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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended Commission file number
December 31, 2001 1-8052
TORCHMARK CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
Delaware 63-0780404
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
2001 Third Ave. South, 35233
Birmingham, AL
(ADDRESS OF PRINCIPAL EXECUTIVE (ZIP CODE)
OFFICES)
Registrant's telephone number, including area code:
(205) 325-4200
Securities registered pursuant to Section 12(b) of the Act:
NAME OF EACH EXCHANGE
TITLE OF EACH CLASS CUSIP NUMBER: ON WHICH REGISTERED:
Common Stock, $1.00 Par 891027104 New York Stock Exchange
Value The International Stock
89102Q201 Exchange, London,
7 3/4% Trust Preferred 89102T205 England
Securities New York Stock Exchange
7 3/4% Trust Preferred
Securities New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act:
None
Securities reported pursuant to Section 15(d) of the Act:
TITLE OF EACH CLASS: CUSIP NUMBER:
6 1/4% Senior Notes due 2006 891027 AL 8
8 1/4% Senior Debentures due 2009 891027 AE 4
7 7/8% Notes due 2023 891027 AF 1
7 3/8% Notes due 2013 891027 AG 9
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) AND (2) HAS BEEN SUBJECT TO SUCH FILING
REQUIREMENTS FOR THE PAST 90 DAYS.
YES [X] NO [_]
INDICATE BY CHECK MARK IF DISCLOSURE OF DELINQUENT FILERS PURSUANT TO ITEM 405
OF REGULATION S-K ((S)229.405 OF THIS CHAPTER) IS NOT CONTAINED HEREIN, AND
WILL NOT BE CONTAINED, TO THE BEST OF REGISTRANT'S KNOWLEDGE, IN DEFINITIVE
PROXY OR INFORMATION STATEMENTS INCORPORATED BY REFERENCE IN PART III OF THIS
FORM 10-K OR ANY AMENDMENT TO THIS FORM 10-K. [_]
THE AGGREGATE MARKET VALUE OF THE VOTING STOCK HELD BY NON-AFFILIATES OF THE
REGISTRANT $4,911,334,350
THE NUMBER OF SHARES OUTSTANDING OF EACH OF THE REGISTRANT'S CLASSES OF COMMON
STOCK, AS OF FEBRUARY 28, 2002: 122,202,895.
DOCUMENTS INCORPORATED BY REFERENCE
PROXY STATEMENT FOR ANNUAL MEETING OF STOCKHOLDERS TO BE HELD APRIL 25, 2002,
PART III
INDEX OF EXHIBITS (PAGES 88 through 90)
TOTAL NUMBER OF PAGES INCLUDED ARE 97
PART 1
Item 1. Business
Torchmark Corporation (Torchmark), an insurance and diversified financial
services holding company, was incorporated in Delaware on November 19, 1979,
as Liberty National Insurance Holding Company. Through a plan of
reorganization effective December 30, 1980, it became the parent company for
the businesses operated by Liberty National Life Insurance Company (Liberty)
and Globe Life And Accident Insurance Company (Globe). United American
Insurance Company (United American), Waddell & Reed, Inc. (Waddell & Reed) and
United Investors Life Insurance Company (UILIC) along with their respective
subsidiaries were acquired in 1981. The name Torchmark Corporation was adopted
on July 1, 1982. Family Service Life Insurance Company (Family Service) was
purchased in July, 1990, and American Income Life Insurance Company (American
Income) was purchased in November, 1994. Torchmark disposed of Family Service
and Waddell & Reed in 1998.
The following table presents Torchmark's business by primary distribution
method:
Primary
Distribution Method Company Products Distribution
- -----------------------------------------------------------------------------------------------------------------
Direct Response Globe Life And Individual life and supplemental health Direct response, mail,
Accident insurance including juvenile and television,magazine;
Insurance Company senior life coverage and Medicare nationwide.
Oklahoma City, OK Supplement.
- -----------------------------------------------------------------------------------------------------------------
Liberty National Liberty National Life Individual life and 2,162 full-time sales repre-
Exclusive Agency Insurance Company supplemental health insurance. sentatives; 110 district
Birmingham, Alabama offices in the Southeastern
U.S.
- -----------------------------------------------------------------------------------------------------------------
American Income American Income Life Individual life and supplemental health 1,768 agents in the U.S.,
Exclusive Agency Insurance Company insurance to union and credit Canada, and New Zealand.
Waco, Texas union members and other
associations.
- -----------------------------------------------------------------------------------------------------------------
United Investors United Investors Life Individual life insurance Independent Agency.
Agency Insurance Company and annuities.
Birmingham, Alabama
- -----------------------------------------------------------------------------------------------------------------
Military Liberty National Life Individual life insurance. Independent Agency
Insurance Company through career agents
Birmingham, Alabama nationwide.
Globe Life And Accident
Insurance Company
Oklahoma City, Oklahoma
- -----------------------------------------------------------------------------------------------------------------
United American United American Senior life and supplemental health 39,038 independent agents
Independent Agency Insurance Company insurance including in the U.S., Puerto Rico and
and Branch Office McKinney, Texas Medicare Supplement Canada; 1,644 exclusive
Agency coverage and long-term care. producing agents in
84 branch offices.
Additional information concerning industry segments may be found in
Management's Discussion and Analysis and in Note 19--Business Segments in the
Notes to Consolidated Financial Statements beginning on page 78.
Insurance
Life Insurance
Torchmark's insurance subsidiaries write a variety of nonparticipating
ordinary life insurance products. These include traditional and interest
sensitive whole-life insurance, term life insurance, and other life insurance.
The following table presents selected information about Torchmark's life
products:
(Amounts in thousands)
Annualized Annualized
Premium Issued Premium in Force
-------------------------- --------------------------------
2001 2000 1999 2001 2000 1999
-------- -------- -------- ---------- ---------- ----------
Whole life:
Traditional............ $147,889 $133,413 $119,799 $ 695,261 $ 652,195 $ 612,964
Interest-sensitive..... 9,330 13,907 18,348 154,743 160,865 168,805
Term.................... 133,869 139,990 115,592 387,695 368,045 330,533
Other................... 3,544 3,433 3,468 19,714 19,039 18,307
-------- -------- -------- ---------- ---------- ----------
$294,632 $290,743 $257,207 $1,257,413 $1,200,144 $1,130,609
======== ======== ======== ========== ========== ==========
1
The distribution methods for life insurance products include sales by direct
response, exclusive agents and independent agents. These methods are discussed
in more depth under the heading Marketing on page 6. The following table
presents life annualized premium issued by distribution method:
(Amounts in thousands)
Annualized Annualized
Premium Issued Premium in Force
-------------------------- --------------------------------
2001 2000 1999 2001 2000 1999
-------- -------- -------- ---------- ---------- ----------
Direct response.... $112,041 $112,918 $ 96,091 $ 326,111 $ 306,162 $ 283,406
Exclusive Agents:
Liberty National.. 54,853 53,608 51,467 314,676 312,173 307,495
American Income... 66,421 56,560 54,045 265,912 245,433 231,490
United American... 4,913 4,730 5,315 21,158 21,362 21,800
Independent Agents:
United American... 24,453 25,708 13,319 54,143 53,269 43,394
Other............. 31,951 37,219 36,970 275,413 261,745 243,024
-------- -------- -------- ---------- ---------- ----------
$294,632 $290,743 $257,207 $1,257,413 $1,200,144 $1,130,609
======== ======== ======== ========== ========== ==========
Permanent insurance products sold by Torchmark insurance subsidiaries build
cash values which are available to policyholders. Policyholders may borrow
such funds using the policies as collateral. The aggregate value of policy
loans outstanding at December 31, 2001 was $267 million and the average
interest rate earned on these loans was 7.0% in 2001. Interest income earned
on policy loans was $18.2 million in 2001, $17.0 million in 2000 and $16.3
million in 1999.
The availability of cash values contributes to voluntary policy terminations
by policyholders through surrenders. Life insurance products may be terminated
or surrendered at the election of the insured at any time, generally for the
full cash value specified in the policy. Specific surrender procedures vary
with the type of policy. For certain policies this cash value is based upon a
fund less a surrender charge which decreases with the length of time the
policy has been in force. This surrender charge is either based upon a
percentage of the fund or a charge per $1,000 of face amount of insurance. The
schedule of charges may vary by plan of insurance and, for some plans, by age
of the insured at issue. The ratio of aggregate face amount voluntary
terminations to the mean amount of life insurance in force was 19.8% in 2001,
17.8% in 2000, and 17.0% in 1999. The increase in the ratio for 2001 resulted
primarily from the higher than expected rate of voluntary lapses of a block of
relatively high face amount policies written by Direct Response, a plan that
is no longer being sold.
The following table presents an analysis of changes to the Torchmark
subsidiaries' life insurance business in force:
(Amounts in thousands)
2001 2000 1999
---------------------- ---------------------- ----------------------
Number of Amount of Number of Amount of Number of Amount of
policies Insurance policies Insurance policies Insurance
--------- ------------ --------- ------------ --------- ------------
In force at January 1,.. 9,671 $108,318,990 9,654 $101,846,461 9,622 $ 96,339,059
New issues.............. 1,329 27,175,722 1,292 25,754,400 1,332 22,846,100
Other increases......... -0- 65,297 -0- 69,187 -0- 105,271
Death benefits.......... (107) (381,682) (114) (355,728) (105) (327,733)
Lapses.................. (1,019) (20,026,246) (994) (17,175,351) (1,023) (15,352,225)
Surrenders.............. (147) (1,897,490) (141) (1,568,313) (145) (1,505,248)
Other decreases......... (26) (199,572) (26) (251,666) (27) (258,763)
------ ------------ ----- ------------ ------ ------------
In force at December
31,.................... 9,701 $113,055,019 9,671 $108,318,990 9,654 $101,846,461
====== ============ ===== ============ ====== ============
Average policy size (in
dollar amounts):
Direct response--
Juvenile.............. $ 6,955 $ 6,766 $ 6,690
Other.................. 13,533 12,985 12,146
2
Health insurance
Torchmark insurance subsidiaries offer supplemental health insurance
products. These are generally classified as (1) Medicare Supplement, (2)
cancer and (3) other health policies.
Medicare Supplement policies are offered on both an individual and group
basis through exclusive and independent agents, and direct response. These
guaranteed renewable policies provide reimbursement for certain expenses not
covered by the federal Medicare program. One popular feature is an automatic
claim filing system for Medicare Part B benefits whereby policyholders do not
have to file most claims because they are paid from claim records sent
electronically directly to the Torchmark insurers by Medicare.
Cancer policies are offered on an individual basis through exclusive and
independent agents as well as direct response. These guaranteed renewable
policies are designed to fill gaps in existing medical coverage. Benefits are
triggered by a diagnosis of cancer or health related events or medical
expenses related to the treatment of cancer. Benefits may be in the form of a
lump sum payment, stated amounts per diem, per medical procedure, or
reimbursement for certain medical expenses.
Other health policies include accident, long-term care and limited-benefit
hospital and surgical coverages. These policies are generally issued as
guaranteed-renewable and are offered on an individual basis through exclusive
and independent agents, and direct response. They are designed to supplement
existing medical coverages. Benefits are triggered by certain health related
events or incurred expenses. Benefit amounts are per diem, per health related
event or defined expenses incurred up to a stated maximum.
The following table presents supplemental health annualized premium for the
three years ended December 31, 2001 by marketing method:
(Amounts in thousands)
Annualized Annualized
Premium Issued Premium in Force
-------------------------- ------------------------------
2001 2000 1999 2001 2000 1999
-------- -------- -------- ---------- ---------- --------
Direct response...... $ 3,295 $3,572 $ 4,323 $ 18,817 $16,167 $ 12,785
Exclusive agents:
Liberty National.... 10,747 10,081 9,859 162,724 163,387 149,447
American Income..... 10,019 8,615 8,039 49,260 47,659 46,691
United American..... 115,684 145,089 102,583 337,026 310,526 231,034
Independent agents:
United American..... 73,539 85,115 68,022 474,816 466,560 444,401
-------- -------- -------- ---------- ---------- --------
$213,284 $252,472 $192,826 $1,042,643 $1,004,299 $884,358
======== ======== ======== ========== ========== ========
The following table presents supplemental health annualized premium
information for the three years ended December 31, 2001 by product category:
(Amounts in thousands)
Annualized Annualized
Premium Issued Premium in Force
-------------------------- ------------------------------
2001 2000 1999 2001 2000 1999
-------- -------- -------- ---------- ---------- --------
Medicare Supplement..... $158,621 $201,396 $152,518 $ 760,848 $ 728,918 $630,915
Cancer.................. 10,797 10,073 10,637 169,341 169,013 153,777
Other health related
policies............... 43,866 41,003 29,671 112,454 106,368 99,666
-------- -------- -------- ---------- ---------- --------
$213,284 $252,472 $192,826 $1,042,643 $1,004,299 $884,358
======== ======== ======== ========== ========== ========
The number of individual health policies in force were 1.59 million, 1.64
million, and 1.58 million at December 31, 2001, 2000 and 1999 respectively.
3
Annuities
Annuity products offered by Torchmark insurance subsidiaries include single-
premium deferred annuities, flexible-premium deferred annuities, and variable
annuities. Single-premium and flexible-premium products are fixed annuities
where a portion of the interest credited is guaranteed. Additional interest
may be credited on certain contracts. Variable annuity policyholders may
select from a variety of mutual funds which offer different degrees of risk
and return. The ultimate benefit on a variable annuity results from the
account performance. The following table presents Torchmark subsidiaries'
annuity collections and deposit balances by product type:
(Amounts in thousands)
Collections (Amounts in millions)
For the year ended Deposit Balance
December 31, At December 31,
-------------------------- --------------------------
2001 2000 1999 2001 2000 1999
-------- -------- -------- -------- -------- --------
Fixed annuities........... $ 33,461 $ 41,617 $ 71,696 $ 609.6 $ 661.6 $ 677.5
Variable annuities........ 111,768 608,251 392,769 2,355.7 3,583.6 3,274.9
-------- -------- -------- -------- -------- --------
$145,229 $649,868 $464,465 $2,965.3 $4,245.2 $3,952.4
======== ======== ======== ======== ======== ========
Investments
The nature, quality, and percentage mix of insurance company investments are
regulated by state laws that generally permit investments in qualified
municipal, state, and federal government obligations, corporate bonds,
preferred and common stock, real estate, and mortgages where the value of the
underlying real estate exceeds the amount of the loan. The investments of
Torchmark insurance subsidiaries consist predominantly of high-quality,
investment-grade securities. Fixed maturities represented 92% of total
investments at December 31, 2001. Approximately 4% of fixed maturity
investments were securities guaranteed by the United States government or its
agencies or investments that were collateralized by U.S. government
securities. Most of these investments were in GNMA securities that are backed
by the full faith and credit of the United States government. The remainder of
these government investments were U.S. Treasuries, agency securities or
collateralized mortgage obligations (CMO's) that are fully backed by GNMA's.
(See Note 3--Investments in the Notes to Consolidated Financial Statements on
page 54 and Management's Discussion and Analysis on page 29.)
The following table presents the market value of fixed maturity investments
at December 31, 2001 on the basis of ratings as determined primarily by
Standard & Poor's Corporation. The lower of Moody's Investors Services' or
Standard & Poor's bond ratings are used when the two differ. Ratings of BBB
and higher (or their equivalent) are considered investment grade by the rating
services.
Amount
Rating (in thousands) %
------ -------------- -----
AAA................................................ $ 648,398 9.9%
AA................................................. 371,216 5.7
A.................................................. 2,815,139 43.2
BBB................................................ 2,184,299 33.5
BB................................................. 286,858 4.4
B.................................................. 104,688 1.6
Less than B........................................ 53,939 0.8
Not rated.......................................... 61,892 0.9
---------- -----
$6,526,429 100.0%
========== =====
4
The following table presents the market value of fixed maturity investments
of Torchmark's insurance subsidiaries at December 31, 2001 on the basis of
ratings as determined by the National Association of Insurance Commissioners
(NAIC). Categories one and two are considered investment grade by the NAIC.
Amount
Rating (in thousands) %
---------------------- -------------- -----
1. Highest quality*... $3,929,468 60.4%
2. High quality....... 2,111,818 32.5
3. Medium quality..... 277,074 4.3
4. Low quality........ 100,854 1.6
5. Lower quality...... 53,523 0.8
6. In or near default. 26,073 0.4
---------- -----
$6,498,810 100.0%
========== =====
* Includes $268 million of exempt securities or 4.1% of the portfolio. Exempt
securities are exempt for valuation reserve purposes, and consist of U.S.
Government guaranteed securities.
Securities are assigned ratings when acquired. All ratings are reviewed and
updated quarterly. Specific security ratings are updated as information
becomes available during the year.
Pricing
Premium rates for life and health insurance products are established using
assumptions as to future mortality, morbidity, persistency, and expenses, all
of which are generally based on the experience of each insurance subsidiary,
and on projected investment earnings. Revenues for individual life and health
insurance products are primarily derived from premium income, and, to a lesser
extent, through policy charges to the policyholder account values on certain
individual life products. Profitability is affected to the extent actual
experience deviates from that which has been assumed in premium pricing and to
the extent investment income exceeds that which is required for policy
reserves.
Collections for annuity products and certain life products are not
recognized as revenues but are added to policyholder account values. Revenues
from these products are derived from charges to the account balances for
insurance risk and administrative costs. Profits are earned to the extent
these revenues exceed actual costs. Profits are also earned from investment
income on the deposits invested in excess of the amounts credited to policy
accounts.
Underwriting
The underwriting standards of each Torchmark insurance subsidiary are
established by management. Each company uses information from the application
and, in some cases, telephone interviews with applicants, inspection reports,
doctors' statements and/or medical examinations to determine whether a policy
should be issued in accordance with the application, with a different rating,
with a rider, with reduced coverage or rejected.
For life insurance in excess of certain prescribed amounts, each insurance
company requires medical information or examinations of applicants. These are
graduated according to the age of the applicant and may vary with the kind of
insurance. Generally, the maximum amount of insurance issued without
additional medical information is $100,000 through age 50. In certain
circumstances, the maximum amount is raised to $250,000 through age 35.
Additional medical information is requested of all applicants, regardless of
age or amount, if information obtained from the application or other sources
indicates that such information is warranted.
In recent years, there has been considerable concern regarding the impact of
the HIV virus associated with Acquired Immune Deficiency Syndrome (AIDS). The
insurance companies have implemented certain underwriting tests to detect the
presence of the HIV virus and continue to assess the utility of other
appropriate underwriting tests to detect AIDS in light of medical developments
in this field. To date, AIDS claims have not had a material impact on claims
experience.
5
Reinsurance
As is customary among insurance companies, Torchmark insurance subsidiaries
cede insurance to other unaffiliated insurance companies on policies they
issue in excess of retention limits. Reinsurance is an effective method for
keeping insurance risk within acceptable limits. In the event insurance
business is ceded, the Torchmark insurance subsidiaries remain contingently
liable with respect to ceded insurance should any reinsurer be unable to meet
the obligations it assumes. (See Note 18--Commitments and Contingencies in the
Notes to Consolidated Financial Statements on page 73 and Schedule IV--
Reinsurance [Consolidated] on page 96.)
Reserves
The life insurance policy reserves reflected in Torchmark's financial
statements as future policy benefits are calculated based on generally
accepted accounting principles. These reserves, with premiums to be received
in the future and the interest thereon compounded annually at assumed rates,
must be sufficient to cover policy and contract obligations as they mature.
Generally, the mortality and persistency assumptions used in the calculations
of reserves are based on company experience. Similar reserves are held on most
of the health policies written by Torchmark's insurance subsidiaries, since
these policies generally are issued on a guaranteed-renewable basis. A list of
the assumptions used in the calculation of Torchmark's reserves are reported
in the financial statements (See Note 7--Future Policy Benefit Reserves in the
Notes to Consolidated Financial Statements on page 59). Reserves for annuity
products consist of the policyholders' account values and are increased by
policyholder deposits and interest credits and are decreased by policy charges
and benefit payments.
Marketing
Torchmark insurance subsidiaries are licensed to sell insurance in all 50
states, the District of Columbia, Puerto Rico, the Virgin Islands, Guam, New
Zealand and Canada. Distribution is through direct response, independent and
exclusive agents. The number of independent and exclusive agents below are
presented as of December 31, 2001.
Direct Response. Various Torchmark insurance companies offer life insurance
products directly to consumers through direct mail, co-op mailings,
television, national newspaper supplements and national magazines. Torchmark
operates a full service letterpress which enables the direct response
operation to maintain high quality standards while producing materials much
more efficiently than they could be purchased from outside vendors.
Exclusive Agents. Liberty National's 2,162 agents sell life and health
insurance, primarily in the seven state area of Alabama, Florida, Georgia,
Tennessee, Mississippi, South Carolina, and North Carolina. These agents are
employees of Liberty and are primarily compensated by commissions based on
sales. During the past several years this operation has emphasized bank draft
and direct bill collection of premium rather than agent collection, because of
the resulting lower cost and improved persistency.
Through the American Income Agency, individual life and fixed-benefit
accident and health insurance are sold through approximately 1,768 exclusive
agents who target moderate income wage earners through the cooperation of
labor unions, credit unions, and other associations. These agents are
authorized to use the "union label" because this sales force is represented by
organized labor.
The United American Branch Office Agency specializes in the sale of Medicare
Supplement and other life and health products for the over-age 50 market
through 1,644 producing agents in 84 branch offices throughout the United
States.
Independent Agents. Torchmark insurance companies offer a variety of life
and health insurance policies through 39,038 independent agents, brokers, and
licensed sales representatives. Torchmark is
6
not committed or obligated in any way to accept a fixed portion of the
business submitted by any independent agent. All policy applications, both new
and renewal, are subject to approval and acceptance by Torchmark. Torchmark is
not dependent on any single agent or any small group of independent agents,
the loss of which would have a materially adverse effect on insurance sales.
Torchmark subsidiaries distribute life insurance through a nationwide
independent agency whose sales force is comprised of former commissioned and
noncommissioned military officers who sell exclusively to commissioned and
noncommissioned military officers and their families.
Ratings
The following list indicates the ratings currently held by Torchmark's five
largest insurance companies as rated by A.M. Best Company:
A.M. Best
Company
---------------
Liberty National Life Insurance Company A+ (Superior)
Globe Life And Accident Insurance Company A+ (Superior)
United Investors Life Insurance Company A+ (Superior)
United American Insurance Company A+ (Superior)
American Income Life Insurance Company A (Excellent)
A.M. Best states that it assigns A+ (Superior) ratings to those companies
which, in its opinion, have demonstrated superior overall performance when
compared to the norms of the life/health insurance industry. A+ (Superior)
companies have a superior ability to meet their obligations to policyholders
over a long period of time. A.M. Best states that it assigns A (Excellent)
ratings to those companies which, in its opinion, have demonstrated excellent
overall performance when compared to the norms of the life/health insurance
industry. A (Excellent) companies have an excellent ability to meet their
obligations to policyholders over a long period of time.
Liberty, Globe, United American, American Income, and UILIC have ratings of
AA by Standard & Poor's Corporation. This AA rating is assigned by Standard &
Poor's Corporation to those companies who offer excellent financial security
on an absolute and relative basis and whose capacity to meet policyholders
obligations is overwhelming under a variety of economic and underwriting
conditions.
Competition
The insurance industry is highly competitive. Torchmark competes with other
insurance carriers through policyholder service, price, product design, and
sales efforts. In addition to competition with other insurance companies,
Torchmark faces competition from other financial services organizations. While
there are insurance companies competing with Torchmark, no individual company
dominates any of Torchmark's life or health markets.
Torchmark's health insurance products compete with, in addition to the
products of other health insurance carriers, health maintenance organizations,
preferred provider organizations, and other health care related institutions
which provide medical benefits based on contractual agreements.
Generally, Torchmark companies operate at lower administrative expense
levels than their peer companies, allowing Torchmark to have competitive rates
while maintaining underwriting margins. In the case of Medicare Supplement
business, having low expense levels is necessary in order to meet federally
mandated loss ratios and achieve the desired underwriting margins. Torchmark's
years of experience in the direct response business are a valuable asset in
implementing direct response marketing operations.
7
Regulation
Insurance. Insurance companies are subject to regulation and supervision in
the states in which they do business. The laws of the various states establish
agencies with broad administrative and supervisory powers which include, among
other things, granting and revoking licenses to transact business, regulating
trade practices, licensing agents, approving policy forms, approving certain
premium rates, setting minimum reserve and loss ratio requirements,
determining the form and content of required financial statements, and
prescribing the type and amount of investments permitted. Insurance companies
can also be required under the solvency or guaranty laws of most states in
which they do business to pay assessments up to prescribed limits to fund
policyholder losses or liabilities of insolvent insurance companies. They are
also required to file detailed annual reports with supervisory agencies, and
records of their business are subject to examination at any time. Under the
rules of the NAIC, insurance companies are examined periodically by one or
more of the supervisory agencies. The most recent examinations of Torchmark's
insurance subsidiaries were: American Income, as of December 31, 2000; Globe,
as of December 31, 2000; Liberty, as of December 31, 1996; United American, as
of December 31, 2000; and UILIC, as of December 31, 2000.
NAIC Ratios. The NAIC developed the Insurance Regulatory Information System
(IRIS), which is intended to assist state insurance regulators in monitoring
the financial condition of insurance companies. IRIS identifies twelve
insurance industry ratios from the statutory financial statements of insurance
companies, which are based on regulatory accounting principles and are not
based on generally accepted accounting principles (GAAP). IRIS specifies a
standard or "usual value" range for each ratio, and a company's variation from
this range may be either favorable or unfavorable. The following table
presents the IRIS ratios as determined by the NAIC for Torchmark's five
largest insurance subsidiaries, which varied unfavorably from the "usual
value" range for the years 2000 and 1999.
Reported Usual Reported
Company Ratio Name Range Value
- --------- ----------------------------------- ---------- --------
2000:
United Investors Net change in Capital and Surplus 50 to -10 -12
Gross change in Capital and Surplus 50 to -10 -12
Adequacy of Investment Income 900 to 125 117
Globe Change in Premium 50 to -10 -15
Liberty Change in Premium 50 to -10 -16
Change in Reserving Ratio 20 to -20 -22
American Income Net change in Capital and Surplus 50 to -10 -20
Gross change in Capital and Surplus 50 to -10 -20
United American Net change in Capital and Surplus 50 to -10 -27
Gross change in Capital and Surplus 50 to -10 -27
1999:
American Income Net change in Capital and Surplus 50 to -10 114
Gross change in Capital and Surplus 50 to -10 114
Explanation of Ratios:
Change in Capital and Surplus--These ratios, calculated on both a gross and
net basis, are a measure of improvement or deterioration in a company's
financial position during the year. The NAIC considers ratios less than or
equal to minus 10% and greater than or equal to 50% to be unusual. The
- -27% in Capital and Surplus for United American in 2000 was due primarily to
the $25 million increase in agent's balances which increased non-admitted
assets. United Investors Life's rate of -12% in 2000 resulted from the one-
time cost of establishing a direct response distribution system and a dividend
which exceeded net income by $30 million. American Income's ratio of 114% in
1999 was caused by the sale in that year of its agents' balances to an
unaffiliated financial institution. This transaction did not affect American
Income's ability to conduct business and in fact increased liquidity and
surplus. American Income's ratio of -20% in 2000 was a result of having non-
admitted assets of $22 million in Torchmark Preferred Stock and non-admitted
assets of $4.8 million in the value of its subsidiaries. None of these
transactions affected the consolidated equity of Torchmark at December 31,
2000 or 1999.
Adequacy of Investment Income--This ratio is used to determine whether an
insurer's investment income is adequate to meet the interest requirements of
its reserves. The adequacy of investment income in meeting an insurer's
interest obligations is a key element in a company's profitability. The NAIC
considers a ratio less than 125% to be unusual. United Investors' rate of 117%
in 2000 was caused by
8
the exclusion of interest on a block of reinsurance with another Torchmark
affiliate. Inclusion of interest on this block would have been within the
"usual" range.
Change in Premium--This ratio measures the percentage change in premium from
the prior to the current year. A ratio lower than -10% is considered to be
unusual. Liberty and Globe's rate of -16% and -15% in 2000, respectively, was
due to the companies ceding an increased amount of premium through new
reinsurance agreements.
Change in reserving ratio--The change in reserving ratio represents the
number of percentage points of difference between the reserving ratio for
current and prior years. For each of these years, the reserving ratio is equal
to the aggregate increase in reserves for individual life insurance taken as a
percentage of renewal and single premiums for individual life insurance. A
ratio higher than 20% or lower than -20% is considered unusual. Liberty's
ratio of -22% in 2000 is due to a one-time increase in statutory surplus of
approximately $85 million caused by a block of reinsurance ceded.
Risk Based Capital. The NAIC requires a risk based capital formula be
applied to all life and health insurers. The risk based capital formula is a
threshold formula rather than a target capital formula. It is designed only to
identify companies that require regulatory attention and is not to be used to
rate or rank companies that are adequately capitalized. All of the insurance
subsidiaries of Torchmark are adequately capitalized under the risk based
capital formula.
Guaranty Assessments. State solvency or guaranty laws provide for
assessments from insurance companies into a fund which is used, in the event
of failure or insolvency of an insurance company, to fulfill the obligations
of that company to its policyholders. The amount which a company is assessed
for these state funds is determined according to the extent of these
unsatisfied obligations in each state. These assessments are recoverable to a
great extent as offsets against state premium taxes.
Holding Company. States have enacted legislation requiring registration and
periodic reporting by insurance companies domiciled within their respective
jurisdictions that control or are controlled by other corporations so as to
constitute a holding company system. Torchmark and its subsidiaries have
registered as a holding company system pursuant to such legislation in
Alabama, Delaware, Missouri, New York, Texas, and Indiana.
Insurance holding company system statutes and regulations impose various
limitations on investments in subsidiaries, and may require prior regulatory
approval for the payment of certain dividends and other distributions in
excess of statutory net gain from operations on an annual noncumulative basis
by the registered insurer to the holding company or its affiliates.
Personnel
At the end of 2001, Torchmark had 1,959 employees and 2,668 licensed
employees under sales contracts. Additionally, approximately 49,000
independent and exclusive agents and brokers, who were not employees of
Torchmark, were associated with Torchmark's marketing efforts.
Item 2. Real Estate
Torchmark, through its subsidiaries, owns or leases buildings that are used
in the normal course of business. Liberty owns a 487,000 square foot building
at 2001 Third Avenue South, Birmingham, Alabama which currently serves as
Liberty's, UILIC's, and Torchmark's home office. Approximately 160,000 square
feet of this building is available for lease to unrelated tenants by Liberty.
Liberty also operates from 55 company-owned district offices used for agency
sales personnel.
United American owns and is the sole occupant of a 140,000 square foot
facility, located in the Stonebridge Ranch development in McKinney, Texas (a
north Dallas suburb).
Globe owns a 300,000 square foot office building at 204 N. Robinson,
Oklahoma City, of which Globe occupies 56,000 square feet as its home office
and the remaining space is either leased or available for lease. Globe also
owns an 80,000 square foot office building at 120 Robert S. Kerr Avenue,
Oklahoma City, which is available for lease. Further, Globe owns a 112,000
square foot facility located at 133 NW 122 Street in Oklahoma City which
houses the Direct Response operation.
American Income owns and is the sole occupant of an office building located
at 1200 Wooded Acres Drive, Waco, Texas. The building is a two-story structure
containing approximately 72,000 square feet of
9
usable floor space. American Income also owns a 43,000 square foot facility
located at 1001 Jewell Drive in Waco, which houses a direct response
operation.
Liberty and Globe also lease district office space for their agency sales
personnel.
During 1999, Torchmark sold the majority of its investment real estate
holdings for total consideration of $123 million. These sold investments
included its TMK Income Properties limited partnership and its joint venture
investment in Liberty Park, a planned community in Birmingham, Alabama. As of
December 31, 2001, Torchmark retained $14 million of investment real estate,
which included $7 million of properties that were partially occupied by
Torchmark subsidiaries and $6 million of undeveloped land in Liberty Park.
Information Technology Computing Equipment
Torchmark and its primary subsidiaries have significant information
technology capabilities at their disposal. The corporation uses centralized
mainframe computer systems, a corporate wide-area network, company-specific
local-area networks, workstations, and personal computers to meet its ongoing
information processing requirements. Torchmark and its primary subsidiaries
also use data communications hardware and software to support their remote
data communications networks, intranets, and internet-related
telecommunications capabilities.
Torchmark's computer hardware, data communications equipment, and associated
software programs are managed by the corporation's information technology
staff. All of the corporation's computer hardware and software support,
information processing schedules, and computer-readable data-management
requirements are met through company-specific policies and procedures. These
company-specific policies and procedures also provide for the off-site storage
and retention of backup computer software, financial, and business data files.
Item 3. Legal Proceedings
Torchmark and its subsidiaries continue to be named as parties to pending or
threatened legal proceedings. These lawsuits involve tax matters, alleged
breaches of contract, torts, including bad faith and fraud claims based on
alleged wrongful or fraudulent acts of agents of Torchmark's subsidiaries,
employment discrimination, and miscellaneous other causes of action. Many of
these lawsuits involve claims for punitive damages in state courts of Alabama,
a jurisdiction particularly recognized for its large punitive damage verdicts.
A number of such actions involving Liberty also name Torchmark as a defendant.
In 1999, Alabama enacted legislation limiting punitive damages in non-physical
injury cases to the greater of $500,000 or three times compensatory damages.
Since this legislation has not undergone scrutiny by appellate courts
regarding its constitutionality and a jury's discretion regarding the amount
of compensatory damages (including mental anguish) awarded in any given case
is not precisely defined, the effect of this legislation on Torchmark's
litigation remains unclear. The likelihood or extent of a punitive damage
award in any given case is currently impossible to predict. As of December 31,
2001, Liberty was a party to approximately 86 active lawsuits (including 9
employment related cases and excluding interpleaders and stayed cases), 62 of
which were Alabama proceedings and 7 of which were Mississippi proceedings in
which punitive damages were sought. Liberty faces trial settings in these
cases on an on-going basis.
Based upon information presently available, and in light of legal and other
factual defenses available to Torchmark and its subsidiaries, contingent
liabilities arising from threatened and pending litigation are not presently
considered by management to be material. It should be noted, however, that
large punitive damage awards bearing little or no relation to actual damages
awarded by juries in jurisdictions in which Torchmark has substantial
business, particularly Alabama and Mississippi, continue to occur, creating
the potential for unpredictable material adverse judgments in any given
punitive damage suit.
Previous reports have disclosed that in July 1998, a jury in the U.S.
District Court in the Middle District of Florida recommended an aggregate
total verdict amounting to $21.6 million against Liberty in Hipp v. Liberty
National Life Insurance Company (Case No. 95-1332-CIV-17A). This case,
originally filed in 1995 in the Florida court system, is a collective action
under the Fair Labor Standards Act, alleging age discrimination by Liberty in
violation of the Age Discrimination in Employment Act and the Florida Civil
Rights Act. The plaintiffs, ten present or former Liberty district managers,
sought damages for lost wages,
10
loss of future earnings, lost health and retirement benefits and lost raises
and expenses. Three of these plaintiffs, Florida residents, also sought
compensatory and punitive damages allowable under Florida law. On November 20,
1998, the District Court remitted the $10 million punitive damage portion of
the jury verdict to $0, thus reducing the total verdict to $11 million
(including an advisory verdict of $3.2 million in front pay awards).
Additional revised front pay submissions were made by the plaintiffs to the
District Court in December 1998 and Liberty responded thereto in January 1999.
On March 11, 1999, the District Court reduced the Hipp verdict to $7 million
by denying the plaintiffs front pay damages and remitting the punitive damages
awarded to the Florida resident plaintiffs to the $100,000 limit allowable
under Florida law. Final judgment was entered by the District Court and
Liberty filed its appeal with the Circuit Court of Appeals for the Eleventh
Circuit on September 27, 1999. Oral arguments in this appeal were presented
before the Eleventh Circuit on September 18, 2000. On May 29, 2001, the
Eleventh Circuit reversed and rendered the Hipp decision. Plaintiffs
subsequently filed a petition for an en banc rehearing with the Eleventh
Circuit, which was denied August 14, 2001. On February 19, 2002, the United
States Supreme Court denied plaintiffs' motion for a writ of certiorari.
