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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarter Ended June 30, 2003 Commission File No. 0-25280
- ----------------------------------------- ---------------------------------
The Equitable Life Assurance Society of the United States
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(Exact name of registrant as specified in its charter)
New York 13-5570651
- ---------------------------------- --------------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1290 Avenue of the Americas, New York, New York 10104
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (212) 554-1234
----------------------
None
- --------------------------------------------------------------------------------
(Former name, former address, and former fiscal year if changed since last
report.)
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.
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Yes X No
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Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
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Yes No X
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Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Shares Outstanding
Class at August 13, 2003
- ----------------------------------------- ----------------------------------
Common Stock, $1.25 par value 2,000,000
REDUCED DISCLOSURE FORMAT:
Registrant meets the conditions set forth in General Instruction H (1) (a) and
(b) of Form 10-Q and is therefore filing this form with the Reduced Disclosure
Format.
Page 1 of 29
THE EQUITABLE LIFE ASSURANCE SOCIETY OF THE UNITED STATES
FORM 10-Q
FOR THE QUARTER ENDED JUNE 30, 2003
TABLE OF CONTENTS
Page
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PART I FINANCIAL INFORMATION
Item 1: Unaudited Consolidated Financial Statements
o Consolidated Balance Sheets, June 30, 2003
and December 31, 2002...................................... 3
o Consolidated Statements of Earnings, Three Months
and Six Months Ended June 30, 2003 and 2002................ 4
o Consolidated Statements of Shareholder's Equity,
Six Months Ended June 30, 2003 and 2002.................... 5
o Consolidated Statements of Cash Flows, Six Months Ended
June 30, 2003 and 2002..................................... 6
o Notes to Consolidated Financial Statements................... 7
Item 2: Management's Discussion and Analysis of Financial Condition and
Results of Operations ("Management Narrative")................. 19
Item 3: Quantitative and Qualitative Disclosures About Market Risk*.... 25
Item 4: Controls and Procedures........................................ 25
PART II OTHER INFORMATION
Item 1: Legal Proceedings.............................................. 26
Item 2: Changes in Securities.......................................... 28
Item 3: Defaults Upon Senior Securities................................ 28
Item 4: Submission of Matters to a Vote of Security Holders............ 28
Item 5: Other Information.............................................. 28
Item 6: Exhibits and Reports on Form 8-K............................... 28
SIGNATURES................................................................ 29
*Omitted pursuant to General Instruction H to Form 10-Q.
2
PART I FINANCIAL INFORMATION
Item 1: Unaudited Consolidated Financial Statements.
THE EQUITABLE LIFE ASSURANCE SOCIETY OF THE UNITED STATES
CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
June 30, December 31,
2003 2002
---- ----
(In Millions)
ASSETS
Investments:
Fixed maturities available for sale,
at estimated fair value.................. $ 28,485.8 $ 26,278.9
Mortgage loans on real estate ............. 3,569.8 3,746.2
Equity real estate ........................ 713.9 717.3
Policy loans .............................. 3,953.3 4,035.6
Other equity investments .................. 729.9 720.3
Other invested assets ..................... 1,153.9 1,327.6
---------- -----------
Total investments ..................... 38,606.6 36,825.9
Cash and cash equivalents ................... 1,341.2 269.6
Cash and securities segregated,
at estimated fair value ................... 1,308.3 1,174.3
Broker-dealer related receivables ........... 1,753.3 1,446.2
Deferred policy acquisition costs ........... 5,959.7 5,801.0
Goodwill and other intangible assets, net ... 3,524.7 3,503.8
Amounts due from reinsurers ................. 2,423.8 2,351.7
Loans to affiliates, at estimated fair value 417.3 413.0
Other assets ................................ 3,913.2 4,028.7
Separate Accounts assets .................... 45,578.2 39,012.1
---------- -----------
Total Assets ................................ $104,826.3 $ 94,826.3
========== ===========
LIABILITIES
Policyholders' account balances ............. $ 24,708.0 $ 23,037.5
Future policy benefits and other
policyholders liabilities ................. 14,176.9 13,975.7
Broker-dealer related payables .............. 1,048.4 731.0
Customers related payables .................. 1,757.4 1,566.8
Amounts due to reinsurers ................... 887.7 867.5
Short-term and long-term debt ............... 1,257.9 1,274.7
Federal income taxes payable ................ 2,395.0 2,006.4
Other liabilities ........................... 1,767.1 1,751.8
Separate Accounts liabilities ............... 45,458.8 38,883.8
Minority interest in equity of
consolidated subsidiaries ................. 1,815.4 1,816.6
Minority interest subject to
redemption rights ......................... 513.1 515.4
---------- -----------
Total liabilities ..................... 95,785.7 86,427.2
---------- -----------
Commitments and contingencies (Note 11)
SHAREHOLDER'S EQUITY
Common stock, $1.25 par value, 2.0 million
shares authorized, issued and outstanding.. 2.5 2.5
Capital in excess of par value .............. 4,832.0 4,812.8
Retained earnings ........................... 2,998.2 2,902.7
Accumulated other comprehensive income ...... 1,207.9 681.1
---------- -----------
Total shareholder's equity ............ 9,040.6 8,399.1
---------- -----------
Total Liabilities and Shareholder's Equity .. $104,826.3 $ 94,826.3
========== ===========
See Notes to Consolidated Financial Statements.
3
THE EQUITABLE LIFE ASSURANCE SOCIETY OF THE UNITED STATES
CONSOLIDATED STATEMENTS OF EARNINGS
(UNAUDITED)
Three Months Ended Six Months Ended
June 30, June 30,
-------- --------
2003 2002 2003 2002
---- ---- ---- ----
(In Millions)
REVENUES
Universal life and investment-type
product policy fee income............ $ 334.0 $ 330.3 $ 650.0 $ 671.2
Premiums............................... 214.3 236.6 458.0 471.9
Net investment income.................. 589.6 580.6 1,175.7 1,171.3
Investment gains (losses), net......... 28.8 24.9 (96.2) (12.8)
Commissions, fees and other income..... 660.1 899.7 1,314.0 1,654.4
-------- -------- ---------- ----------
Total revenues................... 1,826.8 2,072.1 3,501.5 3,956.0
-------- -------- ---------- ----------
BENEFITS AND OTHER DEDUCTIONS
Policyholders' benefits................ 395.1 590.8 879.2 1,049.5
Interest credited to policyholders'
account balances..................... 242.2 247.3 478.0 495.1
Compensation and benefits.............. 321.1 317.1 607.6 592.0
Commissions............................ 251.8 214.4 485.9 422.0
Distribution plan payments............. 91.9 103.7 181.0 209.0
Amortization of deferred sales
commissions.......................... 52.3 60.8 105.3 117.8
Interest expense....................... 20.7 30.2 41.2 50.3
Amortization of deferred policy
acquisition costs.................... 88.4 58.6 175.6 141.3
Capitalization of deferred policy
acquisition costs.................... (259.9) (195.0) (482.1) (371.7)
Rent expense........................... 39.6 41.6 80.3 82.9
Amortization of other intangible
assets, net.......................... 5.5 5.2 11.0 10.5
Other operating costs and expenses..... 201.0 187.0 435.5 406.6
-------- --------- --------- ----------
Total benefits and other deductions.. 1,449.7 1,661.7 2,998.5 3,205.3
-------- --------- --------- ----------
Earnings from continuing operations
before Federal income taxes and
minority interest.................... 377.1 410.4 503.0 750.7
Federal income tax expense............. (85.0) (104.7) (112.8) (180.7)
Minority interest in net income of
consolidated subsidiaries............ (82.4) (99.2) (144.8) (201.0)
-------- --------- --------- ----------
Earnings from continuing operations.... 209.7 206.5 245.4 369.0
Earnings (loss) from discontinued
operations, net of Federal income
taxes................................ .1 (1.4) .1 (.4)
Cumulative effect of accounting
changes, net of Federal income taxes. - - - (33.1)
-------- --------- --------- ----------
Net Earnings........................... $ 209.8 $ 205.1 $ 245.5 $ 335.5
======== ========= ========= ==========
See Notes to Consolidated Financial Statements.
4
THE EQUITABLE LIFE ASSURANCE SOCIETY OF THE UNITED STATES
CONSOLIDATED STATEMENTS OF SHAREHOLDER'S EQUITY
SIX MONTHS ENDED JUNE 30, 2003 AND 2002
(UNAUDITED)
2003 2002
---- ----
(In Millions)
SHAREHOLDER'S EQUITY
Common stock, at par value, beginning
of year and end of period...................... $ 2.5 $ 2.5
--------- -----------
Capital in excess of par value,
beginning of year as previously reported....... 4,753.8 4,694.6
Prior period adjustment related to deferred
Federal income taxes........................... 59.0 59.0
--------- -----------
Capital in excess of par value, beginning
of year as restated............................ 4,812.8 4,753.6
Increase in additional paid in capital in
excess of par value............................ 19.2 2.9
--------- -----------
Capital in excess of par value, end of period.... 4,832.0 4,756.5
--------- -----------
Retained earnings, beginning of year
as previously reported......................... 2,740.6 2,653.2
Prior period adjustment related to deferred
Federal income taxes........................... 162.1 162.1
--------- -----------
Retained earnings, beginning of year as restated. 2,902.7 2,815.3
Net earnings..................................... 245.5 335.5
Shareholder dividends paid....................... (150.0) (250.0)
--------- -----------
Retained earnings, end of period................. 2,998.2 2,900.8
--------- -----------
Accumulated other comprehensive income,
beginning of year.............................. 681.1 215.4
Other comprehensive income....................... 526.8 32.9
--------- -----------
Accumulated other comprehensive income,
end of period.................................. 1,207.9 248.3
--------- -----------
Total Shareholder's Equity, End of Period........ $9,040.6 $7,908.1
========= ===========
See Notes to Consolidated Financial Statements.
