| DELAWARE | 95-2492236 | ||
|---|---|---|---|
| (State or other jurisdiction | (IRS Employer | ||
| incorporation or organization) | Identificiation No. |
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 [ ]
Number of shares of Common Stock, $.50 par value, outstanding as of November 8, 2002: 68,675,894 shares.
Part I. Financial Information:
Item 1. Financial Statements:
Report of Independent Accountants........................................
Consolidated Condensed Statements of Income for the Three and
Nine Months ended September 30, 2002 and 2001 (unaudited)............
Consolidated Condensed Balance Sheets as of September 30, 2002
(unaudited) and December 31, 2001....................................
Consolidated Condensed Statements of Cash Flows for the
Nine Months ended September, 2002 and 2001 (unaudited)...............
Notes to Consolidated Condensed Financial Statements (unaudited).........
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations.........................................
Item 3. Quantitative and Qualitative Disclosures About Market Risk..........
Item 4. Controls and Procedures.............................................
Part II. Other Information:
Item 6. Exhibits and Reports on Form 8-K....................................
Signature.......................................................................
To the Directors and Share Owners
Protective Life Corporation
We have reviewed the accompanying consolidated condensed balance sheet of Protective Life Corporation and its subsidiaries as of September 30, 2002, and the related consolidated condensed statements of income for each of the three-month and nine-month periods ended September 30, 2002 and 2001, and the consolidated condensed statements of cash flows for the nine-month periods ended September 30, 2002 and 2001. These financial statements are the responsibility of the Company's management.
We conducted our review in accordance with standards established by the American Institute of Certified Public Accountants. A review of interim financial information consists principally of applying analytical procedures to financial data and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with auditing standards generally accepted in the United States of America, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should be made to the accompanying consolidated condensed interim financial statements for them to be in conformity with accounting principles generally accepted in the United States of America.
We previously audited in accordance with auditing standards generally accepted in the United States of America, the consolidated balance sheet as of December 31, 2001, and the related consolidated statements of income, share-owners' equity, and cash flows for the year then ended (not presented herein), and in our report dated March 1, 2002, we expressed an unqualified opinion on those consolidated financial statements. In our opinion, the information set forth in the accompanying consolidated condensed balance sheet as of December 31, 2001, is fairly stated in all material respects in relation to the consolidated balance sheet from which it has been derived.
/s/ PricewaterhouseCoopers LLP
PricewaterhouseCoopers LLP
Birmingham, Alabama
November 13, 2002
PROTECTIVE LIFE CORPORATION
CONSOLIDATED CONDENSED STATEMENTS OF INCOME
(DOLLARS IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
------------------------ --------------------------
2002 2001 2002 2001
---- ---- ---- ----
REVENUES
Premiums and policy fees $393,868 $332,739 $1,160,809 $ 968,881
Reinsurance ceded (132,081) (184,629) (530,231) (505,034)
--------- --------- ----------- -----------
Premiums and policy fees, net of reinsurance ceded 261,787 148,110 630,578 463,847
Net investment income 263,066 222,759 759,761 642,234
Realized investment gains (losses):
Derivative financial instruments (802) 9,902 9,624 10,779
All other investments 1,927 (10,654) 1,716 (9,960)
Other income 23,927 31,914 78,764 89,346
--------- --------- ----------- -----------
549,905 402,031 1,480,443 1,196,246
--------- --------- ----------- -----------
BENEFITS AND EXPENSES
Benefits and settlement expenses
(net of reinsurance ceded:
three months: 2002 - $140,939; 2001 - $169,352
nine months: 2002 - $471,083; 2001 - $369,921) 303,655 236,882 872,236 730,605
Amortization of deferred policy acquisition costs 105,387 32,685 193,724 89,788
Amortization of goodwill 0 912 0 2,643
Other operating expenses (net of reinsurance ceded:
three months: 2002 - $31,183; 2001 - $33,062
nine months: 2002 - $107,412; 2001 - $115,055) 63,227 74,057 193,080 203,365
--------- --------- ----------- -----------
472,269 344,536 1,259,040 1,026,401
--------- --------- ----------- -----------
INCOME FROM CONTINUING OPERATIONS
BEFORE INCOME TAX 77,636 57,495 221,403 169,845
Income tax expense 26,661 18,419 74,392 56,091
--------- --------- ----------- -----------
INCOME FROM CONTINUING OPERATIONS
BEFORE CUMULATIVE EFFECT OF
CHANGE IN ACCOUNTING PRINCIPLE 50,975 39,076 147,011 113,754
Income from discontinued operations, net of income tax 0 3,548 0 1,657
NET INCOME BEFORE CUMULATIVE EFFECT OF
CHANGE IN ACCOUNTING PRINCIPLE 50,975 42,624 147,011 115,411
Cumulative effect of change in accounting principle 0 0 0 (7,593)
--------- --------- ----------- ------------
NET INCOME $ 50,975 $ 42,624 $ 147,011 $ 107,818
========= ========= =========== ============
NET INCOME FROM CONTINUING OPERATIONS
BEFORE CUMULATIVE EFFECT OF CHANGE
IN ACCOUNTING PRINCIPLE PER SHARE - BASIC $ .73 $ .56 $ 2.10 $ 1.64
========= ========= =========== ============
NET INCOME PER SHARE - BASIC $ .73 $ .61 $ 2.10 $ 1.56
========= ========= =========== ============
NET INCOME FROM CONTINUING OPERATIONS
BEFORE CUMULATIVE EFFECT OF CHANGE IN
ACCOUNTING PRINCIPLE PER SHARE - DILUTED $ .73 $ .56 $ 2.09 $ 1.63
========= ========= =========== ============
NET INCOME PER SHARE - DILUTED $ .73 $ .61 $ 2.09 $ 1.55
========= ========= =========== ============
DIVIDENDS PAID PER SHARE $ .15 $ .14 $ .44 $ .41
========= ========= =========== ============
Average shares outstanding - basic 69,948,982 69,954,622 69,912,126 69,260,452
Average shares outstanding - diluted 70,491,409 70,459,522 70,454,250 69,768,623
See notes to consolidated condensed financial statements
PROTECTIVE LIFE CORPORATION
CONSOLIDATED CONDENSED BALANCE SHEETS
(Dollars in thousands)
SEPTEMBER 30 DECEMBER 31
2002 2001
------------ -----------
(UNAUDITED)
ASSETS
Investments:
Fixed maturities, at market (amortized cost: 2002 - $10,981,234; 2001 - $9,745,057) $11,451,339 $ 9,838,091
Equity securities, at market (amortized cost: 2002 - $73,419; 2001 - $78,332) 70,326 76,774
Mortgage loans on real estate 2,591,417 2,512,844
Investment in real estate, net 20,536 26,349
Policy loans 546,302 521,841
Other long-term investments 176,443 104,624
Short-term investments 455,494 237,155
------------ ------------
Total investments 15,311,857 13,317,678
Cash 78,353 126,558
Accrued investment income 190,908 159,866
Accounts and premiums receivable, net 74,207 64,410
Reinsurance receivables 2,280,223 2,241,661
Deferred policy acquisition costs 1,644,367 1,532,683
Goodwill, net 47,312 48,162
Property and equipment, net 41,615 51,307
Other assets 183,273 184,689
Assets related to separate accounts
Variable annuity 1,412,028 1,873,195
Variable universal life 100,781 114,618
Other 4,216 3,997
------------ ------------
$21,369,140 $19,718,824
============ ============
LIABILITIES
Policy liabilities and accruals $ 8,822,738 $ 7,876,166
Stable value contract account balances 3,860,241 3,716,530
Annuity account balances 3,680,025 3,248,217
Other policyholders' funds 134,771 131,040
Securities sold under repurchase agreements 42,000 117,000
Other liabilities 649,793 498,579
Accrued income taxes 25,641 60,897
Deferred income taxes 247,601 127,230
Debt 376,137 376,211
Guaranteed Preferred Beneficial Interests
8.25% Trust Originated Preferred Securities 75,000 75,000
7.5% Trust Originated Preferred Securities 100,000 100,000
7.25% Trust Originated Preferred Securities 115,000 0
Liabilities related to separate accounts
Variable annuity 1,412,028 1,873,195
Variable universal life 100,781 114,618
Other 4,216 3,997
------------ ------------
19,645,972 18,318,680
------------ ------------
COMMITMENTS AND CONTINGENT LIABILITIES - NOTE B
SHARE-OWNERS' EQUITY
Preferred Stock, $1.00 par value,
Shares authorized: 3,600,000; Issued: None
Junior Participating Cumulative Preferred Stock, $1.00 par value
Shares authorized: 400,000; Issued: None
Common Stock, $.50 par value, Shares authorized: 160,000,000
Shares issued: 2002 - 73,251,960; 2001 - 73,251,960 36,626 36,626
Additional paid-in capital 406,000 405,420
Treasury stock, at cost (2002 - 4,576,066 shares; 2001 - 4,696,788 shares) (16,402) (15,895)
Stock held in trust (2002 - 73,939 shares; 2001 - 55,785 shares) (2,157) (1,535)
Unallocated stock in Employee Stock Ownership Plan
(2002 - 838,401 shares; 2001 - 1,001,401 shares) (2,777) (3,317)
Retained earnings 1,041,318 924,517
Accumulated other comprehensive income:
Net unrealized gains on investments (net of income
tax: 2002 - $142,953; 2001 - $29,254) 265,485 54,328
Accumulated loss - hedging (net of income tax: 2002 - $(2,652)) (4,925) 0
------------ ------------
1,723,168 1,400,144
------------ ------------
$21,369,140 $19,718,824
============ ============
See notes to consolidated condensed financial statements
PROTECTIVE LIFE CORPORATION
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
(UNAUDITED)
NINE MONTHS ENDED
SEPTEMBER 30
-----------------------------------
2002 2001
---- ----
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 147,011 $ 107,818
Adjustments to reconcile net income to net cash provided by
operating activities:
Realized investment (gains) losses (11,340) (819)
Amortization of deferred policy acquisition costs 193,724 95,203
Capitalization of deferred policy acquisition costs (332,000) (232,630)
Depreciation expense 8,694 9,360
Deferred income tax 6,672 24,681
Accrued income tax (35,256) 50,438
Amortization of goodwill 0 6,746
Interest credited to universal life and investment products 742,426 681,442
Policy fees assessed on universal life and investment products (195,393) (155,106)
Change in accrued investment income and other receivables (70,353) (91,629)
Change in policy liabilities and other policyholders' funds
of traditional life and health products 152,080 (3,217)
Change in other liabilities (3,803) 65,279
Other (net) 4,060 (30,651)
-------------- --------------
Net cash provided by operating activities 606,522 526,915
-------------- --------------
CASH FLOWS FROM INVESTING ACTIVITIES
Maturities and principal reductions of investments
Investments available for sale 7,352,463 2,632,151
Other 243,138 208,632
Sale of investments
Investments available for sale 14,206,741 2,010,863
Other 14,776 1,363
Cost of investments acquired
Investments available for sale (22,717,431) (6,078,444)
Corporate owned life insurance (100,000)
Other (298,493) (119,025)
Acquisitions and bulk reinsurance assumptions 130,515 132,284
Purchase of property and equipment (8,091) (9,810)
Sale of property and equipment 48 0
-------------- --------------
Net cash used in investing activities (1,076,334) (1,321,986)
-------------- --------------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from borrowings under line of credit arrangements and debt 2,068,272 1,403,783
Principal payments on line of credit arrangements and debt (2,143,347) (1,299,410)
Dividends to share owners (30,210) (27,591)
Sale (Purchase) of common stock held in trust (828) 28
Issuance of guaranteed preferred beneficial interests 115,000 100,000
Investment product deposits and changes in universal life deposits 1,244,764 1,537,164
Investment product withdrawals (832,044) (701,405)
-------------- --------------
Net cash provided by financing activities 421,607 1,012,569
-------------- --------------
(DECREASE)/INCREASE IN CASH (48,205) 217,498
CASH AT BEGINNING OF PERIOD 126,558 55,494
-------------- --------------
CASH AT END OF PERIOD $ 78,353 $ 272,992
============== ==============
See notes to consolidated condensed financial statements
The accompanying unaudited consolidated condensed financial statements of Protective Life Corporation and subsidiaries (the "Company") have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the disclosures required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments (consisting only of normal recurring accruals) necessary for a fair statement have been included. Operating results for the nine month period ended September 30, 2002 are not necessarily indicative of the results that may be expected for the year ending December 31, 2002. The year-end consolidated condensed balance sheet data was derived from audited financial statements, but does not include all disclosures required by accounting principles generally accepted in the United States of America. For further information, refer to the consolidated financial statements and notes thereto included in the Company's annual report on Form 10-K for the year ended December 31, 2001.