As previously reported, on March 15, 1999, Torchmark was named as a
defendant in consolidated derivative securities class action litigation
involving Vesta Insurance Group, Inc. filed in the U.S. District Court for the
Northern District of Alabama (In re Vesta Insurance Group, Inc. Securities
Litigation. Master File No. 98-AR-1407-S). The amended consolidated complaint
in this litigation alleges violations of Section 10(b) of the Securities
Exchange Act of 1934 by the defendants Vesta, certain present and former Vesta
officers and directors, Vesta's former independent public accountants and
Torchmark and of Section 20(a) of the Exchange Act by certain former Vesta
officers and directors and Torchmark acting as "controlling persons" of Vesta
in connection with certain accounting irregularities in Vesta's reported
financial results and filed financial statements. Unspecified damages and
equitable relief are sought on behalf of a purported class of purchasers of
Vesta equity securities between June 2, 1995 and June 29, 1998. A class was
certified in this litigation on October 25, 1999. In September, 2001,
Torchmark filed a motion for summary judgment, which was denied by the
District Court on January 10, 2002.
As previously reported, Liberty was served on October 28, 1999 with a
subpoena from the Florida Department of Insurance in connection with that
Department's investigation into Liberty's sales practices and disclosures in
the State of Florida regarding industrial life insurance and low coverage life
insurance policies. Liberty has also received similar subpoenas from the
Alabama, Georgia, Kentucky, Texas, South Carolina and Minnesota Insurance
Departments regarding its industrial life insurance and other low face-amount
life insurance policies sold in those states. Specific inquiry is made into
the historical use of race-based mortality, a practice discontinued by Liberty
many years ago. In 1988, Liberty endeavored to convert to paid-up status those
purely race-based policies that then remained in premium-paying status.
Liberty has been and continues responding to these subpoenas in a timely
fashion. In July 2000, the Florida and Georgia Insurance Departments issued
cease and desist orders to all companies reporting premium income from
industrial life insurance, including Liberty, stating that, to the extent that
any company is currently collecting any race-based insurance premiums from
Florida and Georgia residents, respectively, it immediately cease and desist
from collecting any premium differential based on the race of the
policyholders. Upon receiving the Georgia order, Liberty informed the Georgia
Insurance Department that Liberty did not interpret the Georgia Department's
directive as a cease and desist order since it did not afford Liberty the
opportunity for a mandatory or voluntarily requested hearing thereunder. On
August 22, 2000, the Florida District Court of Appeals issued an order staying
the Florida Insurance Department's immediate final cease and desist order,
pending appeals to the Florida Supreme Court. The Florida Supreme Court
subsequently reversed and rendered the District Court of Appeals' order, and
thus declared the cease and desist order null and void. Liberty, as an Alabama
domestic company, was examined by representatives of the Alabama Department of
Insurance with regard to issues parallel to those raised by the State of
Florida. By order dated January 28, 2002, the Alabama Department finalized a
report of its examination of LIberty. The report has now been turned over to
the Alabama Department's Legal Division for further consideration.
On December 8, 1999, purported class action litigation was filed against
Liberty in the United States District Court for the Northern District of
Alabama (Moore v. Liberty National Life Insurance Company, Case No. CV-99-BU-
3262-S), on behalf of all African-Americans who have or have had at the time
of policy termination an ownership interest in certain life insurance policies
($25,000 face amount or less) marketed by Liberty and certain of its former
subsidiaries. The alleged class period covers virtually the entire twentieth
century. Plaintiffs allege racial discrimination in Liberty's premium rates in
violation of 42 U.S.C. (S) 1981, breach of fiduciary duty in sales and
administrative practices, receipt of excessive and
11
unreasonable premium payments by Liberty, improper hiring, supervision,
retention and failure to monitor actions of officers, agents and employees,
breach of contract in dismantling the debit premium collection system,
fraudulent inducement and negligent misrepresentation. Unspecified
compensatory and punitive damages are sought together with a declaratory
judgment and equitable and/or injunctive relief, including establishment of a
constructive trust for the benefit of class members. Defendants filed a motion
for judgment on the pleadings or in the alternative for summary judgment on
January 27, 2000. On April 7, 2000, the District Court entered an order
granting Liberty's motion for judgment on the pleadings and dismissing
plaintiffs' claims under 42 U.S.C. (S) 1981 with prejudice as time-barred and
dismissing their state law claims without prejudice to re-file in state court
if desired. Plaintiffs subsequently filed motions with the District Court to
reconsider its April 17, 2000 order and for permission to file an amended
complaint adding similar claims under 24 U.S.C. (S) 1982. Liberty opposed this
motion. On June 22, 2000, purported class action litigation with allegations
comparable to those in the Moore case was filed against Liberty in the Circuit
Court of Jefferson County, Alabama (Baldwin v. Liberty National Life Insurance
Company, Case No. CV 00-684). The Baldwin case is currently stayed pending
disposition of the Moore case.
On July 3, 2000, the District Court issued an order in the Moore case
granting in part and denying in part the plaintiffs' motions. The District
Court ordered the Moore plaintiffs to file an amended complaint setting forth
their claims under 28 U.S.C. (S)(S) 1981 and 1982 and, if such claims are
timely, any state law claims for breach of contract related to the
discontinuance of debit collections, and dismissed with prejudice all
remaining state law claims of the plaintiffs as time-barred by the common law
rule of repose. On July 14, 2000, plaintiffs filed their amended complaint
with the District Court and Liberty filed a motion to alter or amend the
District Court's July order or, in the alternative, requested that the
District Court certify for purposes of appeal the issue whether the state law
doctrine of repose should be applied to and bar plaintiffs' actions under
(S)(S) 1981 and 1982. The District Court entered such an order on July 21,
2000 and stayed proceedings in Moore pending resolution of Liberty's petition
to the U.S. Circuit Court of Appeals for the Eleventh Circuit. Liberty filed a
petition on July 30, 2000 with the Eleventh Circuit seeking that Court's
permission to appeal the portions of the District Court's July order in Moore
granting the plaintiffs the right to file the amended complaint. The Eleventh
Circuit Court granted Liberty's motion and agreed to consider Liberty's
arguments regarding the applicability of the state law of repose to actions
under (S)(S)1981 and 1982. Oral arguments were heard by the Eleventh Circuit
Court on July 20, 2001. On September 28, 2001, the Eleventh Circuit Court
ruled that the rule of repose was not a bar to the Moore claims in federal
court and that there is no reverse pre-emption under the McCarrin Ferguson
Act. Liberty has filed a petition seeking an en banc rehearing in the Eleventh
Circuit Court, which was subsequently denied. Liberty filed a petition for a
writ of certiorari with the U.S. Supreme Court on February 21, 2002. The
District Court has scheduled the filing of motions for class certification in
Moore for November 21, 2002.
Four individual cases with similar allegations to those in the Moore case
which were filed against Liberty in various state Circuit Courts in Alabama
remain pending and have been removed and/or transferred to the U.S. District
Courts for either the Middle or Northern Districts of Alabama. The Moore case
and those cases transferred to the Northern District of Alabama have been
assigned to Judge U.W. Clemon, a noted former civil rights attorney. In the
earliest filed of the individual state court actions, Walter Moore v. Liberty
National Life Insurance Company (Circuit Court of Dallas County, CV 00-306)
the Court entered an order granting summary judgment in favor of Liberty based
upon the doctrine of repose and has subsequently denied a motion to reconsider
its dismissal of this case.
Hudson v. Liberty National Life Insurance Company, one of the four
individual cases referenced above, was filed in the Circuit Court of Bullock
County, Alabama on February 28, 2001 (Case No. CV 2001-25) and contains
similar allegations to those in Moore. After denials by the Bullock Circuit
Court of Liberty's motion to dismiss and request that certain questions
arising in the litigation be certified to the Alabama Supreme Court, Liberty
sought a writ of mandamus on the certified questions issue from the Alabama
Supreme Court. The Alabama Supreme Court agreed to hear Liberty's petition for
writ of mandamus seeking to have the Supreme Court direct the trial court to
grant Liberty's motion to dismiss or for a summary judgment or to certify for
interlocutory appeal the Circuit Court's denial of such motion. On January 18,
2002, the Alabama Supreme Court denied Liberty's request for the writ of
mandamus but noted that Liberty's motion for summary judgment based on the
rule of repose remains pending in the trial court and is ripe for
adjudication. Upon remand, plaintiff amended his complaint to add causes of
action under Federal law and Liberty is seeking to remove this case to Federal
court as discussed above.
In the fifth individual state court action, (Edwards v. Liberty National
Life Insurance Company, Case No. CV 0005872), the trial court denied Liberty's
motion seeking a summary judgment based upon the
12
rule of repose but indicated that it would reconsider that motion after
discovery. Liberty filed a motion to alter or amend the trial court's order,
or in the alternative, for an interlocutory appeal. In September 2001, the
trial court in that case vacated its earlier order and stayed the litigation
pending resolution of the Hudson case, which is discussed above. On February
22, 2002, the trial court held a hearing regarding the stay in Edwards.
On March 15, 2001, purported class action litigation was filed against
Liberty in the United States District Court for the District of South Carolina
(Hinton v. Liberty National Life Insurance Company, Civil Action No. 3-01-
68078 19), containing allegations largely similar to the Moore case filed in
the Federal District Court for the Northern District of Alabama. Liberty was
described in the suit as successor in interest of New South Life Insurance
Company (New South), an insurer acquired out of receivership by an entity
which was subsequently acquired by Peninsular Life Insurance Company
(Peninsular). In 1985, Liberty reinsured a block of insurance business from
Peninsular, including business formerly written by New South. Liberty has
requested indemnification in the Hinton litigation from Peninsular and its
successors in interest. Liberty sought a writ of mandamus in Hinton from the
Fourth Circuit Court of Appeals as well as a change of venue to consolidate
the Hinton case with the Moore case currently pending in Federal District
Court in Alabama. Both the change in venue and the writ of mandamus were
denied. However, the South Carolina District Court issued an order inviting
the parties to resubmit a motion for change of venue. Liberty National filed
such a motion to transfer the case to the U.S. District Court for the Northern
District of Alabama, which was granted by the South Carolina District Court on
February 12, 2002.
Another action with similar allegations to Moore, which also includes claims
for race discrimination under 24 U.S.C. (S)(S)1981 and 1982, was filed against
Liberty in U.S. District Court for the Northern District of Alabama on January
28, 2002 (Hull v. Liberty National Life Insurance Company, Civil Action No.:
CV-02-C-0219-W).
On July 26, 2001, litigation was filed against Torchmark and three current
members of Torchmark's Board of Directors in the United States District Court
for the District of Kansas (Waddell & Reed Financial, Inc. v. Torchmark
Corporation, Civil Action No. 01-2372-KHV). Plaintiffs assert that defendants
engaged in a scheme to control and injure Waddell & Reed Financial after it
was spun-off by Torchmark in November 1998, to interfere with the business
relationship between a Waddell & Reed Financial subsidiary, Waddell & Reed,
Inc. (W&R) and a Torchmark subsidiary, United Investors Life Insurance Company
(UILIC), and to injure W&R Financial as well as asserting that one of the
individual defendants sought to interfere with W&R Financial's relationship
with the United Group of Mutual Funds. The litigation alleges RICO violations,
breaches of fiduciary duty by the three individual defendants, knowing
participation in such breaches of fiduciary duty by Torchmark and intentional
interference with prospective business relations in connection with the
relationship between W&R and UILIC. Plaintiffs seek actual, punitive and
treble damages, interest, fees and costs under RICO of $29 million, $13.4
million plus punitive damages, interest and costs on the intentional
interference allegations and a total of $58 million on the remaining two
counts.
Defendants filed a motion to abstain or, in the alternative, to dismiss the
Kansas District Court litigation on August 22, 2001, citing pending litigation
filed in Alabama state circuit court by Torchmark and its subsidiary, UILIC
against W&R Financial and W&R involving an alleged agreement dealing with
existing in-force UILIC variable annuity business marketed by W&R as well as
the prior dismissal by the Kansas District Court of litigation originally
filed by W&R against UILIC in Kansas state court involving such variable
annuity business. Defendant's motion was denied but the Kansas District Court
ruled that a judgment in the prior Alabama litigation would likely be res
judicata as to the claims against Torchmark and one of the individual
defendants in the current Kansas litigation. Trial of the Alabama state court
litigation began February 19, 2002.
On September 28, 2001, a shareholder derivative action was filed in the
Circuit Court of Jefferson County, Alabama against Torchmark, two unaffiliated
limited liability companies, and three individual defendants (Bomar v.
Torchmark Corporation, Case No. CV 0105981). The derivative action arises from
an October 1, 1999 transaction in which the three individual defendants (one
of whom is a director and former Chairman of Torchmark and a second of whom is
a former officer of a former real estate subsidiary of Torchmark) acting
through two unaffiliated limited liability companies acquired the majority of
the investment real estate of Torchmark together with other properties.
Plaintiff alleges that, despite review and approval of the transaction by all
independent and disinterested members of the Torchmark
13
Board of Directors, the transaction was procedurally and substantively unfair
to Torchmark and resulted from the breach of fiduciary duties of loyalty owed
to Torchmark by two of the above described individual defendants and the
knowing participation of the third individual defendant in the alleged breach
of fiduciary duty. Establishment of a constructive trust for such assets for
the benefit of Torchmark and its shareholders, an accounting for profits and
unspecified compensatory and punitive damages are sought.
On October 16, 2001, defendant Torchmark filed a motion to dismiss and to
stay discovery in the Bomar action, asserting plaintiff's lack of standing,
failure to make a legally-required demand on the Board of Directors of
Torchmark and failure to comply with certain Alabama Rules of Civil Procedure.
On October 17, 2001, the Board of Directors created a special litigation
committee comprised of two
independent, disinterested directors to review and make determinations and a
report with regard to the transactions involved in such suit. Defendant
Torchmark's motion was amended on October 19, 2001 to include as further
grounds for dismissal and stay the creation of that special litigation
committee and the delegation of complete authority to said committee to review
the transaction and determine whether prosecution of the Bomar action is in
the interests of Torchmark and its shareholders and what action Torchmark
should take with regard to the Bomar action. The committee, through its
separately retained counsel, advised the Court that it concurred in
Torchmark's motions. The plaintiff subsequently amended her complaint to
delete the request for establishment of a constructive trust. A hearing on
Torchmark's amended motion to dismiss and stay discovery was held November 13,
2001 and on November 26, 2001, the Circuit Court issued an order staying all
proceedings in Bomar for 150 days during which the special litigation
committee was charged with investigating, reviewing and analyzing the asserted
claims, completing its written report and filing the same with the Circuit
Court. The special litigation committee has obtained from Torchmark the
documentary evidence it requested from the company and in February, 2002
commenced its witness interview process.
On January 22, 2002, purported class action litigation was filed against
Liberty and Torchmark in the Circuit Court of Choctaw County, Alabama on
behalf of all persons who currently or in the past were insured under Liberty
cancer policies which are no longer marketed regardless of whether such
policies remain in force or have lapsed (Roberts v. Liberty National Life
Insurance Company, Case No. CV-2002-009-B). Plaintiffs in this action
purchased guaranteed renewable cancer policies wherein Liberty reserved the
right to change premium rates. They allege that Liberty ceased marketing
certain cancer policies-- "closed" the block of business, capping the
potential pool of insureds and leading to increased premiums to the remaining
insureds. They further allege that in instituting premium increases on cancer
policies after the Robertson v. Liberty National Life Insurance Company class
action settlement, Liberty misrepresented the reasons for such premium
increases. This action asserts claims for breach of contract in implementing
premium rate increases on a basis other than that set out in the policies,
misrepresentation regarding the premium increases, fraud and suppression
concerning the closed block of business and unjust enrichment. Unspecified
compensatory and punitive damages, attorneys fees, costs and interest are
sought by plaintiffs on behalf of the class.
Item 4. Submission of Matters to a Vote of Security Holders
No matter was submitted to a vote of shareholders, through the solicitation
of proxies or otherwise, during the fourth quarter of 2001.
14
PART II
Item 5. Market for the Registrant's Common Stock and Related Stockholder
Matters
The principal market in which Torchmark's common stock is traded is the New
York Stock Exchange. There were 5,749 shareholders of record on December 31,
2001, excluding shareholder accounts held in nominee form. Information
concerning restrictions on the ability of Torchmark's subsidiaries to transfer
funds to Torchmark in the form of cash dividends is set forth in Note 16--
Shareholders' Equity in the Notes to Consolidated Financial Statements on page
69. The market prices and cash dividends paid by calendar quarter for the past
two years are as follows:
2001
Market Price
------------
Dividends
Quarter High Low Per Share
------- -------- -------- ---------
1 $38.8300 $33.2500 $ .0900
2 40.2100 36.5700 .0900
3 43.0500 35.6000 .0900
4 39.9500 37.0300 .0900
Year-end closing
price.................$39.3300
2000
Market Price
------------
Dividends
Quarter High Low Per Share
------- -------- -------- ---------
1 $28.9375 $18.7500 $ .0900
2 28.7500 21.6250 .0900
3 29.5625 24.0625 .0900
4 41.1875 27.0625 .0900
Year-end closing
price.................$38.4375
15
Item 6. Selected Financial Data
The following information should be read in conjunction with Torchmark's
Consolidated Financial Statements and related notes reported elsewhere in this
Form 10-K:
(Amounts in thousands except per share and percentage data)
2001 2000 1999 1998 1997
Year ended December 31, ----------- ----------- ----------- ----------- -----------
Premium revenue:
Life................... $ 1,144,499 $ 1,082,125 $ 1,018,301 $ 959,766 $ 909,992
Health................. 1,010,753 911,156 824,816 759,910 739,485
Other ................. 59,917 52,929 40,969 33,954 28,527
Total................. 2,215,169 2,046,210 1,884,086 1,753,630 1,678,004
Net investment income... 491,830 472,426 447,337 459,558 429,116
Realized investment
gains (losses)......... (2,432) (5,322) (110,971) (57,637) (36,979)
Total revenue........... 2,707,042 2,515,894 2,226,895 2,157,876 2,071,103
Net operating income(1). 392,510 365,292 341,167 324,315 273,730
Net income from
continuing operations.. 390,930 361,833 258,930 255,776 260,429
Net income.............. 356,513 362,035 273,956 244,441 337,743
Annualized premium
issued:
Life................... 294,632 290,743 257,207 244,467 230,379
Health................. 213,284 252,472 192,826 138,899 106,853
Total................. 507,916 543,215 450,033 383,366 337,232
Per common share:
Basic earnings:
Net operating
income(1)............ 3.14 2.85 2.56 2.32 1.97
Net income from
continuing
operations........... 3.12 2.83 1.95 1.83 1.87
Net income............ 2.85 2.83 2.06 1.75 2.43
Diluted earnings:
Net operating
income(1)............ 3.12 2.85 2.55 2.29 1.94
Net income from
continuing
operations........... 3.11 2.82 1.93 1.81 1.84
Net income............ 2.83 2.82 2.04 1.73 2.39
Cash dividends paid.... 0.36 0.36 0.36 0.58 0.59
Return on average common
equity, excluding
effect of SFAS 115,
Vesta earnings,
discontinued
operations, and
nonrecurring charge(3). 16.1% 16.3% 16.2% 15.1% 18.2%
Basic average shares
outstanding............ 125,135 128,089 133,197 139,999 139,202
Diluted average shares
outstanding............ 125,861 128,353 133,986 141,352 141,431
- --------------------------------------------------------------------------------------------
2001 2000 1999 1998 1997
As of December 31, ----------- ----------- ----------- ----------- -----------
Cash and invested
assets................. $ 7,108,088 $ 6,506,292 $ 6,202,251 $ 6,417,511 $ 6,473,096
Total assets............ 12,428,153 12,962,558 12,131,664 11,249,028 11,127,648
Short-term debt......... 204,037 329,148 418,394 355,392 347,152
Long-term debt.......... 536,152 365,989 371,555 383,422 564,298
Shareholders' equity.... 2,497,127 2,202,360 1,993,337 2,259,528 1,932,736
Per common share ...... 20.32 17.43 15.10 16.51 13.80
Per common share
excluding effect of
SFAS 115.............. 20.32 18.53 16.32 15.43 12.90
Annualized premium in
force:
Life................... 1,257,413 1,200,144 1,130,609 1,062,647(2) 1,007,379
Health................. 1,042,643 1,004,299 884,358 796,863 762,052
Total................. 2,300,056 2,204,443 2,014,967 1,859,510(2) 1,769,431
- --------------------------------------------------------------------------------------------
(1) Net income from continuing operations, excluding realized investment gains
(losses), the related adjustment to deferred acquisition costs, equity in
Vesta earnings for periods prior to 1999, a one-time gain on the sale of
equipment, and the nonrecurring charge.(3)
(2) Annualized life premium in force excludes $5.3 million representing the
Family Service business sold in 1998.
(3) The nonrecurring charge relates to a marketing agreement discussed more
fully on page 24 of this report.
16
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Cautionary Statements. Torchmark cautions readers regarding certain forward-
looking statements contained in the following discussion and elsewhere in this
document, and in any other statements made by, or on behalf of Torchmark
whether or not in future filings with the Securities and Exchange Commission.
Any statement that is not a historical fact, or that might otherwise be
considered an opinion or projection concerning Torchmark or its business,
whether express or implied, is meant as and should be considered a forward-
looking statement. Such statements represent management's opinions concerning
future operations, strategies, financial results or other developments.
Forward-looking statements are based upon estimates and assumptions that are
subject to significant business, economic and competitive uncertainties, many
of which are beyond Torchmark's control. If these estimates or assumptions
prove to be incorrect, the actual results of Torchmark may differ materially
from the forward-looking statements made on the basis of such estimates or
assumptions. Whether or not actual results differ materially from forward-
looking statements may depend on numerous foreseeable and unforeseeable events
or developments, which may be national in scope, related to the insurance
industry generally, or applicable to Torchmark specifically. Such events or
developments could include, but are not necessarily limited to:
1) Changing general economic conditions leading to unexpected changes in
lapse rates and/or sales of Torchmark's policies;
2) Regulatory developments, including changes in governmental regulations
(particularly those impacting taxes and changes to the federal Medicare
program that would affect Medicare Supplement insurance) and regulatory
inquiries regarding industrial life insurance;
3) Market trends in the senior-aged health care industry that provide
alternatives to traditional Medicare, such as Health Maintenance
Organizations and other managed care or private plans, and that could
affect the sales of traditional Medicare Supplemental insurance;
4) Interest rate changes that adversely affect product sales and/or
investment portfolio yield;
5) Changes in pricing competition;
6) Litigation results;
7) The inability of Torchmark to achieve the anticipated levels of
administrative and operational efficiencies;
8) Levels of mortality, morbidity, and utilization of healthcare services
that differ from Torchmark's assumptions;
9) The inability of Torchmark to obtain timely and appropriate premium
rate increases for health insurance;
10) The customer response to new products and marketing initiatives;
11) Financial markets trends that affect sales of Torchmark's market-
sensitive products; and
12) Reported amounts in the financial statements which are based on
management's estimates and judgements which may differ from the actual
amounts ultimately realized.
Readers are also directed to consider other risks and uncertainties described
in other documents filed by Torchmark with the Securities and Exchange
Commission.
The following discussion should be read in conjunction with the Selected
Financial Data and Torchmark's Consolidated Financial Statements and Notes
thereto appearing elsewhere in this report.
17
RESULTS OF OPERATIONS
Summary of Operating Results. Torchmark's management computes a
classification of income called "net operating income" and uses it to evaluate
the operating performance of the company. It differs from net income as
reported in the financial statements in that it excludes nonrecurring and
nonoperating income or loss items. These items are removed because they
distort comparability of Torchmark's core operations from period to period.
Net operating income also excludes discontinued operations.
The following items were excluded from net income as reported in Torchmark's
financial statements in order to compute net operating income:
1) Realized investment losses, net of tax;
2) The nonrecurring loss from the redemption by Torchmark of its Monthly
Income Preferred Securities (MIPS) and its debt in 2001 in the amount of
$4.6 million net of tax and the gain from redemption of debt in 2000 of
$.2 million net of tax;
3) A one-time gain on the sale of equipment (included in other income) in
the after-tax amount of $3.3 million in 1999;
4) The effect of a required change in accounting principle which modified
the accounting for an interest rate swap instrument, increasing net
income in the after-tax amount of $16.1 million in 1999;
5) The effect of the required change to a new accounting principle revising
the method for valuing certain asset-backed security investments, which
resulted in an after-tax charge of $26.6 million in 2001;
6) A one-time charge relating to discontinued energy operations in 2001 in
the amount of $3.3 million; and
7) A tax incurred related to the spin off of Waddell & Reed, Inc. (Waddell
& Reed) in 1999 in the amount of $1.1 million after tax.
The charge related to discontinued energy operations arose from litigation
which was ongoing at the time of Torchmark's divestiture of energy activities
in 1996. This litigation was settled during 2001 and resulted in the charge.
More information concerning this matter is found in Note 18--Commitments and
Contingencies beginning on page 73 of this report.
Additionally, in 1999, Torchmark entered into a life insurance marketing
arrangement with a third party, discussed more fully under the caption Life
Insurance on page 24 of this report. This agreement contained certain cash
guarantees to the third party which were substantially determined to not be
recoverable by Torchmark based on test marketing results. Accordingly,
Torchmark recorded a nonrecurring after-tax operating charge of $13 million,
or $.10 per diluted share in 1999. Because this was an unusual one-time
operating charge, net operating income has been presented before the charge in
order to maintain year to year operating comparability.
A reconciliation of net operating income to net income on a per diluted
share basis is as follows:
Reconciliation of Per Share Net Operating
Income to Reported Net Income
2001 2000 1999
----- ----- -----
Net operating income before nonrecurring operating
charge.............................................. $3.12 $2.85 $2.55
Nonrecurring operating charge........................ -- -- (.10)
----- ----- -----
Net operating income................................ 3.12 2.85 2.45
Realized investment losses, net of tax............... (.01) (.03) (.54)
Gain on sale of equipment, net of tax................ -- -- .02
----- ----- -----
Net income from continuing operations............... 3.11 2.82 1.93
Discontinued operations, net of tax.................. (.03) -- (.01)
Gain (loss) on redemption of MIPS and debt, net of
tax................................................. (.04) -- --
Changes in accounting principles, net of tax......... (.21) -- .12
----- ----- -----
Net income.......................................... $2.83 $2.82 $2.04
===== ===== =====
18
Net realized investment losses in 2001 were $1.6 million after tax, compared
with $3.5 million after-tax in 2000. Realized investment losses in 1999 in the
after-tax amount of $72 million included a $41 million after-tax loss from the
sale of real estate and a $19 million after-tax loss from the sale of fixed
maturities. Realized losses in 1999 also included a $12 million after-tax loss
from the reduction in value of Torchmark's interest rate swap.
The redemption of Torchmark's debt and MIPS are discussed under the caption
Capital Resources beginning on page 33 of this report. The changes in
accounting principles are discussed in Note 15--Changes in Accounting
Principles in the Notes to Consolidated Financial Statements on page 68 of
this report.
Torchmark reports basic and diluted earnings per share. Basic earnings per
share are based on the average shares outstanding during the period. Diluted
earnings per share assume the exercise of Torchmark's employee stock options
for which the exercise price was lower than the market price during the year
and the impact that their exercise would have on shares outstanding. Diluted
earnings per share differ from basic earnings per share in that they are
influenced by changes in the market price of Torchmark stock and the number of
options outstanding. Unless otherwise indicated, all references to per share
data in this report are on the basis of diluted shares.
A comparison of Torchmark's basic and diluted earnings per share is as
follows:
Earnings and Earnings Per Share
(Dollar amounts in thousands, except for per share data)
For the Year Ended
December 31,
--------------------------
2001 2000 1999
-------- -------- --------
Net operating income before nonrecurring
charge:
Amount........................................ $392,510 $365,292 $341,167
Per Share:
Basic........................................ 3.14 2.85 2.56
Diluted...................................... 3.12 2.85 2.55
Net operating income:
Amount........................................ 392,510 365,292 327,744
Per Share:
Basic........................................ 3.14 2.85 2.46
Diluted...................................... 3.12 2.85 2.45
Net income:
Amount........................................ 356,513 362,035 273,956
Per Share:
Basic........................................ 2.85 2.83 2.06
Diluted...................................... 2.83 2.82 2.04
Total revenues were $2.71 billion in 2001, an 8% increase over 2000 revenues
of $2.52 billion. Revenues rose 13% in 2000 over 1999 revenues of $2.23
billion. After adjustment for realized investment losses in each year,
revenues grew 7% to $2.71 billion in 2001 from $2.52 billion in 2000. They
increased 8% in 2000 over the prior year. Total premium rose $169 million, or
8%, to $2.22 billion in 2001. Total premium increased 9% in 2000 to $2.05
billion. Life insurance premium grew 6% in 2001 to $1.14 billion, an increase
of $62 million. Health premium in 2001 rose 11% to $1.01 billion, an increase
of $100 million. Net investment income increased $19 million, or 4%, in 2001
to $492 million. Life premium increased 6% to $1.08 billion and health premium
grew 10% to $911 million in 2000. Net investment income rose 6% in 2000 to
$472 million.
Other operating expenses, which consist of insurance administrative
expenses and expenses of the parent company, were $129 million in 2001,
compared with $121 million in 2000 and $115 million in 1999. Other operating
expenses as a percentage of revenues, excluding realized losses, declined in
each period and were 4.77% in 2001, 4.81% in 2000, and 4.93% in 1999. The
components of Torchmark's revenues and operations are described in more detail
in the discussion of Insurance and Investment segments found on pages 20
through 32 of this report.
19
The following table is a summary of Torchmark's net operating income.
Insurance underwriting income is defined by Torchmark management as premium
income less net policy obligations, commissions, acquisition expenses, and
insurance administrative expenses plus other income. Excess investment income
is defined as tax-equivalent net investment income reduced by the interest
credited to net policy liabilities and financing costs. Financing costs
include the interest on Torchmark's debt and the dividends on its MIPS and
Trust Preferred Securities, less the reduction in financing costs effected by
interest rate swaps on certain of these instruments.
Summary of Net Operating Income
(Dollar amounts in thousands except per share data)
2001 2000 1999
--------------- ---------------- ----------------
% of % of % of
Amount Total Amount Total Amount Total
-------- ----- --------- ----- --------- -----
Insurance underwriting in-
come before other
income, administrative
expenses, and
nonrecurring charge:
Life.................... $283,392 58.7% $ 270,663 58.5% $ 263,269 60.5%
Health.................. 173,458 36.0 161,116 34.8 144,632 33.3
Annuity................. 25,696 5.3 30,959 6.7 26,831 6.2
-------- ----- --------- ----- --------- -----
Total ................... 482,546 100.0% 462,738 100.0% 434,732 100.0%
===== ===== =====
Other income............. 4,391 4,650 3,348
Administrative expenses.. (119,038) (111,817) (104,903)
-------- --------- ---------
Insurance underwriting in-
come..................... 367,899 355,571 333,177
Excess investment income
(tax equivalent basis)... 255,545 226,986 215,387
Corporate expense......... (10,104) (9,369) (10,166)
Goodwill amortization..... (12,075) (12,075) (12,075)
Tax equivalency
adjustment............... (4,377) (8,655) (11,487)
-------- --------- ---------
Pretax net operating
income.................. 596,888 552,458 514,836
Income tax................ (204,378) (187,166) (173,669)
-------- --------- ---------
Net operating income
before nonrecurring
charge.................. 392,510 365,292 341,167
Nonrecurring charge, net
of tax................... -0- -0- (13,423)
-------- --------- ---------
Net operating income..... $392,510 $ 365,292 $ 327,744
======== ========= =========
Net operating income
before nonrecurring
charge per diluted
share................... $ 3.12 $ 2.85 $ 2.55
======== ========= =========
Net operating income per
diluted share........... $ 3.12 $ 2.85 $ 2.45
======== ========= =========
On a per share basis, Torchmark's net operating income before nonrecurring
charge grew 9% in 2001 and 12% in 2000. In dollar amounts, Torchmark's net
operating income before nonrecurring charge rose 7% in both periods. Per share
growth exceeded growth in the dollar amounts as a result of share buybacks in
both periods. Contributing to the growth in net operating income were gains in
insurance underwriting income and excess investment income. Insurance
underwriting income grew 3% in 2001 to $368 million, after having increased 7%
in 2000. Excess investment income also grew in both periods. The 13% increase
in 2001 excess investment income was due primarily to the decrease in
financing costs brought about by the lower interest rate environment in 2001
and debt refinancings during the year. The 2000 increase of 5% in excess
investment income was a result of the 6% growth in net investment income.
Refer to the discussion of Investments on page 29 and Capital Resources on
page 33 of this report. Torchmark's core operations are segmented into
insurance underwriting operations and investment operations. Insurance
underwriting operations are further segmented into life insurance, health
insurance, and annuity product groups. A detailed discussion of each of
Torchmark's segments follows.
20
Life insurance. Life insurance is Torchmark's largest segment in terms of
revenue, with life premium representing 52% of total premium in 2001 and with
life underwriting income before other income and administrative expense
representing 59% of the total in 2001.
Life insurance premium rose 6% in 2001 to $1.14 billion from $1.08 billion
in 2000. Life premium increased 6% in 2000 from $1.02 billion. Sales of life
insurance, in terms of annualized premium, were $295 million in 2001,
increasing 1% over 2000 sales of $291 million. This compares with 13% growth
in 2000 sales over 1999 sales of $257 million. Annualized premium in force is
often indicative of future premium income over the near term. Annualized life
premium in force was $1.26 billion at December 31, 2001, compared with $1.20
billion at 2000 year end, an increase of 5%. Annualized premium in force grew
6% in 2000 from $1.13 billion at year-end 1999. Annualized premium in force
and issued data includes amounts collected on certain interest-sensitive life
products which are not recorded as premium income but excludes single-premium
income and policy account charges.
Life insurance products are marketed through a variety of distribution
channels. The following table presents life insurance premium by distribution
method during each of the three years ended December 31, 2001.
LIFE INSURANCE
Premium by Distribution Method
(Dollar amounts in thousands)
2001 2000 1999
---------------- ---------------- ----------------
% of % of % of
Amount Total Amount Total Amount Total
---------- ----- ---------- ----- ---------- -----
Liberty National Exclu-
sive Agency............. $ 297,223 26.0% $ 294,197 27.2% $ 288,330 28.3%
Direct Response.......... 289,097 25.3 267,899 24.7 245,824 24.1
American Income Exclusive
Agency.................. 246,690 21.5 231,149 21.4 217,367 21.3
United American
Independent Agency...... 47,415 4.1 42,305 3.9 37,375 3.7
United American Branch
Office Agency........... 19,255 1.7 19,393 1.8 19,318 1.9
Other.................... 244,819 21.4 227,182 21.0 210,087 20.7
---------- ----- ---------- ----- ---------- -----
$1,144,499 100.0% $1,082,125 100.0% $1,018,301 100.0%
========== ===== ========== ===== ========== =====
Direct Response marketing is conducted through direct mail, co-op mailings,
television and consumer magazine advertising, and direct mail solicitations
endorsed by groups, unions and associations. This group markets a line of life
products primarily to juveniles, their parents, and other adults over age 50
with face amounts of around $13,500 on average. In addition to life insurance
marketing, the Direct Response operation has promoted growth in some of
Torchmark's agent-based distribution channels through marketing support. This
support includes providing sales leads and assisting in agent recruiting and
has contributed indirectly to the growth in premium in other Torchmark
distribution agencies. The Direct Response operation is characterized by lower
acquisition costs than Torchmark's agency-based marketing systems. It
accounted for over 25% of Torchmark's life insurance premium during 2001.
Direct Response life premium rose 8% in 2001 to $289 million. Direct Response
life premium was $268 million in 2000, increasing 9% over 1999 premium of $246
million.
