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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2005
COMMISSION FILE NUMBERS 33-26322; 33-46827; 33-52254; 33-60290;
33-58303; 333-33863; 333-34192
MERRILL LYNCH LIFE INSURANCE COMPANY
(Exact name of Registrant as specified in its charter)
ARKANSAS 91-1325756
(State or other jurisdiction (IRS Employer
of incorporation or organization) Identification No.)
1300 Merrill Lynch Drive, 2nd Floor
Pennington, NJ 08534
(Address of Principal Executive Offices)
(609) 274-6900
(Registrant's telephone number including area code)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No __
Indicate by check mark whether the Registrant is an accelerated filer
(as defined in Rule 12b-2 of the Exchange Act).
Yes ___ No X
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
COMMON 250,000
REGISTRANT MEETS THE CONDITIONS SET FORTH IN GENERAL INSTRUCTION H(1)(a)
AND (b) OF FORM 10-Q AND IS THEREFORE FILING THIS FORM WITH THE REDUCED
DISCLOSURE FORMAT.
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PART I. Financial Information
Item I. Financial Statements.
MERRILL LYNCH LIFE INSURANCE COMPANY
(a wholly owned subsidiary of Merrill Lynch Insurance Group, Inc.)
BALANCE SHEETS
(Dollars in thousands) (Unaudited)
March 31, December 31,
ASSETS 2005 2004
- ------ ----------- -----------
INVESTMENTS:
Fixed maturity securities, available-for-sale, at estimated fair value
(amortized cost: 2005 - $1,988,353; 2004 - $1,978,713) $ 1,986,888 $ 2,012,589
Equity securities, available-for-sale, at estimated fair value
(cost: 2005 - $48,013; 2004 - $46,264) 50,917 50,103
Trading account securities, at estimated fair value 26,119 27,996
Limited partnerships, at cost 12,309 13,623
Policy loans on insurance contracts, at outstanding loan balances 1,019,475 1,030,036
----------- -----------
Total Investments 3,095,708 3,134,347
CASH AND CASH EQUIVALENTS 36,209 64,203
ACCRUED INVESTMENT INCOME 53,228 57,646
DEFERRED POLICY ACQUISITION COSTS 386,546 392,516
REINSURANCE RECEIVABLES 3,635 3,832
AFFILIATED RECEIVABLES - NET 5,333 5,611
RECEIVABLES FROM SECURITIES SOLD 2,777 3,021
OTHER ASSETS 36,426 36,186
SEPARATE ACCOUNTS ASSETS 10,716,875 11,052,839
----------- -----------
TOTAL ASSETS $14,336,737 $14,750,201
=========== ===========
See accompanying notes to financial statements. (Continued)
1
MERRILL LYNCH LIFE INSURANCE COMPANY
(a wholly owned subsidiary of Merrill Lynch Insurance Group, Inc.)
BALANCE SHEETS (Continued)
(Dollars in thousands, except common stock par value and shares) (Unaudited)
March 31, December 31,
LIABILITIES AND STOCKHOLDER'S EQUITY 2005 2004
- ------------------------------------ ------------ ------------
LIABILITIES:
POLICYHOLDER LIABILITIES AND ACCRUALS:
Policyholders' account balances $ 2,715,298 $ 2,775,917
Claims and claims settlement expenses 42,468 35,145
------------ ------------
Total Policyholder Liabilities and Accruals 2,757,766 2,811,062
OTHER POLICYHOLDER FUNDS 6,148 7,224
LIABILITY FOR GUARANTY FUND ASSESSMENTS 7,029 7,056
FEDERAL INCOME TAXES - DEFERRED 18,878 22,022
FEDERAL INCOME TAXES - CURRENT 4,040 23,616
PAYABLES FOR SECURITIES PURCHASED 2,250 2,429
UNEARNED POLICY CHARGE REVENUE 111,919 112,221
OTHER LIABILITIES 1,133 266
SEPARATE ACCOUNTS LIABILITIES 10,716,875 11,052,839
------------ ------------
Total Liabilities 13,626,038 14,038,735
------------ ------------
STOCKHOLDER'S EQUITY:
Common stock ($10 par value; authorized: 1,000,000 shares; issued and
outstanding: 250,000 shares) 2,500 2,500
Additional paid-in capital 397,324 397,324
Retained earnings 314,431 297,344
Accumulated other comprehensive income (loss) (3,556) 14,298
------------ ------------
Total Stockholder's Equity 710,699 711,466
------------ ------------
TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY $ 14,336,737 $ 14,750,201
============ ============
See accompanying notes to financial statements.
2
MERRILL LYNCH LIFE INSURANCE COMPANY
(a wholly owned subsidiary of Merrill Lynch Insurance Group, Inc.)
STATEMENTS OF EARNINGS
(Dollars in thousands) (Unaudited)
Three Months Ended
March 31,
----------------------
2005 2004
-------- --------
REVENUES:
Policy charge revenue $ 58,817 $ 53,954
Net investment income 36,692 39,907
Net realized investment gains (losses) (1,341) 2,138
-------- --------
Total Revenues 94,168 95,999
-------- --------
BENEFITS AND EXPENSES:
Interest credited to policyholders' account balances 26,468 30,136
Market value adjustment expense 262 1,027
Policy benefits (net of reinsurance recoveries: 2005 - $2,172;
2004 - $7,110) 10,580 16,106
Reinsurance premium ceded 6,853 6,195
Amortization of deferred policy acquisition costs 11,051 6,356
Insurance expenses and taxes 14,358 13,234
-------- --------
Total Benefits and Expenses 69,572 73,054
-------- --------
Earnings Before Federal Income Tax Provision 24,596 22,945
-------- --------
FEDERAL INCOME TAX PROVISION (BENEFIT):
Current 1,039 11,685
Deferred 6,470 (3,654)
-------- --------
Total Federal Income Tax Provision 7,509 8,031
-------- --------
NET EARNINGS BEFORE CHANGE IN ACCOUNTING PRINCIPLE 17,087 14,914
-------- --------
Change in Accounting Principle, Net of Tax -- (27,400)
-------- --------
NET EARNINGS (LOSS) $ 17,087 $(12,486)
======== ========
See accompanying notes to financial statements.
3
MERRILL LYNCH LIFE INSURANCE COMPANY
(a wholly owned subsidiary of Merrill Lynch Insurance Group, Inc.)
STATEMENTS OF COMPREHENSIVE INCOME
(Dollars in thousands) (Unaudited)
Three Months Ended
March 31,
----------------------
2005 2004
-------- --------
NET EARNINGS (LOSS) $ 17,087 $(12,486)
-------- --------
OTHER COMPREHENSIVE INCOME (LOSS):
Net unrealized gains (losses) on available-for-sale securities:
Net unrealized holding gains (losses) arising during the period (36,285) 32,418
Reclassification adjustment for (gains) losses included in net earnings 9 (1,259)
-------- --------
Net unrealized gains (losses) on available-for-sale securities (36,276) 31,159
Adjustments for:
Policyholder liabilities 8,808 (218)
Deferred policy acquisition costs -- (113)
Deferred federal income taxes 9,614 (10,790)
-------- --------
Total other comprehensive income (loss), net of taxes (17,854) 20,038
-------- --------
COMPREHENSIVE INCOME (LOSS) $ (767) $ 7,552
======== ========
See accompanying notes to financial statements.
4
MERRILL LYNCH LIFE INSURANCE COMPANY
(a wholly owned subsidiary of Merrill Lynch Insurance Group, Inc.)
STATEMENTS OF STOCKHOLDER'S EQUITY
(Dollars in thousands) (Unaudited)
Accumulated
Additional other Total
Common paid-in Retained comprehensive stockholder's
stock capital earnings income (loss) equity
----- ------- -------- ------------- ------
BALANCE, JANUARY 1, 2004 $ 2,500 $ 397,324 $ 329,549 $ 11,465 $ 740,838
Net earnings 65,295 65,295
Cash dividend paid to parent (97,500) (97,500)
Other comprehensive income, net of tax 2,833 2,833
--------- --------- --------- --------- ---------
BALANCE, DECEMBER 31, 2004 2,500 397,324 297,344 14,298 711,466
Net earnings 17,087 17,087
Other comprehensive loss, net of tax (17,854) (17,854)
--------- --------- --------- --------- ---------
BALANCE, MARCH 31, 2005 $ 2,500 $ 397,324 $ 314,431 $ (3,556) $ 710,699
========= ========= ========= ========= =========
See accompanying notes to financial statements.
5
MERRILL LYNCH LIFE INSURANCE COMPANY
(a wholly owned subsidiary of Merrill Lynch Insurance Group, Inc.)