The Company's certificate of incorporation provides indemnification for persons serving as officers and directors of the Company. In addition, agreements with the Company's directors require the Company, upon certain "change-in-control" contingencies, to obtain a $20 million letter of credit to secure the Company's indemnification obligations. The letter of credit would provide security for the Company's obligations up to an aggregate amount of $20 million (after taking into account amounts paid by the Company and amounts paid under the Company's directors and officers or other insurance policies).
Under insurance guaranty fund laws in most states, insurance companies doing business therein can be assessed up to prescribed limits for policyholder losses incurred by insolvent companies. The Company does not currently believe such assessments will be materially different from amounts already provided for in the financial statements. Most of these laws do provide, however, that an assessment may be excused or deferred if it would threaten an insurer's own financial strength.
A number of civil jury verdicts have been returned against insurers, broker-dealers, and other providers of financial services involving sales practices, alleged agent misconduct, failure to properly supervise representatives, relationships with agents or other persons with whom the insurer does business, and other matters. Increasingly these lawsuits have resulted in the award of substantial judgments that are disproportionate to the actual damages, including material amounts of punitive and non-economic compensatory damages. In some states, juries, judges, and arbitrators have substantial discretion in awarding punitive and non-economic compensatory damages, which creates the potential for unpredictable material adverse judgments or awards in any given lawsuit or arbitration. Arbitration awards are subject to very limited appellate review. In addition, in some class action and other lawsuits, companies have made material settlement payments. The Company, like other financial services companies, in the ordinary course of business is involved in such litigation or, alternatively, arbitration. Although the outcome of any such litigation or arbitration cannot be predicted, the Company believes that at the present time there are no pending or threatened lawsuits that are reasonably likely to have a material adverse effect on the financial position, results of operations, or liquidity of the Company.
The Company operates several business segments each having a strategic focus which can be grouped into three general product categories: life insurance, retirement savings and investment products, and specialty insurance products. An operating segment is generally distinguished by products and/or channels of distribution. A brief description of each segment follows:
| The Life Marketing segment markets level premium term and term-like insurance, universal life, and variable universal life products on a national basis primarily through networks of independent insurance agents and brokers, and in the "bank owned life insurance" market. The segment also includes a securities broker-dealer. |
| The Acquisitions segment focuses on acquiring, converting, and servicing policies acquired from other companies. The segment's primary focus is on life insurance policies sold to individuals. |
| The Stable Value Contracts segment markets guaranteed investment contracts to 401(k) and other qualified retirement savings plans. The segment also markets fixed and floating rate funding agreements to the trustees of municipal bond proceeds, institutional investors, bank trust departments, and money market funds. The segment also sells funding agreements to special purpose entities that in turn issue notes or certificates in smaller, transferable denominations. |
| The Annuities segment manufactures, sells, and supports fixed and variable annuity products. These products are primarily sold through stockbrokers, but are also sold through financial institutions and the Life Marketing segment's sales force. |
| The Asset Protection segment primarily markets credit life and disability insurance products through banks, consumer finance companies and automobile dealers, and vehicle and recreational marine extended service contracts. |
| The Company has an additional business segment herein referred to as Corporate and Other. The Corporate and Other segment primarily consists of net investment income and expenses not attributable to the segments above (including net investment income on unallocated capital and interest on substantially all debt). This segment also includes earnings from several lines of business which the Company is not actively marketing (mostly cancer insurance and group annuities), various investment-related transactions, and the operations of several small subsidiaries. |
The Company uses the same accounting policies and procedures to measure operating segment income and assets as it uses to measure its consolidated net income and assets. Operating segment income is generally income before income tax, adjusted to exclude any pretax minority interest in income of consolidated subsidiaries. Premiums and policy fees, other income, benefits and settlement expenses, and amortization of deferred policy acquisition costs are attributed directly to each operating segment. Net investment income is allocated based on directly related assets required for transacting the business of that segment. Realized investment gains (losses) and other operating expenses are allocated to the segments in a manner which appropriately reflects the operations of that segment. Unallocated realized investment gains (losses) are deemed not to be associated with any specific segment.
Assets are allocated based on policy liabilities and deferred policy acquisition costs directly attributable to each segment.
There are no significant intersegment transactions.
The following table sets forth total operating segment income and assets for the periods shown. Adjustments represent the inclusion of unallocated realized investment gains (losses), the recognition of income tax expense, income from discontinued operations, and cumulative effect of change in accounting principle. Asset adjustments represent the inclusion of assets related to discontinued operations. The reduction in the goodwill balance in the Asset Protection segment relates to the sale of a small subsidiary in the first quarter of 2002.
In December 2001, the Company sold substantially all of its Dental Division and discontinued other Dental Division related operations (See Note M "Discontinued Operations"). Additionally, other adjustments were made to combine its life marketing operations into a single segment, and to reclassify certain smaller businesses. Prior period segment results have been restated to reflect these changes.
OPERATING SEGMENT INCOME FOR THE
NINE MONTHS ENDED SEPTEMBER 30, 2002
----------------------------------------------------------------------------
RETIREMENT SAVINGS AND
LIFE INSURANCE INVESTMENT PRODUCTS
LIFE STABLE VALUE
MARKETING ACQUISITIONS CONTRACTS ANNUITIES
----------- ------------ ------------ ---------
Premiums and policy fees $474,195 $237,283 $ 19,864
Reinsurance ceded (275,102) (48,360)
--------- --------- ---------
Net of reinsurance ceded 199,093 188,923 19,864
Net investment income 154,328 184,639 $183,258 162,224
Realized investment gains (losses) (6,110) 3,601
Other income 42,760 1,241 6,954
--------- --------- --------- ---------
Total revenues 396,181 374,803 177,148 192,643
--------- --------- --------- ---------
Benefits and settlement expenses 181,255 241,282 147,201 135,914
Amortization of deferred policy
acquisition costs 104,518 28,597 1,741 19,411
Other operating expenses 21,583 36,268 3,378 22,741
--------- --------- --------- ---------
Total benefits and expenses 307,356 306,147 152,320 178,066
--------- --------- --------- ---------
Income from continuing operations
before income tax 88,825 68,656 24,828 14,577
SPECIALTY INSURANCE
PRODUCTS
CORPORATE
ASSET AND TOTAL
PROTECTION OTHER ADJUSTMENTS CONSOLIDATED
---------- --------- ----------- ------------
Premiums and policy fees $386,913 $42,554 $1,160,809
Reinsurance ceded (191,373) (15,396) (530,231)
--------- -------- -----------
Net of reinsurance ceded 195,540 27,158 630,578
Net investment income 33,422 41,890 759,761
Realized investment gains (losses) $13,849 11,340
Other income 26,041 1,768 78,764
--------- -------- -------- -----------
Total revenues 255,003 70,816 13,849 1,480,443
--------- -------- -------- -----------
Benefits and settlement expenses 138,744 27,840 872,236
Amortization of deferred policy
acquisition costs 38,320 1,137 193,724
Other operating expenses 69,322 39,788 193,080
--------- -------- -----------
Total benefits and expenses 246,386 68,765 1,259,040
--------- -------- -----------
Income from continuing operations
before income tax 8,617 2,051 221,403
Income tax expense 74,392 74,392
-----------
Net income $ 147,011
===========
OPERATING SEGMENT INCOME FOR THE
THREE MONTHS ENDED SEPTEMBER 30, 2002
------------------------------------------------------------------------------
RETIREMENT SAVINGS AND
LIFE INSURANCE INVESTMENT PRODUCTS
LIFE STABLE VALUE
MARKETING ACQUISITIONS CONTRACTS ANNUITIES
--------- ------------ ------------- ---------
Premiums and policy fees $164,902 $ 81,112 $ 6,415
Reinsurance ceded (51,959) (12,468)
--------- --------- --------
Net of reinsurance ceded 112,943 68,644 6,415
Net investment income 52,555 67,128 $61,725 56,759
Realized investment gains (losses) (6,366) 363
Other income 13,510 168 2,060
--------- --------- -------- --------
Total revenues 179,008 135,940 55,359 65,597
--------- --------- -------- --------
Benefits and settlement expenses 57,364 85,106 48,290 48,466
Amortization of deferred policy
acquisition costs 76,221 11,891 581 5,734
Other operating expenses 4,965 13,825 1,431 8,716
--------- --------- -------- --------
Total benefits and expenses 138,550 110,822 50,302 62,916
--------- --------- -------- --------
Income from continuing operations
before income tax 40,458 25,118 5,057 2,681
SPECIALTY INSURANCE
PRODUCTS
CORPORATE
ASSET AND TOTAL
PROTECTION OTHER ADJUSTMENTS CONSOLIDATED
---------- -------- ----------- ------------
Premiums and policy fees $127,500 $13,939 $393,868
