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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 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 JUNE 30, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 1-11848
REINSURANCE GROUP OF AMERICA, INCORPORATED
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
MISSOURI 43-1627032
(STATE OR OTHER JURISDICTION (IRS EMPLOYER
OF INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER)
1370 TIMBERLAKE MANOR PARKWAY
CHESTERFIELD, MISSOURI 63017
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
(636) 736-7439 (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 [X] NO [ ]
COMMON STOCK OUTSTANDING ($.01 PAR VALUE) AS OF JULY 31, 2004: 62,324,740 SHARES
REINSURANCE GROUP OF AMERICA, INCORPORATED AND SUBSIDIARIES
TABLE OF CONTENTS
ITEM PAGE
- ---- ----
PART I - FINANCIAL INFORMATION
1 Financial Statements
Condensed Consolidated Balance Sheets (Unaudited)
June 30, 2004 and December 31, 2003 3
Condensed Consolidated Statements of Income (Unaudited)
Three and six months ended June 30, 2004 and 2003 4
Condensed Consolidated Statements of Cash Flows (Unaudited)
Six months ended June 30, 2004 and 2003 5
Notes to Condensed Consolidated Financial
Statements (Unaudited) 6-10
2 Management's Discussion and Analysis of
Financial Condition and Results of Operations 11-26
3 Quantitative and Qualitative Disclosures About Market Risk 26
4 Controls and Procedures 26
PART II - OTHER INFORMATION
1 Legal Proceedings 27
2 Unregistered Sales of Equity Securities and Use of Proceeds 27
4 Submission of Matters to a Vote of Security Holders 27
6 Exhibits and Reports on Form 8-K 28
Signatures 29
Index to Exhibits 30
2
REINSURANCE GROUP OF AMERICA, INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
June 30, December 31,
2004 2003
------------- --------------
(Dollars in thousands)
ASSETS
Fixed maturity securities:
Available-for-sale at fair value (amortized cost of $4,538,843 and
$4,298,597 at June 30, 2004 and December 31, 2003, respectively) $ 4,666,875 $ 4,575,735
Mortgage loans on real estate 541,447 479,312
Policy loans 901,098 902,857
Funds withheld at interest 3,023,702 2,717,278
Short-term investments 7,529 28,917
Other invested assets 234,905 179,320
------------ -------------
Total investments 9,375,556 8,883,419
Cash and cash equivalents 127,316 84,586
Accrued investment income 72,274 47,961
Premiums receivable 324,534 412,413
Reinsuranceceded receivables 382,497 463,557
Deferred policy acquisition costs 1,954,256 1,757,096
Other reinsurance balances 191,358 387,108
Other assets 81,187 77,234
------------ -------------
Total assets $ 12,508,978 $ 12,113,374
============ =============
LIABILITIES AND STOCK HOLDERS' EQUITY
Future policy benefits $ 3,601,357 $ 3,550,156
Interest sensitive contract liabilities 4,514,911 4,170,591
Other policy claims and benefits 1,192,997 1,091,038
Other reinsurance balances 185,880 267,706
Deferred income taxes 428,636 438,973
Other liabilities 70,204 90,749
Short-term debt 27,304 -
Long-term debt 374,101 398,146
Company-obligated mandatorily redee mable preferred securities of subsidiary
trust holding solely junior subordinated debentures of the Company 158,353 158,292
------------ -------------
Total liabilities 10,553,743 10,165,651
Commitments and contingent liabilities - -
Stockholders' Equity:
Preferred stock (par value $.01 per share; 10,000,000 shares authorized; no
shares issued or outstanding) - -
Common stock (par value $.01 per share; 140,000,000 and 75,000,000
shares authorized, respectively; 63,128,273 shares issued at
June 30, 2004 and December 31, 2003) 631 631
Warrants 66,915 66,915
Additional paid-in-capital 1,044,228 1,042,444
Retained earnings 761,110 641,502
Accumulated other comprehensive income:
Accumulated currency translation adjustment, net of income taxes 30,825 53,601
Unrealized appreciation of securities, net of income taxes 75,158 170,658
------------ -------------
Total stockholders' equity before treasury stock 1,978,867 1,975,751
Less treasury shares held of 818,833 and 967,927 at cost at
June 30, 2004 and December 31, 2003, respectively (23,632) (28,028)
------------ -------------
Total stockholders' equity 1,955,235 1,947,723
------------ -------------
Total liabilities and stockholders' equity $ 12,508,978 $ 12,113,374
============ =============
See accompanying notes to condensed consolidated financial
statements (unaudited).
3
REINSURANCE GROUP OF AMERICA, INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
Three months ended June 30, Six months ended June 30,
---------------------------- --------------------------
2004 2003 2004 2003
-------------- ----------- ----------- ------------
(Dollars in thousands, except per share data)
REVENUES:
Net premiums $ 797,308 $ 582,561 $ 1,611,182 $ 1,127,776
Investment income, net of related expenses 134,185 115,936 267,745 223,081
Realized investment gains (losses), net 12,691 4,044 31,107 (5,784)
Change in value of embedded derivatives 17,472 - 18,994 -
Other revenues 14,759 11,834 26,609 22,851
-------------- ----------- ----------- ------------
Total revenues 976,415 714,375 1,955,637 1,367,924
BENEFITS AND EXPENSES:
Claims and other policy benefits 634,802 452,632 1,281,856 876,237
Interest credited 44,332 43,867 91,350 84,663
Policy acquisition costs and other insurance expenses 134,157 114,988 277,225 219,569
Change in deferred acquisition costs associated with
change in value of embedded derivatives 13,293 - 17,493 -
Other operating expenses 34,896 26,837 68,425 52,592
Interest expense 9,542 9,042 19,080 18,001
-------------- ----------- ----------- ------------
Total benefits and expenses 871,022 647,366 1,755,429 1,251,062
Income from continuing operations before
income taxes 105,393 67,009 200,208 116,862
Provision for income taxes 37,003 23,423 68,824 40,116
-------------- ----------- ----------- ------------
Income from continuing operations 68,390 43,586 131,384 76,746
Discontinued operations:
Loss from discontinued accident and health
operations, net of income taxes (3,053) (1,027) (3,947) (1,445)
-------------- ----------- ----------- ------------
Income before cumulative effect of change in
accounting principle 65,337 42,559 127,437 75,301
Cumulative effect of change in accounting principle,
net of income taxes - - (361) -
-------------- ----------- ----------- ------------
Net income $ 65,337 $ 42,559 $ 127,076 $ 75,301
============== =========== =========== ============
BASIC EARNINGS PER SHARE:
Income from continuing operations $ 1.10 $ 0.88 $ 2.11 $ 1.55
Discontinued operations (0.05) (0.02) (0.06) (0.03)
Cumulative effect of change in accounting principal - - (0.01) -
-------------- ----------- ----------- ------------
Net income $ 1.05 $ 0.86 $ 2.04 $ 1.52
============== =========== =========== ============
DILUTED EARNINGS PER SHARE:
Income from continuing operations $ 1.09 $ 0.87 $ 2.09 $ 1.54
Discontinued operations (0.05) (0.02) (0.06) (0.03)
Cumulative effect of change in accounting principal - - - -
-------------- ----------- ----------- ------------
Net income $ 1.04 $ 0.85 $ 2.03 $ 1.51
============== =========== =========== ============
DIVIDENDS DECLARED PER SHARE $ 0.06 $ 0.06 $ 0.12 $ 0.12
============== =========== =========== ============
See accompanying notes to condensed consolidated financial
statements (unaudited).
4
REINSURANCE GROUP OF AMERICA, INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Six months ended
June 30,
-----------------------------
2004 2003
------------- -------------
(Dollars in thousands)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 127,076 $ 75,301
Adjustments to reconcile net income to net cash provided by
operating activities:
Change in:
Accrued investment income (24,484) (30,692)
Premiums receivable 90,216 (73,708)
Deferred policy acquisition costs (190,057) (152,201)
Reinsuranceceded balances 81,060 42,420
Future policy benefits, other policy claims and benefits, and
other reinsurance balances 297,197 274,103
Deferred income taxes 55,396 36,430
Other assets and other liabilities, net (24,604) 29,585
Amortization of net investment discounts and other (17,153) (20,929)
Realized investment (gains) losses, net (31,107) 5,784
Other, net (11,448) (14,056)
------------- -------------
Net cash provided by operating activities 352,092 172,037
CASH FLOWS FROM INVESTING ACTIVITIES:
Sales of fixed maturity securities-available for sale 668,201 983,370
Maturities of fixed maturity securities - available for sale 10,749 17,022
Purchases of fixed maturity securities - available for sale (919,319) (1,111,533)
Sales of mortgage loans 13,927 -
Cash invested in mortgage loans of real estate (86,072) (139,204)
Cash invested in policy loans (2,381) (1,812)
Cash invested in funds withheld at interest (24,549) (35,888)
Principal payments on mortgage loans on real estate 12,041 6,607
Principal payments on policy loans 4,140 -
Change in short-term investments and other invested assets (43,155) (30,820)
------------- -------------
Net cash used in investing activities (366,418) (312,258)
CASH FLOWS FROM FINANCING ACTIVITIES:
Dividends to stockholders (7,468) (5,951)
Borrowings under credit agreements 4,600 46,618
Exercise of stock options 6,181 5,550
Excess deposits on universal life and other
investment type policies and contracts 54,263 160,229
------------- -------------
Net cash provided by financing activities 57,576 206,446
Effect of ex change rate changes (520) 3,956
------------- -------------
Change in cash and cash equivalents 42,730 70,181
Cash and cash equivalents, beginning of period 84,586 88,101
------------- -------------
Cash and cash equivalents, end of period $ 127,316 $ 158,282
============= =============
Supplementary disclosure of cash flow information:
Interest paid $ 18,915 $ 14,468
Income taxes paid $ 24,686 $ 4,177
See accompanying notes to condensed consolidated financial
statements (unaudited).
5
REINSURANCE GROUP OF AMERICA, INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements of
Reinsurance Group of America, Incorporated ("RGA") and its subsidiaries
(collectively, the "Company") have been prepared in conformity with accounting
principles generally accepted in the United States of America for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by accounting principles generally accepted in the United
States of America for complete financial statements. In the opinion of
management, all adjustments, consisting of normal recurring accruals, considered
necessary for a fair presentation have been included. Operating results for the
six-month period ended June 30, 2004 are not necessarily indicative of the
results that may be expected for the year ending December 31, 2004. These
unaudited condensed consolidated financial statements should be read in
conjunction with the consolidated financial statements and notes thereto
included in the Company's 2003 Annual Report on Form 10-K ("2003 Annual Report")
filed with the Securities and Exchange Commission on March 12, 2004.
The accompanying unaudited condensed consolidated financial statements include
the accounts of Reinsurance Group of America, Incorporated and its subsidiaries.
All material intercompany accounts and transactions have been eliminated. The
Company has reclassified the presentation of certain prior-period information to
conform to the 2004 presentation.