STATEMENTS OF CASH FLOWS
(Dollars in thousands) (Unaudited)
Three Months Ended
March 31,
------------------------
2005 2004
--------- ---------
Cash Flows From Operating Activities:
Net earnings $ 17,087 $ (12,486)
Noncash items included in earnings:
Change in accounting principle, net of tax -- 27,400
Amortization of deferred policy acquisition costs 11,051 6,356
Capitalization of policy acquisition costs (5,081) (8,363)
Amortization of investments 2,572 2,900
Capitalization of sales inducements (164) --
Interest credited to policyholders' account balances 26,468 30,136
Change in variable contract reserves and accruals 1,692 1,314
Provision (benefit) for deferred Federal income tax 6,470 (3,654)
(Increase) decrease in operating assets:
Trading account securities 545 344
Accrued investment income 4,418 5,800
Reinsurance receivables 197 (2,179)
Affiliated receivables - net 278 (1,037)
Other (76) (10,164)
Increase (decrease) in operating liabilities:
Claims and claims settlement expenses 7,323 14,122
Other policyholder funds (1,076) (472)
Liability for guaranty fund assessments (27) (12)
Federal income taxes - current (19,576) 11,685
Affiliated payables - net -- (2,365)
Unearned policy charge revenue (302) 5,925
Other 867 837
Other operating activities:
Net realized investment (gains) losses 1,341 (2,138)
--------- ---------
Net cash and cash equivalents provided by operating activities 54,007 63,949
--------- ---------
Cash Flows From Investing Activities:
Proceeds from (payments for):
Sales of available-for-sale securities 119,685 74,998
Maturities of available-for-sale securities 87,049 48,337
Purchases of available-for-sale securities (220,639) (26,619)
Sales of limited partnerships 1,614 410
Purchases of limited partnerships (300) (1,000)
Policy loans on insurance contracts 10,561 23,555
--------- ---------
Net cash and cash equivalents provided by (used in) investing activities $ (2,030) $ 119,681
--------- ---------
See accompanying notes to financial statements. (Continued)
6
MERRILL LYNCH LIFE INSURANCE COMPANY
(a wholly owned subsidiary of Merrill Lynch Insurance Group, Inc.)
STATEMENTS OF CASH FLOWS (Continued)
(Dollars in thousands) (Unaudited)
Three Months Ended
March 31,
------------------------
2005 2004
--------- ---------
Cash Flows From Financing Activities:
Proceeds from (payments for):
Policyholder deposits (excludes internal policy replacement deposits) $ 124,554 $ 205,524
Policyholder withdrawals (including transfers from separate accounts) (204,525) (288,191)
--------- ---------
Net cash and cash equivalents used in financing activities (79,971) (82,667)
--------- ---------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (27,994) 100,963
CASH AND CASH EQUIVALENTS:
Beginning of year 64,203 75,429
--------- ---------
End of period $ 36,209 $ 176,392
========= =========
Supplementary Disclosure of Cash Flow Information:
Cash paid to affiliates for:
Federal income taxes $ 20,615 $ --
Intercompany interest 151 29
See accompanying notes to financial statements.
7
MERRILL LYNCH LIFE INSURANCE COMPANY
(a wholly owned subsidiary of Merrill Lynch Insurance Group, Inc.)
NOTES TO FINANCIAL STATEMENTS (UNAUDITED)
(Dollars in thousands)
NOTE 1. BASIS OF PRESENTATION
Merrill Lynch Life Insurance Company (the "Company") is a wholly owned
subsidiary of Merrill Lynch Insurance Group, Inc. ("MLIG"). The Company is an
indirect wholly owned subsidiary of Merrill Lynch & Co., Inc. ("Merrill Lynch &
Co."). The Company sells non-participating annuity products, including variable
annuities, modified guaranteed annuities, and immediate annuities. The Company
is domiciled in the State of Arkansas.
For a complete discussion of the Company's 2004 financial statements and
accounting policies, refer to the Company's Annual Report on Form 10-K for the
year ended December 31, 2004.
The interim Financial Statements for the three month period are unaudited;
however, in the opinion of management, all adjustments (consisting of normal
recurring accruals) necessary for a fair statement of the financial statements
have been included. These unaudited Financial Statements should be read in
conjunction with the audited financial statements included in the 2004 Annual
Report on Form 10-K. The December 31, 2004 unaudited Balance Sheet was derived
from the audited 2004 financial statements. The nature of the Company's business
is such that the results of any interim period are not necessarily indicative of
results for a full year. In presenting the Financial Statements, management
makes estimates that affect the reported amounts and disclosures in the
financial statements. Estimates, by their nature, are based on judgment and
available information. Therefore, actual results could differ from those
estimates and could have a material impact on the Financial Statements, and it
is possible that such changes could occur in the near term.
Certain reclassifications and format changes have been made to prior period
financial statements, where appropriate, to conform to the current period
presentation.
NOTE 2. ACCOUNTING PRONOUNCEMENTS
On January 1, 2004, the Company adopted the provisions of Statement of Position
("SOP") 03-1, Accounting and Reporting by Insurance Enterprises for Certain
Nontraditional Long-Duration Contracts and for Separate Accounts. SOP 03-1
requires the establishment of a liability for contracts that contain death or
other insurance benefits using a reserve methodology that is different from the
methodology that the Company previously employed. As a result, the Company
recorded a $41,304 increase in policyholder liabilities and a $850 decrease in
deferred policy acquisition costs resulting in a charge to earnings of $27,400,
net of a federal income tax benefit of $14,754, which was reported as a
cumulative effect of a change in accounting principle.
In March 2004, the Emerging Issues Task Force ("EITF") reached a final consensus
on Issue 03-1, The Meaning of Other-Than-Temporary Impairment and Its
Application to Certain Investments. EITF 03-1 requires that when the fair value
of an investment security is less than its carrying value, an impairment exists
for which the determination must be made as to whether the impairment is
other-than-temporary. The EITF 03-1 impairment model applies to all investment
securities accounted for under SFAS No. 115, Accounting for Certain Investments
in Debt and Equity Securities, and to investment securities accounted for under
the cost method to the extent an impairment indicator exists. Under the
guidance, the determination of whether an impairment is other-than-temporary and
therefore would result in a recognized loss depends on market conditions and
management's intent and ability to hold the securities with unrealized losses.
In September 2004, the Financial Accounting Standards Board ("FASB") approved
FASB Staff Position EITF 03-1, which defers the effective date for recognition
and measurement guidance contained in EITF 03-1 until certain issues are
resolved. The impact on the Company's Financial Statements will be determined
when the final EITF 03-1 is issued. The Company will adopt the guidance at the
time it is issued. The Company previously implemented the disclosure
requirements of EITF 03-1 in its 2003 Financial Statements.
NOTE 3. INVESTMENTS
The Company's investments in fixed maturity and equity securities are classified
as either available-for-sale or trading and are carried at estimated fair value.
Unrealized gains and losses on available-for-sale securities are included in
stockholder's equity as a component of accumulated other comprehensive income
(loss), net of tax. Unrealized gains and losses on trading account securities
8
are included in net realized investment gains (losses). If management determines
that a decline in the value of an available-for-sale security is
other-than-temporary, the carrying value is adjusted to estimated fair value and
the decline in value is recorded as a net realized investment loss. There were
no realized investment losses on securities deemed to have incurred
other-than-temporary declines in fair value for the three months ended March 31,
2005 and 2004.
The Company has recorded certain adjustments to policyholders' account balances
in connection with unrealized holding gains or losses on investments classified
as available-for-sale. The Company adjusts policyholders' account balances as if
the unrealized holdings gains or losses had actually been realized, with
corresponding credits or charges reported in accumulated other comprehensive
income (loss), net of taxes. The components of net unrealized gains (losses)
included in accumulated other comprehensive income (loss) were as follows:
March 31, December 31,
2005 2004
-------- --------
Assets:
Fixed maturity securities $ (1,465) $ 33,876
Equity securities 2,904 3,839
-------- --------
1,439 37,715
-------- --------
Liabilities:
Policyholders' account balances 6,909 15,717
Federal income taxes - deferred (1,914) 7,700
-------- --------
4,995 23,417
-------- --------
Stockholder's equity:
Accumulated other comprehensive income (loss) $ (3,556) $ 14,298
======== ========
Net realized investment gains (losses) were as follows:
Three Months Ended
March 31,
----------------------
2005 2004
------- -------
Available-for-sale securities $ (9) $ 1,259
Trading account securities:
Net realized investment gains 551 701
Net unrealized holding gains (losses) (1,883) 178
------- -------
Total net realized investment gains (losses) $(1,341) $ 2,138
======= =======
NOTE 4. SALES INDUCEMENTS
During March 2005, the Company introduced a new variable annuity product
platform in which certain contracts contain sales inducements. The Company
currently offers a sales inducement whereby the contract owner receives a bonus
which increases the initial account balance by an amount equal to a specified
percentage of the contract owner's deposit. This amount may be subject to
recapture under certain circumstances. The expense associated with offering this
bonus is deferred and amortized over the anticipated life of the related
contracts consistent with the amortization of deferred policy acquisition costs.