Direct Response annualized life premium in force rose 7% to $326 million at
December 31, 2001 from $306 million a year earlier. At December 31, 2001,
Direct Response life annualized premium in force was 26% of Torchmark's total,
the largest of any component distribution group. Direct Response life
insurance annualized premium in force grew 8% in 2000.
Sales of life insurance in terms of annualized premium issued for the Direct
Response group were $112 million in 2001. These sales represented a slight
decline from $113 million in 2000. In early 2001, Torchmark discontinued
certain products in the Direct Response market in order to focus on sales of
more profitable business. The discontinuing of sales of these products
resulted in the flattening of 2001 sales. Annualized premium sold in 2000 by
the Direct Response operation increased 18% over 1999 sales of $96 million,
due in part to a higher average premium per policy issued. The annualized life
premium issued by the Direct Response group represented 38% of Torchmark's
total life sales in 2001.
21
The Liberty National Exclusive Agency distribution system markets primarily
to middle income markets in several southeastern states. It represented
Torchmark's largest contribution to life insurance premium income in each of
the three years presented, although its proportion of the total has declined
in each successive year. Liberty's life premium rose 1% in 2001 to $297
million, representing 26% of Torchmark's total life premium. Life premium in
2000 was $294 million, an increase of 2% over the prior year. The annualized
life premium in force of the Liberty Agency was $315 million at year-end 2001,
compared with $312 million and $307 million at year-ends 2000 and 1999,
respectively. Liberty's annualized life premium in force represented 25% of
total life annualized premium in force at December 31, 2001. Life premium
sales for this agency, in terms of annualized premium issued, grew 2% during
2001 to $55 million, compared with 4% growth in 2000. Sales growth in the
Liberty Agency is largely attributable to growth in the number of agents.
Liberty's agent count increased 7% from 1,902 at year-end 1999 to 2,032 at
year-end 2000, and then further increased another 6% in 2001 to 2,162 agents.
Ongoing agent recruitment efforts and training programs, which help to improve
agent retention, have been responsible for the growth in this agency.
Management believes that the continued recruiting of new agents and the
retention of productive agents are critical to the continued growth of sales
in controlled agency distribution systems.
The American Income Exclusive Agency is a distribution system that focuses
on members of labor unions, credit unions, and other associations for its life
insurance sales. It is a high profit margin business characterized by lower
policy obligation ratios. This agency was Torchmark's fastest growing agency
during 2001, accounting for the largest growth in both life sales and
annualized life premium in force among Torchmark's distribution methods.
Annualized life premium in force was $266 million at year-end 2001, an
increase of 8% over 2000 premium in force of $245 million. Annualized life
premium in force rose 6% in 2000. Sales, in terms of annualized premium
issued, rose 17% in 2001 to $66 million, compared with an increase of 5% in
2000 to $57 million. This increase was 1% in 1999. The turnaround in sales for
this agency over the last three years was a result of the growth in the number
of agents. Prior to and during early 1999, this agency had suffered
significant declines in its agent count. At December 31, 1998, there were
1,222 American Income agents. However, changes in American Income's marketing
organization were implemented in 1999 to reverse the decline in the number of
agents. As a result, this agency has grown steadily since mid-1999. While an
overall decline in agent count occurred in the year 1999 to 1,197 agents
because of agent losses early in that year, the agent count rose 13% in 2000
to 1,352 agents and further grew 31% in 2001 to 1,768 agents. American
Income's marketing organization continues to implement efforts to improve
agent recruiting, retention, and productivity in order to increase the size of
this agency. The American Income Agency contributed $247 million of life
insurance premium during 2001, representing 22% of Torchmark's total. The 2001
premium increased 7% over 2000 premium of $231 million, which in turn rose 6%
over the prior year.
The United American Independent and Branch Office Agencies together
represented about 6% of Torchmark's total life premium in 2001. On a combined
basis, life premium rose 8% to $67 million in 2001 after a 9% increase in 2000
from $57 million to $62 million. Annualized life premium issued in 2001 was
$29 million, compared with $30 million in 2000. In 2000, these issues had
increased 63% over 1999 issues of $19 million. Annualized life premium in
force in 2001 was flat with the prior year at $75 million but rose 14% in 2000
from $65 million.
Torchmark's Other life insurance distribution system consists of its
Military Agency, United Investors Agency, and other small miscellaneous sales
agencies. Torchmark's Military Agency consists of a nationwide independent
agency whose sales force is comprised of former commissioned and
noncommissioned military officers who sell exclusively to commissioned and
noncommissioned military officers and their families. This business consists
of whole life products with term insurance riders and is characterized by low
lapse rates. The United Investors Agency is comprised of several independent
agencies. Prior to 2001, United Investors' distribution was primarily through
the sales representatives of a former Torchmark subsidiary, Waddell & Reed.
Torchmark spun off Waddell & Reed in 1998, and United Investors terminated the
Waddell & Reed agency contract in 2001. However, some Waddell & Reed agents
have obtained personal appointments with United Investors in order to continue
to sell United Investors' life products. Life premium income from the Other
distribution category grew 8% to $245 million in 2001 and also 8% to $227
million in 2000. Life premium income from the Other group accounted for 21% of
Torchmark's total life insurance premium income in the year 2001. Annualized
life premium in force grew 5% in 2001 to $275 million, after having increased
8% to $262 million in 2000. A major factor in the growth of premium income and
in-force premium relates to the high persistency associated with
22
the Military business. Annualized premium sold during 2001 in the Other
distribution category was $32 million, a decline from both 2000 and 1999 sales
which were $37 million in each year.
In addition to life insurance sales, this distribution system has also
engaged in the production of variable life collections. In 2001, collections
were $34 million, compared with 2000 collections of $41 million, a decline of
18%. In 2000, these collections rose 28% over the prior year. Although
variable life collections are not included in premium in force data, they are
indicative of growth in the variable life account balance. Indirectly, they
add to premium revenue through the policy account charges for insurance
coverage and administration as the account balance grows. At December 31,
2001, the variable life account balance was $147 million. The following table
summarizes selected variable life insurance information.
Selected Variable Life
Data
--------------------------
2001 2000 1999
-------- -------- --------
(Dollar amounts in
thousands)
Variable life collections during the year........... $ 33,961 $ 41,465 $ 32,428
Variable life deposit balance at year end........... 146,547 157,800 138,752
23
LIFE INSURANCE
Summary of Results
(Dollar amounts in thousands)
2001 2000 1999
------------------- ------------------- -------------------
% of % of % of
Amount Premium Amount Premium Amount Premium
---------- ------- ---------- ------- ---------- -------
Premium and policy
charges................ $1,144,499 100.0% $1,082,125 100.0% $1,018,301 100.0%
Policy obligations...... 754,193 65.9 711,833 65.8 666,122 65.4
Required interest on
reserves............... (263,748) (23.0) (246,989) (22.8) (229,287) (22.5)
---------- ----- ---------- ----- ---------- -----
Net policy obligations. 490,445 42.9 464,844 43.0 436,835 42.9
Commissions and premium
taxes.................. 63,949 5.5 59,754 5.5 56,341 5.5
Amortization of
acquisition costs...... 201,322 17.6 188,268 17.4 170,444 16.7
Required interest on
deferred acquisition
costs.................. 105,391 9.2 98,596 9.1 91,412 9.0
---------- ----- ---------- ----- ---------- -----
Total expense.......... 861,107 75.2 811,462 75.0 755,032 74.1
---------- ----- ---------- ----- ---------- -----
Insurance underwriting
income before other
income, administrative
expenses and
nonrecurring charge.... 283,392 24.8% 270,663 25.0% 263,269 25.9%
===== ===== =====
Nonrecurring charge..... -0- -0- (20,650)
---------- ---------- ----------
Insurance underwriting
income before other
income and
administrative
expenses............... $ 283,392 $ 270,663 $ 242,619
========== ========== ==========
In the third quarter of 1999, Reader's Digest Association and Torchmark
entered into an agreement to market Torchmark life insurance products to
certain Reader's Digest customers. These products were marketed through
Torchmark's Direct Response operation, and required Torchmark to guarantee
specified compensation to Reader's Digest, regardless of marketing success.
Test marketing began in the fourth quarter of 1999. The less than favorable
results from these tests indicated that it would be unlikely that Torchmark
would recover the full amount of compensation guaranteed to Reader's Digest
under the terms of the agreement. As a result, Torchmark recorded a
nonrecurring operating charge of $21 million in 1999. This charge represented
$13 million after tax or $.10 per diluted share. During 2001 and 2000,
Torchmark maintained its relationship with Reader's Digest and continued to
use its subscriber lists in selective marketing of Torchmark insurance
products. However, Torchmark only incurred its normal solicitation costs on
this business and had no further costs related to the guaranteed compensation.
Torchmark terminated its relationship with Readers Digest in 2002.
Life insurance gross margins have been presented in the above table to
remove the effect of the 1999 nonrecurring charge, which distort comparisons.
Excluding this charge, gross margins, as indicated by insurance underwriting
income before other income and administrative expense, increased 5% in 2001 to
$283 million after having risen 3% in 2000 to $271 million. As a percentage of
life insurance premium, life insurance gross margins were 25% in both 2001 and
2000, but declined from 26% in 1999. One factor in the decline in both 2001
and 2000 is the reduction in underwriting income margins for Direct Response.
As a percentage of premium, Direct Response underwriting income was 24.9% in
2001, compared with 26.3% in 2000 and 27.9% in 1999. As previously discussed,
efforts are underway to discontinue the marketing of lower-margin Direct
Response business.
24
Health Insurance. Torchmark markets its supplemental health insurance
products through a number of distribution channels. The following table
indicates health insurance premium income by distribution method during each
of the three years ended December 31, 2001.
HEALTH INSURANCE
Premium by Distribution Method
(Dollar amounts in thousands)
2001 2000 1999
---------------- -------------- --------------
% of % of % of
Amount Total Amount Total Amount Total
---------- ----- -------- ----- -------- -----
United American Independent
Agency...................... $ 464,100 45.9% $442,370 48.6% $427,023 51.8%
United American Branch Office
Agency...................... 323,159 32.0 254,267 27.9 194,594 23.6
Liberty National Exclusive
Agency...................... 155,886 15.4 151,363 16.6 143,857 17.4
American Income Exclusive
Agency...................... 49,835 4.9 48,296 5.3 47,564 5.8
Direct Response.............. 17,773 1.8 14,860 1.6 11,778 1.4
---------- ----- -------- ----- -------- -----
$1,010,753 100.0% $911,156 100.0% $824,816 100.0%
========== ===== ======== ===== ======== =====
Health products sold by Torchmark insurance companies include Medicare
Supplement, cancer, long-term care, and other under-age-65 limited-benefit
supplemental medical and hospitalization products. As a percentage of
annualized health premium in force at December 31, 2001, Medicare Supplement
accounted for 73% and cancer 16%. The table below presents Torchmark's health
insurance annualized premium in force by major product category at December
31, 2001 and for the two preceding years.
HEALTH INSURANCE
Annualized Premium in Force by Product
(Dollar amounts in thousands)
December 31,
--------------------------------------------------
2001 2000 1999
---------------- ---------------- --------------
% of % of % of
Amount Total Amount Total Amount Total
---------- ----- ---------- ----- -------- -----
Medicare Supplement......... $760,848 73.0% $ 728,918 72.6% $630,915 71.3%
Cancer...................... 169,341 16.2 169,013 16.8 153,777 17.4
Other....................... 112,454 10.8 106,368 10.6 99,666 11.3
---------- ----- ---------- ----- -------- -----
Total..................... $1,042,643 100.0% $1,004,299 100.0% $884,358 100.0%
========== ===== ========== ===== ======== =====
Premium for the health insurance segment increased 11% to $1.01 billion in
2001, exceeding the $1 billion milestone in health premium income for the
first time. Health premium grew 10% to $911 million in 2000 and 9% to $825
million in 1999. Annualized health premium in force grew 4% to $1.04 billion
at December 31, 2001 over the previous year-end balance of $1.00 billion.
Health premium in force rose 14% during 2000. Sales of health insurance, in
terms of annualized premium issued, declined 16% in 2001 to $213 million,
after having increased 31% in 2000 to $252 million. Health sales in 1999 rose
39% to $193 million. The fluctuations in health sales are largely attributable
to Medicare Supplement sales in each period.
Medicare Supplement insurance is sold primarily by the United American
Branch Office Agency and the United American Independent Agency. Health sales
in both agencies grew significantly in 1999 and 2000, but declined in 2001.
The Branch Office Agency sold $103 million in annualized health premium in
1999, $145 million in 2000, and $116 million in 2001. These sales represent a
60% increase in 1999 and a 41% increase in 2000, but a decline of 20% in 2001.
The United American Independent Agency had health annualized premium issued of
$68 million, $85 million, and $74 million in each of the years 1999, 2000, and
2001, respectively. These sales represented increases of 35% and 25% in 1999
and 2000, respectively, but a reduction of 14% in 2001 from the prior year.
There are two major factors which contributed to these fluctuations in
Medicare Supplement sales. First, sales in recent years have been positively
affected by the involuntary terminations of Medicare Health Maintenance
Organization (HMO)
25
members, causing these terminated members, or disenrollees, to seek Medicare
Supplement coverage. In 2000, the number of disenrollees reached an
unprecedented level. In 2001, however, these terminations were approximately
half of those of the prior year. Second, Medicare Supplement sales faced
increased premium rate pressure from competition in some markets as Torchmark
implemented premium rate increases on its Medicare Supplement policies more
timely than some competitors. Rate increases are required to offset health
cost inflation. In addition to the increased competition, the number of
producing agents at the United American Branch Office Agency declined in 2001
as agents in some markets left for easier sales at those competitors whose
Medicare Supplement products were priced lower than Torchmark's. Prior to
2001, this agency had experienced rapid growth in appointed agents, which
contributed greatly to the growth in sales in these periods. At the end of
2001, however, the number of producing agents was 1,644. Producing agents are
those who have had a sale. Management believes that these competitive
pressures will subside as competitors obtain rate increases; however, sales of
Medicare Supplements during 2002 are expected to be somewhat less than for
2001 because new agents need to be recruited and trained, and fewer HMO
disenrollees are expected.
Although sales declined in 2001, Medicare Supplement annualized premium in
force at December 31, 2001 rose 4% to $761 million from $729 million at the
end of 2000. Medicare Supplement annualized premium increased 16% in 2000.
Medicare Supplement policies are highly regulated at both the federal and
state levels with standardized benefit plans, limits on first year agent
compensation, and mandated minimum loss ratios. However, they remain a popular
supplemental health policy with the country's large and growing group of
Medicare beneficiaries. About 85% of all Medicare beneficiaries have Medicare
Supplements to cover at least some of the deductibles and coinsurance for
which the federal Medicare program does not pay. Because of loss ratio
regulation, underwriting margins on Medicare Supplements are less than on
Torchmark's life business. However, due to United American's low cost,
service-oriented customer service and claims administration, as well as its
economies of scale, it is a profitable line of business.
At one time, the primary competition for Medicare Supplement sales came from
Medicare HMOs, the managed care alternative to traditional fee-for-service
Medicare which eliminated the need for a supplemental policy. However, in the
last few years, growing public dissatisfaction with managed care, increased
medical cost inflation and increased Federal Government regulatory pressures
on Medicare HMO's have caused a number of HMO's to withdraw from the market,
reducing that competition. Other regulatory issues continue to affect the
Medicare Supplement market. Medical cost inflation and changes to the Medicare
program cause the need for annual rate increases, which generally require
state insurance department approval. In addition, Congress and the Federal
Administration have begun studying ways to restructure the Medicare program.
Therefore, it is likely that changes will be made to the Medicare program at
sometime in the future. However, it appears that there will continue to be an
important role for private insurers in helping senior citizens cover their
healthcare costs. As a result, Medicare Supplements should continue as a
popular product for senior-age consumers.
Cancer insurance premium in force was flat in 2001 at $169 million, compared
with 10% growth in 2000 and 6% growth in 1999. Sales of this product rose 7%
in 2001 to $11 million after having declined in 2000 to $10 million from $11
million of 1999 sales. A portion of the growth in cancer annualized premium in
force has been attributable to premium rate increases to offset increased
health care costs. Cancer insurance products are sold primarily by the Liberty
National Exclusive Agency. This agency represented 86% of Torchmark's total
cancer annualized premium in force at December 31, 2001.
Annualized premium in force for other health products grew 6% in 2001 to
$112 million, after rising 7% in 2000 to $106 million. Other health sales rose
7% in 2001 to $44 million, after having increased 38% in 2000.
26
HEALTH INSURANCE
Summary of Results
(Dollar amounts in thousands)
2001 2000 1999
------------------- ----------------- -----------------
% of % of % of
Amount Premium Amount Premium Amount Premium
---------- ------- -------- ------- -------- -------
Premium................. $1,010,753 100.0% $911,156 100.0% $824,816 100.0%
Policy obligations...... 663,908 65.7 591,022 64.9 535,901 65.0
Required interest on
reserves............... (14,911) (1.5) (15,736) (1.7) (17,383) (2.1)
---------- ----- -------- ----- -------- -----
Net policy obligations.. 648,997 64.2 575,286 63.2 518,518 62.9
Commissions and premium
taxes.................. 99,047 9.8 91,069 10.0 84,913 10.3
Amortization of
acquisition costs...... 71,913 7.1 68,778 7.5 64,046 7.8
Required interest on
deferred acquisition
costs.................. 17,338 1.7 14,907 1.6 12,707 1.5
---------- ----- -------- ----- -------- -----
Total expense.......... 837,295 82.8 750,040 82.3 680,184 82.5
---------- ----- -------- ----- -------- -----
Insurance underwriting
income before other
income and
administrative
expenses............... $ 173,458 17.2% $161,116 17.7% $144,632 17.5%
========== ===== ======== ===== ======== =====
Health insurance underwriting income before other income and administrative
expense rose 8% in 2001 to $173 million, after having increased 11% in 2000.
As a percentage of premium, underwriting income before other income and
administrative expense remained somewhat steady throughout the three-year
period ending in 2001, rising slightly in 2000 and declining slightly in 2001.
Medicare Supplement margins are restrained by the federally mandated minimum
loss ratio of 65%. Cancer product obligation ratios have increased in recent
years primarily due to higher loss ratios experienced on a closed block of
business. Management has actively sought timely and adequate premium rate
increases from regulatory authorities to offset these cost increases and to
maintain margins on this business.
Annuities. Annuity products are marketed by Torchmark to service a variety
of needs, including retirement income and long-term, tax-deferred growth
opportunities. Prior to 2001, Torchmark's annuities were sold primarily by the
Waddell & Reed sales force, which marketed United Investors annuities and
other products under a marketing agreement. In 2000, this sales force
collected 96% of Torchmark's total annuity collections. Effective April 30,
2001, Torchmark terminated the marketing agreement providing for the sale of
Torchmark's variable annuities by the Waddell & Reed sales force. Waddell &
Reed was a former subsidiary of Torchmark which was spun off in 1998 and is no
longer affiliated. In addition to no longer marketing United Investors'
products, Waddell & Reed has been replacing United Investors' products with
those of another carrier. As a result, Torchmark has experienced declines in
annuity sales and deposit balances. A successor underwriter to market the
variable annuity products of United Investors was appointed effective May 1,
2001. While Torchmark is now distributing variable annuities through other
broker-dealers, it does not expect to emphasize the growth of this product
line in the future.
In addition to the annuities marketed by the United Investors Agency, a
small amount of fixed annuities are sold by the United American Independent
Agency and the Liberty National Agency.
Annuities are sold on both a fixed and variable basis. Fixed annuity
deposits are held and invested by Torchmark and are obligations of the
company. Variable annuity deposits are invested at the policyholder's
direction into his choice among a variety of mutual funds, which vary in
degree of investment risk and return. A fixed annuity investment account is
also available as a variable annuity investment option. Investments pertaining
to variable annuity deposits are reported as "Separate Account Assets" and the
corresponding deposit balances for variable annuities are reported as
"Separate Account Liabilities."
Annuity premium is added to the annuity account balance as a deposit and is
not reflected in income. Revenues on both fixed and variable annuities are
derived from charges to the annuity account balances
27
for insurance risk, administration, and surrender, depending on the structure
of the contract. Variable accounts are also charged an investment fee and a
sales charge. Torchmark benefits to the extent these policy charges exceed
actual costs and, on fixed annuity policies, to the extent actual investment
income exceeds the investment income which is credited to the policy.
The following table presents the annuity account balance at each year end
and the annuity collections for each year for both fixed and variable
annuities.
Annuity Deposit Balances Annuity Collections
-------------------------- --------------------------
(Dollar amounts in (Dollar amounts in
millions) thousands)
2001 2000 1999 2001 2000 1999
-------- -------- -------- -------- -------- --------
Fixed..................... $ 609.6 $ 661.6 $ 677.5 $ 33,461 $ 41,617 $ 71,696
Variable.................. 2,355.7 3,583.6 3,274.9 111,768 608,251 392,769
-------- -------- -------- -------- -------- --------
Total.................... $2,965.3 $4,245.2 $3,952.4 $145,229 $649,868 $464,465
======== ======== ======== ======== ======== ========
Collections of fixed annuity premium were $33 million in 2001, compared with
$42 million in 2000, a 20% decrease. Fixed annuity premium collections
declined 42% in 2000 from $72 million in 1999. The fixed annuity deposit
balance declined 8% to $610 million at year-end 2001 from $662 million at
year-end 2000. It declined 2% in the prior year from $677 million at year-end
1999. Torchmark has experienced weaker sales as a result of the reduced sales
force and its reduced emphasis of these products. Lower interest rates have
also been a factor in the reduced collections as alternative investments and
other products have become more attractive.
Variable annuity collections declined 82% in 2001 to $112 million from $608
million in the prior year. Variable collections rose 55% from $393 million in
1999. The variable annuity account balance declined 34% in 2001 to $2.4
billion at December 31, 2001 from $3.6 billion at December 31, 2000. It
increased 9% in 2000 from $3.3 billion at December 31, 1999. The introduction
of a new product in 2000 had a positive influence on sales of variable
annuities in spite of market weakness in that year. However, the loss of the
Waddell & Reed sales force as well as weaker financial markets are believed to
have been the primary cause of the decline in variable annuity sales in 2001,
with replacement activity by Waddell & Reed and the weaker markets
contributing greatly to the decline in the variable annuity deposit balance.
Variable accounts are valued based on the market values of the underlying
securities.
ANNUITIES
Summary of Results
(Dollar amounts in thousands)
2001 2000 1999
-------- -------- --------
Policy charges.................................. $ 59,917 $ 52,929 $ 40,969
Policy obligations.............................. 36,535 36,627 34,524
Required interest on reserves................... (42,604) (42,688) (40,991)
-------- -------- --------
Net policy obligations........................ (6,069) (6,061) (6,467)
Commissions and premium taxes................... 2,381 2,116 759
Amortization of acquisition costs............... 28,558 17,791 13,310
Required interest on deferred acquisition costs. 9,351 8,124 6,536
-------- -------- --------
Total expense................................. 34,221 21,970 14,138
-------- -------- --------
Insurance
underwriting income before other income
and administrative expenses.................... $ 25,696 $ 30,959 $ 26,831
======== ======== ========
Annuity underwriting income before other income and administrative expense
was $26 million in 2001, declining 17% from $31 million in 2000. The decline
in 2001 is a result of the increased amortization of deferred acquisition
costs caused by the increased surrender activity. Underwriting income rose 15%
from $27 million in 1999. Policy charges have risen in each period, increasing
13% in 2001 and 29% in 2000. Growth in policy charges is primarily related to
the growth in the size of the annuity account balance. Growth in deposit
balances accounted for the growth in charges in 2000. However, in 2001, the
decline in policy charges related to the asset balance were more than offset
by increased surrender charges.
28
Investments. The following table summarizes Torchmark's investment income
and excess investment income.
Analysis of Excess Investment Income
(Dollar amounts in thousands)
2001 2000 1999
---------- ---------- ----------
Net investment income.................. $ 491,830 $ 472,426 $ 447,337
Tax equivalency adjustment............. 4,377 8,655 11,487
---------- ---------- ----------
Tax equivalent investment income...... 496,207 481,081 458,824
Required interest on net insurance
policy liabilities:
Interest on reserves.................. (321,263) (305,413) (287,661)
Interest on deferred acquisition
costs................................ 132,080 121,627 110,655
---------- ---------- ----------
Net required........................ (189,183) (183,786) (177,006)
Financing costs........................ (51,479) (70,309) (66,431)
---------- ---------- ----------
Excess investment income............... $ 255,545 $ 226,986 $ 215,387
========== ========== ==========
Mean invested assets (at amortized
cost)................................. $6,921,118 $6,581,601 $6,319,465
Average net insurance policy
liabilities........................... 3,228,005 3,129,892 3,066,351
Average debt (including preferred
securities)........................... 849,162 924,729 965,728
Excess investment income represents the profit margin attributable to
investment operations and cash flow management. It is defined as net
investment income on a tax-equivalent basis reduced by the interest cost
credited to net policy liabilities and the interest cost associated with
capital funding or "financing costs." Excess investment income is increased in
a number of ways: an increase in investment yields over the rates credited to
policyholders' liabilities or in relationship to the rates applicable to
Torchmark debt, growth in invested assets in relation to policy liabilities
and debt, and the efficient use of capital resources and cash flow.
Net investment income grew 4% to $492 million in 2001. In 2000, net
investment income increased 6% to $472 million after having declined 3% in
1999. On a tax-equivalent basis, in which the yield on tax-exempt securities
is adjusted to produce a yield equivalent to the pretax yield on taxable
securities, investment income rose 3% in 2001, after increasing 5% in 2000 and
declining 3% in 1999. The 2001 increase was caused by the growth in mean
invested assets, which rose 5% during the year to $6.9 billion. Mean invested
assets are computed on the basis of book value. Average yield on the portfolio
declined approximately 7 basis points during 2001 to 7.11%, as rates have
generally declined on investments acquired during this period. This decline in
yield partially offset the benefit to net investment income from the larger
asset base. The 2000 increase in investment income resulted from a combination
of the growth in mean invested assets and an increase in yield. Mean invested
assets rose 4% to $6.6 billion in 2000 over the prior year. Higher interest
rates in financial markets caused yields on the portfolio to rise 10 basis
points in 2000 to 7.18%. New cash flow was invested primarily in taxable fixed
maturities in both 2001 and 2000. The mean fixed maturity balance rose $381
million or 7% to $6.1 billion in 2000 and $253 million or 4% in 2001. The
growth in mean invested assets was achieved in both 2001 and 2000 even though
$303 million and $147 million were used to buy Torchmark stock in 2001 and
2000, respectively. Additionally, $95 million was used to pay down long and
short-term debt in 2000.
Excess investment income increased 13% in 2001 after having increased 5% in
both 2000 and 1999. Because of the effect of repurchases of Torchmark stock,
excess investment income on a per share basis increased 15% in 2001 and 10% in
2000. The 2001 growth in excess investment income of $29 million was due in
large part to the reductions in financing costs brought about through the
lower interest rate environment and the call of the MIPS during the year. The
increase in tax-equivalent investment income due to the growth in the invested
asset base was also a contributing factor. The 5% increase in excess
investment income in 2000 correlated closely with the change in tax-equivalent
investment income for the same period.
During 1999, Torchmark entered into two transactions to dispose of the
majority of its investment real estate. Torchmark had previously determined to
divest itself of investment real estate operations because
29
yields obtained on alternative investments such as fixed maturities were
significantly greater. Total consideration for the combined transactions was
$123 million of which $111 million was cash. The real estate dispositions
resulted in an after-tax loss of $41 million. After the sales, Torchmark
retained $16 million in investment real estate, of which $8 million was
represented by properties partially occupied by Torchmark subsidiaries. At
December 31, 2001, Torchmark held $14 million in investment real estate.
One of the transactions involved sales to Elgin Development Company and
other investors for total consideration of $97.4 million, of which $85 million
was cash and the balance was in a ten-year 8% collateralized note. Torchmark's
loss associated with this transaction was $10 million after tax. At the time
of the transaction, the Chairman of the Executive Committee of Torchmark was a
one-third investor in Elgin Development Company. His total investment in Elgin
Development was approximately $1.5 million. The outstanding balance of the
collateralized note with Elgin Development Company was $10.5 million at
December 31, 2001. For more information on this matter refer to Transactions
with Related Parties on page 37 of this report.
During 2001, Torchmark adopted a new accounting principle, Recognition of
Interest Income and Impairment on Purchased and Retained Beneficial Interest
in Securitized Financial Assets (EITF 99-20), which changed the method of
accounting for certain of its asset-backed securities. As a result of the
requirements of the new principle, Torchmark wrote these investments down $41
million, or $27 million net of tax, which has been reported as a change in
accounting principle. Future impairment of these assets will be reported as
realized investment losses. Subsequent to the adoption of the new rule, an
additional impairment loss of $1.6 million after tax was recorded.
Additionally, certain of the asset-based securities were sold during 2001 for
proceeds of $40 million at a loss of $170 thousand after tax. At year-end
2001, $20 million at market value of asset-backed securities were held subject
to EITF 99-20. For more information on this new accounting rule, see Note 15--
Changes in Accounting Principles in the Notes to Consolidated Financial
Statements on page 68 of this report.
The "yield curve" represents the difference between long and short-term
rates on government securities of different maturities. When the curve is
"flat" or "inverted", higher returns on new investments are generally
available with shorter maturities. When the curve is "positive", longer
maturities must be sought to obtain higher returns. In 2000, when the yield
curve was relatively flat, higher returns were possible in spite of a
shortening of maturities. During 2001, the slightly inverted yield curve which
opened the year was replaced with a positively sloping yield curve by year
end. In this environment, attaining desired yields on permanent investments
required the extension of maturities. For this reason, Torchmark made
acquisitions with longer maturities in 2001. The average life of 2001
purchases was 13.8 years, compared with 7.7 years in 2000 and 14.9 years in
1999. In 2001, new investments in fixed maturities totaled $1.5 billion,
compared with $1.1 billion in 2000 and $2.1 billion in 1999. Acquisitions in
2001 were made at an effective compounded yield of 7.49%,compared with an
effective compounded yield of 8.07% in 2000 and 7.54% in 1999. These yields
equate to nominal yields on acquisition of 7.35%, 7.87% and 7.38%,
respectively, for 2001, 2000, and 1999. The amount of fixed maturity
acquisitions varied by year, primarily due to tax-motivated sales activity in
all years and particularly the investment of the $124 million proceeds from
the sale of real estate holdings in 1999.
Even though the average life of new investments increased significantly in
2001, the average life of the entire portfolio remained rather stable. The
average life of the portfolio was 12.0 years at year-end 2001, 11.8 years at
year-end 2000, and 12.7 years at year-end 1999.
Portfolio adjustments taken during 2001 resulted in sufficient realized tax
gains to enable Torchmark to offset completely its tax loss carry-forward
which originated in 1999 and carried through to 2001. Sales of fixed
maturities for tax and other purposes in 2001 resulted in a pre-tax realized
loss of $7 million. However, realized gains, principally through the change in
value of Torchmark's fixed to floating swaps, reduced the net loss to $2
million. In 2000, $12 million of capital losses were offset by a $8 million
gain on the swap and other investments. In 1999, losses of fixed maturities
were $30 million. However, these losses were compounded by an $18 million
reduction in swap value and a $63 million loss on the sale of real estate for
a total realized investment loss of $111 million.
Torchmark's emphasis continues to be on marketable, high quality fixed
maturity investments. While yields have fluctuated somewhat, the nominal yield
on the $6.5 billion portfolio remained at 7.47% during 2001, equal to the 2000
level and above the 7.39% 1999 level. At December 31, 2001, approximately 92%
of invested assets were fixed-maturity securities, and 92% of these holdings
were classified
30
investment grade by the rating agencies. The National Association of Insurance
Commissioners considers 93% of the portfolio investment grade. The fixed-
maturity portfolio's value fluctuates with changes in interest rates, and the
unrealized loss in the portfolio was $1.8 million at year-end 2001. This
compares with an unrealized loss of $236 million at year-end 2000 and an
unrealized loss of $275 million at the end of 1999. The distribution of
maturities is as follows:
2001 2000
----- -----
Short terms and under 1 year................................ 4.2% 4.5%
2-5 years................................................... 20.4 15.6
6-10 years.................................................. 46.5 43.7
11-15 years................................................. 12.7 8.5
16-20 years................................................. 5.6 3.7
Over 20 years............................................... 10.6 24.0
----- -----
100.0% 100.0%
===== =====
With a preference for bond investments over investments in equities,
mortgages, or real estate holdings, the relative percentage of Torchmark's
investments by type is inconsistent with industry data. The following table
presents Torchmark's components of invested assets with the latest industry
data:
Torchmark
--------------------
Amount Industry %
(in thousands) % (1)
-------------- ----- ----------
Bonds & short terms......................... $6,660,585 93.7% 73.5%
Equities.................................... 571 -0- 5.1
Mortgage loans.............................. 112,135 1.6 11.7
Real estate................................. 14,133 .2 1.2
Policy loans................................ 266,979 3.8 5.1
Other invested assets....................... 49,971 .7 3.4
---------- ----- -----
$7,104,374 100.0% 100.0%
========== ===== =====
- --------
(1) Latest data available from the American Council of Life Insurance.
Market Risk Sensitivity. Market risk is the risk that the value of a
security will change because of a change in market conditions. Torchmark's
primary exposure to market risk is interest rate risk, which is the risk that
a change in a security's value could occur because of a change in interest
rates. This risk is significant to Torchmark's investment portfolio because
its fixed-maturity holdings amount to 92% of total investments. The effects of
interest rate fluctuations on fixed investments are reflected on an after-tax
basis in Torchmark's shareholders' equity because these investments are marked
to market.
The actual interest rate risk to Torchmark is reduced because the effect
that changes in rates have on assets is offset by the effect they have on
insurance liabilities and on debt. Interest assumptions are used to compute
the majority of Torchmark's insurance liabilities. These insurance
liabilities, net of deferred acquisition costs, were $3.6 billion and debt and
preferred securities were $.9 billion at December 31, 2001, compared with
fixed-maturity investments of $6.5 billion at amortized cost at the same date.
Because of the long-term nature of insurance liabilities, temporary changes in
value caused by rate fluctuations have little bearing on ultimate obligations.
In accordance with generally accepted accounting principles, insurance
liabilities and debt are not marked to market.
Market risk is managed in a manner consistent with Torchmark's investment
objectives. Torchmark seeks to maintain a portfolio of high-quality fixed-
maturity assets that may be sold in response to changing market conditions. A
significant change in the level of interest rates, changes in credit quality
of individual securities, or changes in the relative values of a security or
asset sector are the primary factors that influence such sales. Sales are also
influenced by tax regulations. Occasionally, the need to raise cash for
various operating commitments may also necessitate the sale of a security.
Volatility in the value of Torchmark's fixed-maturity holdings is reduced by
maintaining a relatively short-term portfolio, 24% of which matures within
five years and 71% of which matures within ten years. Also, the portfolio and
market conditions are constantly evaluated for appropriate action.
No derivative instruments are used to manage Torchmark's exposure to market
risk in the investment portfolio. Interest-rate swap instruments have been
entered into by Torchmark in connection with its
31
preferred stock and certain debt issues as discussed in the Notes to the
Consolidated Financial Statements on page 66 of this report and in Capital
Resources beginning on page 33 of this report.
The liability for Torchmark's insurance policy obligations is computed using
interest assumptions, some of which are contractually guaranteed. A reduction
in market interest rates of a permanent nature could cause investment return
to fall below amounts guaranteed. Torchmark's insurance companies participate
in the cash flow testing procedures imposed by statutory insurance
regulations, the purpose of which is to insure that such liabilities are
adequate to meet the company's obligations under a variety of interest rate
scenarios. Those procedures indicate that Torchmark's insurance policy
liabilities, when considered in light of the assets held with respect to such
liabilities and the investment income expected to be received on such assets,
are adequate to meet the obligations and expenses of Torchmark's insurance
activities in all but the most extreme circumstances.
