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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
(Mark One)
___X___ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2002
OR
_______ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
Commission file number 33-37587
PRUCO LIFE INSURANCE COMPANY
(Exact name of Registrant as specified in its charter)
Arizona 22-1944557
- ------------------------------ ---------------------------------
(State or other jurisdiction, (IRS Employer Identification No.)
incorporation or organization)
213 Washington Street, Newark, New Jersey 07102
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(Address of principal executive offices ) (Zip Code)
(973) 802-3274
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(Registrant's Telephone Number, including area code)
Securities registered pursuant to Section 12 (b) of the Act:
NONE
Securities registered pursuant to Section 12 (g) of the Act:
NONE
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES __X__ NO _____
State the aggregate market value of the voting stock held by non-affiliates of
the registrant: NONE
Indicate the number of shares outstanding of each of the registrant's classes of
common stock, as of November 14, 2002. Common stock, par value of $10 per share:
250,000 shares outstanding
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PRUCO LIFE INSURANCE COMPANY
INDEX TO FINANCIAL STATEMENTS
Page No.
Cover Page -
Index 2
PART I - Financial Information
Item 1. (Unaudited) Financial Statements
Consolidated Statements of Financial Position
As of September 30, 2002 and December 31, 2001 3
Consolidated Statements of Operations and Comprehensive Income
Nine and Three months ended September 30, 2002 and 2001 4
Consolidated Statements of Changes in Stockholder's Equity
Periods ended September 30, 2002 and December 31, 2001 and 2000 5
Consolidated Statements of Cash Flows
Nine months ended September 30, 2002 and 2001 6
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk 14
Item 4. Controls and Procedures 14
PART II - Other Information
Item 2. Changes in Securities and Use of Proceeds 15
Item 6. Exhibits and Reports on Form 8-K 16
Signature Page 17
Certifications 18
Forward-Looking Statement Disclosure
Certain of the statements included in this Quarterly Report on Form 10-Q,
including but not limited to those in the Management's Discussion and Analysis
of Financial Condition and Results of Operations, constitute forward-looking
statements within the meaning of the U.S. Private Securities Litigation Reform
Act of 1995. Words such as "expects," "believes," "anticipates," "includes,"
"plans," "assumes," "estimates," "projects," or variations of such words are
generally part of forward-looking statements. Forward-looking statements are
made based on management's current expectations and beliefs concerning future
developments and their potential effects upon Pruco Life Insurance Company ("the
Company"). There can be no assurance that future developments affecting the
Company will be those anticipated by management. These forward-looking
statements are not a guarantee of future performance and involve risks and
uncertainties, and there are certain important factors that could cause actual
results to differ, possibly materially, from expectations or estimates reflected
in such forward-looking statements, including without limitation: general
economic, market and political conditions, including the performance of
financial markets, interest rate fluctuations and the continuing impact of the
events of September 11; volatility in the securities markets; reestimates of our
reserves for future policy benefits and claims; our exposure to contingent
liabilities; catastrophe losses; investment losses and defaults; changes in our
claims-paying or credit ratings; competition in our product lines and for
personnel; fluctuations in foreign currency exchange rates and foreign
securities markets; risks to our international operations; the impact of
changing regulation or accounting practices; adverse litigation results; and
changes in tax law. The Company does not intend, and is under no obligation to,
update any particular forward-looking statement included in this document.
2
Pruco Life Insurance Company and Subsidiary
Consolidated Statements of Financial Position (Unaudited)
As of September 30, 2002 and December 31, 2001 (In Thousands)
- --------------------------------------------------------------------------------
September 30, December 31,
2002 2001
--------------- ----------------
ASSETS
Fixed maturities
Available for sale, at fair value (amortized cost, 2002: $4,449,287; 2001: $3,935,472) $ 4,648,469 $ 4,024,893
Equity securities - available for sale, at fair value (cost, 2002: $127; 2001: $173) 229 375
Commercial loans on real estate 7,267 8,190
Policy loans 880,311 874,065
Short-term investments 83,404 215,610
Other long-term investments 84,456 84,342
--------------- ----------------
Total investments 5,704,136 5,207,475
Cash and cash equivalents 746,044 374,185
Deferred policy acquisition costs 1,127,544 1,159,830
Accrued investment income 85,758 77,433
Reinsurance recoverable 344,277 300,697
Receivables from affiliates 64,487 33,074
Other assets 72,318 20,134
Separate Account assets 12,063,751 14,920,584
--------------- ----------------
TOTAL ASSETS $20,208,315 $ 22,093,412
=============== ================
LIABILITIES AND STOCKHOLDER'S EQUITY
Liabilities
Policyholders' account balances $4,623,761 $ 3,947,690
Future policy benefits and other policyholder liabilities 864,453 808,230
Cash collateral for loaned securities 267,029 190,022
Securities sold under agreement to repurchase 326,935 80,715
Income taxes payable 252,527 266,096
Other liabilities 140,414 228,596
Separate Account liabilities 12,063,751 14,920,584