Prior to January 1, 2003, the Company applied Accounting Principles Board
("APB") Opinion No. 25 in accounting for its stock plans and, accordingly, no
compensation cost was recognized for its stock options in the financial
statements. For issuances under employee stock plans after January 1, 2003, the
Company follows the provisions of Statement of Financial Accounting Standards
("SFAS") No. 123 when recording its compensation expense. Had the Company
determined compensation cost based on the fair value at the grant date for all
stock option grants under SFAS No. 123, the Company's net income and earnings
per share would have been reduced to the pro forma amounts indicated below. The
effects of applying SFAS No. 123 may not be representative of the effects on
reported net income for future years.
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
(in thousands) 2004 2003 2004 2003
----------------------------------------
Net income as reported $65,337 $42,559 $127,076 $75,301
Add compensation expense included in net
income, net of income taxes 653 272 1,188 543
Deduct total fair value of compensation
expense for all awards, net of income taxes (1,115) (942) (2,271) (1,895)
------- ------- -------- -------
Pro forma net income $64,875 $41,889 $125,993 $73,949
Net income per share:
As reported - basic $ 1.05 $ 0.86 $ 2.04 $ 1.52
Pro forma - basic $ 1.04 $ 0.84 $ 2.02 $ 1.49
As reported - diluted $ 1.04 $ 0.85 $ 2.03 $ 1.51
Pro forma - diluted $ 1.03 $ 0.84 $ 2.01 $ 1.48
------- ------- -------- -------
6
2. EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings per
share on income from continuing operations (in thousands except per share
information):
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
2004 2003 2004 2003
----------------------------------------
Earnings:
Income from continuing operations (numerator
for basic and diluted calculations)
$ 68,390 $43,586 $131,384 $76,746
Shares:
Weighted average outstanding shares
(denominator for basic calculation) 62,275 49,741 62,243 49,646
Equivalent shares from outstanding stock
options 480 222 480 188
-------- ------- -------- -------
Denominator for diluted calculation 62,755 49,963 62,723 49,834
Earnings per share:
Basic $ 1.10 $ 0.88 $ 2.11 $ 1.55
Diluted $ 1.09 $ 0.87 $ 2.09 $ 1.54
======== ======= ======== =======
The calculation of equivalent shares from outstanding stock options does not
include the impact of options having a strike price that exceeds the average
stock price for the earnings period, as the result would be antidilutive. The
calculation of equivalent shares also excludes the impact of outstanding
performance contingent shares as the conditions necessary for their issuance
have not been satisfied as of the end of the reporting period. For the three-
and six-month periods ended June 30, 2004, all outstanding stock options were
included in the calculation of common equivalent shares, while approximately 0.1
million performance contingent shares were excluded from the calculation. For
the three and six month periods ended June 30, 2003, approximately 1.4 million
of antidilutive outstanding stock options were not included in the calculation
of common equivalent shares. Diluted earnings per share exclude the antidilutive
effect of 5.6 million shares that would be issued upon exercise of outstanding
warrants to purchase Company common stock, as the Company could repurchase more
shares than it could issue with the exercise proceeds. The warrants become
dilutive once the Company's average stock price during a reporting period
exceeds $39.98 per share.
3. COMPREHENSIVE INCOME
The following schedule reflects the change in accumulated other comprehensive
income (loss) for the three- and six-month periods ended June 30, 2004 and 2003
(dollars in thousands):
---------------------------------------------------------------
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, 2004 JUNE 30, 2003 JUNE 30, 2004 JUNE 30, 2003
---------------------------------------------------------------
Net income $ 65,337 $ 42,559 $ 127,076 $ 75,301
Accumulated other comprehensive
income (expense), net of income tax:
Unrealized gains (losses), net of
reclassification adjustment for
gains (losses) included in net income (152,965) 121,683 (95,500) 105,939
Foreign currency items (17,287) 26,173 (22,776) 35,874
--------- --------- --------- ---------
Comprehensive income (loss) $(104,915) $ 190,415 $ 8,800 $ 217,114
========= ========= ========= =========
7
4. SEGMENT INFORMATION
The accounting policies of the segments are the same as those described in the
Summary of Significant Accounting Policies in Note 2 of the 2003 Annual Report.
The Company measures segment performance primarily based on profit or loss from
operations before income taxes. There are no intersegment reinsurance
transactions and the Company does not have any material long-lived assets.
Investment income is allocated to the segments based upon average assets and
related capital levels deemed appropriate to support the segment business
volumes.
Information related to total revenues and income (loss) from continuing
operations before income taxes for each reportable segment are summarized below
(dollars in thousands).
---------------------------------------------------------------
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, 2004 JUNE 30, 2003 JUNE 30, 2004 JUNE 30, 2003
---------------------------------------------------------------
REVENUES
U.S $ 662,969 $ 476,506 $ 1,313,533 $ 927,312
Canada 92,167 77,175 177,642 145,199
Europe & South Africa 121,337 84,411 243,681 169,777
Asia Pacific 90,008 69,162 198,264 114,112
Corporate & Other 9,934 7,121 22,517 11,524
----------- --------- ----------- -----------
Total $ 976,415 $ 714,375 $ 1,955,637 $ 1,367,924
=========== ========= =========== ===========
INCOME (LOSS) FROM CONTINUING OPERATIONS
BEFORE INCOME TAXES
U.S $ 75,810 $ 55,761 $ 146,057 $ 98,399
Canada 21,211 13,429 37,131 24,056
Europe & South Africa 11,829 3,902 18,089 6,311
Asia Pacific 4,694 4,527 11,491 5,895
Corporate & Other (8,151) (10,610) (12,560) (17,799)
----------- --------- ----------- -----------
Total $ 105,393 $ 67,009 $ 200,208 $ 116,862
=========== ========= =========== ===========
Europe & South Africa and Asia Pacific assets increased approximately $100.9
million, or 20.9%, and $119.8 million, or 29.0%, respectively, from the amounts
disclosed in Note 17 of the 2003 Annual Report, primarily due to the continued
growth in these segments.
5. COMMITMENTS AND CONTINGENT LIABILITIES
The Company is currently a party to various litigation and arbitrations that
involve medical reinsurance arrangements, personal accident business, and
aviation bodily injury carve-out business. As of June 30, 2004, the ceding
companies involved in these disputes have raised claims, or established reserves
that may result in claims, that are $91.6 million in excess of the amounts held
in reserve by the Company. The Company generally has little information
regarding any reserves established by the ceding companies, and it is possible
that any such reserves could be increased in the future. The Company believes it
has substantial defenses upon which to contest these claims, including but not
limited to misrepresentation and breach of contract by direct and indirect
ceding companies. In addition, the Company is in the process of auditing ceding
companies that have indicated that they anticipate asserting claims in the
future against the Company that are $16.6 million in excess of the amounts held
in reserve by the Company. Depending upon the audit findings in these cases,
they could result in litigation or arbitrations in the future. See Note 21,
"Discontinued Operations," in the Company's 2003 Annual Report for more
information. Additionally, from time to time, the Company is subject to
litigation and arbitration related to its life reinsurance business and to
employment-related matters in the normal course of its business. While it is not
feasible to predict or determine the ultimate outcome of the pending litigation
or arbitrations or provide reasonable ranges of potential losses, it is the
opinion of management, after consultation with counsel, that their outcomes,
after consideration of the provisions made in the Company's consolidated
financial statements, would not have a material adverse effect on its
consolidated financial position.
8
As discussed in the Company's 2003 Annual Report, certain regulations were
pending relating to permanently disabled participants of the privatized pension
plans administered by Administradoras de Fondos de Jubilaciones y Pensiones
("AFJPs"). Recently, the Argentine government enacted those regulations. The new
regulations require permanently disabled AFJP plan participants to elect a
programmed withdrawal or an annuity with respect to deferred disability claims
at a time when the AFJP fund unit values are significantly inflated. The new
regulations are expected to accelerate permanent disability payments from
reinsurers; particularly with respect to plan participants that elect programmed
withdrawal. The Company cannot predict the percentage of plan participants that
will elect programmed withdrawal as opposed to an annuity. Also, as discussed in
the Company's 2003 Annual Report, the Company had placed the Argentine
Government on notice of its intent to file an arbitration with respect to
alleged violations of the Treaty on Encouragement and Reciprocal Protection of
Investments, between the Argentine Republic and the United States of America,
dated November 14, 1991 (the "Treaty"). On March 24, 2004, RGA Reinsurance filed
a request for arbitration of its dispute relating to these alleged violations
pursuant to the Washington Convention of 1965 on the Settlement of Investment
Disputes under the auspices of the International Centre for Settlement of
Investment Disputes of the World Bank.
The Company has obtained letters of credit in favor of various affiliated and
unaffiliated insurance companies from which the Company assumes business. This
allows the ceding company to take statutory reserve credits. The letters of
credit issued by banks represent a guarantee of performance under the
reinsurance agreements. At June 30, 2004, there were approximately $38.7 million
of outstanding letters of credit in favor of third-party entities. Additionally,
the Company utilizes letters of credit to secure reserve credits when it
retrocedes business to its offshore subsidiaries, including RGA Americas
Reinsurance Company, Ltd. and RGA Reinsurance Company (Barbados) Ltd. As of June
30, 2004, $280.6 million in letters of credit from various banks were
outstanding between the various subsidiaries of the Company. Fees associated
with letters of credit are not fixed for periods in excess of one year and are
based on the Company's ratings and the general availability of these instruments
in the marketplace.
RGA has issued guarantees of its subsidiaries' performance for the payment of
amounts due under certain credit facilities and reinsurance treaties, whereby if
a subsidiary fails to meet an obligation, RGA or one of its other subsidiaries
will make a payment to fulfill the obligation. Treaty guarantees are granted to
ceding companies in order to provide them additional security, particularly in
cases where RGA's subsidiary is relatively new, unrated, or not of a significant
size, relative to the ceding company. Liabilities supported by the treaty
guarantees, before consideration for any legally offsetting amounts due from the
guaranteed party, totaled $242.1 million as of June 30, 2004 and are reflected
on the Company's consolidated balance sheet as future policy benefits.
Guarantees related to credit facilities provide additional security to third
party banks should a subsidiary fail to make principal and/or interest payments
when due. As of June 30, 2004, RGA's exposure related to credit facility
guarantees was $51.8 million, the maximum potential amount under current
facility terms.
6. EMPLOYEE BENEFIT PLANS
The components of net periodic benefit costs were as follows:
------------------------------------------------------
PENSION BENEFITS OTHER BENEFITS
FOR THE SIX MONTHS FOR THE SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
(in thousands) 2004 2003 2004 2003
------------------------------------------------------
DETERMINATION OF NET PERIODIC BENEFIT COST:
Service cost $ 884 $ 737 $ 188 $ 157
Interest cost 631 526 182 152
Expected return on plan assets (386) (322) -- --
Amortization of prior service cost 18 15 -- --
Amortization of prior actuarial loss 85 71 36 30
-------- -------- ----- -------
Net periodic benefit cost $ 1,232 $ 1,027 $ 406 $ 339
======== ======== ===== =======
The Company paid $2.9 million in pension contributions during the second quarter
of 2004 and expects this to be the only contribution for the year.