5
THE EQUITABLE LIFE ASSURANCE SOCIETY OF THE UNITED STATES
CONSOLIDATED STATEMENTS OF CASH FLOWS
SIX MONTHS ENDED JUNE 30, 2003 AND 2002
(UNAUDITED)
2003 2002
---- ----
(In Millions)
Net earnings....................................... $ 245.5 $ 335.5
Adjustments to reconcile net earnings to net
cash provided by operating activities:
Interest credited to policyholders'
account balances............................. 478.0 495.1
Universal life and investment-type product
policy fee income............................ (650.0) (671.2)
Net change in broker-dealer and customer
related receivables/payables................. 163.9 (153.2)
Investment losses, net......................... 96.2 12.8
Change in segregated cash and securities, net.. (133.9) 331.7
Change in deferred policy acquisition costs.... (306.5) (230.0)
Change in future policy benefits............... (64.1) 146.6
Change in property and equipment............... (27.1) (37.2)
Change in Federal income tax payable........... 107.8 82.5
Minority interest in net income of
consolidated subsidiaries.................... 144.8 201.0
Change in fair value of guaranteed minimum
income benefit reinsurance contract.......... 18.0 (138.0)
Amortization of other intangible assets, net... 11.0 10.5
Other, net..................................... 268.7 (8.3)
---------- ---------
Net cash provided by operating activities.......... 352.3 377.8
---------- ---------
Cash flows from investing activities:
Maturities and repayments........................ 2,020.1 1,355.0
Sales............................................ 2,308.6 4,089.9
Purchases........................................ (5,340.3) (6,079.8)
Decrease (increase) in short-term investments.... 241.3 (150.5)
Other, net....................................... 49.2 96.6
---------- ---------
Net cash used by investing activities.............. (721.1) (688.8)
---------- ---------
Cash flows from financing activities:
Policyholders'account balances:
Deposits....................................... 3,148.4 2,394.9
Withdrawals and transfers to Separate Accounts. (1,407.9) (1,065.0)
Net (decrease) increase in short-term financings. (17.2) 546.4
Shareholder dividends paid....................... (150.0) (250.0)
Other, net....................................... (132.9) (176.2)
---------- ---------
Net cash provided by financing activities.......... 1,440.4 1,450.1
---------- ---------
Change in cash and cash equivalents................ 1,071.6 1,139.1
Cash and cash equivalents, beginning of year....... 269.6 680.0
---------- ---------
Cash and Cash Equivalents, End of Period........... $ 1,341.2 $ 1,819.1
========== =========
Supplemental cash flow information
Interest Paid.................................... $ 43.3 $ 42.1
========== =========
Income Taxes (Refunded) Paid..................... $ (7.8) $ 86.3
========== =========
See Notes to Consolidated Financial Statements.
6
THE EQUITABLE LIFE ASSURANCE SOCIETY OF THE UNITED STATES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1) BASIS OF PRESENTATION
The preparation of the accompanying unaudited consolidated financial statements
in conformity with U.S. GAAP requires management to make estimates and
assumptions (including normal, recurring accruals) that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimates. The accompanying unaudited interim consolidated financial
statements reflect all adjustments necessary in the opinion of management to
present fairly the consolidated financial position of the Company and its
consolidated results of operations and cash flows for the periods presented. All
significant intercompany transactions and balances except those with
discontinued operations (see Note 7) have been eliminated in consolidation.
These statements should be read in conjunction with the consolidated financial
statements of the Company for the year ended December 31, 2002. The results of
operations for the six months ended June 30, 2003 are not necessarily indicative
of the results to be expected for the full year.
The terms "second quarter 2003" and "second quarter 2002" refer to the three
months ended June 30, 2003 and 2002, respectively. The terms "first half of
2003" and "first half of 2002" refer to the six months ended June 30, 2003 and
2002, respectively.
Certain reclassifications have been made in the amounts presented for prior
periods to conform these periods with the current presentation.
2) PRIOR PERIOD ADJUSTMENT
A review by the Company of Federal income tax assets and liabilities identified
an overstatement of the deferred Federal income tax liability related to the
years ended December 31, 2000 and earlier. As a result, the Federal income tax
liability as of December 31, 2001 and 2002 and March 31, 2003 has been reduced
by $221.1 million and the consolidated shareholder's equity as of such dates has
been increased by $221.1 million, with no impact on the consolidated statements
of earnings for the years ended December 31, 2000, 2001, and 2002, the three
months ended March 31, 2003 or any prior period after the adoption on January 1,
1992 of SFAS No. 109, "Accounting for Income Taxes". This adjustment has been
reported in the accompanying financial statements as an increase in consolidated
shareholder's equity as of January 1, 2002.
3) ACCOUNTING CHANGES
Effective January 1, 2002, the Company changed its method of accounting for
liabilities associated with variable annuity contracts that contain guaranteed
minimum death benefit ("GMDB") and guaranteed minimum income benefit ("GMIB")
features, to establish reserves for the Company's estimated obligations
associated with these features. The method was changed to achieve a better
matching of revenues and expenses. The initial impact of adoption as of January
1, 2002 resulted in a charge of $33.1 million for the cumulative effect of this
accounting change, net of Federal income taxes of $17.9 million, in the
consolidated statements of earnings. Prior to the adoption of this accounting
change, benefits under these features were expensed as incurred. The impact of
this change was to increase Earnings from continuing operations in second
quarter 2002 by $80.0 million, net of Federal income taxes of $43.0 million, and
decrease Earnings from continuing operations in the first half of 2002 by $78.0
million, net of Federal income taxes of $42.0 million.
The Company adopted SFAS No. 150, "Accounting for Certain Financial Instruments
with Characteristics of both Liabilities and Equity," which is effective for
financial instruments entered into or modified after May 31, 2003, and otherwise
is effective at the beginning of the first interim period beginning after June
15, 2003. SFAS No. 150 establishes standards for classification and measurement
of certain financial instruments with characteristics of both liabilities and
equity in the statement of financial position. SFAS No. 150 had no material
impact on the Company's financial position upon adoption.
7
4) NEW ACCOUNTING PRONOUNCEMENTS
In July 2003, the AICPA issued SOP 03-1, "Accounting and Reporting by Insurance
Enterprises for Certain Nontraditional Long-Duration Contracts and for Separate
Accounts". SOP 03-1 provides guidance on separate account presentation,
accounting for an insurance enterprise's proportionate interest in a separate
account, and gains and losses on the transfer of assets from the general account
to a separate account. Additionally, SOP 03-1 provides guidance for determining
the balance that accrues to the contract holder for long-duration insurance or
investment contracts that are subject to SFAS No. 97, "Accounting and Reporting
by Insurance Enterprises for Certain Long-Duration Contracts and for Realized
Gains and Losses from the Sale of Investments". SOP 03-1 is effective for
financial statements for fiscal years beginning after December 15, 2003.
Management is currently assessing the impact of adoption of SOP 03-1 on the
Company's results of operations and financial position.
In January 2003, the FASB issued FIN No. 46, "Consolidation of Variable Interest
Entities," to address when it is appropriate to consolidate financial interests
in any variable interest entity ("VIE"), a new term to define a business
structure that either (i) does not have equity investors with voting or other
similar rights or (ii) has equity investors that do not provide sufficient
financial resources to support its activities. For entities with these
characteristics, including many formerly known as special purpose entities, FIN
46 imposes a consolidation model that focuses on the relative exposures of the
participants to the economic risks and rewards from the assets of the VIE rather
than on ownership of its voting interests, if any, to determine whether a
parent-subsidiary relationship exists. Under the VIE consolidation model, the
party with a majority of the economic risks or rewards associated with a VIE's
activities, including those conveyed by derivatives, credit enhancements, and
other arrangements, is the "primary beneficiary" and, therefore, is required to
consolidate the VIE.
Transition by the Company to the consolidation requirements of FIN 46 began in
the first quarter of 2003, with immediate application to all new VIEs created
after January 31, 2003, to be followed by application beginning in the three
month period ending September 30, 2003 to all existing VIEs. In addition,
specific disclosures are required in financial statements issued subsequent to
January 31, 2003 if it is "reasonably possible" that a company will have a
significant, but not necessarily consolidated, variable interest in a VIE when
the consolidation requirements become effective. The Company identified
significant variable interests totaling $118.4 million at June 30, 2003,
representing the Insurance Group's General Account participation in seven
collateralized debt obligation structures and four investment limited
partnerships determined to be VIEs. These variable interests are reflected in
the consolidated balance sheets as fixed maturities or other equity investments
and, accordingly, are subject to ongoing review for impairments in value deemed
to be other than temporary. These variable interests and approximately $21.8
million related funding commitments to the investment limited partnerships at
June 30, 2003 represent the Insurance Group's maximum exposure to loss from its
involvement with these VIEs. The Insurance Group has no further economic
interests in these VIEs in the form of related guarantees, derivatives or
similar instruments and obligations.
Alliance and certain of its subsidiaries receive fees for providing investment
management services, and certain distribution, shareholder servicing and
administrative services ancillary thereto, to its clients. Investment advisory
and distribution fees are generally calculated as a small percentage of the
value of assets under management and vary with the type of account managed.
Certain investment advisory contracts provide for a performance fee, in addition
to or in lieu of a base fee, that is calculated as either a percentage of
absolute investment results or a percentage of investment results in excess of a
stated benchmark over a specified period of time. Shareholder servicing fees are
based on the number of shareholder accounts and administrative services fees
represent reimbursements for services provided by Alliance. Management of
Alliance is currently reviewing its investment management agreements, its
investments in and other financial arrangements with certain entities which hold
client assets under management such as certain mutual fund products domiciled in
Luxembourg, India, Japan, Singapore and Australia (collectively "Offshore
Funds"), hedge funds, structured products, group trusts and joint ventures.
Generally, these retail and institutional type products' average annual
investment advisory contractual fee rates range from approximately 25 to 53
basis points.
For the Offshore Funds and group trusts, Alliance generally has no variable
interests or risks in these entities other than the fees it receives and its
risks are limited to these fees. The legal structures utilized for certain
Offshore Funds and group trusts do not provide for significant shareholder
voting rights, which may result in these entities being classified as VIEs under
FIN 46. The Offshore Funds and group trusts held approximately $32.0 billion in
assets under management for clients as of June 30, 2003.
8
Alliance has assets under management for clients in various hedge funds for
which it receives both a base advisory fee and a performance fee. In addition,
Alliance had investments in certain of the hedge funds aggregating approximately
$13.0 million as of June 30, 2003. The hedge funds held approximately $2.4
billion in assets under management for clients at that date. Alliance's risks
related to the hedge funds are limited to the fees it earns, its investments and
the approximately $37,000 of equity of a subsidiary that serves as the general
partner to certain hedge funds. The level of equity investment in certain of the
hedge funds relative to total assets and certain other criteria may result in
these entities being classified as VIEs under FIN 46.
For structured products, Alliance managed approximately $6.0 billion in client
assets as of June 30, 2003 for which it receives advisory and certain other
fees. Alliance has no other direct variable interests or risks related to the
structured products. Certain structured products have a nominal equity
investment, which may result in these entities being classified as VIEs under
FIN 46.
Alliance's financial arrangements with its joint ventures generally consist of a
50 percent or less equity interest and certain fees that it receives. The total
amount of these investments was approximately $10.0 million as of June 30, 2003.
Alliance has no other direct variable interests or risks to the joint ventures,
however, certain joint ventures may be classified as VIEs under FIN 46.
At September 30, 2003, the Company is required by FIN 46 to consolidate those
VIEs where it is determined to be the primary beneficiary, which includes
consideration of the aggregate variable interests in these VIEs held by related
parties. FIN 46 is highly complex and requires management to make significant
estimates and judgements as to its application. Management is continuing its
analysis of the effect of FIN 46 while the FASB is continuing to develop answers
to implementation issues. Consequently, it is not presently known whether the
Company will be required to consolidate any VIEs identified in the Insurance
Group and Alliance or provide any additional disclosure about VIEs.