--------------- ----------------
Total liabilities 18,538,870 20,441,933
--------------- ----------------
Contingencies (See Footnote 2)
Stockholder's Equity
Common stock, $10 par value;
1,000,000 shares, authorized;
250,000 shares, issued and outstanding 2,500 2,500
Paid-in-capital 466,748 466,748
Retained earnings 1,121,302 1,147,665
Accumulated other comprehensive income:
Net unrealized investment gains 79,031 34,718
Foreign currency translation adjustments (136) (152)
--------------- ----------------
Accumulated other comprehensive income 78,895 34,566
--------------- ----------------
Total stockholder's equity 1,669,445 1,651,479
--------------- ----------------
TOTAL LIABILITIES AND
STOCKHOLDER'S EQUITY $20,208,315 $ 22,093,412
=============== ================
See Notes to Consolidated Financial Statements
3
Pruco Life Insurance Company and Subsidiary
Consolidated Statements of Operations and Comprehensive Income (Unaudited)
Nine and Three Months Ended September 30, 2002 and 2001 (In Thousands)
- --------------------------------------------------------------------------------
Nine months ended Three months ended
September 30, September 30,
2002 2001 2002 2001
--------- --------- --------- ---------
REVENUES
Premiums $ 76,579 $ 62,522 $ 35,313 $ 15,168
Policy charges and fee income 387,058 362,762 128,310 122,432
Net investment income 249,284 260,303 85,488 85,500
Realized investment losses, net (55,094) (36,314) (22,788) (36,621)
Asset management fees 8,113 6,085 2,981 2,216
Other income 9,728 2,560 2,095 1,820
--------- --------- --------- ---------
Total revenues 675,668 657,918 231,399 190,515
--------- --------- --------- ---------
BENEFITS AND EXPENSES
Policyholders' benefits 177,197 179,968 60,268 64,478
Interest credited to policyholders'
account balances 150,455 147,316 53,783 49,283
General, administrative and other 412,649 307,948 181,072 106,887
expenses
--------- --------- --------- ---------
Total benefits and expenses 740,301 635,232 295,123 220,648
--------- --------- --------- ---------
(Loss) income from operations before
income taxes (64,633) 22,686 (63,724) (30,133)
--------- --------- --------- ---------
Income tax (benefit) provision (38,286) 2,921 (35,170) (8,365)
--------- --------- --------- ---------
NET (LOSS) INCOME (26,347) 19,765 (28,554) (21,768)
--------- --------- --------- ---------
Other comprehensive income, net of tax:
Unrealized gains on securities, net of
reclassification adjustment 44,313 50,598 32,531 41,202
Foreign currency translation adjustments 16 3,320 (208) --
--------- --------- --------- ---------
Other comprehensive income 44,329 53,918 32,323 41,202
--------- --------- --------- ---------
TOTAL COMPREHENSIVE INCOME $ 17,982 $ 73,683 $ 3,769 $ 19,434
========= ========= ========= =========
See Notes to Consolidated Financial Statements
4
Pruco Life Insurance Company and Subsidiary
Consolidated Statements of Changes in Stockholder's Equity (Unaudited)
Periods Ended September 30, 2002 and December 31, 2001 and 2000 (In Thousands)
- --------------------------------------------------------------------------------
Accumulated
other Total
Common Paid-in- Retained comprehensive stockholder's
stock capital earnings income (loss) equity
----------- ----------- ----------- ------------- -------------
Balance, January 1, 2000 $ 2,500 $ 439,582 $ 1,258,428 $ (30,691) $ 1,669,819
Net income -- -- 103,496 -- 103,496
Contribution from Parent -- 27,166 -- -- 27,166
Change in foreign currency
translation adjustments,
net of taxes -- -- -- (993) (993)
Change in net unrealized investment
losses, net of reclassification
adjustment and taxes -- -- -- 33,094 33,094
----------- ----------- ----------- ----------- -----------
Balance, December 31, 2000 $ 2,500 $ 466,748 $ 1,361,924 $ 1,410 $ 1,832,582
Net income -- -- 67,582 -- 67,582
Dividends to Parent -- -- (153,816) -- (153,816)
Policy credits issued to
eligible policyholders -- -- (128,025) -- (128,025)
Change in foreign currency
translation adjustments,
net of taxes -- -- -- 3,168 3,168
Change in net unrealized
investment gains, net of
reclassification adjustment
and taxes -- -- -- 29,988 29,988
----------- ----------- ----------- ----------- -----------
Balance, December 31, 2001 $ 2,500 $ 466,748 $ 1,147,665 $ 34,566 $ 1,651,479
Net loss -- -- (26,347) -- (26,347)
Adjustments to policy credits
issued to eligible policyholders -- -- (16) -- (16)
Change in foreign currency
translation adjustments, net
of taxes -- -- -- 16 16
Change in net unrealized investment
gains, net of reclassification
adjustment and taxes -- -- -- 44,313 44,313
----------- ----------- ----------- ----------- -----------
Balance, September 30, 2002 $ 2,500 $ 466,748 $ 1,121,302 $ 78,895 $ 1,669,445
=========== =========== =========== =========== ===========
See Notes to Consolidated Financial Statements
5
Pruco Life Insurance Company and Subsidiary
Consolidated Statements of Cash Flows (Unaudited)
Nine Months Ended September 30, 2002 and 2001 (In Thousands)
- --------------------------------------------------------------------------------
2002 2001
----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net (loss) income $ (26,347) $ 19,765
Adjustments to reconcile net (loss) income to net cash (used in)
provided by operating activities:
Policy charges and fee income (53,458) (38,777)
Interest credited to policyholders' account balances 150,455 147,316
Realized investment losses, net 55,094 36,314
Amortization and other non-cash items (73,506) (63,520)
Change in:
Future policy benefits and other policyholders' liabilities 56,223 69,899
Accrued investment income (8,325) 1,888
Receivables from affiliates (31,413) 12,348
Policy loans (6,246) (37,190)
Deferred policy acquisition costs 32,286 28,458
Income taxes payable/receivable (13,569) 55,435