The following table illustrates the market risk sensitivity of Torchmark's
interest-rate sensitive fixed-maturity portfolio at December 31, 2001 and
December 31, 2000. This table measures the effect of a change in interest
rates (as represented by the U.S. Treasury curve) on the fair value of
Torchmark's fixed-maturity portfolio. The data is prepared through a model
which incorporates various assumptions and estimates to measure the change in
fair value arising from an immediate and sustained change in interest rates in
increments of 100 basis points. It takes into account the effect that special
option features such as call options, put options, and unscheduled repayments
could have on the portfolio, given the changes in rates. The valuation of
these option features is dependent upon assumptions about future interest rate
volatility that are based on past performance.
Market Value of
Fixed-Maturity Portfolio
($ millions)
-------------------------
Change
in
Interest
Rates
(in At At
basis December 31, December 31,
points) 2001 2000
-------- ------------ ------------
-200 $7,432 $6,720
-100 6,971 6,325
0 6,526 5,950
100 6,128 5,597
200 5,748 5,272
32
FINANCIAL CONDITION
Liquidity. Torchmark's liquidity provides it with the ability to meet on
demand the cash commitments required by its business operations and financial
obligations. Torchmark's liquidity is evidenced by its three sources of
liquidity: its positive cash flow from operations, its portfolio of marketable
securities, and its line of credit facility.
Torchmark's insurance operations generate positive cash flows in excess of
its immediate needs. Cash flows provided from operations were $662 million in
2001, compared with $533 million in 2000 and $512 million in 1999. In addition
to operating cash flows, Torchmark received $263 million in investment
maturities and repayments during 2001, adding to available cash flows. Such
repayments were $226 million in 2000 and $413 million in 1999. Cash flows in
excess of immediate requirements are used to build an investment base to fund
future requirements. Available cash flows are also used to repay debt, to buy
Torchmark shares, to pay shareholder dividends, and other corporate uses.
While Torchmark's cash flows have historically been positive and very strong,
a reduction in cash flow could negatively affect liquidity.
Torchmark's cash and short-term investments were $138 million at year-end
2001 and $136 million at year-end 2000. In addition to these highly liquid
assets, Torchmark has a portfolio of marketable fixed and equity securities,
which are available for sale should the need arise. These securities had a
value of $6.5 billion at December 31, 2001.
Torchmark entered into a line of credit facility with a group of lenders in
November, 2001 which allows unsecured borrowings and stand-by letters of
credit up to $625 million. The facility is split into two parts: a $325
million 364-day tranche maturing November 29, 2002 and a $300 million five-
year tranche maturing November 30, 2006. The company has the ability to
request up to $200 million in letters of credit to be issued against the $300
million five-year tranche. Under either tranche, interest is charged at
variable rates. The line of credit is further designated as a back-up credit
line for a commercial paper program not to exceed $600 million, whereby
Torchmark may borrow from either the credit line or issue commercial paper at
any time, with total commercial paper outstanding not to exceed $600 million.
Commercial paper borrowings and letters of credit on a combined basis may not
exceed $625 million. At December 31, 2001, $204 million face amount of
commercial paper was outstanding, $168 million letters of credit were issued,
and there were no borrowings under the line of credit. A facility fee is
charged on the entire $625 million facility. The facility has no ratings-based
acceleration triggers which would require early repayment. In accordance with
the agreements, Torchmark is subject to certain covenants regarding
capitalization and earnings. At December 31, 2001, Torchmark was in full
compliance with these covenants.
Liquidity of the parent company is affected by the ability of the
subsidiaries to pay dividends. Dividends are paid by subsidiaries to the
parent in order to meet its dividend payments on common and preferred stock,
interest and principal repayment requirements on parent-company debt, and
operating expenses of the parent company. These requirements have declined in
both 2000 and 1999 from the respective prior year. Dividends from insurance
subsidiaries of Torchmark are limited to the greater of statutory net gain
from operations, excluding capital gains and losses, on an annual
noncumulative basis, or 10% of surplus, in the absence of special approval.
Distributions are not permitted in excess of statutory net worth. Subsidiaries
are also subject to certain minimum capital requirements. Although these
restrictions exist, dividend availability from subsidiaries has been and is
expected to be more than adequate for parent company operations. During the
year 2002, a maximum amount of $299 million is expected to be available to
Torchmark from insurance subsidiaries without regulatory approval.
Capital Resources. Torchmark's capital structure consists of long and short-
term debt, preferred securities, and shareholders' equity. Torchmark's debt
consists of its funded debt and its commercial paper facility. An analysis of
Torchmark's funded debt outstanding at year-ends 2001 and 2000 on the basis of
par value is as follows:
2001 2000
------------- -------------
Principal Principal
Year Amount Amount
Instrument Due Rate ($ thousands) ($ thousands)
---------- ---- ----- ------------- -------------
Senior Debentures..................... 2009 8 1/4 $ 99,450 $ 99,450
Notes................................. 2023 7 7/8 168,987 177,057
Notes................................. 2013 7 3/8 94,050 94,050
Senior Notes.......................... 2006 6 1/4 180,000 -0-
-------- --------
Total funded debt..................... $542,487 $370,557
======== ========
33
The carrying value of the funded debt was $536 million at December 31, 2001,
compared with $366 million a year earlier.
Torchmark issued $180 million principal amount of 6 1/4% Senior Notes in
December, 2001. These notes will mature on December 15, 2006 and may not be
redeemed prior to maturity. There is no sinking fund requirement. Interest is
payable semi-annually on June 15 and December 15. These notes are unsecured
and rank equally with Torchmark's other unsecured indebtedness. Proceeds from
the issuance, after underwriter's discount and expenses of the offering, were
approximately $178 million. Proceeds were used initially to pay down short-
term debt.
In connection with this issuance, Torchmark entered into a five-year swap
agreement with an unaffiliated party to swap the 6 1/4% fixed rate payment
obligation for a floating rate obligation. The floating rate is based on the
six-month LIBOR and resets every six months. At December 31, 2001, the
floating rate was 3.11%. This swap derivative qualifies as a hedge under
accounting rules. Therefore, changes in its market value will be substantially
offset by changes in the value of the debt security. Torchmark's derivative
instruments are classified as Other Invested Assets.
During 1999 and 2000, Torchmark acquired a portion of its funded debt in the
open market through its insurance subsidiaries. In 1999, $7.5 million
principal amount of its 7 7/8% Notes due 2023 was acquired at a cost of $7.9
million. Also in 1999, $4.0 million principal amount of its 7 3/8% Notes due
2013 was purchased for $4.1 million. Insurance company holdings in the funded
debt reduce consolidated debt outstanding.
In 2000, all of the debt previously acquired by insurance subsidiaries was
acquired from those subsidiaries by the parent company. Additionally, another
$4.6 million principal amount of the 7 7/8% Notes and $2.0 million principal
amount of the 7 3/8% Notes were acquired by Torchmark in 2000 at a cost of
$4.2 million and $1.9 million, respectively. The redemption of this debt in
2000 resulted in an after-tax gain of $202 thousand. In 2001, $8.1 million par
value of the 7 7/8% Notes was acquired by Torchmark at a cost of $8.3 million,
resulting in an after-tax loss of $277 thousand.
In November, 2001, Torchmark established two Capital Trusts which in turn
sold trust preferred securities in a public offering. Capital Trust I sold 5
million shares and Capital Trust II sold 1 million shares. The trust
preferreds sold in the two offerings have similar terms. Each offering
consisted of 7 3/4% trust preferreds at a liquidation amount of $25 per
security, resulting in an aggregate liquidation amount of $150 million. They
are redeemable at Torchmark's option in part or whole at any time on or after
November 2, 2006. They are subject to a mandatory redemption on November 1,
2041. Distributions are cumulative and are paid quarterly at an annual rate of
7 3/4%, or at a rate of $1.9375 per share. All payments by the Trusts
regarding the trust preferreds are guaranteed by Torchmark. The Capital Trusts
are wholly-owned consolidated subsidiaries of Torchmark.
The two offerings resulted in proceeds to the Capital Trusts of $145
million, after underwriters' discount and issue expenses. The Capital Trusts
in turn used the proceeds to buy 7 3/4% Junior Subordinated Debentures from
Torchmark in like amount. Torchmark used these proceeds to redeem its
remaining outstanding 9.18% MIPS in the approximate amount of $110 million,
with the remaining proceeds used to pay down short-term debt. The MIPS were
redeemed November 30, 2001.
In conjunction with the offering of the trust preferred securities,
Torchmark entered into a ten-year swap agreement to replace the 7 3/4% fixed
distribution obligation with a floating rate payment. The floating rate is
based on the three-month LIBOR and resets each quarter when the distributions
are made. At December 31, 2001, the variable rate was 4.10%. This swap
derivative does not qualify as a hedge for accounting purposes and will be
carried on the balance sheet at market value. At December 31, 2001, this swap
had no value.
The MIPS were originally issued in 1994 at a redemption amount of $200
million with a monthly dividend based on an annual rate of 9.18%. The MIPS
were redeemable at Torchmark's option at any time after September 30, 1999 at
the full redemption amount of $25 per share. Torchmark elected to redeem the
MIPS in full during 2001 in three transactions which resulted in an after-tax
loss on redemption of $4.3 million. Funds to repay $110 million of the
principal amount were derived from the issuance of the trust preferred
securities in November, 2001, while the remaining $90 million balance was
redeemed using corporate cash flow or by short-term borrowings earlier in the
year.
34
Torchmark has in place a swap agreement originally entered into when the
MIPS were issued to exchange a monthly fixed payment based on an annual rate
of 9.18% for a floating rate based on the one-month LIBOR rate on a notional
amount of $200 million. While the MIPS have been redeemed, the swap is still
in place and does not expire until September 30, 2004. At December 31, 2001,
Torchmark was obligated to pay at a floating rate of 3.47% on this agreement,
while collecting at a rate of 9.18%. Torchmark's after-tax earnings benefited
$4.6 million in 2001, $1.6 million in 2000, and $2.7 million in 1999 because
of this swap agreement.
Effective January 1, 1999, Torchmark changed its method of accounting for
the swap agreement on the MIPS to recognize changes in its fair value, net of
tax, as realized investment gains or losses. This method of accounting for
such instruments was believed to be preferable under the guidance established
by Statement of Financial Accounting Standards No. 80, Accounting for Futures
Contracts (SFAS 80) and the Securities and Exchange Commission. Previously,
Torchmark accounted for the swap using hedge accounting under SFAS 80. The
after-tax cumulative effect of the change at January 1, 1999 was a gain of
$16.1 million (net of income taxes of $8.7 million). The effect of the change
on the twelve months ended December 31, 1999 was to increase realized losses
by $11.7 million ($.09 per diluted share), excluding the cumulative effect of
the change in accounting principle. Market value of the swap, which is
included as a component of Other Invested Assets, was $19.2 million and $14.3
million at December 31, 2001 and 2000, respectively.
Short-term debt consists of Torchmark's commercial paper outstanding. The
commercial paper balance outstanding at December 31, 2001 was $204 million at
carrying value, compared with a balance of $329 million a year earlier. The
commercial paper borrowing balance fluctuates based on Torchmark's current
cash needs.
Total debt as a percentage of total capitalization was 21.9% at December 31,
2001. In the computation of this ratio, the preferred securities outstanding
are counted as equity and the effect of fluctuations in security values based
on changes in interest rates in financial markets are excluded. This debt-to-
capitalization ratio was 21.5% at year-end 2000 and 25.2% at year-end 1999.
The decline in the debt-to-capitalization ratio at year-end 2000 was caused
primarily by short-term debt paydowns. Torchmark's ratio of earnings before
interest, taxes and discontinued operations to interest requirements was 14.5
in 2001, compared with 11.3 in 2000 and 8.7 in 1999. Torchmark's interest
expense declined 18% to $44.5 million in 2001, primarily as a result of much
lower interest rates in financial markets and a reduction in average debt
outstanding. Interest expense rose 4% to $54.5 million in 2000. The increase
in 2000 was due primarily to an increase in short-term borrowing costs which
offset the lower amount of average debt outstanding.
Torchmark continues to make share purchases from time to time under its
share repurchase program in the open market when market conditions are
favorable. In 2001, Torchmark acquired 7.8 million shares on the open market
at a cost of $303 million. Torchmark purchased 6.1 million shares at a cost of
$147 million in 2000 and 6.7 million shares at a cost of $222 million in 1999.
Torchmark plans to continue to make share purchases when prices are
attractive. Share purchases could have a favorable impact on earnings per
share and return on equity but could cause a reduction in book value per
share.
In each of the years 2001, 2000 and 1999, Torchmark executed stock option
exercise and restoration programs in which Torchmark employees and directors
exercised vested stock options and received a reduced number of new options at
the current market price. While these programs resulted in the issuance of new
shares, a substantial portion of the new shares were sold immediately by the
participants in the open market to cover the cost of the purchased shares and
the related minimum taxes. As a result of these restoration programs,
management's ownership interest increased, and Torchmark received a
significant current tax benefit from the exercise of the options. The 2000
program was conducted for two executives not able to participate in the 1999
program. The following table presents key information about the programs.
August 9, December 20, November 15,
Exercise date 2001 2000 1999
- ------------- --------- ------------ ------------
Number of participants...................... 122 2 80
Shares issued (thousands)................... 3,976 433 1,762
Shares sold (thousands)..................... 3,347 283 1,236
New options (thousands)..................... 3,305 263 1,174
35
Shareholders' equity rose 13% to $2.50 billion at December 31, 2001.
Shareholders' equity increased 10% in 2000, from $1.99 billion at year-end
1999 to $2.20 billion at year-end 2000. Book value per share was $20.32 at
2001 year end, compared with $17.43 at year-end 2000. After adjusting for the
impact on shareholders' equity for security value fluctuations due to changes
in interest rates in financial markets, shareholders' equity rose from $2.15
billion at year-end 1999 to $2.34 billion at year-end 2000 to $2.50 billion at
year-end 2001. Book value per share was $20.32 at year-end 2001, an increase
of 10% over $18.53 at year-end 2000. Book value per share rose 14% in 2000
from $16.32 at year-end 1999. The increases in adjusted book value and book
value per share in each period resulted primarily from the addition of
earnings and were achieved in spite of the Torchmark share purchases of $303
million in 2001 and $147 million in 2000. Return on common shareholders'
equity was 16.1% in 2001, compared with 16.3% in 2000 and 16.2% in 1999. The
return-on-equity ratios exclude the mark up or down of shareholders' equity
for changes in security values caused by fluctuations in market interest
rates. They are also computed on a basis of net operating income before
nonrecurring charge, as defined on page 18 of this report.
Credit Ratings. Torchmark's debt instruments and capital securities are
rated as to quality by various rating agencies. The chart below presents
selected ratings as of December 31, 2001.
Standard A.M.
& Poors Fitch Moody's Best
-------- ----- ------- -----
Commercial Paper............................. A-1 F-1 P-2 AMB-1
Funded Debt.................................. A A+ Baa-1 a
Preferred Stock.............................. BBB+ A baa-2 a-
Torchmark's major insurance subsidiaries are also rated for financial
strength by Standard & Poors and A.M. Best. The following chart presents these
ratings for Torchmark's five largest insurance subsidiaries at December 31,
2001.
Standard A.M.
& Poors Best
-------- --------------
Liberty........................................... AA A+ (Superior)
Globe............................................. AA A+ (Superior)
United Investors.................................. AA A+ (Superior)
United American................................... AA A+ (Superior)
American Income................................... AA A (Excellent)
A.M. Best states that it assigns A+ (Superior) ratings to those companies
which, in its opinion, have demonstrated superior overall performance when
compared to the norms of the life/health insurance industry. A+ (Superior)
companies have a superior ability to meet their obligations to policyholders
over a long period of time. A.M. Best states that it assigns A (Excellent)
ratings to those companies which, in its opinion, have demonstrated excellent
overall performance when compared to the norms of the life/health insurance
industry. A (Excellent) companies have an excellent ability to meet their
obligations to policyholders over a long period of time.
The AA rating is assigned by Standard & Poor's Corporation to those
companies who offer excellent financial security on an absolute and relative
basis and whose capacity to meet policyholders obligations is overwhelming
under a variety of economic and underwriting conditions.
Contractual Commitments. A schedule of Torchmark's scheduled contractual
commitments at December 31, 2001 is as follows for the next five years.
($ millions)
-------------------------------
2002 2003 2004 2005 2006
------ ----- ----- ----- ------
Short-term debt.............................. $204.0 -- -- -- --
Long-term debt............................... -- -- -- -- $180.0
Preferred stock.............................. -- -- -- -- --
Interest (long-term debt)*................... 39.7 $39.7 $39.7 $39.7 39.2
Dividends on preferred stock*................ 11.6 11.6 11.6 11.6 11.6
Lease obligations............................ 2.0 1.4 .8 .5 .4
------ ----- ----- ----- ------
Total...................................... $257.3 $52.7 $52.1 $51.8 $231.2
====== ===== ===== ===== ======
- --------
* May be increased or reduced by the effect of interest-rate swaps.
36
OTHER ITEMS
Litigation. Torchmark and its subsidiaries continue to be named as parties
to pending or threatened litigation, most of which involves punitive damage
claims based upon allegations of agent misconduct at Liberty in Alabama. Such
punitive damage claims are tried in Alabama state courts where any punitive
damage litigation may have the potential for significant adverse results.
Bespeaking caution is the fact that it is impossible to predict the extent of
punitive damages that may be awarded if liability is found in any given case,
since punitive damages in Alabama are based upon the compensatory damages
(including mental anguish) awarded and the discretion of the jury in awarding
compensatory damages is not precisely defined. It is thus difficult to predict
with certainty the liability of Torchmark or its subsidiaries in any given
case because of the unpredictable nature of this type of litigation. Based
upon information presently available, and in light of legal and other factual
defenses available to Torchmark and its subsidiaries, contingent liabilities
arising from threatened and pending litigation are not presently considered by
management to be material. For more information concerning litigation, please
refer to Note 18--Commitments and Contingencies in the Notes to Consolidated
Financial Statements beginning on page 74.
TRANSACTIONS WITH RELATED PARTIES
First Command. Lamar C. Smith, elected a director of Torchmark in October
1999, is an officer, director and 15% owner of First Command Financial
Services, Inc. (First Command), which receives commissions as the Military
Agency distribution system for selling certain life insurance products offered
by Torchmark's insurance subsidiaries. These commissions were $48.2 million in
2001, $43.5 million in 2000, and $39.2 million in 1999.
During 2001, Torchmark entered into a coinsurance agreement with First
Command whereby Torchmark cedes back to First Command approximately 5% of the
new life insurance business sold by First Command on behalf of Torchmark's
insurance subsidiaries. Under the terms of this agreement, First Command pays
Torchmark expense allowances equal to 5.5% of all premium collected and an
additional 2.9% of first year premium. First Command reimburses Torchmark for
premium taxes. Also under the agreement, Torchmark provides First Command
certain administrative, accounting, and investment management services.
Premium ceded in 2001 was $108 thousand. At December 31, 2001, life insurance
ceded was $47 million and annualized ceded premium was $398 thousand.
Torchmark has entered into two loan agreements with First Command, a
construction loan agreement and a collateral loan agreement. The construction
loan was entered into in 2001 and had an outstanding balance of $6.1 million
at December 31, 2001. The loan was made at a rate of 7.55% and is
collateralized by the construction of a four-story building in Fort Worth,
Texas to be completed in late 2002. In addition to the office building as
collateral, in the event of default, Torchmark has the right of offset to any
commission due First Command. The maximum amount of borrowing allowed on this
loan is $22.5 million. Interest is added to the loan balance until the
building is completed. The agreement calls for Torchmark to permanently
finance the building with a fifteen-year mortgage at a rate of 2.25% over the
ten year treasury rate at inception, but not less than 7%.
The collateral loan agreement was entered into in 1998 with an initial loan
of $7 million. An additional $15 million was loaned in 2001. The loan bears
interest at a rate of 7%. It is collateralized by a group of mutual funds in
which the loan balance can never exceed 90% of the value of the collateral.
The loan accumulated interest until December 31, 2001, after which it is to be
repaid with a fixed payment amortizing the loan over fifteen years. The
outstanding loan balance at December 31, 2001 was $22.9 million.
Real Estate. As discussed under the caption Investments on page 29 of this
report, Torchmark decided to divest itself of its real estate operations
because yields that could be obtained on alternative investments were
significantly greater. During 1998 and early 1999, efforts were made to market
these properties, and as a result, the majority of its properties were
disposed of in two transactions in 1999. One of these transactions involved
Elgin Development Company, of which R. K. Richey, the Chairman of the
Executive Committee of Torchmark, was an investor. This transaction involved
the sale of properties to an investor group of which Elgin Development Company
was a 30% investor. Total consideration for the transaction was $97.4 million
of which $85 million was cash and the balance was in a ten year collateralized
8% note from Elgin Development Company. Torchmark's loss associated with this
37
transaction was $10 million after tax. At the time of the transaction, Mr.
Richey was a one-third investor in Elgin Development Company. His total
investment in Elgin Development was approximately $1.5 million. The
outstanding balance of the collateralized note with Elgin Development Company,
which is included in fixed maturities, was $10.5 million at December 31, 2001.
At the present time, Mr. Richey is a 25% investor in Stonegate Realty
Company, LLC, the parent company of Elgin Development Company which in turn is
a 50% owner of Commercial Real Estate Services. Commercial Real Estate
Services manages certain of Torchmark's company-occupied and investment real
estate properties along with those of other clients. Fees paid by Torchmark
subsidiaries for these management and maintenance services were $757 thousand
in 2001 and $750 thousand in 2000. Lease rentals paid by Torchmark
subsidiaries were $261 thousand and $260 thousand in 2001 and 2000,
respectively.
MidFirst Bank. Torchmark has engaged MidFirst Bank as the servicing agent
for a portion of Torchmark's subsidiaries' commercial mortgages portfolios.
George J. Records is an officer, director, and 38.3% beneficial owner of
Midland Financial Co., the parent corporation of MidFirst Bank. He is also a
director of Torchmark. Fees paid for these services were $109 thousand in
2001, $106 thousand in 2000, and $72 thousand in 1999.
Baxley. William J. Baxley is a partner in the law firm of Baxley, Dillard,
Dauphin & McKnight which performs legal services for Torchmark and certain of
its subsidiaries. In 1997, Mr. Baxley was loaned $668 thousand on an unsecured
basis at a rate of 6.02%. Repayments were to be made in the form of legal
services at customary rates to be applied against the outstanding balance
which would amortize the loan with interest over nine years. In October, 2001,
the terms of the loan were revised and an additional amount of $395 thousand
was loaned to Baxley. The interest rate was revised to 5.6% and the term of
the loan was extended until July, 2013. At December 31, 2001, the outstanding
balance of this loan was $788 thousand.
Additionally, Liberty loaned Mr. Baxley's wife $883 thousand secured by a
mortgage on a building sold to her in 1997. Interest is charged at a rate of
7.7%. Scheduled cash payments are made to Liberty to amortize the loan over
thirty years. However, there is a balloon payment due at the end of ten years
(2007) in the amount of $712 thousand less a credit of $18 thousand if all
payments are made timely. To date, all payments have been timely. At December
31, 2001, the outstanding balance of this loan was $824 thousand.
Torchmark customarily grants options to certain consultants for their
services in addition to their fees. Mr. Baxley has received Torchmark options
in the past.
NEW ACCOUNTING RULES
Business Combinations (Statement of Financial Accounting Standards (SFAS)
No. 141) was effective on July 1, 2001. It requires that the purchase method
of accounting be used for all business combinations initiated after June 30,
2001. Use of the pooling-of-interests method is prohibited. To date, Torchmark
has had no business combinations subject to SFAS No. 141.
Goodwill and Other Intangible Assets (SFAS No. 142) changes the way business
combinations and goodwill are accounted for. SFAS No. 142 changes the
accounting for goodwill and certain other intangible assets from an
amortization method to an impairment method. Accordingly, amortization of
goodwill, including goodwill recorded in past business combinations, will
cease upon adoption of that Statement. Goodwill will be tested annually for
impairment based on the specific requirements outlined by SFAS No. 142.
Torchmark adopted SFAS No. 142 on January 1, 2002. While Torchmark is
currently assessing the impact of SFAS No. 142 on its financial statements, it
does not appear that goodwill is impaired. At December 31, 2001, Torchmark's
goodwill was $378 million and annual goodwill amortization expense was
approximately $12 million. The goodwill balance will be frozen and not
amortized. Torchmark's insurance intangibles are subject to recoverability
testing under previously issued accounting rules. There are no other
significant intangible assets.
Accounting for the Impairment of Disposal of Long-Lived Assets (SFAS No.
144) is effective for Torchmark beginning January 1, 2002. It requires one
accounting model be used for long-lived assets to be disposed of and broadens
the presentation of discontinued operations to include more disposal
transactions. It retains previous requirements regarding the impairment of
long-lived assets. It is not anticipated that this Statement will have a
material impact on Torchmark.
38
CRITICAL ACCOUNTING POLICIES
Future Policy Benefits. Because of the long-term nature of insurance
contracts, Torchmark's insurance companies are liable for policy benefit
payments many years into the future. The liability for future policy benefits
represents estimates of the present value of Torchmark's insurance
subsidiaries' expected benefit payments, net of the related present value of
future net premium collections. It is determined by standard actuarial
procedures, using assumptions as to mortality (life expectancy), morbidity
(health expectancy), persistency, and interest rates, which are based on
Torchmark's subsidiaries' previous experience with similar products. For the
majority of Torchmark's insurance products, the assumptions used were those
considered to be appropriate at the time the policies were issued. An
additional provision is made on most products to allow for possible adverse
deviation from the assumptions assumed. For insurance products considered to
be interest-sensitive or deposit-balance type products, the assumptions are
monitored on a regular basis and modified when it is determined that actual
experience is different from that previously assumed. While management and
company actuaries have used their best judgment in determining the assumptions
and in calculating the liability for future policy benefits, there is no
assurance that the estimate of the liabilities reflected in the financial
statements represents Torchmark's ultimate obligation. Additionally,
significantly different assumptions could result in materially different
reported amounts. A complete list of the assumptions used to calculate the
liability for future policy benefits is reported in Note 7--Future Policy
Benefits Reserves in the Notes to Consolidated Financial Statements found on
page 59 of this report.
Deferred Acquisition Costs and Value of Insurance Purchased. The costs of
acquiring new business are generally deferred and recorded as an asset on the
balance sheet. Deferred acquisition costs consist primarily of sales
commissions and the other underwriting costs of new insurance sales.
Additionally, the costs of acquiring blocks of insurance from other companies
or through the acquisition of other companies are also deferred and recorded
as assets under the caption "Value of Insurance Purchased." Deferred
acquisition costs are amortized with interest in a systematic manner which
matches these costs against the associated revenues. The assumptions used to
amortize acquisition costs with regard to interest, mortality, morbidity, and
persistency are consistent with those used to estimate the liability for
future policy benefits. For interest-sensitive and deposit-balance type
products, these assumptions are reviewed on a regular basis and are revised if
actual experience differs significantly from original expectations. Deferred
acquisition costs are subject to periodic recoverability and loss recognition
testing. These tests ensure that the present value of future contract-related
cash flows will support the capitalized deferred acquisition cost balance.
These cash flows consist primarily of premium income, less maintenance
expenses taking inflation into account. The present value of these cash flows,
less the benefit reserve, is then compared with the unamortized deferred
acquisition cost balance. In the event the asset balance is greater, this
deficiency is charged to expense as a component of amortization and the asset
balance is reduced to the recoverable amount. For more information about
accounting for deferred acquisition costs see Note 1--Significant Accounting
Policies and Note 5--Deferred Acquisition Costs in the Notes to Consolidated
Financial Statements on pages 51 and 58 of this report, respectively.
Policy Claims and Other Benefits Payable. This liability consists of known
benefits currently payable and an estimate of claims currently expected to be
payable but which have not been submitted. The estimate of unsubmitted claims
is based on prior experience. Torchmark management makes an estimate after
careful evaluation of all information available to the company. However, there
is no certainty the stated liability for claims and other benefits, including
the estimate of unsubmitted claims, will be Torchmark's ultimate obligations.
Revenue Recognition. Premium income for Torchmark's subsidiaries' insurance
contracts is generally recognized as the premium is collected. However, in
accordance with generally accepted accounting principles, revenue on limited-
payment contracts and universal life-type contracts (deposit balance products)
are recognized differently. Revenues on limited-payment contracts are
recognized over the contract period. Premium for deposit balance products,
such as Torchmark's annuity and interest-sensitive life policies, is added to
the policy account value. The policy account value (or deposit balance) is a
Torchmark liability. This deposit balance is then charged a fee for the cost
of insurance, administration, surrender, and certain other charges which are
recognized as revenue in the period the fees are charged to the policyholder.
In each case, benefits and expenses are matched against revenues in a manner
by which they are incurred as the revenues are earned.
39
Investment income is reported as revenue by Torchmark when it is earned less
investment expenses. The investment activities of Torchmark are integral to
its insurance operations. Because life and health insurance claims and
benefits may not be paid until many years into the future, the accumulation of
cash flows from premium receipts are invested. Anticipated yields earned on
investments are reflected in premium rates, contract liabilities, and other
product contract features. These yield assumptions are implied in the interest
required on Torchmark's net insurance liabilities (future policy benefits less
deferred acquisition costs) and contractual interest obligations in its
insurance and annuity products. Torchmark benefits to the extent actual net
investment income exceeds the required interest on net insurance liabilities
and the interest on its debt. During 2001, the yield on the investment
portfolio exceeded the weighted-average contractual interest requirement by
125 basis points. Torchmark will continue to be required to provide for future
contractual obligations in the event of a decline in investment yield. For
more information concerning revenue recognition, investment accounting, and
interest sensitivity, please refer to Note 1--Significant Accounting Policies
on page 50, Note 3--Investments beginning on page 54 in the Notes to
Consolidated Financial Statements and discussions under the captions Annuities
on page 27, Investments on page 29, and Market Risk Sensitivity on page 31 of
this report.
40
Item 8. Financial Statements and Supplementary Data
Page
----
Independent Auditors' Reports............................................. 42
Consolidated Financial Statements:
Consolidated Balance Sheet at December 31, 2001 and 2000................. 43
Consolidated Statement of Operations for each of the years in the three-
year period ended December 31, 2001..................................... 44
Consolidated Statement of Comprehensive Income for each of the years in
the three-year period ended December 31, 2001........................... 46
Consolidated Statement of Shareholders' Equity for each of the years in
the three-year period ended December 31, 2001........................... 47
Consolidated Statement of Cash Flow for each of the years in the three-
year period ended December 31, 2001..................................... 48
Notes to Consolidated Financial Statements............................... 50
41
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Shareholders of
Torchmark Corporation
Birmingham, Alabama
We have audited the accompanying consolidated balance sheets of Torchmark
Corporation and subsidiaries as of December 31, 2001 and 2000, and the related
consolidated statements of operations, comprehensive income, shareholders'
equity, and cash flow for each of the three years in the period ended December
31, 2001. Our audits also included the financial statement schedules listed in
the Index at Item 14. These financial statements and financial statement
schedules are the responsibility of Torchmark's management. Our responsibility
is to express an opinion on the financial statements and financial statement
schedules based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial position of Torchmark Corporation and
subsidiaries as of December 31, 2001 and 2000, and the results of their
operations and their cash flows for each of the three years in the period
ended December 31, 2001 in conformity with accounting principles generally
accepted in the United States of America. Also, in our opinion, such financial
statement schedules, when considered in relation to the basic consolidated
financial statements taken as a whole, present fairly in all material respects
the information set forth therein.
DELOITTE & TOUCHE LLP
Dallas, Texas
January 31, 2002
42
TORCHMARK CORPORATION
CONSOLIDATED BALANCE SHEET
(Dollar amounts in thousands except per share data)
December 31,
------------------------
2001 2000
----------- -----------
Assets:
Investments:
Fixed maturities--available for sale, at fair value
(amortized cost: 2001-- $6,528,244; 2000--
$6,185,500) ...................................... $ 6,526,429 $ 5,949,515
Equity securities, at fair value (cost: 2001 and
2000--$666)....................................... 571 543
Mortgage loans on real estate, at cost (estimated
fair value: 2001--$111,047; 2000--$118,756)....... 112,135 118,642
Investment real estate, at cost (less allowance for
depreciation: 2001--$19,669; 2000--$20,024)....... 14,133 15,483
Policy loans....................................... 266,979 255,320
Other long-term investments........................ 49,971 31,154
Short-term investments............................. 134,156 100,546
----------- -----------
Total investments................................. 7,104,374 6,471,203
Cash ............................................... 3,714 35,089
Accrued investment income........................... 125,210 119,124
Other receivables................................... 67,549 74,960
Deferred acquisition costs.......................... 2,066,423 1,942,161
Value of insurance purchased........................ 115,939 133,158
Property and equipment, net of accumulated
depreciation....................................... 36,137 38,694
Goodwill............................................ 378,436 390,509
Other assets........................................ 28,087 16,245
Separate account assets............................. 2,502,284 3,741,415
----------- -----------
Total assets...................................... $12,428,153 $12,962,558
=========== ===========
Liabilities:
Future policy benefits.............................. $ 5,348,929 $ 5,111,730
Unearned and advance premiums....................... 93,624 90,310
Policy claims and other benefits payable............ 248,333 240,421
Other policyholders' funds.......................... 80,929 80,555
----------- -----------
Total policy liabilities.......................... 5,771,815 5,523,016
Deferred and accrued income taxes................... 580,287 423,327
Other liabilities................................... 191,894 183,908
Short-term debt..................................... 204,037 329,148
Long-term debt (estimated fair value: 2001--
$543,275; 2000--$362,276).......................... 536,152 365,989
Separate account liabilities........................ 2,502,284 3,741,415
----------- -----------
Total liabilities................................. 9,786,469 10,566,803
Monthly income preferred securities
(estimated fair value: 2000--$202,000).............. -0- 193,395
Trust preferred securities (estimated fair value:
2001--$150,660)..................................... 144,557 -0-
Shareholders' equity:
Preferred stock, par value $1 per share--Authorized
5,000,000 shares; outstanding: -0- in 2001 and in
2000............................................... -0- -0-
Common stock, par value $1 per share--Authorized
320,000,000 shares; outstanding: (2001--126,800,908
issued, less 3,913,142 held in treasury and 2000--
147,800,908 issued, less 21,411,898 held in
treasury) ......................................... 126,801 147,801
Additional paid-in capital.......................... 552,634 626,530
Accumulated other comprehensive income (loss)....... (12,314) (148,406)
Retained earnings................................... 1,978,903 2,220,671
Treasury stock...................................... (148,897) (644,236)
----------- -----------
Total shareholders' equity........................ 2,497,127 2,202,360
----------- -----------
Total liabilities and shareholders' equity........ $12,428,153 $12,962,558
=========== ===========
See accompanying Notes to Consolidated Financial Statements.
43
TORCHMARK CORPORATION
CONSOLIDATED STATEMENT OF OPERATIONS
(Amounts in thousands except per share data)
Year Ended December 31,
----------------------------------
2001 2000 1999
---------- ---------- ----------
Revenue:
Life premium.............................. $1,144,499 $1,082,125 $1,018,301
Health premium............................ 1,010,753 911,156 824,816
Other premium............................. 59,917 52,929 40,969
---------- ---------- ----------
Total premium........................... 2,215,169 2,046,210 1,884,086
Net investment income..................... 491,830 472,426 447,337
Realized investment losses................ (2,432) (5,322) (110,971)
Other income.............................. 2,475 2,580 6,443
---------- ---------- ----------
Total revenue........................... 2,707,042 2,515,894 2,226,895
Benefits and expenses:
Life policyholder benefits................ 754,193 711,833 666,122
Health policyholder benefits.............. 663,908 591,022 535,901
Other policyholder benefits............... 36,535 36,627 34,524
---------- ---------- ----------
Total policyholder benefits............. 1,454,636 1,339,482 1,236,547
Amortization of deferred acquisition
costs.................................... 301,793 274,837 247,800
Commissions and premium taxes............. 163,461 150,869 160,655
Other operating expense................... 129,142 121,186 115,069
Amortization of goodwill.................. 12,075 12,075 12,075
Interest expense.......................... 44,506 54,487 52,341
---------- ---------- ----------
Total benefits and expenses............. 2,105,613 1,952,936 1,824,487
Income from continuing operations before
income taxes and preferred securities
dividends................................. 601,429 562,958 402,408
Income taxes............................... (205,967) (190,841) (134,320)
Preferred securities dividends (net of
tax)...................................... (4,532) (10,284) (9,158)
---------- ---------- ----------
Net income from continuing operations... 390,930 361,833 258,930
Discontinued operations:
Loss on disposal of Waddell & Reed (less
applicable income tax benefit of $571)... -0- -0- (1,060)
Loss on disposal of energy operations
(less applicable income tax benefit of
$1,766).................................. (3,280) -0- -0-
---------- ---------- ----------
Net income before extraordinary item and
cumulative effect of change in
accounting principle................... 387,650 361,833 257,870
Gain (loss) on redemption of debt (less
applicable income tax benefit of $148 in
2001 and net of income tax expense of $109
in 2000) ................................. (277) 202 -0-
Loss on redemption of monthly income
preferred securities (less applicable
income tax benefit of $2,303)............. (4,276) -0- -0-
---------- ---------- ----------
Net income before cumulative effect of
change in accounting principle......... 383,097 362,035 257,870
Cumulative effect of change in accounting
principle (less applicable income tax
benefit of $14,314 in 2001 and net of
income tax expense of $8,661 in 1999)..... (26,584) -0- 16,086
---------- ---------- ----------
Net income.............................. $ 356,513 $ 362,035 $ 273,956
========== ========== ==========
(Continued)
See accompanying Notes to Consolidated Financial Statements.