Reinsurance ceded (62,641) (5,013) (132,081)
--------- -------- ---------
Net of reinsurance ceded 64,859 8,926 261,787
Net investment income 11,095 13,804 263,066
Realized investment gains (losses) $7,128 1,125
Other income 7,259 930 23,927
--------- -------- ------- ---------
Total revenues 83,213 23,660 7,128 549,905
--------- -------- ------- ---------
Benefits and settlement expenses 53,683 10,746 303,655
Amortization of deferred policy
acquisition costs 10,633 327 105,387
Other operating expenses 21,009 13,281 63,227
--------- -------- ---------
Total benefits and expenses 85,325 24,354 472,269
--------- -------- ---------
Income from continuing operations
before income tax (2,112) (694) 77,636
Income tax expense 26,661 26,661
---------
Net income $ 50,975
=========
OPERATING SEGMENT INCOME FOR THE
NINE MONTHS ENDED SEPTEMBER 30, 2001
----------------------------------------------------------------------------
RETIREMENT SAVINGS AND
LIFE INSURANCE INVESTMENT PRODUCTS
LIFE STABLE VALUE
MARKETING ACQUISITIONS CONTRACTS ANNUITIES
--------- ------------ ------------ ---------
Premiums and policy fees $376,993 $154,893 $ 21,420
Reinsurance ceded (262,956) (29,541)
--------- --------- ---------
Net of reinsurance ceded 114,037 125,352 21,420
Net investment income 130,680 131,793 $196,117 122,125
Realized investment gains (losses) 7,928 1,070
Other income 45,674 (52) 8,035
--------- --------- --------- ---------
Total revenues 290,391 257,093 204,045 152,650
--------- --------- --------- ---------
Benefits and settlement expenses 160,105 173,086 167,617 99,782
Amortization of deferred policy
acquisition costs 19,553 14,342 1,111 17,011
Amortization of goodwill 329
Other operating expenses 42,816 22,405 2,967 21,926
--------- --------- --------- ---------
Total benefits and expenses 222,803 209,833 171,695 138,719
--------- --------- --------- ---------
Income from continuing operations
before income tax 67,588 47,260 32,350 13,931
SPECIALTY INSURANCE
PRODUCTS
CORPORATE
ASSET AND TOTAL
PROTECTION OTHER ADJUSTMENTS CONSOLIDATED
---------- --------- ----------- ------------
Premiums and policy fees $377,891 $37,684 $ 968,881
Reinsurance ceded (202,576) (9,961) (505,034)
--------- -------- -----------
Net of reinsurance ceded 175,315 27,723 463,847
Net investment income 35,625 25,894 642,234
Realized investment gains (losses) $(8,179) 819
Other income 33,846 1,843 89,346
--------- -------- -------- -----------
Total revenues 244,786 55,460 (8,179) 1,196,246
--------- -------- -------- -----------
Benefits and settlement expenses 108,514 21,501 730,605
Amortization of deferred policy
acquisition costs 36,439 1,332 89,788
Amortization of goodwill 2,306 8 2,643
Other operating expenses 72,274 40,977 203,365
--------- -------- -----------
Total benefits and expenses 219,533 63,818 1,026,401
--------- -------- -----------
Income from continuing operations
before income tax 25,253 (8,358) 169,845
Income tax expense 56,091 56,091
Income from discontinued operations, net of
income tax 1,657 1,657
Cumulative effect of change in accounting
principle, net of income tax (7,593) (7,593)
-----------
Net income $ 107,818
===========
OPERATING SEGMENT INCOME FOR THE
THREE MONTHS ENDED SEPTEMBER 30, 2001
-------------------------------------------------------------------------
RETIREMENT SAVINGS AND
LIFE INSURANCE INVESTMENT PRODUCTS
LIFE STABLE VALUE
MARKETING ACQUISITIONS CONTRACTS ANNUITIES
--------- ------------ ------------ ---------
Premiums and policy fees $130,358 $52,538 $ 6,948
Reinsurance ceded (103,001) (9,193)
--------- -------- --------
Net of reinsurance ceded 27,357 43,345 6,948
Net investment income 46,253 46,229 $66,373 44,206
Realized investment gains (losses) 5,233 1,046
Other income 14,413 2,582
--------- -------- -------- --------
Total revenues 88,023 89,574 71,606 54,782
--------- -------- -------- --------
Benefits and settlement expenses 43,786 59,715 57,117 36,246
Amortization of deferred policy
acquisition costs 5,065 7,000 503 5,693
Amortization of Goodwill 140
Other operating expenses 13,351 7,194 986 7,268
--------- -------- -------- --------
Total benefits and expenses 62,342 73,909 58,606 49,207
--------- -------- -------- --------
Income from continuing operations
before income tax 25,681 15,665 13,000 5,575
SPECIALTY INSURANCE
PRODUCTS
CORPORATE
ASSET AND TOTAL
PROTECTION OTHER ADJUSTMENTS CONSOLIDATED
---------- --------- ----------- ------------
Premiums and policy fees $129,614 $13,281 $332,739
Reinsurance ceded (68,339) (4,096) (184,629)
--------- -------- ---------
Net of reinsurance ceded 61,275 9,185 148,110
Net investment income 11,888 7,810 222,759
Realized investment gains (losses) $(7,031) (752)
Other income 14,200 719 31,914
--------- -------- -------- ---------
Total revenues 87,363 17,714 (7,031) 402,031
--------- -------- -------- ---------
Benefits and settlement expenses 34,910 5,108 236,882
Amortization of deferred policy
acquisition costs 13,938 486 32,685
Amortization of goodwill 769 3 912
Other operating expenses 29,705 15,553 74,057
--------- -------- ---------
Total benefits and expenses 79,322 21,150 344,536
--------- -------- ---------
Income from continuing operations
before income tax 8,041 (3,436) 57,495
Income tax expense 18,419 18,419
Income from discontinued operations, net of
income tax 3,548 3,548
---------
Net income $ 42,624
=========
OPERATING SEGMENT ASSETS
SEPTEMBER 30, 2002
-----------------------------------------------------------------------------
RETIREMENT SAVINGS AND
LIFE INSURANCE INVESTMENT PRODUCTS
LIFE STABLE VALUE
MARKETING ACQUISITIONS CONTRACTS ANNUITIES
----------- ------------ ------------ ---------
Investments and other assets $4,073,202 $4,497,036 $3,806,673 $4,757,461
Deferred policy acquisition costs 925,077 421,696 5,457 116,614
Goodwill 10,354
---------- ---------- ---------- ----------
Total assets $5,008,633 $4,918,732 $3,812,130 $4,874,075
========== ========== ========== ==========
SPECIALTY INSURANCE
PRODUCTS
CORPORATE
ASSET AND TOTAL
PROTECTION OTHER ADJUSTMENTS CONSOLIDATED
------------ ---------- ----------- ------------
Investments and other assets $1,023,008 $1,397,744 $122,337 $19,677,461
Deferred policy acquisition costs 167,584 7,939 1,644,367
Goodwill 36,527 431 47,312
---------- ---------- -------- -----------
Total assets $1,227,119 $1,406,114 $122,337 $21,369,140
========== ========== ======== ===========
OPERATING SEGMENT ASSETS
DECEMBER 31, 2001
-------------------------------------------------------------------------------
RETIREMENT SAVINGS AND
LIFE INSURANCE INVESTMENT PRODUCTS
LIFE STABLE VALUE
MARKETING ACQUISITIONS CONTRACTS ANNUITIES
----------- ------------ ----------- ----------
Investments and other assets $3,433,099 $4,087,470 $3,872,636 $4,507,289
Deferred policy acquisition costs 829,021 418,268 6,375 128,488
Goodwill 10,354
---------- ---------- ---------- ----------
Total assets $4,272,474 $4,505,738 $3,879,011 $4,635,777
========== ========== ========== ==========
SPECIALTY INSURANCE
PRODUCTS
CORPORATE
ASSET AND TOTAL
PROTECTION OTHER ADJUSTMENTS CONSOLIDATED
---------- ---------- ----------- ------------
Investments and other assets $1,060,967 $1,063,373 $113,145 $18,137,979
Deferred policy acquisition costs 142,229 8,302 1,532,683
Goodwill 37,377 431 48,162
---------- ---------- -------- -----------
Total assets $1,240,573 $1,072,106 $113,145 $19,718,824
========== ========== ======== ===========
Financial statements prepared in conformity with accounting principles generally accepted in the United States of America ("GAAP") differ in some respects from the statutory accounting practices prescribed or permitted by insurance regulatory authorities. In accordance with statutory reporting practices, at September 30, 2002, and for the nine months then ended, the Company's insurance subsidiaries had combined share-owners' equity of $680.6 million and a net loss of $64.3 million. The net loss was primarily due to the expensing of a reinsurance-ceding commission to acquire, through coinsurance, a block of policies from Conseco Variable Insurance Company and the policy acquisition costs related to current period sales.
As prescribed by Statement of Financial Accounting Standards ("SFAS") No. 115 certain investments are recorded at their market values with the resulting net unrealized gains and losses reduced by a related adjustment to deferred policy acquisition costs, net of income tax, recorded as a component of share-owners' equity. The market values of fixed maturities fluctuate due to changes in interest rate levels, financial market performance, general economic conditions and other factors. Therefore, although the application of SFAS No. 115 does not affect the Company's operations, reported share-owners' equity will fluctuate significantly as investment market values increase or decrease.
The Company's balance sheets at September 30, 2002 and December 31, 2001, prepared on the basis of reporting investments at amortized cost rather than at market values are as follows:
SEPTEMBER 30 DECEMBER 31
------------ -----------
Total investments $14,830,924 $13,212,993
Deferred policy acquisition costs 1,716,862 1,553,786
All other assets 4,412,916 4,868,463
----------- -----------
$20,960,702 $19,635,242
=========== ===========
Deferred income taxes $ 104,648 $ 97,976
All other liabilities 19,398,371 18,191,450
----------- -----------
19,503,019 18,289,426
Share-owners' equity 1,457,683 1,345,816
----------- -----------
$20,960,702 $19,635,242
=========== ===========
In the second quarter of 2002, the Company discovered that it had overpaid the reinsurance premiums due on certain life insurance policies, and indicated that it would be vigorously seeking recovery of approximately $94.6 million from several reinsurance companies.
The Company continues to make progress toward recovery of the overpayments. Approximately $19.5 million has been received to date. The Company is continuing to work with the reinsurers in an effort to collect the entire overpayment, plus interest where appropriate. At September 30, 2002, the Company has recorded cash and receivables totaling $69.7 million, which reflects the amounts received to date and the Company's current estimate of amounts to be recovered in the future, based upon the information which has become available in the period prior to the filing of this report with respect to conditions that existed at the end of the third quarter.