9
7. NEW ACCOUNTING STANDARDS
In March 2004, the Emerging Issues Task Force ("EITF") reached further consensus
on Issue No. 03-1, "The Meaning of Other-Than-Temporary Impairment and Its
Application to Certain Investments" ("EITF 03-1"). EITF 03-1 provides accounting
guidance regarding the determination of when an impairment of debt and
marketable equity securities and investments accounted for under the cost method
should be considered other-than-temporary and recognized in income. An EITF 03-1
consensus reached in December 2003 also requires certain quantitative and
qualitative disclosures for debt and marketable equity securities classified as
available-for-sale or held-to-maturity under SFAS 115, Accounting for Certain
Investments in Debt and Equity Securities, that are impaired at the balance
sheet date but for which an other-than-temporary impairment has not been
recognized. The disclosure requirements of EITF 03-1 were effective December 31,
2003. The accounting guidance of EITF 03-1 will be effective in the third
quarter of 2004 and is not expected to have a material impact on the Company's
consolidated financial statements.
In March 2004, the EITF reached consensuses on Issue No. 03-6, "Participating
Securities and the Two-Class Method under FASB Statement No. 128" ("EITF 03-6").
EITF 03-6 provides guidance in determining whether a security should be
considered a participating security for purposes of computing earnings per share
and how earnings should be allocated to the participating security. EITF 03-6,
which was effective for the Company in the second quarter of 2004, did not have
an impact on the Company's earnings per share calculations.
In March 2004, the EITF reached consensus on Issue No. 03-16, "Accounting for
Investments in Limited Liability Companies" ("EITF 03-16"). EITF 03-16 provides
guidance regarding whether a limited liability company should be viewed as
similar to a corporation or similar to a partnership for purposes of determining
whether a noncontrolling investment should be accounted for using the cost
method or the equity method of accounting. EITF 03-16, which will be effective
in the third quarter of 2004, is not expected to have a material impact on the
Company's unaudited interim condensed consolidated financial statements.
In July 2003, the Accounting Standards Executive Committee issued 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 provides guidance on separate account presentation and valuation, the
accounting for sales inducements and the classification and valuation of
long-duration contract liabilities. The Company adopted the provisions of SOP
03-1 on January 1, 2004, recording a charge of $361 thousand, net of income
taxes.
In January 2003, the Financial Accounting Standards Board ("FASB") issued
Interpretation No. 46, "Consolidation of Variable Interest Entities" ("FIN 46"),
an interpretation of Accounting Research Bulletin No. 51, "Consolidated
Financial Statements," which requires the consolidation by a business enterprise
of variable interest entities if the business enterprise is the primary
beneficiary. FIN 46 was effective January 31, 2003, for the Company with respect
to interests in variable interest entities obtained after that date. With
respect to interests in variable interest entities existing prior to February 1,
2003, the FASB issued FASB Interpretation No. 46 (revised December 2003), which
extended the effective date of FIN 46 to the period ending March 31, 2004. The
Company adopted the provisions of FIN 46 as of March 31, 2004 and is not
required to consolidate any material interests in variable interest entities.
8. SIGNIFICANT TRANSACTION
During December 2003, the Company completed a large coinsurance agreement with
Allianz Life Insurance Company of North America ("Allianz Life"). Under this
agreement, RGA Reinsurance assumed the traditional life reinsurance business of
Allianz Life, including yearly renewable term reinsurance and coinsurance of
term policies. The business assumed does not include any accident and health
risk, annuities or related guaranteed minimum death benefits or guaranteed
minimum income benefits. This transaction adds additional scale to the Company's
U.S. traditional business, but does not significantly add to its client base
since most of the underlying ceding companies are already clients. The Company
is using commercially reasonable efforts to novate the underlying treaties from
Allianz Life to RGA Reinsurance. Novation results in the underlying client
companies reinsuring the business directly to RGA Reinsurance versus passing
through Allianz Life. The profitability of the business is not dependent on
novation. The transaction was effective retroactive to July 1, 2003.
10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
Our primary business is life reinsurance, which involves reinsuring life
insurance policies that are often in force for the remaining lifetime of the
underlying individuals insured, with premiums earned typically over a period of
10 to 30 years. Each year, however, a portion of the business under existing
treaties terminates due to, among other things, lapses or surrenders of
underlying policies, deaths of policyholders, and the exercise of recapture
options by ceding companies.
We derive revenues primarily from renewal premiums from existing reinsurance
treaties, new business premiums from existing or new reinsurance treaties,
income earned on invested assets, and fees earned from financial reinsurance
transactions. We believe that industry trends have not materially changed from
those discussed in our 2003 Annual Report. In addition, our critical accounting
policies are substantially the same as those disclosed in our 2003 Annual
Report.
Our profitability primarily depends on the volume and amount of death claims
incurred and our ability to adequately price the risks we assume. While death
claims are reasonably predictable over a period of many years, claims become
less predictable over shorter periods and are subject to significant fluctuation
from quarter to quarter and year to year. Effective July 1, 2003, we increased
the maximum amount of coverage that we retain per life from $4 million to $6
million. This increase does not affect business written prior to July 1, 2003.
Claims in excess of this retention amount are retroceded to retrocessionaires;
however, we remain fully liable to the ceding company, our customer, for the
entire amount of risk we assume. The increase in our retention limit from $4
million to $6 million reduces the amount of premiums we pay to our
retrocessionaires, but increases the maximum impact a single death claim can
have on our results and therefore may result in additional volatility to our
results from operations.
We measure performance based on income or loss from continuing operations before
income taxes for each of our five segments. Our U.S., Canada, Asia Pacific and
Europe & South Africa operations provide traditional life reinsurance to their
clients. U.S. operations also provide asset-intensive and financial reinsurance
products. We also provide insurers with critical illness reinsurance in our
Canada, Asia Pacific and Europe & South Africa operations. Asia Pacific
operations provide a limited amount of financial reinsurance. Corporate and
Other segment results include the corporate investment activity, general
corporate expenses, interest expense of RGA, Argentine privatized pension
business and the provision for income taxes. Our discontinued accident and
health operations are not reflected in our results from continuing operations.
RESULTS OF OPERATIONS
Consolidated income from continuing operations before income taxes increased
$38.4 million, or 57.3%, and $83.3 million, or 71.3%, for the second quarter and
first six months of 2004, respectively, primarily due to higher revenue levels,
including net capital gains on investment transactions. Our coinsurance
agreement with Allianz Life Insurance Company of North America ("Allianz Life"),
signed in December 2003 and effective as of July 1, 2003, continued to provide
positive results concurrent with growth in life reinsurance premiums in all of
our operating segments. Consolidated premiums increased $214.7 million, or
36.9%, and $483.4 million, or 42.9%, during the second quarter and first six
months of 2004, respectively. The Allianz Life transaction contributed $121.1
million of this increase during the second quarter and $239.6 for the first six
months of 2004.
Consolidated investment income, net of related expenses, increased $18.2
million, or 15.7%, and $44.7 million, or 20%, during the second quarter and
first six months of 2004, respectively, primarily due to a larger invested asset
base. Invested assets as of June 30, 2004 totaled $9.4 billion, a 23.1% increase
over June 30, 2003. While our invested asset base has grown significantly since
June 30, 2003, the average yield earned on investments excluding funds withheld
decreased from 6.67% during the second quarter of 2003 to 5.79% for the second
quarter of 2004. The decreasing yield is the result of the Company investing
proceeds from operations and investing activities in a lower interest rate
environment. The average yield will vary from quarter to quarter and year to
year depending on a number of variables, including the prevailing interest rate
environment and changes in the mix of our underlying investments. Investment
income is allocated to the segments based upon average assets and related
capital levels deemed appropriate to support the segment business volumes.
11
Effective tax rates on a consolidated basis for the second quarter of 2004 and
2003 were 35.1% and 35.0%, respectively.
Further discussion and analysis of the results for 2004 compared to 2003 are
presented by segment. Certain prior-year amounts have been reclassified to
conform to the current-year presentation. References to income before income
taxes exclude the effects of discontinued operations and the cumulative effect
of changes in accounting principles.
U.S. OPERATIONS
U.S. operations consist of two major sub-segments: Traditional and
Non-Traditional. The Traditional sub-segment primarily specializes in
mortality-risk reinsurance. The Non-traditional category consists of
Asset-Intensive and Financial Reinsurance.
FOR THE THREE MONTHS ENDED JUNE 30, 2004 (IN THOUSANDS)
--------------------------------------------------
NON-TRADITIONAL
ASSET- FINANCIAL TOTAL
TRADITIONAL INTENSIVE REINSURANCE U.S.
--------------------------------------------------
REVENUES:
Net premiums $ 530,129 $ 1,190 $ -- $ 531,319
Investment income, net of related expenses 53,974 47,495 72 101,541
Realized investment gains (losses), net 3,662 (821) -- 2,841
Change in value of embedded derivatives -- 17,472 -- 17,472
Other revenues 931 1,907 6,958 9,796
---------- ---------- ---------- ----------
Total revenues 588,696 67,243 7,030 662,969
BENEFITS AND EXPENSES:
Claims and other policy benefits 429,423 3,246 -- 432,669
Interest credited 12,117 31,704 -- 43,821
Policy acquisition costs and other insurance
expenses 72,714 8,484 2,280 83,478
Change in deferred acquisition costs associated
with change in value of embedded derivatives -- 13,293 -- 13,293
Other operating expenses 11,341 1,028 1,529 13,898
---------- ---------- ---------- ----------
Total benefits and expenses 525,595 57,755 3,809 587,159
Income before income taxes $ 63,101 $ 9,488 $ 3,221 $ 75,810
========== ========== ========== ==========
FOR THE THREE MONTHS ENDED JUNE 30, 2003 (IN THOUSANDS)
--------------------------------------------------
NON-TRADITIONAL
ASSET- FINANCIAL TOTAL
TRADITIONAL INTENSIVE REINSURANCE U.S.
--------------------------------------------------
REVENUES:
Net premiums $ 378,382 $ 1,006 $ -- $ 379,388
Investment income, net of related expenses 45,175 42,204 -- 87,379
Realized investment gains (losses), net (714) 1,148 -- 434
Other revenues 884 1,766 6,655 9,305
---------- ---------- ----------- ----------
Total revenues 423,727 46,124 6,655 476,506
BENEFITS AND EXPENSES:
Claims and other policy benefits 297,525 1,771 -- 299,296
Interest credited 14,931 28,580 -- 43,511
Policy acquisition costs and other insurance 56,714 8,003 2,721 67,438
expenses
Other operating expenses 8,484 826 1,190 10,500
---------- ---------- ---------- ----------
Total benefits and expenses 377,654 39,180 3,911 420,745
Income before income taxes $ 46,073 $ 6,944 $ 2,744 $ 55,761
========== ========= ========== ==========
12
FOR THE SIX MONTHS ENDED JUNE 30, 2004 (IN THOUSANDS)
--------------------------------------------------
NON-TRADITIONAL
ASSET- FINANCIAL TOTAL
TRADITIONAL INTENSIVE REINSURANCE U.S.