Other, net (67,973) (52,627)
----------- -----------
Cash Flows From Operating Activities $ 13,221 $ 179,309
----------- -----------
CASH FLOWS USED IN INVESTING ACTIVITIES:
Proceeds from the sale/maturity of:
Fixed maturities:
Available for sale 1,253,266 2,233,807
Equity securities 3 276
Commercial loans on real estate 923 823
Payments for the purchase of:
Fixed maturities:
Available for sale (1,815,193) (2,422,074)
Equity securities (3) (184)
Cash collateral for loaned securities, net 77,007 9,232
Securities sold under agreement to repurchase, net 246,220 (21,386)
Other long-term investments (10,822) (19,678)
Short-term investments, net 132,193 114,755
----------- -----------
Cash Flows Used In Investing Activities (116,406) (104,429)
----------- -----------
CASH FLOWS FROM (USED IN) FINANCING ACTIVITIES:
Policyholders' account balances:
Deposits 1,382,000 1,033,550
Withdrawals (790,967) (1,031,396)
Cash payments to eligible policyholders (115,989) --
Cash provided to affiliate -- (65,476)
----------- -----------
Cash Flows From (Used in) Financing Activities 475,044 (63,322)
----------- -----------
Net increase in Cash and cash equivalents 371,859 11,558
Cash and cash equivalents, beginning of year 374,185 453,071
----------- -----------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 746,044 $ 464,629
=========== ===========
See Notes to Consolidated Financial Statements
6
Pruco Life Insurance Company and Subsidiary
Notes to Consolidated Financial Statements
(Unaudited)
- --------------------------------------------------------------------------------
1. BASIS OF PRESENTATION
The accompanying interim consolidated financial statements have been prepared
pursuant to the rules and regulations for reporting on Form 10-Q on the basis of
accounting principles generally accepted in the United States. These interim
financial statements are unaudited but reflect all adjustments which, in the
opinion of management, are necessary to provide a fair presentation of the
consolidated results of operations and financial condition of the Pruco Life
Insurance Company ("the Company"), for the interim periods presented. The
Company is a wholly owned subsidiary of The Prudential Insurance Company of
America ("Prudential"), which in turn is a wholly owned subsidiary of Prudential
Financial, Inc. All such adjustments are of a normal recurring nature. The
results of operations for any interim period are not necessarily indicative of
results for a full year. Certain amounts in the Company's prior year
consolidated financial statements have been reclassified to conform with the
current year presentation. These financial statements should be read in
conjunction with the consolidated financial statements and notes thereto
contained in the Company's Annual Report on Form 10-K for the year ended
December 31, 2001.
2. CONTINGENCIES AND LITIGATION
Contingencies
On an ongoing basis, our internal supervisory and control functions review the
quality of our sales, marketing and other customer interface procedures and
practices and may recommend modifications or enhancements. In certain cases, if
appropriate, we may offer customers remediation and may incur charges, including
the cost of such remediation, administrative costs and regulatory fines.
It is possible that the results of operations or the cash flow of the Company in
a particular quarterly or annual period could be materially affected as a result
of payments in connection with the matters discussed above depending, in part,
upon the results of operations or cash flow for such period. Management
believes, however, that the ultimate payments in connection with these matters
should not have a material adverse effect on the Company's financial position.
Litigation
Prudential and the Company are subject to legal and regulatory actions in the
ordinary course of their businesses, including class actions. Pending legal and
regulatory actions include proceedings relating to aspects of the businesses and
operations that are specific to the Company and Prudential and that are typical
of the businesses in which the Company and Prudential operate. Some of these
proceedings have been brought on behalf of various alleged classes of
complainants. In certain of these matters, the plaintiffs are seeking large
and/or indeterminate amounts, including punitive or exemplary damages.
Beginning in 1995, regulatory authorities and customers brought significant
regulatory actions and civil litigation against the Company and Prudential
involving individual life insurance sales practices. In 1996, Prudential, on
behalf of itself and many of its life insurance subsidiaries including the
Company entered into settlement agreements with relevant insurance regulatory
authorities and plaintiffs in the principal life insurance sales practices class
action lawsuit covering policyholders of individual permanent life insurance
policies issued in the United States from 1982 to 1995. Pursuant to the
settlements, the companies agreed to various changes to their sales and business
practices controls, to a series of fines, and to provide specific forms of
relief to eligible class members. Virtually all claims by class members filed in
connection with the settlements have been resolved and virtually all aspects of
the remediation program have been satisfied. While the approval of the class
action settlement is now final, Prudential and the Company remain subject to
oversight and review by insurance regulators and other regulatory authorities
with respect to its sales practices and the conduct of the remediation program.
The U.S. District Court has also retained jurisdiction as to all matters
relating to the administration, consummation, enforcement and interpretation of
the settlements.