The components of deferred sales inducements were as follows:
9
March 31,
2005
----
Balance at January 1, 2005 $ --
Capitalization 164 (1)
Amortization --
----
Balance at March 31, 2005 $164 (2)
====
- ----------
(1) Recorded as a component of policy benefits in the Statements of Earnings.
(2) Recorded as a component of other assets in the Balance Sheets.
NOTE 5. FEDERAL INCOME TAXES
The following is a reconciliation of the provision for income taxes based on
earnings before Federal income taxes, computed using the Federal statutory tax
rate, versus the reported provision for income taxes.
Three Months Ended
March 31,
--------------------
2005 2004
------- -------
Provision for income taxes computed at Federal statutory rate $ 8,609 $ 8,031
Decrease in income taxes resulting from:
Dividend received deduction (915) --
Foreign tax credit (185) --
------- -------
Federal income tax provision $ 7,509 $ 8,031
======= =======
The Federal statutory rate for each of the three month periods ended March 31
was 35%.
NOTE 6. STOCKHOLDER'S EQUITY AND STATUTORY ACCOUNTING PRACTICES
The Company's statutory financial statements are presented on the basis of
accounting practices prescribed or permitted by the Insurance Department of the
State of Arkansas. The State of Arkansas has adopted the National Association of
Insurance Commissioners' statutory accounting practices as the basis of its
statutory accounting practices.
Statutory capital and surplus at March 31, 2005 and December 31, 2004 were
$299,572 and $284,765, respectively. For the three month periods ended March 31,
2005 and 2004, statutory net income was $15,379 and $16,765, respectively.
NOTE 7. SEGMENT INFORMATION
In reporting to management, the Company's operating results are categorized into
two business segments: Annuities and Life Insurance. The Company's Annuity
segment consists of variable annuities and interest sensitive annuities. The
Company's Life Insurance segment consists of variable life insurance products
and interest-sensitive life insurance products. During 2003, the Company ceased
manufacturing or issuing life insurance products. The accounting policies of the
business segments are the same as those for the Company's financial statements
included herein. All revenue and expense transactions are recorded at the
product level and accumulated at the business segment level for review by
management. The "Other" category, presented in the following segment financial
information, represents net revenues and net earnings on invested assets that do
not support annuity or life insurance contract owner liabilities.
10
The following table summarizes each business segment's contribution to
consolidated net revenues and net earnings.
Three Months Ended
March 31,
---------------------
2005 2004
-------- --------
Net Revenues (1):
Annuities $ 42,955 $ 41,765
Life Insurance 24,372 19,874
Other 373 4,224
-------- --------
Net Revenues $ 67,700 $ 65,863
======== ========
Net Earnings Before Change in Accounting Principle:
Annuities $ 7,009 $ 8,415
Life Insurance 9,836 3,754
Other 242 2,745
-------- --------
Net Earnings Before Change in Accounting Principle 17,087 14,914
-------- --------
Change in Accounting Principle, Net of Tax:
Annuities -- (26,215)
Life Insurance -- (1,185)
-------- --------
Change in Accounting Principle, Net of Tax -- (27,400)
-------- --------
Net Earnings (Loss) $ 17,087 $(12,486)
======== ========
- ----------
(1) Net revenues include total revenues net of interest credited to
policyholders' account balances.
11
ITEM 2. MANAGEMENT'S NARRATIVE ANALYSIS OF RESULTS OF OPERATIONS
This Management's Narrative Analysis of Results of Operations should be read in
conjunction with the Financial Statements and Notes to Financial Statements
included herein.
FORWARD LOOKING STATEMENTS
Certain statements contained in this Report may be considered forward-looking,
including statements about management expectations, strategic objectives,
business prospects, anticipated financial performance, and other similar
matters. These forward-looking statements are not statements of historical fact
and represent only management's beliefs regarding future events, which are
inherently uncertain. There are a variety of factors, many of which are beyond
the Company's control, which affect its operations, performance, business
strategy, and results and could cause its actual results and experience to
differ materially from the expectations and objectives expressed in any
forward-looking statements. These factors include, but are not limited to, the
factors listed in the Economic Environment section listed below, as well as
actions and initiatives taken by both current and potential competitors, general
economic conditions, the effects of current, pending, and future legislation,
regulation and regulatory actions, and the other risks and uncertainties
detailed in the Company's Financial Statements and Notes to Financial
Statements. Accordingly, readers are cautioned not to place undue reliance on
forward-looking statements, which speak only as of the dates on which they are
made. The Company does not undertake to update forward-looking statements to
reflect the impact of circumstances or events that arise after the dates the
forward-looking statements are made. The reader should, however, consult any
further disclosures the Company may make in future filings of its Annual Report
on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports on Form 8-K.
BUSINESS OVERVIEW
The Company's gross earnings are principally derived from two sources:
- - the charges imposed on variable annuity and variable life insurance
contracts, and
- - the net earnings from investment of fixed rate life insurance and annuity
contract owner deposits less interest credited to contract owners,
commonly known as interest spread
The costs associated with acquiring contract owner deposits (deferred policy
acquisition costs) are amortized over the period in which the Company
anticipates holding those funds, as noted in the Critical Accounting Policies
section below. Insurance expenses and taxes reported in the Statements of
Earnings are net of amounts deferred. In addition, the Company incurs expenses
associated with the maintenance of inforce contracts.
LIFE INSURANCE STRATEGY
During the first quarter 2003, the Company discontinued manufacturing its single
premium variable life insurance product. As a result, the Company currently does
not manufacture, market, or issue life insurance products.
During the first quarter 2005, the Company transitioned the policy
administration of its inforce life insurance contracts to an unaffiliated third
party service provider, which is considered a leading provider of insurance
products administration services. The Company remains committed to the delivery
of high quality services for all life insurance contracts inforce.
ECONOMIC ENVIRONMENT
The Company's financial position and/or results of operations are primarily
impacted by the following economic factors: equity market performance,
fluctuations in medium term interest rates, and the corporate credit environment
via credit quality and fluctuations in credit spreads. The following discusses
the impact of each economic factor.
Equity Market Performance
Changes in the U.S. equity market directly affect the values of the underlying
U.S. equity-based mutual funds supporting separate accounts assets and,
accordingly, the values of variable contract owner account balances. Since
asset-based fees collected on inforce variable contracts represent a significant
source of revenue, the Company's financial condition will be impacted by
fluctuations in investment performance of separate accounts assets.
12
Fluctuations in the U.S. equity market also directly impact the Company's
exposure to guaranteed minimum death benefit ("GMDB") provisions contained in
the variable annuities it manufactures. Negative investment performance
generally results in greater exposure to GMDB provisions, to the extent there is
an increase in the number of variable contracts (and amount per contract) in
which the GMDB exceeds the variable account balance. Prolonged periods of
negative investment performance may result in greater GMDB expense because it
may change the Company's assumptions regarding the long term cost of GMDBs. If
the Company increases its estimated long term GMDB cost, it will result in
establishing greater GMDB reserves as compared to current practice. GMDB expense
is recorded as a component of policy benefits.
The investment performance of the underlying U.S. equity-based mutual funds
supporting the Company's variable products do not replicate the returns of any
specific U.S. equity market index. However, investment performance will
generally increase or decrease with corresponding increases or decreases in the
overall U.S. equity market. There are several standard indices published on a
daily basis that measure performance of selected components of the U.S. equity
market. Examples include the Dow Jones Industrial Average ("Dow"), NASDAQ
Composite Index ("NASDAQ") and the Standard & Poor's 500 Composite Stock Price
Index ("S&P"). Concerns over inflationary pressures and further increases in
interest rates overshadowed the momentum gained by the equity markets during the
fourth quarter 2004. All three major U.S. equity indices declined during the
first quarter 2005, marking a reversal from the comeback made at the end of last
year. The Dow finished the first quarter down 2.9%, lower than the 0.9% decline
for the first quarter 2004. The NASDAQ, comprised of many technology stocks,
fell 8.1% for the first quarter compared to a slight decline of 0.5% during the
first quarter 2004. The S&P declined 2.6% during the first quarter as opposed to
the 1.3% increase for the first quarter 2004.