44
TORCHMARK CORPORATION
CONSOLIDATED STATEMENT OF OPERATIONS--(Continued)
(Amounts in thousands except per share data)
Year Ended
December 31,
------------------
2001 2000 1999
----- ----- -----
Basic net income per share:
Continuing operations..................................... $3.12 $2.83 $1.95
Discontinued operations:
Loss on disposal (net of tax)............................ (.02) -0- (.01)
----- ----- -----
Net income before extraordinary item and cumulative effect
of change in accounting principle........................ 3.10 2.83 1.94
Loss on redemption of monthly income preferred securities
(net of tax)............................................ (.04) -0- -0-
----- ----- -----
Net income before cumulative effect of change in
accounting principle..................................... 3.06 2.83 1.94
Cumulative effect of change in accounting principle (net
of tax)................................................. (.21) -0- .12
----- ----- -----
Net income.............................................. $2.85 $2.83 $2.06
===== ===== =====
Diluted net income per share:
Continuing operations..................................... $3.11 $2.82 $1.93
Discontinued operations:
Loss on disposal (net of tax)............................ (.03) -0- (.01)
----- ----- -----
Net income before extraordinary item and cumulative effect
of change in accounting principle........................ 3.08 2.82 1.92
Loss on redemption of monthly income preferred securities
(net of tax)............................................ (.04) -0- -0-
----- ----- -----
Net income before cumulative effect of change in
accounting principle..................................... 3.04 2.82 1.92
Cumulative effect of change in accounting principle (net
of tax)................................................. (.21) -0- .12
----- ----- -----
Net income.............................................. $2.83 $2.82 $2.04
===== ===== =====
See accompanying Notes to Consolidated Financial Statements.
45
TORCHMARK CORPORATION
CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME
(Amounts in thousands)
Year Ended December 31,
----------------------------
2001 2000 1999
-------- -------- ---------
Net income....................................... $356,513 $362,035 $ 273,956
Other comprehensive income:
Unrealized investment gains (losses):
Unrealized gains (losses) on securities:
Unrealized holding gains (losses) arising
during period............................... 190,627 36,875 (568,398)
Reclassification adjustment for (gains)
losses on securities included in net income. 6,941 12,089 29,930
Reclassification adjustment for change in
accounting principle........................ 40,899 -0- -0-
Reclassification adjustment for amortization
of (discount) and premium................... (6,988) (3,710) (1,266)
Foreign exchange adjustment on securities
marked to market............................ 2,525 1,333 (1,159)
-------- -------- ---------
Unrealized gains (losses) on securities....... 234,004 46,587 (540,893)
Unrealized gains (losses) on other
investments.................................. (360) 922 81
Unrealized gains (losses) on deferred
acquisition costs............................ (20,444) (5,340) 48,380
-------- -------- ---------
Total unrealized investment gains (losses)... 213,200 42,169 (492,432)
Applicable tax............................... (74,621) (14,764) 171,760
-------- -------- ---------
Unrealized investment gains (losses), net of
tax........................................... 138,579 27,405 (320,672)
Foreign exchange translation adjustments, other
than securities............................... (2,487) (1,589) 1,949
Applicable tax............................... -0- -0- -0-
-------- -------- ---------
Foreign exchange translation adjustments, net
of tax........................................ (2,487) (1,589) 1,949
Other comprehensive income (loss)................ 136,092 25,816 (318,723)
-------- -------- ---------
Comprehensive income (loss).................. $492,605 $387,851 $ (44,767)
======== ======== =========
See accompanying Notes to Consolidated Financial Statements.
46
TORCHMARK CORPORATION
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
(Amounts in thousands except per share data)
Accumulated
Additional Other Total
Preferred Common Paid-in Comprehensive Retained Treasury Shareholders'
Stock Stock Capital Income (Loss) Earnings Stock Equity
--------- --------- ---------- ------------- ----------- ---------- -------------
Year Ended December 31,
1999
- -----------------------
Balance at January 1,
1999.................. $ -0- $ 147,801 $ 610,925 $ 144,501 $ 1,707,933 $ (351,632) $ 2,259,528
Comprehensive loss...... (318,723) 273,956 (44,767)
Common dividends
declared ($0.36 a
share)................. (47,739) (47,739)
Acquisition of treasury
stock--
common................. (221,878) (221,878)
Grant of deferred stock
options................ 482 482
Lapse of restricted
stock grant............ 364 (364) -0-
Value of restricted
stock grants and
options................ 797 797
Exercise of stock
options................ 9,750 (23,663) 60,827 46,914
----- --------- --------- --------- ----------- ---------- -----------
Balance at December 31,
1999.................. -0- 147,801 622,318 (174,222) 1,910,487 (513,047) 1,993,337
Year Ended December 31,
2000
- -----------------------
Comprehensive income.... 25,816 362,035 387,851
Common dividends
declared ($0.36 a
share)................. (45,917) (45,917)
Acquisition of treasury
stock--
common................. (147,008) (147,008)
Grant of deferred stock
options................ 374 374
Value of restricted
stock grants and
options................ 675 675
Exercise of stock
options................ 3,163 (5,934) 15,819 13,048
----- --------- --------- --------- ----------- ---------- -----------
Balance at December 31,
2000.................. -0- 147,801 626,530 (148,406) 2,220,671 (644,236) 2,202,360
Year Ended December 31,
2001
- -----------------------
Comprehensive income.... 136,092 356,513 492,605
Common dividends
declared ($0.36 a
share)................. (44,873) (44,873)
Acquisition of treasury
stock--
common................. (303,085) (303,085)
Grant of deferred stock
options................ 526 526
Value of restricted
stock grants and
options................ 701 701
Exercise of stock
options................ 13,958 (26,355) 161,290 148,893
Retirement of treasury
stock.................. (21,000) (89,081) (527,053) 637,134 -0-
----- --------- --------- --------- ----------- ---------- -----------
Balance at December 31,
2001.................. $ -0- $ 126,801 $552,634 $(12,314) $ 1,978,903 $ (148,897) $ 2,497,127
===== ========= ========= ========= =========== ========== ===========
See accompanying Notes to Consolidated Financial Statements.
47
TORCHMARK CORPORATION
CONSOLIDATED STATEMENT OF CASH FLOW
(Amounts in thousands)
Year Ended December 31,
----------------------------
2001 2000 1999
--------- -------- --------
Net income....................................... $ 356,513 $362,035 $273,956
Adjustments to reconcile net income to cash
provided from operations:
Increase in future policy benefits............. 263,837 231,973 206,724
Increase in other policy benefits.............. 11,600 28,100 20,730
Deferral of policy acquisition costs........... (429,280) (462,174) (419,590)
Amortization of deferred policy acquisition
costs......................................... 301,793 274,837 247,800
Change in deferred and accrued income taxes.... 82,141 98,028 (30,434)
Depreciation................................... 5,822 6,859 8,840
Realized losses on sale of investments,
subsidiaries, and properties.................. 2,432 5,322 110,971
Change in accounts payable and other
liabilities................................... 8,152 5,206 43,930
Change in receivables.......................... (3,761) (18,333) 70,119
Other accruals and adjustments................. 22,265 921 3,314
Change in accounting principle................. 40,899 -0- (24,747)
--------- -------- --------
Cash provided from operations.................. $ 662,413 $532,774 $511,613
========= ======== ========
(Continued)
See accompanying Notes to Consolidated Financial Statements.
48
TORCHMARK CORPORATION
CONSOLIDATED STATEMENT OF CASH FLOW--(Continued)
(Amounts in thousands)
Year Ended December 31,
-----------------------------------
2001 2000 1999
---------- ---------- -----------
Cash provided from operations............. $ 662,413 $ 532,774 $ 511,613
Cash provided from (used for) investment
activities:
Investments sold or matured:
Fixed maturities available for sale--
sold................................... 880,929 629,111 1,240,652
Fixed maturities available for sale--
matured, called, and repaid............ 263,295 226,314 413,264
Equity securities....................... -0- 39,693 260
Mortgage loans.......................... 12,240 1,347 26,496
Real estate............................. 731 2,471 124,173
Other long-term investments............. 1,996 109 11,338
---------- ---------- -----------
Total investments sold or matured..... 1,159,191 899,045 1,816,183
Acquisition of investments:
Fixed maturities--available for sale.... (1,532,344) (1,099,179) (2,118,362)
Equity securities....................... -0- -0- (3,400)
Mortgage loans.......................... (6,181) (25,372) (5,421)
Real estate............................. (464) (1,398) (29,639)
Net increase in policy loans............ (11,659) (10,713) (10,842)
Other long-term investments............. (15,180) (547) (10,949)
---------- ---------- -----------
Total investments acquired............ (1,565,828) (1,137,209) (2,178,613)
Net (increase) decrease in short-term
investments............................. (33,581) (302) (24,343)
Dispositions of properties............... 1,159 1,266 8,091
Additions to properties.................. (3,692) (6,508) (8,494)
---------- ---------- -----------
Cash used for investment activities....... (442,751) (243,708) (387,176)
Cash provided from (used for) financing
activities:
Issuance of common stock................. 135,003 9,886 37,164
Issuance of 6.25% senior notes........... 177,771 -0- -0-
Additions to debt........................ -0- -0- 63,152
Cash dividends paid to shareholders...... (45,188) (46,422) (48,175)
Repayments of debt....................... (133,454) (95,390) (12,129)
Acquisition of treasury stock............ (303,085) (147,008) (221,878)
Redemption of monthly income preferred
securities.............................. (200,000) -0- -0-
Issuance of trust preferred securities... 144,554 -0- -0-
Net receipts (payments) from deposit
product operations...................... (26,638) 10,516 66,950
---------- ---------- -----------
Cash provided from (used for) financing
activities............................... (251,037) (268,418) (114,916)
Increase (decrease) in cash.............. (31,375) 20,648 9,521
Cash at beginning of year................ 35,089 14,441 4,920
---------- ---------- -----------
Cash at end of year...................... $ 3,714 $ 35,089 $ 14,441
========== ========== ===========
See accompanying Notes to Consolidated Financial Statements.
49
TORCHMARK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar amounts in thousands except per share data)
Note 1--Significant Accounting Policies
Business: Torchmark Corporation (Torchmark) through its subsidiaries
provides a variety of life and health insurance products and annuities to a
broad base of customers.
Basis of Presentation: The accompanying financial statements have been
prepared in conformity with accounting principles generally accepted in the
United States of America (GAAP). The preparation of financial statements in
conformity with GAAP requires management to make estimates and assumptions
that affect the reported amounts of 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.
Principles of Consolidation: The financial statements include the results of
Torchmark and its wholly-owned subsidiaries. Subsidiaries which are not
majority-owned are reported on the equity method. All significant intercompany
accounts and transactions have been eliminated in consolidation.
Investments: Torchmark classifies all of its fixed maturity investments,
which include bonds and redeemable preferred stocks, as available for sale.
Investments classified as available for sale are carried at fair value with
unrealized gains and losses, net of deferred taxes, reflected directly in
other accumulated comprehensive income. Investments in equity securities,
which include common and nonredeemable preferred stocks, are reported at fair
value with unrealized gains and losses, net of deferred taxes, reflected
directly in other accumulated comprehensive income. Policy loans are carried
at unpaid principal balances. Mortgage loans are carried at amortized cost.
Investments in real estate are reported at cost less allowances for
depreciation, which are calculated on the straight line method. Short-term
investments include investments in certificates of deposit and other interest-
bearing time deposits with original maturities within twelve months. If an
investment becomes permanently impaired, such impairment is treated as a
realized loss and the investment is adjusted to fair market value.
Gains and losses realized on the disposition of investments are recognized
as revenues and are determined on a specific identification basis.
Realized investment gains and losses and investment income attributable to
separate accounts are credited to the separate accounts and have no effect on
Torchmark's net income. Investment income attributable to all other insurance
policies and products is included in Torchmark's net investment income. Net
investment income for the years ended December 31, 2001, 2000, and 1999,
included $321 million, $305 million, and $288 million, respectively, which was
allocable to policyholder reserves or accounts. Realized investment gains and
losses are not allocable to insurance policyholders' liabilities.
Determination of Fair Values of Financial Instruments: Fair value for cash,
short-term investments, short-term debt, receivables and payables approximates
carrying value. Fair values for investment securities are based on quoted
market prices, where available. Otherwise, fair values are based on quoted
market prices of comparable instruments. Mortgages are valued using discounted
cash flows. Substantially all of Torchmark's long-term debt, along with the
monthly income preferred securities and trust preferred securities, is valued
based on quoted market prices.
Cash: Cash consists of balances on hand and on deposit in banks and
financial institutions. Overdrafts arising from the overnight investment of
funds offset cash balances on hand and on deposit.
Recognition of Premium Revenue and Related Expenses: Premiums for insurance
contracts which are not defined as universal life-type according to Statement
of Financial Accounting Standards (SFAS) No. 97 are recognized as revenue over
the premium-paying period of the policy. Profits for limited-payment life
insurance contracts as defined by SFAS 97 are recognized over the contract
period. Premiums for universal life-type and annuity contracts are added to
the policy account value, and revenues for such products are recognized as
charges to the policy account value for mortality, administration, and
surrenders (retrospective deposit method). Variable annuity products are also
assessed an investment management fee and a sales charge. Life premium
includes policy charges of $71.3 million, $71.4 million, and $71.9 million for
the years ended December 31, 2001, 2000, and 1999, respectively. Other premium
includes annuity policy charges for the years ended December 31, 2001,
50
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 1--Significant Accounting Policies (continued)
2000, and 1999, of $59.5 million, $52.2 million, and $40.5 million,
respectively. Profits are also earned to the extent that investment income
exceeds policy requirements. The related benefits and expenses are matched
with revenues by means of the provision of future policy benefits and the
amortization of deferred acquisition costs in a manner which recognizes
profits as they are earned over the same period.
Future Policy Benefits: The liability for future policy benefits for
universal life-type products according to SFAS 97 is represented by policy
account value. The liability for future policy benefits for all other life and
health products is provided on the net level premium method based on estimated
investment yields, mortality, morbidity, persistency and other assumptions
which were appropriate at the time the policies were issued. Assumptions used
are based on Torchmark's experience as adjusted to provide for possible
adverse deviation. These estimates are periodically reviewed and compared with
actual experience. If it is determined future experience will probably differ
significantly from that previously assumed, the estimates are revised.
Deferred Acquisition Costs and Value of Insurance Purchased: The costs of
acquiring new insurance business are deferred. Such costs consist of sales
commissions, underwriting expenses, and certain other selling expenses. The
costs of acquiring new business through the purchase of other companies and
blocks of insurance business are also deferred.
Deferred acquisition costs, including the value of life insurance purchased,
for policies other than universal life-type policies, are amortized with
interest over the estimated premium-paying period of the policies in a manner
which charges each year's operations in proportion to the receipt of premium
income. For limited-payment contracts, acquisition costs are amortized over
the contract period. For universal life-type policies, acquisition costs are
amortized with interest in proportion to estimated gross profits. The
assumptions used as to interest, persistency, morbidity and mortality are
consistent with those used in computing the liability for future policy
benefits and expenses. If it is determined that future experience will
probably differ significantly from that previously assumed, the estimates are
revised. Deferred acquisition costs are adjusted to reflect the amounts
associated with realized and unrealized investment gains and losses pertaining
to universal life-type products.
Income Taxes: Income taxes are accounted for under the asset and liability
method. Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement book
values and tax bases of assets and liabilities. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period that includes the
enactment date.
Property and Equipment: Property and equipment is reported at cost less
allowances for depreciation. Depreciation is recorded primarily on the
straight line method over the estimated useful lives of these assets which
range from two to ten years for equipment and five to forty years for
buildings and improvements. Ordinary maintenance and repairs are charged to
income as incurred.
Impairments: Torchmark accounts for impairments in accordance with the
provisions of SFAS 121, Accounting for the Impairment of Long-Lived Assets and
for Long-Lived Assets to Be Disposed Of. This standard requires that certain
long-lived assets used in Torchmark's business as well as certain intangible
assets, including goodwill, be reviewed for impairment when circumstances
indicate that these assets may not be recoverable, and further provides how
such impairment shall be determined and measured. It also requires that long-
lived assets and intangibles to be disposed of be reported at the lower of
carrying amount or fair value less cost to sell. Except for Torchmark's
writedown of asset-backed securities in 2001, as discussed in Note 15--Changes
in Accounting Principles on page 68 of this report, and the writedown of real
estate in 1999, as discussed in Note 3--Investments on page 56 of this report,
there were no significant impairments in the three years ending 2001.
51
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 1--Significant Accounting Policies (continued)
Goodwill: The excess cost of businesses acquired over the fair value of
their net assets is reported as goodwill and is amortized on a straight-line
basis over a period not exceeding 40 years. Torchmark's unamortized goodwill
is periodically reviewed to ensure that conditions are present to indicate the
recorded amount of goodwill is recoverable from the estimated future
profitability of the related business. If events or changes in circumstances
indicate that future profits will not be sufficient to support the carrying
amount of goodwill, goodwill would be written down to the recoverable amount
and amortized over the original remaining period or a reduced period if
appropriate.
The Financial Accounting Standards Board (FASB) issued SFAS No. 142,
Goodwill and Other Intangible Assets, which is effective on January 1, 2002.
SFAS No. 142 changes the accounting for goodwill and certain other intangible
assets from an amortization method to an impairment method. Accordingly,
amortization of goodwill, including goodwill recorded in past business
combinations, will cease upon adoption of that Statement. Goodwill will be
tested annually for impairment based on the specific requirements outlined by
SFAS No. 142. Torchmark adopted SFAS No. 142 on January 1, 2002. While
Torchmark is currently assessing the impact of SFAS No. 142 on its
consolidated financial statements, it does not appear that goodwill is
impaired. Because of the requirements of this Statement, Torchmark's goodwill
will be frozen at the December 2001 balance and not amortized. At December 31,
2001, Torchmark's goodwill was $378 million and previous annual goodwill
amortization expense was approximately $12 million.
Treasury Stock: Torchmark accounts for purchases of treasury stock on the
cost method. Issuance of treasury stock is accounted for using the weighted-
average cost method.
Reclassifications: Certain amounts in the consolidated financial statements
presented have been reclassified from amounts previously reported in order to
be comparable between years. These reclassifications have no effect on
previously reported shareholders' equity or net income during the periods
involved.
Litigation: Torchmark and its subsidiaries continue to be named as parties
to legal proceedings. Because much of Torchmark's litigation is brought in
Alabama, a jurisdiction known for large punitive damage verdicts bearing
little or no relationship to actual damages, the ultimate outcome of any
particular action cannot be predicted. It is reasonably possible that changes
in the expected outcome of these matters could occur in the near term, but
such changes should not be material to Torchmark's reported results or
financial condition.
Earnings Per Share: Torchmark presents basic and diluted earnings per share
(EPS) on the face of the income statement and a reconciliation of basic EPS to
diluted EPS. Basic EPS is computed by dividing income available to common
stockholders by the weighted average common shares outstanding for the period.
Weighted average common shares outstanding for each period are as follows:
2001--125,134,535, 2000--128,089,235, and 1999--133,197,023. Diluted EPS is
calculated by adding to shares outstanding the additional net effect of
potentially dilutive securities or contracts which could be exercised or
converted into common shares. Weighted average diluted shares outstanding for
each period are as follows: 2001--125,860,869, 2000--128,353,404, and 1999--
133,985,943.
52
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 2--Statutory Accounting
Insurance subsidiaries of Torchmark are required to file statutory financial
statements with state insurance regulatory authorities. Accounting principles
used to prepare these statutory financial statements differ from GAAP.
Consolidated net income and shareholders' equity on a statutory basis for the
insurance subsidiaries were as follows:
Net Income Shareholders' Equity
Year Ended December 31, At December 31,
-------------------------- --------------------------
2001 2000 1999 2001 2000 1999
-------- -------- -------- -------- -------- --------
Life insurance subsidi-
aries.................. $243,325 $239,804 $193,253 $766,328 $717,554 $667,168
In 2001, Liberty National Life Insurance Company (Liberty) paid $40 million
and in 1999, Liberty paid $61 million and Globe Life And Accident Insurance
Company paid $34.5 million in extraordinary dividends to Torchmark.
Extraordinary dividends require regulatory approval.
The excess, if any, of shareholders' equity of the insurance subsidiaries on
a GAAP basis over that determined on a statutory basis is not available for
distribution to Torchmark without regulatory approval.
A reconciliation of Torchmark's insurance subsidiaries' statutory net income
to Torchmark's consolidated GAAP net income is as follows:
Year Ended December 31,
------------------------------
2001 2000 1999
-------- --------- ---------
Statutory net income..................... $243,325 $ 239,804 $ 193,253
Deferral of acquisition costs............ 429,280 462,174 419,590
Amortization of acquisition costs........ (301,793) (274,837) (247,800)
Differences in insurance policy liabili-
ties.................................... 86,133 37,771 80,088
Deferred income taxes.................... (87,093) (84,585) (63,576)
Income of noninsurance affiliates........ (73,235) (53,631) (62,711)
Other.................................... 59,896 35,339 (44,888)
-------- --------- ---------
GAAP net income........................ $356,513 $ 362,035 $ 273,956
======== ========= =========
A reconciliation of Torchmark's insurance subsidiaries' statutory
shareholders' equity to Torchmark's consolidated GAAP shareholders' equity is
as follows:
Year Ended
December 31,
----------------------
2001 2000
---------- ----------
Statutory shareholders'
equity................. $ 766,328 $ 717,554
Differences in insurance
policy liabilities..... 741,253 591,535
Deferred acquisition
costs.................. 2,066,423 1,942,161
Value of insurance pur-
chased................. 115,939 133,158
Deferred income taxes... (638,052) (461,858)
Debt of parent company.. (740,189) (695,137)
Preferred securities.... (144,557) (193,395)
Asset valuation re-
serves................. 61,183 63,945
Nonadmitted assets...... 33,205 46,331
Goodwill................ 378,436 390,509
Fair market value ad-
justment on fixed matu-
rities................. (28,470) (225,978)
Other................... (114,372) (106,465)
---------- ----------
GAAP shareholders' eq-
uity................... $2,497,127 $2,202,360
========== ==========
53
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 3--Investments
Year Ended December 31,
-----------------------------
2001 2000 1999
-------- -------- ---------
Investment income is summarized as follows:
Fixed maturities............................. $468,357 $445,146 $ 409,695
Equity securities............................ 33 378 488
Mortgage loans on real estate................ 9,196 9,281 7,720
Investment real estate....................... 2,233 2,693 7,889
Policy loans................................. 18,225 16,981 16,308
Other long-term investments.................. 4,895 7,637 11,245
Short-term investments....................... 6,582 5,728 4,066
-------- -------- ---------
509,521 487,844 457,411
Less investment expense...................... (17,691) (15,418) (10,074)
-------- -------- ---------
Net investment income........................ $491,830 $472,426 $ 447,337
======== ======== =========
An analysis of gains (losses) from investments
is as follows:
Realized investment gains (losses):
Fixed maturities............................ $ (7,429) $(15,328) $ (30,145)
Equity securities........................... -0- 3,239 215
Other....................................... 4,997 6,767 (81,041)
-------- -------- ---------
(2,432) (5,322) (110,971)
Adjustment to deferred acquisition costs .... -0- -0- -0-
-------- -------- ---------
(2,432) (5,322) (110,971)
Applicable tax............................... 851 1,863 38,840
-------- -------- ---------
Gains (losses) from investments, net of tax.. $ (1,581) $ (3,459) $ (72,131)
======== ======== =========
An analysis of the net change in unrealized
investment gains (losses) is as follows:
Equity securities............................ $ 28 $ 7,803 $ (15,519)
Fixed maturities available for sale.......... 233,976 38,784 (525,374)
Other long-term investments and foreign
exchange translation adjustments............ (2,847) (667) 2,028
Adjustment to deferred acquisition costs..... (20,444) (5,340) 48,382
-------- -------- ---------
210,713 40,580 (490,483)
Applicable tax............................... (74,621) (14,764) 171,760
-------- -------- ---------
Change in unrealized gains (losses), net of
tax......................................... $136,092 $ 25,816 $(318,723)
======== ======== =========
54
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 3--Investments (continued)
A summary of fixed maturities available for sale and equity securities by
amortized cost and estimated fair value at December 31, 2001 and 2000 is as
follows:
Cost or Gross Gross Amount per % of Total
Amortized Unrealized Unrealized Fair the Balance Fixed
Cost Gains Losses Value Sheet Maturities
---------- ---------- ---------- ---------- ----------- ----------
2001:
- -----
Fixed maturities
available for sale:
Bonds:
U.S. Government direct
obligations and
agencies............. $ 60,010 $ 2,877 $ (12) $ 62,875 $ 62,875 1.0%
GNMAs................. 192,540 12,740 -0- 205,280 205,280 3.1
Mortgage-backed
securities, GNMA
collateral........... 1,604 7 -0- 1,611 1,611 0.0
Other mortgage-backed
securities........... 259,922 14,541 (14) 274,449 274,449 4.2
State, municipalities
and political
subdivisions......... 177,343 10,345 (1,891) 185,797 185,797 2.8
Foreign governments... 46,786 3,551 (156) 50,181 50,181 0.8
Public utilities...... 900,116 19,250 (28,136) 891,230 891,230 13.7
Industrial and
miscellaneous........ 4,832,766 128,508 (163,444) 4,797,830 4,797,830 73.5
Asset-backed
securities........... 57,157 1,651 (1,632) 57,176 57,176 0.9
Redeemable preferred
stocks................ -0- -0- -0- -0- -0- 0.0
---------- -------- --------- ---------- ---------- ----
Total fixed maturities
..................... 6,528,244 193,470 (195,285) 6,526,429 6,526,429 100%
Equity securities:
Common stocks:
Banks and insurance
companies............ 427 88 (5) 510 510
Industrial and all
others............... 239 -0- (178) 61 61
---------- -------- --------- ---------- ----------
Total equity
securities........... 666 88 (183) 571 571
---------- -------- --------- ---------- ----------
Total fixed maturities
and equity
securities........... $6,528,910 $193,558 $(195,468) $6,527,000 6,527,000
========== ======== ========= ========== ==========
2000:
- -----
Fixed maturities avail-
able for sale:
Bonds:
U.S. Government direct
obligations and
agencies............. $ 73,838 $ 1,554 $ (4) $ 75,388 $ 75,388 1.3%
GNMAs................. 258,172 10,387 (777) 267,782 267,782 4.5
Mortgage-backed
securities, GNMA
collateral........... 8,454 46 (12) 8,488 8,488 0.1
Other mortgage-backed
securities........... 370,257 12,770 (332) 382,695 382,695 6.4
State, municipalities
and political
subdivisions......... 309,812 11,345 (1,849) 319,308 319,308 5.4
Foreign governments... 46,393 1,328 (2) 47,719 47,719 0.8
Public utilities...... 658,837 13,102 (23,753) 648,186 648,186 10.9
Industrial and
miscellaneous........ 4,308,625 54,389 (301,684) 4,061,330 4,061,330 68.3
Asset-backed
securities........... 148,600 645 (13,192) 136,053 136,053 2.3
Redeemable preferred
stocks................ 2,512 54 -0- 2,566 2,566 0.0
---------- -------- --------- ---------- ---------- ----
Total fixed maturities
..................... 6,185,500 105,620 (341,605) 5,949,515 5,949,515 100%
Equity securities:
Common stocks:
Banks and insurance
companies............ 427 81 (8) 500 500
Industrial and all
others............... 239 -0- (196) 43 43
---------- -------- --------- ---------- ----------
Total equity
securities........... 666 81 (204) 543 543
---------- -------- --------- ---------- ----------
Total fixed maturities
and equity
securities........... $6,186,166 $105,701 $(341,809) $5,950,058 $5,950,058
========== ======== ========= ========== ==========
55
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 3--Investments (continued)
A schedule of fixed maturities by contractual maturity at December 31, 2001
is shown below on an amortized cost basis and on a fair value basis. Actual
maturities could differ from contractual maturities due to call or prepayment
provisions.
Amortized Fair
Cost Value
---------- ----------
Fixed maturities available
for sale:
Due in one year or less... $ 62,964 $ 64,234
Due from one to five
years.................... 893,935 911,877
Due from five to ten
years.................... 2,474,317 2,518,396
Due after ten years....... 2,585,805 2,493,406
---------- ----------
6,017,021 5,987,913
Mortgage-backed and asset-
backed securities........ 511,223 538,516
---------- ----------
$6,528,244 $6,526,429
========== ==========
Proceeds from sales of fixed maturities available for sale were $881 million
in 2001, $629 million in 2000, and $1.24 billion in 1999. Gross gains realized
on those sales were $20.6 million in 2001, $8.2 million in 2000 and $4.3
million in 1999. Gross losses were $21.4 million in 2001, $10.7 million in
2000, and $36.5 million in 1999. There were no sales of equity securities
available for sale during 2001. Proceeds from sales of equity securities
available for sale were $39.7 million in 2000 and $260 thousand in 1999. Gross
gains realized on those sales were $6.5 million in 2000 and $215 thousand in
1999. Gross losses were $3.2 million in 2000 and -0- in 1999.
Torchmark had $9.0 million in investment real estate at December 31, 2001,
which was nonincome producing during the previous twelve months. These
properties consisted primarily of undeveloped land. Torchmark had $1.4 million
in nonincome producing mortgages as of December 31, 2001. Torchmark had $1.9
million in nonincome producing fixed maturities at December 31, 2001. There
were no other long-term investments which were nonincome producing at
December 31, 2001.
In 1999, Torchmark disposed of most of its investment real estate. In the
second quarter of 1999, efforts to dispose of these properties revealed that
the carrying value of the real estate exceeded its estimated realizable value.
For this reason Torchmark wrote down its investment real estate portfolio to
its estimated realizable value as of June 30, 1999. This write down resulted
in a pretax loss of $64 million, or $41 million after tax. The majority of the
investment real estate was sold in two transactions in the latter half of 1999
for total consideration of $123 million, of which $111 million was in cash and
the remainder in a ten-year collateralized note. After the sales, Torchmark
retained $16.4 million in investment real estate, of which $8 million was
included with properties partially occupied by Torchmark subsidiaries. At
December 31, 2001, Torchmark owned $14.1 million in investment real estate, of
which $7.5 million was included with properties partially occupied by
Torchmark subsidiaries.
56
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 4--Property and Equipment
A summary of property and equipment used in the business is as follows:
December 31, 2001 December 31, 2000
--------------------- ---------------------
Accumulated Accumulated
Cost Depreciation Cost Depreciation
-------- ------------ -------- ------------
Company occupied real estate........ $ 61,159 $32,324 $ 59,920 $29,956
Data processing equipment........... 23,131 21,440 22,206 20,884
Transportation equipment............ 6,920 3,029 7,430 2,995
Furniture and office equipment...... 19,941 18,221 19,315 16,342
-------- ------- -------- -------
$111,151 $75,014 $108,871 $70,177
======== ======= ======== =======
Depreciation expense on property used in the business was $5.2 million, $6.3
million, and $5.6 million in each of the years 2001, 2000, and 1999,
respectively.
57
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 5--Deferred Acquisition Costs and Value of Insurance Purchased
An analysis of deferred acquisition costs and the value of insurance
purchased is as follows:
2001 2000 1999
---------------------- ---------------------- ----------------------
Deferred Value of Deferred Value of Deferred Value of
Acquisition Insurance Acquisition Insurance Acquisition Insurance
Costs Purchased Costs Purchased Costs Purchased
----------- --------- ----------- --------- ----------- ---------
Balance at beginning of
year................... $1,942,161 $133,158 $1,741,570 $151,752 $1,502,512 $170,640
Additions:
Deferred during peri-
od:
Commissions........... 265,116 -0- 290,597 -0- 246,174 -0-
Other expenses........ 164,164 -0- 171,577 -0- 173,416 -0-
---------- -------- ---------- -------- ---------- --------
Total deferred....... 429,280 -0- 462,174 -0- 419,590 -0-
Adjustment attributable
to unrealized invest-
ment losses(1)........ -0- -0- -0- -0- 48,380 -0-
---------- -------- ---------- -------- ---------- --------
Total additions...... -0- -0- 462,174 -0- 467,970 -0-
Deductions:
Amortized during peri-
od................... (284,574) (17,219) (256,243) (18,594) (228,912) (18,888)
Adjustment
attributable to
unrealized investment
gains(1)............. (20,444) -0- (5,340) -0- -0- -0-
---------- -------- ---------- -------- ---------- --------
Total deductions..... (305,018) (17,219) (261,583) (18,594) (228,912) (18,888)
---------- -------- ---------- -------- ---------- --------
Balance at end of year.. $2,066,423 $115,939 $1,942,161 $133,158 $1,741,570 $151,752
========== ======== ========== ======== ========== ========
- --------
(1) Represents amounts pertaining to investments relating to universal life-
type products.
The amount of interest accrued on the unamortized balance of value of
insurance purchased was $7.7 million, $9.1 million, and $10.5 million, for the
years ended December 31, 2001, 2000, and 1999, respectively. The average
interest rates used for the years ended December 31, 2001, 2000, and 1999,
were 6.2%, 6.4%, and 6.5%, respectively. The estimated amortization, net of
interest accrued, on the unamortized balance at December 31, 2001 during each
of the next five years is: 2002, $14.7 million; 2003, $12.1 million; 2004,
$10.1 million; 2005, $8.7 million; and 2006, $7.5 million.
In the event of lapses or early withdrawals in excess of those assumed,
deferred acquisition costs and the value of insurance purchased may not be
recoverable.
Note 6--Discontinued Operations
Waddell & Reed. In 1998, Torchmark spun off to its stockholders its
remaining interest in Waddell & Reed, Inc. (Waddell & Reed). Waddell & Reed is
an asset management institution which prior to 1998 was a wholly-owned
Torchmark subsidiary. The spin off was accounted for as a disposal of a
segment. In connection with the transaction, Torchmark incurred a tax in 1999
which has been included as discontinued operations in the after-tax amount of
$1 million. Waddell & Reed continued to market certain products on behalf of a
Torchmark subsidiary after the transaction under various sales agreements. In
2001, all of these agreements were terminated. As of December 31, 2001, there
is no longer any significant affiliation with Waddell & Reed.
Energy. In 1996, Torchmark divested itself of the majority of its energy
operations, which was accounted for as the disposal of a segment. At the time
of the disposition, there was pending litigation in which Torchmark was named
as a party. This litigation was settled in 2001, resulting in an after-tax
charge of $3.3 million which is reflected in discontinued operations.
