that Farmers
Life entered the structured settlement market in 1999.
Interest Credited to Policyholders. Interest credited to
policyholders increased from $150.6 million in 1998 to $157.8
million in 1999, or 4.8%, reflecting growth in the universal
life and annuity fund balances.
General Operating Expenses. General operating expenses increased
from $150.5 million in 1998 to $160.2 million in 1999, an increase of
$9.7 million, or 6.4%.
Amortization of DAC and VOLBA. Amortization expense
increased from $90.1 million in 1998 to $102.6 million in 1999
reflecting the continued growth in sales and the corresponding
increase in deferred expenses.
The $102.6 million of expenses in 1999 reflects adjustments
which were made to the fixed universal product DAC asset and the
VOLBA asset during the year. DAC amortization expense was
reduced $23.3 million due to favorable persistency experience on
the fixed universal life business. This reduction in expense
was largely offset by a $21.3 million increase in VOLBA
amortization expense resulting from unfavorable persistency
experience on the pre-1988 business. The net impact of these
adjustments was a $2.0 million reduction in amortization expense
in 1999.
20
Net Commissions. Net commissions expense decreased $5.5
million between years from $18.9 million in 1998 to $13.5
million in 1999 due to higher reinsurance activity.
General and Administrative Expenses. General and
administrative expenses increased $2.6 million to $44.1 million
in 1999 due primarily to $1.6 million of expenses incurred in
connection with the project to implement the new financial
accounting and reporting system for the Company and the P&C
Group.
Provision for Income Taxes. Provision for income taxes increased
from $71.2 million in 1998 to $86.0 million in 1999 due to higher pretax
operating income.
Farmers Life Income. As a result of the foregoing, Farmers Life
income increased from $130.6 million in 1998 to $158.2 million in 1999, an
increase of $27.6 million, or 21.1%.
Consolidated Net Income
Consolidated net income of the Company increased from $576.8 million in
1998 to $677.0 million in 1999, an increase of $100.2 million, or 17.4%.
Liquidity and Capital Resources
General. The principal uses of funds by the Company are (i) operating
expenses, (ii) dividends to the shareholders of the Company's QUIPS, (iii)
capital expenditures and (iv) dividends to its stockholders. In 2000,
dividends paid on QUIPS totaled $42.1 million, capital expenditures totaled
$100.9 million and cash dividends paid to stockholders totaled $1,557.7
million.
The principal sources of funds available to the Company are (i) the
management fees that it receives for providing management services to the P&C
Group, (ii) investment income and (iii) dividends from its subsidiaries.
Historically, funds available from the first two of these sources have been
sufficient to satisfy the liquidity needs of the Company, and the Company
anticipates that such funds will continue to be adequate to satisfy such needs
in the future. A portion of the net income of the Insurance Subsidiaries is
available for payment as a dividend to the Company, subject to the approval of
the state insurance departments in which the Insurance Subsidiaries are
domiciled. As of December 31, 2000, an aggregate of $194.8 million was
available for distribution as a dividend without such approval (see Note J).
Additionally, as of December 31, 2000, the Company had available revolving
credit facilities enabling it to borrow up to $500.0 million in the event such
a need should arise (see Note V).
In order to maintain the policyholders' surplus of the P&C Group, the
Company has, from time to time, made surplus contributions to the P&C Group,
receiving certificates of contribution or surplus notes which bear interest at
various rates. In 2000, $175.0 million of surplus notes of the P&C Group were
assigned to the Company (see Note G). Also in 2000, to help fund the
Exchanges' acquisition of Foremost, the Company purchased $370.0 million of
certificates of contribution of the P&C Group (see Note G). As of December 31,
2000, the Company held $393.3 million of certificates of contribution of the
P&C Group and $294.0 million of surplus notes of the P&C Group. The Company
believes that these purchases of certificates of contribution and surplus notes
have helped to support the historical growth in premiums earned by the P&C
Group and the related growth in management fees paid to the Company.
Net cash provided by operating activities increased from $926.3 million in
1999 to $1,038.4 million in 2000, an increase of $112.1 million, or 12.1%.
This increase in cash was due primarily to a $57.6 million increase in life
insurance policy liabilities and a $48.3 million increase in consolidated net
income.
21
Net cash provided by investing activities increased $1,013.8 million
between years to $452.2 million in 2000. This increase in cash was mainly the
result of a $565.0 million increase in proceeds from redemptions of notes
receivable from affiliates, due primarily to the fact that in October 2000, to
help fund the payment of the $1,075.0 million special dividend associated with
the Zurich capital structure unification, the Company sold $580.0 million of
notes receivable from UKISA to ZIC for par value (see Note F). Adding to the
increase in cash between years was a $462.5 million decrease in purchases of
investments available-for-sale in 2000, a $234.8 million increase in proceeds
from sales and maturities of investments available-for-sale in 2000 and the
fact that $440.0 million of notes receivable from affiliates were purchased in
1999. Partially offsetting these increases in cash was a $545.0 million
decrease in cash due to the purchases of certificates of contribution and
surplus notes of the P&C Group in 2000 (see Note G).
Net cash used in financing activities increased from $378.7 million in
1999 to $1,587.4 million in 2000, resulting in a decrease in cash of $1,208.7
million. This decrease in cash was substantially due to a $1,124.3 million
increase in dividends paid to stockholders resulting mainly from the payment of
the $1,075.0 million special dividend associated with the Zurich capital
structure unification in October 2000.
Farmers Life. The principal uses of funds by Farmers Life are (i) policy
benefits and claims, (ii) loans to policyholders, (iii) capital expenditures,
(iv) life commissions, (v) operating expenses and (vi) stockholder's dividends.
The principal sources of funds available to Farmers Life are premiums and
amounts earned from the investment of premiums and deposits. These sources of
funds have historically satisfied the liquidity needs of Farmers Life.
Farmers Re. The principal uses of funds by Farmers Re are (i) the payment
of non-life losses and loss adjustment expenses, (ii) the payment of
reinsurance commissions and (iii) operating expenses. The principal sources of
funds available to Farmers Re are premiums assumed from the P&C Group and
investment income.
ITEM 7a. Quantitative and Qualitative Disclosures about Market Risks
The information required is presented under the caption "Risk Management"
in Exhibit No. 99 of this Report.
22
ITEM 8. Financial Statements and Supplementary Data
Index for Financial Statements and Supplementary Data
Page
----
Independent Auditors' Report 23
Consolidated Financial Statements of Farmers Group, Inc. and Subsidiaries
Consolidated Balance Sheets as of December 31, 2000 and 1999 24
Consolidated Statements of Income for the years ended December 31, 2000, 1999 and 1998 26
Consolidated Statements of Comprehensive Income for the years ended December 31, 2000,
1999 and 1998 27
Consolidated Statements of Stockholders' Equity for the years ended December 31, 2000,
1999 and 1998 28
Consolidated Statements of Cash Flows for the years ended December 31, 2000, 1999 and 1998 29
Notes to Consolidated Financial Statements 30
Quarterly Financial Data (Unaudited) 61
23
INDEPENDENT AUDITORS' REPORT
To the Board of Directors of Farmers Group, Inc.
We have audited the accompanying consolidated balance sheets of Farmers
Group, Inc. and subsidiaries (the "Company") as of December 31, 2000 and 1999,
and the related consolidated statements of income, comprehensive income,
stockholders' equity, and cash flows for each of the three years in the period
ended December 31, 2000. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. 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, such consolidated financial statements present fairly, in
all material respects, the financial position of the Company as of December 31,
2000 and 1999, and the results of its operations and its cash flows for each of
the three years in the period ended December 31, 2000 in conformity with
accounting principles generally accepted in the United States of America.
Our audits were conducted for the purpose of forming an opinion on the
basic financial statements taken as a whole. The financial statement schedules
listed in the Table of Contents at Item 14 are presented for the purpose of
additional analysis and are not a required part of the basic financial
statements. These schedules are the responsibility of the Company's
management. Such schedules have been subjected to the auditing procedures
applied in our audits of the basic financial statements and, in our opinion,
are fairly stated in all material respects when considered in relation to the
basic financial statements as a whole.
/s/ Deloitte & Touche LLP
DELOITTE & TOUCHE LLP
Los Angeles, California
February 12, 2001
24
FARMERS GROUP, INC.
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Amounts in thousands)
ASSETS
December 31,
-----------------------------
2000 1999
------------- -------------
Current assets, excluding Insurance Subsidiaries:
Cash and cash equivalents $ 132,245 $ 217,466
Marketable securities, at market value 10,386 66,558
Accrued interest 41,995 30,825
Accounts receivable, principally from the P&C Group 36,052 44,021
Note receivable - affiliate 207,000 200,000
Deferred taxes 40,609 36,895
Prepaid expenses and other 15,437 21,950
------------- -------------
Total current assets 483,724 617,715
------------- -------------
Investments, excluding Insurance Subsidiaries:
Fixed maturities available-for-sale, at market value
(cost: $292,039 and $516,001) 291,795 511,708
Mortgage loans on real estate 92 146
Common stocks available-for-sale, at market value
(cost: $282,224 and $299,251) 242,066 334,212
Certificates of contribution and
surplus notes of the P&C Group 184,830 23,330
Real estate, at cost (net of accumulated depreciation:
$26,179 and $23,505) 69,699 49,459
Other investments 3,341 840
------------- -------------
791,823 919,695
------------- -------------
Other assets, excluding Insurance Subsidiaries:
Notes receivable - affiliates 345,000 1,107,000
Goodwill (net of accumulated amortization: $720,528
and $660,484) 1,681,227 1,741,271
Attorney-in-fact relationships (net of accumulated
amortization: $512,712 and $469,986) 1,196,331 1,239,057
Securities lending collateral 0 4,150
Other assets 255,174 244,088
------------- -------------
3,477,732 4,335,566
------------- -------------
Properties, plant and equipment, at cost: (net of
accumulated depreciation: $391,360 and $324,902) 438,371 422,311
------------- -------------
Investments of Insurance Subsidiaries:
Fixed maturities available-for-sale, at market value
(cost: $4,349,824 and $4,514,104) 4,365,338 4,376,320
Mortgage loans on real estate 36,984 35,834
Non-redeemable preferred stocks available-for-sale, at market
value (cost: $11,128 and $1,153) 11,500 1,158
Common stocks available-for-sale, at market value
(cost: $330,785 and $188,851) 293,407 212,274
Certificates of contribution and
surplus notes of the P&C Group 502,500 119,000
Policy loans 218,162 201,687
Real estate, at cost (net of accumulated depreciation:
$29,369 and $27,292) 89,426 66,672
Joint ventures, at equity 4,651 6,662
S&P 500 call options, at fair value (cost: $29,696 and $19,521) 26,271 32,718
Other investments 5,279 0
------------- -------------
5,553,518 5,052,325
------------- -------------
Other assets of Insurance Subsidiaries:
Cash and cash equivalents 84,431 96,034
Marketable securities, at market value 9,997 0
Reinsurance premiums receivable - P&C Group 111,874 86,245
Accrued investment income 69,922 61,040
Deferred policy acquisition costs and value of life business
acquired 838,121 879,625
Securities lending collateral 436,744 303,379
Other assets 29,151 22,350
Assets held in Separate Account 8,423 0
------------- -------------
1,588,663 1,448,673
------------- -------------
Total assets $ 12,333,831 $ 12,796,285
============= =============
The accompanying notes are an integral part of these financial statements.
25
FARMERS GROUP, INC.
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Amounts in thousands)
LIABILITIES AND STOCKHOLDERS' EQUITY
December 31,
-----------------------------
2000 1999
------------- -------------
Current liabilities, excluding Insurance Subsidiaries:
Notes and accounts payable:
P&C Group $ 481 $ 303
Other 53,375 55,730
Accrued liabilities:
Profit sharing 58,242 51,621
Income taxes 115,223 77,173
Other 9,715 10,109
------------- -------------
Total current liabilities 237,036 194,936
------------- -------------
Other liabilities, excluding Insurance Subsidiaries:
Real estate mortgages payable 16 21
Non-current deferred taxes 551,097 579,902
Securities lending liability 0 4,150
Other 120,405 136,487
------------- -------------
671,518 720,560
------------- -------------
Liabilities of Insurance Subsidiaries:
Policy liabilities:
Future policy benefits 3,574,594 3,412,452
Claims 32,509 28,396
Policyholder dividends 3 1
Other policyholders funds 141,544 83,478
Death benefits payable 42,011 45,423
Provision for non-life losses and loss adjustment expenses 89,936 106,444
Income taxes (including deferred taxes: $97,267 and $88,723) 121,499 98,880
Unearned investment income 903 936
Reinsurance payable - P&C Group 185,742 166,716
Securities lending liability 436,744 303,379
Other liabilities 34,983 35,445
Liabilities related to Separate Account 8,423 0
------------- -------------
4,668,891 4,281,550
------------- -------------
Total liabilities 5,577,445 5,197,046
------------- -------------
Commitments and contingencies
Company obligated mandatorily redeemable preferred
securities of subsidiary trusts holding solely junior
subordinated debentures 500,000 500,000
------------- -------------
Stockholders' Equity:
Class A common stock, $1 par value per share; authorized,
issued and outstanding: as of December 31, 2000 and December
31, 1999 - 500 shares 0.5 0.5
Class B common stock, $1 par value per share; authorized,
issued and outstanding: as of December 31, 2000 and December
31, 1999 - 500 shares 0.5 0.5
Additional capital 5,212,618 5,212,618
Accumulated other comprehensive loss (net of
deferred taxes: ($23,946) and ($18,307)) (44,471) (33,999)
Retained earnings 1,088,238 1,920,619
------------- -------------
Total stockholders' equity 6,256,386 7,099,239
------------- -------------
Total liabilities and stockholders' equity $ 12,333,831 $ 12,796,285
============= =============
The accompanying notes are an integral part of these financial statements.
26
FARMERS GROUP, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Amounts in thousands)
Year ended December 31,
-------------------------------------
2000 1999 1998
----------- ----------- -----------
Consolidated operating revenues $ 3,446,482 $ 3,270,400 $ 3,031,191
=========== =========== ===========
Management services to property and casualty
insurance companies; and other:
Operating revenues $ 1,588,797 $ 1,489,683 $ 1,358,175
----------- ----------- -----------
Salaries and employee benefits 406,278 373,116 328,611
Buildings and equipment expenses 103,995 91,507 145,461
Amortization of AIF relationships and goodwill 102,770 102,770 102,770
General and administrative expenses 278,072 266,302 204,101
----------- ----------- -----------
Total operating expenses 891,115 833,695 780,943
Merger related expenses 0 244 21,056
----------- ----------- -----------
Total expenses 891,115 833,939 801,999
----------- ----------- -----------
Operating income 697,682 655,744 556,176
Net investment income 127,116 117,490 135,062
Net realized gains 68,481 75,238 62,428
Dividends on preferred securities of subsidiary trusts (42,070) (42,070) (42,070)
----------- ----------- -----------
Income before provision for taxes 851,209 806,402 711,596
Provision for income taxes 348,134 325,323 290,752
----------- ----------- -----------
Management services income 503,075 481,079 420,844
----------- ----------- -----------
Insurance Subsidiaries:
Life and annuity premiums 228,700 209,719 173,936
Non-life reinsurance premiums 1,000,000 1,000,000 1,000,104
Life policy charges 214,504 210,639 206,393
Net investment income 353,349 335,565 307,391
Net realized gains/(losses) 61,132 24,794 (14,808)
----------- ----------- -----------
Total revenues 1,857,685 1,780,717 1,673,016
----------- ----------- -----------
Non-life losses and loss adjustment expenses 686,874 661,260 655,125
Life policy benefits 141,759 137,798 133,984
Increase in liability for future life policy benefits 76,327 52,200 23,711
Interest credited to life policyholders 162,888 157,831 150,618
Amortization of deferred policy acquisition costs and
value of life business acquired 108,757 102,581 90,082
Life net commissions 3,881 13,520 18,972
Non-life reinsurance commissions 288,126 313,749 319,875
General and administrative expenses 51,739 44,280 41,683
----------- ----------- -----------
Total operating expenses 1,520,351 1,483,219 1,434,050
----------- ----------- -----------
Income before provision for taxes 337,334 297,498 238,966
Provision for income taxes 115,090 101,604 82,970
----------- ----------- -----------
Insurance Subsidiaries income 222,244 195,894 155,996
----------- ----------- -----------
Consolidated net income $ 725,319 $ 676,973 $ 576,840
=========== =========== ===========
The accompanying notes are an integral part of these financial statements.
27
FARMERS GROUP, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF
COMPREHENSIVE INCOME
(Amounts in thousands)
Year ended December 31,
-------------------------------------
2000 1999 1998
----------- ----------- -----------
Consolidated net income $ 725,319 $ 676,973 $ 576,840
----------- ----------- -----------
Other comprehensive income/(loss), net of tax:
Unrealized holding gains/(losses) on securities:
Unrealized holding gains/(losses) arising during the
year, net of tax of $16,791, ($100,634) and $26,193 31,184 (186,967) 48,738
Less: reclassification adjustment for gains
included in net income, net of tax of ($8,423), ($23,851)
and ($7,105) (15,643) (44,296) (13,195)
----------- ----------- -----------
Net unrealized holding gains/(losses) on securities,
net of tax of $8,368, ($124,485), and $19,088 15,541 (231,263) 35,543
Change in effect of unrealized gains/(losses) on other
insurance accounts, net of tax of ($13,311),$28,332
and ($1,949) (24,720) 52,616 (3,619)
Minimum pension liability adjustment, net of tax of ($696),
($51)and ($435) (1,293) (94) (731)
----------- ----------- -----------
Other comprehensive income/(loss) (10,472) (178,741) 31,193
----------- ----------- -----------
Comprehensive income $ 714,847 $ 498,232 $ 608,033
=========== =========== ===========
The accompanying notes are an integral part of these financial statements.