Despite equity market decreases during the first quarter 2005, average variable
account balances increased $4.4 million to $10,861.4 million at March 31, 2005
as compared to March 31, 2004. This slight increase is primarily a result of the
equity market highs incurred during the fourth quarter 2004. As a result,
asset-based fees and GMDB expenses were relatively unchanged during the first
three months of 2005 as compared to the same period in 2004.
Additionally, the Company is impacted by the U.S. equity markets through its
trading account investments. The Company's trading account is invested in
convertible debt and convertible preferred stocks. The valuations of these types
of securities are impacted by changes in value of the underlying equity
security. The trading account is carried at market value with changes in market
value included in earnings as a component of net realized investment gains
(losses). The Company's trading account incurred a decrease in net realized
investment gains of $2.2 million during the first three months of 2005 as
compared to the same period in 2004.
Medium Term Interest Rates
The Company defines medium term interest rates as the average interest rate on
U.S. Treasury securities with terms of 1 to 10 years. During the first three
months of 2005, the U.S. Federal Reserve System's Federal Open Market Committee
raised the federal funds rate twice during the quarter to 2.75%. Changes in
interest rates affect the value of investments, primarily fixed maturity
securities and preferred equity securities, as well as interest sensitive
liabilities. Changes in interest rates have an inverse relationship to the value
of investments and interest sensitive liabilities. Also, since the Company has
certain fixed products that contain guaranteed minimum crediting rates,
decreases in interest rates can decrease the amount of interest spread earned by
the Company.
Corporate Credit and Credit Spreads
Changes in the corporate credit environment directly impact the value of the
Company's investments, primarily fixed maturity securities. The Company
primarily invests in investment-grade corporate debt to support its fixed rate
product liabilities.
The Company defines credit spreads according to the Merrill Lynch U.S. Corporate
Bond Index for BBB-A Rated bonds with three to five year maturities. Credit
spreads represent the credit risk premiums required by market participants for a
given credit quality, i.e. the additional yield that a debt instrument issued by
a AA-rated entity must produce over a risk-free alternative (e.g., U.S. Treasury
instruments). Changes in credit spreads have an inverse relationship to the
value of investments.
13
The impact of changes in medium term interest rates, corporate credit and credit
spreads on market valuations were as follows:
Three Months Ended
March 31,
-------------------
2005 2004
------ ------
Average medium term interest rate yield 3.73% 2.39%
Increase (decrease) in medium term interest rates (in basis points) 75 (3)
Credit spreads (in basis points) 95 81
Widening (contracting) of credit spreads (in basis points) 23 (4)
Increase (decrease) on market valuations (in millions):
Available-for-sale investment securities $(36.3) $ 31.2
Interest-sensitive policyholder liabilities 8.8 (0.2)
------ ------
Net increase (decrease) on market valuations $(27.5) $ 31.0
====== ======
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and the reported amounts
of revenues and expenses. Estimates, by their nature, are based on judgment and
available information. Therefore, actual results could differ and could have a
material impact on the Financial Statements, and it is possible that such
changes could occur in the near term.
The Company's critical accounting policies and estimates are discussed below.
For a full description of these and other accounting policies see Note 1 of the
2004 Annual Report.
Valuation of Fixed Maturity and Equity Securities
The Company's principal investments are available-for-sale fixed maturity and
equity securities as defined by Statement of Financial Accounting Standards
("SFAS") No. 115, Accounting for Certain Investments in Debt and Equity
Securities. The fair value of publicly traded fixed maturity and equity
securities are based on independently quoted market prices. The Company
primarily utilizes pricing services and broker quotes to determine the fair
value of non-publicly traded fixed maturity and equity securities. Since
significant judgment is required for the valuation of non-publicly traded
securities, the estimated fair value of these securities may differ from amounts
realized upon an immediate sale. At March 31, 2005 and December 31, 2004,
approximately, $245.3 million (or 12%) and $220.9 million (or 11%),
respectively, of the Company's fixed maturity and equity securities portfolio
consisted of non-publicly traded securities.
Changes in the fair value of fixed maturity and equity securities are reported
as a component of accumulated other comprehensive income (loss) on the Balance
Sheets and are not reflected in the Statements of Earnings until a sale
transaction occurs or when declines in fair value are deemed
other-than-temporary.
Other-Than-Temporary Impairment Losses on Investments
The Company regularly reviews each investment in its fixed maturity and equity
securities portfolio to evaluate the necessity of recording impairment losses
for other-than-temporary ("OTT") declines in the fair value of investments.
Management makes this determination through a series of discussions with the
Company's portfolio managers and credit analysts, information obtained from
external sources (i.e. company announcements, ratings agency announcements, or
news wire services) and the Company's ability and intent to hold the investments
for a period of time sufficient for a forecasted market price recovery up to or
beyond the amortized cost of the investment. The factors that may give rise to a
potential OTT impairment include, but are not limited to, i) certain
credit-related events such as default of principal or interest payments by the
issuer, ii) bankruptcy of issuer, iii) certain security restructurings, and iv)
fair market value less than amortized cost for an extended period of time. In
the absence of a readily ascertainable market value, the estimated fair value on
these securities represents management's best estimate and is based on
comparable securities and other assumptions as appropriate. Management bases
this determination on the most recent information available. OTT impairment
losses
14
result in a permanent reduction of the cost basis of the investment. There were
no OTT impairments on investments in fixed maturity securities for the three
month periods ended March 31, 2005 and 2004.
Deferred Policy Acquisition Costs for Variable Annuities and Variable Life
Insurance
The costs of acquiring business, principally commissions, certain expenses
related to policy issuance, and certain variable sales expenses that relate to
and vary with the production of new and renewal business, are deferred and
amortized in accordance with SFAS No. 97, Accounting and Reporting by Insurance
Enterprises for Certain Long-Duration Contracts and for Realized Gains and
Losses from the Sale of Investments. Deferred policy acquisition costs ("DAC")
are subject to recoverability testing at the time of policy issuance and loss
recognition testing at the end of each reporting period. At March 31, 2005,
variable annuities and variable life insurance accounted for $209.3 million (or
54%) and $166.3 million (or 43%), respectively, of the Company's DAC asset. At
December 31, 2004, variable annuities and variable life insurance accounted for
$211.4 million (or 54%) and $170.2 million (or 43%), respectively, of the
Company's DAC asset.
DAC for variable annuities is amortized with interest over the lives of the
policies in relation to the present values of estimated future gross profits
from asset-based fees, contract fees, and surrender charges, less a provision
for GMDB expenses, policy maintenance expenses, and non-capitalized commissions.
DAC for variable life insurance is amortized with interest over the lives of the
policies in relation to the present values of estimated future gross profits
from fees related to contract loans, asset-based fees, and cost of insurance
charges, less claims (net of reinsurance), cost of mortality reinsurance, policy
maintenance expenses, and non-capitalized commissions.
Future gross profit estimates are subject to periodic evaluation by the Company,
with necessary revisions applied against amortization to date. The impact of
revisions to estimates on cumulative amortization is recorded as a charge or
benefit to current operations, commonly referred to as "DAC unlocking". During
2004, the Company elected to adopt new assumptions for market returns associated
with assets held in the Company's variable annuity separate accounts. If returns
over a determined historical period differ from the Company's long-term
assumption, returns for future determined periods are calculated so that the
long-term assumption is achieved. This method for projecting market returns is
known as reversion to the mean, a standard industry practice. The Company
previously established estimates for market returns based on actual historical
results and on future anticipated market returns without the use of a mean
reversion technique. Changes in assumptions can have a significant impact on the
amount of DAC reported for variable annuities and variable life insurance
products and their related amortization patterns. In general, increases in the
estimated separate accounts return and decreases in surrender or mortality
assumptions increase the expected future profitability of the underlying
business and may lower the rate of DAC amortization. Conversely, decreases in
the estimated separate accounts returns and increases in surrender or mortality
assumptions reduce the expected future profitability of the underlying business
and may increase the rate of DAC amortization.
The most significant assumptions involved in the estimation of future gross
profits are future net separate accounts performance, surrender rates, and
mortality rates. For variable annuities, the Company generally establishes a
long-term rate of net separate accounts growth. The long-term rate may be
adjusted if the Company's long-term expectations change. Using the mean
reversion technique, the Company modifies the rate of net variable annuity
separate accounts growth over the near term, based on recent historical returns.