--------------------------------------------------
REVENUES:
Net premiums $ 1,061,340 $ 2,372 $ -- $1,063,712
Investment income, net of related expenses 108,027 92,962 115 201,104
Realized investment gains (losses), net 11,220 (677) -- 10,543
Change in value of embedded derivatives -- 18,994 -- 18,994
Other revenues 2,265 3,577 13,338 19,180
----------- ---------- ---------- ----------
Total revenues 1,182,852 117,228 13,453 1,313,533
BENEFITS AND EXPENSES:
Claims and other policy benefits 860,314 2,225 -- 862,539
Interest credited 24,195 66,198 -- 90,393
Policy acquisition costs and other insurance 148,145 16,129 4,574 168,848
expenses
Change in deferred acquisition costs associated
with change in value of embedded derivatives -- 17,493 -- 17,493
Other operating expenses 23,065 2,187 2,951 28,203
----------- ---------- ---------- ----------
Total benefits and expenses 1,055,719 104,232 7,525 1,167,476
Income before income taxes $ 127,133 $ 12,996 $ 5,928 $ 146,057
=========== ========== ========== ==========
FOR THE SIX MONTHS ENDED JUNE 30, 2003 (IN THOUSANDS)
--------------------------------------------------
NON-TRADITIONAL
ASSET- FINANCIAL TOTAL
TRADITIONAL INTENSIVE REINSURANCE U.S.
--------------------------------------------------
REVENUES:
Net premiums $ 747,189 $ 2,104 $ -- $ 749,293
Investment income, net of related expenses 87,876 78,538 -- 166,414
Realized investment losses, net (5,958) (1,713) -- (7,671)
Other revenues 2,697 3,013 13,566 19,276
---------- --------- ---------- ----------
Total revenues 831,804 81,942 13,566 927,312
BENEFITS AND EXPENSES:
Claims and other policy benefits 591,251 3,390 -- 594,641
Interest credited 30,250 53,721 -- 83,971
Policy acquisition costs and other insurance
expenses 107,519 16,031 5,241 128,791
Other operating expenses 16,939 1,938 2,633 21,510
---------- --------- ---------- ----------
Total benefits and expenses 745,959 75,080 7,874 828,913
Income before income taxes $ 85,845 $ 6,862 $ 5,692 $ 98,399
========== ========= ========== ==========
Income before income taxes for the U.S. Operations segment totaled $75.8 million
and $146.1 million for the second quarter and first six months of 2004,
increases of 36.0% and 48.4% from the comparable prior-year periods. The
increase in income can be attributed to higher revenue levels and net capital
gains on investment transactions for the current-year periods.
Traditional Reinsurance
The U.S. traditional sub-segment provides life reinsurance to domestic clients
for a variety of life products through yearly renewable term agreements,
coinsurance, and modified coinsurance arrangements. These reinsurance
arrangements may be either facultative or automatic agreements. During the
second quarter and first six months of 2004, this sub-segment added $51.7
billion and $95.9 billion face amount of new business compared to $39.5 billion
13
and $66.0 billion for the same periods in 2003. Total assumed reinsurance in
force, as measured by policy face amount, totaled $965.3 billion, an increase of
65.2% over the total at June 30, 2003. The Allianz Life transaction, completed
in the fourth quarter of 2003, contributed 50.4% of the increase for the
comparable periods. Management believes life insurance industry consolidations
and the trend towards reinsuring mortality risks should continue to provide
opportunities for growth, although transactions the size of Allianz Life may or
may not occur.
Income before income taxes for U.S. traditional reinsurance increased $ 17.0
million, or 37.0%, and $ 41.3 million, or 48.1%, in the second quarter and first
six months of 2004, respectively. This increase for the comparable periods was
driven by growth in net premiums, including the Allianz transaction, and net
realized investment gains, somewhat offset by higher mortality experience during
2004.
Net premiums for U.S. traditional reinsurance increased 40.1% and 42.0% for the
second quarter and first six months of 2004, respectively. The increase for
comparable periods was primarily attributed to the Allianz transaction, which
contributed 32.0% and 32.1% of the increase for the comparable periods. New
premiums from facultative and automatic treaties and renewal premiums on
existing blocks of business also contributed to the growth.
Net investment income increased 19.5% and 22.9% for the second quarter and first
six months of 2004, respectively. The increase is due to growth in the invested
asset base, primarily due to the Allianz Life transaction, and increased cash
flows from operating activities on traditional reinsurance.
Loss ratios (claims and other policy benefits divided by net premiums) were
81.0% and 81.1% during the second quarter and first six months, respectively,
compared to 78.6% and 79.1% for the same periods in 2003. The increase in the
loss ratios for the comparable periods is the result of somewhat higher claims
experience in 2004 compared to favorable claims experience in the first and
second quarter of 2003. Management believes death claims are reasonably
predictable over a period of many years, but are less predictable over shorter
periods and are subject to significant fluctuation.
Interest credited relates to amounts credited on the Company's cash value
products in this sub-segment, which have a significant mortality component. This
amount fluctuates with the changes in deposit levels, cash surrender values and
investment performance.
As a percentage of net premiums, policy acquisition costs and other insurance
expenses were 13.7% and 14.0% for the second quarter and first six months of
2004, respectively, compared to 15.0% and 14.4% for the same periods in 2003.
These percentages will fluctuate due to varying allowance levels within
coinsurance-type arrangements and the amortization pattern of previously
capitalized amounts, which are based on the form of reinsurance agreement and
the underlying insurance polices. Additionally, the mix of first year
coinsurance versus yearly renewable term can cause the percentage to fluctuate
from period to period.
Asset-Intensive Reinsurance
The U.S. asset-intensive sub-segment concentrates on the investment risk within
underlying annuities and corporate-owned life insurance policies. Most of these
agreements are coinsurance or modified coinsurance of non-mortality risks such
that the Company recognizes profit or losses primarily from the spread between
the investment earnings and interest credited on the underlying deposit
liabilities. Several of the coinsurance agreements are on a funds withheld at
interest basis.
Income before income taxes for the second quarter and first six months of 2004
was $9.5 million and $13.0 million, respectively, compared to $6.9 million for
both comparable prior-year periods in 2003. Contributing to the increase for the
comparable periods was the continued growth in annuity business coupled with the
change in the fair market value of embedded derivatives. The average asset base
supporting this segment grew from $2.6 billion in the second quarter of 2003 to
$3.2 billion for the same quarter in 2004. The growth in the asset base was
primarily driven by new business written on existing annuity treaties. Invested
assets outstanding as of June 30, 2004 and 2003 were $3.3 billion and $2.9
billion, of which $2.2 billion and $1.7 billion were funds withheld at interest,
respectively. The change in value of embedded derivatives was largely offset by
the associated change in deferred acquisition costs.
Total revenues, which are comprised primarily of investment income, were $67.2
million and $117.2 million in the second quarter and first six months of 2004,
respectively, compared to $46.1 million and $81.9 million for the comparable
prior-year periods. This growth in revenue is primarily the result of the
increase in the average asset base for the comparable periods and the change in
the fair value of embedded derivatives.
14
Total expenses, which are comprised primarily of interest credited, policy
benefits and acquisition costs, were $57.8 million and $104.2 million for second
quarter and first six months in 2004, respectively, compared to $39.2 million
and $75.1 million in the prior-year periods. The increase in expenses was
attributed to the change in deferred acquisition costs associated with change in
value of embedded derivatives. Further, an increase in interest credited, which
is generally offset by the increase in investment income, was the result of the
growth in the asset base supporting this segment.
Financial Reinsurance
The U.S. financial reinsurance sub-segment includes net fees earned on financial
reinsurance agreements. Financial reinsurance agreements represent low risk
business that the Company assumes and generally subsequently retrocedes with a
net fee earned on the transaction. The fees earned from the assumption of
financial reinsurance contracts are reflected in other revenues, and the fees
paid to retrocessionaires are reflected in policy acquisition costs and other
insurance expenses.
Income before income taxes totaled $3.2 million and $5.9 million in the second
quarter and first six months of 2004, respectively, compared to $2.7 million and
$5.7 million for the same periods in 2003. The increase was attributed to growth
in net fees somewhat offset by higher operating expenses. At June 30, 2004 and
2003, financial reinsurance outstanding, as measured by pre-tax statutory
surplus, was $1.2 billion and $1.1 billion, respectively.
CANADA OPERATIONS
The Company conducts reinsurance business in Canada through RGA Life Reinsurance
Company of Canada ("RGA Canada"), a wholly-owned company. RGA Canada is a
leading life reinsurer in Canada, assisting clients with capital management
activity and mortality risk management, and is primarily engaged in traditional
individual life reinsurance, as well as non-guaranteed critical illness
products.
FOR THE THREE MONTHS ENDED FOR THE SIX MONTHS ENDED
(in thousands) JUNE 30, 2004 JUNE 30, 2003 JUNE 30, 2004 JUNE 30, 2003
REVENUES:
Net premiums $ 61,830 $ 52,017 $ 121,978 $ 100,603
Investment income, net of related expenses
23,437 21,509 47,417 41,275
Realized investment gains, net 6,869 3,825 8,178 3,562
Other revenues 31 (176) 69 (241)
--------- --------- --------- ---------
Total revenues 92,167 77,175 177,642 145,199
BENEFITS AND EXPENSES:
Claims and other policy benefits 59,499 56,149 118,865 105,279
Interest credited 418 264 795 553
Policy acquisition costs and other
insurance expenses 8,278 4,864 15,361 10,457
Other operating expenses 2,761 2,469 5,490 4,854
--------- --------- --------- ---------
Total benefits and expenses 70,956 63,746 140,511 121,143
Income before income taxes $ 21,211 $ 13,429 $ 37,131 $ 24,056
========= ========= ========= =========
Income before income taxes increased $7.8 million, or 57.9%, and $13.1 million,
or 54.4%, in the second quarter and first six months of 2004, respectively. The
increases in 2004 were primarily related to better than expected mortality
experience and increases in realized investment gains of $3.0 million and $4.6
million in the second quarter and first six months, respectively. Additionally,
a stronger Canadian dollar versus the U.S. dollar contributed $0.4 million and
$2.0 million in the second quarter and first six months, respectively, to income
before income taxes.
Net premiums increased $9.8 million, or 18.9%, and $21.4 million, or 21.2%, in
the second quarter and first six months of 2004, respectively. A stronger
Canadian dollar during 2004 contributed $1.9 million and $9.5 million in the
second quarter and first six months, respectively, to net premiums reported
during 2004. Premium levels are
15
significantly influenced by large transactions, mix of business, and reporting
practices of ceding companies and, therefore, can fluctuate from period to
period.
Net investment income increased 9.0% and 14.9% in the second quarter and first
six months of 2004, respectively. Investment performance varies with the
composition of investments. In 2004, the increase was due to an increase in the
invested asset base and the strengthening of the foreign exchange rate, the
latter of which contributed $0.6 million and $3.5 million in the second quarter
and first six months of 2004, respectively. The invested asset base growth is
due to higher operating cash flows on traditional reinsurance and interest on an
increasing amount of funds withheld at interest related to one treaty.
Loss ratios for this segment were 96.2% and 97.4% in the second quarter and
first six months of 2004, respectively, compared to 107.9% and 104.6% in the
comparable prior-year periods. Lower loss ratios for the current periods are
primarily due to better mortality experience compared to the prior-year periods.