As of September 30, 2002, Prudential and/or the Company remained a party to
approximately 40 individual sales practices actions filed by policyholders who
"opted out" of the class action settlement relating to permanent life insurance
policies issued in the United States between 1982 and 1995. In addition, there
were 20 sales practices actions pending that were filed by policyholders who
were members of the class and who failed to "opt out" of the class action
settlement. Prudential and the Company believe that those actions are governed
by the class settlement release and expects them to be enjoined and/or
dismissed. Additional suits may be filed by class members who "opted out" of the
class settlements or who failed to "opt out" but nevertheless seek to proceed
against Prudential and/or the Company. A number of the plaintiffs in these cases
seek large and/or indeterminate amounts, including punitive or exemplary
damages. Some of these actions are brought on behalf of multiple plaintiffs. It
is possible that substantial punitive damages might be awarded in any of these
actions and particularly in an action involving multiple plaintiffs.
7
Pruco Life Insurance Company and Subsidiary
Notes to Consolidated Financial Statements
(Unaudited)
- --------------------------------------------------------------------------------
Prudential has indemnified the Company for any liabilities incurred in
connection with sales practices litigation covering policyholders of individual
permanent life insurance policies issued in the United States from 1982 to 1995.
The Company's litigation is subject to many uncertainties, and given the
complexity and scope, the outcomes cannot be predicted. It is possible that the
results of operations or the cash flow of the Company in a particular quarterly
or annual period could be materially affected by an ultimate unfavorable
resolution of pending litigation and regulatory matters. Management believes,
however, that the ultimate outcome of all pending litigation and regulatory
matters should not have a material adverse effect on the Company's financial
position.
3. RELATED PARTY TRANSACTIONS
The Company has extensive transactions and relationships with Prudential and
other affiliates. It is possible that the terms of these transactions are not
the same as those that would result from transactions among wholly unrelated
parties.
Expense Charges and Allocations
All of the Company's expenses are allocations or charges from Prudential or
other affiliates. These expenses can be grouped into the following categories:
general and administrative expenses, retail distribution expenses and asset
management fees.
The Company's general and administrative expenses are charged to the Company
using allocation methodologies based on business processes. Management believes
that the methodology is reasonable and reflects costs incurred by Prudential to
process transactions on behalf of the Company. Prudential and the Company
operate under service and lease agreements whereby services of officers and
employees, supplies, use of equipment and office space are provided by
Prudential.
The Company is allocated estimated distribution expenses from Prudential's
retail agency network for both its domestic life and annuity products. The
estimate of allocated distribution expenses is intended to reflect a market
based pricing arrangement. The Company has capitalized the majority of these
distribution expenses as deferred policy acquisition costs.
In accordance with a revenue sharing agreement with Prudential Investments LLC,
which began on February 1, 2002, the Company receives fee income from
policyholder account balances invested in the Prudential Series Funds ("PSF").
These revenues are recorded as "Asset management fees" in the Consolidated
Statements of Operations and Comprehensive Income.
Corporate Owned Life Insurance
The Company has sold three Corporate Owned Life Insurance ("COLI") policies to
Prudential. The cash surrender value included in Separate Accounts was $615.4
million and $647.2 million at September 30, 2002 and December 31, 2001,
respectively. The fees received related to the COLI policies were $7.1 million
for the period ended September 30, 2002 and $4.7 million for the period ended
September 30, 2001.
Reinsurance with Affiliates
The Company currently has four reinsurance agreements in place with Prudential
and affiliates. Specifically, the Company has a reinsurance Group Annuity
Contract, whereby the reinsurer, in consideration for a single premium payment
by the Company, provides reinsurance equal to 100% of all payments due under the
contract. In addition there are two yearly renewable term agreements in which
the Company may offer and the reinsurer may accept reinsurance on any life in
excess of the Company's maximum limit of retention. The Company is not relieved
of its primary obligation to the policyholder as a result of these reinsurance
transactions. These agreements had no material effect on net income for the
periods ended September 30, 2002 or 2001. The fourth agreement is described
below.
On January 31, 2001, the Company transferred all of its assets and liabilities
associated with the Company's Taiwan branch including Taiwan's insurance book of
business to an affiliated Company, Prudential Life Insurance Company of Taiwan
Inc. ("Prudential of Taiwan"), a wholly owned subsidiary of Prudential
Financial, Inc.
8
Pruco Life Insurance Company and Subsidiary
Notes to Consolidated Financial Statements
(Unaudited)
- --------------------------------------------------------------------------------
The mechanism used to transfer this block of business in Taiwan is referred to
as a "full acquisition and assumption" transaction. Under this mechanism, the
Company is jointly liable with Prudential of Taiwan for two years from the
giving of notice to all obligees for all matured obligations and for two years
after the maturity date of not-yet-matured obligations. Prudential of Taiwan is
also contractually liable, under indemnification provisions of the transaction,
for any liabilities that may be asserted against the Company. The transfer of
the insurance related assets and liabilities was accounted for as a
long-duration coinsurance transaction under accounting principles generally
accepted in the United States. Under this accounting treatment, the insurance
related liabilities remain on the books of the Company and an offsetting
reinsurance recoverable is established.
As part of this transaction, the Company made a capital contribution to
Prudential of Taiwan in the amount of the net equity of the Company's Taiwan
branch as of the date of transfer. In July 2001, the Company divided its
interest in Prudential of Taiwan to Prudential.
Premiums ceded for the periods ended September 30, 2002 and 2001 from the Taiwan
coinsurance agreement were $56.4 million and $59.5 million, respectively.