28
FARMERS GROUP, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Years ended December 31, 2000, 1999 and 1998
(Amounts in thousands)
Accumulated Other Total
Common Additional Comprehensive Retained Stockholders'
Stock Capital Income/(Loss) Earnings Equity
-------- ----------- --------------- ------------ ------------
Balance, December 31, 1997 $ 1 $ 5,212,618 $ 113,549 $ 1,455,406 $ 6,781,574
Net income, 1998 576,840 576,840
Unrealized holding gains
arising during the year,
net of tax of $26,193 48,738 48,738
Reclassification adjustment
for gains included
in net income, net
of tax of ($7,105) (13,195) (13,195)
Change in effect of
unrealized losses on
other insurance accounts,
net of tax of ($1,949) (3,619) (3,619)
Minimum pension liability
adjustment, net of tax
of ($435) (731) (731)
Cash dividends paid (355,200) (355,200)
-------- ----------- ------------- ------------ -------------
Balance, December 31, 1998 1 5,212,618 144,742 1,677,046 7,034,407
Net income, 1999 676,973 676,973
Unrealized holding losses
arising during the year,
net of tax of ($100,634) (186,967) (186,967)
Reclassification adjustment
for gains included in net
income, net of tax of
($23,851) (44,296) (44,296)
Change in effect of
unrealized gains on
other insurance accounts,
net of tax of $28,332 52,616 52,616
Minimum pension liability
adjustment, net of tax
of ($51) (94) (94)
Cash dividends paid (433,400) (433,400)
-------- ----------- ------------- ------------ ------------
Balance, December 31, 1999 1 5,212,618 (33,999) 1,920,619 7,099,239
Net income, 2000 725,319 725,319
Unrealized holding gains
arising during the year,
net of tax of $16,791 31,184 31,184
Reclassification adjustment
for gains included in net
income, net of tax of
($8,423) (15,643) (15,643)
Change in effect of
unrealized losses on
other insurance accounts,
net of tax of ($13,311) (24,720) (24,720)
Minimum pension liability
adjustment, net of tax
of ($696) (1,293) (1,293)
Cash dividends paid (1,557,700) (1,557,700)
-------- ----------- ------------- ------------ -----------
Balance, December 31, 2000 $ 1 $ 5,212,618 $ (44,471) $ 1,088,238 $ 6,256,386
======== =========== ============= ============ ===========
The accompanying notes are an integral part of these financial statements.
29
FARMERS GROUP, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Amounts in thousands)
Year ended December 31,
------------------------------------
2000 1999 1998
---------- ---------- ----------
Cash Flows from Operating Activities:
Consolidated net income $ 725,319 $ 676,973 $ 576,840
Non-cash and operating activities adjustments:
Depreciation and amortization 205,098 161,535 180,089
Amortization of deferred policy acquisition costs and
value of life business acquired 108,757 102,581 90,082
Policy acquisition costs deferred (105,283) (99,568) (98,615)
Life insurance policy liabilities 138,861 81,262 25,085
Provision for non-life losses and loss
adjustment expenses (16,508) 500 105,944
Universal life type contracts:
Deposits received 302,774 302,423 299,007
Withdrawals (263,643) (253,228) (241,765)
Interest credited 76,006 71,386 67,585
Equity in earnings of joint ventures 1,326 (8,888) (4,275)
Gain on sales of assets (130,578) (100,649) (48,154)
Changes in assets and liabilities:
Current assets and liabilities 38,690 14,053 110,354
Non-current assets and liabilities (67,095) (39,424) 63,351
Other, net 24,630 17,312 (33,345)
---------- ---------- ----------
Net cash provided by operating activities 1,038,354 926,268 1,092,183
---------- ---------- ----------
Cash Flows from Investing Activities:
Purchases of investments available-for-sale (1,712,785) (2,175,297) (1,869,877)
Purchases of properties (140,478) (59,309) (37,806)
Purchase of notes receivable - affiliates 0 (440,000) (1,057,000)
Purchase of surplus notes of the P&C Group (175,000) 0 (119,000)
Purchase of certificates of contribution of the P&C Group (370,000) 0 0
Proceeds from sales and maturities of investments
available-for-sale 2,107,901 1,873,122 1,032,173
Proceeds from sales of properties 12,442 38,240 27,329
Proceeds from redemption of certificates of contribution
of the P&C Group 0 11,050 650,000
Proceeds from redemption of notes receivable - affiliates 755,000 190,000 407,000
Mortgage loan collections 4,854 18,471 36,883
Increase in policy loans (16,475) (16,476) (19,317)
Other, net (13,257) (1,420) (1,481)
---------- ---------- ----------
Net cash provided by/(used in) investing activities 452,202 (561,619) (951,096)
---------- ---------- ----------
Cash Flows from Financing Activities:
Dividends paid to stockholders (1,557,700) (433,400) (355,200)
Annuity contracts:
Deposits received 163,111 157,468 144,793
Withdrawals (255,615) (194,187) (202,244)
Interest credited 62,828 91,422 82,930
Payment of long-term notes payable (4) (4) (67)
---------- ---------- ----------
Net cash used in financing activities (1,587,380) (378,701) (329,788)
---------- ---------- ----------
Decrease in cash and cash equivalents (96,824) (14,052) (188,701)
Cash and cash equivalents - at beginning of year 313,500 327,552 516,253
---------- ---------- ----------
Cash and cash equivalents - at end of year $ 216,676 $ 313,500 $ 327,552
========== ========== ==========
The accompanying notes are an integral part of these financial statements.
30
FARMERS GROUP, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
A. Basis of presentation and summary of significant accounting policies
The accompanying consolidated financial statements of Farmers Group, Inc.
("FGI") and its subsidiaries (together "the Company") have been prepared in
accordance with generally accepted accounting principles ("GAAP"). All
material inter-company transactions have been eliminated. Certain amounts
applicable to prior years have been reclassified to conform with the 2000
presentation. The preparation of the Company's financial statements in
conformity with GAAP requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and the disclosure of
contingent assets and liabilities at the date of the financial statements as
well as the reported amounts of revenues and expenses during the reporting
periods. Actual results could differ from those estimates.
In December 1988, B.A.T Industries p.l.c. ("B.A.T") acquired 100%
ownership of the Company for $5,212,619,000 through its wholly owned subsidiary
BATUS Financial Services. Immediately thereafter, BATUS Financial Services was
merged into FGI. The acquisition was accounted for as a purchase and,
accordingly, the acquired assets and liabilities were recorded in the Company's
consolidated balance sheets based on their estimated fair values at
December 31, 1988.
The Company is attorney-in-fact ("AIF") for three inter-insurance
exchanges: Farmers Insurance Exchange, Fire Insurance Exchange and Truck
Insurance Exchange (collectively the "Exchanges"), which operate in the
property and casualty insurance industry. On March 7, 2000, the Exchanges
acquired Foremost Corporation of America and its subsidiaries ("Foremost"), a
prominent writer of insurance for manufactured homes, recreational vehicles and
other specialty lines. Each policyholder of the Exchanges appoints the Company
as the exclusive AIF to provide management services to the P&C Group. For such
services, the Company earns management fees based on a percentage of gross
premiums earned by the Exchanges, their respective subsidiaries, Farmers Texas
County Mutual Insurance Company, Foremost County Mutual Insurance Company and
Foremost Lloyds of Texas (collectively the "P&C Group"). The P&C Group is
owned by the policyholders of the Exchanges, Farmers Texas County Mutual
Insurance Company and Foremost County Mutual Insurance Company as well as the
underwriters of Foremost Lloyds of Texas. Accordingly, the Company has no
ownership interest in the P&C Group.
Management services generate a substantial portion of the Company's
revenue and profits and, as a result, the Company's ongoing financial
performance depends on the volume of business written by, and the efficiency
and financial strength of, the P&C Group. A portion of the purchase price
($1,709,043,000) associated with B.A.T's acquisition of the Company was
assigned to these AIF relationships. The value so assigned is being amortized
on a straight-line basis over forty years.
The excess of the purchase price over the fair value of the net assets
("Goodwill") of the Company at the date of the Company's acquisition by B.A.T
($2,401,755,000) is being amortized on a straight-line basis over forty years.
The carrying amount of the Goodwill is regularly reviewed for indications of
impairment in value which in the view of management are other than temporary,
including unexpected or adverse changes in the following: (1) the economic or
competitive environments in which the Company operates, (2) profitability
analyses and (3) cashflow analyses. As of December 31, 2000, management
believes that the reported value is recoverable and the remaining life of
Goodwill is appropriate.
At the date of the Company's acquisition by B.A.T, the Company's life
insurance operations were conducted by three wholly owned subsidiaries, Farmers
New World Life Insurance Company ("Farmers Life"), The Ohio State Life
Insurance Company ("OSL") and Investors Guaranty Life Insurance Company
("IGL"). A portion
31
of the purchase price ($662,778,000) was assigned to the "Value of Life
Business Acquired" ("VOLBA"), which represented an actuarial determination of
the expected profits from the business in force at the date of B.A.T's
acquisition of the Company. The amount so assigned is being amortized over
its actuarially determined useful life with the unamortized amount included
in "Deferred Policy Acquisition Costs and Value of Life Business Acquired" in
the accompanying consolidated balance sheets.
As part of the Company's strategic plan to focus its life insurance
efforts on Farmers Life, the Company sold OSL and IGL to Great Southern Life
Insurance Company, a subsidiary of Americo Life, Inc. in April 1997. Farmers
Life markets a broad line of individual life insurance products, including
universal life, term life and whole life insurance and structured settlement
and annuity products, predominately flexible premium deferred annuities.
Additionally, in 2000, Farmers Life entered the variable universal life and
annuities markets. The products and services offered by Farmers Life are sold
directly by the P&C Group's agents.
In December 1997, Farmers Reinsurance Company ("Farmers Re"), a wholly
owned property and casualty insurance subsidiary of FGI, was formed and
licensed to conduct business. In January 1998, Farmers Re entered into a
quota share reinsurance treaty with the P&C Group under which it reinsures a
percentage of the auto physical damage business written by the P&C Group. This
agreement will remain in effect until terminated by either party.
References to the "Insurance Subsidiaries" within the consolidated
financial statements are to Farmers Life and Farmers Re.
In September 1998, the financial services businesses of B.A.T, which
included the Company, were merged with Zurich Insurance Company ("ZIC"). The
businesses of ZIC and the financial services businesses of B.A.T were
transferred to Zurich Group Holding ("ZGH"), formerly known as Zurich
Financial Services, a Swiss company with headquarters in Zurich, Switzerland.
As a result, each two shares of the Company's prior outstanding stock were
recapitalized into one share of Class A Common Stock, par value $1.00 per share
("Ordinary Shares"), and one share of Class B Common Stock, par value $1.00 per
share ("Income Shares"). Under the merger agreement, all Ordinary Shares
became wholly owned by ZGH and all Income Shares became wholly owned by Allied
Zurich Holdings Limited, an affiliated company created during the restructuring
of B.A.T. This merger was accounted for by ZGH as a pooling of interests under
International Accounting Standards.
As a result of a unification of the holding structure of the Zurich
Financial Services Group in October 2000, Zurich Financial Services was renamed
Zurich Group Holding, as noted above, and a new group holding company, Zurich
Financial Services, was formed. As such, references to "Zurich" are to the new
group holding company, Zurich Financial Services.
The Company's properties are depreciated over the following estimated
useful lives:
Buildings and improvements 10 to 45 years
Furniture and equipment 5 to 10 years
Data processing equipment and software 5 to 10 years
Depreciation is calculated for financial statement purposes by the
straight-line method. Repairs and maintenance are charged to operations;
significant renewals and betterments are capitalized.
In 1998, the Financial Accounting Standards Board ("FASB") released
Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for
Derivative Instruments and Hedging Activities". This Statement establishes
accounting and reporting standards for derivative instruments (including
certain derivative instruments embedded in other contracts) and for hedging
activities. SFAS No.133 requires that an entity recognize all derivatives as
either assets or liabilities in the statement of financial position and measure
those instruments at market value. Subsequently, in June 1999, the FASB
released SFAS No. 137, "Deferral of the Effective Date of
32
FASB Statement No. 133", which deferred the effective date of SFAS No. 133 to
fiscal years beginning after June 15, 2000. Finally, in June 2000, the FASB
released SFAS No. 138, "Accounting for Certain Derivative Instruments and
Certain Hedging Activities". This Statement amends the accounting and
reporting standards of SFAS No. 133 for the following items: normal purchases
and normal sales exception, interest rate risk, recognized foreign-currency-
denominated debt instruments and intercompany derivatives. This Statement also
amends SFAS No. 133 for certain provisions related to the implementation
guidance arising from the Derivative Implementation Group process. SFAS
No. 133, No. 137, and No.138 will be effective for financial statements issued
by the Company for periods ending after December 31, 2000. The Company does
not expect the adoption of these Statements to have a material impact on its
consolidated financial statements.
In September 2000, the FASB issued SFAS No. 140, "Accounting for Transfers
and Servicing of Financial Assets and Extinguishments of Liabilities". This
Statement revises accounting standards for securitizations and other transfers
of financial assets and collateral. SFAS No. 140 replaces SFAS No. 125,
"Accounting for Transfers and Servicing of Financial Assets and Extinguishments
of Liabilities", and rescinds SFAS No. 127, "Deferral of the Effective Date of
Certain Provisions of FASB Statement No. 125". This Statement, which is
required to be applied prospectively with certain exceptions, is effective for
transfers and servicing of financial assets and extinguishments of liabilities
occurring after March 31, 2001. Additionally, this Statement is effective for
recognition and reclassification of collateral and for disclosures relating to
securitization transactions and collateral for fiscal years ending after
December 15, 2000. The adoption of this Statement did not have a material
impact on the Company's consolidated financial statements.
B. Life insurance accounting
Traditional product premiums are recognized as revenues when they become
due and future benefits and expenses are matched with such premiums so that the
majority of profits are recognized over the premium-paying period of the
policy. This matching of revenues and expenses is accomplished through the
provision for future policy benefits and the amortization of deferred policy
acquisition costs ("DAC").
Certain policy acquisition costs, principally first-year commissions and
other expenses for policy underwriting and issuance (which are primarily
related to and vary with the production of new business), are deferred and
amortized proportionately over the estimated period during which the related
premiums will be recognized as income, based on the same assumptions that are
used for computing the liabilities for future policy benefits. Liabilities for
future policy benefits are computed principally by means of a net level premium
method reflecting estimated future investment yields, mortality, morbidity and
withdrawals. Interest rate assumptions range from 2.25% to 8.75%, depending on
the year of policy issue. Mortality is calculated principally on select and
ultimate tables in common usage in the industry, modified for actual
experience, and withdrawals are estimated based primarily on experience.
Revenues associated with universal life products as well as structured
settlements involving life contingencies consist of policy charges for the cost
of insurance, policy administration fees, surrender charges and investment
income on assets allocated to support policyholder account balances. Revenues
for deferred annuity products consist of surrender charges and investment
income on assets allocated to support policyholder account balances. Expenses
include interest credited to policyholder account balances and benefit claims
incurred in excess of policyholder account balances. Revenues and expenses
related to structured settlements not involving life contingencies are recorded
consistent with guidelines for investment contracts, which are not subject to
mortality risks. Liabilities for future policy benefits on universal life and
deferred annuity products are determined under the retrospective deposit
method. DAC is amortized in relation to the present value of expected gross
profit margins on the policies, after giving recognition to differences between
actual and expected gross profit margins to date. In compliance with a
Securities and Exchange Commission ("SEC") staff announcement, the Company has
recorded certain entries to the DAC and VOLBA line of the consolidated balance
sheet in connection with SFAS No. 115, "Accounting for Certain Investments in
Debt and Equity Securities". The SEC requires that companies record entries
to those assets and liabilities that would have been adjusted had the
unrealized investment gains or losses
33
from securities classified as available-for-sale actually been realized, with
corresponding credits or charges reported directly to stockholders' equity.
Accordingly, DAC and VOLBA are increased or decreased to reflect what would
have been the impact on estimated future gross profits, had net unrealized
gains or losses on securities been realized at the balance sheet date. Net
unrealized gains or losses on securities, within stockholders' equity, also
reflect this impact. These entries decreased the DAC and VOLBA assets by
$6,097,000 as of December 31, 2000 and increased the DAC and VOLBA assets by
$31,933,000 as of December 31, 1999.
In 2000, Farmers Life introduced variable universal life and deferred
variable annuity contracts. Revenues and expenses for variable universal life
annuities are recognized in a manner similar to universal life products.
Recognition of revenues and expenses for deferred variable annuities is
consistent with that of deferred annuity products. However, unlike other
Farmers Life products, assets and liabilities for both variable universal life
and deferred variable annuity contracts are legally segregated from the general
assets of the Company and are reported on the Separate Accounts lines on the
Company's consolidated balance sheets.