The result is that the long-term rate is assumed to be realized over a period of
approximately ten years. For variable life, the Company generally assumes a
level long-term rate of net variable life separate accounts growth for all
future years. The long-term rate may be adjusted if the Company's long-term
expectations change. Additionally, the Company may modify the rate of net
separate accounts growth over the short term to reflect the Company's near-term
expectations of the economy and financial market performance in which separate
accounts assets are invested.
Policyholder Liabilities
The Company establishes liabilities for amounts payable for its life insurance
and annuity contracts. At March 31 2005 and December 31, 2004, life and annuity
policyholder liabilities were $2.7 billion and $2.8 billion, respectively. These
liabilities are actuarially determined reserves, which are calculated to meet
the Company's future obligations. Reserves are calculated using actuarial
methods and mortality tables in general use in the United States and in
accordance with SFAS No. 60, Accounting and Reporting by Insurance Enterprises,
SFAS No. 97, Accounting and Reporting by Insurance Enterprises for Certain
Long-Duration Contracts and for Realized Gains and Losses from the Sale of
Investments, and Statement of Position ("SOP") 03-1, Accounting and Reporting by
Insurance Enterprises for Certain Nontraditional Long-Duration Contracts and for
Separate Accounts. Inherent in these standards are estimates and assumptions
regarding mortality, surrender rates, policy expenses, investment yields, and
inflation. These estimates and assumptions are influenced by the Company's
historical experience, current developments, and anticipated market trends.
Changes in
15
actuarial estimates and assumptions or differences between actual and expected
experience can significantly affect the Company's reserve liabilities and
subsequently impact future operations.
Unearned Revenue Liability for Variable Life Insurance
One of the Company's variable life insurance products includes a premium load
that is higher in early policy years than in later years. The excess of the
initial load over the ultimate load is recognized as income over time in the
same manner that DAC is amortized. In addition, the unearned revenue liability
is subject to the same periodic reassessment as DAC. At March 31, 2005 and
December 31, 2004, the Company's unearned policy charge revenue liability was
$111.9 million and $112.2 million, respectively.
Federal Income Taxes
The Company uses the asset and liability method in providing income taxes on all
transactions that have been recognized in the financial statements. The asset
and liability method requires that deferred taxes be adjusted to reflect the tax
rates at which future taxable amounts will be settled or realized. The Company
provides for federal income taxes based on amounts the Company believes it will
ultimately owe. Inherent in the provision for federal income taxes are estimates
regarding the realization of certain tax deductions and credits.
Specific estimates include the realization of the dividend-received deduction
("DRD") and the foreign tax credit ("FTC"). A portion of the Company's
investment income related to separate accounts business qualifies for the DRD
and FTC. Information necessary to calculate these tax adjustments is typically
not available until the following year. However, within the current year's
provision, management makes estimates regarding the future tax deductibility of
these items. These estimates are primarily based on recent historic experience.
See Note 5 to the Financial Statements for period-to-period differences in DRD
and FTC adjustments.
RECENT DEVELOPMENTS
New Accounting Pronouncements
On January 1, 2004, the Company adopted the provisions of SOP 03-1, Accounting
and Reporting by Insurance Enterprises for Certain Nontraditional Long-Duration
Contracts and for Separate Accounts. SOP 03-1 requires the establishment of a
liability for contracts that contain death or other insurance benefits using a
reserve methodology that is different from the methodology that the Company
previously employed. As a result, the Company recorded a $41,304 increase in
policyholder liabilities and a $850 decrease in deferred policy acquisition
costs resulting in a charge to earnings of $27,400, net of a federal income tax
benefit of $14,754, which was reported as a cumulative effect of a change in
accounting principle.
In March 2004, the Emerging Issues Task Force ("EITF") reached a final consensus
on Issue 03-1, The Meaning of Other-Than-Temporary Impairment and Its
Application to Certain Investments. EITF 03-1 requires that when the fair value
of an investment security is less than its carrying value, an impairment exists
for which the determination must be made as to whether the impairment is
other-than-temporary. The EITF 03-1 impairment model applies to all investment
securities accounted for under SFAS No. 115, Accounting for Certain Investments
in Debt and Equity Securities, and to investment securities accounted for under
the cost method to the extent an impairment indicator exists. Under the
guidance, the determination of whether an impairment is other-than-temporary and
therefore would result in a recognized loss depends on market conditions and
management's intent and ability to hold the securities with unrealized losses.
In September 2004, the Financial Accounting Standards Board ("FASB") approved
FASB Staff Position EITF 03-1, which defers the effective date for recognition
and measurement guidance contained in EITF 03-1 until certain issues are
resolved. The impact on the Company's Financial Statements will be determined
when the final EITF 03-1 is issued. The Company will adopt the guidance at the
time it is issued. The Company previously implemented the disclosure
requirements of EITF 03-1 in its 2003 Financial Statements.
NEW BUSINESS
The Company has strategically placed its marketing emphasis on the sale of
variable annuity products. These products are designed to address the retirement
planning needs of Merrill Lynch & Co.'s clients. Each variable annuity product
provides tax-deferred retirement savings with the opportunity for diversified
investing in a wide selection of underlying mutual fund portfolios. The Company
issues four classes of variable annuity products including B-Share, C-Share,
L-Share, and Bonus classes. These classes are differentiated by the surrender
charge period and the types of contract fees charged to the contract owner. The
Bonus class offers a bonus in which a specified amount is added to the contract
value with each deposit, which may be subject to recapture under certain
circumstances. Current available contract features include guaranteed minimum
death benefits, guaranteed minimum income benefits, and additional death
benefits. During March 2005, the Company introduced a new variable annuity
product line, which is intended to
16
replace the existing variable annuity products (subject to state approval). The
new variable annuity product line provides the ability to customize variable
annuity products with specific contract features, charge structures, and
investment options. Total deposits for this product during the first three weeks
of introduction were $10.2 million.
In addition, the Company issues modified guaranteed annuity products. The
modified guaranteed annuity products also provide tax-deferred retirement
savings through guaranteed fixed interest rates for a period selected by the
contract owner, but impose a market value adjustment for withdrawals prior to
the expiration of the guarantee period.
Annuity and life insurance deposits decreased $88.1 million (or 40%) to $129.7
million during the first three months of 2005 as compared to the same period in
2004. Annuity and life insurance deposits by product were as follows:
($ In Millions) Change
------------------------------- ------------------------
First Quarter First Quarter
2005 2004 $ %
------------- ------------- ------ ---
Variable Annuities:
B-Share $103.2 $187.0 $-83.8 -45%
C-Share 8.2 14.9 -6.7 -45
L-Share 5.8 4.0 1.8 45
Bonus 3.0 -- 3.0 n/a
------ ------ ------ ---
120.2 205.9 -85.7 -42
------ ------ ------ ---
Variable Life Insurance 6.9 9.0 -2.1 -23
Modified Guaranteed Annuities 2.5 2.6 -0.1 -4
Other 0.1 0.3 -0.2 -67
------ ------ ------ ---
Total Direct Deposits $129.7 $217.8 $-88.1 -40%
====== ====== ====== ===
During the first three months of 2005, variable annuity deposits decreased $85.7
million (or 42%) to $120.2 million as compared to the same period in 2004.
Management attributes the reduction in variable annuity deposits to general
economic conditions and to uncertainties regarding the regulatory environment
relating to the distribution of annuity products. Also, management believes
variable annuity deposits were adversely impacted by the intensified focus on
the new variable annuity product line introduction mentioned above.
During the first three months of 2005, variable life insurance deposits
decreased $2.1 million (or 23%) to $6.9 million as compared to the same period
in 2004. Variable life insurance deposits displayed above generally represent
renewal deposits on existing life insurance contracts.
FINANCIAL CONDITION
At March 31, 2005, the Company's assets were $14.3 billion, or $413.5 million
lower than the $14.8 billion in assets at December 31, 2004. Assets excluding
separate accounts assets decreased $77.5 million (or 2%) primarily due to a
reduction in the number of fixed rate contracts inforce, a decrease in market
values on investment securities as a result of the rising interest rate
environment during the first three months of 2005, and a $20.6 million federal
income tax payment. Separate accounts assets, which represent 75% of total
assets, decreased $336.0 million (or 3%) to $10.7 billion. Changes in separate
accounts assets were as follows:
First Quarter
2005
-------------
(In Millions)
Net cash outflow $(215.7)
Investment performance (120.3)
-------
Net decrease $(336.0)
=======
17
During the first three months of 2005, the Company experienced contract owner
withdrawals that exceeded deposits on all products by $263.6 million. The
components of contract owner transactions were as follows:
First Quarter
2005
-------------
(In Millions)
Deposits collected $ 129.7
Internal tax-free exchanges (5.1)
-------
Net contract owner deposits 124.6
-------
Contract owner withdrawals 204.5
Net transfers from separate accounts 183.7
-------
Net contract owner withdrawals 388.2
-------
Net contract owner activity $(263.6)
=======
At March 31, 2005 and December 31, 2004, approximately $1,968.5 million (or 99%)
and $1,991.5 million (or 99%), respectively, of the Company's fixed maturity
securities were considered investment grade. The Company defines investment
grade securities as unsecured debt obligations that have a rating equivalent to
Standard and Poor's BBB- or higher (or similar rating agency). Also, at March
31, 2005, approximately $142.0 million (or 7%) of the Company's fixed maturity
securities were rated BBB-, which is the lowest investment grade rating given by
Standard and Poor's, as compared to $156.4 million (or 8%) of the Company's
fixed maturity securities at December 31, 2004.