Benefits ceded for the periods ended September 30, 2002 and 2001 from the Taiwan
coinsurance agreement were $10.6 million and $9.2 million, respectively.
Included in the reinsurance recoverable balances were affiliated reinsurance
recoverables of $318.9 million and $285.8 million at September 30, 2002 and
December 31, 2001, respectively. Of these affiliated amounts, the reinsurance
recoverable related to the Taiwan coinsurance agreement was $293.3 million and
$260.6 million at September 30, 2002 and December 31, 2001, respectively.
Debt Agreements
The Company has a revolving line of credit facility of up to $700 million with
Prudential Funding LLC, a wholly owned subsidiary of Prudential. There was no
outstanding debt relating to this credit facility as of September 30, 2002 or
December 31, 2001.
9
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Management's Discussion and Analysis of Financial Condition and Results of
Operations ("MD&A") addresses the consolidated financial condition of Pruco Life
Insurance Company as of September 30, 2002, compared with December 31, 2001, and
its consolidated results of operations for the nine month and three month
periods ended September 30, 2002 and September 30, 2001. You should read the
following analysis of our consolidated financial condition and results of
operations in conjunction with the Company's MD&A and audited Consolidated
Financial statements included in the Company's Report on Form 10-K for the year
ended December 31, 2001.
The Company sells interest-sensitive individual life insurance and variable life
insurance, term life insurance, individual variable and fixed annuities, and a
non-participating guaranteed interest contract ("GIC") called Prudential Credit
Enhanced GIC ("PACE") primarily through Prudential's sales force in the United
States. These markets are subject to regulatory oversight with particular
emphasis placed on company solvency and sales practices. These markets are also
subject to increasing competitive pressure as the legal barriers, which have
historically segregated the markets of the financial services industry, have
been changed through both legislative and judicial processes. Regulatory changes
have opened the insurance industry to competition from other financial
institutions, particularly banks and mutual funds that are positioned to deliver
competing investment products through large, stable distribution channels. The
Company also had marketed individual life insurance through its branch office in
Taiwan. The Taiwan branch was transferred to an affiliated Company on January
31, 2001, as described in the Notes to the Financial Statements. Beginning
February 1, 2001, Taiwan's net income is not included in the Company's results
of operations.
Generally, policyholders who purchase the Company's products have the option of
investing in the Separate Accounts, segregated funds for which investment risks
are borne by the customer, or the Company's portfolio, referred to as the
General Account. The Company earns its profits through policy fees charged
primarily to Separate Account annuity and life policyholders and through the
interest spread for the GIC and certain annuity and individual life products.
Policy charges and fee income consist mainly of three types, sales charges or
loading fees on new sales, mortality and expense charges ("M&E") assessed on
fund balances, and mortality and related charges based on total life insurance
in-force business. Policyholder fund values are affected by net sales (sales
less withdrawals), changes in interest rates and investment returns. The
interest spread represents the difference between the investment income earned
on the Company's investment portfolio that supports the products and the amount
of interest credited to the policyholders' accounts. Products that generate
spread income primarily include the GIC product, general account individual life
insurance products, fixed annuities and the fixed-rate option of variable
annuities.
The Company's Changes in Financial Position and Results of Operations are
described below.
1. Analysis of Financial Condition
From December 31, 2001 to September 30, 2002 there was a decrease of $1,885
million in total assets from $22,093 million to $20,208 million. Separate
Account assets declined $2,857 million mainly from market value declines. Fixed
maturities increased by $624 million from investing policyholder deposits and
unrealized market gains. Cash and cash equivalents are $372 million higher than
December 31, 2001 primarily as a result of increased securities lending
activities.
During this nine-month period, liabilities decreased by $1,903 million from
$20,442 million to $18,539 million. Corresponding with the asset change,
Separate Account liabilities decreased by $2,857 million primarily from market
value declines. Other liabilities decreased by $88 million mainly due to the
funding of policy credits to the Separate Account policyholders, which had been
accrued in other liabilities at December 31, 2001. This decrease was partially
offset by an increase in investment payables. Policyholder account balances
increased by $676 million primarily from positive net sales (sales less
withdrawals) of annuity products with fixed rate options and the funding of
policy credits. A higher level of securities lending activity increased
liabilities by $323 million. Future policy benefits increased $56 million mainly
due to increases in reserves for the transferred Taiwan business and for
domestic life insurance.
10
2. Results of Operations
For the nine months ended September 30, 2002 versus 2001
Net Income
The consolidated net loss of $26.3 million for the first nine months of 2002
represents a $46.1 million decline compared to net income of $19.8 million for
the first nine months of 2001. The decrease was caused primarily by an increase
in the amortization of deferred acquisition costs ("DAC") of $97.1 million on a
pretax basis, included in "General, Administrative and Other Expenses." The
decline in our Separate Account assets resulting from unfavorable market
conditions contributed to the increased amortization of DAC reflecting a
decrease in expected future gross profits, as is described in more detail below.
This was partially offset by lower taxes and higher policy charges and fee
income. Tax expense for the current year is lower than the prior year due to
reduced income from operations before taxes and a refinement of the estimated
benefits from nontaxable investment income.