C. Non-life reinsurance
Farmers Re, a wholly owned subsidiary of the Company, reinsures a
percentage of the auto physical damage business written by the P&C Group.
Under the quota share reinsurance treaty, entered into in January 1998, Farmers
Re assumes monthly premiums of $83,333,000 and a quota share percentage of
ultimate net losses sustained by the P&C Group in its auto physical damage
lines of business. This treaty, which will remain in effect until terminated
by either party, also provides for the P&C Group to receive a provisional
ceding commission of 20% of premiums with additional experience commissions
that depend on loss experience. This experience commission arrangement limits
Farmers Re's potential underwriting gain on the assumed business to 2.5% of
premiums assumed.
In March 2000, Farmers Re and the P&C Group commuted $106,444,000 of
losses and loss adjustment expenses associated with the 1999 accident year. As
a result, in May 2000, Farmers Re paid the P&C Group $106,444,000 of losses and
loss adjustment expenses and $8,966,000 of accrued interest in settlement of
this commutation. Similarly, in March 1999, Farmers Re and the P&C Group
commuted $105,944,000 of losses and loss adjustment expenses associated with
the 1998 accident year. In order to settle this commutation, in May 1999,
Farmers Re paid the P&C Group $105,944,000 of losses and loss adjustment
expenses and $8,205,000 of accrued interest.
Total losses paid by Farmers Re were $590,214,000, $547,827,000 and
$543,445,000 in 2000, 1999 and 1998, respectively, while total loss adjustment
expenses were $6,725,000, $6,980,000 and $5,736,000 in 2000, 1999 and 1998,
respectively. Additionally, reinsurance commissions were $288,126,000 in 2000,
$313,749,000 in 1999 and $319,875,000 in 1998. Farmers Re had loss reserves of
$89,936,000 and $106,444,000 as of December 31, 2000 and 1999, respectively.
D. Property, plant and equipment
A schedule of the Company's operating properties, plant and equipment at
cost as of December 31 follows:
2000 1999
----------- -----------
(Amounts in thousands)
Buildings and improvements $ 213,025 $ 210,823
Data processing equipment and software 377,905 347,021
Furniture and equipment 173,676 124,142
----------- -----------
764,606 681,986
Land 65,125 65,227
----------- -----------
$ 829,731 $ 747,213
=========== ===========
34
As of December 31, 1999, the Company had committed to a plan to sell one
of its business service centers at a market price which was $1,789,000 lower
than the carrying value of the property. In accordance with SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets
to Be Disposed Of ", the Company recognized an impairment loss of $1,789,000
which was reflected on the "General and administrative expenses" line in the
"Management services to property and casualty insurance companies; and other"
section of the Company's consolidated income statement for the year ended
December 31, 1999. As of December 31, 2000, this business service center had
not yet been sold.
E. Merger related expenses
As a result of the merger between B.A.T's Financial Services Businesses
and ZIC in 1998, the Company recorded various merger related expenses totaling
$244,000 in 1999 and $21,056,000 in 1998. The expenses recorded in 1999
related to audit and legal costs incurred by the Company in connection with the
merger, while the expenses recorded in 1998 were primarily related to
$16,545,000 of losses the Company incurred in connection with taking over the
management of ZIC's United States personal lines business. An additional
$2,728,000 was recorded in 1998 relating to the write-off of redundant
capitalized software and $1,783,000 was recorded relating to miscellaneous
audit, legal and travel expenses incurred by the Company in connection with the
merger. No merger related expenses were incurred in 2000.
F. Related Parties
As of December 31, 1999 and December 31, 1998, certain directors of the
Company were partners in legal firms that received fees for legal services from
the Company and the P&C Group. These fees totaled $8,492,000 and $6,544,000 in
1999 and 1998, respectively. As a result of a restructuring of the Company's
Board of Directors in April 2000, all of the members of the Company's Board of
Directors were employees of the Company as of December 31, 2000.
As of December 31, 2000, the Company held a $250,000,000 note receivable
from Orange Stone (Delaware) Holdings Limited ("OSDH"), a subsidiary of Zurich,
formerly known as Old Stone (Delaware) Holdings Limited. The Company loaned
$250,000,000 to OSDH on December 15, 1999 and, in return, received a
medium-term note with a 7.50% fixed interest rate that matures on
December 15, 2004. Interest on this note is paid semi-annually and, for the
years ended December 31, 2000 and December 31, 1999, income earned on this note
totaled $18,750,000 and $781,000, respectively.
In addition, as of December 31, 2000, the Company held $302,000,000 of
notes receivable from Zurich (UKISA) Limited, formerly known as British
American Financial Services (UK and International), Ltd., ("UKISA"), a
subsidiary of Zurich. The Company purchased $1,057,000,000 of notes from UKISA
on September 3, 1998. Subsequently, on March 1, 2000, Eagle Star Life
Assurance Company Limited ("Eagle Star"), also an affiliate of Zurich, assigned
$175,000,000 of matured surplus notes of the P&C Group to the Company and, in
return, the Company reduced the outstanding balance of the notes receivable
from UKISA by $175,000,000. Additionally, on September 3, 2000, $25,000,000 of
the notes receivable from UKISA, bearing interest at a coupon rate of 5.44%
with an original maturity date of September 3, 2000, were renewed for
medium-term notes with a 6.80% fixed interest rate maturing in September 2002.
35
Finally, on October 23, 2000, to help fund the payment of a $1,075,000,000
special dividend associated with the Zurich capital structure unification in
October 2000, the Company sold $580,000,000 of notes receivable from UKISA to
ZIC for par value. As a result, as of December 31, 2000, the Company held
$302,000,000 of notes receivable from UKISA with the following amounts,
maturity dates and coupon rates: $207,000,000 maturing in September 2001 at a
coupon rate of 5.48% and $95,000,000 maturing in September 2002, $25,000,000 of
which is at a coupon rate of 6.80% and $70,000,000 of which is at a coupon rate
of 5.67%. Interest on the UKISA notes is paid semi-annually and, for the years
ended December 31, 2000, 1999, and 1998, income earned on these notes totaled
$45,425,000, $59,434,000 and $19,481,000, respectively.
G. Certificates of Contribution and surplus notes of the P&C Group
On March 1, 2000, in connection with the assignment of the $175,000,000 of
matured surplus notes of the P&C Group from Eagle Star (see Note F), the P&C
Group issued $175,000,000 of new surplus notes to the Company. These notes
bear interest at 8.50% annually and mature in March 2005.
Additionally, on March 7, 2000, to help fund the Exchanges' acquisition of
Foremost, the Company purchased $370,000,000 of certificates of contribution of
the P&C Group bearing interest at 7.85% annually. As of December 31, 2000, the
Company continued to hold $23,330,000 of miscellaneous other certificates of
contribution of the P&C Group, which bear interest at various rates, and a
$119,000,000 surplus note of the P&C Group, which bears interest at 6.10%
annually.
Conditions governing repayment of these amounts are outlined in the
certificates of contribution and the surplus notes. Generally, repayment may
be made only when the surplus balance of the issuer reaches a certain specified
level, and then only after approval is granted by the issuer's governing Board
and the appropriate state insurance regulatory department.
H. Company Obligated Mandatorily Redeemable Preferred Securities of
Subsidiary Trusts Holding Solely Junior Subordinate Debentures
In 1995, Farmers Group Capital and Farmers Group Capital II
(the "Subsidiary Trusts"), consolidated wholly owned subsidiaries of Farmers
Group, Inc., issued $410 million of 8.45% Cumulative Quarterly Income Preferred
Securities ("QUIPS"), Series A and $90 million of 8.25% QUIPS, Series B,
respectively. In connection with the Subsidiary Trusts' issuance of the QUIPS
and the related purchase by Farmers Group, Inc. of all of the Subsidiary
Trusts' Common Securities ("Common Securities"), Farmers Group, Inc. issued to
Farmers Group Capital $422,680,399 principal amount of its 8.45% Junior
Subordinated Debentures, Series A due on December 31, 2025, (the "Junior
Subordinated Debentures, Series A") and issued to Farmers Group Capital II
$92,783,505 principal amount of its 8.25% Junior Subordinated Debentures,
Series B due on December 31, 2025 (the "Junior Subordinated Debentures, Series
B" and, together with the Junior Subordinated Debentures, Series A, the "Junior
Subordinated Debentures"). The sole assets of Farmers Group Capital are the
Junior Subordinated Debentures, Series A. The sole assets of Farmers Group
Capital II are the Junior Subordinated Debentures, Series B. In addition,
these arrangements are governed by various agreements between Farmers Group,
Inc. and the Subsidiary Trusts (the Guarantee Agreements, the Trust Agreements,
the Expense Agreements, the Indentures and the Junior Subordinated Debentures)
which considered together constitute a full and unconditional guarantee by
Farmers Group, Inc. of the Subsidiary Trusts' obligations under the Preferred
Securities.
Under certain circumstances, the Junior Subordinated Debentures may be
distributed to holders of the QUIPS and holders of the Common Securities in
liquidation of the Subsidiary Trusts. As of September 27, 2000, Farmers Group,
Inc. had the option to redeem, in whole or part, the Junior Subordinated
Debentures. The QUIPS are subject to mandatory redemption upon repayment of
the Junior Subordinated Debentures at maturity, or upon their earlier
redemption, at a redemption price of $25 per Preferred Security, plus accrued
and unpaid distributions thereon to the date fixed for redemption.
36
As of December 31, 2000 and 1999, a total of 20,000,000 shares of QUIPS
were outstanding.
I. Employees' profit sharing plans
The Company has two profit sharing plans providing for cash payment to all
eligible employees. The two plans, Deferred Profit Sharing and Cash Profit
Sharing (consisting of Cash and Quest for Gold), provide for a maximum
aggregate expense of 16.25% of the Company's consolidated annual pretax
earnings, as adjusted. The Deferred Profit Sharing Plan, limited to 10% of
pretax earnings, as adjusted, or 15% of the salary or wage paid or accrued to
the eligible employee, provides for an annual contribution by the Company to a
trust for eventual payment to employees as provided in the Plan. The Cash
Profit Sharing Plan and Quest for Gold Program provide for annual cash
distributions to eligible employees. The Cash Profit Sharing Plan is limited
to 5% of pretax earnings, as adjusted, or 5% of employee salaries or wages paid
or accrued. The Quest for Gold Program is limited to 1.25% of pretax earnings,
as adjusted, or 6% of eligible employee salaries or wages paid or accrued.
Expense under these plans was $59,491,000, $52,984,000 and $51,869,000 in
2000, 1999 and 1998, respectively.
J. Retained earnings
Statutory capital and surplus of the Insurance Subsidiaries was
$1,728,378,000 and $1,618,274,000 as of December 31, 2000 and 1999,
respectively. Statutory net income was $187,712,000, $152,716,000 and
$123,024,000 for the years ended December 31, 2000, 1999 and 1998,
respectively.
There are certain statutory limitations on the distribution of surplus.
As of December 31, 2000, an aggregate of $194,786,000 was available for
distribution as dividends by the Insurance Subsidiaries without the approval
of the state insurance departments in which they are domiciled.
K. Investments
The Company follows the provisions of SFAS No. 115. This Statement
addresses the accounting and reporting for investments in equity securities
that have readily determinable market values and for all investments in debt
securities. As of December 31, 2000 and 1999, the Company classified all
investments in equity and debt securities as available-for-sale under SFAS No.
115 with the exception of $61.1 million in 2000 and $59.7 million in 1999 which
relate to a grantor trust and are classified as trading securities under SFAS
No. 115. The available-for-sale investments are reported on the balance sheet
at market value, with unrealized gains and losses, net of tax, excluded from
earnings and reported as a component of stockholders' equity. The investments
classified as trading investments are reported on the "Other assets" line of
the consolidated balance sheet at market value with both realized and
unrealized gains and losses included in earnings, net of tax, in the year in
which they occur. Real estate investments are accounted for on a depreciated
cost basis. Real estate acquired in foreclosure and held for sale is carried
at the lower of market value or depreciated cost less a valuation allowance.
Marketable securities are carried at market. The Standard & Poor's 500
Composite Stock Price Index ("S&P 500") call options are carried at estimated
fair value. Other investments, which consist primarily of certificates of
contribution of the P&C Group, surplus notes of the P&C Group, policy loans and
notes receivable from affiliates, which include UKISA notes and an OSDH note,
are carried at the unpaid principal balances.
In compliance with a SEC staff announcement, the Company has recorded
certain entries to the DAC and VOLBA line of the consolidated balance sheet in
connection with SFAS No. 115. The SEC requires that companies record entries
to those assets and liabilities that would have been adjusted had the
unrealized investment gains or losses from securities classified as
available-for-sale actually been realized, with corresponding credits or
charges reported directly to stockholders' equity.
37
The sources of investment income on securities owned by the Company
(excluding the Insurance Subsidiaries) for the years ended December 31 are:
2000 1999 1998
---------- ---------- ----------
(Amounts in thousands)
Related parties:
B.A.T Capital Corporation notes $ 0 $ 0 $ 14,672
UKISA notes 45,425 59,434 19,481
Centre Reinsurance Holdings
(Delaware II) Ltd. note 0 7,805 0
OSDH note (see Note F) 18,750 781 0
---------- ---------- ----------
Total related parties 64,175 68,020 34,153
---------- ---------- ----------
Non-related parties:
Interest income-
certificates of contribution
and surplus notes of the
P&C Group 17,893 2,123 33,417
Interest income-
fixed income securities 24,363 39,030 50,373
Dividend income 4,944 6,503 7,825
Interest income-
cash equivalents and
marketable securities 12,415 617 4,205
Other * 3,326 1,197 5,089
---------- ---------- ----------
Total non-related parties 62,941 49,470 100,909
---------- ---------- ----------
Total investment income
by component $ 127,116 $ 117,490 $ 135,062
========== ========== ==========
* Includes ($1.8 million), $4.1 million and $3.4 million in 2000, 1999, and
1998, respectively, of unrealized gains/(losses) associated with the trading
securities reported on the "Other assets" line of the consolidated balance
sheet.
The sources of investment income on securities owned by the Insurance
Subsidiaries for the years ended December 31 are:
2000 1999 1998
---------- ---------- ----------
(Amounts in thousands)
Fixed income securities $ 306,999 $ 308,303 $ 279,157
Equity securities 3,406 1,786 249
Mortgage loans 3,892 5,060 8,789
Owned real estate 12,058 9,414 9,907
Policy loans 15,881 14,436 12,993
Cash equivalents and
marketable securities 5,506 5,387 7,302
Certificates of contribution and
surplus notes of the P&C Group 27,533 7,259 2,279
Investment expenses (23,151) (21,758) (13,658)
Other 1,225 5,678 373
---------- ---------- ----------
Total investment income
by component $ 353,349 $ 335,565 $ 307,391
========== ========== ==========
38
Realized gains and losses on sales, redemptions and write-downs of
investments owned by the Company (excluding the Insurance Subsidiaries) are
determined based on either the cost of the individual securities or the
amortized cost of real estate. Net realized investment gains or losses for
the years ended December 31 are:
2000 1999 1998
---------- ---------- ----------
(Amounts in thousands)
Bonds $ (2,917) $ (753) $ 280
Redeemable preferred stocks (20) 0 57
Common stocks 75,522 76,478 59,864
Investment real estate (4,104) (864) (34)
Other 0 377 2,261
---------- ---------- ----------
Net realized investment gains/(losses) $ 68,481 $ 75,238 $ 62,428
========== ========== ==========
Realized gains and losses on sales, redemptions and write-downs of
investments owned by the Insurance Subsidiaries are determined based on either
the cost of the individual securities or the amortized cost of real estate.