Historical loss ratios for this segment have generally exceeded 100% primarily
as a result of several large inforce blocks assumed in 1998 and 1997. These
blocks are mature blocks of level premium business where loss ratios are
expected to increase over time as the Company is required to invest the amounts
received in excess of mortality costs to fund claims in future years. Claims and
other policy benefits as a percentage of net premiums and investment income were
69.8% and 70.2% in the second quarter and first six months of 2004,
respectively, compared to 76.4% and 74.2% in the prior-year periods. Management
believes death claims are reasonably predictable over a period of many years,
but are less predictable over shorter periods and are subject to significant
fluctuation.
Policy acquisition costs and other insurance expenses as a percentage of net
premiums totaled 13.4% and 12.6% in the second quarter and first six months of
2004, respectively, compared to 9.4% and 10.4% in the prior-year periods. Policy
acquisition costs and other insurance expenses as a percentage of net premiums
vary from period to period primarily due to the mix of business in the segment.
EUROPE & SOUTH AFRICA OPERATIONS
The Europe & South Africa segment writes business in Europe (primarily in the
United Kingdom and Spain), India and South Africa. This segment provides life
reinsurance for a variety of products through yearly renewable term and
coinsurance agreements, and reinsurance of accelerated critical illness coverage
(pays on the earlier of death or diagnosis of a pre-defined critical illness).
Reinsurance agreements may be either facultative or automatic agreements
covering primarily individual risks and in some markets, group risks.
--------------------------------------------------------------------
FOR THE THREE MONTHS ENDED FOR THE SIX MONTHS ENDED
(in thousands) JUNE 30, 2004 JUNE 30, 2003 JUNE 30, 2004 JUNE 30, 2003
--------------------------------------------------------------------
REVENUES:
Net premiums $118,887 $ 83,450 $236,090 $167,327
Investment income, net of related expenses
863 639 2,407 1,479
Realized investment gains, net 1,143 23 4,302 848
Other revenues 444 299 882 123
-------- -------- -------- --------
Total revenues 121,337 84,411 243,681 169,777
BENEFITS AND EXPENSES:
Claims and other policy benefits 73,809 47,450 155,806 101,233
Policy acquisition costs and other
insurance expenses 29,842 28,689 58,873 54,223
Other operating expenses 5,524 4,106 10,206 7,546
Interest expense 333 264 707 464
-------- -------- -------- --------
Total benefits and expenses 109,508 80,509 225,592 163,466
Income before income taxes $ 11,829 $ 3,902 $ 18,089 $ 6,311
======== ======== ======== ========
16
Income before income taxes during the second quarter of 2004 compared to 2003
increased 203.2% from $3.9 million to $11.8 million, driven by a 42.5% growth in
premiums from $83.5 million to $118.9 million and higher realized investment
gains. For the six months ended June 30, 2004, income from continuing operations
before income taxes grew from $6.3 million to $18.1 million, primarily
attributable to a 41.1% increase in premiums from $167.3 million to $236.1
million and higher realized investment gains. In addition, strengthening foreign
currencies contributed $0.9 million and $1.5 million to income from continuing
operations before income taxes for the second quarter and the first six months
of 2004, respectively.
Net premiums increased 42.5% and 41.1% in the second quarter and first six
months of 2004, respectively. This was primarily due to new business from new
and existing treaties, combined with favorable currency exchange rates. Several
foreign currencies, particularly the British pound, the euro, and the South
African rand, were stronger against the U.S. dollar in the 2004 periods compared
to 2003. Stronger local currencies contributed approximately $11.5 million and
$28.8 million to net premiums for the second quarter and first six months of
2004, respectively. Also, a portion of the growth in premiums was due to
reinsurance of accelerated critical illness. This coverage provides a benefit in
the event of a death from or the diagnosis of a defined critical illness.
Premiums earned during the second quarter and first six months associated with
critical illness coverage totaled $41.2 million and $86.9 million, respectively,
compared to $31.6 million and $70.2 million in the prior-year periods. Premium
levels are significantly influenced by large transactions and reporting
practices of ceding companies and therefore can fluctuate from period to period.
Net investment income increased by $0.2 million in the second quarter of 2004
and $0.9 million for the six months ended June 30, 2004 due to growth in the
investment assets in the United Kingdom and South Africa, growth in the
allocated invested asset base, and favorable exchange rates. Investment
performance varies with the composition of investments and the relative
allocation of capital to the operating segments.
Loss ratios were 62.1% and 66.0% in the second quarter and first six months of
2004, respectively, compared to 56.9% and 60.5% in the prior-year periods. This
ratio will fluctuate due to variations in the mixture and materiality of
business being reinsured and the timing of client reporting. Death claims are
reasonably predictable over a period of many years, but are less predictable
over shorter periods and are subject to significant fluctuation.
Policy acquisition costs and other insurance expenses as a percentage of net
premiums totaled 25.1% and 24.9% for the second quarter and first six months of
2004, respectively, compared to 34.4% and 32.4% in the prior-year periods. These
percentages fluctuate due to variations in the mixture of business being
reinsured and the relative maturity of the business. In addition, as the segment
grows, renewal premiums, which have lower allowances than first year premiums,
represent a greater percentage of the total premiums. Accordingly, the ratio of
allowances to premiums declines.
Policy acquisition costs are capitalized and charged to expense in proportion to
premium revenue recognized. Acquisition costs, as a percentage of premiums,
associated with some treaties in the United Kingdom are typically higher than
those experienced in the Company's other segments. Future recoverability of the
capitalized policy acquisition costs on this business is primarily sensitive to
mortality and morbidity experience. If actual experience suggests higher
mortality and morbidity rates going forward than currently contemplated in
management's estimates, the Company may record a charge to income, due to a
reduction in deferred acquisition costs and, to the extent there are no
unamortized acquisition costs, an increase in future policy benefits.
Other operating expenses, as a percentage of net premiums were 4.6% and 4.3% for
the second quarter and first six months of 2004, respectively, compared to 4.9%
and 4.5% in the prior-year periods. The Company believes that sustained growth
in premiums should lessen the burden of start-up expenses and expansion costs
over time. Interest expense increased in 2004 over 2003 due to higher interest
rates, an increase in debt levels in the United Kingdom to support the growth in
operations, and the effect of foreign exchange rates increasing against the U.S.
dollar over the prior year.
ASIA PACIFIC OPERATIONS
The Asia Pacific segment writes business primarily in Australia, Hong Kong,
Japan, Malaysia, New Zealand, South Korea and Taiwan. The principal types of
reinsurance for this segment include life, critical care and illness,
17
disability income, superannuation, and financial reinsurance. Superannuation is
the Australian government mandated compulsory retirement savings program.
Superannuation funds accumulate retirement funds for employees, and in addition,
offer life and disability insurance coverage. Reinsurance agreements may be
either facultative or automatic agreements covering primarily individual risks
and in some markets, group risks. The Company operates multiple offices
throughout each region to best meet the needs of the local client companies.
----------------------------------------------------------------
FOR THE THREE MONTHS ENDED FOR THE SIX MONTHS ENDED
(in thousands) JUNE 30, 2004 JUNE 30, 2003 JUNE 30, 2004 JUNE 30, 2003
----------------------------------------------------------------
REVENUES:
Net premiums $ 84,178 $ 66,165 $ 187,717 $ 108,575
Investment income, net of related expenses
3,029 2,421 6,764 5,148
Realized investment gains (losses), net (149) (131) 198 (518)
Other revenues 2,950 707 3,585 907
--------- --------- --------- ---------
Total revenues 90,008 69,162 198,264 114,112
BENEFITS AND EXPENSES:
Claims and other policy benefits 67,380 47,190 142,225 74,454
Policy acquisition costs and other
insurance expenses 11,878 13,006 33,408 24,528
Other operating expenses 5,673 4,189 10,415 8,716
Interest expense 383 250 725 519
--------- --------- --------- ---------
Total benefits and expenses 85,314 64,635 186,773 108,217
Income before income taxes $ 4,694 $ 4,527 $ 11,491 $ 5,895
--------- --------- --------- ---------
Income before income taxes increased from $4.5 million to $4.7 million during
the second quarter of 2004, and from $5.9 million to $11.5 million for the first
six months of 2004. Strengthening foreign currencies contributed $0.4 million
and $1.0 million to income before income taxes for the second quarter and first
six months of 2004, respectively. While the Asia Pacific segment did experience
27.2% growth in net premiums from $66.2 million to $84.2 million during the
second quarter of 2004, and a 72.9% growth in net premiums from $108.6 million
to $187.7 million for the first six months of 2004, increased loss ratios
prevented an equivalent percentage growth in income before income taxes for the
respective periods. The percentage growth in net premiums for the six-month
comparable periods is not necessarily indicative of the percentages the Company
expects for the year ending December 31, 2004. As the comparable net premium
base grows, this percentage is expected to decrease.
The growth in net premiums for the quarter in the Asia Pacific segment was
generated by new business premiums from facultative and automatic treaties and
renewal premiums from existing treaties, including premiums associated with
accelerated critical illness coverage. The growth was also aided by favorable
exchange rates, with several of the local currencies strengthening against the
U.S. dollar. Stronger local currencies contributed approximately $6.4 million
and $20.4 million to net premiums for the second quarter and first six months of
2004, respectively. Premiums earned during the second quarter of 2004 associated
with critical illness coverage totaled $9.8 million compared to $7.7 million in
the second quarter of 2003. Premiums earned associated with critical illness
coverage for the six months ended June 30, 2004 totaled $18.2 million, compared
to $10.3 million for the six months ended June 30, 2003. Premium levels are
significantly influenced by large transactions and reporting practices of ceding
companies and therefore may fluctuate from period to period.
Net investment income increased to $3.0 million in the second quarter of 2004
due to an increase in allocated assets supporting the growth in the overall
business. Investment income and realized investment gains and losses are
allocated to the operating segments on the basis of capital required to support
underlying business and investment performance varies with the composition of
investments and the relative allocation of capital to units. Other revenues
increased $2.2 million and $2.7 million during the second quarter and first six
months of 2004, respectively, primarily due to fees associated with the
recapture of two treaties and new fees earned on financial reinsurance
transactions.
18
Loss ratios in Asia Pacific increased from 71.3% for the second quarter of 2003
to 80.0% for the second quarter of 2004, and from 68.6% for the six months ended
June 30, 2003 to 75.8% for the six months ended June 30, 2004. This ratio will
fluctuate due to timing of client company reporting, variations in the mixture
of business being reinsured, and the relative maturity of the business.
Management believes death claims are reasonably predictable over a period of
many years, but are less predictable over shorter periods and are subject to
significant fluctuation.
Policy acquisition costs and other insurance expenses as a percentage of net
premiums were 14.1% in the second quarter of 2004 compared to 19.7% in the
second quarter of 2003, and 17.8% for the six months ended June 30, 2004
compared to 22.6% for the six months ended June 30, 2003. These percentages
fluctuate due to the timing of client company reporting and variations in the
type of business being written, along with the mix of new and renewal business.
Other operating expenses for the quarter increased from 6.3% of premiums in 2003
to 6.7% in 2004, while for the first six months it decreased from 8.0% to 5.5%.
Generally, as net premiums grow, the burden of start-up expenses and expansion
costs are somewhat alleviated. The timing of the entrance into and development
of new markets may cause other operating expenses as a percentage of premiums to
be somewhat volatile on a comparative quarter basis. Interest expense increased
in 2004 over 2003 due to higher interest rates, an increase in debt levels in
Australia to support the growth in operations, and the effect of foreign
exchange rates increasing against the U.S. dollar over the prior year.