Revenues
Consolidated revenues increased by $17.8 million, from $657.9 million to $675.7
million. Policy charges and fee income, consisting primarily of mortality and
expense ("M&E"), loading and other insurance charges assessed on General and
Separate Account policyholder fund balances, increased by $24.3 million. The
increase was a result of a $35.7 million increase for domestic individual life
products offset by an $11.4 million decrease for annuity products. Mortality and
sales based loading charges for life products increased as a result of growth of
the in-force business. The life insurance in-force (excluding term insurance)
grew to $62.5 billion at September 30, 2002 from $57.0 billion at September 30,
2001 and $58.7 billion at December 31, 2001. In contrast, annuity fees are
mainly asset based fees which are dependent on the fund balances which are
affected by net sales as well as asset depreciation or appreciation on the
underlying investment funds in which the customer has the option to invest.
Annuity fund balances have declined as a result of unfavorable conditions in the
securities market over the past two years. Premiums increased by $14.1 million
as a result of higher term insurance sales and renewals of the Term Essential
and Term Elite products of $32.6 million partially offset by lower extended term
premiums of $10.2 million, lower Taiwan premiums of $7.5 million and lower
premiums from annuitizations of $.7 million. Extended term policies represent
term insurance the Company issued, under policy provisions to customers who
previously had lapsing variable life insurance with the Company. Other income
increased $7.2 million primarily from expense allowance recoveries from a
variable life reinsurance contract and increased modal premiums.
Partially offsetting these increases are realized investment losses and lower
net investment income. Realized investment losses are $18.8 million higher
consisting of $10.2 million in derivative and other losses and $8.6 million of
increased losses on fixed maturities from credit related sales and impairments.
The derivative losses are from Treasury futures and swaps as the Company is in a
net short position in a declining interest rate environment. Despite the
investment portfolio growth, net investment income is lower by $11.0 million due
to lower yields available on the reinvestment of fixed maturities and lower
interest rates for short-term investments.
Benefits and Expenses
Policyholder benefits decreased by $2.8 million from decreases in reserve
provisions for the Taiwan branch and domestic life insurance reserves offset by
increased death benefits. Taiwan benefits and reserves were $5.9 million lower
due to the transfer of the branch as of January 31, 2001. Domestic life reserves
decreased $4.3 million primarily as a result of the lower amount of extended
term insurance. This was partially offset by increases for term insurance
reserves due to sales and renewals of the Term Essential and Term Elite
products. Death claims were higher due mainly to higher guaranteed minimum death
benefits for annuity products of $15.4 million, as described below. Guaranteed
minimum death benefits increased from $8.9 million in the first nine months of
2001 to $24.3 million in the first nine months of 2002. Partially offsetting
this increase is lower policyholder benefits of $7.2 million from our life
insurance products mainly due to lower death claims. Prior year policyholder
benefits include the impact of death claims incurred on our life products as a
result of the September 11, 2001 terrorist attacks of $18 million.
The guaranteed minimum death benefit feature provides annuity contract holders
with a guarantee that the benefit received at death will be no less than a
prescribed minimum amount. This minimum amount is based on the net deposits paid
into the contract, the net deposits accumulated at a specified rate, the highest
historical account value on a contract anniversary, or more typically the
greatest of these values. To the extent that the guaranteed minimum death
benefit is higher than the current account value at the time of death, the
Company incurs a cost. This results in increased annuity policy benefits in
periods of declining financial markets and in periods of stable financial
markets following a decline. Current accounting literature does not prescribe
advance recognition of the expected future net costs associated with these
guarantees, and accordingly we currently do not record a liability corresponding
to these projected future obligations for death benefits in excess of annuity
account values. However, we consider the expected net costs associated with
these guarantees in our calculations of expected gross profits on variable
annuity business, on which our periodic evaluations of unamortized policy
acquisition costs are based. A proposed AICPA Statement of Position, "Accounting
and Reporting by Insurance Enterprises for Certain Nontraditional Long-Duration
Contracts and for Separate Accounts" (the "Proposed SOP"), would require
recording of a liability for the expected net costs associated with these
guarantees under certain circumstances, if adopted as proposed. We are currently
evaluating the impact of the proposed SOP, which has a proposed effective date
for fiscal years beginning after December 15, 2003.
11
Interest credited to policyholder account balances increased by $3.1 million
from growth in policyholder account balances despite the reduction in annuity
interest rates. Annuity interest crediting rates were reduced in reaction to the
declining investment portfolio yields.
General, administrative, and other expenses increased $104.7 million from the
prior year, primarily the result of increased DAC amortization of $97.1 million.
The majority of the DAC amortization increase, $69.7 million, was related to our
annuity products. This reflects our lower estimates of future gross profits due
to declines in asset values through September 30, 2002, decreased future asset
returns and other refinements, resulting in greater than expected costs from
minimum death benefit guarantees and lower expected fees under these contracts,
as described further below. The remaining increase in DAC amortization is
associated with our life products and is primarily due to the growth of the
in-force, less favorable market performance, and the reduction in prior year
amortization due to claims from the September 11th terrorist attack on the
United States. In addition, general, administrative, and other expenses
increased by $7.4 million as a result of the growth of the business.