5) INVESTMENTS
Investment valuation allowances for mortgage loans and equity real estate and
changes thereto follow:
Six Months Ended
June 30,
--------
2003 2002
---- ----
(In Millions)
Balances, beginning of year ....................... $ 55.0 $ 87.6
Additions charged to income ....................... 6.0 13.5
Deductions for writedowns and asset dispositions .. (3.7) (6.7)
Deduction for transfer of held for sale real
estate to held for production of income
real estate ..................................... (31.5) --
-------- ---------
Balances, End of Period ........................... $ 25.8 $ 94.4
======== =========
Balances, end of period comprise:
Mortgage loans on real estate ................... $ 23.4 $ 19.9
Equity real estate .............................. 2.4 74.5
-------- ---------
Total ............................................. $ 25.8 $ 94.4
======== =========
For the second quarters and first half of 2003 and of 2002, investment income is
shown net of investment expenses of $56.9 million, $51.7 million, $108.5 million
and $101.2 million, respectively.
As of June 30, 2003 and December 31, 2002, respectively, fixed maturities
classified as available for sale had amortized costs of $25,813.8 million and
$24,751.8 million. Other equity investments included trading securities having
carrying values of $1.4 million and $1.1 million and costs of $3.3 million and
$3.3 million at June 30, 2003 and December 31, 2002, respectively, and other
equity securities with carrying values of $23.9 million and $36.2 million and
costs of $15.8 million and $37.6 million as of June 30, 2003 and December 31,
2002, respectively.
In the second quarters and first half of 2003 and of 2002, respectively, net
unrealized and realized holding gains (losses) on trading account equity
securities of $2.2 million, $(.3) million, $2.3 million and $.6 million were
included in net investment income in the consolidated statements of earnings.
9
For the first half of 2003 and 2002, proceeds received on sales of fixed
maturities classified as available for sale amounted to $2,290.1 million and
$3,355.7 million, respectively. Gross gains of $65.1 million and $56.1 million
and gross losses of $24.5 million and $100.7 million were realized on these
sales for the first half of 2003 and 2002, respectively. Unrealized net
investment gains related to fixed maturities classified as available for sale
increased by $1,144.9 million during the first half of 2003, resulting in a
balance of $2,672.0 million at June 30, 2003.
Impaired mortgage loans along with the related investment valuation allowances
for losses follow:
June 30, December 31,
2003 2002
---- ----
(In Millions)
Impaired mortgage loans with investment
valuation allowances ....................... $ 147.2 $ 111.8
Impaired mortgage loans without investment
valuation allowances........................ 57.6 20.4
--------- ---------
Recorded investment in impaired
mortgage loans ............................. 204.8 132.2
Investment valuation allowances .............. (23.3) (23.4)
--------- ---------
Net Impaired Mortgage Loans .................. $ 181.5 $ 108.8
========= =========
During the first half of 2003 and 2002, respectively, the Company's average
recorded investment in impaired mortgage loans was $164.9 million and $137.0
million. Interest income recognized on these impaired mortgage loans totaled
$5.1 million and $5.2 million for the first half of 2003 and 2002, respectively.
Mortgage loans on real estate are placed on nonaccrual status once management
believes the collection of accrued interest is doubtful. Once mortgage loans on
real estate are classified as nonaccrual loans, interest income is recognized
under the cash basis of accounting and the resumption of the interest accrual
would commence only after all past due interest has been collected or the
mortgage loan on real estate has been restructured to where the collection of
interest is considered likely. At June 30, 2003 and December 31, 2002,
respectively, the carrying value of mortgage loans on real estate that had been
classified as nonaccrual loans was $164.4 million and $91.1 million.
6) CLOSED BLOCK
The excess of Closed Block liabilities over Closed Block assets (adjusted to
exclude the impact of related amounts in accumulated other comprehensive income)
represents the expected maximum future post-tax earnings from the Closed Block
which would be recognized in income from continuing operations over the period
the policies and contracts in the Closed Block remain in force. As of January 1,
2001, the Company has developed an actuarial calculation of the expected timing
of the Closed Block earnings.
If the actual cumulative earnings from the Closed Block are greater than the
expected cumulative earnings, only the expected earnings will be recognized in
net income. Actual cumulative earnings in excess of expected cumulative earnings
at any point in time are recorded as a policyholder dividend obligation because
they will ultimately be paid to Closed Block policyholders as an additional
policyholder dividend unless offset by future performance that is less favorable
than originally expected. If a policyholder dividend obligation has been
previously established and the actual Closed Block earnings in a subsequent
period are less than the expected earnings for that period, the policyholder
dividend obligation would be reduced (but not below zero). If, over the period
the policies and contracts in the Closed Block remain in force, the actual
cumulative earnings of the Closed Block are less than the expected cumulative
earnings, only actual earnings would be recognized in income from continuing
operations. If the Closed Block has insufficient funds to make guaranteed policy
benefit payments, such payments will be made from assets outside the Closed
Block.
Many expenses related to Closed Block operations, including amortization of DAC,
are charged to operations outside of the Closed Block; accordingly, net revenues
of the Closed Block do not represent the actual profitability of the Closed
Block operations. Operating costs and expenses outside of the Closed Block are,
therefore, disproportionate to the business outside of the Closed Block.
10
Summarized financial information for the Closed Block is as follows:
June 30, December 31,
2003 2002
---- ----
(In Millions)
CLOSED BLOCK LIABILITIES:
Future policy benefits, policyholders'
account balances and other................. $ 8,968.5 $ 8,997.3
Policyholder dividend obligation ............ 400.0 213.3
Other liabilities ........................... 138.6 134.6
--------- -----------
Total Closed Block liabilities .............. 9,507.1 9,345.2
--------- -----------
ASSETS DESIGNATED TO THE CLOSED BLOCK:
Fixed maturities available for sale,
at estimated fair value (amortized
cost of $4,960.7 and $4,794.0) ............ 5,479.7 5,098.4
Mortgage loans on real estate ............... 1,387.8 1,456.0
Policy loans ................................ 1,414.5 1,449.9
Cash and other invested assets .............. 86.4 141.9
Other assets ................................ 203.4 219.9
--------- -----------
Total assets designated to the Closed Block.. 8,571.8 8,366.1
--------- -----------
Excess of Closed Block liabilities over
assets designated to the Closed Block ..... 935.3 979.1
Amounts included in accumulated other
comprehensive income:
Net unrealized investment gains,
net of deferred Federal income tax
of $41.7 and $31.8 and policyholder
dividend obligation of $400.0
and $213.3 ........................... 77.4 59.1
--------- -----------
Maximum Future Earnings To Be Recognized
From Closed Block Assets and Liabilities... $ 1,012.7 $ 1,038.2
========= ===========
Closed Block revenues and expenses were as follows:
Three Months Ended Six Months Ended
June 30, June 30,
-------- --------
2003 2002 2003 2002
---- ---- ---- ----
(In Millions)
REVENUES:
Premiums and other income .............. $ 128.3 $ 138.2 $ 259.9 $ 277.4
Investment income (net of investment
expenses of $0, $2.4, $1.7
and $3.7) ........................... 137.0 148.3 278.5 292.0
Investment losses, net ................. (11.3) (23.0) (30.1) (19.8)
--------- --------- ---------- --------
Total revenues ......................... 254.0 263.5 508.3 549.6
--------- --------- ---------- --------
BENEFITS AND OTHER DEDUCTIONS:
Policyholders' benefits and dividends .. 226.3 243.7 459.6 499.3
Other operating costs and expenses ..... 7.2 4.7 8.4 9.5
--------- --------- ---------- --------
Total benefits and other deductions .... 233.5 248.4 468.0 508.8
--------- --------- ---------- --------
Net revenues before
Federal income taxes ................ 20.5 15.1 40.3 40.8
Federal income taxes ................... (7.5) (6.5) (14.8) (16.6)
--------- --------- ---------- --------
Net Revenues ........................... $ 13.0 $ 8.6 $ 25.5 $ 24.2
========= ========= ========== ========
11
Reconciliation of the policyholder dividend obligation is as follows:
Six Months Ended
June 30,
--------
2003 2002
---- ----
(In Millions)
Balances, beginning of year ................... $ 213.3 $ 47.1
Unrealized investment gains ................... 186.7 25.8
-------- -------
Balances, End of Period ....................... $ 400.0 $ 72.9
======== =======
7) DISCONTINUED OPERATIONS
Summarized financial information for discontinued operations follows:
June 30, December 31,
2003 2002
---- ----
(In Millions)
BALANCE SHEETS
Fixed maturities available for sale,
at estimated fair value (amortized
cost $651.4 and $677.8) .................... $ 739.9 $ 722.7
Equity real estate ........................... 200.0 203.7
Mortgage loans on real estate ................ 70.8 87.5
Other equity investments ..................... 7.5 9.4
Other invested assets ........................ .2 .2
-------- --------
Total investments ....................... 1,018.4 1,023.5
Cash and cash equivalents .................... 54.3 31.0
Other assets ................................. 127.8 126.5
-------- --------
Total Assets ................................. $1,200.5 $1,181.0
======== ========
Policyholders liabilities .................... $ 896.1 $ 909.5
Allowance for future losses .................. 198.8 164.6
Other liabilities ............................ 105.6 106.9
-------- --------
Total Liabilities ............................ $1,200.5 $1,181.0
======== ========
Three Months Ended Six Months Ended
June 30, June 30,
-------- --------
2003 2002 2003 2002
---- ---- ---- ----
(In Millions)
STATEMENTS OF EARNINGS
Investment income (net of investment
expenses of $5.0, $4.8, $11.4
and $9.5) ................................ $ 17.2 $ 19.3 $ 36.1 $ 40.6
Investment gains, net ...................... (.4) 37.0 .2 38.6
Policy fees, premiums and
other income ............................. -- .2 -- .2
-------- ------- -------- --------
Total revenues ............................. 16.8 56.5 36.3 79.4
Benefits and other deductions .............. 23.4 23.2 46.4 47.8
(Losses charged) earnings credited to
allowance for future losses............... (6.6) 33.3 (10.1) 31.6
-------- ------- -------- --------
Pre-tax results from operations ............ -- -- -- --
Pre-tax earnings (loss) from
releasing (strengthening) the
allowance for future losses .............. .2 (2.2) .2 (.7)
Federal income tax (expense) benefit ....... (.1) .8 (.1) .3
-------- ------- -------- --------
Income (Loss) from Discontinued
Operations .............................. $ .1 $ (1.4) $ .1 $ (.4)
========= ======= ======== ========
12
The Company's quarterly process for evaluating the allowance for future losses
applies the current period's results of discontinued operations against the
allowance, re-estimates future losses and adjusts the allowance, if appropriate.