CORPORATE AND OTHER OPERATIONS
Corporate and Other revenues include investment income from invested assets not
allocated to support segment operations and undeployed proceeds from the
Company's capital raising efforts, in addition to unallocated realized capital
gains or losses. General corporate expenses consist of unallocated overhead and
executive costs and interest expense related to debt and the $225.0 million of
5.75% mandatorily redeemable trust preferred securities. Additionally, the
Corporate and Other operations segment includes results from RGA Technology
Partners ("RTP"), a wholly-owned subsidiary that develops and markets technology
solutions for the insurance industry, the Company's Argentine privatized pension
business, which is currently in run-off (see discussion of status below), and an
insignificant amount of direct insurance operations in Argentina.
FOR THE THREE MONTHS ENDED FOR THE SIX MONTHS ENDED
(in thousands) JUNE 30, 2004 JUNE 30, 2003 JUNE 30, 2004 JUNE 30, 2003
------------- ------------- ------------- -------------
REVENUES:
Net premiums $ 1,094 $ 1,541 $ 1,685 $ 1,978
Investment income, net of related expenses 5,315 3,988 10,053 8,765
Realized investment gains (losses), net 1,987 (107) 7,886 (2,005)
Other revenues 1,538 1,699 2,893 2,786
-------- -------- -------- --------
Total revenues 9,934 7,121 22,517 11,524
BENEFITS AND EXPENSES:
Claims and other policy benefits 1,445 2,547 2,421 630
Interest credited 93 92 162 139
Policy acquisition costs and other insurance expenses 681 991 735 1,570
Other operating expenses 7,040 5,573 14,111 9,966
Interest expense 8,826 8,528 17,648 17,018
-------- -------- -------- --------
Total benefits and expenses 18,085 17,731 35,077 29,323
Loss before income taxes $ (8,151) $(10,610) $(12,560) $(17,799)
======== ======== ======== ========
Losses before income taxes decreased 23.2% and 29.4% for the three- and
six-month periods ended June 30, 2004, respectively. Increases in investment
income and realized investment gains helped drive losses before income taxes
lower for both periods compared to 2003. These increases were offset in part by
higher claims and other policy
19
benefits for the year-to-date comparables. Foreign currency gains in the prior
year helped reduce the level of claims and policy benefits on a year-to-date
basis. Other operating expenses increased primarily due to growth in segment
headcount and related compensation expenses.
As discussed in the Company's 2003 Annual Report, certain regulations were
pending relating to permanently disabled participants of the privatized pension
plans administered by Administradoras de Fondos de Jubilaciones y Pensiones
("AFJPs"). Recently, the Argentine government enacted those regulations. The new
regulations require permanently disabled AFJP plan participants to elect a
programmed withdrawal or an annuity with respect to deferred disability claims
at a time when the AFJP fund unit values are significantly inflated. The new
regulations are expected to accelerate permanent disability payments from
reinsurers; particularly with respect to plan participants that elect programmed
withdrawal. The Company cannot predict the percentage of plan participants that
will elect programmed withdrawal as opposed to an annuity. Also, as discussed in
the Company's 2003 Annual Report, the Company had placed the Argentine
Government on notice of its intent to file an arbitration with respect to
alleged violations of the Treaty on Encouragement and Reciprocal Protection of
Investments, between the Argentine Republic and the United States of America,
dated November 14, 1991 (the "Treaty"). On March 24, 2004, RGA Reinsurance filed
a request for arbitration of its dispute relating to these alleged violations
pursuant to the Washington Convention of 1965 on the Settlement of Investment
Disputes under the auspices of the International Centre for Settlement of
Investment Disputes of the World Bank.
DISCONTINUED OPERATIONS
The discontinued accident and health division reported a loss, net of taxes, of
$3.1 million for the second quarter of 2004 compared to a loss, net of taxes, of
$1.0 million for the second quarter of 2003. The increase in net loss was due
primarily to an arbitration settlement that exceeded estimated reserves. The
calculation of the claim reserve liability for the entire portfolio of accident
and health business requires management to make estimates and assumptions that
affect the reported claim reserve levels. Management must make estimates and
assumptions based on historical loss experience, changes in the nature of the
business, anticipated outcomes of claim disputes and claims for rescission, and
projected future premium run-off, all of which may affect the level of the claim
reserve liability. Due to the significant uncertainty associated with the
run-off of this business, net income in future periods could be affected
positively or negatively.
LIQUIDITY AND CAPITAL RESOURCES
The Holding Company
RGA is a holding company whose primary uses of liquidity include, but are not
limited to, the immediate capital needs of its operating companies associated
with the Company's primary businesses, dividends paid by RGA to its
shareholders, interest payments on its senior indebtedness and junior
subordinated notes (See Notes 15, "Long-Term Debt," and 16, "Issuance of Trust
Piers Units," in the 2003 Annual Report), and repurchases of RGA common stock
under a plan approved by the board of directors. In 2001, the Company's board of
directors approved a repurchase program authorizing RGA to purchase up to $50.0
million of its shares of stock. RGA purchased approximately 0.2 million shares
of treasury stock under the program at an aggregate cost of $6.6 million during
2002. The Company has not purchased any of its shares since 2002 and has no
plans to purchase additional shares at this time. The primary sources of RGA's
liquidity include proceeds from its capital raising efforts, interest income on
undeployed corporate investments, interest income received on surplus notes with
two operating subsidiaries, and dividends from operating subsidiaries. As the
Company continues its expansion efforts, RGA will continue to be dependent on
these sources of liquidity.
Cash Flows
The Company's net cash flows from operating activities for the periods ended
June 30, 2004 and 2003 were $352.1 million and $172.0 million, respectively.
Cash flows from operating activities are affected by the timing of premiums
received, claims paid, and working capital changes. The Company believes the
short-term cash requirements of its business operations will be sufficiently met
by the positive cash flows generated. Additionally, the Company maintains a high
quality fixed maturity portfolio with good liquidity characteristics. These
securities are available for sale and generally can be easily sold to meet the
Company's obligations, if necessary.
20
Net cash used in investing activities was $366.4 million and $312.3 million in
2004 and 2003, respectively. Changes in cash provided by investing activities
primarily relate to the management of the Company's investment portfolios and
the investment of excess capital generated by operating and financing
activities.
Net cash provided by financing activities was $57.6 million and $206.4 million
in 2004 and 2003, respectively. Changes in cash provided by financing activities
primarily relate to the issuance of equity or debt securities, borrowings or
payments under the Company's existing credit agreements, treasury stock
activity, and excess deposits or withdrawals under investment type contracts.
Debt and Preferred Securities
Certain of the Company's debt agreements contain financial covenant restrictions
related to, among others, liens, the issuance and disposition of stock of
restricted subsidiaries, minimum requirements of net worth ranging from $600
million to $700 million, and minimum rating requirements. A material ongoing
covenant default could require immediate payment of the amount due, including
principal, under the various agreements. Additionally, the Company's debt
agreements contain cross-default covenants, which would make outstanding
borrowings immediately payable in the event of a material uncured covenant
default under any of the agreements, including, but not limited to, non-payment
of indebtedness when due for amounts greater than $10 million or $25 million
depending on the agreement, bankruptcy proceedings, and any event which results
in the acceleration of the maturity of indebtedness. As of June 30, 2004, the
Company had $401.4 million in outstanding borrowings under its debt agreements
and was in compliance with all covenants under those agreements.
The Company's U.S. credit facility expires in May 2006 and has a total capacity
of $175.0 million. The Company generally may not pay dividends under the credit
agreement unless, at the time of declaration and payment, a default would not
exist under the agreement. As of June 30, 2004, the Company had $50.0 million
outstanding under this facility and the average interest rate on all long-term
debt outstanding, excluding the Company-obligated mandatorily redeemable
preferred securities of subsidiary trust holding solely junior subordinated
debentures of the Company ("Trust Preferred Securities"), was 6.14%. Interest is
expensed on the face amount, or $225.0 million, of the Trust Preferred
Securities at a rate of 5.75%.
Statutory Dividend Limitations
The ability of the Company to make principal and interest payments depends
primarily on the earnings and surplus of its subsidiaries, investment earnings
on undeployed capital proceeds, and the Company's ability to raise additional
funds. At June 30, 2004, Reinsurance Company of Missouri, Incorporated ("RCM")
and RGA Canada had statutory capital and surplus of $779.8 million and $235.5
million, respectively. RCM's primary asset is its investment in RGA Reinsurance
Company, the Company's principal operating subsidiary based in Missouri. The
transfer of funds from the subsidiaries to RGA is subject to applicable
insurance laws and regulations. The Company expects any future increases in
liquidity needs due to treaty recaptures, relatively large policy loans or
unanticipated material claims levels would be met first by operating cash flows
and then by selling fixed-income securities or short-term investments.
Future Liquidity and Capital Needs
During the first quarter of 2004, RGA Reinsurance Company became a member of the
Federal Home Loan Bank of Des Moines ("FHLB"). One of the benefits of being a
member is the ability to borrow money on short notice by pledging investments.
As of June 30, 2004, the Company had no outstanding borrowing from or assets
pledged to the FHLB. Based on the historic cash flows and the current financial
results of the Company, subject to any dividend limitations which may be imposed
by various insurance regulations, management believes RGA's cash flows from
operating activities, together with undeployed proceeds from its capital raising
efforts, including interest and investment income on those proceeds, interest
income received on surplus notes with two operating subsidiaries, and its
ability to raise funds in the capital markets, will be sufficient to enable RGA
to make dividend payments to its shareholders, to make interest payments on its
senior indebtedness and junior subordinated notes, to repurchase RGA common
stock under the plan approved by the board of directors, and to meet its other
obligations.
A general economic downturn or a downturn in the equity and other capital
markets could adversely affect the market for many annuity and life insurance
products. Because the Company obtains substantially all of its revenues through
reinsurance arrangements that cover a portfolio of life insurance products, as
well as annuities, its business would be harmed if the market for annuities or
life insurance were adversely affected.
21
INVESTMENTS
The Company had total cash and invested assets of $9.5 billion and $7.8 billion
at June 30, 2004 and 2003, respectively. All investments made by RGA and its
subsidiaries conform to the qualitative and quantitative limits prescribed by
the applicable jurisdiction's insurance laws and regulations. In addition, the
Boards of Directors of the various operating companies periodically review the
investment portfolios of their respective subsidiaries. The RGA Board of
Directors also receives reports on material investment portfolios. The Company's
investment strategy is to maintain a predominantly investment-grade, fixed
maturity portfolio, to provide adequate liquidity for expected reinsurance
obligations, and to maximize total return through prudent asset management. The
Company's earned yield on invested assets, excluding funds withheld, was 5.79%
during the second quarter of 2004, compared with 6.67% for the second quarter of
2003. See "Note 5 - INVESTMENTS" in the Notes to Consolidated Financial
Statements of the 2003 Annual Report for additional information regarding the
Company's investments.