Net realized investment gains or losses for the years ended December 31 are:
2000 1999 1998
---------- ---------- ----------
(Amounts in thousands)
Bonds $ (10,714) $ 17,777 $ (16,461)
Redeemable preferred stocks 2,688 450 25
Common stocks 55,176 5,005 117
Investment real estate 13,982 1,562 1,393
Other 0 0 118
---------- ---------- ----------
Net realized investment gains/(losses) $ 61,132 $ 24,794 $ (14,808)
========== ========== ==========
The amortized cost, gross unrealized gains and losses, and estimated
market values of investments in equity securities pertaining to non-redeemable
preferred stocks and common stocks owned by the Company (excluding the
Insurance Subsidiaries) are as follows:
As of December 31, 2000
-----------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---------- ---------- ---------- ----------
(Amounts in thousands)
Equity Securities Available-for-Sale
Non-redeemable preferred stocks $ 0 $ 0 $ 0 $ 0
Common stocks 282,224 13,963 (54,121) 242,066
---------- ---------- ---------- ----------
Total $ 282,224 $ 13,963 $ (54,121) $ 242,066
========== ========== ========== ==========
As of December 31, 1999
-----------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---------- ---------- ---------- ----------
(Amounts in thousands)
Equity Securities Available-for-Sale
Non-redeemable preferred stocks $ 0 $ 0 $ 0 $ 0
Common stocks 299,251 72,314 (37,353) 334,212
---------- ---------- ---------- ----------
Total $ 299,251 $ 72,314 $ (37,353) $ 334,212
========== ========== ========== ==========
39
The amortized cost, gross unrealized gains and losses, and estimated
market values of investments in equity securities pertaining to non-redeemable
preferred stocks and common stocks owned by the Insurance Subsidiaries in 2000
and 1999 are as follows:
As of December 31, 2000
-----------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---------- ---------- ---------- ----------
(Amounts in thousands)
Equity Securities Available-for-Sale
Non-redeemable preferred stocks $ 11,128 $ 439 $ (67) $ 11,500
Common stocks 330,785 14,387 (51,765) 293,407
---------- ---------- ---------- ----------
Total $ 341,913 $ 14,826 $ (51,832) $ 304,907
========== ========== ========== ==========
As of December 31, 1999
-----------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---------- ---------- ---------- ----------
(Amounts in thousands)
Equity Securities Available-for-Sale
Non-redeemable preferred stocks $ 1,153 $ 97 $ (92) $ 1,158
Common stocks 188,851 35,555 (12,132) 212,274
---------- ---------- ---------- ----------
Total $ 190,004 $ 35,652 $ (12,224) $ 213,432
========== ========== ========== ==========
The amortized cost, gross unrealized gains and losses, and estimated
market values of investments in debt securities, including bonds and
redeemable preferred stocks, owned by the Company (excluding the Insurance
Subsidiaries) are as follows:
As of December 31, 2000
-----------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---------- ---------- ---------- ----------
(Amounts in thousands)
Debt Securities Available-for-Sale,
including Marketable Securities
U.S. Treasury securities and obligations of
U.S. government corporations and agencies $ 383 $ 8 $ 0 $ 391
Obligations of states and political
subdivisions 158,868 877 (205) 159,540
Corporate securities 29,566 106 (1,143) 28,529
Mortgage-backed securities 102,301 892 (145) 103,048
Other debt securities 11,307 5 (639) 10,673
---------- ---------- ---------- ----------
Total $ 302,425 $ 1,888 $ (2,132) $ 302,181
========== ========== ========== ==========
As of December 31, 1999
-----------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---------- ---------- ---------- ----------
(Amounts in thousands)
Debt Securities Available-for-Sale,
including Marketable Securities
U.S. Treasury securities and obligations of
U.S. government corporations and agencies $ 239 $ 1 $ 0 $ 240
Obligations of states and political
subdivisions 476,080 805 (3,788) 473,097
Corporate securities 45,503 0 (551) 44,952
Mortgage-backed securities 42,350 0 (986) 41,364
Other debt securities 18,387 280 (54) 18,613
---------- ---------- ---------- ----------
Total $ 582,559 $ 1,086 $ (5,379) $ 578,266
========== ========== ========== ==========
40
The amortized cost, gross unrealized gains and losses, and estimated
market values of investments in debt securities, including bonds and
redeemable preferred stocks, owned by the Insurance Subsidiaries in 2000 and
1999 are as follows:
As of December 31, 2000
------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---------- ----------- ---------- ----------
(Amounts in thousands)
Debt Securities Available-for-Sale,
including Marketable Securities
U.S. Treasury securities and obligations of
U.S. government corporations and agencies $ 260,134 $ 3,413 $ (1,020) $ 262,527
Obligations of states and political
subdivisions 164,871 1,543 (764) 165,650
Debt securities issued by foreign governments 62,646 1,828 (1,420) 63,054
Corporate securities 1,861,989 31,931 (42,582) 1,851,338
Mortgage-backed securities 1,980,532 35,927 (14,339) 2,002,120
Other debt securities 29,649 1,577 (580) 30,646
---------- ----------- ---------- ----------
Total $4,359,821 $ 76,219 $ (60,705) $4,375,335
========== =========== ========== ==========
As of December 31, 1999
------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---------- ----------- ---------- ----------
(Amounts in thousands)
Debt Securities Available-for-Sale
U.S. Treasury securities and obligations of
U.S. government corporations and agencies $ 421,688 $ 553 $ (24,382) $ 397,859
Obligations of states and political
subdivisions 496,368 3,104 (14,132) 485,340
Debt securities issued by foreign governments 71,946 5,902 (1,149) 76,699
Corporate securities 1,373,138 6,957 (52,811) 1,327,284
Mortgage-backed securities 2,086,788 8,758 (71,262) 2,024,284
Other debt securities 64,176 1,346 (668) 64,854
---------- ----------- ---------- ----------
Total $4,514,104 $ 26,620 $ (164,404) $4,376,320
========== =========== ========== ==========
41
The amortized cost and estimated market value of debt securities,
including marketable securities, owned by the Company (excluding the Insurance
Subsidiaries) as of December 31, 2000, by contractual maturity, are shown
below. Expected maturities will differ from contractual maturities because
borrowers may have the right to call or prepay obligations with or without
call or prepayment penalties.
Estimated
Amortized Market
Cost Value
---------- ----------
(Amounts in thousands)
Debt Securities Available-for-Sale,
including Marketable Securities
Due in one year or less $ 10,386 $ 10,386
Due after one year through five years 118,229 117,214
Due after five years through ten years 19,339 19,915
Due after ten years 40,863 40,945
---------- ----------
188,817 188,460
Mortgage-backed securities 102,301 103,048
Redeemable preferred stocks
with no stated maturities 11,307 10,673
---------- ----------
$ 302,425 $ 302,181
========== ==========
The amortized cost and estimated market value of debt securities owned by
the Insurance Subsidiaries as of December 31, 2000, by contractual maturity,
are shown below. Expected maturities will differ from contractual maturities
because borrowers may have the right to call or prepay obligations with or
without call or prepayment penalties.
Estimated
Amortized Market
Cost Value
---------- ----------
(Amounts in thousands)
Debt Securities Available-for-Sale,
including Marketable Securities
Due in one year or less $ 255,300 $ 252,310
Due after one year through five years 712,155 707,940
Due after five years through ten years 801,285 803,511
Due after ten years 580,900 578,808
---------- ----------
2,349,640 2,342,569
Mortgage-backed securities 1,980,532 2,002,120
Redeemable preferred stocks
with no stated maturities 29,649 30,646
---------- ----------
$4,359,821 $4,375,335
========== ==========
Proceeds from sales of available-for-sale securities received by the
Company were $2,052,734,000, $1,808,735,000 and $1,504,131,000 in 2000, 1999 and
1998, respectively. Gross gains of $174,940,000, $142,027,000 and $88,751,000
and gross losses of $54,563,000, $44,999,000 and $50,798,000 were realized on
sales and write-downs during 2000, 1999 and 1998, respectively.
42
The change in the net unrealized gains or (losses) of the Company
(excluding the Insurance Subsidiaries) for the years ended December 31 are as
follows:
2000 1999
---------- ----------
(Amounts in thousands)
Fixed maturities $ 4,049 $ (15,570)
Equity securities (75,119) (41,397)
The change in the net unrealized gains or (losses) of the Insurance
Subsidiaries for the years ended December 31 are as follows:
2000 1999
---------- ----------
(Amounts in thousands)
Fixed maturities $ 153,298 $ (315,545)
Equity securities (60,434) 15,615
L. Equity-indexed annuities
During 1997, Farmers Life began selling an equity-indexed annuity product.
At the end of its seven year term, this product credits interest to the annuity
participant at a rate based on a specified portion of the change in the value
of the S&P 500, subject to a guaranteed annual minimum return. In order to
hedge the interest liability generated on the annuities as the index rises,
Farmers Life purchases call options on the S&P 500. Farmers Life considers
such S&P 500 call options to be held as a hedge. As of December 31, 2000 and
1999, Farmers Life had S&P 500 call options with contract values of $94,535,000
and $65,229,000, respectively, and carrying values of $26,271,000 and
$32,718,000, respectively.
Hedge accounting is used to account for the call options as Farmers Life
believes that the options reduce the risks associated with increases in the
account value of the annuities that result from increases in the S&P 500. The
call options effectively hedge the annuity contracts since they are both
purchased and sold with identical parameters. Periodically, the value of the
assets (S&P 500 call options) is matched to the potential liability (annuity
contracts) to ensure the hedge has remained effective. The annuities were
written based on a seven year investment term, absent early termination by
participants. Therefore, the anticipated hedged transaction (i.e., payment of
interest to the policyholder at the end of the investment term and maturity of
the call option) for each annuity is generally expected to occur in seven years
or less. The amount of unrealized hedging gains/(losses) was ($3,425,000) and
$13,197,000 in 2000 and 1999, respectively.
The S&P 500 call options are carried at estimated fair value. Unrealized
gains and losses resulting from changes in the estimated fair value of the call
options are recorded as an adjustment to the interest credited to
policyholders. In addition, realized gains and losses from maturity or
termination of the call options are offset against the interest credited to
policyholders during the period incurred. Premiums paid on call options are
amortized to net investment income over the term of the contracts. There were
no early terminations by annuity participants, or maturities or sales of the
S&P 500 call options during 2000.
The cash requirement of the call options consists of the initial premium
paid to purchase the call options. Should a liability exist to the annuity
participant at maturity of the annuity policy, the termination or maturity of
the option contracts will generate positive cash flow to Farmers Life. The
appropriate amount of cash will then be remitted to the annuity participant
based on the respective participation rate. The call options are generally
expected to be held for a seven year term, but can be terminated at any time.
There are certain risks associated with the call options, primarily with
respect to significant movements in the United States stock market and
counterparty nonperformance. The Company believes that the counterparties
43
to its call option agreements are financially responsible and that the
counterparty risk associated with these transactions is minimal.
M. Fair value of financial instruments
The estimated fair values of financial instruments disclosed have been
determined using available market information and appropriate valuation
methodologies. However, considerable judgment is required to interpret market
data to develop the estimates of fair value. Accordingly, the estimates
presented may not be indicative of the amounts the Company could realize in a
current market exchange. The use of different market assumptions and/or
estimation methodologies could have a significant effect on the estimated fair
value amounts.
December 31, 2000
--------------------------
Carrying Estimated
Value Fair Value
---------- ----------
(Amounts in thousands)
Assets and liabilities excluding Insurance
Subsidiaries:
Assets:
Cash and cash equivalents $ 132,245 $ 132,245
Marketable securities 10,386 10,386
Fixed maturities available-for-sale 291,795 291,795
Common stocks available-for-sale 242,066 242,066
Mortgage loans 92 96
Certificates of contribution and
surplus notes of the P&C Group 184,830 184,830
Notes receivable - affiliates 552,000 565,466
Grantor trust 61,131 61,131
Other investments 3,341 2,506
Other assets 31,303 25,598
Liabilities:
Real estate mortgages payable 16 17
Company obligated mandatorily redeemable
preferred securities of subsidiary trusts
holding solely junior subordinated debentures 500,000 497,050
Insurance Subsidiaries:
Assets:
Cash and cash equivalents 84,431 84,431
Marketable securities 9,997 9,997
Fixed maturities available-for-sale 4,365,338 4,365,338
Non-redeemable preferred stocks
available-for-sale 11,500 11,500
Common stocks available-for-sale 293,407 293,407
Mortgage loans 36,984 41,815
Certificates of contribution and
surplus notes of the P&C Group 502,500 502,500
Policy loans 218,162 226,304
Joint ventures, at equity 4,651 6,136
S&P 500 call options 26,271 26,271
Other investments 5,279 5,279
Liabilities:
Future policy benefits - deferred annuities 1,510,908 1,467,806
44
December 31, 1999
--------------------------
Carrying Estimated
Value Fair Value
---------- ----------
(Amounts in thousands)
Assets and liabilities excluding Insurance
Subsidiaries:
Assets:
Cash and cash equivalents $ 217,466 $ 217,466
Marketable securities 66,558 66,558
Fixed maturities available-for-sale 511,708 511,708
Common stocks available-for-sale 334,212 334,212
Mortgage loans 146 152
Certificates of contribution of the P&C Group 23,330 23,330
Notes receivable - affiliates 1,307,000 1,280,685
Grantor trust 59,727 59,727
Other assets 26,293 19,001
Liabilities:
Real estate mortgages payable 21 21
Company obligated mandatorily redeemable
preferred securities of subsidiary trusts
holding solely junior subordinated debentures 500,000 448,668
Insurance Subsidiaries:
Assets:
Cash and cash equivalents 96,034 96,034
Fixed maturities available-for-sale 4,376,320 4,376,320
Non-redeemable preferred stocks
available-for-sale 1,158 1,158
Common stocks available-for-sale 212,274 212,274
Mortgage loans 35,834 43,818
Surplus note of the P&C Group 119,000 119,000
Policy loans 201,687 199,166
Joint ventures, at equity 6,662 5,137
S&P 500 call options 32,718 32,718
Liabilities:
Future policy benefits - deferred annuities 1,531,412 1,481,098
45
The following methods and assumptions were used to estimate the fair value
of financial instruments as of December 31, 2000 and 1999:
Cash and cash equivalents and marketable securities. The carrying amounts
of these items are a reasonable estimate of their fair values.
Fixed maturities, non-redeemable preferred stocks and common stocks. The
estimated fair values of bonds, redeemable and non-redeemable preferred stocks
and common stocks are based upon quoted market prices, dealer quotes, and
prices obtained from independent pricing services.
Mortgage loans. The estimated fair value of the mortgage loans portfolio
is determined by discounting the estimated future cash flows, using a year-end
market rate which is applicable to the yield, credit quality and average
maturity of the composite portfolio.
Certificates of contribution and surplus notes of the P&C Group. The
carrying amounts of these items are a reasonable estimate of their fair values.
Notes receivable-affiliates. The fair values are estimated by
discounting the future cash flows using the current rates at which similar
loans would be made by the Company to borrowers for the same remaining
maturities.
Grantor trust. The carrying amount related to the grantor trust is a
reasonable estimate of its fair value.
Joint ventures, at equity. The estimated fair values are based upon
quoted market prices, current appraisals and independent pricing services.
Other investments. Other investments consist of miscellaneous notes and
investments. The carrying amounts related to miscellaneous notes are a
reasonable estimate of their fair values. The estimated fair values related
to miscellaneous investments are based upon quoted market prices, current
appraisals and independent pricing services.
Other assets. Other assets consist primarily of advances to agents, the
fair value of which is determined by discounting the estimated future cash
flows using credit quality, the average maturity of related advances, and the
current rates at which similar loans would be made to borrowers by the Company.
Policy loans. The estimated fair values of policy loans are determined by
discounting the future cash flows using the current rates at which similar
loans would be made.
S&P 500 call options. S&P 500 call options are purchased as hedges
against the interest liabilities generated on the equity-indexed annuity
products. These call options are carried at an estimated fair value based on
stock price, strike price, time to expiration, interest rates, dividends and
volatility per the methodology of the Black-Scholes Option Pricing Formula.
Real estate mortgages payable. The estimated fair values are determined
by discounting the estimated future cash flows at a rate which approximates the
Company's incremental borrowing rate.
Company obligated mandatorily redeemable preferred securities of
subsidiary trusts holding solely junior subordinated debentures. The
estimated fair values are based on quoted market prices.
Future policy benefits-deferred annuities. The estimated fair values of
flexible premium and single premium deferred annuities are based on their cash
surrender values.
46
N. Value of Life Business Acquired
The changes in the Value of Life Business Acquired were as follows:
2000 1999 1998
---------- ---------- ----------
(Amounts in thousands)
Balance, beginning of year $ 328,718 $ 334,442 $ 359,146
Amortization related to operations (51,648) (50,685) (53,598)
Interest accrued 28,799 30,998 29,701
Amortization related to net
unrealized gains/(losses) (5,728) 13,963 (807)
---------- ---------- ----------
Balance, end of year $ 300,141 $ 328,718 $ 334,442
========== ========== ==========
Based on current conditions and assumptions as to future events, Farmers
Life expects to amortize the December 31, 2000 balance as follows:
approximately 7.0% in 2001 and 2002 and 8.0% in 2003, 2004 and 2005. The
discount rate used to determine the amortization rate of the VOLBA asset ranged
from 12.5% to 7.5%.
O. Mortgage loans
The Company follows the principles of SFAS No. 118, "Accounting by
Creditors for Impairment of a Loan" (which amends SFAS No. 114). This
Statement requires that an impaired loan be measured based on the present
value of expected future cash flows discounted at the loan's effective interest
rate or, as a practical expedient, at the loan's observable market price or the
fair value of the collateral, if the loan is collateral dependent.
For the year ended December 31, 2000, Farmers Life held one mortgage loan
which was considered impaired. This loan was paid off in November 2000 and, as
a result, no loans were considered to be impaired, and no impaired loan
allowance was recorded as of December 31, 2000. For the year ending December
31, 1999, no loans were considered to be impaired, and no impaired loan
allowance was recorded.
The Company records interest income received on impaired mortgage loans on
a cash basis. The average recorded investment and income recognized on
impaired mortgage loans follows:
2000 1999
---------- ---------
(Amounts in thousands)
Average recorded investment in impaired
loans during the period $ 652 $ 0
Interest income recognized on the
impaired mortgage loans during the period 71 0
47
P. Security lending arrangements
The Company has security lending agreements with a financial institution.
The agreements in effect as of December 31, 2000 authorize the financial
institution to lend securities held in the Company's portfolio to a list of
authorized borrowers. Concurrent with delivery of the securities, the borrower
provides the Company with cash collateral equal to at least 102% of the market
value of domestic securities and 105% of the market value of other securities
subject to the "loan".