These updated assumptions and estimates resulted in a strengthening or release
of the allowance in each of the periods presented above.
Management believes the allowance for future losses at June 30, 2003 is adequate
to provide for all future losses; however, the determination of the allowance
involves numerous estimates and subjective judgments regarding the expected
performance of Discontinued Operations Investment Assets. There can be no
assurance the losses provided for will not differ from the losses ultimately
realized. To the extent actual results or future projections of discontinued
operations differ from management's current estimates and assumptions underlying
the allowance for future losses, the difference would be reflected in the
consolidated statements of earnings in discontinued operations. In particular,
to the extent income, sales proceeds and holding periods for equity real estate
differ from management's previous assumptions, periodic adjustments to the loss
allowance are likely to result.
Valuation allowances of $3.4 million and $4.9 million on mortgage loans on real
estate were held at June 30, 2003 and December 31, 2002, respectively.
8) VARIABLE ANNUITY CONTRACTS - GMDB AND GMIB
Equitable Life issues certain variable annuity contracts with GMDB and GMIB
features that guarantee either:
a) Return of Premium: the benefit is the greater of current account value or
premiums paid (adjusted for withdrawals);
b) Ratchet: the benefit is the greatest of current account value, premiums
paid (adjusted for withdrawals), or the highest account value on any
anniversary up to contractually specified ages (adjusted for
withdrawals);
c) Roll-Up: the benefit is the greater of current account value or premiums
paid (adjusted for withdrawals) accumulated at contractually specified
interest rates up to specified ages; or
d) Combo: the benefit is the greater of the ratchet benefit or the roll-up
benefit.
The following table summarizes the GMDB and GMIB liabilities, before reinsurance
ceded, reflected in the General Account in future policy benefits and other
policyholders liabilities in 2003:
GMDB GMIB Total
---- ---- -----
(In Millions)
Balance at December 31, 2002 ............ $ 128.4 $ 117.5 $ 245.9
Paid guarantee benefits ............... (38.1) -- (38.1)
Other changes in reserve .............. 18.5 (28.5) (10.0)
--------- --------- ---------
Balance at June 30, 2003 ................ $ 108.8 $ 89.0 $ 197.8
========= ========= =========
Related GMDB reinsurance ceded amounts were:
GMDB
----
(In Millions)
Balance at December 31, 2002 .................. $ 21.5
Paid guarantee benefits ceded ............... (10.8)
Other changes in reserve .................... 16.2
--------
Balance at June 30, 2003 ...................... $ 26.9
========
13
The GMIB reinsurance contracts are considered derivatives and are reported at
fair value. At June 30, 2003 the Company had the following variable contracts
with guarantees. Note that since the Company's variable contracts with GMDB
guarantees may also offer GMIB guarantees in each contract, the GMDB and GMIB
amounts listed are not mutually exclusive:
Return
of
Premium Ratchet Roll-Up Combo Total
------- ------- ------- ----- -----
(Dollars In Millions)
GMDB:
Account value (1) .................... $ 23,907 $ 4,599 $ 6,976 $ 3,549 $39,031
Net amount at risk, gross ............ $ 3,911 $ 1,355 $ 2,644 $ 23 $ 7,933
Net amount at risk, net of amounts
reinsured .......................... $ 3,906 $ 921 $ 1,632 $ 23 $ 6,482
Average attained age of
contractholders .................... 49.4 59.2 61.3 59.6 51.4
Percentage of contractholders
over age 70 ........................ 6.8% 20.3% 19.7% 9.7% 25.0%
Range of guaranteed minimum return
rates .............................. N/A N/A 3-6% 3-6% N/A
GMIB:
Account value (2) .................... N/A N/A $ 5,233 $ 5,064 $10,297
Net amount at risk, gross ............ N/A N/A $ 918 $ -- $ 918
Net amount at risk, net of amounts
reinsured .......................... N/A N/A $ 242 $ -- $ 242
Weighted average years remaining
until annuitization ................ N/A N/A 5.1 10.1 7.0
Range of guaranteed minimum return
rates .............................. N/A N/A 3-6% 3-6% 3-6%
(1) Included General Account balances of $11,156 million, $185 million, $203
million and $431 million, respectively, for a total of $11,975 million.
(2) Included General Account balances of $3 million and $638 million,
respectively, for a total of $641 million.
For contracts with the GMDB feature, the net amount at risk in the event of
death is defined as the amount by which the GMDB benefits exceed related account
values.
For contracts with the GMIB feature, the net amount at risk in the event of
annuitization is defined as the amount by which the GMIB benefit bases exceed
related account values, taking into account the relationship between current
annuity purchase rates and the GMIB guaranteed annuity purchase rates.
9) FEDERAL INCOME TAXES
Federal income taxes for interim periods have been computed using an estimated
annual effective tax rate. This rate is revised, if necessary, at the end of
each successive interim period to reflect the current estimate of the annual
effective tax rate.
10) STOCK APPRECIATION RIGHTS
Following completion of the merger of AXA Merger Corp. with and into the Holding
Company, certain employees exchanged AXA ADR options for tandem Stock
Appreciation Rights and at-the-money AXA ADR options of equivalent intrinsic
value. The maximum obligation for the Stock Appreciation Rights is $73.3
million, based upon the underlying price of AXA ADRs at January 2, 2001, the
closing date of the aforementioned merger. The Company recorded an increase
(reduction) in the Stock Appreciation Rights liability of $.3 million and
$(14.5) million for the second quarters of 2003 and 2002, and of $.3 million and
$(8.5) million for the first half of 2003 and 2002, respectively, reflecting the
variable accounting for the Stock Appreciation Rights, based on the change in
the market value of AXA ADRs for the respective periods ended June 30, 2003 and
2002.
14
11) LITIGATION
There have been no new material legal proceedings and no material developments
in specific litigations previously reported in the Company's Notes to
Consolidated Financial Statements for the year ended December 31, 2002, except
as described below:
In MCEACHERN, in March 2003, the parties settled the individual claims of the
plaintiffs and the action was dismissed with prejudice.
In MALHOTRA, in April 2003, plaintiffs filed a second amended complaint alleging
violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934.
The action purports to be on behalf of a class consisting of all persons who on
or after October 3, 1997 purchased an individual variable deferred annuity
contract, received a certificate to a group variable deferred annuity contract
or made an additional investment through such a contract, which contract was
used to fund a contributory retirement plan or arrangement qualified for
favorable income tax treatment. In May 2003, the defendants filed a motion to
dismiss the second amended complaint.
In the Mississippi Actions, the motion for rehearing filed in the Supreme Court
of Mississippi by the plaintiffs in the Circuit Court of Sunflower County action
has been withdrawn with prejudice. In March 2003, an action was filed on behalf
of one plaintiff in the Circuit Court of Kemper County. That lawsuit has been
removed to the United States District Court for the Southern District of
Mississippi. Equitable Life entered into agreements to settle 25 of the
Mississippi Actions involving approximately 275 plaintiffs. Those 25 actions
have been dismissed with prejudice. In addition, Equitable Life entered into an
agreement to settle an additional 2 lawsuits involving approximately 15
plaintiffs. That agreement is subject to certain conditions contained therein.
In FISCHEL, in May 2003, plaintiffs' motion for an award of additional legal
fees from the settled claim settlement fund was denied by the District Court. In
May 2003, plaintiffs filed a notice of appeal from that order.
In HIRT, in March 2003, plaintiffs filed an amended complaint elaborating on the
remaining claims in the original complaint and adding additional class and
individual claims alleging that the adoption and announcement of the cash
balance formula and the subsequent announcement of changes in the application of
the cash balance formula failed to comply with ERISA. The parties have agreed
that the new individual claims of the five named plaintiffs regarding the
delivery of announcements to them will be excluded from the class certification.
In April 2003, defendants filed an answer to the amended complaint. In July
2003, defendants filed a motion for summary judgment on the grounds that
plaintiffs' claims are barred by applicable statutes of limitations.
In January 2003, a putative class action entitled BERGER ET AL. V. AXA NETWORK,
LLC AND THE EQUITABLE LIFE ASSURANCE SOCIETY OF THE UNITED STATES was commenced
in the United States District Court for the Northern District of Illinois by two
former agents on behalf of themselves and other similarly situated present,
former and retired agents who, according to the complaint, "(a) were discharged
by Equitable Life from `statutory employee status' after January 1, 1999,
because of Equitable Life's adoption of a new policy stating that in any given
year, those who failed to meet specified sales goals during the preceding year
would not be treated as `statutory employees,' or (b) remain subject to
discharge from `statutory employee' status based on the policy applied by
Equitable Life." The complaint alleges that the company improperly "terminated"
the agents' full-time life insurance salesman statutory employee status in or
after 1999 by requiring attainment of minimum production credit levels for 1998,
thereby making the agents ineligible for benefits and "requiring" them to pay
Self-Employment Contribution Act taxes. The former agents, who assert claims for
violations of ERISA and 26 U.S.C. 3121, and breach of contract, seek declaratory
and injunctive relief, plus restoration of benefits and an adjustment of their
benefit plan contributions and payroll tax withholdings. In March 2003,
Equitable Life filed a motion to dismiss the complaint. In July 2003, the United
States District Court for the Northern District of Illinois granted in part and
denied in part Equitable Life's motion to dismiss the complaint, dismissing
plaintiffs' claims for violation of 26 U.S.C. 3121 and breach of contract.
Equitable Life has answered plaintiffs' remaining claim for violation of ERISA.
15
In May 2003, a putative class action complaint entitled ECKERT V. THE EQUITABLE
LIFE ASSURANCE SOCIETY OF THE UNITED STATES was filed against The Equitable Life
Assurance Society of the United States in the United States District Court for
the Eastern District of New York, as a case related to the MALHOTRA action
described above. The complaint asserts a single claim for relief under Section
47(b) of the Investment Company Act of 1940 based on Equitable Life's alleged
failure to register as an investment company. According to the complaint,
Equitable Life was required to register as an investment company because it was
allegedly issuing securities in the form of variable insurance products and
allegedly investing its assets primarily in other securities. The plaintiff
purports to act on behalf of all persons who purchased or made an investment in
variable insurance products from Equitable Life on or after May 7, 1998. The
complaint seeks declaratory judgment permitting putative class members to elect
to void their variable insurance contracts, restitution of all fees and
penalties paid by the putative class members on the variable insurance products,
disgorgement of all revenues received by Equitable Life on those products, and
an injunction against the payment of any dividends by Equitable Life to the
Holding Company. In June 2003, Equitable Life filed a motion to dismiss the
complaint.
Although the outcome of litigation cannot be predicted with certainty, the
Company's management believes that the ultimate resolution of the matters
described above should not have a material adverse effect on the consolidated
financial position of the Company. The Company's management cannot make an
estimate of loss, if any, or predict whether or not such litigations will have a
material adverse effect on the Company's consolidated results of operations in
any particular period.