The corresponding increase in premiums and policy fees resulted in $62.5 million of additional amortization of deferred policy acquisition costs in the third quarter. The amortization of deferred policy acquisition costs takes into account the amortization relating to the increase in premiums and policy fees as well as the additional amortization required should the remainder of the overpayment not be collected. The Life Marketing segment's pretax operating income thereby increased $7.2 million, which is the difference between the premiums recorded in the third quarter and the amount of such additional amortization.
Because the overpayments were made over a period of ten years beginning in 1992, and had the effect of reducing the amortization of deferred policy acquisition costs during that period, the Company believes that no prior period results were materially understated and that no operating trends were materially affected as a result.
The recorded amounts that reflect overpayments to be recovered in the future are estimates. Therefore, new information relating to the recovery of such amounts could result in the Company increasing (decreasing) its estimates of the amounts to be recovered, or the Company could receive more (less) than the recorded amounts, which, in either event, could result in an additional positive (negative) effect on future income.
Net income per share – basic is net income divided by the average number of shares of Common Stock outstanding including shares that are issuable under various deferred compensation plans.
Net income per share – diluted is adjusted net income divided by the average number of shares outstanding including all dilutive, potentially issuable shares that are issuable under various stock-based compensation plans and stock purchase contracts.
A reconciliation of net income and adjusted net income, and basic and diluted average shares outstanding for the three month and nine month periods ended September 30, 2002 and 2001 is summarized as follows:
RECONCILIATION OF NET INCOME AND
AVERAGE SHARES OUTSTANDING
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
--------------------------- ---------------------------
2002 2001 2002 2001
---- ---- ---- ----
Net income $50,975 $42,624 $147,011 $107,818
Dividends on FELINE PRIDES (1)
------- ------- -------- --------
Adjusted net income $50,975 $42,624 $147,011 $107,818
======= ======= ======== ========
Average shares issued and outstanding 68,668,346 68,555,172 68,654,483 67,862,926
Stock held in trust (73,939) (49,761) (63,499) (45,053)
Issuable under various deferred compensation plans 1,354,575 1,449,211 1,321,142 1,442,579
----------- ----------- ----------- -----------
Average shares outstanding - basic 69,948,982 69,954,622 69,912,126 69,260,452
Stock held in trust 73,939 49,761 63,499 45,053
Stock appreciation rights 265,625 229,440 259,683 230,179
Issuable under various other stock-based compensation plans 202,863 225,699 218,942 232,939
FELINE PRIDES stock purchase contracts (1)
----------- ----------- ----------- -----------
Average shares outstanding - diluted 70,491,409 70,459,522 70,454,250 69,768,623
=========== =========== =========== ===========
(1) 1,493,924 shares excluded because the effect is anti-dilutive
In June 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standard ("SFAS") Nos. 141, "Business Combinations," and 142, "Goodwill and Other Intangible Assets." SFAS No. 141 requires that business combinations initiated after June 30, 2001, be accounted for using the purchase method. SFAS No. 142 revises the standards for accounting for acquired goodwill and other intangible assets. The Company adopted SFAS No. 142 in the first quarter of 2002. The Company has performed an impairment test and determined that its goodwill was not impaired at January 1, or September 30, 2002.
The following table illustrates adjusted income from continuing operations before cumulative effect of change in accounting principle and basic and diluted earnings per-share as if these pronouncements were adopted as of January 1, 2001:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
------------------------ -----------------------
2002 2001 2002 2001
---- ---- ---- ----
Adjusted net income:
Income from continuing operations
before cumulative effect of change
in accounting principle $50,975 $39,076 $147,011 $113,754
Add back amortization of goodwill,
net of income tax 593 1,718
------- ------- -------- --------
Adjusted income from continuing
operations before cumulative effect
of change in accounting principle $50,975 $39,669 $147,011 $115,472
======= ======= ======== ========
Basic earnings per share from continuing
operations before cumulative effect of
change in accounting principle $.73 $.56 $2.10 $1.64
Add back amortization of goodwill .01 .02
---- ---- ----- -----
Adjusted $.73 $.57 $2.10 $1.66
==== ==== ===== =====
Diluted earnings per-share from continuing
operations before cumulative effect of
change in accounting principle $.73 $.56 $2.09 $1.63
Add back amortization of goodwill .01 .02
---- ---- ----- -----
Adjusted $.73 $.57 $2.09 $1.65
==== ==== ===== =====
In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations." SFAS No. 143 requires that companies record the fair value of a liability for an asset retirement obligation in the period in which the liability is incurred. The Statement is effective for fiscal years beginning after June 15, 2002. The Company does not expect the adoption of SFAS No. 143 to have a material effect on the Company's financial position or results of operations.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS No. 144 requires that the same accounting model be used for long-lived assets to be disposed of by sale, whether previously held and used or newly acquired, expands the use of discontinued operations accounting to include more types of transactions and changes the timing of when discontinued operations accounting is applied. The Company adopted SFAS No. 144 on January 1, 2002, and the adoption did not have a material effect on the Company's financial position or results of operations.
In May 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections as of April 2002." SFAS No. 145 rescinds SFAS No. 4, which required companies to treat the extinguishment of debt as an extraordinary item. SFAS No. 145 requires companies to apply APB Opinion 30 when determining the accounting for the extinguishment of debt. The statement also rescinds and amends other statements to make various technical corrections and clarifications. SFAS No. 145 is effective for fiscal years beginning after May 15, 2002, and will require the Company to restate previously issued financial statements to reclassify losses related to the early extinguishment of debt from extraordinary losses to operating expenses. As discussed in Note P, the Company expects to report an extraordinary loss of $1.4 million related to the extinguishment of debt in the fourth quarter of 2002. Thus the Company's 2002 financial statements will be restated to reflect the requirements of this accounting standard in 2003.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities." SFAS No. 146 requires companies to record a liability for a cost associated with an exit or disposal activity when the liability is incurred. The statement is effective for exit or disposal activities initiated after December 31, 2002. The Company does not expect the adoption of SFAS No. 146 to have a material effect on the Company's financial position or results of operations.
The Company has designated, as a fair value hedge, callable interest rate swaps used to modify the interest characteristics of certain callable Medium-Term Notes and stable value contracts. In assessing hedge effectiveness, the Company excludes the embedded call option's time value component from each derivative's total gain or loss. For the three months and nine months ended September 30, 2002, total measured ineffectiveness for the fair value hedging relationships and the excluded time value component was insignificant. Both the measured ineffectiveness and the excluded time value component are reported in realized investment gains (losses) – derivative financial instruments in the Company's consolidated condensed statements of income.
The Company has entered into a foreign currency swap to hedge the risk of changes in the value of interest and principal payments to be made on certain of its foreign-currency-based stable value contracts. Under the terms of the swap, the Company pays a fixed U.S.-dollar-denominated rate and receives a fixed foreign-currency-denominated rate. Effective July 1, 2002, the Company designated this swap as a cash flow hedge and therefore recorded the change in the fair value of the swap during the period in accumulated other comprehensive income. During the third quarter of 2002, a pretax loss of $0.7 million representing the change in fair value of the hedged contracts during the quarter, and a gain of like amount representing the application of hedge accounting to this transaction, were recorded in realized investment gains (losses) – derivative financial instruments in the Company's consolidated condensed statements of income. Additionally, at September 30, 2002, the Company reported a reduction to accumulated other comprehensive income of $4.9 million (net of income tax of $2.7 million) related to its derivatives designated as cash flow hedges.
The Company uses certain interest rate swaps, caps, floors, swaptions, options and futures contracts as economic hedges against the changes in value or cash flows of outstanding mortgage loan commitments and certain owned investments as well as certain debt and preferred security obligations of the Company. For the three and nine months ended September 30, 2002, the Company recognized total pretax gains of $7.6 million and $22.5 million, respectively, which represents the change in fair value of these derivative instruments as well as the realized gain or loss on contracts closed during the period.
On its foreign currency swaps, the Company recognized a $54.1 million pretax gain for the first nine months of fiscal 2002 and a $0.4 million pretax gain for the current quarter while recognizing a $59.6 million foreign exchange pretax loss on the related foreign-currency-denominated stable value contracts for the nine month period and a $2.8 million pretax loss for the quarter. The net change primarily results from the difference in the forward and spot exchange rates used to revalue the currency swaps and the stable value contracts, respectively. This net change is reflected in realized investment gains (losses) – derivative financial instruments in the Company's consolidated condensed statements of income.
The Company has entered into asset swap arrangements to, in effect, sell the equity options embedded in owned convertible bonds in exchange for an interest rate swap that converts the remaining host bond to a variable rate instrument. For the nine months ended September 30, 2002, the Company recognized a $4.8 million pretax gain for the change in the asset swaps' fair value and recognized an $8.1 million pretax loss to separately record the embedded equity options at fair value. For the current quarter, the Company recognized a $1.1 million pretax loss for the change in the asset swaps' fair value and recognized a $0.9 million pretax loss to separately record embedded equity options at fair value.
The Company has also entered into a total return swap in connection with a portfolio of investment securities managed by the Company for an unrelated party. The Company recognized a $4.2 million pretax loss for the first nine months of 2002 for the change in the total return swap's fair value, including a $4.1 million pretax loss for the quarter.
The following table sets forth the Company's comprehensive income for the periods presented below:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
-------------------------- -------------------------
2002 2001 2002 2001
---- ---- ---- ----
Net income $ 50,975 $ 42,624 $147,011 $107,818
Change in net unrealized gains/losses
on investments (net of income tax:
three months: 2002 - $86,389; 2001 - $58,210
nine months: 2002 - $114,300; 2001 - $83,240) 160,437 108,105 212,272 154,588
Change in Accumulated Loss - Hedging (net of
income tax: 2002 - ($2,411)) (4,477) (4,477)
Reclassification adjustment for amounts
included in net income (net of income tax:
three months: 2002 - $(916); 2001 - $3,728
nine months: 2002 - $(842); 2001 - $3,486) (1,702) 6,926 (1,564) 6,474
Transition adjustment on derivative financial
instruments (net of income tax:
nine months: 2001 - $2,127) 3,951
--------- --------- --------- ---------
Comprehensive income $205,233 $157,655 $353,242 $272,831
========= ========= ========= =========
The following table sets forth supplemental cash flow information for the period presented below:
NINE MONTHS ENDED
SEPTEMBER 30
--------------------------
2002 2001
---- ----
SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING
AND FINANCING ACTIVITIES
Unsettled investment sales $558,900
Unsettled investment purchases 939,951
Redemption of FELINE PRIDES 114,997
Acquisition and related reinsurance transactions:
Assets acquired, net of cash $ 358,897 662,918
Liabilities assumed (489,412) (795,202)
---------- ----------
Net $(130,515) $(132,284)
========== ==========
Certain reclassifications have been made in the previously reported financial statements and accompanying notes to make the prior year amounts comparable to those of the current year. Such reclassifications had no effect on previously reported net income, total assets, or share-owners' equity.