The securities are marked-to-market on a daily basis and the collateral is
adjusted on the next business day. The collateral is invested in highly
liquid, fixed income assets with a maturity of less than one year. Income
earned from the security lending arrangements was allocated 75% to the Company
and 25% to the institution for the years ended December 31, 2000 and 1999 and
60% to the Company and 40% to the institution for the year ended December 31,
1998. Income earned by the Company was $687,000, $799,000 and $968,000 in
2000, 1999 and 1998, respectively. The collateral under these agreements as
of December 31, 2000 and 1999 was $436,744,000 and $307,529,000, respectively.
Q. Employees' retirement plans
The Company has two noncontributory defined benefit pension plans (the
Regular Plan and the Restoration Plan). The Regular Plan covers substantially
all employees of the Company and the P&C Group who have reached age 21 and have
rendered one year of service. Benefits are based on years of service and the
employee's compensation during the last five years of employment. The
Restoration Plan provides supplemental retirement benefits for certain key
employees of the Company and the P&C Group.
The Company's policy is to fund the amount determined under the aggregate
cost method, provided it does not exceed funding limitations. There has been
no change in funding policy from prior years, and in 2000, a contribution of
$18,689,000 was made to the Regular Plan. The Company's share of this
contribution was $8,357,000.
Assets of the Regular Plan are held by an independent trustee. Assets
held are primarily in fixed maturity and equity investments. The principal
liability is for annuity benefit payments of current and future retirees.
Assets of the Restoration Plan are considered corporate assets and are held in
a grantor trust.
48
Information regarding the Regular Plan's and the Restoration Plan's funded
status is not developed separately for the Company and the P&C Group. The
funded status of the Plans for the Company and the P&C Group as of December 1,
2000 and 1999 (the latest date for which information is available) was as
follows:
2000 1999
---------- ----------
(Amounts in thousands)
Change in Benefit Obligation
Net benefit obligation at beginning of the year $ 803,894 $ 853,174
Service cost 27,262 29,395
Interest cost 65,023 58,469
Plan participants' contributions 0 0
Plan amendments 0 7,903
Actuarial (gain)/loss 51,563 (111,100)
Benefits paid (43,185) (33,948)
---------- ----------
$ 904,557 $ 803,893
========== ==========
Change in Plan Assets
Fair value of plan assets at beginning of the year $1,015,928 $ 924,301
Actual return on plan assets 21,594 124,380
Employer contributions 18,689 0
Plan participants' contributions 0 0
Benefits paid (41,912) (32,753)
---------- ----------
Fair value of plan assets at end of the year $1,014,299 $1,015,928
========== ==========
Funded status at end of the year $ 109,743 $ 212,034
Unrecognized net actuarial (gain)/loss (147,236) (287,586)
Unrecognized prior service cost 31,854 35,859
Unrecognized net transition obligation/(asset) (16,834) (21,510)
---------- ----------
Net amount recognized at end of the year $ (22,473) $ (61,203)
========== ==========
Amounts recognized in the statement of
financial position consist of:
Prepaid benefit cost $ 0 $ 0
Accrued benefit cost (22,473) (61,203)
Additional minimum liability (6,367) (5,382)
Intangible asset 4,378 5,237
Accumulated other comprehensive income 1,989 145
---------- ----------
Net amount recognized at end of the year $ (22,473) $ (61,203)
========== ==========
Upon B.A.T's purchase of the Company in 1988, the Company allocated part
of the purchase price to its portion of the Regular Plan assets in excess of
the projected benefit obligation at the date of acquisition. The asset is
being amortized for the difference between the Company's net pension cost and
amounts contributed to the Plan. The unamortized balance as of December 31,
2000 and 1999 was $13,258,000 and $16,940,000, respectively.
Components of net periodic pension expense for the Company follow:
2000 1999 1998
---------- ---------- ----------
(Amounts in thousands)
Service costs $ 14,064 $ 15,126 $ 13,240
Interest costs 38,035 34,525 27,810
Return on plan assets (53,947) (49,000) (35,817)
Amortization of:
Transition obligation 987 955 1,365
Prior service cost 2,597 2,207 1,986
Actuarial (gain)/loss (9,561) (2,445) (2,447)
---------- ---------- ----------
Net periodic pension expense $ (7,825) $ 1,368 $ 6,137
========== ========== ==========
The Company uses the projected unit credit cost actuarial method for
attribution of expense for financial reporting purposes. The interest cost and
the actuarial present value of benefit obligations were computed using a
weighted average interest rate of 7.75% in 2000, 8.00% in 1999 and 6.75% in
1998, while the expected return on plan assets was computed using a weighted
average interest rate of 9.50% in 2000 and 9.25% in 1999 and 1998. The
weighted average rate of increase in future compensation levels used in
determining the actuarial present value of the projected benefit obligation
was 4.70% in 2000, 5.00% in 1999 and 4.50% in 1998.
The Company's postretirement benefits plan is a contributory defined
benefit plan for employees who were retired or who were eligible for early
retirement as of January 1, 1995, and is a contributory defined dollar plan for
all other employees retiring after January 1, 1995. Health benefits are
provided for all employees who participated in the Company's and the P&C
Group's group medical benefits plan for the 10 years prior to retirement at age
55 or later. A life insurance benefit of $5,000 is provided at no cost to
retirees who maintained group insurance coverage for the 10 years prior to
retirement at age 55 or later.
There are no assets separated and allocated to this plan.
50
The funded status of the entire plan, which includes the Company and the
P&C Group, as of December 1, 2000 and 1999 (the latest date for which
information is available), was as follows:
2000 1999
---------- ----------
(Amounts in thousands)
Change in Benefit Obligation
Net benefit obligation at beginning of the year $ 79,501 $ 80,367
Service cost 1,427 1,537
Interest cost 6,280 5,374
Plan participants' contributions 1,729 1,575
Plan amendments 0 0
Actuarial (gain)/loss 34,131 (5,892)
Benefits paid (5,173) (3,460)
---------- ----------
$ 117,895 $ 79,501
========== ==========
Fair value of plan assets at end of the year $ 0 $ 0
========== ==========
Funded status at end of the year $ (117,895) $ (79,501)
Unrecognized net actuarial (gain)/loss 20,659 (14,070)
Unrecognized prior service cost 0 0
Unrecognized net transition obligation/(asset) 15,732 17,044
---------- ----------
Net amount recognized at end of the year $ (81,504) $ (76,527)
========== ==========
Amounts recognized in the statement of
financial position consist of:
Prepaid benefit cost $ 0 $ 0
Accrued benefit cost (81,504) (76,527)
Additional minimum liability 0 0
Intangible asset 0 0
Accumulated other comprehensive income 0 0
---------- ----------
Net amount recognized at end of the year $ (81,504) $ (76,527)
========== ==========
51
The unrecognized net transition obligation of $15,732,000 in 2000 and
$17,044,000 in 1999 represents the remaining transition obligation of the P&C
Group.
The Company's share of the accrued postretirement benefit cost was
approximately $57,758,000 in 2000 and $55,578,000 in 1999.
Components of postretirement benefits expense for the Company follow:
2000 1999 1998
---------- ---------- ----------
(Amounts in thousands)
Service costs $ 736 $ 696 $ 636
Interest costs 3,786 3,263 2,527
Return on plan assets 0 0 0
Amortization of:
Transition obligation 0 0 0
Prior service cost 0 0 0
Actuarial (gain)/loss (361) (9) (435)
---------- ---------- ----------
Net periodic expense $ 4,161 $ 3,950 $ 2,728
========== ========== ==========
The weighted average interest rate used in the above benefit computations
was 7.75% in 2000, 8.00% in 1999 and 6.75% in 1998. Beginning in 1998, the
initial medical inflation rate was 6.50%, to be graded over a 1-year period to
6.00% and level thereafter, and contribution levels from retirees were the same
as applicable medical cost increases where defined benefits exist. The
weighted average rate of increase in future compensation levels used in
determining the actuarial present value of the accumulated benefit obligation
was 4.70% in 2000, 5.00% in 1999 and 4.50% in 1998.
A 1.00% increase or decrease in the medical inflation rate assumption
would have resulted in the following:
1% increase 1% decrease
------------- -------------
(Amounts in thousands)
Effect on 2000 service and interest components
of net periodic cost $ 161 $ (147)
Effect on accumulated postretirement benefit
obligation at December 31, 2000 2,279 (2,219)
R. Commitments and contingencies
Rental expense incurred by the Company was $33,568,000, $28,727,000 and
$22,332,000 in 2000, 1999 and 1998, respectively.
The Company has long-term operating lease commitments on equipment and
buildings, with options to renew at the end of the lease periods. As of
December 31, 2000, the remaining commitments payable over the next five years
under these leases were:
52
Equipment Buildings
----------- -----------
(Amounts in thousands)
2001 $ 7,986 $ 5,323
2002 6,644 5,465
2003 2,048 3,828
2004 545 2,971
2005 38 2,890
----------- -----------
$ 17,261 $ 20,477
=========== ===========
The Company is a party to numerous lawsuits arising from its normal
business activities. These actions are in various stages of discovery and
development, and some seek punitive as well as compensatory damages. In the
opinion of management, the Company has not engaged in any conduct which should
warrant the award of any material punitive or compensatory damages. The
Company intends to vigorously defend its position in each case, and management
believes that, while it is not possible to predict the outcome of such matters
with absolute certainty, ultimate disposition of these proceedings should not
have a material adverse effect on the Company's consolidated results of
operations or financial position.
The Company has entered into employment agreements with certain executives
of the Company. Each agreement obligates the Company to compensate the
executive should the executive's employment be terminated due to a qualifying
event, as defined within the agreement. In the opinion of management, any
payments made as a result of these agreements would not have a material
adverse effect on the Company's consolidated results of operations or
financial position.
S. Income taxes
The Company follows the provisions of SFAS No. 109, "Accounting for
Income Taxes". Deferred tax assets and deferred tax liabilities are recorded
to reflect the tax consequences in future years of differences between the tax
bases of assets and liabilities and the corresponding bases used for financial
statements.
53
The components of the provision for income taxes are:
2000 1999 1998
---------- ---------- ----------
(Amounts in thousands)
Management services to the P&C
Group; and other:
Current
Federal $ 309,996 $ 293,191 $ 302,669
State 45,447 43,148 38,271
Deferred
Federal (7,079) (10,976) (46,701)
State (230) (40) (3,487)
---------- ---------- ----------
Total 348,134 325,323 290,752
---------- ---------- ----------
Insurance Subsidiaries:
Current
Federal 128,373 98,166 83,981
State 1,107 1,512 1,089
Deferred
Federal (13,740) 2,500 (2,100)
State (650) (574) 0
---------- ---------- ----------
Total 115,090 101,604 82,970
---------- ---------- ----------
Consolidated total $ 463,224 $ 426,927 $ 373,722
========== ========== ==========
The table below reconciles the provision for income taxes computed at
the U.S. statutory income tax rate of 35% to the Company's provision for
income taxes:
2000 1999 1998
---------- ---------- ----------
(Amounts in thousands)
Management services to the P&C
Group; and other:
Expected tax expense $ 297,923 $ 282,241 $ 249,059
State income taxes, net of
federal income tax benefits 28,928 27,442 22,059
Tax exempt investment income (4,321) (10,026) (11,086)
Goodwill 21,015 21,015 21,015
Other, net 4,589 4,651 9,705
---------- ---------- ----------
Reported income tax expense 348,134 325,323 290,752
---------- ---------- ----------
Insurance Subsidiaries:
Expected tax expense 118,067 104,124 83,637
Tax exempt investment income (3,345) (4,523) (3,013)
State taxes 457 1,029 362
Other, net (89) 974 1,984
---------- ---------- ----------
Reported income tax expense 115,090 101,604 82,970
---------- ---------- ----------
Consolidated income tax expense $ 463,224 $ 426,927 $ 373,722
========== ========== ==========
54
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities as of
December 31, 2000 and 1999 are presented in the following tables:
As of December 31, 2000
-----------------------------------------------
Current Non-current Total
----------- ------------ ------------
(Amounts in thousands)
Management services to the P&C
Group; and other:
Depreciation $ 0 $ (60,424) $ (60,424)
Achievement awards 0 0 0
Employee benefits 8,276 16,631 24,907
Capitalized expenditures 0 (78,988) (78,988)
California franchise tax 31,651 0 31,651
Postretirement benefits 0 15,619 15,619
Postemployment benefits 0 161 161
Valuation of investments
in securities 85 14,951 15,036
Attorney-in-fact relationships 0 (451,017) (451,017)
Other 597 (8,030) (7,433)
----------- ------------ ------------
Total deferred tax
asset/(liability) 40,609 (551,097) (510,488)
----------- ------------ ------------
Insurance Subsidiaries:
Deferred policy acquisition
costs and value of life
business acquired 0 (234,762) (234,762)
Future policy benefits 0 89,459 89,459
Investments 0 33,601 33,601
Valuation of investments
in securities 0 9,805 9,805
Depreciable assets 0 (4,334) (4,334)
Loss reserves 0 987 987
Other 0 7,977 7,977
----------- ------------ ------------
Total deferred tax liability 0 (97,267) (97,267)
----------- ------------ ------------
Consolidated total deferred tax
asset/(liability) $ 40,609 $ (648,364) $ (607,755)
=========== ============ ============
As of December 31, 1999
-----------------------------------------------
Current Non-current Total
----------- ------------ ------------
(Amounts in thousands)
Management services to the P&C
Group; and other:
Depreciation $ 0 $ (60,781) $ (60,781)
Achievement awards 298 0 298
Employee benefits 7,050 14,585 21,635
Capitalized expenditures 0 (68,114) (68,114)
California franchise tax 26,338 0 26,338
Postretirement benefits 0 22,052 22,052
Postemployment benefits 0 161 161
Valuation of investments
in securities 1,503 (11,537) (10,034)
Attorney-in-fact relationships 0 (467,124) (467,124)
Other 1,706 (9,144) (7,438)
----------- ------------ ------------
Total deferred tax
asset/(liability) 36,895 (579,902) (543,007)
----------- ------------ ------------
Insurance Subsidiaries:
Deferred policy acquisition
costs and value of life
business acquired 0 (245,850) (245,850)
Future policy benefits 0 115,336 115,336
Investments 0 15,447 15,447
Valuation of investments
in securities 0 28,990 28,990
Depreciable assets 0 (4,620) (4,620)
Loss reserves 0 1,323 1,323
Other 0 651 651
----------- ------------ ------------
Total deferred tax liability 0 (88,723) (88,723)
----------- ------------ ------------
Consolidated total deferred tax
asset/(liability) $ 36,895 $ (668,625) $ (631,730)
=========== ============ ============
55
T. Management fees
As AIF, the Company, or its subsidiaries, as applicable, manages the
affairs of the P&C Group and receives management fees for the services
rendered. As a result, the Company received management fees from the P&C
Group of $1,492,217,000, $1,402,107,000 and $1,271,763,000 in 2000, 1999 and
1998, respectively.
U. Supplemental cash flow information
For financial statement purposes, the Company considers all investments
with original maturities of 90 days or less as cash equivalents. Following is
a reconciliation of the individual balance sheet cash and cash equivalent
totals to the consolidated cash flow total:
Excluding
Insurance Insurance
Subsidiaries Subsidiaries Consolidated
------------ ------------ ------------
(Amounts in thousands)
Cash and cash equivalents --December 31, 1997 $ 479,935 $ 36,318 $ 516,253
1998 Activity (188,701)
------------
Cash and cash equivalents --December 31, 1998 253,828 73,724 327,552
1999 Activity (14,052)
------------
Cash and cash equivalents --December 31, 1999 217,466 96,034 $ 313,500
2000 Activity (96,824)
------------
Cash and cash equivalents --December 31, 2000 132,245 84,431 $ 216,676
============
Cash payments for interest were $1,742,000, $1,693,000 and $2,671,000 in
2000, 1999 and 1998, respectively, while cash payments for dividends to the
holders of the Company's QUIPS were $42,070,000 in 2000, 1999 and 1998. Cash
payments for income taxes were $440,008,000, $426,017,000 and $423,803,000 in
2000, 1999 and 1998, respectively.
In 2000, the Company used $580,000,000 of proceeds received from the sale
of the notes receivable from UKISA (see Note F) to help fund the payment of
the $1,075,000,000 special dividend associated with the Zurich capital
structure unification in October 2000. Also, in 2000, the Company purchased
$370,000,000 of certificates of contribution of the P&C Group to help fund the
Exchanges' acquisition of Foremost (see Note G).
In 1999, the Company used $190,000,000 of proceeds it received from the
settlement of a loan to Centre Reinsurance Holdings (Delaware II) Ltd., a
subsidiary of Zurich, to substantially fund the issuance of the $250,000,000
loan to OSDH (see Note F).
In 1998, the Company used $650,000,000 of proceeds it received from the
redemption of certificates of contribution of the P&C Group and $407,000,000
of proceeds it received from the settlement of notes receivable from B.A.T
Capital Corporation, a subsidiary of B.A.T, to issue $1,057,000,000 of notes
receivable to UKISA (see Note F). In addition, Farmers Life purchased a
$119,000,000 surplus note of the P&C Group on September 8, 1998 (see Note G).