58
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 7--Future Policy Benefit Reserves
A summary of the assumptions used in determining the liability for future
policy benefits at December 31, 2001 is as follows:
Individual Life Insurance
Interest assumptions:
Percent of
Years of Issue Interest Rates Liability
-------------- --------------------- ----------
1917-2001 3.00% 2%
1947-1954 3.25% 1
1927-1989 3.50% 1
1955-1961 3.75% 1
1925-2001 4.00% 10
1962-1969 4.50% graded to 4.00% 2
1970-1980 5.50% graded to 4.00% 3
1970-2001 5.50% 1
1929-2001 6.00% 21
1986-1994 7.00% graded to 6.00% 12
1954-2001 8.00% graded to 6.00% 12
1951-1985 8.50% graded to 6.00% 8
2000-2001 7.00% 1
1980-1987 8.50% graded to 7.00% 1
1984-2000 Interest Sensitive 24
---
100%
===
Mortality assumptions:
For individual life, the mortality tables used are various statutory
mortality tables and modifications of:
1950-54 Select and Ultimate Table
1954-58 Industrial Experience Table
1955-60 Ordinary Experience Table
1965-70 Select and Ultimate Table
1955-60 Inter-Company Table
1970 United States Life Table
1975-80 Select and Ultimate Table
X-18 Ultimate Table
Withdrawal assumptions:
Withdrawal assumptions are based on Torchmark's experience.
Individual Health Insurance
Interest assumptions:
Percent of
Years of Issue Interest Rates Liability
-------------- --------------------- ----------
1962-2001 3.00% 2%
1982-2001 4.50% 3
1993-2001 6.00% 28
1986-1992 7.00% graded to 6.00% 41
1955-2001 8.00% graded to 6.00% 22
1951-1986 8.50% graded to 6.00% 4
---
100%
===
59
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 7--Future Policy Benefit Reserves (continued)
Morbidity assumptions:
For individual health, the morbidity assumptions are based on either
Torchmark's experience or the assumptions used in calculating statutory
reserves.
Termination assumptions:
Termination assumptions are based on Torchmark's experience.
Overall Interest Assumptions
The overall average interest assumption for determining the liability for
future life and health insurance benefits in 2001 was 6.1%.
Note 8--Liability for Unpaid Health Claims
Activity in the liability for unpaid health claims is summarized as follows:
Year ended December 31,
--------------------------
2001 2000 1999
-------- -------- --------
Balance at beginning of year:................... $183,147 $162,137 $145,802
Incurred related to:
Current year................................... 664,876 603,641 555,595
Prior year..................................... 2,363 6,365 8,297
-------- -------- --------
Total incurred.................................. 667,239 610,006 563,892
Paid related to:
Current year................................... 501,977 440,370 364,623
Prior year..................................... 163,353 148,626 182,934
-------- -------- --------
Total paid...................................... 665,330 588,996 547,557
-------- -------- --------
Balance at end of year.......................... $185,056 $183,147 $162,137
======== ======== ========
As a result of the differences between estimated and actual claim experience
in prior years, the provision for claims increased $2.4 million, $6.4 million,
and $8.3 million in each of the years 2001, 2000, and 1999, respectively.
The liability for unpaid health claims is included with "Policy claims and
other benefits payable" on the Consolidated Balance Sheet.
Note 9--Supplemental Disclosures of Cash Flow Information
The following table summarizes Torchmark's noncash transactions, which are
not reflected on the Statement of Cash Flow:
Year Ended
December 31,
---------------------
2001 2000 1999
------- ------ ------
Paid-in capital from tax benefit for stock option
exercises.......................................... $13,890 $3,163 $9,750
Deferred option grants.............................. 526 374 482
The following table summarizes certain amounts paid during the period:
Year Ended December 31,
------------------------
2001 2000 1999
------- ------- --------
Interest paid...................................... $45,650 $54,748 $ 52,704
Income taxes paid.................................. 89,675 79,241 148,223
60
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 10--Income Taxes
Torchmark and its subsidiaries file a life-nonlife consolidated federal
income tax return.
Total income taxes were allocated as follows:
Year Ended December 31,
-----------------------------
2001 2000 1999
-------- -------- ---------
Income from continuing operations............ $205,967 $190,841 $ 134,320
Discontinued operations...................... (1,766) -0- (571)
Monthly income preferred securities dividend. (2,441) (5,538) (4,932)
Changes in accounting principles............. (14,315) -0- 8,661
Shareholders' equity:
Unrealized gains (losses)................... 74,689 14,807 (171,757)
Tax basis compensation expense (from the
exercise of stock options) in excess of
amounts recognized for financial reporting
purposes................................... (13,958) (3,164) (9,751)
Other........................................ (3,428) (3,803) (9,935)
-------- -------- ---------
$244,748 $193,143 $ (53,965)
======== ======== =========
Income tax expense attributable to income from continuing operations
consists of:
Year ended December 31,
--------------------------
2001 2000 1999
-------- -------- --------
Current income tax expense....................... $146,407 $116,773 $ 85,917
Deferred income tax expense...................... 59,560 74,068 48,403
-------- -------- --------
$205,967 $190,841 $134,320
======== ======== ========
In 2001, 2000, and 1999, deferred income tax expense was incurred because of
certain differences between net income from continuing operations before
income taxes as reported on the consolidated statement of operations and
taxable income as reported on Torchmark's income tax returns. As explained in
Note 1, these differences caused the financial statement book values of some
assets and liabilities to be different from their respective tax bases.
The effective income tax rate differed from the expected 35% rate as shown
below:
Year ended December 31,
-------------------------------------------
2001 % 2000 % 1999 %
-------- --- -------- --- -------- ---
Expected income taxes............ $210,500 35% $197,035 35% $140,843 35%
Increase (reduction) in income
taxes resulting from:
Tax-exempt investment income.... (7,754) (1) (9,546) (2) (8,798) (2)
Other........................... 3,221 -- 3,352 1 2,275 1
-------- --- -------- --- -------- ---
Income taxes..................... $205,967 34% $190,841 34% $134,320 34%
======== === ======== === ======== ===
61
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 10--Income Taxes (continued)
The tax effects of temporary differences that gave rise to significant
portions of the deferred tax assets and deferred tax liabilities are presented
below:
December 31,
-----------------
2001 2000
-------- --------
Deferred tax assets:
Unrealized investment losses................................ $ -0- $ 74,626
Present value of future policy surrender charges............ 32,821 39,964
Carryover of nonlife net operating losses and nonlife capi-
tal losses................................................. 20,783 28,227
Other assets and other liabilities, principally due to the
current nondeductibility of certain accrued expenses for
tax purposes............................................... 31,273 30,062
-------- --------
Total gross deferred tax assets............................. 84,877 172,879
Deferred tax liabilities:
Unrealized investment gains................................. 63 -0-
Deferred acquisition costs.................................. 509,734 492,267
Future policy benefits, unearned and advance premiums, and
policy claims.............................................. 128,742 104,314
Other....................................................... 8,944 14,666
-------- --------
Total gross deferred tax liabilities........................ 647,483 611,247
-------- --------
Net deferred tax liability................................... $562,606 $438,368
======== ========
Torchmark has not recognized a deferred tax liability for the undistributed
earnings of its wholly-owned subsidiaries because such earnings are remitted
to Torchmark on a tax-free basis. A deferred tax liability will be recognized
in the future if the remittance of such earnings becomes taxable to Torchmark.
In addition, Torchmark has not recognized a deferred tax liability of
approximately $10 million that arose prior to 1984 on temporary differences
related to the policyholders' surplus accounts in the life insurance
subsidiaries. A current tax expense will be recognized in the future if and
when these amounts are distributed.
62
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 11--Postretirement Benefits
Pension Plans: Torchmark has noncontributory retirement benefit plans and
contributory savings plans which cover substantially all employees. There is
also a nonqualified noncontributory excess benefit pension plan which covers
certain employees. The total cost of these retirement plans charged to
operations was as follows:
Defined
Defined Benefit
Year Ended Contribution Pension
December 31, Plans Plans
------------ ------------ -------
2001............................. $3,283 $2,535
2000............................. 3,097 2,610
1999............................. 2,775 3,369
Torchmark accrues expense for the defined contribution plans based on a
percentage of the employees' contributions. The plans are funded by the
employee contributions and a Torchmark contribution equal to the amount of
accrued expense. Plan contributions are both mandatory and discretionary,
depending on the terms of the plan.
Cost for the defined benefit pension plans has been calculated on the
projected unit credit actuarial cost method. Contributions are made to the
pension plans subject to minimums required by regulation and maximums allowed
for tax purposes. Accrued pension expense in excess of amounts contributed has
been recorded as a liability in the financial statements and was $10.2 million
and $9.5 million at December 31, 2001 and 2000, respectively. The plans
covering the majority of employees are organized as trust funds whose assets
consist primarily of investments in marketable long-term fixed maturities and
equity securities which are valued at fair market value.
The excess benefit pension plan provides the benefits that an employee would
have otherwise received from a defined benefit pension plan in the absence of
the Internal Revenue Code's limitation on benefits payable under a qualified
plan. Although this plan is unfunded, pension cost is determined in a similar
manner as for the funded plans. Liability for the excess benefit plan was $5.4
million and $4.6 million at December 31, 2001 and 2000, respectively.
Net periodic pension cost for the defined benefit plans by expense component
was as follows:
Year Ended December 31,
---------------------------
2001 2000 1999
-------- -------- -------
Service cost--benefits earned during the
period.................................... $ 5,195 $ 5,142 $ 5,133
Interest cost on projected benefit obliga-
tion...................................... 9,077 8,763 8,260
Expected return on assets.................. (11,212) (10,639) (9,892)
Amortization of prior service cost......... (82) 78 59
Recognition of net actuarial (gain)/loss... (443) (734) (191)
-------- -------- -------
Net periodic pension cost................. $ 2,535 $ 2,610 $ 3,369
======== ======== =======
63
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 11--Postretirement Benefits (continued)
In accordance with FASB Statement No. 132, Employers' Disclosures about
Pensions and Other Postretirement Benefits, the following table presents a
reconciliation from the beginning to the end of the year of the benefit
obligation and plan assets. This table also presents a reconciliation of the
plans' funded status with the amounts recognized on Torchmark's consolidated
balance sheet.
Pension Benefits
For the year
ended
December 31,
------------------
2001 2000
-------- --------
Changes in benefit obligation:
Obligation at beginning of year..................... $114,222 $104,581
Service cost........................................ 5,195 5,142
Interest cost....................................... 9,077 8,763
Actuarial loss (gain)............................... 8,559 7,812
Benefits paid....................................... (8,407) (12,076)
-------- --------
Obligation at end of year........................... 128,646 114,222
Changes in plan assets:
Fair value at beginning of year..................... 139,318 132,779
Return on assets.................................... 1,875 18,038
Contributions....................................... 1,023 577
Benefits paid....................................... (8,407) (12,076)
-------- --------
Fair value at end of year........................... 133,809 139,318
-------- --------
Funded status at year end........................... 5,163 25,096
Unrecognized amounts at year end:
Unrecognized actuarial loss (gain).................. (20,645) (39,657)
Unrecognized prior service cost..................... (126) 787
Unrecognized transition obligation.................. (68) (75)
-------- --------
Net amount recognized at year end................... $(15,676) $(13,849)
======== ========
Amounts recognized consist of:
Prepaid benefit cost................................ $ 328 $ 323
Accrued benefit liability........................... (16,004) (14,491)
Intangible asset.................................... 0 319
-------- --------
Net amount recognized at year end................... $(15,676) $(13,849)
======== ========
The weighted average assumed discount rates used in determining the
actuarial benefit obligations were 7.25% and 7.50% in 2001 and 2000,
respectively. The rate of assumed compensation increase was 4.50% in both 2001
and 2000 and the expected long-term rate of return on plan assets was 9.25% in
both 2001 and 2000.
Postretirement Benefit Plans Other Than Pensions: Torchmark provides
postretirement life insurance benefits for most retired employees, and also
provides additional postretirement life insurance benefits for certain key
employees. The majority of the life insurance benefits are accrued over the
working lives of active employees.
For retired employees over age sixty-five, Torchmark does not provide
postretirement benefits other than pensions. Torchmark does provide a portion
of the cost for health insurance benefits for certain employees who retired
before February 1, 1993 and for certain employees that retired before age
sixty-five, covering them until they reach age sixty-five. Eligibility for
this benefit was generally achieved at age fifty-five with at least fifteen
years of service. This subsidy is minimal to retired employees who did not
retire before February 1, 1993. This plan is unfunded.
64
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 11--Postretirement Benefits (continued)
The components of net periodic postretirement benefit cost for plans other
than pensions are as follows:
Year Ended
December 31,
---------------------
2001 2000 1999
------- ----- -----
Service cost..................................... $ 329 $ 301 $ 239
Interest cost on accumulated postretirement
benefit obligation.............................. 555 508 380
Expected return on plan assets................... -0- -0- -0-
Amortization of prior service cost............... (5,145) (161) (216)
Recognition of net actuarial (gain)/loss......... (2,484) (39) (234)
------- ----- -----
Net periodic postretirement benefit cost......... $(6,745) $ 609 $ 169
======= ===== =====
The following table presents a reconciliation of the benefit obligation and
plan assets from the beginning to the end of the year and a reconciliation of
the funded status to the accrued benefit liability:
Benefits Other Than Pensions
For the year ended December 31,
2001 2000
--------------- ---------------
Changes in benefit obligation:
Obligation at beginning of year....... $ 7,530 $ 5,615
Service cost.......................... 329 301
Interest cost......................... 555 508
Amendments............................ (5,016) -0-
Actuarial loss (gain)................. (1,954) 1,780
Benefits paid......................... (382) (674)
--------------- ---------------
Obligation at end of year............. 1,062 7,530
Changes in plan assets:
Fair value at beginning of year....... -0- -0-
Return on assets...................... -0- -0-
Contributions......................... 382 674
Benefits paid......................... (382) (674)
--------------- ---------------
Fair value at end of year............. -0- -0-
--------------- ---------------
Funded status at year end............ (1,062) (7,530)
Unrecognized amounts at year end:
Unrecognized actuarial loss (gain).... -0- (530)
Unrecognized prior service cost....... -0- (129)
--------------- ---------------
Net amount recognized at year end as
accrued benefit liability........... $ (1,062) $ (8,189)
=============== ===============
During 2001, Torchmark amended the terms of its post-retirement health
benefit plan to revise the premium structure for participants. This amendment
reduced the benefit liability by $5 million.
For measurement purposes, a 7.5% annual rate of increase in per capita cost
of covered healthcare benefits was assumed for 2001. The health care cost
trend rate assumption has a significant effect on the amounts reported, as
illustrated in the following table which presents the effect of a one
percentage point increase and decrease on the service and interest cost
components and the benefit obligation:
Change in Trend Rate
-----------------------
Effect on: 1% Increase 1% Decrease
---------- ----------- -----------
Service and interest cost components................. $ 3 $ 3
Benefit obligation................................... 42 39
The weighted average discount rate used in determining the accumulated
postretirement benefit obligation was 7.5% in 2001 and 2000.
65
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 12--Debt
An analysis of debt at carrying value is as follows:
December 31,
-----------------------------------------
2001 2000
-------------------- --------------------
Short-term Long-term Short-term Long-term
Debt Debt Debt Debt
---------- --------- ---------- ---------
Senior Debentures, due 2009......... $ 99,450 $ 99,450
Notes, due 2023..................... 165,819 173,675
Notes, due 2013..................... 92,923 92,864
Senior Notes, due 2006.............. 177,960
Commercial paper.................... $204,037 $329,148
-------- -------- -------- --------
$204,037 $536,152 $329,148 $365,989
======== ======== ======== ========
The amount of debt that becomes due during each of the next five years is:
2002--$204,037, 2003--$0, 2004--$0, 2005--$0, and 2006--$180,000.
The Senior Debentures, remaining principal amount of $99 million, are due
August 15, 2009. They bear interest at a rate of 8 1/4%, with interest payable
on February 15 and August 15 of each year. The Senior Debentures are not
redeemable at the option of Torchmark prior to maturity and have equal
priority with other Torchmark unsecured indebtedness.
The Notes, due May 15, 2023, were issued in May, 1993 in the principal
amount of $200 million. Proceeds of the issue, net of issue costs, were $196
million. Interest is payable on May 15 and November 15 of each year at a rate
of 7 7/8%. In 1999, $7.6 million principal amount was purchased in the open
market at a cost of $7.9 million by Torchmark subsidiary companies which in
turn sold them to the parent company in 2000. An additional $8.1 million and
$4.6 million, respectively, principal amount were purchased by the parent
company in 2001 and 2000 in the open market at a cost of $8.3 million and $4.2
million. An after-tax loss on the redemption of debt of $277 thousand and gain
of $166 thousand was recorded during 2001 and 2000, respectively. These notes
are not callable prior to maturity and have equal priority with other
Torchmark unsecured indebtedness.
The Notes, due August 1, 2013, were issued in July, 1993 in the principal
amount of $100 million for net proceeds of $98 million. Interest is payable on
February 1 and August 1 of each year at a rate of 7 3/8%. In March, 1999, $4.0
million principal amount was purchased in the open market at a cost of
$4.1 million by a Torchmark insurance subsidiary, which in turn sold it to the
parent company in 2000 for $3.7 million. In the fourth quarter of 2000,
Torchmark purchased $2.0 million principal amount in the open market at a cost
of $1.9 million. An after-tax gain on the redemption of debt of $36 thousand
was recorded in the fourth quarter of 2000. These notes are not callable prior
to maturity and have equal priority with other Torchmark unsecured
indebtedness.
The Senior Notes, due December 16, 2006, were issued in December, 2001 in
the principal amount of $180 million for net proceeds of $178 million.
Interest is payable on June 15 and December 15 of each year at a rate of 6
1/4%. The notes are unsecured, may not be redeemed prior to maturity, and have
no sinking fund requirement. These notes have equal priority with other
Torchmark unsecured indebtedness.
In connection with this issuance, Torchmark entered into a five-year swap
agreement with an unaffiliated party to swap the 6 1/4% fixed rate payment
obligation for a floating rate obligation. The floating rate is based on the
six-month LIBOR plus 120.5 basis points and resets every six months. At
December 31, 2001, this rate was 3.11%. This swap derivative qualifies as a
hedge under accounting rules. Therefore, changes in its fair market value will
be substantially offset by changes in the fair market value of the debt
security. Torchmark's derivative instruments are classified as Other Invested
Assets.
In November, 2001 Torchmark entered into a line of credit facility with a
group of lenders, which allows unsecured borrowings and stand-by letters of
credit up to $625 million. The facility includes a $325 million 364-day
tranche, which matures November 29, 2002 and a $300 million five-year tranche
that matures November 30, 2006. This facility replaces a revolving credit
agreement which the Company previously had available to borrow up to $600
million on an unsecured basis. Interest is charged at
66
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 12--Debt (continued)
variable rates for each tranche. In addition, Torchmark can request up to $200
million letters of credit to be issued against the $300 million five-year
tranche. The line of credit is further designated as a back-up credit line for
a commercial paper program, which cannot exceed $600 million. Torchmark may
borrow from the credit facility or issue commercial paper, with total
commercial paper outstanding not to exceed $600 million. At December 31, 2001,
Torchmark had $204 million face amount of commercial paper outstanding, $168
million of letters of credit issued, and no borrowings under the line of
credit. During 2001, the short term borrowings under the combined facilities
averaged approximately $311 million, and were made at an average yield of
3.9%. The facility does not have a ratings-based acceleration trigger which
would require early payment. A facility fee is charged for the entire $625
million facility, at a rate of 9 basis points for the 364-day tranch and 11
basis points for the five-year tranch. For letters of credit issued, there is
an issuance fee of 29 basis points and a fronting fee of 5 basis points.
Additionally, if borrowings on both the line of credit and letters of credit
exceed 33% of the total $625 million facility, there is a usage fee of 10
basis points. During 2001, Torchmark's usage of the facility was below this
threshold and no usage fee was required. Torchmark is subject to certain
covenants for the agreements regarding capitalization and earnings, for which
it was in compliance at December 31, 2001.
Interest in the amount of $284 thousand was capitalized during 1999. There
was no capitalized interest in 2000 or 2001.
Note 13--Trust Preferred Securities
In November 2001, Torchmark established two Capital Trusts, which in turn
sold trust preferred securities (trust preferreds) in separate public
offerings. Capital Trust I sold 5 million shares while Capital Trust II sold
1 million shares at a combined face amount of $150 million. Both trust
preferreds pay a quarterly dividend at an annual 7 3/4% rate which is
equivalent to an annual rate of $1.9375 per share. All dividends are
cumulative. The trust preferreds are subject to a mandatory redemption on
November 2, 2041, but Torchmark has the option to redeem in part or whole the
securities on or after November 2, 2006. All payments by the Capital Trusts
regarding the trust preferreds are guaranteed by Torchmark. The Capital Trusts
are wholly-owned consolidated subsidiaries of Torchmark. The two offerings
resulted in net proceeds of $145 million to the Capital Trusts. The Capital
Trusts in turn used the proceeds to buy 7 3/4% Junior Subordinated Debentures
from Torchmark in like amount. Torchmark used these proceeds to redeem its
outstanding 9.18% monthly income preferred securities in 2001 in the
approximate amount of $110 million, with the remaining proceeds used to pay
down short-term debt. In a related transaction, Torchmark entered into a ten
year swap agreement to exchange a variable rate payment for the 7 3/4% fixed
dividend obligation. The variable rate is based on the three-month LIBOR plus
221 basis points and resets each quarter when payments are made. The variable
rate was 4.10% at December 31, 2001. The swap derivative does not qualify as a
hedge for accounting purposes and will be carried on the balance sheet at fair
market value. The swap had a fair value of zero at December 31, 2001.
Note 14--Monthly Income Preferred Securities
During 2001, Torchmark used funds received from short-term borrowings and
the issuance of the trust preferreds to redeem its 8 million shares of 9.18%
MIPS for a total cost of $200 million plus accrued dividends. Torchmark
recognized an after-tax loss of approximately $4.3 million during 2001 as a
result of the redemption.
When the MIPS were originally issued in 1994, Torchmark entered into a ten-
year swap agreement with an unrelated party which remains in effect. The
agreement provides for Torchmark to pay a variable rate based on the one-month
LIBOR plus 139 basis points, while collecting at a rate of 9.18% on a notional
amount of $200 million. The swap does not expire until September 30, 2004. The
rate resets each month. At December 31, 2001, the variable rate was 3.47%. The
swap is accounted for as a free standing derivative and is marked to fair
market value at the end of each accounting period. The fair market value of
the swap agreement was a benefit of $19.2 million and $14.3 million at
December 31, 2001 and 2000, respectively. Torchmark changed its method of
accounting for this swap agreement during 1999. Refer to Note 15--Changes in
Accounting Principles on page 68 for more information on this change in
accounting principle.
67
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 15--Changes in Accounting Principles
Asset-Backed Securities. Torchmark adopted new accounting guidance
Recognition of Interest Income and Impairment on Purchased and Retained
Beneficial Interests in Securitized Financial Assets (EITF 99-20) effective
April 1, 2001. EITF 99-20 changed the method of accounting for most of
Torchmark's asset-backed securities, but it excluded U.S. government and
government-guaranteed securities. It requires that interest income be
accounted for using the prospective effective-yield method, whereby changes in
future cash flow expectations are accounted for over the remaining life of the
security. This is accomplished through recalculating a new yield-to-maturity
at the end of each reporting period for interest accrued based on the current
book value and revised cash flow expectations. Revised expectations result in
revised interest recognition. This prospective method differs from the
previously required retrospective effective-yield method whereby the effective
yield was based on future expected and past actual cash flows, and the book
value was restated using the newly calculated effective yield as if it had
been in effect since purchase.
EITF 99-20 also sets forth specific new rules regarding the impairment of
asset-backed securities. Future impairments, if any, are to be recognized as a
component of realized investment losses. On initial application of this
standard, impairments were recognized as a change in accounting principle.
Reversals of impairment charges recognized subsequent to adoption of EITF 99-
20 are prohibited.
In accordance with this guidance, Torchmark evaluated the expected cash
flows on its asset-backed securities under the new rules. As a result,
Torchmark determined that these assets were impaired by $41 million, or $27
million after tax. This impairment charge was recorded as a cumulative effect
of a change in accounting principle in the second quarter of 2001. Also,
during 2001, Torchmark sold an additional $40 million of these securities
after adjustment for the impairment. An additional impairment of $2.5 million
was recognized in 2001 and is included in realized investment losses.
Torchmark's total investment at fair value in asset-backed securities subject
to the accounting guidance at December 31, 2001 was $20 million, or less than
1% of total investments.
Swap Agreements. Since 1994, Torchmark has had in place a swap agreement
with an unaffiliated party whereby Torchmark pays a variable dividend rate on
a $200 million face amount instrument in exchange for payment of a 9.18% fixed
dividend. Effective January 1, 1999, Torchmark changed its method of
accounting for this swap agreement to recognize changes in its fair value, net
of tax, as realized investment gains or losses. This method of accounting for
derivatives was believed to be preferable under the guidance established by
Statement of Financial Accounting Standards No. 80, Accounting for Futures
Contracts (SFAS 80) and the Securities and Exchange Commission. Previously,
Torchmark accounted for the swap using hedge accounting under SFAS 80. The
after-tax cumulative effect of the change at January 1, 1999 was a gain of
$16.1 million (net of income taxes of $8.7 million) and is included in income
for the twelve months ended December 31, 1999. The effect of the change on the
twelve months ended December 31, 1999 was to increase realized losses by $11.7
million ($.09 per diluted share) excluding the cumulative effect of the change
in accounting principle.
Effective January 1, 2001, Torchmark adopted SFAS No. 133, Accounting for
Derivative Instruments and Hedging Activities, as amended, and accounts for
all derivative instruments in accordance with that Statement. At December 31,
2001, Torchmark had three swap contracts in place, which were carried at fair
market value in the financial statements. Fluctuations in these values adjust
realized investment gains and losses. If a derivative qualifies as a fair
value hedge under SFAS No. 133, gains and losses in the derivative are
substantially offset by changes in the underlying hedged instrument.
68
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 16--Shareholders' Equity
Share Data: A summary of preferred and common share activity is as follows:
Preferred Stock Common Stock
--------------- ------------------------
Treasury Treasury
Issued Stock Issued Stock
------ -------- ----------- -----------
1999:
Balance at January 1, 1999.......... -0- -0- 147,800,908 (10,951,933)
Issuance of common stock due to
exercise of stock options.......... 1,898,524
Treasury stock acquired............. (6,742,606)
Lapse of unvested stock grant....... (8,625)
--- --- ----------- -----------
Balance at December 31, 1999........ -0- -0- 147,800,908 (15,804,640)
2000:
Issuance of common stock due to
exercise of stock options.......... 523,742
Treasury stock acquired............. (6,131,000)
--- --- ----------- -----------
Balance at December 31, 2000........ -0- -0- 147,800,908 (21,411,898)
2001:
Issuance of common stock due to
exercise of stock options.......... 4,255,646
Treasury stock acquired............. (7,756,890)
Retirement of treasury stock........ (21,000,000) 21,000,000
--- --- ----------- -----------
Balance at December 31, 2001........ -0- -0- 126,800,908 (3,913,142)
=== === =========== ===========
At December 31, 2001 At December 31, 2000
--------------------- ---------------------
Preferred Common Preferred Common
Stock Stock Stock Stock
--------- ----------- --------- -----------
Par value per share................ $1.00 $1.00 $1.00 $1.00
Authorized shares.................. 5,000,000 320,000,000 5,000,000 320,000,000
Acquisition of Common Shares: Torchmark shares are acquired from time to
time through open market purchases under the Torchmark stock repurchase
program when it is believed to be the best use of Torchmark's funds and for
future employee stock option exercises. Share repurchases under this program
were 7.8 million shares at a cost of $303 million in 2001, 6.1 million shares
at a cost of $147 million in 2000, and 6.7 million shares at a cost of $222
million in 1999.
Retirement of Treasury Stock: On May 11, 2001, Torchmark retired 21 million
shares of its treasury stock. The retirement resulted in a decrease in common
stock of $21 million, decrease in additional paid-in capital of $89 million,
decrease in retained earnings of $527 million, and a decrease in treasury
stock of $637 million.
Restrictions: Restrictions exist on the flow of funds to Torchmark from its
insurance subsidiaries. Statutory regulations require life insurance
subsidiaries to maintain certain minimum amounts of capital and surplus. These
restrictions generally limit the payment of dividends by insurance
subsidiaries to statutory net gain from operations before realized capital
gains or losses on an annual noncumulative basis in the absence of special
approval. Additionally, insurance companies are generally not permitted to
distribute the excess of shareholders' equity as determined on a GAAP basis
over that determined on a statutory basis. In 2002, $299 million will be
available to Torchmark for dividends from insurance subsidiaries in compliance
with statutory regulations without prior regulatory approval.
Earnings Per Share: A reconciliation of basic and diluted weighted-average
shares outstanding is as follows:
2001 2000 1999
----------- ----------- -----------
Basic weighted average shares outstanding.. 125,134,535 128,089,235 133,197,023
Weighted average dilutive options
outstanding............................... 726,334 264,169 788,920
----------- ----------- -----------
Diluted weighted average shares
outstanding............................... 125,860,869 128,353,404 133,985,943
=========== =========== ===========
69
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 16--Shareholders' Equity (continued)
Stock options to purchase 3,305,025, 7,497,546, and 5,013,990, as of
December 31, 2001, 2000, and 1999, respectively, are considered to be anti-
dilutive and are excluded from the calculation of diluted earnings per share.
Income available to common shareholders for basic earnings per share is
equivalent to income available to common shareholders for diluted earnings per
share.
Note 17--Employee Stock Options
Certain employees, directors, and consultants have been granted options to
buy shares of Torchmark stock, generally at the market value of the stock on
the date of grant, under the provisions of the various Torchmark stock option
plans. The options are exercisable during the period commencing from the date
they vest until expiring ten years and two days or eleven years after grant.
Employee and consultant stock options generally vest one-half in two years and
one-half in three years. Formula-based director grants generally vest in six
months. Grants in August, 2001 and November, 1999 vested immediately for all
optionees other than those subject to SEC Section 16(a) reporting, whose
options vest in six months. A grant in December, 2000 vested in six months.
Stock options awarded in connection with compensation deferrals by certain
directors and executives vest over ten years. Torchmark generally issues
shares for the exercise of stock options out of treasury stock.
An analysis of shares available for grant is as follows:
Available for Grant
----------------------------------
2001 2000 1999
---------- ---------- ----------
Balance at January 1..................... 9,476,067 10,869,220 13,192,506
Lapse of restricted stock grants(1)...... -0- -0- 8,625
Expired during year...................... 35,573 1,100 70,760
Granted during year ..................... (4,487,453) (1,394,253) (2,402,671)
---------- ---------- ----------
Balance at December 31................... 5,024,187 9,476,067 10,869,220
========== ========== ==========
- --------
(1) This stock grant was made from the 1987 Stock Incentive Plan. The
retirement of an employee during 1999 resulted in the lapse of unvested
grants.
Torchmark accounts for its employee stock options in accordance with SFAS
123 Accounting for Stock-Based Compensation, which defines a "fair value
method" of measuring and accounting for employee stock options. This standard
also allows accounting for such options under the "intrinsic value method" in
accordance with Accounting Principles Board Opinion No. 25, Accounting for
Stock Issued to Employees (APB 25) and related interpretations. If a company
elects to use the intrinsic value method, then pro forma disclosures of
earnings and earnings per share are required as if the fair value method of
accounting was applied. The effects of applying SFAS 123 in the pro forma
disclosures are not necessarily indicative of future amounts.
Torchmark has elected to account for its stock options under the intrinsic
value method as outlined in APB 25. The fair value method requires the use of
an option valuation model, such as the Black-Scholes option valuation model,
to value employee stock options, upon which compensation expense is based. The
Black-Scholes option valuation model was not developed for use in valuing
employee stock options. Instead, this model was developed for use in
estimating the fair value of traded options which have no vesting restrictions
and are fully transferable. In addition, option valuation models require the
input of highly subjective assumptions including the expected stock price
volatility. Because Torchmark's employee stock options have characteristics
significantly different from those of traded options, and because changes in
the subjective input assumptions can materially affect the fair value
estimate, it is management's opinion that the existing models do not provide a
reliable measure of the fair value of its employee stock options. Under the
intrinsic value method, compensation expense for Torchmark's option grants is
only recognized if the exercise price of the employee stock option is less
than the market price of the underlying stock on the date of grant.
70
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 17--Employee Stock Options (continued)
The fair value for Torchmark's employee stock options was estimated at the
date of grant using a Black-Scholes option pricing model with the following
weighted average assumptions for 2001, 2000, and 1999:
2001 2000 1999
-------- -------- --------
Risk-free interest rate........................... 4.5% 5.1% 6.0%
Dividend yield.................................... 0.9% 1.0% 1.2%
Volatility factor................................. 31.7 32.5 25.6
Weighted average expected life (in years)......... 4.75 4.77 4.66
For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting period. Torchmark's
pro forma information follows (in thousands except for earnings per share
information):
2001 2000 1999
-------- -------- --------
As reported net income........................... $356,513 $362,035 $273,956
Pro forma net income............................. 318,499 357,423 262,433
As reported basic net income per share........... 2.85 2.83 2.06
Pro forma basic net income per share............. 2.55 2.79 1.97
As reported diluted net income per share......... 2.83 2.82 2.04
Pro forma diluted net income per share........... 2.53 2.78 1.96
Torchmark executed a stock option exercise and restoration program on August
9, 2001 and November 15, 1999 through which 122 and 80 Torchmark directors and
employees, respectively, exercised vested stock options. These participants
were granted a reduced number of new options at the respective current market
price. The August 9, 2001 and November 15, 1999 programs resulted in the
issuance of 4.0 million shares and 1.8 million shares, respectively, of which
3.5 million shares and 1.2 million shares, respectively, were immediately sold
by the directors and employees through the open market to cover the cost of
the purchased shares and related taxes. Another restoration program was
effected on December 20, 2000 involving two employees who were not able to
participate in the 1999 restoration program. They exercised vested options
resulting in the issuance of 433 thousand shares, of which 283 thousand shares
were sold by the employees to pay the exercise price and minimum withholding
taxes. As a result of these restoration programs, management's ownership
interest increased, and Torchmark received a significant current tax benefit
from the exercise of the options.
A summary of Torchmark's stock option activity and related information for
the years ended December 31, 2001, 2000, and 1999 follows:
2001 2000 1999
---------------------------- --------------------------- ----------------------------
Weighted Average Weighted Average Weighted Average
Options Exercise Price Options Exercise Price Options Exercise Price
---------- ---------------- --------- ---------------- ---------- ----------------
Outstanding-beginning
of year................ 8,531,198 $31.85 7,661,787 $30.14 7,228,400 $27.04
Granted................. 4,487,453 40.40 1,394,253 36.37 2,402,671 31.36
Exercised............... (4,255,646) 31.62 (523,742) 18.89 (1,898,524) 19.80
Expired................. (35,573) 36.82 (1,100) 28.84 (70,760) 32.98
---------- ------ --------- ------ ---------- ------
Outstanding-end of year. 8,727,432 36.28 8,531,198 31.85 7,661,787 30.14
========== ====== ========= ====== ========== ======
Exercisable at end of
year................... 5,802,358 37.02 5,345,265 31.54 4,243,254 29.37
The weighted average fair value of options granted during the years ended
December 31, 2001, 2000, and 1999 were $13.00, $12.05, and $9.29,
respectively.