On December 31, 2001, the Company completed the sale to Fortis, Inc. of substantially all of its Dental Benefits Division (Dental Division), and discontinued certain other remaining Dental Division related operations, primarily other health insurance lines. The results of the operations of the Dental Division have been included herein as discontinued operations.
In October 2001, the Company completed the acquisition of Inter-State Assurance Company and First Variable Life Insurance Company. The transactions have been accounted for as purchases, and the results of the transactions have been included in the accompanying financial statements since their effective date.
Summarized below are the consolidated results of operations for the periods presented below, on an unaudited pro forma basis, as if the acquisitions had occurred as of January 1, 2001. The pro forma financial information does not purport to be indicative of results of operations that would have occurred had the transaction occurred on the basis assumed above nor are they indicative of results of the future operations of the combined enterprises.
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, 2001 SEPTEMBER 30, 2001
------------------ ------------------
(UNAUDITED) (UNAUDITED)
Total revenues $425,137 $1,265,564
Net income 45,549 116,593
Net income per share-basic .65 1.68
Net income per share-diluted .65 1.67
On September 25, 2002, a special purpose finance subsidiary of the Company, PLC Capital Trust IV, issued $115 million of 7.25% Trust Originated Preferred Securities ("TOPrSSM"). The 7.25% TOPrS are guaranteed on a subordinated basis by the Company. This guarantee, considered together with the other obligations of the Company with respect to the 7.25% TOPrS, constitutes a full and unconditional guarantee by the Company of PLC Capital Trust IV's obligations with respect to the 7.25% TOPrS.
PLC Capital Trust IV was formed solely to issue securities and use the proceeds thereof to purchase subordinated debentures of the Company. The sole assets of PLC Capital Trust IV are $118.6 million of Protective Life Corporation 7.25% Subordinated Debentures due 2032, Series E. The Company has the right under the subordinated debentures to extend interest payment periods up to five consecutive years, and, as a consequence, dividends on the 7.25% TOPrS may be deferred (but will continue to accumulate, together with additional dividends on any accumulated but unpaid dividends at the dividend rate) by PLC Capital Trust IV during any such extended interest payment period. The 7.25% TOPrS are redeemable by PLC Capital Trust IV at any time on or after September 25, 2007.
On October 25, 2002, the Company caused PLC Capital Trust I, a special purpose finance subsidiary of the Company, to redeem $75 million of 8.25% Trust Originated Preferred Securities it issued in 1997. In a related transaction the Company redeemed its subordinated debentures which were held by PLC Capital Trust I. The redemption of the subordinated debentures resulted in an extraordinary loss of $1.4 million ($0.02 per share on both a diluted and basic basis) due to early extinguishment of debt, which will be reported in the fourth quarter of 2002. The loss is comprised primarily of unamortized deferred debt issue costs, net of an income tax benefit of $0.8 million.
Protective Life Corporation is a holding company whose subsidiaries provide financial services through the production, distribution, and administration of insurance and investment products. Founded in 1907, Protective Life Insurance Company is the Company's principal operating subsidiary.
Unless the context otherwise requires, the "Company" refers to the consolidated group of Protective Life Corporation and its subsidiaries.
The Company operates several business segments each having a strategic focus which can be grouped into three general product categories: life insurance, retirement savings and investment products, and specialty insurance products. The Company's operating segments are Life Marketing, Acquisitions, Stable Value Contracts, Annuities, and Asset Protection. The Company also has an additional business segment referred to as Corporate and Other.
This report includes "forward-looking statements" which express expectations of future events and/or results. All statements based on future expectations rather than on historical facts are forward-looking statements that involve a number of risks and uncertainties, and the Company cannot give assurance that such statements will prove to be correct. Please refer to Exhibit 99(a), incorporated by reference herein, for more information about factors which could affect future results.
In the conduct of its businesses, the Company makes certain assumptions regarding the mortality, persistency, claims, expenses and interest rates, or other factors appropriate to the type of business, it expects to experience in future periods, which are also used to estimate the amounts of deferred policy acquisition costs, policy liabilities and accruals, and various other components of the Company's balance sheet. The Company's actual experience, as well as changes in estimates, are used to prepare the Company's statements of income. The calculations the Company uses to estimate various components of its balance sheet and statements of income are necessarily complex and involve analyzing and interpreting large quantities of data. Assumptions and estimates involve judgment and by their nature are imprecise and subject to change and revision over time. Accordingly, the Company’s results may be affected, positively or negatively, from time to time, by actual results differing from assumptions, by changes in estimates, and by changes arising from implementing more sophisticated administrative systems and procedures that facilitate the calculation of more precise estimates.
The following discussion and analysis primarily relates to the nine months ended September 30, 2002, as it compares to the same period last year. Unless otherwise noted, the general factors discussed also apply to the quarter ended September 30, 2002, as it compares to the same quarter last year. Where needed for a more complete understanding of the Company's operating results, information related to the quarters ended September 30, 2002, and September 30, 2001, has been provided.
The Company’s results may fluctuate from period to period due to fluctuations in mortality, persistency, claims, expenses, interest rates, and other factors. Therefore, it is management's opinion that quarterly operating results for an insurance company are not necessarily indicative of results to be achieved in future periods, and that a review of operating results over a longer period is necessary to assess an insurance company's performance.
The following table sets forth for the periods shown the amount of premiums and policy fees, net of reinsurance ("premiums and policy fees"):
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
------------------------- -------------------------
2002 2001 2002 2001
---- ---- ---- ----
(IN THOUSANDS)
Premiums and Policy Fees $261,787 $148,110 $630,578 $463,847
Premiums and policy fees increased $166.7 million or 35.9% in the first nine months of 2002 as compared to the first nine months of 2001. The Company has previously announced that it had discovered that it had overpaid the reinsurance premiums due on certain life insurance policies. The Company has recorded cash and receivables totaling $69.7 million, and a corresponding increase in premiums and policy fees, which reflects its current estimate of amounts to be recovered. Excluding this increase, premiums and policy fees in the Life Marketing segment increased $15.4 million in the first nine months of 2002 as compared to the same period in 2001 due to an increase in sales. Premiums and policy fees in the Acquisitions segment are expected to decline with time (due to the lapsing of policies resulting from death of insureds or terminations of coverage) unless new acquisitions are made. In June 2002, the Company acquired through coinsurance a block of insurance policies from Conseco Variable Insurance Company ("Conseco"). This acquisition resulted in an increase in premiums and policy fees of $14.5 million during the nine months ended September 30, 2002. In October 2001, the Company acquired Inter-State Assurance Company ("Inter-State") and First Variable Life Insurance Company ("First Variable"). This acquisition resulted in a $53.3 million increase in premium and policy fees. Premiums and policy fees from older acquired blocks decreased $4.2 million in the first nine months of 2002 as compared to the same period last year. The decrease in premiums and policy fees from the Annuities Segment was $1.6 million in the nine months ended September 30, 2002 as compared to the same period in 2001. Premiums and policy fees related to the Asset Protection segment increased $20.2 million in the first nine months of 2002 as compared to the first nine months of 2001. Lower sales during the period were more than offset by a decline in the amount of reinsurance ceded. Premiums and policy fees relating to various health insurance lines in the Corporate and Other segment decreased $0.6 million.
The following table sets forth for the periods shown the amount of net investment income:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
----------------------- ---------------------------
2002 2001 2002 2001
---- ---- ---- ----
(IN THOUSANDS)
Net Investment Income $263,066 $222,759 $759,761 $642,234
Net investment income in the first nine months of 2002 was $117.5 million or 18.3% higher than the corresponding period of the preceding year primarily due to an increase in the average amount of invested assets. The October 2001 acquisitions resulted in an increase in investment income of $33.7 million. The June 2002 acquisition resulted in $10.2 million of investment income.
The Company generally purchases its investments with the intent to hold to maturity by purchasing investments that match future cash-flow needs. The sales of investments that have occurred have resulted principally from portfolio management decisions to maintain approximate matching of assets and liabilities. Accordingly, the Company has classified all of its investments in fixed maturities, equity securities, and short-term investments as "available for sale".
The following table sets forth realized investment gains (losses) for the periods shown:
REALIZED INVESTMENT THREE MONTHS ENDED NINE MONTHS ENDED
GAINS/(LOSSES) SEPTEMBER 30 SEPTEMBER 30
------------------- ------------------------ ------------------------
2002 2001 2002 2001
---- ---- ---- ----
(IN THOUSANDS)
Derivative Financial Instruments $ (802) $ 9,902 $9,624 $10,779
All Other Investments 1,927 (10,654) 1,716 (9,960)
Realized investment gains related to derivative financial instruments were $9.6 million for the first nine months of 2002 compared to gains of $10.8 million in the same period of 2001. Realized investment gains related to all other investments were $1.7 million for the first nine months of 2002 compared to a loss of $10.0 million for the corresponding period of 2001.
Each quarter the Company reviews its investments with material unrealized losses and tests for other than temporary impairments. Management analyzes various factors to determine if any specific asset impairments exist. Once a determination has been made that a specific impairment exists, a realized loss is incurred and the cost basis of the impaired asset is adjusted to its fair value. An other than temporary impairment loss is recognized based upon all relevant facts and circumstances for each investment, as appropriate. Management's analysis of investments with unrealized losses due to issuer-specific events considers the creditworthiness and financial performance of the issuer and other publicly available information. Management's analysis of invested assets with unrealized losses due to general market conditions or industry-related events considers the Company's intent and ability to continue to hold the investment to allow for a market recovery or to maturity.
The following table sets forth other income for the periods shown:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
----------------------- ---------------------
2002 2001 2002 2001
---- ---- ---- ----
(IN THOUSANDS)
Other Income $23,927 $31,914 $78,764 $89,346
Other income consists primarily of investment advisory fees from variable insurance products, and revenues from unaffiliated parties relating to the Company's broker-dealer subsidiary, direct response businesses, service contract businesses, and the Company's other non-insurance subsidiaries. Other income in the first nine months of 2002 was $10.6 million lower than the corresponding period of 2001. In the first nine months of 2002, revenues from the Company's broker-dealer subsidiary increased $1.8 million as compared to the same period in 2001. Revenues from the Company's direct response businesses decreased $5.6 million due to reduced emphasis on selling other companies' products. Revenues from the service contract businesses decreased $6.2 million over the same period, due to lower sales caused by general economic conditions. Other income from all other sources decreased $0.6 million in the first nine months of 2002 as compared to the first nine months of 2001.