In MILLER, in July, 2003, the parties filed a stipulation providing that
plaintiffs would not seek to certify the case as a class action. Also in July
2003, plaintiffs filed a motion for leave to file a third amended complaint
("Third Amended Complaint"). Named as individual plaintiffs in the proposed
Third Amended Complaint are shareholders of the Alliance Premier Growth Fund,
the Alliance Quasar Fund, the Alliance Growth and Income Fund, the Alliance
Corporate Bond Fund, the AllianceBernstein Growth Fund, the AllianceBernstein
Balanced Shares Fund, and the AllianceBernstein Americas Government Income
Trust. The allegations and relief sought in the Third Amended Complaint are
virtually identical to the Second Amended Complaint, except plaintiffs now
specifically seek recovery of excessive advisory and distribution fees paid by
these seven funds to Alliance and AllianceBernstein Investment Research and
Management, Inc. ("ABIRM"; formerly known as Alliance Fund Distributors, Inc.),
respectively, for the period commencing one year prior to the filing of the
Amended Complaint in April 2001 through the date of final judgment after trial,
a time period likely to exceed four years. The case is currently in discovery.
Alliance and ABIRM believe that plaintiffs' allegations in the Second Amended
Complaint and proposed Third Amended Complaint are without merit and intend to
vigorously defend against these allegations. At the present time, management of
Alliance and ABIRM are unable to estimate the impact, if any, that the outcome
of this action may have on Alliance's results of operations or financial
condition, and the Company's management is unable to estimate the impact, if
any, that the outcome of this action may have on its consolidated results of
operations or financial position.
The ENRON case is currently in discovery. Alliance believes the allegations of
the Enron Complaint as to it are without merit and intends to vigorously defend
against these allegations. At the present time, management of Alliance is unable
to estimate the impact, if any, that the outcome of this action may have on
Alliance's results of operations or financial condition, and the Company's
management is unable to estimate the impact, if any, that the outcome of this
action may have on its consolidated results of operations or financial position.
On August 9, 2003, the Securities and Exchange Board of India ordered that Samir
Arora, a former research analyst/portfolio manager of Alliance, refrain from
buying, selling or dealing in Indian securities. Until August 4, 2003, when Mr.
Arora announced his resignation from Alliance, he served as head of Asian
emerging markets equities and a fund manager of Alliance Capital Asset
Management (India) Pvt. Ltd. ("ACAML"), a fund management company 75% owned by
Alliance. The order states that Mr. Arora relied on unpublished price sensitive
information in making certain investment decisions on behalf of certain clients
of ACAML and Alliance, that there were failures to make required disclosures
regarding the size of certain equity holdings, and that Mr. Arora tried to
influence the sale of Alliance's stake in ACAML. Mr. Arora will have the
opportunity to contest the findings in the order by filing objections and at a
personal hearing scheduled for August 28, 2003. Alliance is reviewing this
matter; at the present time, management of Alliance does not believe its outcome
will have a material impact on Alliance's results of operations or financial
condition, and the Company's management does not believe its outcome will have a
material impact on the Company's consolidated results of operations or financial
position.
16
In addition to the matters previously reported and those described above, the
Holding Company and its subsidiaries are involved in various legal actions and
proceedings in connection with their businesses. Some of the actions and
proceedings have been brought on behalf of various alleged classes of claimants
and certain of these claimants seek damages of unspecified amounts. While the
ultimate outcome of such matters cannot be predicted with certainty, in the
opinion of management no such matter is likely to have a material adverse effect
on the Company's consolidated financial position or results of operations.
However, it should be noted that the frequency of large damage awards, including
large punitive damage awards that bear little or no relation to actual economic
damages incurred by plaintiffs in some jurisdictions, continues to create the
potential for an unpredictable judgment in any given matter.
12) BUSINESS SEGMENT INFORMATION
The following tables reconcile segment revenues and earnings from continuing
operations before Federal income taxes and minority interest to total revenues
and earnings as reported on the consolidated statements of earnings and segment
assets to total assets on the consolidated balance sheets, respectively.
Three Months Ended Six Months Ended
June 30, June 30,
-------- --------
2003 2002 2003 2002
---- ---- ---- ----
(In Millions)
Segment revenues:
Insurance ......................... $ 1,176.7 $ 1,368.2 $ 2,266.1 $ 2,549.1
Investment Services ............... 665.9 722.7 1,268.5 1,445.5
Consolidation/elimination ......... (15.8) (18.8) (33.1) (38.6)
----------- ----------- ----------- -----------
Total Revenues .................... $ 1,826.8 $ 2,072.1 $ 3,501.5 $ 3,956.0
=========== =========== =========== ===========
Segment earnings from continuing operations before Federal income taxes and
minority interest:
Insurance ......................... $ 229.5 $ 250.5 $ 251.8 $ 426.5
Investment Services ............... 147.6 159.9 251.2 324.2
----------- ----------- ----------- -----------
Total Earnings from Continuing
Operations before Federal Income
Taxes and Minority Interest .... $ 377.1 $ 410.4 $ 503.0 $ 750.7
=========== =========== =========== ===========
June 30, December 31,
2003 2002
---- ----
(In Millions)
Assets:
Insurance ................................. $ 89,939.7 $ 80,638.7
Investment Services ....................... 14,869.4 14,160.3
Consolidation/elimination ................. 17.2 27.3
------------ -----------
Total Assets .............................. $ 104,826.3 $ 94,826.3
============ ===========
13) RELATED PARTY TRANSACTIONS
Beginning January 1, 2000, the Company reimburses the Holding Company for
expenses relating to the Excess Retirement Plan, Supplemental Executive
Retirement Plan and certain other employee benefit plans that provide
participants with medical, life insurance, and deferred compensation benefits.
Such reimbursement was based on the cost to the Holding Company of the benefits
provided which totaled $13.6 million, $30.5 million, $8.8 million and $16.7
million, respectively, for the second quarter and first six months of 2003 and
of 2002.
The Company paid $158.4 million, $317.8 million, $154.1 million and $312.8
million, respectively, of commissions and fees to AXA Distribution and its
subsidiaries for sales of insurance products for the second quarter and first
six months of 2003 and of 2002. The Company charged AXA Distribution's
subsidiaries $72.9 million, $146.8 million, $111.8 million and $231.8 million,
respectively, for their applicable share of operating expenses for the second
quarter and first six months of 2003 and of 2002, pursuant to the Agreements for
Services.
17
14) STOCK-BASED COMPENSATION
The Company continues to account for stock-based compensation using the
intrinsic value method prescribed in APB No. 25. Stock-based employee
compensation expense is not reflected in the statement of earnings as all
options granted under those plans had an exercise price equal to the market
value of the underlying common stock on the date of the grant. The following
table illustrates the effect on net income had compensation expense as related
to options awarded under the Holding Company's Stock Incentive Plans been
determined based on SFAS No. 123's fair value based method:
Three Months Ended Six Months Ended
June 30, June 30,
-------- --------
2003 2002 2003 2002
---- ---- ---- ----
(In Millions)
Net earnings as reported.................... $ 209.8 $ 205.1 $ 245.5 $ 335.5
Less: Total stock-based
employee compensation expense
determined under fair value method
for all awards, net of Federal
income tax benefit........................ (11.3) (9.1) (20.8) (16.9)
-------- -------- ------- --------
Pro Forma Net Earnings...................... $ 198.5 $ 196.0 $ 224.7 $ 318.6
======== ======== ======= ========
15) COMPREHENSIVE INCOME
The components of comprehensive income for second quarters 2003 and 2002 and the
first half of 2003 and of 2002 are as follows:
Three Months Ended Six Months Ended
June 30, June 30,
-------- --------
2003 2002 2003 2002
---- ---- ---- ----
(In Millions)
Net earnings ............................... $ 209.8 $ 205.1 $ 245.5 $ 335.5
-------- -------- -------- --------
Change in unrealized gains,
net of reclassification adjustment ....... 356.4 176.0 526.8 32.9
-------- -------- -------- --------
Other comprehensive income ................. 356.4 176.0 526.8 32.9
-------- -------- -------- --------
Comprehensive Income ....................... $ 566.2 $ 381.1 $ 772.3 $ 368.4
======== ======== ======== ========
18
Item 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Management's discussion and analysis is omitted pursuant to General Instruction
H of Form 10-Q. The management narrative for the Company that follows should be
read in conjunction with the Consolidated Financial Statements, the related
Notes to Consolidated Financial Statements and the information discussed under
Forward-Looking Statements included in this Form 10-Q, and with the management
narrative found in the Management's Discussion and Analysis ("MD&A") section
included in the Company's Annual Report on Form 10-K for the year ended December
31, 2002 ("2002 Form 10-K").
CONSOLIDATED RESULTS OF OPERATIONS
Six Months Ended June 30, 2003 Compared to Six Months Ended June 30, 2002
Earnings from continuing operations before Federal income taxes and minority
interest were $503.0 million for the first six months of 2003, a decrease of
$247.7 million from the 2002 period, with $174.7 million lower earnings reported
by the Insurance segment and $73.0 million lower earnings for the Investment
Services segment. Net earnings for the Company totaled $245.5 million for the
first six months of 2003, down $90.0 million from the 2002 period. Net earnings
for the 2002 period included a $33.1 million cumulative effect of the Company's
change in the method of accounting for liabilities associated with variable
annuity contracts with GMDB/GMIB features.
Revenues. Total revenues for the first half of 2003 decreased $454.5 million as
revenues for both the Insurance and Investment Services segments declined as
compared to the first six months of 2002.
Premiums declined $13.9 million to $458.0 million, reflecting a lower level of
renewal premiums on traditional insurance products. Policy fee income was $650.0
million, $21.2 million lower than for the first half of 2002, largely due to
lower average Separate Account balances resulting from market depreciation
partially offset by positive net cash flows.
Net investment income increased $4.4 million to $1.18 billion, reflecting a
higher level assets in the General Account partially offset by lower yields due
to lower reinvestment rates. Higher short-term investment positions in the
General Account were maintained during 2003 pending investment into longer-term
securities, meeting our investment parameters, which support underlying life and
annuity products.
Investment losses totaled $96.2 million in the 2003 period compared to $12.8
million in the first six months of 2002 principally due to the absence of a
$96.8 million gain on the sale of one real estate property in 2002. Losses on
fixed maturities were $115.9 million for the first half of 2003 as compared to
$114.9 million in the 2002 period.
There was a $340.4 million decrease in commissions, fees and other income to
$1.31 billion in the first half of 2003 from $1.65 billion in the 2002 period.
The $179.7 million lower fees in the Investment Services segment were primarily
due to the $116.4 million decrease in Alliance's investment advisory and
services fees to $856.0 million resulting from lower average AUM and a decrease
in brokerage transaction volume. Distribution revenues at Alliance were $208.7
million in the first six million of 2003, $45.8 million lower than in the
comparable 2002 period primarily due to lower average daily mutual fund AUM.