The Company's fixed maturity securities are invested primarily in commercial and
industrial bonds, public utilities, U.S. and Canadian government securities, as
well as mortgage and asset-backed securities. As of June 30, 2004, approximately
98% of the Company's consolidated investment portfolio of fixed maturity
securities was investment-grade. Important factors in the selection of
investments include diversification, quality, yield, total rate of return
potential, and call protection. The relative importance of these factors is
determined by market conditions and the underlying product or portfolio
characteristics. Cash equivalents are invested in high-grade money market
instruments. The largest asset class in which fixed maturities were invested was
in corporate securities, including commercial, industrial, finance and utility
bonds, which represented approximately 44.7% and 39.7% of fixed maturity
securities as of June 30, 2004 and 2003, respectively. These corporate
securities had an average Standard and Poor's ("S&P") rating of "A" at June 30,
2004.
Within the fixed maturity security portfolio, the Company holds approximately
$75.5 million in asset-backed securities at June 30, 2004, which include credit
card and automobile receivables, home equity loans and collateralized bond
obligations. The Company's asset-backed securities are diversified by issuer and
contain both floating and fixed rate securities. In addition to the risks
associated with floating rate securities, principal risks in holding
asset-backed securities are structural, credit and capital market risks.
Structural risks include the securities priority in the issuer's capital
structure, the adequacy of and ability to realize proceeds from collateral, and
the potential for prepayments. Credit risks include consumer or corporate
credits such as credit card holders, equipment lessees, and corporate obligors.
Capital market risks include general level of interest rates and the liquidity
for these securities in the marketplace.
The Company monitors its fixed maturity securities to determine impairments in
value. In conjunction with its external investment managers, the Company
evaluates factors such as financial condition of the issuer, payment
performance, the length of time and the extent to which the market value has
been below amortized cost, compliance with covenants, general market conditions
and industry sector, intent and ability to hold securities, and various other
subjective factors. Based on management's judgment, securities determined to
have an other-than-temporary impairment in value are written down to fair value.
The Company recorded other-than-temporary write-downs of $0.1 million and $11.9
million for the six months ending June 30, 2004 and 2003, respectively. The
circumstances that gave rise to the impairments during 2003 were the
deterioration in financial condition of one issuer and decline in collateral
value supporting two asset-backed securities. During 2004, the Company sold
fixed maturity securities with a fair value of $162.0 million at a net loss of
$7.7 million.
The following table presents the total gross unrealized losses for 820 fixed
maturity securities where the estimated fair value had declined and remained
below amortized cost by the indicated amount (in thousands):
At June 30, 2004
----------------------------------
Gross Unrealized
Losses % of Total
------ ----------
Less than 20% $76,348 100%
20% or more for less than six months - -%
20% or more for six months or greater - -%
------- ---
Total $76,348 100%
22
While all of these securities are monitored for potential impairment, the
Company's experience indicates that the first two categories do not present as
great a risk of impairment, and often, fair values recover over time. These
securities have generally been adversely affected by overall economic
conditions, primarily an increase in the interest rate environment.
The following table presents the estimated fair values and gross unrealized
losses for the 820 fixed maturity securities that have estimated fair values
below amortized cost as of June 30, 2004. These investments are presented by
class and grade of security, as well as the length of time the related market
value has remained below amortized cost.
AS OF JUNE 30, 2004
-------------------------------------------------------------------------------------------
EQUAL TO OR GREATER THAN
LESS THAN 12 MONTHS 12 MONTHS TOTAL
---------------------------- ---------------------------- -----------------------------
Estimated Gross Estimated Gross Estimated Gross
(in thousands) Fair Value Unrealized Loss Fair Value Unrealized Loss Fair Value Unrealized Loss
---------- --------------- ---------- --------------- ---------- ---------------
INVESTMENT GRADE SECURITIES:
COMMERCIAL AND INDUSTRIAL $ 642,752 $ 24,904 $ 5,413 $ 587 $ 648,165 $ 25,491
PUBLIC UTILITIES 304,153 12,693 - - 304,153 12,693
ASSET-BACKED SECURITIES 34,298 533 2,280 204 36,578 737
CANADIAN AND CANADIAN PROVINCIAL
GOVERNMENTS 87,722 5,366 - - 87,722 5,366
MORTGAGE-BACKED SECURITIES 71,030 1,162 4,327 197 75,357 1,359
FINANCE 247,071 11,161 15,322 735 262,393 11,896
U.S. GOVERNMENT AND AGENCIES 610,818 15,909 - - 610,818 15,909
FOREIGN GOVERNMENTS 119,976 2,117 - - 119,976 2,117
---------- ---------- ---------- ---------- ---------- ----------
INVESTMENT GRADE SECURITIES 2,117,820 73,845 27,342 1,723 2,145,162 75,568
---------- ---------- ---------- ---------- ---------- ----------
NON-INVESTMENT GRADE SECURITIES:
COMMERCIAL AND INDUSTRIAL 10,826 444 - - 10,826 444
PUBLIC UTILITIES 8,878 336 - - 8,878 336
---------- ---------- ---------- ---------- ---------- ----------
NON-INVESTMENT GRADE SECURITIES 19,704 780 - - 19,704 780
---------- ---------- ---------- ---------- ---------- ----------
TOTAL $2,137,524 $ 74,625 $ 27,342 $ 1,723 $2,164,866 $ 76,348
========== ========== ========== ========== ========== ==========
The Company believes that the analysis of each security whose price has been
below market for greater than twelve months indicated that the financial
strength, liquidity, leverage, future outlook and/or recent management actions
support the view that the security was not other-than-temporarily impaired as of
June 30, 2004. The unrealized losses did not exceed 6% on an individual security
basis and are primarily a result of rising interest rates, changes in credit
spreads and the long-dated maturities of the securities. Additionally, 99% of
the gross unrealized losses are associated with investment grade securities.
The Company's mortgage loan portfolio consists principally of investments in
U.S.-based commercial offices and retail locations. The mortgage loan portfolio
is diversified by geographic region and property type. All mortgage loans are
performing and no valuation allowance has been established as of June 30, 2004.
Policy loans present no credit risk because the amount of the loan cannot exceed
the obligation due the ceding company upon the death of the insured or surrender
of the underlying policy. The provisions of the treaties in force and the
underlying policies determine the policy loan interest rates. Because policy
loans represent premature distributions of policy liabilities, they have the
effect of reducing future disintermediation risk. In addition, the Company earns
a spread between the interest rate earned on policy loans and the interest rate
credited to corresponding liabilities.
Funds withheld at interest comprised approximately 31.8% and 30.3% of the
Company's cash and invested assets as of June 30, 2004 and December 31, 2003,
respectively. For agreements written on a modified coinsurance basis and certain
agreements written on a coinsurance basis, assets equal to the net statutory
reserves are withheld and legally owned and managed by the ceding company, and
are reflected as funds withheld at interest on RGA's balance sheet. In the event
of a ceding company's insolvency, RGA would need to assert a claim on the assets
supporting its reserve liabilities. However, the risk of loss to RGA is
mitigated by its ability to offset amounts it owes the ceding company for claims
or allowances with amounts owed to RGA from the ceding company. Interest accrues
to these assets at rates defined by the treaty terms. The Company is subject to
the investment performance on the withheld assets, although it does not directly
control them. These assets are primarily fixed maturity investment securities
and pose risks similar to the fixed maturity securities the Company owns. To
mitigate this risk, the Company helps set
23
the investment guidelines followed by the ceding company and monitors
compliance. Ceding companies with funds withheld at interest had a minimum A.M.
Best rating of "A-".
CONTRACTUAL OBLIGATIONS
The following table displays the Company's contractual obligations that
have materially changed since December 31, 2003 (in millions):
Payment Due by Period
---------------------------------------------------------------------------
Less than
Contractual Obligations: Total 1 Year 1 - 3 Years 4 - 5 Years After 5 Years
- ------------------------ -------- --------- ----------- ----------- -------------
Long - term debt $ 401.4 $ 27.3 $ 174.2 $ - $ 199.9
Life claims payable(1) $ 620.9 $ 620.9 $ - $ - $ -
-------- -------- -------- -------- --------
(1) Included in the Other policy claims and benefits line item in the condensed
consolidated balance sheet.
A significant portion of the Company's insurance liabilities, including most
future policy benefits, are excluded from this table because such amounts and/or
their timing are inherently subjective.
COUNTERPARTY RISK
In the normal course of business, the Company seeks to limit its exposure to
reinsurance contracts by ceding a portion of the reinsurance to other insurance
companies or reinsurers. Should a counterparty not be able to fulfill its
obligation to the Company under a reinsurance agreement, the impact could be
material to the Company's financial condition and results of operations.
MARKET RISK
Market risk is the risk of loss that may occur when fluctuations in interest and
currency exchange rates and equity and commodity prices change the value of a
financial instrument. Both derivative and nonderivative financial instruments
have market risk so the Company's risk management extends beyond derivatives to
encompass all financial instruments held that are sensitive to market risk. RGA
is primarily exposed to interest rate risk and foreign currency risk.
Interest Rate Risk arises from many of the Company's primary activities, as the
Company invests substantial funds in interest-sensitive assets and also has
certain interest-sensitive contract liabilities. The Company manages interest
rate risk and credit risk to maximize the return on the Company's capital
effectively and to preserve the value created by its business operations. As
such, certain management monitoring processes are designed to minimize the
impact of sudden and sustained changes in interest rates on fair value, cash
flows, and net interest income.
The Company is subject to foreign currency translation, transaction, and net
income exposure. The Company generally does not hedge the foreign currency
translation exposure related to its investment in foreign subsidiaries as it
views these investments to be long-term. Translation differences resulting from
translating foreign subsidiary balances to U.S. dollars are reflected in equity.
The Company generally does not hedge the foreign currency exposure of its
subsidiaries transacting business in currencies other than their functional
currency (transaction exposure).
There has been no significant change in the Company's quantitative or
qualitative aspects of market risk during the quarter ended June 30, 2004 from
that disclosed in the 2003 Annual Report.
NEW ACCOUNTING STANDARDS
In March 2004, the Emerging Issues Task Force ("EITF") reached further consensus
on Issue No. 03-1, "The Meaning of Other-Than-Temporary Impairment and Its
Application to Certain Investments" ("EITF 03-1"). EITF 03-1 provides accounting
guidance regarding the determination of when an impairment of debt and
marketable equity securities and investments accounted for under the cost method
should be considered other-than-temporary and recognized in income. An EITF 03-1
consensus reached in December 2003 also requires certain quantitative and
qualitative disclosures for debt and marketable equity securities classified as
available-for-sale or held-to-maturity under SFAS 115, Accounting for Certain
Investments in Debt and Equity Securities, that are impaired at the
24
balance sheet date but for which an other-than-temporary impairment has not been
recognized. The disclosure requirements of EITF 03-1 were effective December 31,
2003. The accounting guidance of EITF 03-1 will be effective in the third
quarter of 2004 and is not expected to have a material impact on the Company's
consolidated financial statements.
In March 2004, the EITF reached consensuses on Issue No. 03-6, "Participating
Securities and the Two-Class Method under FASB Statement No. 128" ("EITF 03-6").
EITF 03-6 provides guidance in determining whether a security should be
considered a participating security for purposes of computing earnings per share
and how earnings should be allocated to the participating security. EITF 03-6,
which was effective for the Company in the second quarter of 2004, did not have
an impact on the Company's earnings per share calculations.