The following table sets forth operating income or loss and income or loss before income tax by business segment for the periods shown:
OPERATING INCOME (LOSS) AND INCOME (LOSS) BEFORE INCOME TAX
(IN THOUSANDS)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
----------------------- ------------------------
2002 2001 2002 2001
---- ---- ---- ----
Operating Income (Loss) (1)
Life Insurance
Life Marketing $40,458 $25,681 $ 88,825 $ 67,588
Acquisitions 25,118 15,665 68,656 47,260
Retirement Savings and Investment Products
Stable Value Contracts 11,423 7,767 30,938 24,422
Annuities 2,683 4,529 12,660 12,885
Specialty Insurance Products
Asset Protection (2,112) 8,041 8,617 25,253
Corporate and Other (694) (3,436) 2,051 (8,358)
-------- -------- --------- ---------
Total operating income 76,876 58,247 211,747 169,050
-------- -------- --------- ---------
Realized Investment Gains (Losses)
Stable Value Contracts (6,366) 5,233 (6,110) 7,928
Annuities 363 1,046 3,601 1,070
Unallocated Realized Investment Gains (Losses) 7,128 (7,031) 13,849 (8,179)
Related Amortization of Deferred Policy
Acquisition Costs
Annuities (365) 0 (1,684) (24)
-------- -------- --------- ---------
Total, net 760 (752) 9,656 795
-------- -------- --------- ---------
Income (Loss) Before Income Tax
Life Insurance
Life Marketing 40,458 25,681 88,825 67,588
Acquisitions 25,118 15,665 68,656 47,260
Retirement Savings and Investment Products
Stable Value Contracts 5,057 13,000 24,828 32,350
Annuities 2,681 5,575 14,577 13,931
Specialty Insurance Products
Asset Protection (2,112) 8,041 8,617 25,253
Corporate and Other (694) (3,436) 2,051 (8,358)
Unallocated Realized Investment Gains (Losses) 7,128 (7,031) 13,849 (8,179)
-------- -------- --------- ---------
Total income before income tax $77,636 $57,495 $221,403 $169,845
======== ======== ========= =========
(1) Income from continuing operations before income tax excluding realized investment gains and losses and related amortization of
deferred policy acquisition costs.
The Life Marketing segment's pretax operating income was $88.8 million in the first nine months of 2002 compared to $67.6 million in the same period of 2001. An increase of $14.0 million is attributable to growth through sales and favorable mortality experience.
In the second quarter of 2002, the Company discovered that it had overpaid the reinsurance premiums due on certain life insurance policies, and indicated that it would be vigorously seeking recovery of approximately $94.6 million from several reinsurance companies.
The Company continues to make progress toward recovery of the overpayments. Approximately $19.5 million has been received to date. The Company is continuing to work with the reinsurers in an effort to collect the entire overpayment, plus interest where appropriate. At September 30, 2002, the Company has recorded cash and receivables totaling $69.7 million, which reflects the amounts received to date and the Company's current estimate of amounts to be recovered in the future, based upon the information which has become available in the period prior to the filing of this report with respect to conditions that existed at the end of the third quarter.
The corresponding increase in premiums and policy fees resulted in $62.5 million of additional amortization of deferred policy acquisition costs in the third quarter. The amortization of deferred policy acquisition costs takes into account the amortization relating to the increase in premiums and policy fees as well as the additional amortization required should the remainder of the overpayment not be collected. The Life Marketing segment's pretax operating income thereby increased $7.2 million (in addition to the $14.0 million increase noted above), which is the difference between the premiums recorded in the third quarter and the amount of such additional amortization.
Because the overpayments were made over a period of ten years beginning in 1992, and had the effect of reducing the amortization of deferred policy acquisition costs during that period, the Company believes that no prior period results were materially understated and that no operating trends were materially affected as a result.
The recorded amounts that reflect overpayments to be recovered in the future are estimates. Therefore, new information relating to the recovery of such amounts could result in the Company increasing (decreasing) its estimates of the amounts to be recovered, or the Company could receive more (less) than the recorded amounts, which, in either event, could result in an additional positive (negative) effect on future income.
Pretax operating income from the Acquisitions segment was $68.7 million in the first nine months of 2002, an increase of $21.4 million from the first nine months of 2001. Earnings from the acquisition through coinsurance of a block of policies from Conseco contributed $2.0 million during the 2002 third quarter. Earnings from the Inter-State and First Variable acquisitions contributed $13.3 million in the first nine months of 2002. Operating income related to a block of business coinsured in early 2001 increased $3.1 million in the first nine months of 2002 as compared to the same period in 2001.
The Stable Value Contracts segment had pretax operating income of $30.9 million in the first nine months of 2002 as compared to $24.4 million in the corresponding period of 2001. The increase is due to an increase in average account balances for the periods and a widening of operating spreads.
The Annuities segment's pretax operating income for the first nine months of 2002 was $12.7 million as compared to $12.9 million in the first nine months of 2001. For the nine months ended September 30, 2002, fixed annuity earnings increased $2.0 million as compared to the same period of 2001. This increase is primarily due to increased sales for the nine months ended 2002 as compared to the same period of 2001. Variable annuity earnings declined $2.2 million in the nine months ended September 30, 2002 as compared to the same period of 2001. The decline is due to annuity withdrawals and the general decline in the equity markets.
The Annuities segment's pretax operating income of $2.7 million for the third quarter of 2002 declined from $4.5 million in the third quarter of 2001 primarily because of lower sales volume in the fixed annuity line during the third quarter of 2002 as compared to the third quarter of 2001.
In this segment, recent equity market volatility has created uncertainty regarding the level of future profitability in the variable annuity business and the related rate of amortization of deferred policy acquisition cost.
The Company currently has a deferred policy acquisition costs asset related to its variable annuity product lines of approximately $88 million and a variable annuity account balance of $1.6 billion.
The Company continues to monitor the rate of amortization of the deferred policy acquisition costs associated with its variable annuity product line. The Company understands that various methodologies and assumptions are currently being used by life insurance companies in the United States to analyze the proper rate of amortization of such costs. The methodologies employ varying assumptions about how much and how quickly the stock markets recover from their current depressed levels. Depending on the assumptions and methodologies employed, and assuming that the United States stock markets close at year end within the range of recent levels, the Company expects that it may be appropriate to incur a charge with respect to the amortization of such deferred acquisition cost in the fourth quarter in a range of $.00 to $.10 per share. The Company is reviewing its methodologies and assumptions in light of publicly available information regarding the methodologies and assumptions used by other life insurance companies. A recovery in equity markets, or methodologies and assumptions that anticipate a recovery, result in lower amounts of amortization, and a worsening of equity markets result in higher amounts of amortization.
The Company offers a guaranteed minimum death benefit feature (GMDB) on its variable annuity products. The Company’s accounting policy has been to calculate its total exposure to GMDB, and then apply a mortality factor to determine the amount of claims that could be expected to occur in the coming twelve months. The Company then accrues to that amount over four quarters. At September 30, 2002, the total GMDB reserve was $5.1 million, an increase of $0.4 million from June 30, 2002. At September 30, 2002, the total guaranteed amount payable under the GMDB feature based on variable annuity account balances at September 30, 2002, was $609 million, compared to $432 million at June 30, 2002. Based on variable annuity account balances as of October 23, 2002, the total guaranteed dollar amount payable under the GMDB feature was approximately $520 million.
In accordance with statutory accounting practices prescribed or permitted by regulatory authorities (which require the assumption that equity markets will significantly worsen), the Company’s insurance subsidiaries reported GMDB related policy liabilities and accruals of $28.8 million at September 30, 2002.
The Asset Protection segment had pretax operating income of $8.6 million in the first nine months of 2002 as compared to $25.3 million for the same period in 2001. The decrease was attributable to lower sales volume and negative claims experience in the current period. Included in the segment's pretax income for 2002 was $2.7 million of income related to the sale of the inactive charter of a small subsidiary.
The results of the Asset Protection segment are being significantly affected by general economic conditions, consumer borrowing trends, and conditions in the automobile industry. The segment’s claims and corresponding loss ratios have increased in the current economic environment. In addition, the Company is exiting certain ancillary lines of business in this segment, which are not core to either the credit insurance or service contract businesses.
In view of the negative trends recently experienced in this segment, the Company has commenced claims experience studies to ascertain if, and to what extent, it is appropriate to increase its estimates of policy liabilities and accruals relating to the segment. The Company expects to complete these studies prior to the end of the year. The Company expects the effect of an increase in policy liabilities would be a charge to earnings in a range from $.00 to $.25 per share in the fourth quarter.
Examples of the negative trends affecting the segment are lower used vehicle prices resulting from new vehicle sales incentives, an increase in automobile travel resulting from a decline in air travel following the events of September 11, 2001, and an increase in service contract claims. Claims experience studies are necessarily complex and involve analyzing and interpreting large quantities of data to deduce whether the trends appear to be temporary and likely to reverse, or not. Negative trends judged to be other than temporary would result in an increase in the estimate of policy liabilities.
In addition, the Company expects to complete the sale of two inactive insurance subsidiary charters held in the segment. The transactions are subject to regulatory approval and certain customary closing conditions. If the transactions close in the fourth quarter of 2002, the Company expects the resulting gain to be approximately $0.09 per share. The transactions are subject to regulatory approval and certain customary closing conditions.
The Corporate and Other segment consists primarily of net investment income on capital, interest expense on all debt, and various other items not associated with the other segments. The segment had pretax operating income of $2.1 million in the first nine months of 2002 as compared to a pretax operating loss of $8.4 million in the first nine months of 2001. The increase in earnings as compared to the same period last year is primarily due to an increase in participating mortgage loan income and other investment income and a decrease in other operating expenses.
The following table sets forth the effective tax rates for the periods shown:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
-------------------- ---------------------
2002 2001 2002 2001
---- ---- ---- ----
Estimated Effective Income Tax Rates 34.3% 32.0% 33.6% 33.0%
The effective income tax rate for the full year of 2001 was approximately 32.7%. Management's estimate of the effective income tax rate for 2002 is approximately 33.6%.
The following table sets forth net income from continuing operations before cumulative effect of change in accounting principle and related per share information for the periods shown:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
---------------------- ------------------------
2002 2001 2002 2001
---- ---- ---- ----
Net income from continuing operations before
cumulative effect of change in accounting
principle (in thousands) $50,975 $39,076 $147,011 $113,754
Per share-basic .73 .56 2.10 1.64
Per share-diluted .73 .56 2.09 1.63
Compared to the same period in 2001, net income from continuing operations before cumulative effect of change in accounting principle per share-diluted in the first nine months of 2002 increased 28.2%, reflecting improved operating earnings in the Life Marketing, Acquisitions, Stable Value Contracts, and Corporate and Other segments and higher realized investment gains partially offset by lower operating results in the Asset Protection and Annuities segments.