When compared to the first half of 2002, there was a $23.4 million decrease in
revenues from institutional research services due generally to a decline in
global transaction volumes, reduced prices paid for brokerage transactons and
lower market share. The decrease of $165.4 million in the Insurance segment in
the first six months of 2003 was primarily due to a decrease of $18.0 million in
the fair value of the GMIB reinsurance contracts in 2003 as compared with the
$138.0 million increase recorded in the 2002 period.
Benefits and Other Deductions. Total benefits and other deductions decreased
$206.8 million to $3.00 billion for the first six months of 2003 as the
Insurance and Investment Services segments posted declines of $108.3 million and
$104.0 million, respectively.
The policyholders' benefits decrease of $170.3 million to $879.2 million in the
first half of 2003 principally resulted from lower GMDB/GMIB benefits and
reserves due to the recent improvements in market conditions partially offset by
higher benefits and reserves in the reinsurance assumed product lines and less
favorable life mortality.
19
Interest credited to policyholders' account balances decreased $17.1 million in
the 2003 period as the impact of lower crediting rates was substantially offset
by higher General Account balances.
When compared to the first half of 2002, there was a $15.6 million increase in
compensation and benefits in the first six months of 2003 as $30.7 million
higher expenses in the Insurance segment were partially offset by a $15.6
million decrease in the Investment Services segment. The increase in
compensation and benefit costs in the Insurance segment was due in part to
higher qualified pension plan costs, including the impact of reducing the
expected long-range return on assets assumption for the qualified pension plan
from 9.0% as of January 1, 2002 to 8.5% as of January 1, 2003. Additionally,
compensation and benefits for the Insurance segment included $0.3 million of
expenses resulting from changes in the Stock Appreciation Rights' liability in
the 2003 period as compared to credits $9.6 million in the comparable 2002
period. The decrease in compensation and benefits in the Investment Services
segment was due to lower commissions and base compensation offset by higher
incentive compensation. The overall increase in incentive compensation was to
due a deferred compensation plan entered into in connection with the Bernstein
acquisition partially offset by lower base incentive compensation from lower
operating earnings.
Commissions increased $63.9 million due to higher sales of variable annuity
contracts in both the wholesale and retail channels.
Distribution plan payments totaled $181.0 million for the first six months of
2003, down $28.0 million from the comparable prior year's total due to lower
average mutual fund AUM. Amortization of deferred sales commissions was $105.3
million, $12.5 million lower than in the first six months of 2002 primarily due
to the decline in the underlying deferred sales commission asset which resulted
in lower amortization.
Interest expense decreased $9.1 million to $41.2 million in the first half of
2003 principally due to lower short-term borrowings for both segments.
DAC amortization increased $34.3 million to $175.6 million for the first six
months of 2003. The increase in DAC amortization was principally due to higher
margins in products which are highly DAC reactive.
Capitalization of DAC increased $110.4 million from $371.7 million in the first
half of 2002 due to higher commissions and deferrable operating expenses.
Both rent expense and amortization of intangible assets remained level from the
first half of 2002 to the first half of 2003.
Other operating costs and expenses declined $28.9 million primarily due to lower
travel, relocation and rental and maintenance of equipment costs partially
offset by higher advertising and amortization of capitalized software expenses
in the Insurance segment and to lower printing, mailing, travel and
entertainment, office and technology service costs and other general expenses
partially offset by higher legal fees related to litigation in the Investment
Services segment.
Premiums and Deposits. Total premiums and deposits for insurance and annuity
products for the first six months of 2003 increased from prior year levels by
$1.99 billion to $7.38 billion. This increase was primarily due to higher
premiums from variable annuities in both the retail and wholesale channels,
partially offset by lower premiums from individual variable and
interest-sensitive life policies.
Surrenders and Withdrawals. When totals for the first six months of 2003 are
compared to the comparable 2002 period, surrenders and withdrawals decreased
from $2.64 billion to $2.38 billion as a $319.9 million decline in annuities
surrenders and withdrawals was partially offset by $67.2 million higher
surrenders for life insurance products. The annualized annuities surrender rate
decreased to 8.8% in the 2003 period from 10.0% in the same period in 2002,
while the individual life surrender rates showed an increase to 4.6% from 3.8%.
The trends in surrender and withdrawal rates described above continue to fall
within the range of expected experience.
20
Assets Under Management. An analysis of assets under management follows:
Assets Under Management
(In Millions)
June 30,
--------
2003 2002
---- ----
Third party................................. $ 372,464 $ 361,864
General Account, Holding Company
Group and other........................... 39,486 37,925
Separate Accounts........................... 45,578 40,904
----------- -----------
Total Assets Under Management............... $ 457,528 $ 440,693
============ ============
Third party assets under management at June 30, 2003 increased $16.84 billion
primarily due to increases at Alliance. General Account, Holding Company Group
and other assets under management increased $1.56 billion from the amounts
reported at June 30, 2002 due to higher sales of General Account based products.
The $4.67 billion increase in Separate Account assets under management resulted
from improving market conditions in second quarter 2003 and net new deposits.
Alliance assets under management at the end of first six months of 2003 totaled
$426.20 billion as compared to $412.46 billion at June 30, 2002. A decrease of
$2.62 billion in retail AUM was more than offset by increases of $12.10 billion
and $4.27 billion, respectively, in institutional and private client AUM. Net
asset inflows in the retail, institutional investment management and private
client distribution channels totaled $0.3 billion, $4.2 billion and $1.9
billion, respectively. Non-US clients accounted for 17.9% of Alliance's June 30,
2003 assets under management total.
LIQUIDITY AND CAPITAL RESOURCES
Equitable Life. In first quarter of 2003, Equitable Life amended the terms of
its $350.0 million credit facility. Included in the amendments was a change in
the maturity date to March 31, 2004 from June 30, 2005. At June 30, 2003, no
amounts were outstanding under Equitable Life's commercial paper program or its
revolving credit facility.
FORWARD-LOOKING STATEMENTS AND RISK CONSIDERATIONS
The Company's management has made in this report, and from time to time may make
in its public filings and press releases as well as in oral presentations and
discussions, forward-looking statements concerning the Company's operations,
economic performance and financial position. Forward-looking statements include,
among other things, discussions concerning the Company's potential exposure to
market risks, as well as statements expressing management's expectations,
beliefs, estimates, forecasts, projections and assumptions, as indicated by
words such as "believes," "estimates," "intends," "anticipates," "expects,"
"projects," "should," "probably," "risk," "target," "goals," "objectives," or
similar expressions. The Company claims the protection afforded by the safe
harbor for forward-looking statements contained in the Private Securities
Litigation Reform Act of 1995, and assumes no duty to update any forward-looking
statement. Forward-looking statements are based on management's expectations and
beliefs concerning future developments and their potential effects and are
subject to risks and uncertainties. Actual results could differ materially from
those anticipated by forward-looking statements due to a number of important
factors including those discussed elsewhere in this report and in the Company's
other public filings, press releases, oral presentations and discussions. The
following discussion highlights some of the more important risk and other
factors that could cause such differences and/or, if realized, could have a
material adverse effect on the Company's consolidated financial position and/or
results of operations.
Market Risk. The Company's businesses are subject to market risks arising from
its insurance asset/liability management, investment management and trading
activities. The primary market risk exposures result from interest rate
fluctuations, equity price movements and changes in credit quality. The nature
of each of these risks is discussed under the caption "Quantitative and
Qualitative Disclosures About Market Risk" and in Note 14 of Notes to
Consolidated Financial Statements, both contained in the 2002 Form 10-K.
21
Increased volatility of equity markets can impact profitability of the Insurance
and Investment Services segments. For the Insurance Group, in addition to
impacts on equity securities held in the General Account, significant changes in
equity markets impact asset-based policy fees charged on variable life and
annuity products. Moreover, for variable life and annuity products with
GMDB/GMIB features, sustained periods with declines in the value of underlying
Separate Account investments would increase the Insurance Group's net exposure
to guaranteed benefits under those contracts (increasing claims and reserves,
net of any reinsurance) at a time when fee income for these benefits is also
reduced from prior period levels. Increased volatility of equity markets also
will result in increased volatility of the fair value of the GMIB reinsurance
contracts. Management has adopted certain hedging strategies that are designed
to further mitigate exposure to GMDB liabilities and expects to consider using
hedging strategies to further mitigate exposure to GMIB liabilities.
Equity market volatility also may impact DAC amortization on variable and
universal life insurance contracts, variable annuities and participating
traditional life contracts. To the extent that actual market trends, and
reasonable expectations as to future performance drawn from those trends, lead
to reductions in the investment return and/or other related estimates underlying
the DAC amortization rates, DAC amortization could be accelerated. Volatile
equity markets can also impact the level of contractholder surrender activity,
which, in turn, can impact future profitability.
Interest rate fluctuations, equity price movements and changes in credit quality
may also affect invested assets held in the qualified pension plan which could
impact future pension plan costs.
The effects of significant equity market fluctuations on the Insurance Group's
operating results can be complex and subject to a variety of estimates and
assumptions, such as assumed rates of long-term equity market performance,
making it difficult to reliably predict effects on operating earnings over a
broad range of equity markets performance alternatives. Further, these effects
may not always be proportional for market increases and market decreases.
Margins on interest-sensitive annuities and universal life insurance can be
affected by interest rate fluctuations. In a declining interest rate
environment, credited rates can generally be adjusted more quickly than the
related invested asset portfolio is affected by declining reinvestment rates,
tending to result in higher net interest margins on interest-sensitive products
in the short term. However, under scenarios in which interest rates fall and
remain at significantly lower levels, minimum guarantees on interest-sensitive
annuities and universal life insurance (generally 2.5% to 4.5%) could cause the
spread between the yield on the portfolio and the interest rate credited to
policyholders to deteriorate.
For both interest-sensitive annuities and universal life insurance, a rapid and
sustained rise in interest rates poses risks of deteriorating spreads and high
surrenders. In this environment, there is pressure to increase credited rates on
interest-sensitive products to match competitors' new money rates. However, such
changes in credited rates generally occur more quickly than the earned rates on
the related invested asset portfolios reflect changes in market yields. The
greater and faster the rise in interest rates, the more the earned rates will
tend to lag behind market rates.
For the Investment Services segment, significant changes in equity markets can
impact revenues and the recoverability of deferred costs. See "Other Risks of
the Investment Services Segment" below.