At March 31, 2005 and December 31, 2004, approximately $18.4 million (or 1%) and
$21.1 million (or 1%), respectively, of the Company's fixed maturity securities
were considered below investment grade. Below investment grade securities are
speculative and are subject to significantly greater risks related to the
creditworthiness of the issuers and the liquidity of the market for such
securities. Current below investment grade holdings are the result of ratings
downgrades on the Company's portfolio as the Company does not purchase below
investment grade securities. The Company closely monitors such investments.
LIQUIDITY
To fund all business activities, the Company maintains a high quality and liquid
investment portfolio. As of March 31, 2005, the Company's assets included
$2,046.6 million of cash, short-term investments and investment grade publicly
traded available-for-sale securities that could be liquidated if funds were
required.
During June 2003, the Company and Merrill Lynch & Co. executed a "keepwell"
agreement. The agreement obligates Merrill Lynch & Co. to maintain a level of
capital in the Company in excess of minimum regulatory capital requirements.
CONTRACTUAL OBLIGATIONS
The following table summarizes the Company's contractual obligations as of March
31, 2005:
Less Than Three to More Than
Three Years Five Years Five Years Total
----------- ---------- ---------- -----
(In Millions)
Contractual Obligations:
Long-term liabilities (1) $ 27.0 $ 39.0 $257.4 323.4
Limited partnership investments (2) 2.3 -- -- 2.3
------ ------ ------ -----
Total $ 29.3 $ 39.0 $257.4 325.7
====== ====== ====== =====
- ----------
(1) The long-term liabilities include policyholder liabilities for which the
Company believes the amount and timing of the payments are essentially
fixed and determinable. These amounts primarily relate to contracts where
the Company is currently making payments to policyholders and will
continue to do so until the occurrence of a specific event.
18
Liabilities for future policyholder benefits of $2,391.9 million have been
excluded from this table. These amounts primarily relate to contracts
where i) the Company is not currently making payments and will not make
payments in the future until the occurrence of an insurable event or ii)
the occurrence of a payment triggering event (i.e. death or withdrawal) is
outside the control of the Company. Such amounts are not determinable.
(2) During 2000, the Company committed to participate in a limited
partnership. As of March 31, 2005, $7.7 million had been advanced towards
the Company's $10.0 million commitment to the limited partnership. The
contractual commitment expires June 2006.
RESULTS OF OPERATIONS
For the three month periods ended March 31, 2005 and 2004, the Company recorded
net earnings (loss) of $17.1 million and ($12.5) million, respectively.
Policy charge revenue increased $4.8 million (or 9%) to $58.8 million during the
first three months of 2005 as compared to $54.0 million during the same period
in 2004. The increase in policy charge revenue is primarily due to an increase
in deferred policy load amortization resulting from decreased mortality.
Net earnings derived from interest spread increased $0.4 million (or 5%) to
$10.2 million during the first three months of 2005 as compared to $9.8 million
during the same period in 2004. The following table provides the components and
changes in interest spread for each respective period.
First First
Quarter Quarter
Interest Spread 2005 2004 Change
--------------- ---- ---- ------
(In Millions)
Net investment income $ 36.7 $ 39.9 $(3.2) (1)
Interest credited to policyholders' account balances (26.5) (30.1) 3.6 (2)
------ ------ -----
$ 10.2 $ 9.8 $ 0.4
====== ====== =====
- ----------
(1) Despite the reduction in fixed rate contracts inforce, net investment
income was favorably impacted by the increasing interest rate environment
during the first three months of 2005 as compared to the same period in
2004.
(2) Primarily due to the reduction in fixed rate contracts inforce during the
first three months of 2005 as compared to the same period in 2004.
The Company experienced net realized investment gains (losses) of ($1.3) million
and $2.1 million during the first three months of 2005 and 2004, respectively.
The following table provides the changes in net realized investment gains
(losses) by type for each respective period:
First First
Quarter Quarter
Net Realized Gains (Losses) 2005 2004 Change
--------------------------- ---- ---- ------
(In Millions)
Credit related $ 0.1 $(0.3) $ 0.4
Interest related (0.1) 1.5 (1.6) (1)
Trading account (1.3) 0.9 (2.2) (2)
----- ----- -----
$(1.3) $ 2.1 $(3.4)
===== ===== =====
- ----------
(1) The decrease in interest related net realized gains is primarily due to
decreases to asset market valuations resulting from the increasing
interest rate environment during the first three months of 2005 as
compared to the same period in 2004.
(2) The trading account is comprised of convertible debt and convertible
preferred equity securities. The valuations of these securities generally
fluctuate in a direct relationship to changes in the valuations of the
underlying common equity.
Market value adjustment expense decreased $0.7 million (or 74%) to $0.3 million
during the first three months of 2005 as compared to $1.0 million during the
same period in 2004. The market value adjustment expense is attributable to the
Company's modified guaranteed annuity products. This contract provision results
in a market value adjustment to the cash surrender value of those
19
contracts that are surrendered before the expiration of their interest rate
guarantee period. The decrease in market value adjustment expense is primarily
due to the higher interest rate environment during the first three months of
2005 as compared to the same period in 2004. The market value adjustment expense
has an inverse relationship to changes in interest rates.
Policy benefits decreased $5.5 million (or 34%) to $10.6 million during the
first three months of 2005 as compared to $16.1 million during the same period
in 2004. The decrease in policy benefits is primarily due to decreased life
insurance mortality expense resulting from a decrease in net amount at risk per
death claim during the first three months of 2005 as compared to the same period
in 2004.
Reinsurance premium ceded increased $0.7 million (or 11%) to $6.9 million during
the first three months of 2005 as compared to $6.2 million during the same
period in 2004. The increase in reinsurance premium ceded is primarily due to an
increase in reinsurance annuity premium ceded, which is attributable to the
Company's effort to reinsure variable annuity products containing guaranteed
minimum income benefit provisions.
Amortization of deferred policy acquisition costs increased $4.7 million (or
74%) to $11.1 million during the first three months of 2005 as compared to $6.4
million during the same period in 2004. The increase in amortization of deferred
policy acquisition costs is primarily due to decreased life insurance mortality
expense during the first three months of 2005 as compared to the same period in
2004.
Insurance expenses and taxes increased $1.1 million (or 8%) to $14.3 million
during the first three months of 2005 as compared to $13.2 million during the
same period in 2004. The increase in insurance expenses and taxes is primarily
due to new product development expenses incurred during the first three months
of 2005.
The Company's effective federal income tax rate was 31% during the first three
months of 2005 as compared to 35% during the equivalent period in 2004. The
change in the effective federal income tax rate is primarily due to DRD and FTC
adjustments recorded during the first three months of 2005.
As noted in the Recent Developments section above, effective January 1, 2004,
the Company adopted SOP 03-1 and recorded a cumulative change in accounting
principle of $27.4 million, net of a federal income tax benefit of $14.8
million.
SEGMENT INFORMATION
The products that comprise the Annuity and Life Insurance segments generally
possess similar economic characteristics. As such, the financial condition and
results of operations of each business segment are generally consistent with the
Company's consolidated financial condition and results of operations presented
herein.
20
ITEM 4. Controls and Procedures
In 2002, the Company formed a Disclosure Committee to assist with the monitoring
and evaluation of its disclosure controls and procedures. The Company's Chief
Executive Officer, Chief Financial Officer, and Disclosure Committee have
evaluated the effectiveness of the Company's disclosure controls and procedures
(as defined in Rule 15d-15(e) under the Securities Exchange Act of 1934) as of
the end of the period covered by this Report. Based on that evaluation, the
Company's Chief Executive Officer and Chief Financial Officer have concluded
that the Company's disclosure controls and procedures are effective.