The factors which could affect the Company's future results include, but are not limited to, general economic conditions and the following known trends and uncertainties: we are exposed to many types of risks that could negatively affect our business; we operate in a mature, highly competitive industry, which could limit our ability to gain or maintain our position in the industry; a ratings downgrade could adversely affect our ability to compete; our policy claims fluctuate from period to period, and actual results could differ from our expectations; we use estimates in our financial statements; the use of reinsurance introduces variability in our statement of income; we could be forced to sell investments at a loss to cover policyholder withdrawals; interest rate fluctuations could negatively affect our spread income or otherwise impact our business; equity market volatility could negatively impact our business; insurance companies are highly regulated; changes to tax law or interpretations of existing tax law could adversely affect the Company and its ability to compete with non-insurance products or reduce the demand for certain insurance products; financial services companies are frequently the targets of litigation, including class action litigation, which could result in substantial judgments; a decrease in sales or persistency could negatively affect our results; our investments are subject to risks; our growth from acquisitions involves risks; we are dependent on the performance of others; and our reinsurance program involves risks. Please refer to Exhibit 99(a), incorporated by reference herein, about these factors that could affect future results.
In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations." SFAS No. 143 requires that companies record the fair value of a liability for an asset retirement obligation in the period in which the liability is incurred. The Statement is effective for fiscal years beginning after June 15, 2002. The Company does not expect the adoption of SFAS No. 143 to have a material effect on the Company's financial position or results of operations.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS No. 144 requires that the same accounting model be used for long-lived assets to be disposed of by sale, whether previously held and used or newly acquired, expands the use of discontinued operations accounting to include more types of transactions and changes the timing of when discontinued operation accounting is applied. The Company adopted SFAS No. 144 on January 1, 2002, and the adoption did not have a material effect on the Company's financial position or results of operations.
In May 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections as of April 2002." SFAS No. 145 rescinds SFAS No. 4, which required companies to treat the extinguishments of debt as an extraordinary item. SFAS No. 145 requires companies to apply APB Opinion 30 when determining the accounting for the extinguishments of debt. The statement also rescinds and amends other statements to make various technical corrections and clarifications. SFAS No. 145 is effective for fiscal years beginning after May 15, 2002, and will require the Company to restate previously issued financial statements to reclassify losses related to the early extinguishments of debt from extraordinary losses to operating expenses. As discussed in "Liquidity and Capital Resources-Capital" included herein, the Company expects to report an extraordinary loss of $1.4 million related to the extinguishments of debt in the fourth quarter of 2002. Thus the Company's 2002 financial statements will be restated to reflect the requirements of this accounting standard in 2003.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities." SFAS No. 146 requires companies to record a liability for a cost associated with an exit or disposal activity when the liability is incurred. The statement is effective for exit or disposal activities initiated after December 31, 2002. The Company does not expect the adoption of SFAS No. 146 to have a material effect on the Company's financial position or results of operations.
In July 2002, the American Institute of Certified Public Accountants proposed a new Statement of Position (SOP), "Accounting and Reporting by Insurance Enterprises for Certain Nontraditional Long-Duration Contracts and for Separate Accounts." Among other things, the SOP would establish the preferred method for estimating the GMDB related policy liabilities and accruals. The Company believes its adoption of the SOP as proposed would result in recording a modestly higher liability. Therefore, the Company does not expect the adoption of the SOP, when issued, would have a material effect on the Company's financial position or results of operations.
With respect to the unaudited consolidated condensed financial information of Protective Life Corporation for the three-month and nine-month periods ended September 30, 2002 and 2001. PricewaterhouseCoopers LLP ("PricewaterhouseCoopers") reported that they have applied limited procedures in accordance with professional standards for a review of such information. However, their separate report dated November 13, 2002 appearing herein, stated that they did not audit and they do not express an opinion on that unaudited consolidated condensed financial information. Accordingly, the degree of reliance on their report on such information should be restricted in light of the limited nature of the review procedures applied. PricewaterhouseCoopers is not subject to the liability provisions of Section 11 of the Securities Act of 1933 for their report on the unaudited consolidated condensed financial information because that report is not a "report" or a "part" of a registration statement prepared or certified by PricewaterhouseCoopers into which this Form 10-Q may be incorporated by reference within the meaning of Sections 7 and 11 of the Act.
The Company's operations usually produce a positive cash flow. This cash flow is used to fund an investment portfolio to finance future benefit payments. Since future benefit payments largely represent medium- and long-term obligations reserved using certain assumed interest rates, the Company's investments are predominantly in medium- and long-term, fixed-rate investments such as bonds and mortgage loans.
The Company generally purchases its investments with the intent to hold to maturity by purchasing investments that match future cash flow needs. However, the Company may sell any of its investments to maintain proper matching of assets and liabilities. Accordingly, the Company has classified its fixed maturities and certain other securities as "available for sale."
The Company's investments in debt and equity securities are reported at market value, and investments in mortgage loans are reported at amortized cost. At September 30, 2002, the fixed maturity investments (bonds and redeemable preferred stocks) had a market value of $11,451.3 million, which is 4.3% above amortized cost of $10,981.3 million. The Company had $2,591.4 million in mortgage loans at September 30, 2002. While the Company's mortgage loans do not have quoted market values, at September 30, 2002, the Company estimates the market value of its mortgage loans to be $2,942.4 million (using discounted cash flows from the next call date), which is 13.5% above amortized cost. Most of the Company's mortgage loans have significant prepayment penalties. These assets are invested for terms approximately corresponding to anticipated future benefit payments. Thus, market value fluctuations are not expected to adversely affect liquidity.
For several years, the Company has offered a type of commercial loan under which the Company will permit a slightly higher loan-to-value ratio in exchange for a participating interest in the cash flows from the underlying real estate. As of September 30, 2002, approximately $495.3 million of the Company's mortgage loans have this participation feature.
At September 30, 2002, delinquent mortgage loans and foreclosed properties were 0.2% of invested assets. Bonds rated less than investment grade were 3.9% of invested assets. The Company does not expect these investments to adversely affect its liquidity or ability to maintain proper matching of assets and liabilities.
Policy loans at September 30, 2002, were $546.3 million, an increase of $24.5 million from December 31, 2001. Policy loan rates are generally in the 4.0% to 8.0% range. Such rates at least equal the assumed interest rates used for future policy benefits.
In the ordinary course of its commercial mortgage lending operations, the Company will commit to provide a mortgage loan before the property to be mortgaged has been built or acquired. The mortgage loan commitment is a contractual obligation to fund a mortgage loan when called upon by the borrower. The commitment is not recognized in the Company's financial statements until the commitment is actually funded. The mortgage loan commitment contains terms, including the rate of interest which may become less than prevailing interest rates. At September 30, 2002, the Company had outstanding mortgage loan commitments of $432.9 million.
Many of the Company's products contain surrender charges and other features that reward persistency and penalizes the early withdrawal of funds. Certain stable value and annuity contracts have market-value adjustments that protect the Company against investment losses if interest rates are higher at the time of surrender than at the time of issue. Conversely, the market-value adjustment for certain annuity contracts may increase surrender values when interest rates have fallen and the Company would experience investment gains.
At September 30, 2002, the Company had policy liabilities and accruals of $8.8 billion. The Company's interest-sensitive life insurance products have a weighted average minimum credited interest rate of approximately 4.5%.
At September 30, 2002, the Company had $3.9 billion of stable value contract account balances and $3.7 billion of annuity account balances.
The Company utilizes a risk management strategy that incorporates the use of derivative financial instruments, primarily to reduce its exposure to interest rate risk as well as currency exchange risk.
Combinations of interest rate swap contracts, options and futures contracts are sometimes used as hedges against changes in interest rates for certain investments, primarily outstanding mortgage loan commitments and mortgage-backed securities. Interest rate swap contracts generally involve the exchange of fixed and variable rate interest payments between two parties, based on a common notional principal amount and maturity date. Interest rate futures generally involve exchange traded contracts to buy or sell treasury bonds and notes in the future at specified prices. Interest rate options represent contracts that allow the holder of the option to receive cash or purchase, sell or enter into a financial instrument at a specified price within a specified period of time. The Company used interest rate swap contracts, swaptions (options to enter into interest rate swap contracts), caps, and floors to modify the interest characteristics of certain investments, its Senior Notes, Medium-Term Notes, and TOPrS. Swap contracts are also used to alter the effective durations of assets and liabilities. The Company uses currency swaps to reduce its exposure to currency exchange risk on certain stable value contracts denominated in foreign currencies, primarily the European euro and the British pound.
Derivative instruments expose the Company to credit and market risk. The Company minimizes its credit risk by entering into transactions with highly rated counterparties. The Company manages the market risk associated with interest rate and foreign exchange contracts by establishing and monitoring limits as to the types and degrees of risk that may be undertaken.
The Company monitors its use of derivatives in connection with its overall asset/liability management programs and procedures. The Company's asset/liability committee is responsible for implementing various hedging strategies that are developed through its analysis of data from financial simulation models and other internal and industry sources. The resulting hedging strategies are then incorporated into the Company's overall interest rate and currency exchange risk management strategies.
The Company's asset/liability management programs and procedures involve the monitoring of asset and liability durations for various product lines; cash flow testing under various interest rate scenarios; and the continuous rebalancing of assets and liabilities with respect to yield, risk, and cash flow characteristics. It is the Company's policy to generally maintain asset and liability durations within one half year of one another, although, from time to time, a broader interval may be allowed.
The Company believes its asset/liability management programs and procedures and certain product features provide some degree of protection for the Company against the effects of changes in interest rates under various scenarios. Additionally, the Company believes its asset/liability management programs and procedures provide sufficient liquidity to enable it to fulfill its obligations to pay benefits under its various insurance and deposit contracts. However, the Company's asset/liability management programs and procedures incorporate assumptions about the relationship between short-term and long-term interest rates (i.e., the slope of the yield curve), relationships between risk-adjusted and risk-free interest rates, market liquidity and other factors, and the effectiveness of the Company's asset/liability management programs and procedures may be negatively affected whenever actual results differ from those assumptions.
In general terms, the Company’s results are improved when the yield curve is positively sloped (i.e., when long-term interest rates are higher than short-term interest rates), and will be adversely affected by a flat or negatively sloped curve. The yield curve is currently positively sloped, and this has positively affected the Company’s results. A rapid increase in short-term interest rates would negatively affect the Company’s future results.
Approximately 20% of the Company's liabilities relate to products (primarily whole life insurance) the profitability of which may be affected by changes in interest rates.