Deferred acquisition costs related to annuity products are evaluated quarterly
by comparing our actual profitability to our expectations. Expected
profitability considers, among other assumptions, our best estimate of future
asset returns to estimate the future fees we expect to earn, the costs
associated with minimum death benefit guarantees we expect to incur and other
profitability factors. If actual asset returns do not differ significantly from
our expectations, they do not result in a change in the rate of amortization of
deferred acquisition costs. Where actual asset returns differ more significantly
from expectations, future asset return assumptions are evaluated using a
reversion to mean approach. Under the reversion to mean approach we have
considered a six-year period, consisting of two prior years and four future
years, over which we expect the investments underlying the annuities to grow at
a targeted return. For recent periods, the two-year historical period has been
gradually increased. A calculated rate of return over the four future years,
which we refer to as the look-forward period, is determined so that this
calculated rate, together with the actual rate of return for the previous two
years, produces the targeted return for the full six-year period. If the
calculated rate of return is consistent with our range of expectations in light
of market conditions, we will use it to project the asset growth for the next
four years. If the calculated rate of return is not supported by our current
expectations, we adjust our rate of return for purposes of these computations.
For contract years after the look-forward period, we project asset growth using
our long-term rate, currently an 8% annual blended rate of return which reflects
an assumed rate of return of 8.85% for equity type assets. During the second and
third quarters of 2002 we utilized a rate of return lower than the calculated
return, which contributed to our charges for additional amortization of deferred
acquisition costs. The equity rate of return used in the look-forward period
varies by product, but is under 15% for all of our variable annuity products for
our evaluation of deferred policy acquisition costs as of September 30, 2002.
For the average remaining life of our variable annuity contracts in force as of
September 30, 2002, our evaluation of deferred policy acquisition costs is based
on a 10% annual blended rate of return which reflects an assumed rate of return
of 11.5% for equity type assets. Continued deterioration in market conditions
may result in further increases in the amortization of deferred policy
acquisition costs, while a significant improvement in market conditions may
result in a decrease in amortization.
For the three months ended September 30, 2002 versus 2001
Net income
Consolidated net loss for the three months ended September 30, 2002 increased by
$6.8 million compared to the prior year three-month period. The main drivers as
discussed above are increased DAC amortization of $62.6 million partially offset
by higher premiums and policy charges, lower realized investment losses and a
higher tax benefit.
Revenues
Consolidated revenues increased compared to the prior year quarter by $40.9
million. Premiums increased by $20.1 million from the prior year as a result of
increased sales of term insurance and extended term premiums. Realized
investment losses decreased by $13.8 million as impairment writedowns declined
from $31.7 million in third quarter 2001 to $15.1 million in the current year
quarter. Policy charges and fee income increased $5.9 million as a result of
higher mortality and loading charges from growth in the life in-force business
of $11.1 million. The increase was partially offset by a decrease in individual
annuity fees of $5.2 million due to declining fund values as a result of the
securities market.
Benefits and Expenses
Policyholder benefits decreased by $4.2 million from decreased death benefits
offset by increases in reserve provisions for life insurance reserves. Death and
surrender benefits declined by $16.1 million primarily as a result of lower life
insurance policyholder benefits of $23.1 million due to lower death claims
offset by higher guaranteed minimum death benefits for annuity products of $7.0
million. Life insurance death claims were lower when compared to the prior year
as the prior year quarter included death claims related to the September 11th
terrorist attacks of $18 million. Reserves increased $11.9 million primarily as
a result of an increase in term insurance reserves due to sales and renewals of
the Term Essential and Term Elite products of $6.0 million and higher extended
term insurance. The increase in extended term premium reserves is a reflection
of higher policy lapse activity resulting from less favorable market performance
during the prior quarter.
12
Interest credited to policyholder account balances increased by $4.5 million due
to growth in policyholder account balances despite the decrease in annuity
crediting rates. Annuity interest crediting rates were decreased in reaction to
the declining investment portfolio yields.
General, administrative, and other expenses increased $74.2 million from the
prior year. The primary reason for the increase is an increase in DAC
amortization of $62.6 million. Annuity DAC amortization is $41.2 million higher
than the prior year quarter due to lower estimated future gross profits as a
result of the market decline and other refinements, as described above. DAC
amortization for life insurance products is $21.4 million higher primarily due
to the market decline and related policy lapses associated with declines in
variable life insurance account values prior to the third quarter of 2002, the
growth of the in-force, and the reduction in prior year amortization due to
claims from the September 11th terrorist attack on the United States. In
addition, general and administrative expenses increased by $11.6 million when
compared to the prior year quarter primarily reflecting the growth of our
insurance products.
3. Liquidity and Capital Resources
Principal cash flow sources are investment and fee income, investment maturities
and sales, and premiums and fund deposits. These cash inflows may be
complemented by financing activities through other Prudential affiliates.
Cash outflows consist principally of benefits, claims and amounts paid to
policyholders in connection with policy surrenders, withdrawals and net policy
loan activity. Uses of cash also include commissions, general and administrative
expenses, and purchases of investments. Liquidity requirements associated with
policyholder obligations are monitored regularly so that the Company can manage
cash inflows to match anticipated cash outflow requirements.
The Company believes that cash flow from operations together with proceeds from
scheduled maturities and sales of fixed maturity investments, are adequate to
satisfy liquidity requirements based on the Company's current liability
structure.
The Company had $20.2 billion of assets at September 30, 2002 compared to $22.1
billion at December 31, 2001, of which $12.1 billion and $14.9 billion were held
in Separate Accounts at September 30, 2002 and December 31, 2001, respectively,
under variable life insurance policies and variable annuity contracts. The
remaining assets consisted primarily of investments and deferred policy
acquisition costs.