71
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 17--Employee Stock Options (continued)
The following table summarizes information about stock options outstanding at
December 31, 2001:
Contract
Exercise Number Number Termination
Price Grant Date Outstanding Exercisable Date
-------- ---------- ----------- ----------- -----------
14.55172-14.58579 December 16, 1994 15,000 15,000 December 18, 2004
14.92781 January 3, 1995 7,010 7,010 January 5, 2005
15.94885* December 18, 1996 36,000 6,000 December 18, 2007
16.42468 January 2, 1992 21,029 21,029 January 4, 2002
18.56413 December 20, 1995 50,600 50,600 December 22, 2005
18.61765-18.618 December 14, 1993 25,702 25,702 December 16, 2003
19.26091 January 2, 1996 7,010 7,010 January 4, 2006
19.26091-19.276 January 3, 1994 13,010 13,010 January 5, 2004
19.8125 February 29, 2000 7,691 7,691 February 28, 2011
21.29257-21.30859 December 16, 1996 97,598 97,598 December 18, 2006
21.50657-21.50770 January 2, 1997 7,010 7,010 January 4, 2007
21.52056 January 2, 1997 10,900 0 January 2, 2008
22.14864-22.16198 January 31, 1997 94,051 2,937 January 31, 2008
22.25559 December 7, 1992 14,484 14,484 December 9, 2002
24.7174-24.72794 January 4, 1993 13,010 13,010 January 6, 2003
25.75 January 18, 2000 5,678 5,678 January 18, 2011
27.325 January 17, 2000 5,410 5,410 January 17, 2011
27.75 January 4, 2000 17,164 17,164 January 4, 2011
27.8125 December 21, 1999 1,051,950 525,825 December 23, 2009
27.8125 December 21, 1999 68,421 7,889 December 21, 2010
28.3125 January 3, 2000 10,184 5,149 January 3, 2011
33.27631-33.28237 December 24, 1997 55,499 55,499 December 26, 2007
33.4375 December 16, 1998 346,554 343,541 December 18, 2008
33.4375 December 16, 1998 93,534 15,636 December 16, 2009
33.4903-33.497 September 25, 1997 216,160 216,160 September 27, 2007
33.54382 January 9, 1998 9,089 0 January 9, 2009
33.9375 January 11, 1999 40,820 40,820 January 11, 2010
34 January 5, 2001 4,663 0 January 15, 2012
34.5 November 15, 1999 532,774 532,774 November 17, 2009
34.5 January 8, 2001 30,701 30,701 January 8, 2012
34.75 December 30, 1998 31,727 3,966 December 30, 2009
34.875 January 23, 2001 5,025 5,025 January 23, 2012
35.63037 February 16, 1998 8,439 0 February 16, 2009
35.95 March 15, 2001 4,617 4,617 March 15, 2012
36.11175-36.11284 January 2, 1998 116,709 116,709 January 4, 2008
36.37928 February 10, 1998 7,950 0 February 10, 2009
36.43278 February 4, 1998 7,989 0 February 4, 2009
36.57 May 14, 2001 4,740 4,740 May 14, 2012
37.375 December 20, 2000 1,188,552 263,052 December 22, 2010
37.375 December 20, 2000 53,994 5,400 December 20, 2011
37.625 January 3, 2001 4,210 4,210 January 3, 2012
38.2 December 13, 2001 1,029,150 0 December 15, 2011
38.2 December 13, 2001 51,322 0 December 13, 2012
41.26 August 9, 2001 3,304,302 3,304,302 August 11, 2011
--------- ---------
8,727,432 5,802,358
========= =========
- --------
* Issued when the market price was $24.8125. Option price at that time (prior
to the Waddell & Reed spin-off adjustment) was $18.61.
72
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 18--Commitments and Contingencies
Reinsurance: Insurance affiliates of Torchmark reinsure that portion of
insurance risk which is in excess of their retention limits. Retention limits
for ordinary life insurance range up to $2.5 million per life. Life insurance
ceded represents less than 1.0% of total life insurance in force at December
31, 2001. Insurance ceded on life and accident and health products represents
.7% of premium income for 2001. Torchmark would be liable for the reinsured
risks ceded to other companies to the extent that such reinsuring companies
are unable to meet their obligations.
Insurance affiliates also assume insurance risks of other companies. Life
reinsurance assumed represents 2.2% of life insurance in force at December 31,
2001 and reinsurance assumed on life and accident and health products
represents 1.7% of premium income for 2001.
Leases: Torchmark leases office space and office equipment under a variety
of operating lease arrangements. These leases contain various renewal options,
purchase options, and escalation clauses. Rental expense for operating leases
was $3.2 million in 2001, $3.3 million in 2000, and $3.4 million in 1999.
Future minimum rental commitments required under operating leases having
remaining noncancelable lease terms in excess of one year at December 31, 2001
are as follows: 2002, $2.0 million; 2003, $1.4 million; 2004, $850 thousand;
2005, $526 thousand; 2006, $370 thousand and in the aggregate, $6.2 million.
Concentrations of Credit Risk: Torchmark maintains a highly diversified
investment portfolio with limited concentration in any given region, industry,
or economic characteristic. At December 31, 2001, the investment portfolio
consisted of the following:
Investment-grade corporate bonds 74%
Non-investment-grade securities 7
Securities of the U.S. government or U.S. government-backed
securities 4
Non-government-guaranteed mortgage-backed securities 4
Policy loans, which are secured by the underlying insurance policy
values 4
Securities of state and municipal governments 2
Mortgages 2
Short-term investments, which generally mature within one month 2
Securities of foreign governments, equity securities, real estate,
and other long-term investments 1
Investments in municipal governments and corporations are made throughout
the U.S. with no concentration in any given state. Most of the investments in
foreign government securities are in Canadian and Mexican government
obligations. Corporate debt and equity investments are made in a wide range of
industries. At December 31, 2001, 3% or more of the portfolio was invested in
the following industries:
Electric, gas, and sanitary services 14%
Depository institutions 12
Insurance carriers 7
Communications 6
Nondepository credit institutions 5
Food and kindred products 4
Chemicals and allied products 3
Transportation equipment 3
Otherwise, no individual industry represented 3% or more of Torchmark's
investments. At year-end 2001, 7% of the carrying value of fixed maturities
was rated below investment grade (BB or lower as rated by Standard & Poor's or
the equivalent NAIC designation). Par value of these investments was $598
73
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 18--Commitments and Contingencies (continued)
million, amortized cost was $559 million, and market value was $484 million.
While these investments could be subject to additional credit risk, such risk
should generally be reflected in market value.
Collateral Requirements: Torchmark requires collateral for investments in
instruments where collateral is available and is typically required because of
the nature of the investment. Since the majority of Torchmark's investments is
in government, government-secured, or corporate securities, the requirement
for collateral is rare. Torchmark's mortgages are secured by the underlying
real estate.
Guarantees: In the fourth quarter of 1999, Torchmark issued a full financial
guaranty of all obligations, receivables, and recovery of capital on behalf of
its wholly-owned subsidiaries American Income and AILIC Receivables
Corporation up to $100 million. The guarantee was made to an unaffiliated
third party as agent for the purchasers of certain agent receivables of
American Income.
In connection with its line of credit facility with a group of lenders,
Torchmark has guaranteed letters of credit of another wholly-owned subsidiary
in the maximum amount of $200 million. At December 31, 2001, $168 million of
letters of credit were issued.
Litigation: Torchmark and its subsidiaries continue to be named as parties
to pending or threatened legal proceedings. These lawsuits involve tax
matters, alleged breaches of contract, torts, including bad faith and fraud
claims based on alleged wrongful or fraudulent acts of agents of Torchmark's
subsidiaries, employment discrimination, and miscellaneous other causes of
action. Many of these lawsuits involve claims for punitive damages in state
courts of Alabama, a jurisdiction particularly recognized for its large
punitive damage verdicts. A number of such actions involving Liberty also name
Torchmark as a defendant. In 1999, Alabama enacted legislation limiting
punitive damages in non-physical injury cases to the greater of $500,000 or
three times compensatory damages. Since this legislation has not undergone
scrutiny by appellate courts regarding its constitutionality and a jury's
discretion regarding the amount of compensatory damages (including mental
anguish) awarded in any given case is not precisely defined, the effect of
this legislation on Torchmark's litigation remains unclear. Bespeaking caution
is the fact that the likelihood or extent of a punitive damage award in any
given case is currently impossible to predict. As of December 31, 2001,
Liberty was a party to approximately 86 active lawsuits (including 9
employment related cases and excluding interpleaders and stayed cases), 62 of
which were Alabama proceedings and 7 of which were Mississippi proceedings in
which punitive damages were sought. Liberty faces trial settings in these
cases on an on-going basis.
Based upon information presently available, and in light of legal and other
factual defenses available to Torchmark and its subsidiaries, contingent
liabilities arising from threatened and pending litigation are not presently
considered by management to be material. It should be noted, however, that
large punitive damage awards bearing little or no relation to actual damages
awarded by juries in jurisdictions in which Torchmark has substantial
business, particularly Alabama and Mississippi, continue to occur, creating
the potential for unpredictable material adverse judgments in any given
punitive damage suit.
Previous reports have disclosed that in July 1998, a jury in the U.S.
District Court in the Middle District of Florida recommended an aggregate
total verdict amounting to $21.6 million against Liberty in Hipp v. Liberty
National Life Insurance Company (Case No. 95-1332-CIV-17A). This case,
originally filed in 1995 in the Florida court system, is a collective action
under the Fair Labor Standards Act, alleging age discrimination by Liberty in
violation of the Age Discrimination in Employment Act and the Florida Civil
Rights Act. The plaintiffs, ten present or former Liberty district managers,
sought damages for lost wages, loss of future earnings, lost health and
retirement benefits and lost raises and expenses. Three of these plaintiffs,
Florida residents, also sought compensatory and punitive damages allowable
under Florida law. On November 20, 1998, the District Court remitted the $10
million punitive damage portion of the jury verdict to $0, thus reducing the
total verdict to $11 million (including an advisory verdict of $3.2 million in
front pay awards). Additional revised front pay submissions were made by the
plaintiffs to the District Court in December 1998 and Liberty responded
thereto in January 1999. On March 11, 1999, the District Court reduced the
Hipp verdict to $7 million by denying the plaintiffs front pay damages and
remitting the punitive damages awarded to the Florida resident plaintiffs to
the $100,000 limit allowable under Florida law. Final judgment was entered by
the District Court and Liberty filed its appeal with the Circuit Court of
Appeals for the Eleventh Circuit on September 27, 1999. Oral arguments in this
appeal were presented
74
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 18--Commitments and Contingencies (continued)
before the Eleventh Circuit on September 18, 2000. On May 29, 2001, the
Eleventh Circuit reversed and rendered the Hipp decision. Plaintiffs
subsequently filed a petition for an en banc rehearing with the
Eleventh Circuit, which was denied August 14, 2001. On February 19, 2002, the
United States Supreme Court denied plaintiffs' motion for a writ of
certiorari.
As previously reported, on March 15, 1999, Torchmark was named as a
defendant in consolidated derivative securities class action litigation
involving Vesta Insurance Group, Inc. filed in the U.S. District Court for the
Northern District of Alabama (In re Vesta Insurance Group, Inc. Securities
Litigation. Master File No. 98-AR-1407-S). The amended consolidated complaint
in this litigation alleges violations of Section 10(b) of the Securities
Exchange Act of 1934 by the defendants Vesta, certain present and former Vesta
officers and directors, Vesta's former independent public accountants and
Torchmark and of Section 20(a) of the Exchange Act by certain former Vesta
officers and directors and Torchmark acting as "controlling persons" of Vesta
in connection with certain accounting irregularities in Vesta's reported
financial results and filed financial statements. Unspecified damages and
equitable relief are sought on behalf of a purported class of purchasers of
Vesta equity securities between June 2, 1995 and June 29, 1998. A class was
certified in this litigation on October 25, 1999. In September, 2001,
Torchmark filed a motion for summary judgment, which was denied by the
District Court on January 10, 2002.
As previously reported, Liberty was served on October 28, 1999 with a
subpoena from the Florida Department of Insurance in connection with that
Department's investigation into Liberty's sales practices and disclosures in
the State of Florida regarding industrial life insurance and low coverage life
insurance policies. Liberty has also received similar subpoenas from the
Alabama, Georgia, Kentucky, Texas, South Carolina and Minnesota Insurance
Departments regarding its industrial life insurance and other low face-amount
life insurance policies sold in those states. Specific inquiry is made into
the historical use of race-based mortality, a practice discontinued by Liberty
many years ago. In 1988, Liberty endeavored to convert to paid-up status those
purely race-based policies that then remained in premium-paying status.
Liberty has been and continues responding to these subpoenas in a timely
fashion. In July 2000, the Florida and Georgia Insurance Departments issued
cease and desist orders to all companies reporting premium income from
industrial life insurance, including Liberty, stating that, to the extent that
any company is currently collecting any race-based insurance premiums from
Florida and Georgia residents, respectively, it immediately cease and desist
from collecting any premium differential based on the race of the
policyholders. Upon receiving the Georgia order, Liberty informed the Georgia
Insurance Department that Liberty did not interpret the Georgia Department's
directive as a cease and desist order since it did not afford Liberty the
opportunity for a mandatory or voluntarily requested hearing thereunder. On
August 22, 2000, the Florida District Court of Appeals issued an order staying
the Florida Insurance Department's immediate final cease and desist order,
pending appeals to the Florida Supreme Court. The Florida Supreme Court
subsequently reversed and rendered the District Court of Appeals' order, and
thus declared the cease and desist order null and void. Liberty, as an Alabama
domestic company, was examined by representatives of the Alabama Department of
Insurance with regard to issues parallel to those raised by the State of
Florida. By order dated January 28, 2002, the Alabama Department finalized a
report of its examination of LIberty. The report has now been turned over to
the Alabama Department's Legal Division for further consideration.
On December 8, 1999, purported class action litigation was filed against
Liberty in the United States District Court for the Northern District of
Alabama (Moore v. Liberty National Life Insurance Company, Case No. CV-99-BU-
3262-S), on behalf of all African-Americans who have or have had at the time
of policy termination an ownership interest in certain life insurance policies
($25,000 face amount or less) marketed by Liberty and certain of its former
subsidiaries. The alleged class period covers virtually the entire twentieth
century. Plaintiffs allege racial discrimination in Liberty's premium rates in
violation of 42 U.S.C. (S) 1981, breach of fiduciary duty in sales and
administrative practices, receipt of excessive and unreasonable premium
payments by Liberty, improper hiring, supervision, retention and failure to
monitor actions of officers, agents and employees, breach of contract in
dismantling the debit premium collection system, fraudulent inducement and
negligent misrepresentation. Unspecified compensatory and punitive damages are
sought together with a declaratory judgment and equitable and/or injunctive
relief, including establishment of a constructive trust for the benefit of
class members. Defendants filed a motion for
75
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 18--Commitments and Contingencies (continued)
judgment on the pleadings or in the alternative for summary judgment on
January 27, 2000. On April 7, 2000, the District Court entered an order
granting Liberty's motion for judgment on the pleadings and dismissing
plaintiffs' claims under 42 U.S.C. (S) 1981 with prejudice as time-barred and
dismissing their state law claims without prejudice to re-file in state court
if desired. Plaintiffs subsequently filed motions with the District Court to
reconsider its April 17, 2000 order and for permission to file an amended
complaint adding similar claims under 24 U.S.C. (S) 1982. Liberty opposed this
motion. On June 22, 2000, purported class action litigation with allegations
comparable to those in the Moore case was filed against Liberty in the Circuit
Court of Jefferson County, Alabama (Baldwin v. Liberty National Life Insurance
Company, Case No. CV 00-684). The Baldwin case is currently stayed pending
disposition of the Moore case.
On July 3, 2000, the District Court issued an order in the Moore case
granting in part and denying in part the plaintiffs' motions. The District
Court ordered the Moore plaintiffs to file an amended complaint
setting forth their claims under 28 U.S.C. (S)(S) 1981 and 1982 and, if such
claims are timely, any state law claims for breach of contract related to the
discontinuance of debit collections, and dismissed with prejudice all
remaining state law claims of the plaintiffs as time-barred by the common law
rule of repose. On July 14, 2000, plaintiffs filed their amended complaint
with the District Court and Liberty filed a motion to alter or amend the
District Court's July order or, in the alternative, requested that the
District Court certify for purposes of appeal the issue whether the state law
doctrine of repose should be applied to and bar plaintiffs' actions under
(S)(S) 1981 and 1982. The District Court entered such an order on July 21,
2000 and stayed proceedings in Moore pending resolution of Liberty's petition
to the U.S. Circuit Court of Appeals for the Eleventh Circuit. Liberty filed a
petition on July 30, 2000 with the Eleventh Circuit seeking that Court's
permission to appeal the portions of the District Court's July order in Moore
granting the plaintiffs the right to file the amended complaint. The Eleventh
Circuit Court granted Liberty's motion and agreed to consider Liberty's
arguments regarding the applicability of the state law of repose to actions
under (S)(S)1981 and 1982. Oral arguments were heard by the Eleventh Circuit
Court on July 20, 2001. On September 28, 2001, the Eleventh Circuit Court
ruled that the rule of repose was not a bar to the Moore claims in federal
court and that there is no reverse pre-emption under the McCarrin Ferguson
Act. Liberty has filed a petition seeking an en banc rehearing in the Eleventh
Circuit Court, which was subsequently denied. Liberty filed a petition for a
writ of certiorari with the U.S. Supreme Court on February 21, 2002. The
District Court has scheduled the filing of motions for class certification in
Moore for November 21, 2002.
Four individual cases with similar allegations to those in the Moore case
which were filed against Liberty in various state Circuit Courts in Alabama
remain pending and have been removed and/or transferred to the U.S. District
Courts for either the Middle or Northern Districts of Alabama. The Moore case
and those cases transferred to the Northern District of Alabama have been
assigned to Judge U.W. Clemon, a noted former civil rights attorney. In the
earliest filed of the individual state court actions, Walter Moore v. Liberty
National Life Insurance Company (Circuit Court of Dallas County, CV 00-306)
the Court entered an order granting summary judgment in favor of Liberty based
upon the doctrine of repose and has subsequently denied a motion to reconsider
its dismissal of this case.
Hudson v. Liberty National Life Insurance Company, one of the four
individual cases referenced above, was filed in the Circuit Court of Bullock
County, Alabama on February 28, 2001 (Case No. CV 2001-25) and contains
similar allegations to those in Moore. After denials by the Bullock Circuit
Court of Liberty's motion to dismiss and request that certain questions
arising in the litigation be certified to the Alabama Supreme Court, Liberty
sought a writ of mandamus on the certified questions issue from the Alabama
Supreme Court. The Alabama Supreme Court agreed to hear Liberty's petition for
writ of mandamus seeking to have the Supreme Court direct the trial court to
grant Liberty's motion to dismiss or for a summary judgment or to certify for
interlocutory appeal the Circuit Court's denial of such motion. On January 18,
2002, the Alabama Supreme Court denied Liberty's request for the writ of
mandamus but noted that Liberty's motion for summary judgment based on the
rule of repose remains pending in the trial court and is ripe for
adjudication. Upon remand, plaintiff amended his complaint to add causes of
action under Federal law and Liberty is seeking to remove this case to Federal
court as discussed above.
In the fifth individual state court action, (Edwards v. Liberty National
Life Insurance Company), Case No. CV 0005872), the trial court denied
Liberty's motion seeking a summary judgment based upon the
76
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 18--Commitments and Contingencies (continued)
rule of repose but indicated that it would reconsider that motion after
discovery. Liberty filed a motion to alter or amend the trial court's order,
or in the alternative, for an interlocutory appeal. In September 2001, the
trial court in that case vacated its earlier order and stayed the litigation
pending resolution of the Hudson case, which is discussed above. On February
22, 2002, the trial court held a hearing regarding the stay in Edwards.
On March 15, 2001, purported class action litigation was filed against
Liberty in the United States District Court for the District of South Carolina
(Hinton v. Liberty National Life Insurance Company, Civil Action No. 3-01-
68078 19), containing allegations largely similar to the Moore case filed in
the Federal District Court for the Northern District of Alabama. Liberty was
described in the suit as successor in interest of New South Life Insurance
Company (New South), an insurer acquired out of receivership by an entity
which was subsequently acquired by Peninsular Life Insurance Company
(Peninsular). In 1985, Liberty reinsured a block of insurance business from
Peninsular, including business formerly written by New South. Liberty has
requested indemnification in the Hinton litigation from Peninsular and its
successors in interest. Liberty sought a writ of mandamus in Hinton from the
Fourth Circuit Court of Appeals as well as a change of venue to consolidate
the Hinton case with the Moore case currently pending in Federal District
Court in Alabama. Both the change in venue and the writ of mandamus were
denied. However, the South Carolina District Court issued an order inviting
the parties to resubmit a motion for change of venue. Liberty National filed
such a motion to transfer the case to the U.S. District Court for the Northern
District of Alabama, which was granted by the South Carolina District Court on
February 12, 2002.
Another action with similar allegations to Moore, which also includes claims
for race discrimination under 24 U.S.C. (S)(S)1981 and 1982, was filed against
Liberty in U.S. District Court for the Northern District of Alabama on January
28, 2002 (Hull v. Liberty National Life Insurance Company, Civil Action No.:
CV-02-C-0219-W).
On July 26, 2001, litigation was filed against Torchmark and three current
members of Torchmark's Board of Directors in the United States District Court
for the District of Kansas (Waddell & Reed Financial, Inc. v. Torchmark
Corporation, Civil Action No. 01-2372-KHV). Plaintiffs assert that defendants
engaged in a scheme to control and injure Waddell & Reed Financial after it
was spun-off by Torchmark in November 1998, to interfere with the business
relationship between a Waddell & Reed Financial subsidiary, Waddell & Reed,
Inc. (W&R) and a Torchmark subsidiary, United Investors Life Insurance Company
(UILIC), and to injure W&R Financial as well as asserting that one of the
individual defendants sought to interfere with W&R Financial's relationship
with the United Group of Mutual Funds. The litigation alleges RICO violations,
breaches of fiduciary duty by the three individual defendants, knowing
participation in such breaches of fiduciary duty by Torchmark and intentional
interference with prospective business relations in connection with the
relationship between W&R and UILIC. Plaintiffs seek actual, punitive and
treble damages, interest, fees and costs under RICO of $29 million, $13.4
million plus punitive damages, interest and costs on the intentional
interference allegations and a total of $58 million on the remaining two
counts.
Defendants filed a motion to abstain or, in the alternative, to dismiss the
Kansas District Court litigation on August 22, 2001, citing pending litigation
filed in Alabama state circuit court by Torchmark and its subsidiary, UILIC
against W&R Financial and W&R involving an alleged agreement dealing with
existing in-force UILIC variable annuity business marketed by W&R as well as
the prior dismissal by the Kansas District Court of litigation originally
filed by W&R against UILIC in Kansas state court involving such variable
annuity business. Defendant's motion was denied but the Kansas District Court
ruled that a judgment in the prior Alabama litigation would likely be res
judicata as to the claims against Torchmark and one of the individual
defendants in the current Kansas litigation. Trial of the Alabama state court
litigation began February 19, 2002.
On September 28, 2001, a shareholder derivative action was filed in the
Circuit Court of Jefferson County, Alabama against Torchmark, two unaffiliated
limited liability companies, and three individual defendants (Bomar v.
Torchmark Corporation, Case No. CV 0105981). The derivative action arises from
77
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 18--Commitments and Contingencies (continued)
an October 1, 1999 transaction in which the three individual defendants (one
of whom is a director and former Chairman of Torchmark and a second of whom is
a former officer of a former real estate subsidiary of Torchmark) acting
through two unaffiliated limited liability companies acquired the majority of
the investment real estate of Torchmark together with other properties.
Plaintiff alleges that, despite review and approval of the transaction by all
independent and disinterested members of the Torchmark Board of Directors, the
transaction was procedurally and substantively unfair to Torchmark and
resulted from the breach of fiduciary duties of loyalty owed to Torchmark by
two of the above described individual defendants and the knowing participation
of the third individual defendant in the alleged breach of fiduciary duty.
Establishment of a constructive trust for such assets for the benefit of
Torchmark and its shareholders, an accounting for profits and unspecified
compensatory and punitive damages are sought.
On October 16, 2001, defendant Torchmark filed a motion to dismiss and to
stay discovery in the Bomar action, asserting plaintiff's lack of standing,
failure to make a legally-required demand on the Board of Directors of
Torchmark and failure to comply with certain Alabama Rules of Civil Procedure.
On October 17, 2001, the Board of Directors created a special litigation
committee comprised of two
independent, disinterested directors to review and make determinations and a
report with regard to the transactions involved in such suit. Defendant
Torchmark's motion was amended on October 19, 2001 to include as further
grounds for dismissal and stay the creation of that special litigation
committee and the delegation of complete authority to said committee to review
the transaction and determine whether prosecution of the Bomar action is in
the interests of Torchmark and its shareholders and what action Torchmark
should take with regard to the Bomar action. The committee, through its
separately retained counsel, advised the Court that it concurred in
Torchmark's motions. The plaintiff subsequently amended her complaint to
delete the request for establishment of a constructive trust. A hearing on
Torchmark's amended motion to dismiss and stay discovery was held November 13,
2001 and on November 26, 2001, the Circuit Court issued an order staying all
proceedings in Bomar for 150 days during which the special litigation
committee was charged with investigating, reviewing and analyzing the asserted
claims, completing its written report and filing the same with the Circuit
Court. The special litigation committee has obtained from Torchmark the
documentary evidence it requested from the company and in February, 2002
commenced its witness interview process.
On January 22, 2002, purported class action litigation was filed against
Liberty and Torchmark in the Circuit Court of Choctaw County, Alabama on
behalf of all persons who currently or in the past were insured under Liberty
cancer policies which are no longer marketed regardless of whether such
policies remain in force or have lapsed (Roberts v. Liberty National Life
Insurance Company, Case No. CV-2002-009-B). Plaintiffs in this action
purchased guaranteed renewable cancer policies wherein Liberty reserved the
right to change premium rates. They allege that Liberty ceased marketing
certain cancer policies-- "closed" the block of business, capping the
potential pool of insureds and leading to increased premiums to the remaining
insureds. They further allege that in instituting premium increases on cancer
policies after the Robertson v. Liberty National Life Insurance Company class
action settlement, Liberty misrepresented the reasons for such premium
increases. This action asserts claims for breach of contract in implementing
premium rate increases on a basis other than that set out in the policies,
misrepresentation regarding the premium increases, fraud and suppression
concerning the closed block of business and unjust enrichment. Unspecified
compensatory and punitive damages, attorneys fees, costs and interest are
sought by plaintiffs on behalf of the class.
Torchmark has previously reported the settlement and dismissal of Pearson v.
Torchmark Corporation (Case No. CV-95-140) on January 10, 2001. The settlement
fund of $6 million, to which Torchmark contributed pursuant to a litigation
indemnity given at the time of its 1996 sale of Torch Energy Advisors
Incorporated, was distributed in March 2001.
Note 19--Business Segments
Torchmark's segments are based on the insurance product lines it markets and
administers: life insurance, health insurance, and annuities. These major
product lines are set out as segments because of the common characteristics of
products within these categories, comparability of margins, and the similarity
in regulatory environment and management techniques. There is also an
investment segment which manages the investment portfolio, debt, and cash flow
for the insurance segments and the
78
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 19--Business Segments (continued)
corporate function. Torchmark's management evaluates the overall performance
of the operations of the company in accordance with these segments.
Life insurance products include traditional and interest-sensitive whole
life insurance as well as term life insurance. Health products are generally
guaranteed-renewable and include Medicare Supplement, cancer, accident, long-
term care, and limited hospital and surgical coverages. Annuities include both
fixed-benefit and variable contracts. Variable contracts allow policyholders
to choose from a variety of mutual funds in which to direct their deposits.
Torchmark markets its insurance products through a number of distribution
channels, each of which sells the products of one or more of Torchmark's
insurance segments. The tables below present segment premium revenue by each
of Torchmark's marketing groups.
Torchmark Corporation
Premium By Distribution Channel
For the Year 2001
-------------------------------------------------------------------
Life Health Annuity Total
---------------- ---------------- ------------- ----------------
% of % of % of % of
Distribution Channel Amount Total Amount Total Amount Total Amount Total
- -------------------- ---------- ----- ---------- ----- ------- ----- ---------- -----
United American
Independent............ $ 47,415 4.1% $ 464,100 45.9% $ 393 0.7% $ 511,908 23.1%
Liberty National
Exclusive.............. 297,223 26.0 155,886 15.4 63 0.1 453,172 20.5
American Income
Exclusive.............. 246,690 21.5 49,835 4.9 296,525 13.4
Direct Response......... 289,097 25.3 17,773 1.8 306,870 13.8
United American Branch
Office................. 19,255 1.7 323,159 32.0 342,414 15.5
Other................... 244,819 21.4 59,461 99.2 304,280 13.7
---------- ----- ---------- ----- ------- ----- ---------- -----
$1,144,499 100.0% $1,010,753 100.0% $59,917 100.0% $2,215,169 100.0%
========== ===== ========== ===== ======= ===== ========== =====
For the Year 2000
-------------------------------------------------------------------
Life Health Annuity Total
---------------- ---------------- ------------- ----------------
% of % of % of % of
Distribution Channel Amount Total Amount Total Amount Total Amount Total
- -------------------- ---------- ----- ---------- ----- ------- ----- ---------- -----
United American
Independent............ $ 42,305 3.9% $ 442,370 48.6% $ 700 1.3% $ 485,375 23.7%
Liberty National
Exclusive.............. 294,197 27.2 151,363 16.6 79 0.2 445,639 21.8
American Income
Exclusive.............. 231,149 21.4 48,296 5.3 279,445 13.7
Direct Response......... 267,899 24.7 14,860 1.6 282,759 13.8
United American Branch
Office................. 19,393 1.8 254,267 27.9 273,660 13.4
Other................... 227,182 21.0 52,150 98.5 279,332 13.6
---------- ----- ---------- ----- ------- ----- ---------- -----
$1,082,125 100.0% $911,156 100.0% $52,929 100.0% $2,046,210 100.0%
========== ===== ========== ===== ======= ===== ========== =====
For the Year 1999
-------------------------------------------------------------------
Life Health Annuity Total
---------------- ---------------- ------------- ----------------
% of % of % of % of
Distribution Channel Amount Total Amount Total Amount Total Amount Total
- -------------------- ---------- ----- ---------- ----- ------- ----- ---------- -----
United American
Independent............ $ 37,375 3.7% $427,023 51.8% $ 508 1.2% $ 464,906 24.7%
Liberty National
Exclusive.............. 288,330 28.3 143,857 17.4 60 0.2 432,247 22.9
American Income
Exclusive.............. 217,367 21.4 47,564 5.8 264,931 14.1
Direct Response......... 245,824 24.1 11,778 1.4 257,602 13.7
United American Branch
Office................. 19,318 1.9 194,594 23.6 213,912 11.4
Other................... 210,087 20.6 40,401 98.6 250,488 13.2
---------- ----- ---------- ----- ------- ----- ---------- -----
$1,018,301 100.0% $824,816 100.0% $40,969 100.0% $1,884,086 100.0%
========== ===== ========== ===== ======= ===== ========== =====
Because of the nature of the insurance industry, Torchmark has no individual
or group which would be considered a major customer. Substantially all of
Torchmark's business is conducted in the United States, primarily in the
Southeastern and Southwestern regions.
The measure of profitability established by management for insurance
segments is underwriting income before other income and administrative
expenses, in accordance with the manner the segments
79
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 19--Business Segments (continued)
are managed. It essentially represents gross profit margin on insurance
products before insurance administrative expenses and consists of premium,
less net policy obligations, acquisition expenses, and commissions. It differs
from GAAP pretax operating income before other income and administrative
expense because interest credited to net policy liabilities (reserves less
deferred acquisition costs and value of insurance purchased) is reflected as a
component of the Investment segment in order to match this cost to the
investment earnings from the assets supporting the net policy liabilities.
The measure of profitability for the investment segment is excess investment
income, which represents the income earned on the investment portfolio in
excess of net policy requirements and financing costs associated with debt and
Torchmark's preferred securities. The investment segment is measured on a tax-
equivalent basis, equating the return on tax-exempt investments to the pretax
return on taxable investments. Other than the above-mentioned interest
allocations, there are no other intersegment revenues or expenses. Expenses
directly attributable to corporate operations are included in the "Corporate"
category. All other unallocated revenues and expenses on a pretax basis,
including insurance administrative expense, are included in the "Other"
segment category. The table below sets forth a reconciliation of Torchmark's
revenues and operations by segment to its major income statement line items.
For the year 2001
-------------------------------------------------------------------------------------------
Life Health Annuity Investment Other Corporate Adjustments Consolidated
---------- ---------- -------- ---------- --------- --------- ----------- ------------
Revenue:
Premium................ $1,144,499 $1,010,753 $ 59,917 $2,215,169
Net Investment income.. $496,207 $(4,377) 491,830
Other income........... $ 4,391 (1,916) 2,475
---------- ---------- -------- -------- --------- -------- ------- ----------
Total revenue........ 1,144,499 1,010,753 59,917 496,207 4,391 -0- (6,293) 2,709,474
Expenses:
Policy benefits........ 754,193 663,908 36,535 1,454,636
Required interest on
reserves.............. (263,748) (14,911) (42,604) 321,263 -0-
Amortization of
acquisition costs..... 201,322 71,913 28,558 301,793
Commissions and premium
tax................... 63,949 99,047 2,381 (1,916) 163,461
Required interest on
acquisition costs..... 105,391 17,338 9,351 (132,080) -0-
Financing costs*....... 51,479 (6,973) 44,506
---------- ---------- -------- -------- --------- -------- ------- ----------
Total expenses....... 861,107 837,295 34,221 240,662 -0- -0- (8,889) 1,964,396
---------- ---------- -------- -------- --------- -------- ------- ----------
Underwriting income
before other income and
administrative expense
and nonrecurring
charge................. 283,392 173,458 25,696 482,546
Nonrecurring charge..... -0- -0- -0-
---------- ---------- -------- -------- --------- -------- ------- ----------
Underwriting income
before other income and
administrative expense. 283,392 173,458 25,696 -0- 482,546
Excess investment income 255,545 255,545
Subtotal adjustments.... 4,391 -0- 2,596 6,987
---------- ---------- -------- -------- --------- -------- ------- ----------
Subtotal............. 283,392 173,458 25,696 255,545 4,391 -0- 2,596 745,078
Administrative expense.. (119,038) (119,038)
Parent expense.......... $(10,104) (10,104)
Goodwill amortization... (12,075) (12,075)
---------- ---------- -------- -------- --------- -------- ------- ----------
Pretax operating
income.............. $ 283,392 $ 173,458 $ 25,696 $255,545 $(114,647) $(22,179) $ 2,596 603,861
========== ========== ======== ======== ========= ======== =======
Deduct realized investment losses................................................................. (2,432)
----------
Pretax income.................................................................................. $ 601,429
==========
- -------
* Investment segment includes preferred securities dividends on a pretax
basis.
80
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 19--Business Segments (continued)
For the year 2000
-----------------------------------------------------------------------------------------
Life Health Annuity Investment Other Corporate Adjustments Consolidated
---------- -------- -------- ---------- --------- --------- ----------- ------------
Revenue:
Premium................ $1,082,125 $911,156 $ 52,929 $2,046,210
Net Investment income.. $481,081 $ (8,655) 472,426
Other income........... $ 4,650 (2,070) 2,580
---------- -------- -------- -------- --------- -------- -------- ----------
Total revenue........ 1,082,125 911,156 52,929 481,081 4,650 (10,725) 2,521,216
Expenses:
Policy benefits........ 711,833 591,022 36,627 1,339,482
Required interest on
reserves.............. (246,989) (15,736) (42,688) 305,413 -0-
Amortization of
acquisition costs..... 188,268 68,778 17,791 274,837
Commissions and premium
tax................... 59,754 91,069 2,116 (2,070) 150,869
Required interest on
acquisition costs..... 98,596 14,907 8,124 (121,627) -0-
Financing costs*....... 70,309 (15,822) 54,487
---------- -------- -------- -------- --------- -------- -------- ----------
Total expenses....... 811,462 750,040 21,970 254,095 (17,892) 1,819,675
---------- -------- -------- -------- --------- -------- -------- ----------
Underwriting income
before other income and
administrative expense. 270,663 161,116 30,959 462,738
Excess investment
income................. 226,986 226,986
Subtotal adjustments.... 4,650 7,167 11,817
---------- -------- -------- -------- --------- -------- -------- ----------
Subtotal............. 270,663 161,116 30,959 226,986 4,650 7,167 701,541
Administrative expense.. (111,817) (111,817)
Parent expense.......... $ (9,369) (9,369)
Goodwill amortization... (12,075) (12,075)
---------- -------- -------- -------- --------- -------- -------- ----------
Pretax operating
income.............. $ 270,663 $161,116 $ 30,959 $226,986 $(107,167) $(21,444) $ 7,167 568,280
========== ======== ======== ======== ========= ======== ========
Deduct realized investment losses .............................................................. (5,322)
----------
Pretax income................................................................................ $ 562,958
==========
- -------
* Investment segment includes MIPS dividend on a pretax basis.