V. Revolving credit agreement
As of December 31, 2000 and 1999, the Company had a revolving credit
agreement with certain financial institutions and had an aggregate borrowing
facility of $500,000,000. The proceeds of the facility were available to the
Company for general corporate purposes, including loans to the P&C Group. As
of December 31, 2000 and 1999, facility fees were payable on the aggregate
borrowing facility in the amount of 7 basis points per annum and were
reimbursable to the Company by the P&C Group. In the case of a draw on the
facility, the Company has the option to borrow at annual rates equal to the
prime rate, the banks' certificate of deposit rate plus one percentage
56
point, the federal funds effective rate plus 1/2 of one percentage point
or the London Interbank Offered Rate plus certain percentages. As of
December 31, 2000 and 1999, the Company did not have any outstanding borrowings
under the revolving credit agreement. Facility fees were $350,000 for each of
the years ended December 31, 2000, 1999 and 1998, and were reimbursed by the
P&C Group. The revolving credit agreement in effect as of December 31, 2000
expires on July 1, 2002.
W. Separate accounts
The assets and liabilities held in Separate Assets relate to the variable
universal life and annuity products offered by Farmers Life beginning in April
2000. The assets and liabilities held in the Separate Accounts are legally
segregated from the general assets and liabilities of the Company. The assets
of the Separate Accounts are carried at fair market value. The Separate
Accounts liabilities represent the contract holders' claims to the related
assets and are carried at the fair market value of the assets. Investment
income and realized capital gains and losses of the Separate Accounts accrue
directly to the contract holders and therefore are not included in the
Company's consolidated statements of income and comprehensive income. Revenues
to the Company from the Separate Accounts generally consist of administration,
surrender and mortality fees.
X. Participating policies
Participating business, which consists of group business, comprised
approximately 7.7% of Farmers Life's total insurance in-force as of December
31, 2000 and 8.6% of the total insurance-in-force as of December 31, 1999. In
addition, participating business represented 2.0% of Farmers Life's premium
income for the years ended December 31, 2000 and 1999 and 2.1% for the year
ended December 31, 1998.
The amount of dividends paid on participating business is determined by
the Farmers Life Board of Directors and is paid annually on the policyholder's
anniversary date. Amounts allocable to participating policyholders are based
on published dividend projections or expected dividend scales.
Y. Life reinsurance
Farmers Life has retention limits for automatic reinsurance ceded which
set the maximum retention on new issues at $2,000,000 per life for the Farmers
Flexible Universal Life policy; $1,500,000 per life for all Traditional
policies except Farmers Yearly Renewable Term; and $800,000 per life for
Farmers Yearly Renewable Term. The excess is reinsured with a third party
reinsurer. In addition, beginning in January 2000, Farmers Life entered into
a co-insurance agreement with a third party insurer to reinsure the Farmers
Level Term 2000 5, 10 and 20 year products, which replaced the Farmers Premier
5, 10 and 20 year products. Premiums ceded under these agreements totaled
$33,527,000 in 2000, $13,939,000 in 1999 and $3,728,000 in 1998. Life
reinsurance receivables, which totaled $15,173,000 and $10,846,000 at December
31, 2000 and 1999, respectively, were included in the "Other assets" line in
the Insurance Subsidiaries section of the Company's consolidated balance
sheets.
Z. Operating segments
The Company's principal services are the provision of management services
to the P&C Group and the ownership and operation of the life and reinsurance
subsidiaries. These activities are managed separately as each offers a unique
set of services. As a result, the Company is comprised of the following three
reportable operating segments as defined in SFAS No. 131, "Disclosures about
Segments of an Enterprise and Related Information": the management services
segment, the life insurance segment and the reinsurance segment.
As AIF, the management services segment is primarily responsible for
providing management services to the P&C Group. Management fees earned from
the P&C Group totaled $1,492,217,000, $1,402,107,000 and $1,271,763,000 for
the years ended December 31, 2000, 1999 and 1998, respectively. The life
insurance segment
57
provides individual life insurance products, including universal life, term
life and whole life insurance and structured settlement and annuity products,
as well as variable universal life and annuity products. Finally, the
reinsurance segment provides reinsurance coverage to a percentage of the auto
physical damage business written by the P&C Group.
The basis of accounting used by the Company's management in evaluating
segment performance and determining how resources should be allocated is
referred to as the Company's GAAP historical basis, which excludes the effects
of the purchase accounting ("PGAAP") adjustments related to the acquisition of
the Company by B.A.T in December 1988 (see Note A). This differs from the
basis used in preparing the Company's financial statements included in the SEC
Form 10-K and 10-Q Reports, which incorporates the effects of the PGAAP
adjustments.
The Company accounts for intersegment transactions as if they were to
third parties and, as such, records the transactions at current market
prices. There were no reportable intersegment revenues among the Company's
three reportable operating segments for the years ended December 31, 2000,
1999 and 1998.
The Company operates throughout the U.S. and does not earn revenues or
hold assets in any foreign countries.
Information regarding the Company's reportable operating segments
follows:
Year ended December 31, 2000
---------------------------------------------------------------------------------------------------
- ------
GAAP historical basis PGAAP adjustments
Consolidated
------------------------------------------------------ -------------------------------------
Management Life Management Life
PGAAP
services insurance Reinsurance Total services insurance Total
basis
------------------------------------------------------ ------------------------------------- -----
- ------
(Amounts in thousands)
Revenues $1,588,797 $ 805,967 (a) $1,052,636 (a) $3,447,400 $ 0 $ (918) $ (918) $
3,446,482
Investment
income 127,736 334,840 42,578 505,154 (620) (918) (1,538)
503,616
Investment
expenses 0 (11,933) (11,218) (23,151) 0 0 0
(23,151)
Net realized
gains/(losses) 68,481 39,856 21,276 129,613 0 0 0
129,613
Dividends
on preferred
securities of
subsidiary
trusts (42,070) 0 0 (42,070) 0 0 0
(42,070)
Income before
provision for
taxes 958,919 (b) 268,783 77,328 1,305,030 (107,710)(c) (8,777)(d) (116,487)
1,188,543
Provision for
income taxes 366,402 94,112 24,699 485,213 (18,268) (3,721) (21,989)
463,224
Assets 2,218,960 6,043,953 972,838 9,235,751 2,957,720 (e) 140,360 (f) 3,098,080
12,333,831
Capital
expenditures 93,727 7,174 0 100,901 0 0 0
100,901
Depreciation and
amortization 96,961 104,414 (g) 0 201,375 104,264 (c) 8,216 (d) 112,480
313,855
- -----------------------
(a) Revenues for the insurance operating segments include net investment
income and net realized gains/(losses).
(b) Amount includes $44.7 million of corporate expenses.
(c) Amount includes PGAAP adjustments associated with the amortization of
the AIF relationships ($42.7 million) and goodwill ($60.0 million).
(d) Amount includes PGAAP adjustments associated with the amortization of the
VOLBA asset and the reversal of amortization associated with the pre-1988
DAC asset.
(e) Amount includes PGAAP adjustments associated with the AIF relationships
($1,196.3 million) and goodwill ($1,681.2 million).
(f) Amount includes PGAAP adjustments related to the DAC (($169.8) million) and
VOLBA ($300.1 million) assets.
(g) Amount includes the historical basis amortization associated with the DAC
asset.
58
Year ended December 31, 1999
---------------------------------------------------------------------------------------------------
- ------
GAAP historical basis PGAAP adjustments
Consolidated
------------------------------------------------------ -------------------------------------
Management Life Management Life
PGAAP
services insurance Reinsurance Total services insurance Total
basis
------------------------------------------------------ ------------------------------------- -----
- ------
(Amounts in thousands)
Revenues $1,489,683 $ 753,463 (a) $1,028,526 (a) $3,271,672 $ 0 $ (1,272) $ (1,272) $
3,270,400
Investment
income 118,829 320,760 37,512 477,101 (1,339) (949) (2,288)
474,813
Investment
expenses 0 (12,137) (9,621) (21,758) 0 0 0
(21,758)
Net realized
gains/(losses) 82,667 24,482 635 107,784 (7,429) (323) (7,752)
100,032
Dividends
on preferred
securities of
subsidiary
trusts (42,070) 0 0 (42,070) 0 0 0
(42,070)
Income before
provision for
taxes 924,084 (b) 273,289 53,314 1,250,687 (117,682)(c) (29,105)(d) (146,787)
1,103,900
Provision for
income taxes 347,351 96,740 15,625 459,716 (22,028) (10,761) (32,789)
426,927
Assets 3,215,497 5,516,874 849,192 9,581,563 3,065,440 (e) 149,282 (f) 3,214,722
12,796,285
Capital
expenditures 87,167 2,507 0 89,674 0 0 0
89,674
Depreciation and
amortization 53,163 77,652 (g) 0 130,815 105,079 (c) 28,222 (d) 133,301
264,116
- -----------------------
(a) Revenues for the insurance operating segments include net investment
income and net realized gains/(losses).
(b) Amount includes $47.9 million of corporate expenses.
(c) Amount includes PGAAP adjustments associated with the amortization of
the AIF relationships ($42.7 million) and goodwill ($60.0 million).
(d) Amount includes PGAAP adjustments associated with the amortization of the
VOLBA asset and the reversal of amortization associated with the pre-1988
DAC asset. Included in this amount are adjustments totaling $21.3 million,
increasing expense, due to unfavorable persistency experience on the pre-
1988 business.
(e) Amount includes PGAAP adjustments associated with the AIF relationships
($1,239.1 million) and goodwill ($1,741.3 million).
(f) Amount includes PGAAP adjustments related to the DAC (($190.1) million) and
VOLBA ($328.7 million) assets.
(g) Amount includes the historical basis amortization associated with the DAC
asset which included a $23.3 million adjustment, reducing expense, due to
favorable persistency experience on the fixed universal life business.
Year ended December 31, 1998
---------------------------------------------------------------------------------------------------
- ------
GAAP historical basis PGAAP adjustments
Consolidated
------------------------------------------------------ -------------------------------------
Management Life Management Life
PGAAP
services insurance Reinsurance Total services insurance Total
basis
------------------------------------------------------ ------------------------------------- -----
- ------
(Amounts in thousands)
Revenues $1,358,175 $ 660,419 (a) $1,012,390 (a) $3,030,984 $ 0 $ 207 $ 207 $
3,031,191
Investment
income 136,024 307,221 13,621 456,866 (962) 207 (755)
456,111
Investment
expenses 0 (13,658) 0 (13,658) 0 0 0
(13,658)
Net realized
gains/(losses) 64,430 (13,473) (1,335) 49,622 (2,002) 0 (2,002)
47,620
Dividends
on preferred
securities of
subsidiary
trusts (42,070) 0 0 (42,070) 0 0 0
(42,070)
Income before
provision for
taxes 821,885 (b) 199,609 37,178 1,058,672 (110,289)(c) 2,179 (108,110)
950,562
Provision for
income taxes 309,992 71,072 11,784 392,848 (19,240) 114 (19,126)
373,722
Assets 3,089,150 5,437,577 797,984 9,324,711 3,183,651 (d) 178,242 (e) 3,361,893
12,686,604
Capital
expenditures 59,300 572 0 59,872 0 0 0
59,872
Depreciation and
amortization 71,658 94,902 (f) 0 166,560 104,891 (c) (1,280)(g) 103,611
270,171
- -----------------------
(a) Revenues for the insurance operating segments include net investment
income and net realized gains/(losses).
(b) Amount includes $35.1 million of corporate expenses.
(c) Amount includes PGAAP adjustments associated with the amortization of
the AIF relationships ($42.7 million) and goodwill ($60.0 million).
(d) Amount includes PGAAP adjustments associated with the AIF relationships
($1,281.8 million) and goodwill ($1,801.3 million).
(e) Amount includes PGAAP adjustments related to the DAC (($168.3) million)
and VOLBA ($334.4 million) assets.
(f) Amount includes the historical basis amortization associated with the
DAC asset.
(g) Amount includes PGAAP adjustments related to the amortization of the DAC
(($26.2) million) and VOLBA ($23.9 million) assets.
59
AA. Subsequent events
In connection with the private placement of an aggregate of $1,125,000,000
of securities by six Zurich RegCaPS Funding Trusts, the Company recapitalized
its current capital structure. On February 9, 2001, ZGH, the owner of 500
Class A Shares, exchanged 50 Class A Shares for 50 shares of a new class of
common stock, the Class C common stock, par value $1.00 per share (the "Class
C Shares"). The Class C Shares were issued in six series (C-1 through C-6).
Subsequently, ZGH contributed each respective series of the Class C Shares to
one of six Zurich RegCaPS Funding Limited Partnerships (collectively, the
"Partnerships"), which are controlled by Zurich Insurance Company (an affiliate
of ZGH). As a result, upon completion of the recapitalization, 450 Class A
Shares were owned by ZGH, 500 Class B Shares were owned by Allied Zurich
Holdings Limited and 50 Class C Shares were owned by the Partnerships.
Class A and Class B Shares
The holders of the Class A Shares are entitled to 1.0694444 votes per
share and the holders of Class B Shares are entitled to .1111111 of a vote per
share (each subject to adjustment in the event of any stock dividend, stock
split, stock distribution or combination with respect to any shares of capital
stock of the Company) upon the election of directors and on all other matters
upon which stockholders generally are entitled to vote. In the event of a
liquidation, dissolution or winding up of the Company, the holders of Class
A Shares are entitled to share equally and ratably with the holders of Class
C Shares in the assets of the Company, if any, remaining after payment of all
liabilities of the Company and the Class C Share liquidation preference, to the
exclusion of the holders of Class B Shares.
Subject to the rights of the holders of Class C Shares, the holders of
Class A Shares and the holders of Class B Shares shall be entitled to receive
dividends, when and if declared by the Board of Directors, out of funds legally
available therefor.
Class C Shares
The holders of Class C Shares are entitled to 0.375 of a vote per share
upon the election of directors and on all other matters upon which
stockholders generally are entitled to vote. However, at no time shall the
aggregate voting power of the Class C Shares be greater than 3.375% of the
total voting power of the Company. Upon any dissolution, liquidation or
winding up of the Company, after payment of the liabilities of the Company and
the expenses of such dissolution, liquidation or winding up, the holders of
Class C Shares will be entitled to receive in the aggregate out of the assets
of the Company, before any payment or distribution is made to the holders of
Class A Shares or Class B Shares, $1,125,000,000 in liquidation preference
(the "Class C Liquidation Preference"). To the extent the amount available
for distribution upon liquidation, dissolution or winding up exceeds the Class
C Liquidation Preference, the holders of Class C Shares are entitled to receive
7.4503311% (as adjusted from time to time based upon the percentage of the
Company's fair market value represented by the Class C Shares at the time of
such adjustment) of the aggregate amount available for payment of
distributions on liquidation with respect to the Company's common stock.
Amounts payable on the Class C Shares in connection with the liquidation of
the Company in excess of the Class C Liquidation Preference are payable on a
pari passu basis with the holders of the Class A Shares and any other shares
that rank junior to the Class C Shares with respect to payments upon
liquidation.
The holders of Class C Shares are entitled to receive non-cumulative
dividends when, as and if declared by the Board of Directors out of funds
legally available therefor. No cash dividends may be declared or paid on any
Class A Shares, Class B Shares or any other shares of common stock that rank
junior to the Class C Shares with respect to payment of dividends, unless (i)
full dividends have been declared for payment on the Class C Shares in an
amount at least equal to the greater of (A) the dividends payable or set apart
during the dividend period during which such cash dividends are paid at the
respective Class C Share indicative rate (as defined in the Certificates of
Designations of Class C-1 through Class C-6 Shares) or (B) 7.4503311% (as
adjusted as set forth above) of the amount of dividends paid or set apart for
payment by the Company on its common shares (including the Class C
60
Shares) during any relevant dividend period, (ii) the Partnerships have set
apart or paid the full amount of cash remittances (the "RegCaPS Payments")
payable to the holders of the regulatory capital preferred securities (the
"RegCaPS") issued by the Partnerships during any RegCaPS Payments period, (iii)
the six Zurich RegCaPS Funding LLCs (collectively, the "LLC") who hold the
RegCaPS, have set apart or paid certain cash payments during any LLC payment
period on the LLC preferred interests issued by each LLC, and (iv) such
dividend does not cause the net worth of the Company to be less than $3 billion
(as adjusted from time to time).
61
FARMERS GROUP, INC.