13
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Risk Management, Market Risk and Derivative Instruments
Market risk is the risk of change in the value of financial instruments as a
result of absolute or relative changes in interest rates, foreign currency
exchange rates or equity or commodity prices. To varying degrees, the investment
activities supporting all of our products and services generate market risks.
There have been no material changes in our market risk exposures from December
31, 2001, a description of which may be found in our December 31, 2001, Annual
Report on Form 10-K, Item 7A, "Quantitative and Qualitative Disclosures About
Market Risk," filed with the SEC.
Item 4. Controls and Procedures
Controls and Procedures
Within the 90-day period prior to the filing of this report, an evaluation was
carried out under the supervision and with the participation of the Company's
management, including our Chief Executive Officer and Chief Financial Officer,
of the effectiveness of the design and operation of our disclosure controls and
procedures, as defined in Rule 13a-14(c) under the Securities Exchange Act of
1934. Based upon that evaluation, the Chief Executive Officer and Chief
Financial Officer concluded that the design and operation of these disclosure
controls and procedures were effective. No significant changes were made in our
internal controls or in other factors that could significantly affect these
controls subsequent to the date of their evaluation.
14
PART II
Item 2. Changes in Securities and Use of Proceeds.
(d) Information required by Item 701(f) of Regulation S-K:
The information below pertains to modified guaranteed annuity contracts
issued by the Company in three distinct variable annuity products,
Discovery Preferred Variable Annuity, Discovery Select Variable Annuity
and Strategic Partners Select Variable Annuity. However, because the
modified guaranteed annuity option of each of these products is
identical, the Company has aggregated the registration of these
securities.
(1) The original effective date of the Registration Statement of
the Company for the Discovery Preferred Variable Annuity on
Form S-1 was declared effective on November 27, 1995
(Registration No. 33-61143). The Discovery Select prospectus
was added through filings under Rule 424 of the Securities Act
of 1993. The Strategic Partners Select prospectus was added
under Rule 424 of the Securities Act of 1933. The registration
statement continues to be effective through annual amendments,
the most recent filed April 12, 2002 and declared effective
May 1, 2002.
(2) Offering commenced immediately upon effectiveness of the
registration statement.
(3) Not applicable.
(4) (i) The offering has not been terminated.
(ii) The managing underwriter of the offering is Prudential
Investment Management Services LLC.
(iii) Market-Value Adjustment Annuity Contracts (also known
as modified guaranteed annuity contracts).
(iv) Securities registered and sold for the account of the
Company:
Amount registered*: $ 500,000,000
Aggregate price of the offering amount registered: $ 500,000,000
Amount sold*: $ 390,004,808
Aggregate offering price of amount sold to date: $ 390,004,808
* Securities not issued in predetermined units
No securities have been registered for the account of
any selling security holder.
(v) Expenses associated with the issuance of the
securities:
Underwriting discounts and commissions** $ 11,590,506
Other expenses** $ 23,443,687
Total $ 35,034,193
** Amounts are estimated and are paid to affiliated
parties.
(vi) Net offering proceeds: $ 354,970,615
(vii) Not applicable.
(viii) Not applicable.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
3(i)(a) The Articles of Incorporation of Pruco Life Insurance Company
(as amended through October 19, 1993) are incorporated by
reference to the initial Registration Statement on Form S-6 of
Pruco Life Variable Appreciable Account as filed July 2, 1996,
Registration No. 333-07451.
3(ii) By-Laws of Pruco Life Insurance Company (as amended through
May 6, 1997) are incorporated by reference to Form 10-Q as
filed by the Company on August 15, 1997.
4(a) Modified Guaranteed Annuity Contract is incorporated by
reference to the Company's Registration Statement on Form S-1,
Registration No. 33-37587 as filed November 2, 1990.
4(b) Market-Value Adjustment Annuity Contract is incorporated by
reference to the Company's registration statement on Form S-3,
Registration No. 33-61143, as filed April 12, 2002.
(b) Reports on Form 8K
Form 8-K, Commission file number 33-37587, was filed on
August 16, 2002.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf of the
undersigned, thereunto duly authorized.
PRUCO LIFE INSURANCE COMPANY
(Registrant)
Signature Title Date
/s/ Andrew J. Mako
- -------------------------------- Executive Vice President November 14, 2002
Andrew J. Mako (Authorized Signatory)
/s/ William J. Eckert, IV
- -------------------------------- Vice President and November 14, 2002
William J. Eckert, IV Chief Accounting Officer
(Principal Accounting Officer)
CERTIFICATIONS
I, Vivian Banta certify that:
1. I have reviewed this quarterly report on Form 10-Q of Pruco Life Insurance
Company;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the effectiveness of
the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal controls
which could adversely affect the registrant's ability to record, process,
summarize and report financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: November 14, 2002
/s/ Vivian Banta
------------------------------------
Vivian Banta
Chief Executive Officer
I, William J. Eckert, IV, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Pruco Life Insurance
Company;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the effectiveness of
the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal controls
which could adversely affect the registrant's ability to record, process,
summarize and report financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: November 14, 2002.
/s/ William J. Eckert, IV
------------------------------------
William J. Eckert, IV
Chief Accounting Officer