In March 2004, the EITF reached consensus on Issue No. 03-16, "Accounting for
Investments in Limited Liability Companies" ("EITF 03-16"). EITF 03-16 provides
guidance regarding whether a limited liability company should be viewed as
similar to a corporation or similar to a partnership for purposes of determining
whether a noncontrolling investment should be accounted for using the cost
method or the equity method of accounting. EITF 03-16, which will be effective
in the third quarter of 2004, is not expected to have a material impact on the
Company's unaudited interim condensed consolidated financial statements.
In July 2003, the Accounting Standards Executive Committee issued 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 provides guidance on separate account presentation and valuation, the
accounting for sales inducements and the classification and valuation of
long-duration contract liabilities. The Company adopted the provisions of SOP
03-1 on January 1, 2004, recording a charge of $361 thousand, net of income
taxes.
In January 2003, the Financial Accounting Standards Board ("FASB") issued
Interpretation No. 46, "Consolidation of Variable Interest Entities" ("FIN 46"),
an interpretation of Accounting Research Bulletin No. 51, "Consolidated
Financial Statements," which requires the consolidation by a business enterprise
of variable interest entities if the business enterprise is the primary
beneficiary. FIN 46 was effective January 31, 2003, for the Company with respect
to interests in variable interest entities obtained after that date. With
respect to interests in variable interest entities existing prior to February 1,
2003, the FASB issued FASB Interpretation No. 46 (revised December 2003), which
extended the effective date of FIN 46 to the period ending March 31, 2004. The
Company adopted the provisions of FIN 46 as of March 31, 2004 and is not
required to consolidate any material interests in variable interest entities.
FORWARD-LOOKING AND CAUTIONARY STATEMENTS
This Quarterly Report on Form 10-Q contains forward-looking statements within
the meaning of the Private Securities Litigation Reform Act of 1995, including,
among others, statements relating to projections of the earnings, revenues,
income or loss, future financial performance and growth potential of Reinsurance
Group of America, Incorporated and its subsidiaries (referred to in the
following paragraphs as "we," "us" or "our"). The words "intend," "expect,"
"project," "estimate," "predict," "anticipate," "should," "believe," and other
similar expressions also are intended to identify forward-looking statements.
Forward-looking statements are inherently subject to risks and uncertainties,
some of which cannot be predicted or quantified. Future events and actual
results, performance and achievements could differ materially from those set
forth in, contemplated by or underlying the forward-looking statements.
Numerous important factors could cause actual results and events to differ
materially from those expressed or implied by forward-looking statements
including, without limitation, (1) adverse changes in mortality, morbidity or
claims experience, (2) changes in our financial strength and credit ratings or
those of MetLife, Inc. ("MetLife"), the beneficial owner of a majority of our
common shares, or its subsidiaries, and the effect of such changes on our future
results of operations and financial condition, (3) general economic conditions
affecting the demand for insurance and reinsurance in our current and planned
markets, (4) market or economic conditions that adversely affect our ability to
make timely sales of investment securities, (5) changes in investment portfolio
yields and valuations due to interest rate or credit quality changes, (6)
fluctuations in U.S. or foreign currency exchange rates, interest rates, or
securities and real estate markets, (7) adverse litigation or arbitration
results, (8) the stability of governments and economies and actions taken by
governments in the markets in which we operate, (9) competitive factors and
competitors' responses to our initiatives, (10) the success of our clients, (11)
successful execution of our entry into new markets, (12) successful development
and introduction of new products, (13) our ability to successfully integrate and
operate
25
reinsurance business that we acquire, including without limitation, the
traditional life reinsurance business of Allianz Life, (14) regulatory action
that may be taken by state Departments of Insurance with respect to us, MetLife,
or its subsidiaries, (15) changes in laws, regulations, and accounting standards
applicable to us, our subsidiaries, or our business, and (16) other risks and
uncertainties described in this document and in our other filings with the
Securities and Exchange Commission ("SEC").
Forward-looking statements should be evaluated together with the many risks and
uncertainties that affect our business, including those mentioned in this
document and the cautionary statements described in the periodic reports we file
with the SEC. You are cautioned not to place undue reliance on the
forward-looking statements, which speak only as of the date on which they are
made. We do not undertake any obligations to update these forward-looking
statements, even though our situation may change in the future. We qualify all
of our forward-looking statements by these cautionary statements. For a
discussion of these risks and uncertainties that could cause actual results to
differ materially from those contained in the forward-looking statements, you
are advised to consult the sections named "Risk Factors" and "Cautionary
Statement Regarding Forward-Looking Statements" contained in our Registration
Statement on Form S-3, as amended, filed with the SEC on July 9, 2004.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
See "Item 2 - Management's Discussion and Analysis of Financial Condition and
Results of Operations - - Market Risk" which is incorporated by reference
herein.
ITEM 4. CONTROLS AND PROCEDURES
As of the end of the period covered by this report, management, including the
Chief Executive Officer and the Chief Financial Officer, evaluated the
effectiveness of the design and operation of the Company's disclosure controls
and procedures with respect to the information generated for use in this
Quarterly Report. Based upon, and as of the date of that evaluation, the Chief
Executive Officer and the Chief Financial Officer concluded that the disclosure
controls and procedures were effective to provide reasonable assurance that
information required to be disclosed in the reports that the Company files or
submits under the Securities Exchange Act of 1934 are recorded, processed,
summarized and reported within the time periods specified in the SEC's rules and
forms.
There was no change in the Company's internal control over financial reporting
during the quarter ended June 30, 2004, that has materially affected, or is
reasonably likely to materially affect our internal control over financial
reporting.
26
PART II - OTHER INFORMATION
ITEM 1.
LEGAL PROCEEDINGS
The Company is currently a party to various litigation and arbitrations that
involve medical reinsurance arrangements, personal accident business, and
aviation bodily injury carve-out business. As of June 30, 2004, the ceding
companies involved in these disputes have raised claims, or established reserves
that may result in claims, that are $91.6 million in excess of the amounts held
in reserve by the Company. The Company generally has little information
regarding any reserves established by the ceding companies, and it is possible
that any such reserves could be increased in the future. The Company believes it
has substantial defenses upon which to contest these claims, including but not
limited to misrepresentation and breach of contract by direct and indirect
ceding companies. In addition, the Company is in the process of auditing ceding
companies that have indicated that they anticipate asserting claims in the
future against the Company that are $16.6 million in excess of the amounts held
in reserve by the Company. Depending upon the audit findings in these cases,
they could result in litigation or arbitrations in the future. See Note 21,
"Discontinued Operations," in the Company's 2003 Annual Report for more
information. Additionally, from time to time, the Company is subject to
litigation and arbitration related to its life reinsurance business and to
employment-related matters in the normal course of its business. While it is not
feasible to predict or determine the ultimate outcome of the pending litigation
or arbitrations or provide reasonable ranges of potential losses, it is the
opinion of management, after consultation with counsel, that their outcomes,
after consideration of the provisions made in the Company's consolidated
financial statements, would not have a material adverse effect on its
consolidated financial position.
ITEM 2.
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Under a Board of Directors approved plan, the Company may purchase at its
discretion up to $50 million of its common stock on the open market. As of June
30, 2004, the Company had purchased 225,500 shares of treasury stock under this
program at an aggregate price of $6.6 million. All purchases were made during
2002. The Company generally uses treasury shares to support the future exercise
of options granted under its stock option plans.
ITEM 4.
SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company's Annual Meeting of Shareholders was held on May 26, 2004. At the
Annual Meeting, the following proposals were voted upon by the shareholders as
indicated below: (1) Election of the following Directors:
Directors Voted For Withheld
--------- --------- --------
William J. Bartlett 59,342,143 1,070,529
Alan C. Henderson 59,242,725 1,169,947
A. Greig Woodring 48,122,735 12,289,937
Voted For Voted Against Abstain
--------- ------------- -------
(2) Proposal to amend to the Company's Second Restated Articles of
Incorporation to increase the number of outstanding shares 58,306,107 2,048,580 57,985
(3) Proposal to amend the Articles of Incorporation
to delete Section D and renumber Section E 60,323,068 13,612 75,992
(4) Proposal to amend Section A of Article Six of the Articles of
Incorporation regarding the number of directors 59,950,425 386,797 75,450
27
(5) Proposal to amend Sections C of Article Six and Section B of
Article Nine of the Articles of Incorporation regarding
advance notice of nominations and proposals 42,367,051 15,690,082 87,981
(6) Proposal to amend the Articles of Incorporation adding new
Article Thirteen 59,778,535 547,498 86,639
(7) Proposal to authorize the sale of certain types of securities
from time to time to MetLife, Inc. or its affiliates 42,212,315 15,856,085 76,714
(8) Proposal to amend the Company's Flexible Stock Plan 59,560,054 520,218 332,400
ITEM 6
EXHIBITS AND REPORTS ON FORM 8-K
(a) See index to exhibits.
(b) The following reports on Form 8-K were filed or furnished with the
Securities and Exchange Commission during the quarter ended June 30, 2004:
1. The Company filed a Current Report on Form 8-K dated April 29, 2004,
furnishing, under Items 9 and 12, its press release discussing
results of operations for the three months ended March 31, 2004. The
press release was attached thereto as Exhibit 99.1.
2. The Company filed a Current Report on Form 8-K dated May 26, 2004,
disclosing, under Items 5 and 7, certain voting results from its
annual meeting. The Company's restated articles of incorporation
were attached thereto as Exhibit 3.1.
28
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.
Reinsurance Group of America, Incorporated
By: /s/ A. Greig Woodring August 5, 2004
----------------------------------------
A. Greig Woodring
President & Chief Executive Officer
(Principal Executive Officer)
/s/ Jack B. Lay August 5, 2004
----------------------------------------
Jack B. Lay
Executive Vice President & Chief Financial Officer
(Principal Financial and Accounting Officer)
29
INDEX TO EXHIBITS
Exhibit
Number Description
- ------ -----------
2.1 Master Agreement by and between Allianz Life Insurance of North
America and RGA Reinsurance Company, incorporated by reference to
Exhibit 2.1 to Current Report on Form 8-K filed on October 9, 2003
(file no. 1-11848).
2.2 Life Coinsurance Retrocession Agreement by and between Allianz Life
Insurance of North America and RGA Reinsurance Company, incorporated
by reference to Exhibit 2.2 to Current Report on Form 8-K filed on
October 9, 2003 (file no. 1-11848).
3.1 Restated Articles of Incorporation, incorporated by reference to
Exhibit 3.1 of Current Report on Form 8-K filed June 30, 2004.
3.2 Bylaws of RGA, as amended, effective May 26, 2004.
10.1 Third Amendment effective as of May 26, 2004 to the RGA Flexible Stock
Plan, as amended and restated July 1, 1998
31.1 Certification of Chief Executive Officer pursuant to section 302 of
the Sarbanes-Oxley Act of 2002
31.2 Certification of Chief Financial Officer pursuant to section 302 of
the Sarbanes-Oxley Act of 2002
32.1 Certification of Chief Executive Officer pursuant to section 906 of
the Sarbanes-Oxley Act of 2002
32.2 Certification of Chief Financial Officer pursuant to section 906 of
the Sarbanes-Oxley Act of 2002
30