AND SUBSIDIARIES
QUARTERLY FINANCIAL DATA
(Unaudited)
Three months ended Year ended
-------------------------------------------------------- ------------
Mar. 31 June 30 Sept. 30 Dec. 31 Dec. 31
----------- ----------- ----------- ----------- ------------
(Amounts in thousands)
2000
- ------
Revenues:
Management services $ 375,332 $ 396,785 $ 407,681 $ 408,999 $ 1,588,797
Insurance Subsidiaries 449,800 458,658 472,324 476,903 1,857,685
----------- ----------- ----------- ----------- ------------
Consolidated 825,132 855,443 880,005 885,902 3,446,482
----------- ----------- ----------- ----------- ------------
Income before provision for
income taxes:
Management services 209,908 210,199 215,663 215,439 851,209
Insurance Subsidiaries 73,304 78,427 89,737 95,866 337,334
----------- ----------- ----------- ----------- ------------
Consolidated 283,212 288,626 305,400 311,305 1,188,543
----------- ----------- ----------- ----------- ------------
Provision for income taxes:
Management services 86,039 85,015 88,664 88,416 348,134
Insurance Subsidiaries 25,091 26,894 31,022 32,083 115,090
----------- ----------- ----------- ----------- ------------
Consolidated 111,130 111,909 119,686 120,499 463,224
----------- ----------- ----------- ----------- ------------
Consolidated net income $ 172,082 $ 176,717 $ 185,714 $ 190,806 $ 725,319
=========== =========== =========== =========== ============
1999
- ------
Revenues:
Management services $ 365,778 $ 375,312 $ 375,177 $ 373,416 $ 1,489,683
Insurance Subsidiaries 436,375 449,272 437,964 457,106 1,780,717
----------- ----------- ----------- ----------- ------------
Consolidated 802,153 824,584 813,141 830,522 3,270,400
----------- ----------- ----------- ----------- ------------
Income before provision for
income taxes:
Management services 186,784 221,992 213,487 184,139 806,402
Insurance Subsidiaries 67,392 76,546 67,374 86,186 297,498
----------- ----------- ----------- ----------- ------------
Consolidated 254,176 298,538 280,861 270,325 1,103,900
----------- ----------- ----------- ----------- ------------
Provision for income taxes:
Management services 76,778 89,885 89,145 69,515 325,323
Insurance Subsidiaries 22,353 26,007 22,818 30,426 101,604
----------- ----------- ----------- ----------- ------------
Consolidated 99,131 115,892 111,963 99,941 426,927
----------- ----------- ----------- ----------- ------------
Consolidated net income $ 155,045 $ 182,646 $ 168,898 $ 170,384 $ 676,973
=========== =========== =========== =========== ============
62
ITEM 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosures
None.
PART III
ITEM 10. Directors and Executive Officers of Farmers Group, Inc.
MANAGEMENT
Executive Officers and Directors
The following table sets forth certain information concerning each
person who is an executive officer or director of FGI as of the filing
date:
Name Age Position
- ------ ----- -----------
Martin D. Feinstein (1) (2) 52 Chairman of the Board, President and Chief Executive Officer
Jason L. Katz (1) (2) 53 Executive Vice President, General Counsel and Director
John H. Lynch (2) 49 Executive Vice President-Field Operations and Director
Keitha T. Schofield (2) 49 Executive Vice President-Support Services and Director
Cecilia M. Claudio (2) 46 Senior Vice President, Chief Information Officer and Director
Gerald E. Faulwell (2) 58 Senior Vice President, Chief Financial Officer and Director
Stephen J. Feely 52 Senior Vice President, Chief Marketing Officer and Director
Leonard H. Gelfand (2) 56 Senior Vice President, President of Farmers Business Insurance and
Director
Paul N. Hopkins 44 Senior Vice President-State Operations and Director
Stephen J. Leaman (2) 53 Senior Vice President, President of Farmers Personal Lines and
Director
C. Paul Patsis (2) 52 Senior Vice President, President of Farmers Life and Director
- -----------------
(1) Member of the Administrative Committee
(2) Member of the Audit and Compliance Committee
The present position and principal occupation during each of the last five
years of the executive officers and directors named above are set forth below.
Martin D. Feinstein has served as Chairman of the Board since November
1997, Chief Executive Officer of FGI since January 1997, President of FGI
since January 1995 and as a director of FGI since February 1995. In
addition, Mr. Feinstein is a member of the Group Management Board of ZGH.
Previously, Mr. Feinstein served as a director of B.A.T from January 1997 to
September 1998 and held various positions with FGI, including serving as Chief
Operating Officer of FGI from January 1995 to January 1997.
Jason L. Katz has served as Executive Vice President and General Counsel
of FGI since June 1998 and as a director of FGI since May 1986. Previously,
Mr. Katz served as Senior Vice President and General Counsel of FGI from
February 1992 to June 1998.
John H. Lynch has served as Executive Vice President-Field Operations
since June 1999 and as a director of FGI since July 1998. Previously, Mr.
Lynch served as Vice President of FGI and Regional Manager of the Colorado
Springs Region from October 1995 to January 1997. Additionally, Mr. Lynch
served as Vice President-Personal Lines Operations of FGI from January 1997
to October 1997, Senior Vice President-Personal Lines
63
Operations of FGI from October 1997 to July 1998 and Senior Vice President of
FGI and President-Farmers Personal Lines from July 1998 to June 1999.
Keitha T. Schofield has served as Executive Vice President-Support
Services since January 1998 and as a director of FGI since May 1997. Ms.
Schofield served as Senior Vice President and Chief Information Officer of
FGI from May 1995 to January 1997 and Executive Vice President-Support Services
and Chief Information Officer from January 1997 to January 1998.
Cecilia M. Claudio has served as a director of FGI since April 2000 and
as Senior Vice President and Chief Information Officer of FGI since July 1998.
Previously, Ms. Claudio served as Chief Information Officer and Senior Vice
President of Information Technology of Harvard Pilgrim Health Care from 1994
to 1996 and Chief Information Officer and Senior Vice President of Information
Technology of Anthem, Inc. from 1996 to May 1998. Additionally, Ms. Claudio
has served on the Board of Directors of Sybase, Inc., a business intelligence
and mobile technology company, since November 1999.
Gerald E. Faulwell has served as a director of FGI since April 2000 and
as Senior Vice President and Chief Financial Officer of FGI since September
1998. Previously, Mr. Faulwell served as Vice President-Strategic Planning,
Budgeting and Administration of FGI from January 1993 to January 1996 and
Senior Vice President-Strategic Planning, Budgeting and Administration of FGI
from January 1996 to September 1998.
Stephen J. Feely has served as a director of FGI since April 2000 and as
Senior Vice President and Chief Marketing Officer of FGI since January 2000.
Previously, Mr. Feely served as Vice President-Public Affairs of FGI from
September 1987 to September 1996, Vice President of FGI and California State
Executive from September 1996 to September 1998 and Vice President-State
Operations of FGI from September 1998 to January 2000.
Leonard H. Gelfand has served as a director of FGI since April 2000 and
as Senior Vice President of FGI and President of Farmers Business Insurance
since July 1998. Previously, Mr. Gelfand served as Senior Vice
President-Commercial of FGI and President-Truck Underwriters Association
from January 1995 to July 1998.
Paul N. Hopkins has served as a director of FGI since April 2000 and as
Senior Vice President-State Operations of FGI since January 2000. Previously,
Mr. Hopkins served as Vice President-Agencies of FGI from November 1994 to
October 1997, Senior Vice President-Agencies of FGI from October 1997 to
September 1998, and Senior Vice President and Chief Marketing Officer of FGI
from September 1998 to January 2000.
Stephen J. Leaman has served as a director of FGI since April 2000 and as
Senior Vice President of FGI and President of Farmers Personal Lines since June
1999. Mr. Leaman served as Senior Vice President of FGI and President of
Farmers Specialty Products from January 1999 to June 1999. Previously, Mr.
Leaman served as Chief Operating Officer of Providian Direct Insurance from
1995 to 1996, Senior Vice President of Maryland Casualty Company from January
1997 to June 1997 and Executive Vice President of Maryland Casualty Company
from June 1997 to January 1999.
C. Paul Patsis has served as a director of FGI since April 2000 and as
Senior Vice President of FGI and President of Farmers Life since May 1998.
Previously, Mr. Patsis served as Chairman and Chief Executive Officer of
Marketing One, Inc. from 1989 to 1996.
64
ITEM 11. Executive Compensation
The following table sets forth the annual compensation for services in all
capacities to FGI for the fiscal years ended December 31, 2000, 1999 and 1998
of those persons who were, as of December 31, 2000, (i) FGI's Chief Executive
Officer and (ii) the other four most highly compensated executive officers of
FGI (the "Named Executive Officers").
SUMMARY COMPENSATION TABLE
Annual Compensation
------------------------
Name and LTIP Payouts All Other
Principal Position Year Salary ($) Bonus ($)(1) ($)(2) Compensation
($)(3)
- ------------------------- ------ ---------- ------------ ------------ -------------
Martin D. Feinstein 2000 950,000 896,122 195,804 145,412
Chairman of the 1999 900,000 1,006,689 0 136,562
Board, President 1998 900,000 948,192 0 137,024
and Chief Executive
Officer
Jason L. Katz 2000 377,400 291,761 0 57,767
Executive Vice President 1999 364,000 413,017 0 55,232
and General Counsel 1998 345,000 407,642 0 52,526
Keitha T. Schofield 2000 372,800 263,642 0 57,063
Executive Vice 1999 363,000 331,639 0 55,080
President 1998 332,500 330,784 0 50,623
Stephen J. Leaman 2000 365,000 248,670 0 55,869
Senior Vice President 1999 316,666 272,462 0 48,049
John H. Lynch 2000 352,500 207,075 0 53,955
Executive Vice President 1999 285,417 261,586 0 43,308
1998 237,500 234,267 0 36,159
- ---------------------
(1) Bonus amounts reported in the year in which service related to such bonus
is rendered. Payment does not occur until the year subsequent to the year
of service.
(2) During 2000, Mr. Feinstein received a payout associated with the 1997
Zurich Long Term Incentive Plan awards. As a member of the Zurich Group
Management Board, Mr. Feinstein participated in the Zurich Long Term
Incentive Plan, participating on a pro-rata basis for the years 1997 and
1998. Awards are based on the financial performance of ZGH over a three-
year period in relation to the achieved levels of return on equity in
excess of minimum threshold levels. The awards are only determined at the
end of the performance period and are made partially in cash and partially
in Zurich shares. As a result, Mr. Feinstein received $195,804 in cash
and deferred receipt of 466 shares related to the 1997 awards. The
deferred shares are held by the Zurich Central Share Vehicle.
In 1999 and 2000, Messrs. Feinstein, Katz, Leaman and Lynch and
Ms. Schofield participated in Zurich and FGI's Long Term Performance Share
Plans. The target number of performance shares to be awarded for 2000 is
976, 272, 244, 237 and 268, respectively. The target number of
performance shares to be awarded for 1999 is 627, 178, 149, 130 and 177,
respectively. The number of shares to be awarded is linked to performance
goals over a three-year period. Depending upon performance, the range of
shares to be awarded will vary from 0% to 200% of the number of shares
indicated.
In 1998, Messrs. Feinstein, Katz and Lynch and Ms. Schofield received
Awards of 90,000, 17,000, 11,250 and 15,750 Long Term Incentive Plan Units
("LTIPs"), respectively, under FGI's 1998 Long Term Incentive Plan. The
Value of the LTIPs is linked to performance goals set by the Compensation
Committee based on the financial and operating results of the Company and
the P&C Group over a three year period. The value of the LTIPs will be
paid to eligible employees in cash. The receipt of such amounts may be
deferred at the election of participants, subject to the approval of the
Compensation Committee. In the event of certain changes in the capital
structure of FGI or other events relating to control of FGI, the
Compensation Committee has the discretion to pay out the value of
outstanding LTIPs immediately or make other appropriate adjustments to the
LTIPs.
(3) Represents estimated amounts to be contributed by FGI under the Employees'
Profit Sharing Savings Plan Trust (the "Deferred Plan") and reported in
the year of service as earned. To the extent that a participant's annual
benefits under the Deferred Plan exceed certain limits imposed by law,
such amounts will be paid under FGI's nonqualified Employee Benefits
Restoration Plan (the "Benefits Restoration Plan"), which is funded
through a grantor trust.
65
The following table sets forth the options granted to the Named Executive
Officers for the fiscal years ended December 31, 2000 and 1999 under the Zurich
Global Share Option Plan.
2000 1999
Options Options
Over Over
Zurich Zurich
Financial Services Financial Services
Officer Shares (#)(1)(2) Shares (#)(1)(3)
------- ------------------ ------------------
Martin D. Feinstein 3,749 2,293
Jason L Katz 745 463
Keitha T. Schofield 735 463
Stephen J. Leaman 671 388
John H. Lynch 651 338
- ---------------------
(1) Due to the Zurich capital structure unification in October 2000, share
options in the previous holding companies, Allied Zurich p.l.c. ("Allied
Zurich") and Zurich Allied AG ("Zurich Allied"), were replaced by share
options in the new group holding company, Zurich Financial Services
("Zurich"). The exercise price of Allied Zurich and Zurich Allied share
options granted in 2000 and 1999 were based on a 10% premium to the
average market value during January 2000 and January 1999, respectively.
The exercise periods related to these options were February 1, 2003
through January 31, 2007 for the 2000 grant and February 1, 2002 through
January 31, 2006 for the 1999 grant. As a result of the unification in
October 2000, Allied Zurich share options were converted to Zurich share
options using an exchange ratio of 42.928 while the Zurich Allied share
options were converted using an exchange ratio of 1.00.
(2) The Allied Zurich share options and the Zurich Allied share options were
granted at an exercise price of 7.06 GBP and 901.20 CHF, respectively, for
the 2000 grant. As of the grant date, the currency exchange rate was 0.61
GBP per $1 and 1.59 CHF per $1 for the Allied Zurich share options and the
Zurich Allied share options, respectively. The exercise price of the 2000
Allied Zurich and Zurich Allied share options as of the date of share
unification was 762.46 CHF and 901.20 CHF, respectively.
(3) The Allied Zurich share options and the Zurich Allied share options were
granted at an exercise price of 10.34 GBP and 1,157.10 CHF, respectively,
for the 1999 grant. As of the grant date, the currency exchange rate was
0.61 GBP per $1 and 1.42 CHF per $1 for the Allied Zurich share options
and Zurich Allied share options, respectively. The exercise price of the
1999 Allied Zurich and Zurich Allied share options as of the date of share
unification was 1,116.71 CHF and 1,157.0 CHF, respectively.
Employees' Pension Plan
In addition to the compensation set forth above, the Named Executive
Officers participate with all eligible employees of the Company in the
Company's tax-qualified Employees' Pension Plan (the "Pension Plan"). The
Named Executive Officers also participate in the Benefits Restoration Plan,
funded through a grantor trust, which provides supplemental benefits to the
extent amounts otherwise payable under the Pension Plan and the Deferred Plan
are limited under applicable laws. (Together, the Pension Plan and the
Benefits Restoration Plan are referred to as the "Retirement Plans").
Effective May 7, 1997, the Employee Benefits Restoration Plan was amended
to include awards made under the Executive Incentive Plan as compensation in
calculating pension benefits, starting with the 1996 awards paid in 1997. The
entire benefit derived from inclusion of the Executive Incentive Plan award(s)
will be paid from the Employee Benefits Restoration Plan. This amendment
impacts certain key officers and includes the Named Executive Officers.
The Pension Plan bases retirement benefits upon the employees' final
five-year average annual base salary and the total years of credited service,
subject to a maximum of 35 years of credited service. Employees who are at
66
least 21 years of age and who have completed one year of service participate in
the Pension Plan retroactive to the first day of the month following their hire
date. Eligible participants become vested and earn a nonforfeitable right to
Pension Plan benefits after completing five years of service or upon reaching
the first day of the month in which they become age 65.
Unreduced monthly pension benefits begin at age 62 with 30 years of
service and at age 65 with less than 30 years of service, but participants may
retire as early as age 55 at actuarially reduced rates, provided that they have
at least 15 years of service. Participants who become totally and permanently
disabled may qualify for disability retirement benefits if they have 10 or more
years of service and are between the ages of 35 and 65.
For purposes of illustration, the following table provides examples of the
annual pension benefits payable at age 65 pursuant to the defined benefit
portions of the Retirement Plans, assuming benefits are paid in the form of a
straight life annuity. Such benefits are not reduced for Social Security
payments or other offset amounts.
PENSION PLAN TABLE
Years of Credited Service
-----------------------------------------------------------------------
Five-Year Average 15 20 25 30 35
Remuneration
- ------------------------------ ----------- ------------ ------------ ------------ ------------
$ 350,000 $ 90,700 $ 120,934 $ 151,167 $ 181,401 $ 211,634
400,000 103,825 138,434 173,042 207,651 242,259
450,000 116,950 155,934 194,917 233,901 272,884
500,000 130,075 173,434 216,792 260,151 303,509
600,000 156,325 208,434 260,542 312,651 364,759
700,000 182,575 243,434 304,292 365,151 426,009
800,000 208,825 278,434 348,042 417,651 487,259
900,000 235,075 313,434 391,792 470,151 548,509
1,000,000 261,325 348,434 435,542 522,651 609,759
1,100,000 287,575 383,434 479,292 575,151 671,009
1,200,000 313,825 418,434 523,042 627,651 732,259
1,300,000 340,075 453,434 566,792 680,151 793,509
At the end of 2000, Messrs. Feinstein, Katz, Leaman and Lynch and Ms.
Schofield were credited under the Pension Plans with 27.0, 16.4, 2.0, 23.8 and
5.6 years of service, respectively. The average annual salary for the
five-year period ended December 31, 2000 for Messrs. Feinstein, Katz, Leaman
and Lynch and Ms. Schofield was $1,286,260, $584,420, $396,048, $374,123 and
$504,800, respectively. These figures include the 1996, 1997, 1998 and 1999
Executive Incentive Plan Awards paid in 1997, 1998, 1999 and 2000.
Employment Agreements and Change-in-Control Arrangements
The Company has entered into employment agreements with each of Messrs.