81
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 19--Business Segments (continued)
For the year 1999
-----------------------------------------------------------------------------------------
Life Health Annuity Investment Other Corporate Adjustments Consolidated
---------- -------- -------- ---------- --------- --------- ----------- ------------
Revenue:
Premium................ $1,018,301 $824,816 $ 40,969 $1,884,086
Net Investment income.. $458,824 $(11,487) 447,337
Other income........... $ 3,348 (2,008) 1,340
---------- -------- -------- -------- --------- -------- -------- ----------
Total revenue........ 1,018,301 824,816 40,969 458,824 3,348 (13,495) 2,332,763
Expenses:
Policy benefits........ 666,122 535,901 34,524 1,236,547
Required interest on
reserves.............. (229,287) (17,383) (40,991) 287,661 -0-
Amortization of
acquisition costs..... 170,444 64,046 13,310 247,800
Commissions and premium
tax................... 56,341 84,913 759 18,642 160,655
Required interest on
acquisition costs..... 91,412 12,707 6,536 (110,655) -0-
Financing costs*....... 66,431 (14,090) 52,341
---------- -------- -------- -------- --------- -------- -------- ----------
Total expenses....... 755,032 680,184 14,138 243,437 4,552 1,697,343
---------- -------- -------- -------- --------- -------- -------- ----------
Underwriting income
before other income and
administrative expense
and nonrecurring
charge................. 263,269 144,632 26,831 434,732
Nonrecurring charge..... (20,650) 20,650 -0-
---------- -------- -------- -------- --------- -------- -------- ----------
Underwriting income
before other income and
administrative expense. 242,619 144,632 26,831 20,650 434,732
Excess investment
income................. 215,387 215,387
Subtotal adjustments.... 3,348 (18,047) (14,699)
---------- -------- -------- -------- --------- -------- -------- ----------
Subtotal............. 242,619 144,632 26,831 215,387 3,348 2,603 635,420
Administrative expense.. (104,903) (104,903)
Parent expense.......... $(10,166) (10,166)
Goodwill amortization... (12,075) (12,075)
---------- -------- -------- -------- --------- -------- -------- ----------
Pretax operating
income.............. $ 242,619 $144,632 $ 26,831 $215,387 $(101,555) $(22,241) $ 2,603 508,276
========== ======== ======== ======== ========= ======== ========
Deduct realized investment losses and gain on sale of equipment................................. (105,868)
----------
Pretax income................................................................................ $ 402,408
==========
- -------
* Investment segment includes MIPS dividend on a pretax basis.
82
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 19--Business Segments (continued)
Assets for each segment are reported based on a specific identification
basis. The insurance segments' assets contain deferred acquisition costs,
value of insurance purchased, and separate account assets. The investment
segment includes the investment portfolio, cash, and accrued investment
income. Goodwill is assigned to corporate operations. All other assets,
representing less than 2% of total assets, are included in the other category.
The table below reconciles segment assets to total assets as reported in the
consolidated financial statements.
Torchmark Corporation
Assets By Segment
At December 31, 2001
-------------------------------------------------------------------------
Life Health Annuity Investment Other Corporate Consolidated
---------- -------- ---------- ---------- -------- --------- ------------
Cash and invested
assets................. $7,108,088 $ 7,108,088
Accrued investment
income................. 125,210 125,210
Deferred acquisition
costs.................. $1,734,683 $309,966 $ 137,713 2,182,362
Goodwill................ $378,436 378,436
Separate account assets. 2,502,284 2,502,284
Other assets............ $131,773 131,773
---------- -------- ---------- ---------- -------- -------- -----------
Total assets............ $1,734,683 $309,966 $2,639,997 $7,233,298 $131,773 $378,436 $12,428,153
========== ======== ========== ========== ======== ======== ===========
At December 31, 2000
-------------------------------------------------------------------------
Life Health Annuity Investment Other Corporate Consolidated
---------- -------- ---------- ---------- -------- --------- ------------
Cash and invested
assets................. $6,506,292 $ 6,506,292
Accrued investment
income................. 119,124 119,124
Deferred acquisition
costs.................. $1,653,567 $266,131 $ 155,621 2,075,319
Goodwill................ $390,509 390,509
Separate account assets. 3,741,415 3,741,415
Other assets............ $129,899 129,899
---------- -------- ---------- ---------- -------- -------- -----------
Total assets............ $1,653,567 $266,131 $3,897,036 $6,625,416 $129,899 $390,509 $12,962,558
========== ======== ========== ========== ======== ======== ===========
Note 20--Related Party Transactions
First Command. Lamar C. Smith, elected a director of Torchmark in October
1999, is an officer, director and 15% owner of First Command Financial
Services, Inc. (First Command), which receives commissions as the Military
Agency distribution system for selling certain life insurance products offered
by Torchmark's insurance subsidiaries. These commissions were $48.2 million in
2001, $43.5 million in 2000, and $39.2 million in 1999.
During 2001, Torchmark entered into a coinsurance agreement with First
Command whereby Torchmark cedes back to First Command approximately 5% of the
new life insurance business sold by First Command on behalf of Torchmark's
insurance subsidiaries. Under the terms of this agreement, First Command pays
Torchmark expense allowances equal to 5.5% of all premium collected and an
additional 2.9% of first year premium. First Command reimburses Torchmark for
premium taxes. Also under the agreement, Torchmark provides First Command
certain administrative, accounting, and investment management services.
Premium ceded in 2001 was $108 thousand. At December 31, 2001, life insurance
ceded was $47 million and annualized ceded premium was $398 thousand.
Torchmark has entered into two loan agreements with First Command, a
construction loan agreement and a collateral loan agreement. The construction
loan was entered into in 2001 and had an outstanding balance of $6.1 million
at December 31, 2001. The loan was made at a rate of 7.55% and is
collateralized by the construction of a four-story building in Fort Worth,
Texas to be completed in late 2002. In addition to the office building as
collateral, in the event of default, Torchmark has the right of offset to any
commissions due First Command. The maximum amount of borrowing allowed on this
loan is $22.5 million. Interest is added to the loan balance until the
building is completed. The agreement calls for Torchmark to permanently
finance the building with a fifteen-year mortgage at a rate of 2.25% over the
ten year treasury rate at inception, but not less than 7%.
The collateral loan agreement was entered into in 1998 with an initial loan
of $7 million. An additional $15 million was loaned in 2001. The loan bears
interest at a rate of 7%. It is collateralized by a group of mutual funds in
which the
83
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 20--Related Party Transactions (continued)
loan balance can never exceed 90% of the value of the collateral. The loan
accumulated interest until December 31, 2001, after which it is to be repaid
with a fixed payment amortizing the loan over fifteen years. The outstanding
loan balance at December 31, 2001 was $22.9 million.
Real Estate. In 1998, Torchmark decided to divest itself of its real estate
operations because yields that could be obtained on alternative investments
were significantly greater. During 1998 and early 1999, efforts were made to
market these properties, and as a result, the majority of its properties were
disposed of in two transactions in 1999 as discussed in Note 3, Investments
beginning on page 54 of this report. One of these transactions involved Elgin
Development Company, of which R. K. Richey, the Chairman of the Executive
Committee of Torchmark, was an investor. This transaction involved the sale of
properties to an investor group of which Elgin Development Company was a 30%
investor. Total consideration for the transaction was $97.4 million of which
$85 million was cash and the balance was in a ten year collateralized 8% note
from Elgin Development Company. Torchmark's loss associated with this
transaction was $10 million after tax. At the time of the transaction, Mr.
Richey was a one-third investor in Elgin Development Company. His total
investment in Elgin Development was approximately $1.5 million. The
outstanding balance of the collateralized note with Elgin Development Company,
which is included in fixed maturities, was $10.5 million at December 31, 2001.
At the present time, Mr. Richey is a 25% investor in Stonegate Realty
Company, LLC, the parent company of Elgin Development Company which in turn is
a 50% owner of Commercial Real Estate Services. Commercial Real Estate
Services manages certain of Torchmark's company-occupied and investment real
estate properties along with those of other clients. Fees paid by Torchmark
subsidiaries for these management and maintenance services were $757 thousand
in 2001 and $750 thousand in 2000. Lease rentals paid by Torchmark
subsidiaries were $261 thousand and $260 thousand in 2001 and 2000,
respectively.
MidFirst Bank. Torchmark has engaged MidFirst Bank as the servicing agent
for a portion of Torchmark's subsidiaries' commercial mortgages portfolios.
George J. Records is an officer, director, and 38.3% beneficial owner of
Midland Financial Co., the parent corporation of MidFirst Bank. He is also a
director of Torchmark. Fees paid for these services were $109 thousand in
2001, $106 thousand in 2000, and $72 thousand in 1999.
Baxley. William J. Baxley is a partner in the law firm of Baxley, Dillard,
Dauphin & McKnight which performs legal services for Torchmark and certain of
its subsidiaries. In 1997, Mr. Baxley was loaned $668 thousand on an unsecured
basis at a rate of 6.02%. Repayments were to be made in the form of legal
services at customary rates to be applied against the outstanding balance
which would amortize the loan with interest over nine years. In October, 2001,
the terms of the loan were revised and an additional amount of $395 thousand
was loaned to Baxley. The interest rate was revised to 5.6% and the term of
the loan was extended until July, 2013. At December 31, 2001, the outstanding
balance of this loan was $788 thousand.
Additionally, Liberty loaned Mr. Baxley's wife $883 thousand secured by a
mortgage on a building sold to her in 1997. Interest is charged at a rate of
7.7%. Scheduled cash payments are made to Liberty to amortize the loan over
thirty years. However, there is a balloon payment due at the end of ten years
(2007) in the amount of $712 thousand less a credit of $18 thousand if all
payments are made timely. To date, all payments have been timely. At December
31, 2001, the outstanding balance of this loan was $824 thousand.
Torchmark customarily grants options to certain consultants for their
services in addition to their fees. Mr. Baxley has received Torchmark options
in the past.
84
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollar amounts in thousands except per share data)
Note 21--Selected Quarterly Data (Unaudited)
The following is a summary of quarterly results for the two years ended
December 31, 2001. The information is unaudited but includes all adjustments
(consisting of normal accruals) which management considers necessary for a
fair presentation of the results of operations for these periods.
Three Months Ended
-----------------------------------------------
March 31, June 30, September 30, December 31,
--------- -------- ------------- ------------
2001:
- -----
Premium and policy charges...... $546,866 $561,218 $554,041 $553,044
Net investment income........... 120,687 122,864 123,422 124,857
Realized investment
gains/(losses)................. 6,544 4,288 8,567 (21,831)
Total revenues.................. 674,766 689,030 686,690 656,556
Policy benefits................. 358,879 366,807 363,036 365,914
Amortization of acquisition
expenses....................... 72,445 79,054 77,227 73,067
Pretax income from continuing
operations..................... 155,278 155,725 160,666 129,760
Income (loss) from discontinued
operations..................... (3,280) -0- -0- -0-
Net income...................... 96,398 73,174 103,815 83,126
Basic net income per common
share from continuing
operations..................... .79 .81 .84 .69
Basic net income per common
share.......................... .76 .58 .83 .67
Diluted net income per common
share from continuing
operations..................... .79 .80 .83 .69
Diluted net income per common
share.......................... .76 .58 .82 .67
Diluted net income per common
share from continuing
operations excluding realized
gains/(losses), and gain/(loss)
on redemption of debt and
change in accounting principle. .75 .78 .79 .80
2000:
- -----
Premium and policy charges...... $503,053 $506,834 $512,738 $523,585
Net investment income........... 117,111 117,427 118,073 119,815
Realized investment
gains/(losses)................. (1,859) (9,839) 9,092 (2,716)
Total revenues.................. 619,017 615,133 640,554 641,190
Policy benefits................. 331,520 333,274 335,692 338,996
Amortization of acquisition
expenses....................... 66,357 67,277 69,061 72,142
Pretax income from continuing
operations..................... 137,910 129,774 151,836 143,438
Net income...................... 88,882 83,294 97,736 92,123
Basic net income per common
share from continuing
operations..................... .68 .65 .77 .73
Basic net income per common
share.......................... .68 .65 .77 .73
Diluted net income per common
share from continuing
operations..................... .68 .65 .77 .72
Diluted net income per common
share.......................... .68 .65 .77 .73
Diluted net income per common
share from continuing
operations excluding realized
gains/losses, and gain/(loss)
on redemption
of debt........................ .69 .70 .72 .74
85
Item 9. Disagreements on Accounting and Financial Disclosure
No disagreements with accountants on any matter of accounting principles or
practices or financial statement disclosure have been reported on a Form 8-K
within the twenty-four months prior to the date of the most recent financial
statements.
PART III
Item 10. Directors and Executive Officers of Registrant
Information required by this item is incorporated by reference from the
sections entitled "Election of Directors," "Profiles of Directors and
Nominees," "Executive Officers" and "Section 16(a) Beneficial Ownership
Reporting Compliance" of the Securities Exchange Act in the Proxy Statement
for the Annual Meeting of Stockholders to be held April 25, 2002 (the Proxy
Statement), which is to be filed with the Securities and Exchange Commission.
Item 11. Executive Compensation
Information required by this item is incorporated by reference from the
section entitled Compensation and Other Transactions with Executive Officers
and Directors in the Proxy Statement.
Item 12. Security Ownership of Certain Beneficial Owners of Management
(a) Security ownership of certain beneficial owners:
Information required by this item is incorporated by reference from the
section entitled "Principal Stockholders" in the Proxy Statement.
(b) Security ownership of management:
Information required by this item is incorporated by reference from the
section entitled "Stock Ownership" in the Proxy Statement.
(c) Changes in control:
Torchmark knows of no arrangements, including any pledges by any person
of its securities, the operation of which may at a subsequent date
result in a change of control.
Item 13. Certain Relationships and Related Transactions
Information required by this item is incorporated by reference from the
section entitled Compensation and Other Transactions with Executive Officers
and Directors in the Proxy Statement.
86
PART IV
Item 14. Exhibits, Financial Statements Schedules, and Reports on Form 8-K
(a) Index of documents filed as a part of this report:
Page of
this report
-----------
Financial Statements:
Torchmark Corporation and Subsidiaries:
Independent Auditors' Reports................................... 42
Consolidated Balance Sheet at December 31, 2001 and 2000........ 43
Consolidated Statement of Operations for each of the years in
the three-year period ended December 31, 2001.................. 44
Consolidated Statement of Comprehensive Income for each of the
years in the three-year period ended December 31, 2001......... 46
Consolidated Statement of Shareholders' Equity for each of the
years in the three-year period ended December 31, 2001......... 47
Consolidated Statement of Cash Flow for each of the years in the
three-year period ended December 31, 2001...................... 48
Notes to Consolidated Financial Statements...................... 50
Schedules Supporting Financial Statements for each of the years
in the three-year period ended December 31, 2001:
II. Condensed Financial Information of Registrant (Parent Compa-
ny)............................................................. 93
IV. Reinsurance (Consolidated).................................. 96
Schedules not referred to have been omitted as inapplicable or not required
by Regulation S-X.
(b) Reports on Form 8-K.
The following Forms 8-K were filed by the registrant during the fourth
quarter of 2001:
(i) Form 8-K dated October 23, 2001 filing Torchmark Corporation Press
Release dated October 23, 2001
(ii) Form 8-K dated November 2, 2001 filing certain exhibits to
Registration Statement No. 333-83411 for Torchmark Capital Trust
I 7 3/4% Trust Preferred Securities
(iii) Form 8-K dated December 13, 2001 filing certain exhibits to
Registration Statement No. 333-83411 for Torchmark Capital Trust
II 7 3/4% Trust Preferred Securities
(iv) Form 8-K dated December 14, 2001 filing certain exhibits to
Registration Statement Nos. 333-83411 and 333-74930 for Torchmark
Corporation 6 1/4% Senior Notes due 2006
No financial statements were included in any of the foregoing Forms 8-K.
(c) Exhibits
87
EXHIBITS
Page of
this
Report
-------
(3)(i) Restated Certificate of Incorporation of Torchmark
Corporation, as amended (incorporated by reference from
Exhibit 3(i) to Form 10-K for the fiscal year ended December
31, 2000)
(ii) By-Laws of Torchmark Corporation, as amended
(4)(a) Specimen Common Stock Certificate (incorporated by reference
from Exhibit 4(a) to Form 10-K for the fiscal year ended
December 31, 1989)
(b) Trust Indenture dated as of February 1, 1987 between
Torchmark Corporation and Morgan Guaranty Trust Company of
New York, as Trustee (incorporated by reference from Exhibit
4(b) to Form S-3 for $300,000,000 of Torchmark Corporation
Debt Securities and Warrants (Registration No. 33-11816))
(c) Junior Subordinated Indenture, dated November 2, 2001,
between Torchmark Corporation and The Bank of New York
defining the rights of the 7 3/4% Junior Subordinated
Debentures (incorporated by reference from Exhibit 4.3 to
Form 8-K dated November 2, 2001)
(d) Supplemental Indenture, dated as of December 14, 2001,
between Torchmark, BankOne Trust Company, National
Association and The Bank of New York, supplementing the
Indenture Agreement dated February 1, 1987 (incorporated
herein by reference to Exhibit 4(b) to Torchmark's
Registration Statement on Form S-3 (File No. 33-11716), and
defining the rights of the 6 1/4% Senior Notes (incorporated
by reference from Exhibit 4.1 to Form 8-K dated December 14,
2001)
(10)(a) Torchmark Corporation and Affiliates Retired Lives Reserve
Agreement, as amended, and Trust (incorporated by reference
from Exhibit 10(b) to Form 10-K for the fiscal year ended
December 31, 1991)
(b) Capital Accumulation and Bonus Plan of Torchmark
Corporation, as amended, (incorporated by reference from
Exhibit 10(c) to Form 10-K for the fiscal year ended
December 31, 1988)
(c) Torchmark Corporation Supplementary Retirement Plan
(incorporated by reference from Exhibit 10(c) to Form 10-K
for the fiscal year ended December 31, 1992)
(d) 364-Day $325,000,000 Credit Agreement dated as of November
30, 2001 among Torchmark Corporation, the Lenders, BankOne,
NA, as Administrative Agent, Bank of America, N.A., as
Syndication Agent and Fleet National Bank and AmSouth Bank,
as Documentation Agents
(e) Certified Copy of Resolution Regarding Director Retirement
Benefit Program (incorporated by reference from Exhibit
10(e) to Form 10-K for the fiscal year ended December 31,
1999)
(f) Torchmark Corporation Restated Deferred Compensation Plan
for Directors, Advisory Directors, Directors Emeritus and
Officers, as amended (incorporated by reference from Exhibit
10(e) to Form 10-K for the fiscal year ended December 31,
1992)
(g) The Torchmark Corporation 1987 Stock Incentive Plan
(incorporated by reference from Exhibit 10(f) to Form 10-K
for the fiscal year ended December 31, 1998)
(h) General Agency Contract between Liberty National Life
Insurance Company and First Command Financial Services,
Inc., (formerly known as Independent Research Agency For
Life Insurance, Inc.) (incorporated by reference from
Exhibit 10(i) to Form 10-K for the fiscal year ended
December 31, 1990)
88
Page of
this
Report
-------
(i) Form of Marketing and Administrative Services Agreement
between Liberty National Fire Insurance Company, Liberty
National Insurance Corporation and Liberty National Life
Insurance Company (incorporated by reference from Exhibit
10.2 to Form S-1 Registration Statement No. 33-68114)
(j) Form of Deferred Compensation Agreement Between Torchmark
Corporation or Subsidiary and Officer at the Level of Vice
President or Above Eligible to Participate in the Torchmark
Corporation and Affiliates Retired Lives Reserve Agreement
and to Retire Prior to December 31, 1986 (incorporated by
reference from Exhibit 10(k) to Form 10-K for the fiscal
year ended December 31, 1991)
(k) Form of Deferred Compensation Agreement between Torchmark
Corporation or Subsidiary and Officer at the Level of Vice
President or Above Eligible to Participate in the Torchmark
Corporation and Affiliates Retired Lives Reserve Agreement
and Not Eligible to Retire Prior to December 31, 1986
(incorporated by reference from Exhibit 10(l) to Form 10-K
for the fiscal year ended December 31, 1991)
(l) Torchmark Corporation Supplemental Savings and Investment
Plan (incorporated by reference from Exhibit 10(m) to Form
10-K for the fiscal year ended December 31, 1992)
(m) Service Agreement, dated as of January 1, 1991, between
Torchmark Corporation and Liberty National Life Insurance
Company (prototype for agreements between Torchmark
Corporation and other principal operating subsidiaries)
(incorporated by reference from Exhibit 10(n) to Form 10-K
for the fiscal year ended December 31, 1992)
(n) The Torchmark Corporation Pension Plan (incorporated by
reference from Exhibit 10(o) to Form 10-K for the fiscal
year ended December 31, 1992)
(o) The Torchmark Corporation 1998 Stock Incentive Plan
(incorporated by reference from Exhibit 10(n) to Form 10-K
for the fiscal year ended December 31, 1998)
(p) The Torchmark Corporation Savings and Investment Plan
(incorporated by reference from Exhibit 10(s) to Form 10-K
for the fiscal year ended December 31, 1992)
(q) Five Year $300,000,000 Credit Agreement dated as of November
30, 2001 among Torchmark Corporation, TMK Re, Ltd., the
Lenders, BankOne, NA, as Administrative Agent, Bank of
America, N.A., as Syndication Agent, and Fleet National Bank
and AmSouth Bank, as Documentation Agents
(r) Coinsurance and Servicing Agreement between Security Benefit
Life Insurance Company and Liberty National Life Insurance
Company, effective as of December 31, 1995 (incorporated by
reference from Exhibit 10(u) to Form 10-K for the fiscal
year ended December 31, 1995)
(s) Form of Deferred Compensation Agreement Between Torchmark
Corporation or Subsidiary and Officer at the Level of Vice
President or Above Not Eligible to Participate in Torchmark
Corporation and Affiliates Retired Lives Reserve Agreement
(incorporated by reference from Exhibit 10(j) to Form 10-K
for the fiscal year ended December 31, 1991)
(t) Torchmark Corporation 1996 Non-Employee Director Stock
Option Plan (incorporated by reference from Exhibit 10(w) to
Form 10-K for the fiscal year ended December 31, 1996)
(u) Torchmark Corporation 1996 Executive Deferred Compensation
Stock Option Plan (incorporated by reference from Exhibit
10(x) to Form 10-K for the fiscal year ended December 31,
1996)
89
Page of
this
Report
-------
(v) The Liberty National Life Insurance Company Pension Plan for
Non-Commissioned Employees (incorporated by reference from
Exhibit 10(v) to Form 10-K for the fiscal year ended
December 31, 1999)
(x) Receivables Purchase Agreement dated as of December 21,
1999, as Amended and Restated as of March 31, 2000 among
AILIC Receivables Corporation, American Income Life
Insurance Company, Preferred Receivables Funding Corporation
and Bank One, NA (incorporated by reference from Exhibit
10(x) to Form 10-K for the fiscal year ended December 31,
2000)
(y) Amendment dated as of August 31, 2001 to Receivables
Purchase Agreement dated as of December 21, 1999 among AILIC
Receivables Corporation, American Income Life Insurance
Company, Preferred Receivables Funding Corporation and
BankOne, N.A.
(z) Form of Retirement Life Insurance Benefit Agreement
($1,995,000 face amount limit)
(aa) Form of Retirement Life Insurance Benefit Agreement
($495,000 face amount limit)
(11) Statement re computation of per share earnings 91
(20) Proxy Statement for Annual Meeting of Stockholders to be
held April 25, 2002
(21) Subsidiaries of the registrant 92
(23)(a) Consent of Deloitte & Touche LLP to incorporation by
reference of their audit report dated January 31, 2002, into
Form S-8 of The Torchmark Corporation Savings and Investment
Plan (Registration No. 2-76378)
(b) Consent of Deloitte & Touche LLP to incorporation by
reference of their audit report dated January 31, 2002, into
Form S-8 and the accompanying Form S-3 Prospectus of the
Torchmark Corporation 1996 Non-Employee Director Stock
Option Plan (Registration No. 2-93760)
(c) Consent of Deloitte & Touche LLP to incorporation by
reference of their audit report dated January 31, 2002, into
Form S-8 and the accompanying Form S-3 Prospectus of the
Torchmark Corporation 1987 Stock Incentive Plan
(Registration No. 33-23580)
(d) Consent of Deloitte & Touche LLP to incorporation by
reference of their audit report dated January 31, 2002, into
Form S-8 and the accompanying Form S-3 Prospectus of The
Capital Accumulation and Bonus Plan of Torchmark Corporation
(Registration No. 33-1032)
(e) Consent of Deloitte & Touche LLP to incorporation by
reference of their audit report dated January 31, 2002, into
Form S-8 of the Liberty National Life Insurance Company
401(k) Plan (Registration No. 33-65507)
(f) Consent of Deloitte & Touche LLP to incorporation by
reference of their audit report dated January 31, 2002, into
Form S-8 and accompanying Form S-3 Prospectus of the
Torchmark Corporation 1996 Executive Deferred Compensation
Stock Option Plan (Registration No. 333-27111)
(g) Consent of Deloitte & Touche LLP to incorporation by
reference of their audit report dated January 31, 2002 into
Form S-8 of the Profit Sharing and Retirement Plan of
Liberty National Life Insurance Company (Registration No.
333-83317)
(h) Consent of Deloitte & Touche, LLP to incorporation by
reference of their audit report dated January 31, 2002 into
Form S-8 and the accompanying Form S-3 Prospectus of the
Torchmark Corporation 1998 Stock Incentive Plan
(Registration No. 333-40604)
(24) Powers of attorney
90
TORCHMARK CORPORATION (PARENT COMPANY)
SCHEDULE II. CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONDENSED BALANCE SHEET
(Amounts in thousands)
December 31,
----------------------
2001 2000
---------- ----------
Assets:
Investments:
Long-term investments................................ $ 30,726 $ 27,198
Short-term investments............................... 18,506 5,219
---------- ----------
Total investments..................................... 49,232 32,417
Investment in affiliates.............................. 3,338,818 3,055,354
Due from affiliates................................... -0- 37
Accrued investment income............................. 28 260
Taxes receivable...................................... 12,985 25,184
Other assets.......................................... 40,586 26,552
---------- ----------
Total assets........................................ $3,441,649 $3,139,804
========== ==========
Liabilities and shareholders' equity:
Liabilities:
Short-term debt...................................... $ 204,037 $ 329,148
Long-term debt....................................... 536,152 365,989
Due to affiliates.................................... 13,698 393
Other liabilities.................................... 46,078 48,519
---------- ----------
Total liabilities.................................... 799,965 744,049
Monthly income preferred securities................... -0- 193,395
Trust preferred securities............................ 144,557 -0-
Shareholders' equity:
Preferred stock...................................... 351 351
Common stock......................................... 126,801 147,801
Additional paid-in capital........................... 903,145 977,041
Accumulated other comprehensive income .............. (12,314) (148,406)
Retained earnings.................................... 1,978,903 2,220,671
Treasury stock....................................... (499,759) (995,098)
---------- ----------
Total shareholders' equity........................... 2,497,127 2,202,360
---------- ----------
Total liabilities and shareholders' equity........... $3,441,649 $3,139,804
========== ==========
See Notes to Condensed Financial Statements and accompanying Independent
Auditors' Report.
93
TORCHMARK CORPORATION
(PARENT COMPANY)
SCHEDULE II. CONDENSED FINANCIAL INFORMATION OF REGISTRANT (continued)
CONDENSED STATEMENT OF OPERATIONS
(Amounts in thousands)
Year Ended December 31,
----------------------------
2001 2000 1999
-------- -------- --------
Net investment income............................ $ 13,510 $ 11,073 $ 17,747
Realized investment gains (losses)............... 4,898 (81,724) (24,179)
-------- -------- --------
Total revenue.................................. 18,408 (70,651) (6,432)
General operating expenses....................... 11,735 9,296 10,169
Reimbursements from affiliates................... (9,900) (9,576) (10,800)
Interest expense................................. 44,606 58,734 58,119
-------- -------- --------
Total expenses................................. 46,441 58,454 57,488
-------- -------- --------
Operating loss before income taxes and equity in
earnings of affiliates.......................... (28,033) (129,105) (63,920)
Income taxes .................................... 10,937 46,874 22,834
-------- -------- --------
Net operating loss before equity in earnings of
affiliates...................................... (17,096) (82,231) (41,086)
Equity in earnings of affiliates................. 412,558 454,348 308,114
Preferred securities dividends (net of tax)...... (4,532) (10,284) (9,158)
-------- -------- --------
Net income from continuing operations.......... 390,930 361,833 257,870
Discontinued operations:
Loss on disposal................................ (3,280) -0- -0-
-------- -------- --------
Net income before extraordinary item and
cumulative effect of change in accounting
principle....................................... 387,650 361,833 257,870
Gain (loss) on redemption of debt (net of tax)... (4,553) 202 -0-
-------- -------- --------
Net income before cumulative effect of change in
accounting principle............................ 383,097 362,035 257,870
Cumulative effect of change in accounting princi-
ple............................................. (26,584) -0- 16,086
-------- -------- --------
Net Income..................................... $356,513 $362,035 $273,956
======== ======== ========
See Notes to Condensed Financial Statements and accompanying Independent
Auditors' Report.
94
TORCHMARK CORPORATION
(PARENT COMPANY)
SCHEDULE II. CONDENSED FINANCIAL INFORMATION OF REGISTRANT--(continued)
CONDENSED STATEMENT OF CASH FLOW
(Amounts in thousands)
Year Ended December 31,
-----------------------------
2001 2000 1999
-------- -------- ---------
Cash provided from operations before dividends
from subsidiaries.............................. $ (3,274) $(35,627) $ (60,364)
Cash dividends from subsidiaries............... 273,466 220,542 284,881
-------- -------- ---------
Cash provided from operations................... 270,192 184,915 224,517
Cash provided from (used for) investing activi-
ties:
Disposition of investments..................... 1,874 119,021 43,436
Acquisition of investments..................... (10,407) -0- (49,260)
Investment in subsidiaries..................... -0- (1,000) (172)
Loans to subsidiaries.......................... (1,000) (35,500) (77,476)
Repayments on loans to subsidiaries............ 1,000 35,500 75,400
Net increase in temporary investments.......... (13,287) (2,320) (1,185)
Additions to properties........................ (155) (53) (1,298)
Disposition of properties...................... 78 18 13
-------- -------- ---------
Cash used for investing activities.............. (21,897) 115,666 (10,542)
Cash provided from (used for) financing activi-
ties:
Issuance of 6.25% senior notes................. 177,771 -0- -0-
Issuance of trust preferred securities......... 144,554 -0- -0-
Issuance of debt............................... -0- -0- 63,152
Repayments of debt............................. (133,454) (95,390) -0-
Issuance of stock.............................. 120,977 6,723 37,163
Redemption of preferred stock.................. -0- -0- (20,000)
Redemption of monthly income preferred securi-
ties.......................................... (200,000) -0- -0-
Acquisitions of treasury stock................. (303,085) (147,008) (221,878)
Borrowed from subsidiaries..................... 100,100 85,450 138,800
Repayment on borrowings from subsidiaries...... (86,700) (85,450) (150,885)
Payment of dividends........................... (68,458) (65,965) (66,992)
-------- -------- ---------
Cash provided from (used for) financing activi-
ties........................................... (248,295) (301,640) (220,640)
Net decrease in cash............................ -0- (1,059) (6,665)
Cash balance at beginning of period............. -0- 1,059 7,724
-------- -------- ---------
Cash balance at end of period................... $ -0- $ -0- $ 1,059
======== ======== =========
TORCHMARK CORPORATION
(PARENT COMPANY)
NOTES TO CONDENSED FINANCIAL STATEMENTS
(Amounts in thousands)
Note A--Dividends from Subsidiaries
Cash dividends paid to Torchmark from the consolidated subsidiaries were as
follows:
2001 2000 1999
-------- -------- --------
Consolidated subsidiaries.................... $273,466 $220,542 $284,881
======== ======== ========
Note B--Exchange of Preferred Stock for Debt
During 2000, Torchmark exchanged 71,369 shares of its preferred stock with
two Torchmark subsidiary companies for $22.3 million principal amount of
Torchmark notes, valued at $20.3 million, and $51 million of intercompany
debt.
See accompanying Independent Auditors' Report.
95
TORCHMARK CORPORATION
SCHEDULE IV. REINSURANCE (CONSOLIDATED)
(Amounts in thousands)
Percentage
Ceded Assumed of Amount
Gross to Other from Other Net Assumed
Amount Companies Companies Amount to Net
------------ ---------- ---------- ------------ ----------
For the Year Ended December 31, 2001:
- -------------------------------------
Life insurance in force.............. $110,766,526 $1,345,925 $2,288,493 $111,709,094 2.1%
============ ========== ========== ============ ===
Premiums:*
Life insurance...................... $ 1,059,484 $ 6,296 $ 20,445 $ 1,073,633 1.9%
Health insurance.................... 1,016,336 5,621 38 1,010,753 0%
------------ ---------- ---------- ------------
Total premiums..................... $ 2,075,820 $ 11,917 $ 20,483 $ 2,084,386 1.0%
============ ========== ========== ============ ===
For the Year Ended December 31, 2000:
- -------------------------------------
Life insurance in force.............. $105,989,502 $ 974,566 $2,329,488 $107,344,424 2.2%
============ ========== ========== ============ ===
Premiums:*
Life insurance...................... $ 984,506 $ 6,266 $ 33,153 $ 1,011,393 3.3%
Health insurance.................... 917,552 6,397 -0- 911,155 0%
------------ ---------- ---------- ------------
Total premiums..................... $ 1,902,058 $ 12,663 $ 33,153 $ 1,922,548 1.7%
============ ========== ========== ============ ===
For the Year Ended December 31, 1999:
- -------------------------------------
Life insurance in force.............. $ 99,741,126 $ 872,720 $2,377,705 $101,246,111 2.3%
============ ========== ========== ============ ===
Premiums:*
Life insurance...................... $ 919,779 $ 5,622 $ 32,713 $ 946,870 3.5%
Health insurance.................... 831,984 7,180 12 824,816 0%
------------ ---------- ---------- ------------
Total premiums..................... $ 1,751,763 $ 12,802 $ 32,725 $ 1,771,686 1.8%
============ ========== ========== ============ ===
- --------
* Excludes policy charges
See accompanying Independent Auditors' Report.
96
SIGNATURES
Pursuant to the requirements of Section 12 or 15(d) of the Securities Act of
1934, the registrant has duly caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized.
Torchmark Corporation
/s/ C. B. Hudson
By: ________________________________
C.B. Hudson, Chairman,Chief Executive
Officer and Director
/s/ Gary L. Coleman
By: ________________________________
Gary L. Coleman, Executive Vice
President and Chief Financial
Officer (Principal Accounting
Officer)
Date: March 15, 2002
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
/s/ David L. Boren * /s/ Mark S. McAndrew *
By: ________________________________ By: ________________________________
David L. Boren Director Mark S. McAndrew Director
/s/ Joseph M. Farley * /s/ Harold T. McCormick *
By: ________________________________ By: ________________________________
Joseph M. Farley Director Harold T. McCormick Director
/s/ Louis T. Hagopian * /s/ George J. Records *
By: ________________________________ By: ________________________________
Louis T. Hagopian Director George J. Records Director
/s/ Joseph L. Lanier, Jr. * /s/ R.K. Richey *
By: ________________________________ By: ________________________________
Joseph L. Lanier, Jr. Director R.K. Richey Director
/s/ Lamar C. Smith * /s/ Joseph W. Morris *
By: ________________________________ By: ________________________________
Lamar C. Smith Director Joseph W. Morris Director
Date: March 15, 2002
/s/ Gary L. Coleman
*By: _______________________________
Gary L. Coleman Attorney-in-fact
97