Other Risks of the Insurance Segment. The Insurance Group's future sales of life
insurance and annuity products and financial planning services are dependent on
numerous factors including: successful implementation of the Company's strategy;
the intensity of competition from other insurance companies, banks and other
financial institutions; conditions in the securities markets; the strength and
professionalism of distribution channels; the continued development of
additional channels; the financial and claims-paying ratings of Equitable Life;
its reputation and visibility in the market place; its ability to develop,
distribute and administer competitive products and services in a timely,
cost-effective manner; its ability to obtain reinsurance for certain products,
the offering of which products depends upon the ability to reinsure all or a
substantial portion of the risks; its investment management performance; and
unanticipated changes in industry trends. In addition, the nature and extent of
competition and the markets for products s old by the Insurance Group may be
materially affected by changes in laws and regulations, including changes
relating to savings, retirement funding and taxation. Recent legislative tax
changes have included, among other items, changes to the taxation of corporate
dividends and capital gains. Management cannot predict what other proposals may
be made, what legislation, if any, may be introduced or enacted or what the
effect of any other such legislation might be. See "Business - Regulation"
contained in the 2002 Form 10-K. The profitability of the Insurance Group
depends on a number of factors including: levels of gross operating expenses and
the amount which can be deferred as DAC and software capitalization; successful
22
implementation of expense-reduction initiatives; secular trends; The Company's
mortality, morbidity, persistency and claims experience; margins between
investment results from General Account Investment Assets and interest credited
on individual insurance and annuity products, which are subject to contractual
minimum guarantees; the level of claims and reserves on contracts with GMDB/GMIB
features and the impact of related reinsurance; the account balances against
which policy fees are assessed on universal and variable life insurance and
variable annuity products; the pattern of DAC amortization which is based on
models involving numerous estimates and subjective judgments including those
regarding investment, mortality and expense margins, expected market rates of
return, lapse rates and anticipated surrender charges; the adequacy of reserves
and the extent to which subsequent experience differs from management's
estimates and assumptions, including future reinvestment rates, used in
determining those reserves; and the effects of the September 11, 2001 and any
future terrorist attacks and the results of war on terrorism. Recoverability of
DAC is dependent on future contract cash flows (including premiums and deposits,
contract charges, benefits, surrenders, withdrawals, and expenses), which can be
affected by equity market and interest rate trends as well as changes in
contract persistency levels. The performance of General Account Investment
Assets depends, among other things, on levels of interest rates and the markets
for equity securities and real estate, the need for asset valuation allowances
and writedowns, and the performance of equity investments which have created,
and in the future may create, significant volatility in investment income.
Other Risks of the Investment Services Segment. Alliance's revenues are largely
dependent on the total value and composition of assets under its management and
are, therefore, affected by the performance of financial markets, the investment
performance of sponsored investment products and separately managed accounts,
additions and withdrawals of assets, purchases and redemptions of mutual funds
and shifts of assets between accounts or products with different fee structures,
as well as general economic conditions, future acquisitions, competitive
conditions and government regulations, including tax rates. See "Results of
Continuing Operations by Segment - Investment Services" contained in the 2002
Form 10-K.
Payments by Alliance made to financial intermediaries in connection with the
sale of back-end load shares under Alliance's mutual fund distribution system
are capitalized as deferred sales commissions and amortized over periods not
exceeding five and one-half years, the periods of time during which deferred
sales commissions are expected to be recovered from distribution fees received
from those funds and from contingent deferred sales charges ("CDSC") received
from shareholders of those funds upon redemption of their shares. CDSC reduces
unamortized deferred sales commissions when received. The recorded amount of the
deferred sales commission asset was $456.5 million at June 30, 2003.
Alliance's management tests the deferred sales commission asset for
recoverability quarterly, or more often when events or changes in circumstances
occur that could significantly increase the risk of impairment of the asset.
Alliance's management determines recoverability by estimating undiscounted
future cash flows to be realized from this asset, as compared to its recorded
amount, as well as the estimated remaining life of the deferred sales commission
asset over which undiscounted future cash flows are expected to be received.
Undiscounted future cash flows consist of ongoing distribution fees and CDSC.
Distribution fees are calculated as a percentage of average assets under
management related to back-end load shares. CDSC is based on lower of cost or
current value, at the time of redemption, of back-end load shares redeemed and
the point at which redeemed during the applicable minimum holding period under
the mutual fund distribution system.
Significant assumptions utilized to estimate average assets under management of
back-end load shares include expected future market levels and redemption rates.
Market assumptions are selected using a long-term view of expected average
market returns based on historical returns of broad market indices. At June 30,
2003, Alliance's management used assumptions of 7% for fixed income and ranging
from 9% to 10% for equity , respectively, to estimate annual market return.
Higher actual average market returns would increase the undiscounted future cash
flows, while lower actual average market returns would decrease the undiscounted
future cash flows. Future redemption rate assumptions were determined by
reference to actual redemption experience over the three year and five year
periods ended June 30, 2003. Alliance's management determined that a range of
assumed average annual redemption rates of 15% to 18%, calculated as a
percentage of average assets under management, should be used at June 30, 2003.
An increase in the actual rate of redemptions would decrease the undiscounted
future cash flows, while a decrease in the actual rate of redemptions would
increase the undiscounted future cash flows. These assumptions are updated
periodically. Estimates of undiscounted future cash flows and the remaining life
of the deferred sales commission asset are made from these assumptions.
Alliance's management considers the results of these analyses performed at
various dates. As of June 30, 2003, Alliance's management believed that the
deferred sales commission asset was not impaired. If Alliance's management
determines in the future that the deferred sales commission asset is not
recoverable, an impairment condition would exist and a loss would be measured as
the amount by which the recorded amount of the asset exceeds its estimated fair
value. Estimated fair value is determined using Alliance management's best
estimate of discounted cash flows discounted to a present value amount.
23
During the three month and six month periods ended June 30, 2003, equity markets
increased by approximately 15% and 11%, respectively, as measured by the change
in the Standard & Poor's 500 Stock Index while fixed income markets increased by
approximately 3% and 4%, respectively, as measured by the change in the Lehman
Brothers' Aggregate Bond Index. The redemption rate for domestic back-end load
shares exceeded 18% and 20% during the three month and six month periods ended
June 30, 2003, respectively. Declines in financial markets or continued higher
redemption levels, or both, as compared to the assumptions used to estimate
undiscounted future cash flows, could result in the impairment of the deferred
sales commission asset. Due to the volatility of the capital markets and changes
in redemption rates, Alliance's management is unable to predict whether or when
a future impairment of the deferred sales commission asset will occur. Should an
impairment occur, any loss would reduce materially the recorded amount of the
asset with a corresponding charge to expense.
Discontinued Operations. The determination of the allowance for future losses
for the discontinued Wind-Up Annuities continues to involve numerous estimates
and subjective judgments including those regarding expected performance of
investment assets, asset reinvestment rates, ultimate mortality experience and
other factors which affect investment and benefit projections. There can be no
assurance the losses provided for will not differ from the losses ultimately
realized. To the extent actual results or future projections of Discontinued
Operations differ from management's current best estimates underlying the
allowance, the difference would be reflected as earnings or loss from
discontinued operations within the consolidated statements of earnings. In
particular, to the extent income, sales proceeds and holding periods for equity
real estate differ from management's previous assumptions, periodic adjustments
to the allowance are likely to result.
Disclosure and Internal Control System. There are inherent limitations in the
effectiveness of any system of disclosure and internal controls, including the
possibilities of faulty judgments in decision-making, simple error or mistake,
fraud, the circumvention of controls by individual acts or the collusion of two
or more people, or management override of controls. Accordingly, even an
effective disclosure and internal control system can provide only reasonable
assurance with respect to disclosure and financial statement preparation.
Further, because of changes in conditions, the effectiveness of a disclosure and
internal control system may vary over time.
Technology and Information Systems. The Company's information systems are
central to, among other things, designing and pricing products, marketing and
selling products and services, processing policyholder and investor
transactions, client recordkeeping, communicating with retail sales associates,
employees and clients, and recording information for accounting and management
purposes in a secure and timely manner. These systems are maintained to provide
customer privacy and are tested to ensure the viability of business resumption
plans. Any significant difficulty associated with the operation of such systems,
or any material delay or inability to develop needed system capabilities, could
have a material adverse effect on the Company's results of operations and,
ultimately, its ability to achieve its strategic goals.
Legal Environment. A number of lawsuits have been filed against life and health
insurers involving insurers' sales practices, alleged agent misconduct, failure
to properly supervise agents and other matters. Some of the lawsuits have
resulted in the award of substantial judgments against other insurers, including
material amounts of punitive damages, or in substantial settlements. In some
states, juries have substantial discretion in awarding punitive damages. The
Holding Company's insurance subsidiaries, including Equitable Life, like other
life and health insurers, are involved in such litigation. While no such lawsuit
has resulted in an award or settlement of any material amount against the
Company to date, its results of operations and financial position could be
affected by defense and settlement costs and any unexpected material adverse
outcomes in such litigations as well as in other material litigations pending
against the Holding Company and its subsidiaries. The frequency of large damage
awards, including large punitive damage awards that bear little or no relation
to actual economic damages incurred by plaintiffs in some jurisdictions,
continues to create the potential for an unpredictable judgment in any given
matter. In addition, examinations by Federal and state regulators could result
in adverse publicity, sanctions and fines. For further information, see
"Business - Regulation" and "Legal Proceedings," contained in the 2002 Form 10-K
and herein.
Future Accounting Pronouncements. In the future, new accounting pronouncements,
as well as new interpretations of accounting pronouncements, may have material
effects on the Company's consolidated statements of earnings and shareholder's
equity. See Note 2 of Notes to Consolidated Financial Statements contained in
the 2002 Form 10-K for pronouncements issued but not effective at December 31,
2002 and Note 4 herein.
24
Regulation. The businesses conducted by the Holding Company's subsidiaries,
including Equitable Life, are subject to extensive regulation and supervision by
state insurance departments and Federal and state agencies regulating, among
other things, insurance and annuities, securities transactions, investment
companies, investment advisors and anti-money laundering compliance programs.
Changes in the regulatory environment could have a material impact on operations
and results. The activities of the Insurance Group are subject to the
supervision of the insurance regulators of each of the 50 states, the District
of Columbia and Puerto Rico. See "Business - Regulation" contained in the 2002
Form 10-K.
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Omitted pursuant to General Instruction H to Form 10-Q.
Item 4. CONTROLS AND PROCEDURES
An evaluation was performed under the supervision and with the participation of
management, including the Chief Executive Officer and the Chief Financial
Officer, of the effectiveness of the design and operation of the Company's
disclosure controls and procedures as of June 30, 2003. Based on that
evaluation, management, including the Chief Executive Officer and Chief
Financial Officer, concluded that the Company's disclosure controls and
procedures are effective except as set fourth in the following paragraph.