Feinstein and Katz and Ms. Schofield. Each of the agreements provide that if
the executive's employment is terminated following a "Change-in-Control" (as
defined in the agreement), the executive will receive a severance payment
equal to two (2) times the executive's "Cash Compensation" (as defined in the
agreement, but generally including certain base salary, bonus and profit
sharing plan allocation amounts). In addition to the Cash Compensation amount
payable, the executive is also entitled to (i) continued coverage under
applicable group welfare benefit plans of the Company (for example, the
Company's life, disability and health insurance plans), (ii) a benefit under
the Company's long-term incentive plan (determined as if the executive
terminated employment due to retirement, and as if any remaining performance
criteria had been waived) and (iii) a lump sum payment of certain enhanced
benefit amounts under the Company's pension plans (including the supplemental
pension plan). In the cases of Messrs. Feinstein and Katz, the agreements
provide for a tax gross-up payment equal to the amount of any excise tax
payable under
67
Section 4999 of the Internal Revenue Code of 1986, as amended. In the case
of the Ms. Schofield, amounts payable under the agreement will be reduced
to the extent necessary to avoid the application of such excise tax.
The payments under each agreement will be made if the executive is
employed at the time of the Change-in-Control and his or her termination is
(i) by the Company other than for "Cause" (as defined in the agreement), (ii)
by the executive for "Good Reason" (as defined in the agreement) or (iii) other
than due to the executive's death, disability or retirement.
The agreement provides for an automatic annual 12-month extension of the
"Initial Term" (as defined in the agreement). In all cases, however, the
agreements will expire upon the death, retirement or disability termination of
the executive.
Compensation Committee Interlocks and Insider Participation
N/A
ITEM 12. Security Ownership of Certain Beneficial Owners and Management
All of the outstanding Class A common stock, which has 90% of the voting
power of FGI, are owned beneficially and of record by ZGH, Mythenquai 2, P.O.
Box 8022, Zurich, Switzerland. All of the outstanding Class B common stock,
which has the remaining 10% of the voting power of FGI, are owned beneficially
and of record by Allied Zurich Holdings Limited, Mourant du Feu & Jeune, P.O.
Box 87, 22 Grenville Street, St. Helier, Jersey JE4 8PX, Channel Islands.
The following table sets forth information regarding beneficial ownership
of Zurich ordinary shares as of December 31, 2000 by (a) the Chief Executive
Officer of FGI, (b) each of the four most highly compensated executive officers
of FGI other than the Chief Executive Officer and (c) all directors and
executive officers of FGI, as a group.
Zurich
Ordinary Shares
Beneficially Owned
---------------------
Number Percent
- ------ --------- ---------
Martin D. Feinstein 409 (1)
Jason L. Katz 0
Keitha T. Schofield 0
Stephen J. Leaman 5 (1)
John H. Lynch 45 (1)
All Directors and
Executive Officers as a
group 570 (1)
- ------------
(1) Less than 1% of the outstanding Zurich ordinary shares.
ITEM 13. Certain Relationships and Related Transactions
As of December 31, 1999 and December 31, 1998, certain directors of the
Company were partners in legal firms that received fees for legal services from
the Company and the P&C Group. These fees totaled $8,492,000 and $6,544,000 in
1999 and 1998, respectively. As a result of a restructuring of the Company's
Board of Directors in April 2000, all of the members of the Company's Board of
Directors were employees of the Company as of December 31, 2000.
68
As of December 31, 2000, the Company held a $250,000,000 note receivable
from OSDH. The Company loaned $250,000,000 to OSDH on December 15, 1999 and,
in return, received a medium-term note with a 7.50% fixed interest rate that
matures on December 15, 2004. Interest on this note is paid semi-annually and,
for the years ended December 31, 2000 and December 31, 1999, income earned on
this note totaled $18,750,000 and $781,000, respectively.
In addition, as of December 31, 2000, the Company held $302,000,000 of
UKISA notes receivable. The Company purchased $1,057,000,000 of notes from
UKISA on September 3, 1998. Subsequently, on March 1, 2000, Eagle Star
assigned $175,000,000 of matured surplus notes of the P&C Group to the Company
and, in return, the Company reduced the outstanding balance of the notes
receivable from UKISA by $175,000,000. Additionally, on September 3, 2000,
$25,000,000 of the notes receivable from UKISA, bearing interest at a coupon
rate of 5.44% with an original maturity date of September 3, 2000, were renewed
for medium-term notes with a 6.80% fixed interest rate maturing in September
2002.
Finally, on October 23, 2000, to help fund the payment of the
$1,075,000,000 special dividend associated with the Zurich capital structure
unification in October 2000, the Company sold $580,000,000 of the notes
receivable from UKISA to ZIC for par value. As a result, as of December 31,
2000, the Company held $302,000,000 of the notes receivable from UKISA with the
following amounts, maturity dates and coupon rates: $207,000,000 maturing in
September 2001 at a coupon rate of 5.48% and $95,000,000 maturing in September
2002, $25,000,000 of which is at a coupon rate of 6.80% and $70,000,000 of
which is at a coupon rate of 5.67%. Interest on the UKISA notes is paid
semi-annually and, for the years ended December 31, 2000, 1999, and 1998,
income earned on these notes totaled $45,425,000, $59,434,000 and $19,481,000,
respectively.
69
PART IV
ITEM 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a) Exhibits and Financial Statement Schedules
(1) Exhibits
3.1 Restated Articles of Incorporation of FGI, as amended May 23,
1977, as further amended September 24, 1984, as further amended May
19, 1986 (i), as further amended February 3, 1989 (ii), as further
amended September 4, 1998 (vi)
3.2 Bylaws of FGI (i)
3.3 Form of Certificate of Trust of the Issuer (ii)
3.4 Trust Agreement (ii)
4.1 Form of Amended and Restated Trust Agreement (ii)
4.2 Form of Indenture among FGI and The Chase Manhattan Bank, N.A., as
Debenture Trustee (ii)
4.3 Form of Preferred Security (included in Exhibit 4.1) (ii)
4.4 Form of Junior Subordinated Debentures (included in Exhibit 4.2)
(ii)
4.5 Form of Guarantee by FGI and The Chase Manhattan Bank, N.A., as
Guarantee Trustee (ii)
10.1 Form of Subscription Agreement (Farmers Underwriters Association)
(ii)
10.2 Form of Subscription Agreement (Truck Underwriters Association) (ii)
10.3 Form of Subscription Agreement (Fire Underwriters Association) (ii)
10.4 The Farmers Group, Inc. 1993 Premier Award Unit Plan, as amended
November 4, 1993 (ii), as further amended February 14, 1996 (iii),
as further amended November 10, 1997 (v)
10.5 Farmers Group, Inc. Executive Incentive Program (ii), as amended May
7, 1997 and August 13, 1997 (v), as further amended February 10,
1999 (ix)
10.6 Description of Farmers Group, Inc. Outside Directors' Retirement
Program (ii)
10.7 The Farmers Group, Inc. Discretionary Management Incentive Program
for Exceptional Performance (ii), as amended December 1996 (iv), as
further amended January 2001
10.8 Farmers Group, Inc. Employee Benefits Restoration Plan (ii), as
amended May 7, 1997 (v)
10.9 The Zurich Financial Services Group Long Term Performance Share Plan
For Selected Executives (ix)
10.10 Form of Employment Agreement with certain officers (v), as amended
June 15, 1998 (vii), as further amended June 1, 1999 (ix)
10.11 The Zurich Financial Services Group Share Option Plan For Selected
Executives (ix)
12 Statement of Computation of the Ratio of Earnings to Fixed Charges
21 Subsidiaries of FGI (viii)
24 Power of Attorney (ii)
99 Risk Management
- ----------------
(i) Incorporated by reference to the corresponding Exhibit to FGI's Annual
Report on Form 10-K for the year ended December 31, 1987.
(ii) Incorporated by reference to the corresponding Exhibit to FGI's
Registration Statement No. 33-94670 and No. 33-94670-01 on Form S-1.
(iii) Incorporated by reference to the corresponding Exhibit to FGI's
Annual Report on Form 10-K for the year ended December 31, 1995.
(iv) Incorporated by reference to the corresponding Exhibit to FGI's
Annual Report on Form 10-K for the year ended December 31, 1996.
(v) Incorporated by reference to the corresponding Exhibit to FGI's
Annual Report on Form 10-K for the year ended December 31, 1997.
(vi) Incorporated by reference to the corresponding Exhibit to FGI's
Quarterly Report on Form 10-Q for the quarterly period ended
September 30, 1998.
(vii) Incorporated by reference to the corresponding Exhibit to FGI's Annual
Report on Form 10-K for the year ended December 31, 1998.
(viii) Incorporated by reference to the corresponding Exhibit to FGI's
Quarterly Report on Form 10-Q for the quarterly period ended March 31,
1999.
(ix) Incorporated by reference to the corresponding Exhibit to FGI's Annual
Report on Form 10-K for the year ended December 31, 1999.
70
(2) Financial Statement Schedules
Page
------
a. Financial Statements. See Index to Financial Statements and
Supplementary Data for a list of financial statements
included in this Report. 22
b. Financial Statement Schedules
Schedule I - Marketable Securities - Other Investments, as
of December 31, 2000 S-1
Schedule III - Supplementary Insurance Information, for the
years ended December 31, 2000, 1999 and 1998 S-2
Schedule IV - Reinsurance, for the years ended
December 31, 2000, 1999 and 1998 S-3
Schedule V - Valuation and Qualifying Accounts, for the
years ended December 31, 2000, 1999 and 1998 S-4
(b) Reports on Form 8-K
The Company did not file any Reports on Form 8-K during the year ended
December 31, 2000.
71
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, in the City of
Los Angeles, State of California on
FARMERS GROUP, INC.
---------------------------------------------
(Registrant)
Date: March 28, 2001 By: /s/ Martin D. Feinstein
---------------------------------------------
Martin D. Feinstein, Chairman of the Board,
President and Chief Executive 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 and on the dates indicated.
Signature Title Date
--------- ----- ----
Principal Executive Officer
/s/ Martin D. Feinstein Chairman of the Board, March 28, 2001
- ------------------------------- President and Chief
(Martin D. Feinstein) Executive Officer
Principal Financial and
Accounting Officer
/s/ Gerald E. Faulwell Senior Vice President, March 28, 2001
- ------------------------------- Chief Financial Officer
(Gerald E. Faulwell) and Director
Directors
/s/ Jason L. Katz Executive Vice President, March 28, 2001
- ------------------------------- General Counsel and Director
(Jason L. Katz)
/s/ John H. Lynch Executive Vice President March 28 2001
- ------------------------------- and Director
(John H. Lynch)
/s/ Keitha T. Schofield Executive Vice President March 28, 2001
- ------------------------------- and Director
(Keitha T. Schofield)
/s/ Cecilia M. Claudio Senior Vice President, March 28, 2001
- ------------------------------- Chief Information Officer
(Cecilia M. Claudio) and Director
/s/ Stephen J. Feely Senior Vice President, March 28, 2001
- ------------------------------- Chief Marketing Officer
(Stephen J. Feely) and Director
/s/ Leonard H. Gelfand Senior Vice President, March 28, 2001
- ------------------------------- President of Farmers
(Leonard H. Gelfand) Business Insurance and Director
/s/ Paul N. Hopkins Senior Vice President March 28, 2001
- ------------------------------- and Director
(Paul N. Hopkins)
/s/ Stephen J. Leaman Senior Vice President,
- ------------------------------- President of Farmers Personal
(Stephen J. Leaman) Lines and Director
/s/ C. Paul Patsis Senior Vice President,
- ------------------------------- President of Farmers Life
(C. Paul Patsis) and Director
S-1
FARMERS GROUP, INC.
AND SUBSIDIARIES
SCHEDULE I - MARKETABLE SECURITIES - OTHER INVESTMENTS
December 31, 2000
(Amounts in thousands)
Market value Amount at which
at balance shown in the
Type of Investment Cost sheet date balance sheet
- -------------------- ------------ ------------- ---------------
Insurance Subsidiaries:
Marketable securities - available-for-sale:
United States government and its agencies $ 1,442,809 $ 2,131,213 $ 2,131,213
States and municipalities 164,871 165,650 165,650
Public utilities 146,887 143,494 143,494
Foreign government 62,646 63,054 63,054
All other corporate 2,512,959 1,841,278 1,841,278
Preferred stocks (redeemable) 29,649 30,646 30,646
------------ ------------- ---------------
4,359,821 4,375,335 4,375,335
------------ ------------- ---------------
Preferred stocks (non-redeemable) 11,128 11,500 11,500
------------ ------------- ---------------
Common stocks:
Public utilities 10,309 11,340 11,340
Banks, trusts and insurance companies 34,313 35,766 35,766
Industrial, miscellaneous and all other 286,163 246,301 246,301
------------ ------------- ---------------
330,785 293,407 293,407
------------ ------------- ---------------
Mortgage loans on real estate 36,984 xxxxx 36,984
------------ ------------- ---------------
Policy loans 218,162 xxxxx 218,162
------------ ------------- ---------------
Real estate (1) 89,426 (1) xxxxx 89,426
------------ ------------- ---------------
Joint ventures 4,651 xxxxx 4,651
------------ ------------- ---------------
Certificates of contribution of the P&C Group 296,000 xxxxx 296,000
------------ ------------- ---------------
Surplus notes of the P&C Group 206,500 xxxxx 206,500
------------ ------------- ---------------
S&P 500 call options 29,696 26,271 26,271
------------ ------------- ---------------
Other investments 5,279 xxxxx 5,279
------------ ------------- ---------------
Total investments $ 5,588,432 $ 4,706,513 $ 5,563,515
============ ============= ===============
(1) Net of accumulated depreciation of $29,369.
S-2
FARMERS GROUP, INC.
AND SUBSIDIARIES
SCHEDULE III - SUPPLEMENTARY INSURANCE INFORMATION
For the years ended December 31, 2000, 1999 and 1998
(Amounts in thousands)
Column A Column B Column C Column D Column E Column F Column G
- -------- -------- -------- -------- -------- -------- --------
Future policy
Deferred benefits, Other policy Premium
policy losses, claims claims and and policy Net
Insurance acquisition and loss Unearned benefits charge investment
Subsidiaries costs (1) expenses premiums payable revenues income
- -------------- ----------- -------------- -------- ---------- --------- ----------
December 31, 2000 $ 838,121 $ 3,697,039 $ 1,590 $ 139,957 $1,443,204 $ 353,349
=========== ============= ======== ========== ========== ==========
December 31, 1999 879,625 3,547,292 1,686 81,793 1,420,358 335,565
=========== ============= ======== ========== ========== ==========
December 31, 1998 1,380,433 307,391
========== ==========
Column A Column H Column I Column J
- ---------- -------- -------- --------
Benefits, Amortization
claims, of deferred
losses and policy Other
Insurance settlement acquisition operating
Subsidiaries expenses costs (1) expenses
- -------------- ---------- -------------- ------------
December 31, 2000 $ 904,960 $ 108,757 $ 343,746
========== ============= ============
December 31, 1999 851,258 102,581 371,549
========== ============= ============
December 31, 1998 812,820 90,082 380,530
========== ============= ============
- -------------------
(1) Includes value of life business acquired
S-3
FARMERS GROUP, INC.
AND SUBSIDIARIES
SCHEDULE IV - REINSURANCE
For the years ended December 31, 2000, 1999 and 1998
(Amounts in thousands)
Column A Column B Column C Column D Column E
Column F
- --------- ------------ ------------ ------------ ------------- -------
- -----
Percentage
Ceded to Assumed of
amount
Gross other from other Net
assumed
amount companies companies amount to
net
------------ ------------ ------------ ------------- -------
- -----
2000
- ----------
Life insurance in-force $112,177,578 $ 21,976,688 $ 9,576,567 $ 99,777,457
9.6%
------------ ------------ ------------ ------------- -------
- -----
Life premium & policy charges 466,898 33,527 9,833 443,204
2.2
------------ ------------ ------------ ------------- -------
- -----
Non-life premiums 0 0 1,000,000 1,000,000
100.0
------------ ------------ ------------ ------------- -------
- -----
1999
- ----------
Life insurance in-force $102,137,710 $ 12,179,486 $ 9,724,860 $ 99,683,084
9.8%
------------ ------------ ------------ ------------- -------
- -----
Life premium & policy charges 425,232 13,939 9,065 420,358
2.2
------------ ------------ ------------ ------------- -------
- -----
Non-life premiums 0 0 1,000,000 1,000,000
100.0
------------ ------------ ------------ ------------- -------
- -----
1998
- ----------
Life insurance in-force $ 96,883,459 $ 968,606 $ 8,893,263 $104,808,116
8.5%
------------ ------------ ------------ ------------- -------
- -----
Life premiums & policy charges 375,259 3,728 8,798 380,329
2.3
------------ ------------ ------------ ------------- -------
- -----
Non-life premiums 104 0 1,000,000 1,000,104
100.0
------------ ------------ ------------ ------------- -------
- -----
S-4
FARMERS GROUP, INC.
AND SUBSIDIARIES
SCHEDULE V - VALUATION AND QUALIFYING ACCOUNTS
(Amounts in thousands)
Balance at Balance at
beginning end of
of year year
------------ ------------
YEAR
- ----------
2000 $ 11,817 $ 3,553
1999 14,206 11,817
1998 15,118 14,206