Cash outflows related to stable value contracts (primarily maturing contracts, scheduled interest payments and expected withdrawals) were approximately $735 million during 2001. Cash outflows related to stable value contracts are estimated to be approximately $1,086 million in 2002. The Company's asset/liability management programs and procedures take into account maturing contracts and expected withdrawals. Accordingly, the Company currently expects to have sufficient sources of liquidity to pay expected stable value contract related cash outflows.
The life insurance subsidiaries were committed at September 30, 2002, to fund mortgage loans in the amount of $432.9 million. The Company's subsidiaries held $435.3 million in cash and short-term investments at September 30, 2002. The Company had an additional $98.5 million in cash and short-term investments available for general corporate purposes.
While the Company generally anticipates that the cash flows of its subsidiaries will be sufficient to meet their investment commitments and operating cash needs, the Company recognizes that investment commitments scheduled to be funded may, from time to time, exceed the funds then available. Therefore, the Company has arranged sources of credit for its insurance subsidiaries to use when needed. At September 30, 2002, Protective Life Insurance Company had $42.0 million of securities sold under repurchase agreements with an interest rate of 1.95%. The Company expects that the rate received on its investments will equal or exceed its borrowing rate. Additionally, the Company may from time to time sell short-duration stable value products to complement its cash management practices.
At September 30, 2002, the Company had no borrowings under its $200.0 million revolving line of credit due October 1, 2005.
Protective Life Corporation's cash flow is dependent on cash dividends and payments on surplus notes from its subsidiaries, revenues from investment, data processing, legal and management services rendered to the subsidiaries, and investment income. At December 31, 2001, approximately $282.1 million of consolidated share-owners' equity, excluding net unrealized investment gains and losses, represented net assets of the Company's insurance subsidiaries that cannot be transferred to the Company. In addition, the states in which the Company's insurance subsidiaries are domiciled impose certain restrictions on the insurance subsidiaries' ability to pay dividends to the Company.
The Company plans to retain substantial portions of the earnings of its life insurance subsidiaries in those companies primarily to support their future growth. The Company's cash disbursements have from time to time exceeded its cash receipts, and these shortfalls have been funded through various external financings. Therefore, the Company may, from time to time, require additional external financing.
On September 25, 2002, a special purpose finance subsidiary of the Company, PLC Capital Trust IV, issued $115 million of 7.25% Trust Originated Preferred Securities ("TOPrSSM"). The 7.25% TOPrS are guaranteed on a subordinated basis by the Company. This guarantee, considered together with the other obligations of the Company with respect to the 7.25% TOPrS, constitutes a full and unconditional guarantee by the Company of PLC Capital Trust IV's obligations with respect to the 7.25% TOPrS.
PLC Capital Trust IV was formed solely to issue securities and use the proceeds thereof to purchase subordinated debentures of the Company. The sole assets of PLC Capital Trust IV are $118.6 million of Protective Life Corporation 7.25% Subordinated Debentures due 2032, Series E. The Company has the right under the subordinated debentures to extend interest payment periods up to five consecutive years, and, as a consequence, dividends on the 7.25% TOPrS may be deferred (but will continue to accumulate, together with additional dividends on any accumulated but unpaid dividends at the dividend rate) by PLC Capital Trust IV during any such extended interest payment period. The 7.25% TOPrS are redeemable by PLC Capital Trust IV at any time on or after September 25, 2007.
On October 25, 2002, the Company caused PLC Capital Trust I, a special purpose finance subsidiary of the Company, to redeem $75 million of 8.25% Trust Originated Preferred Securities it issued in 1997. In a related transaction the Company redeemed its subordinated debentures which were held by PLC Capital Trust I. The redemption of the subordinated debentures resulted in an extraordinary loss of $1.4 million ($0.02 per share on both a diluted and basic basis) due to early extinguishment of debt, which will be reported in the fourth quarter of 2002. The loss is comprised primarily of unamortized deferred debt issue costs, net of an income tax benefit of $0.8 million.
A life insurance company's statutory capital is computed according to rules prescribed by the National Association of Insurance Commissioners ("NAIC"), as modified by the insurance company's state of domicile. Statutory accounting rules are different from GAAP and are intended to reflect a more conservative view by, for example, requiring immediate expensing of policy acquisition costs. The NAIC's risk-based capital requirements require insurance companies to calculate and report information under a risk-based capital formula. The achievement of long-term growth will require growth in the statutory capital of the Company's insurance subsidiaries. The subsidiaries may secure additional statutory capital through various sources, such as retained statutory earnings or equity contributions by the Company.
The table below sets forth future maturities of debt, guaranteed preferred beneficial interests in the Company's subordinated debentures (guaranteed preferred beneficial interests), and stable value contracts.
(in thousands) 2002 2003-2004 2005-2006 After 2006
-------------- ---- --------- --------- ----------
Debt $ 175,000 $194,186
Guaranteed preferred beneficial interests 290,000
Stable value contracts $336,510 1,847,371 $1,276,099 400,261
Securities sold under repurchase agreements 42,000
Notes payable 2,271
Under insurance guaranty fund laws in most states, insurance companies doing business in a participating state can be assessed up to prescribed limits for policyholder losses incurred by insolvent companies. The Company does not currently believe that any such assessments will be materially different from amounts already reflected in the financial statements.
A number of civil jury verdicts have been returned against insurers, broker-dealers, and other providers of financial services involving sales practices, alleged agent misconduct, failure to properly supervise representatives, relationships with agents or other persons with whom the insurer does business, and other matters. Increasingly these lawsuits have resulted in the award of substantial judgments that are disproportionate to the actual damages, including material amounts of punitive and non-economic compensatory damages. In some states, juries, judges, and arbitrators have substantial discretion in awarding punitive and non-economic compensatory damages, which creates the potential for unpredictable material adverse judgments or awards in any given lawsuit or arbitration. Arbitration awards are subject to very limited appellate review. In addition, in some class action and other lawsuits, companies have made material settlement payments. The Company, like other financial services companies, in the ordinary course of business is involved in such litigation or, alternatively, in arbitration. Although the outcome of any such litigation or arbitration cannot be predicted, the Company believes that at the present time there are no pending or threatened lawsuits that are reasonably likely to have a material adverse effect on the financial position, results of operations, or liquidity of the Company.
The Company and its subsidiaries from time to time are subject to examination, review, and investigation by regulatory authorities, including insurance and securities regulators, and tax authorities. Among other actions, a state insurance department is currently investigating the Company’s management of a small block of the health insurance business in a discontinued line of business, apparently as part of a larger inquiry related to the overall health insurance industry. Although the Company cannot predict what actions may be taken by any regulatory authority, the Company does not believe that this or any other matter currently under examination, review, or investigation or any other pending or threatened regulatory or tax-related action with respect to the Company or any of its subsidiaries is reasonably likely to have a material effect on the Company.
Legislation has been enacted that permits commercial banks, insurance companies and investment banks to combine, provided certain requirements are satisfied. While the Company cannot predict the impact of this legislation, it could cause the Company to experience increased competition as larger, potentially more efficient organizations emerge from such combinations.
Legislation has been enacted that would, over time, reduce and ultimately eliminate the estate tax. Life insurance products are often used to fund estate tax obligations. If the estate tax is significantly reduced or eliminated, the demand for certain life insurance products would be adversely affected.
The Company’s Life Marketing segment is currently developing and implementing a more sophisticated administrative system capable of facilitating the calculation of more precise estimates of the segment’s deferred policy acquisition costs, policy liabilities and accruals, and various other components of the segment’s balance sheet. The segment’s future results may be affected, positively or negatively, by changes in such estimates arising from the implementation of this system.
The tragic events of September 11, 2001, had little direct effect on the Company's operations or financial strength. However, many of the Company's businesses and the performance of the Company's investment portfolio are affected by general economic conditions, therefore a downturn in the general economy could have a negative effect on the Company's operations and financial strength.
The Company's ability to grow depends in large part upon the continued availability of capital. The Company has recently deployed significant amounts of capital to support its sales and acquisitions efforts. Capital has also been consumed as the Company has incurred realized and unrealized losses on its invested assets, and to increase its GMDB related policy liabilities and accruals in accordance with statutory accounting practices. In recent years, most financial services companies, including the Company, experienced a decrease in the market price of their common stock. A lower stock price may limit the Company's ability to raise capital to fund growth opportunities and acquisitions. Although the Company believes it has sufficient capital to fund its immediate growth and capital needs. The amount of capital available can vary significantly from period to period due to a variety of circumstances, some of which are neither predictable or foreseeable, nor within the Company's control. A lack of sufficient capital could impair the Company's ability to grow.
There has been no material change from the disclosures in the Company's Annual Report on Form 10-K for the year ended December 31, 2001.
The Company’s Chief Executive Officer and Chief Financial Officer have, within the 90-day period preceding the filing of the report, evaluated the Company’s disclosure controls and procedures and believe them to be operating effectively to make known to them on a timely basis any material information required to be included in the Company’s periodic filings with the Securities and Exchange Commission. There have been no significant changes in the internal controls, or in other factors that could significantly affect internal controls, subsequent to the date this evaluation was completed.
(a) Exhibit 15
(b) Exhibit 99(a) - Safe Harbor for Forward-Looking Statements
Exhibit 99(b) - Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursant to Section 906 of the
Sarbanes-Oxley Act of 2002.
Exhibit 99(c) - Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
(c) A Form 8K was filed on September 27, 2002, announcing that the Company and PLC Capital Trust IV had entered into a
purchase agreement for the sale of 4,000,000 Trust Preferred Securities and attaching relevant documents.
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| PROTECTIVE LIFE CORPORATION | |||
|---|---|---|---|
| Date: | November 14, 2002 | /s/ Jerry W. Defoor | |
| Jerry W. DeFoor | |||
| Vice President and Controller | |||
| and Chief Accounting Officer | |||
| (Duly authrorized officer) |
I, John D. Johns, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Protective Life Corporation;
2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material
fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading
with respect to the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly
present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for,
the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and
procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to
the filing date of this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures
based on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's
auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal controls which could adversely affect the
registrant's ability to record, process, summarize and report financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other employees who have a significant role in the
registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant
changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our
most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.
Date: November 14, 2002
| /s/ John D. Johns | |||
| Title: President and Chief Executive Officer |
I, Allen W. Ritchie, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Protective Life Corporation;
2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material
fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading
with respect to the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly
present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for,
the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and
procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to
the filing date of this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures
based on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's
auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal controls which could adversely affect the
registrant's ability to record, process, summarize and report financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other employees who have a significant role in the
registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant
changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our
most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.
Date: November 14, 2002
| /s/ Allen W. Ritchie | |||
| Title: Executive Vice President and Chief Financial Officer |