As described in Note 2 of Notes to the Consolidated Financial Statements, a
review of deferred Federal income taxes identified a deficiency in our tax
financial reporting process related to the determination of deferred Federal
income tax assets and liabilities resulting in an overstatement of the deferred
Federal income tax liability related to the years ended December 31, 2000 and
earlier. Due to other effective internal control processes, this matter had no
impact on consolidated net earnings reported in any period. The adjustment also
had no material impact on shareholder's equity in any period, and has been
reported in the accompanying consolidated financial statements as an increase in
consolidated shareholder's equity as of January 1, 2002. To address this
deficiency, which constitutes a significant deficiency under proposed standards
submitted by the Auditing Standards Board of the American Institute of Certified
Public Accountants to the Public Companies Accounting Oversight Board,
management has implemented procedures and controls to enhance the effectiveness
of the Company's processes for reconciling on a regular basis the deferred
Federal income tax assets and liabilities.
There has been no other change in the Company's internal control over financial
reporting that occurred during the period covered by this report or subsequent
to June 30, 2003 that has materially affected, or is reasonably likely to
materially affect, the Company's internal control over financial reporting.
25
PART II OTHER INFORMATION
Item 1. Legal Proceedings.
There have been no new material legal proceedings and no material developments
in matters which were previously reported in the Registrant's Form 10-K for the
year ended December 31, 2002, except as described below:
In MCEACHERN, in March 2003, the parties settled the individual claims of the
plaintiffs and the action was dismissed with prejudice.
In MALHOTRA, in April 2003, plaintiffs filed a second amended complaint alleging
violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934.
The action purports to be on behalf of a class consisting of all persons who on
or after October 3, 1997 purchased an individual variable deferred annuity
contract, received a certificate to a group variable deferred annuity contract
or made an additional investment through such a contract, which contract was
used to fund a contributory retirement plan or arrangement qualified for
favorable income tax treatment. In May 2003, the defendants filed a motion to
dismiss the second amended complaint.
In the Mississippi Actions, the motion for rehearing filed in the Supreme Court
of Mississippi by the plaintiffs in the Circuit Court of Sunflower County action
has been withdrawn with prejudice. In March 2003, an action was filed on behalf
of one plaintiff in the Circuit Court of Kemper County. That lawsuit has been
removed to the United States District Court for the Southern District of
Mississippi. Equitable Life entered into agreements to settle 25 of the
Mississippi Actions involving approximately 275 plaintiffs. Those 25 actions
have been dismissed with prejudice. In addition, Equitable Life entered into an
agreement to settle an additional 2 lawsuits involving approximately 15
plaintiffs. That agreement is subject to certain conditions contained therein.
In FISCHEL, in May 2003, plaintiffs' motion for an award of additional legal
fees from the settled claim settlement fund was denied by the District Court. In
May 2003, plaintiffs filed a notice of appeal from that order.
In HIRT, in March 2003, plaintiffs filed an amended complaint elaborating on the
remaining claims in the original complaint and adding additional class and
individual claims alleging that the adoption and announcement of the cash
balance formula and the subsequent announcement of changes in the application of
the cash balance formula failed to comply with ERISA. The parties have agreed
that the new individual claims of the five named plaintiffs regarding the
delivery of announcements to them will be excluded from the class certification.
In April 2003, defendants filed an answer to the amended complaint. In July
2003, defendants filed a motion for summary judgment on the grounds that
plaintiffs' claims are barred by applicable statutes of limitations.
In January 2003, a putative class action entitled BERGER ET AL. V. AXA NETWORK,
LLC AND THE EQUITABLE LIF ASSURANCE SOCIETY OF THE UNITED STATES was commenced
in the United States District Court for the Northern District of Illinois by two
former agents on behalf of themselves and other similarly situated present,
former and retired agents who, according to the complaint, "(a) were discharged
by Equitable Life from `statutory employee status' after January 1, 1999,
because of Equitable Life's adoption of a new policy stating that in any given
year, those who failed to meet specified sales goals during the preceding year
would not be treated as `statutory employees,' or (b) remain subject to
discharge from `statutory employee' status based on the policy applied by
Equitable Life." The complaint alleges that the company improperly "terminated"
the agents' full-time life insurance salesman statutory employee status in or
after 1999 by requiring attainment of minimum production credit levels for 1998,
thereby making the agents ineligible for benefits and "requiring" them to pay
Self-Employment Contribution Act taxes. The former agents, who assert claims for
violations of ERISA and 26 U.S.C. 3121, and breach of contract, seek declaratory
and injunctive relief, plus restoration of benefits and an adjustment of their
benefit plan contributions and payroll tax withholdings. In March 2003,
Equitable Life filed a motion to dismiss the complaint. In July 2003, the United
States District Court for the Northern District of Illinois granted in part and
denied in part Equitable Life's motion to dismiss the complaint, dismissing
plaintiffs' claims for violation of 26 U.S.C. 3121 and breach of contract.
Equitable Life has answered plaintiffs' remaining claim for violation of ERISA.
In May 2003, a putative class action complaint entitled ECKERT V. THE EQUITABLE
LIFE ASSURANCE SOCIETY OF THE UNITED STATES was filed against The Equitable Life
Assurance Society of the United States in the United States District Court for
the Eastern District of New York, as a case related to the MALHOTRA action
described above. The complaint asserts a single claim for relief under Section
47(b) of the Investment Company Act of 1940 based on Equitable Life's alleged
failure to register as an investment company. According to the complaint,
Equitable Life was required to register as an investment company because it was
26
allegedly issuing securities in the form of variable insurance products and
allegedly investing its assets primarily in other securities. The plaintiff
purports to act on behalf of all persons who purchased or made an investment in
variable insurance products from Equitable Life on or after May 7, 1998. The
complaint seeks declaratory judgment permitting putative class members to elect
to void their variable insurance contracts, restitution of all fees and
penalties paid by the putative class members on the variable insurance products,
disgorgement of all revenues received by Equitable Life on those products, and
an injunction against the payment of any dividends by Equitable Life to the
Holding Company. In June 2003, Equitable Life filed a motion to dismiss the
complaint.
Although the outcome of litigation cannot be predicted with certainty, the
Company's management believes that the ultimate resolution of the matters
described above should not have a material adverse effect on the consolidated
financial position of the Company. The Company's management cannot make an
estimate of loss, if any, or predict whether or not such litigations will have a
material adverse effect on the Company's consolidated results of operations in
any particular period.
In MILLER, in July, 2003, the parties filed a stipulation providing that
plaintiffs would not seek to certify the case as a class action. Also in July
2003, plaintiffs filed a motion for leave to file a third amended complaint
("Third Amended Complaint"). Named as individual plaintiffs in the proposed
Third Amended Complaint are shareholders of the Alliance Premier Growth Fund,
the Alliance Quasar Fund, the Alliance Growth and Income Fund, the Alliance
Corporate Bond Fund, the AllianceBernstein Growth Fund, the AllianceBernstein
Balanced Shares Fund, and the AllianceBernstein Americas Government Income
Trust. The allegations and relief sought in the Third Amended Complaint are
virtually identical to the Second Amended Complaint, except plaintiffs now
specifically seek recovery of excessive advisory and distribution fees paid by
these seven funds to Alliance and AllianceBernstein Investment Research and
Management, Inc. ("ABIRM"; formerly known as Alliance Fund Distributors, Inc.),
respectively, for the period commencing one year prior to the filing of the
Amended Complaint in April 2001 through the date of final judgment after trial,
a time period likely to exceed four years. The case is currently in discovery.
Alliance and ABIRM believe that plaintiffs' allegations in the Second Amended
Complaint and proposed Third Amended Complaint are without merit and intend to
vigorously defend against these allegations. At the present time, management of
Alliance and ABIRM are unable to estimate the impact, if any, that the outcome
of this action may have on Alliance's results of operations or financial
condition, and the Company's management is unable to estimate the impact, if
any, that the outcome of this action may have on its consolidated results of
operations or financial position.
The ENRON case is currently in discovery. Alliance believes the allegations of
the Enron Complaint as to it are without merit and intends to vigorously defend
against these allegations. At the present time, management of Alliance is unable
to estimate the impact, if any, that the outcome of this action may have on
Alliance's results of operations or financial condition, and the Company's
management is unable to estimate the impact, if any, that the outcome of this
action may have on its consolidated results of operations or financial position.
On August 9, 2003, the Securities and Exchange Board of India ordered that Samir
Arora, a former research analyst/portfolio manager of Alliance, refrain from
buying, selling or dealing in Indian securities. Until August 4, 2003, when Mr.
Arora announced his resignation from Alliance, he served as head of Asian
emerging markets equities and a fund manager of Alliance Capital Asset
Management (India) Pvt. Ltd. ("ACAML"), a fund management company 75% owned by
Alliance. The order states that Mr. Arora relied on unpublished price sensitive
information in making certain investment decisions on behalf of certain clients
of ACAML and Alliance, that there were failures to make required disclosures
regarding the size of certain equity holdings, and that Mr. Arora tried to
influence the sale of Alliance's stake in ACAML. Mr. Arora will have the
opportunity to contest the findings in the order by filing objections and at a
personal hearing scheduled for August 28, 2003. Alliance is reviewing this
matter; at the present time, management of Alliance does not believe its outcome
will have a material impact on Alliance's results of operations or financial
condition, and the Company's management does not believe its outcome will have a
material impact on the Company's consolidated results of operations or financial
position.
In addition to the matters previously reported and those described above, the
Holding Company and its subsidiaries are involved in various legal actions and
proceedings in connection with their businesses. Some of the actions and
proceedings have been brought on behalf of various alleged classes of claimants
and certain of these claimants seek damages of unspecified amounts. While the
ultimate outcome of such matters cannot be predicted with certainty, in the
opinion of management no such matter is likely to have a material adverse effect
on the Company's consolidated financial position or results of operations.
However, it should be noted that the frequency of large damage awards, including
large punitive damage awards that bear little or no relation to actual economic
damages incurred by plaintiffs in some jurisdictions, continues to create the
potential for an unpredictable judgment in any given matter.
27
Item 2. Changes in Securities
None
Item 3. Defaults Upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits
Number Description and Method of Filing
------------- ---------------------------------------------------
31.1 Section 302 Certification made by the Registrant's
Chief Executive Officer, filed herewith
31.2 Section 302 Certification made by the Registrant's
Chief Financial Officer, filed herewith
32.1 Section 906 Certification made by the Registrant's
Chief Executive Officer, filed herewith
32.2 Section 906 Certification made by the Registrant's
Chief Financial Officer, filed herewith
(b) Reports on Form 8-K
None
28
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, The
Equitable Life Assurance Society of the United States has duly caused this
report to be signed on its behalf by the undersigned, thereunto duly authorized.
THE EQUITABLE LIFE ASSURANCE SOCIETY OF THE UNITED STATES
Date: August 13, 2003
By: /s/ Stanley B. Tulin
---------------------------------
Name: Stanley B. Tulin
Title: Vice Chairman of the
Board and Chief
Financial Officer
Date: August 13, 2003 /s/ Alvin H. Fenichel
---------------------------------
Name: Alvin H. Fenichel
Title: Senior Vice President
and Controller
29