In addition, no change in the Company's internal control over financial
reporting (as defined in Rule 15d-15(f) under the Securities Exchange Act of
1934) occurred during the period covered by this quarterly report that has
materially affected, or is reasonably likely to materially affect, the Company's
internal control over financial reporting.
PART II Other Information
Item 1. Legal Proceedings.
Nothing to report.
Item 5. Other Information.
(a) Nothing to report.
(b) Nothing to report.
Item 6. Exhibits.
2.1 Merrill Lynch Life Insurance Company Board of Directors
Resolution in Connection with the Merger between Merrill Lynch
Life Insurance Company and Tandem Insurance Group, Inc.
(Incorporated by reference to Exhibit 2.1, filed September 5,
1991, as part of Post-Effective Amendment No. 4 to the
Registrant's registration statement on Form S-1, File No.
33-26322.)
2.2 Plan and Agreement of Merger between Merrill Lynch Life
Insurance Company and Tandem Insurance Group, Inc. (Incorporated
by reference to Exhibit 2.1a, filed September 5, 1991, as part
of Post-Effective Amendment No. 4 to the Registrant's
registration statement on Form S-1, File No. 33-26322.)
3.1 Articles of Amendment, Restatement and Redomestication of the
Articles of Incorporation of Merrill Lynch Life Insurance
Company. (Incorporated by reference to Exhibit 6(a) to
Post-Effective Amendment No. 10 to Merrill Lynch Life Variable
Annuity Separate Account A's registration statement on Form N-4,
File No. 33-43773, filed December 10, 1996.)
3.2 Amended and Restated By-Laws of Merrill Lynch Life Insurance
Company. (Incorporated by reference to Exhibit 6(b) to
Post-Effective Amendment No. 10 to Merrill Lynch Life Variable
Annuity Separate Account A's registration statement on Form N-4,
File No. 33-43773, filed December 10, 1996.)
4.1 Group Modified Guaranteed Annuity Contract, ML-AY-361.
(Incorporated by reference to Exhibit 4.1, filed February 23,
1989, as part of Pre-Effective Amendment No. 1 to the
Registrant's registration statement on Form S-1, File No.
33-26322.)
4.2 Individual Certificate, ML-AY-362. (Incorporated by reference to
Exhibit 4.2, filed February 23, 1989, as part of Pre-Effective
Amendment No. 1 to the Registrant's registration statement on
Form S-1, File No. 33-26322.)
4.2a Individual Certificate, ML-AY-362 KS. (Incorporated by reference
to Exhibit 4.2a, filed March 9, 1990, as part of Post-Effective
Amendment No. 1 to the Registrant's registration statement on
Form S-1, File No. 33-26322.)
4.2b Individual Certificate, ML-AY-378. (Incorporated by reference to
Exhibit 4.2b, filed March 9, 1990, as part of Post-Effective
Amendment No. 1 to the Registrant's registration statement on
Form S-1, File No. 33-26322.)
4.2c Modified Guaranteed Annuity Contract. (Incorporated by reference
to Exhibit 4(a), filed August 18, 1997, as part of the
Registrant's registration statement on Form S-3, File No.
333-33863.)
4.3 Individual Tax-Sheltered Annuity Certificate, ML-AY-372. (Incorporated
by reference to Exhibit 4.3, filed February 23, 1989, as part of
Pre-Effective Amendment No. 1 to the Registrant's registration statement
on Form S-1, File No. 33-26322.)
4.3a Individual Tax-Sheltered Annuity Certificate, ML-AY-372 KS.
(Incorporated by reference to Exhibit 4.3a, filed March 9, 1990, as part
of Post-Effective Amendment No. 1 to the Registrant's registration
statement on Form S-1, File No. 33-26322.)
4.4 Qualified Retirement Plan Certificate, ML-AY-373. (Incorporated by
reference to Exhibit 4.4 to the Registrant's registration statement on
Form S-1, File No. 33-26322, filed January 3, 1989.)
4.4a Qualified Retirement Plan Certificate, ML-AY-373 KS. (Incorporated by
reference to Exhibit 4.4a, filed March 9, 1990, as part of
Post-Effective Amendment No. 1 to the Registrant's registration
statement on Form S-1, File No. 33-26322.)
4.5 Individual Retirement Annuity Certificate, ML-AY-374. (Incorporated by
reference to Exhibit 4.5 to the Registrant's registration statement on
Form S-1, File No. 33-26322, filed January 3, 1989.)
4.5a Individual Retirement Annuity Certificate, ML-AY-374 KS. (Incorporated
by reference to Exhibit 4.5a, filed March 9, 1990, as part of
Post-Effective Amendment No. 1 to the Registrant's registration
statement on Form S-1, File No. 33-26322.)
4.5b Individual Retirement Annuity Certificate, ML-AY-375 KS. (Incorporated
by reference to Exhibit 4.5b, filed March 9, 1990, as part of
Post-Effective Amendment No. 1 to the Registrant's registration
statement on Form S-1, File No. 33-26322.)
4.5c Individual Retirement Annuity Certificate, ML-AY-379. (Incorporated by
reference to Exhibit 4.5c, filed March 9, 1990, as part of
Post-Effective Amendment No. 1 to the Registrant's registration
statement on Form S-1, File No. 33-26322.)
4.6 Individual Retirement Account Certificate, ML-AY-375. (Incorporated by
reference to Exhibit 4.6, filed February 23, 1989, as part of
Pre-Effective Amendment No. 1 to the Registrant's registration statement
on Form S-1, File No. 33-26322.)
4.6a Individual Retirement Account Certificate, ML-AY-380. (Incorporated by
reference to Exhibit 4.6a, filed March 9, 1990, as part of
Post-Effective
Amendment No. 1 to the Registrant's registration statement on Form S-1,
File No. 33-26322.)
4.7 Section 457 Deferred Compensation Plan Certificate, ML-AY-376.
(Incorporated by reference to Exhibit 4.7 to the Registrant's
registration statement on Form S-1, File No. 33-26322, filed January 3,
1989.)
4.7a Section 457 Deferred Compensation Plan Certificate, ML-AY-376 KS.
(Incorporated by reference to Exhibit 4.7a, filed March 9, 1990, as part
of Post-Effective Amendment No. 1 to the Registrant's registration
statement on Form S-1, File No. 33-26322.)
4.8 Tax-Sheltered Annuity Endorsement, ML-AY-366. (Incorporated by reference
to Exhibit 4.8 to the Registrant's registration statement on Form S-1,
File No. 33- 26322, filed January 3, 1989.)
4.8a Tax-Sheltered Annuity Endorsement, ML-AY-366 190. (Incorporated by
reference to Exhibit 4.8a, filed March 9, 1990, as part of
Post-Effective Amendment No. 1 to the Registrant's registration
statement on Form S-1, File No. 33-26322.)
4.8b Tax-Sheltered Annuity Endorsement, ML-AY-366 1096. (Incorporated by
reference to Exhibit 4(h)(3), filed March 27, 1997, as part of
Post-Effective Amendment No. 2 to the Registrant's registration
statement on Form S-1, File No. 33-58303.)
4.9 Qualified Retirement Plan Endorsement, ML-AY-364. (Incorporated by
reference to Exhibit 4.9 to the Registrant's registration statement on
Form S-1, File No. 33-26322, filed January 3, 1989.)
4.10 Individual Retirement Annuity Endorsement, ML-AY-368. (Incorporated by
reference to Exhibit 4.10 to the Registrant's registration statement on
Form S-1, File No. 33-26322, filed January 3, 1989.)
4.10a Individual Retirement Annuity Endorsement, ML-AY-368 190. (Incorporated
by reference to Exhibit 4.10a, filed March 9, 1990, as part of
Post-Effective Amendment No. 1 to the Registrant's registration
statement on Form S-1, File No. 33-26322.)
4.10b Individual Retirement Annuity Endorsement, ML009. (Incorporated by
reference to Exhibit 4(j)(3) to Post-Effective Amendment No. 1 to the
Registrant's registration statement on Form S-1, File No. 33-60290,
filed March 31, 1994.)
4.10c Individual Retirement Annuity Endorsement. (Incorporated by reference to
Exhibit 4(b) to Pre-Effective Amendment No. 1 to the Registrant's
registration statement on Form S-3, File No. 333-33863, filed October
31, 1997.)
4.11 Individual Retirement Account Endorsement, ML-AY-365. (Incorporated by
reference to Exhibit 4.11 to the Registrant's registration statement on
Form S-1, File No. 33-26322, filed January 3, 1989.)
4.11a Individual Retirement Account Endorsement, ML- AY-365 190. (Incorporated
by reference to Exhibit 4.11a, filed March 9, 1990, as part of
Post-Effective Amendment No. 1 to the Registrant's registration
statement on Form S-1, File No. 33-26322.)
4.12 Section 457 Deferred Compensation Plan Endorsement, ML-AY-367.
(Incorporated by reference to Exhibit 4.12 to the Registrant's
registration statement on Form S-1, File No. 33-26322, filed January 3,
1989.)
4.12a Section 457 Deferred Compensation Plan Endorsement, ML-AY-367 190.
(Incorporated by reference to Exhibit 4.12a, filed March 9, 1990, as
part of Post-Effective Amendment No. 1 to the Registrant's registration
statement on Form S-1, File No. 33-26322.)
4.13 Qualified Plan Endorsement, ML-AY-369. (Incorporated by reference to
Exhibit 4.13 to the Registrant's registration statement on Form S-1,
File No. 33-26322, filed January 3, 1989.)
4.13a Qualified Plan Endorsement, ML-AY-448. (Incorporated by reference to
Exhibit 4.13a, filed March 9, 1990, as part of Post-Effective Amendment
No. 1 to the Registrant's registration statement on Form S-1, File No.
33-26322.)
4.13b Qualified Plan Endorsement. (Incorporated by reference to Exhibit 4(c),
filed October 31, 1997, as part of Pre-Effective Amendment No. 1 to the
Registrant's registration statement on Form S-3, File No. 333-33863.)
4.14 Application for Group Modified Guaranteed Annuity Contract.
(Incorporated by reference to Exhibit 4.14 to the Registrant's
registration statement on Form S-1, File No. 33-26322, filed January 3,
1989.)
4.15 Annuity Application for Individual Certificate Under Modified Guaranteed
Annuity Contract. (Incorporated by reference to Exhibit 4.15 to the
Registrant's registration statement on Form S-1, File No. 33-26322,
filed January 3, 1989.)
4.15a Application for Modified Guaranteed Annuity Contract. (Incorporated by
reference to Exhibit 4(d), filed August 18, 1997, as part of the
Registrant's registration statement on Form S-3, File No. 333-33863.)
4.16 Form of Company Name Change Endorsement. (Incorporated by reference to
Exhibit 4.16, filed September 5, 1991, as part of Post-Effective
Amendment No. 4 to the Registrant's registration statement on Form S-1,
File No. 33-26322.)
4.17 Group Modified Guaranteed Annuity Contract, ML-AY-361/94. (Incorporated
by reference to Exhibit 4(a)(2), filed December 7, 1994, as part of
Post-Effective Amendment No. 3 to the Registrant's registration
statement on Form S-1, File No. 33-60290.)
4.18 Individual Certificate, ML-AY-362/94. (Incorporated by reference to
Exhibit 4(b)(4), filed December 7, 1994, as part of Post-Effective
Amendment No. 3 to the Registrant's registration statement on Form S-1,
File No. 33-60290.)
4.19 Individual Tax-Sheltered Annuity Certificate, ML-AY-372/94.
(Incorporated by reference to Exhibit 4(c)(3), filed December 7, 1994,
as part of Post-Effective Amendment No. 3 to the Registrant's
registration statement on Form S-1, File No. 33-60290.)
4.20 Qualified Retirement Plan Certificate, ML-AY-373/94. (Incorporated by
reference to Exhibit 4(d)(3), filed December 7, 1994, as part of
Post-Effective Amendment No. 3 to the Registrant's registration
statement on Form S-1, File No. 33-60290.)
4.21 Individual Retirement Annuity Certificate, ML-AY-374/94. (Incorporated
by reference to Exhibit 4(e)(5), filed December 7, 1994, as part of
Post-Effective Amendment No. 3 to the Registrant's registration
statement on Form S-1, File No. 33-60290.)
4.22 Individual Retirement Account Certificate, ML-AY-375/94. (Incorporated
by reference to Exhibit 4(f)(3), filed December 7, 1994, as part of
Post-Effective Amendment No. 3 to the Registrant's registration
statement on Form S-1, File No. 33-60290.)
4.23 Section 457 Deferred Compensation Plan Certificate, ML-AY-376/94.
(Incorporated by reference to Exhibit 4(g)(3), filed December 7, 1994,
as part of Post-Effective Amendment No. 3 to the Registrant's
registration statement on Form S-1, File No. 33-60290.)
4.24 Qualified Plan Endorsement, ML-AY-448/94. (Incorporated by reference to
Exhibit 4(m)(3), filed December 7, 1994, as part of Post-Effective
Amendment No. 3 to the Registrant's registration statement on Form S-1,
File No. 33-60290.)
10.1 Management Services Agreement between Family Life Insurance Company and
Merrill Lynch Life Insurance Company. (Incorporated by reference to
Exhibit 10.1 to the Registrant's registration statement on Form S-1,
File No. 33-26322, filed January 3, 1989.)
10.2 General Agency Agreement between Merrill Lynch Life Insurance Company
and Merrill Lynch Life Agency, Inc. (Incorporated by reference to
Exhibit 10.2, filed
February 23, 1989, as part of Pre-Effective Amendment No. 1 to the
Registrant's registration statement on Form S-1, File No. 33-26322.)
10.3 Service Agreement among Merrill Lynch Insurance Group, Inc., Family Life
Insurance Company and Merrill Lynch Life Insurance Company.
(Incorporated by reference to Exhibit 10.3, filed March 13, 1991, as
part of Post-Effective Amendment No. 2 to the Registrant's registration
statement on Form S-1, File No. 33-26322.)
10.3a Amendment to Service Agreement among Merrill Lynch Insurance Group,
Inc., Family Life Insurance Company and Merrill Lynch Life Insurance
Company. (Incorporated by reference to Exhibit 10(c)(2) to
Post-Effective Amendment No. 1 to the Registrant's registration
statement on Form S-1, File No. 33-60290, filed March 31, 1994.)
10.4 Indemnity Reinsurance Agreement between Merrill Lynch Life Insurance
Company and Family Life Insurance Company. (Incorporated by reference to
Exhibit 10.4, filed March 13, 1991, as part of Post-Effective Amendment
No. 2 to the Registrant's registration statement on Form S-1, File No.
33-26322.)
10.5 Assumption Reinsurance Agreement between Merrill Lynch Life Insurance
Company, Tandem Insurance Group, Inc. and Royal Tandem Life Insurance
Company and Family Life Insurance Company. (Incorporated by reference to
Exhibit 10.6, filed April 24, 1991, as part of Post-Effective Amendment
No. 3 to the Registrant's registration statement on Form S-1, File No.
33-26322.)
10.6 Amended General Agency Agreement between Merrill Lynch Life Insurance
Company and Merrill Lynch Life Agency, Inc. (Incorporated by reference
to Exhibit 10(g) to the Registrant's registration statement on Form S-1,
File No. 33-46827, filed March 30, 1992.)
10.7 Indemnity Agreement between Merrill Lynch Life Insurance Company and
Merrill Lynch Life Agency, Inc. (Incorporated by reference to Exhibit
10(h) to the Registrant's registration statement on Form S-1, File No.
33-46827, filed March 30, 1992.)
10.8 Management Agreement between Merrill Lynch Life Insurance Company and
Merrill Lynch Asset Management, Inc. (Incorporated by reference to
Exhibit 10(i) to the Registrant's registration statement on Form S-1,
File No. 33-46827, filed March 30, 1992.)
10.9 Amendment No. 1 to Indemnity Reinsurance Agreement between Family Life
Insurance Company and Merrill Lynch Life Insurance Company.
(Incorporated by reference to Exhibit 10.5, filed April 24, 1991, as
part of Post-Effective Amendment No. 3 to the Registrant's registration
statement on Form S-1, File No. 33-26322.)
31.1 Certification by the Chief Executive Officer pursuant to Rule 15d-14(a).
31.2 Certification by the Chief Financial Officer pursuant to Rule 15d-14(a).
32.1 Certification by the Chief Executive Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
32.2 Certification by the Chief Financial Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 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 by the
undersigned thereunto duly authorized.
MERRILL LYNCH LIFE INSURANCE COMPANY
/s/ Joseph E. Justice
-----------------------------------------
Joseph E. Justice
Senior Vice President, Treasurer and
Chief Financial Officer
Date: May 11, 2005
EXHIBIT INDEX
31.1 Certification by the Chief Executive Officer pursuant to Rule 15d-14(a).
31.2 Certification by the Chief Financial Officer pursuant to Rule 15d-14(a).
32.1 Certification by the Chief Executive Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
32.2 Certification by the Chief Financial Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.