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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 MARCH 31, 2005
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 IDENTIFICATION NUMBER)
OF INCORPORATION OR ORGANIZATION)
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 APRIL 30, 2005: 62,628,356
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) March 31, 2005
and December 31, 2004 3
Condensed Consolidated Statements of Income (Unaudited)
Three months ended March 31, 2005 and 2004 4
Condensed Consolidated Statements of Cash Flows (Unaudited)
Three months ended March 31, 2005 and 2004 5
Notes to Condensed Consolidated Financial Statements (Unaudited) 6
2 Management's Discussion and Analysis of Financial Condition
and Results of Operations 11
3 Quantitative and Qualitative Disclosures About Market Risk 28
4 Controls and Procedures 28
PART II - OTHER INFORMATION
1 Legal Proceedings 28
2 Unregistered Sales of Equity Securities and Use of Proceeds 29
6 Exhibits 29
Signatures 30
Index to Exhibits 31
2
REINSURANCE GROUP OF AMERICA, INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
March 31, December 31,
2005 2004
------------- -------------
(Dollars in thousands)
ASSETS
Fixed maturity securities: $ 6,132,867 $ 6,023,696
Available-for-sale at fair value (amortized cost of $5,802,626 and
$5,634,757 at March 31, 2005 and December 31, 2004, respectively)
Mortgage loans on real estate 613,614 609,292
Policy loans 957,567 957,564
Funds withheld at interest 2,879,467 2,734,655
Short-term investments 26,856 31,964
Other invested assets 217,565 207,054
------------- -------------
Total investments 10,827,936 10,564,225
Cash and cash equivalents 135,022 152,095
Accrued investment income 76,185 58,076
Premiums receivable 394,309 376,298
Reinsurance ceded receivables 442,005 434,264
Deferred policy acquisition costs 2,286,902 2,225,974
Other reinsurance balances 154,216 159,440
Other assets 112,862 77,757
------------- -------------
Total assets $ 14,429,437 $ 14,048,129
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Future policy benefits $ 4,225,522 $ 4,097,722
Interest sensitive contract liabilities 5,006,930 4,900,600
Other policy claims and benefits 1,451,333 1,316,225
Other reinsurance balances 191,496 247,164
Deferred income taxes 582,909 561,985
Other liabilities 104,103 81,209
Short-term debt 55,409 56,078
Long-term debt 349,744 349,704
Company-obligated mandatorily redeemable preferred securities of subsidiary
trust holding solely junior subordinated debentures of the Company 158,450 158,417
------------- -------------
Total liabilities 12,125,896 11,769,104
Commitments and contingent liabilities - -
Stockholders' Equity:
Preferred stock (par value $.01 per share; 10,000,000 shares authorized; no
shares issued or outstanding) C - -
Common stock (par value $.01 per share; 140,000,000 shares authorized;
63,128,273 shares issued at March 31, 2005 and December 31, 2004) 631 631
Warrants 66,915 66,915
Additional paid-in-capital 1,047,667 1,046,515
Retained earnings 907,502 846,572
Accumulated other comprehensive income:
Accumulated currency translation adjustment, net of income taxes 85,292 93,691
Unrealized appreciation of securities, net of income taxes 210,825 244,675
------------- -------------
Total stockholders' equity before treasury stock 2,318,832 2,298,999
Less treasury shares held of 513,918 and 683,245 at cost at
March 31, 2005 and December 31, 2004, respectively (15,291) (19,974)
------------- -------------
Total stockholders' equity 2,303,541 2,279,025
------------- -------------
Total liabilities and stockholders' equity $ 14,429,437 $ 14,048,129
============= =============
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 March 31,
------------------------------
2005 2004
------------- -------------
(Dollars in thousands,
except per share data)
REVENUES:
Net premiums $ 901,820 $ 813,874
Investment income, net of related expenses 157,053 133,560
Realized investment gains, net 3,979 18,416
Change in value of embedded derivatives 22,561 1,522
Other revenues 10,803 11,850
------------- -------------
Total revenues 1,096,216 979,222
BENEFITS AND EXPENSES:
Claims and other policy benefits 738,053 647,054
Interest credited 55,053 47,018
Policy acquisition costs and other insurance expenses 143,976 143,068
Change in deferred acquisition costs associated with change in value
of embedded derivatives 15,708 4,200
Other operating expenses 33,006 33,529
Interest expense 9,885 9,538
------------- -------------
Total benefits and expenses 995,681 884,407
Income from continuing operations before income taxes 100,535 94,815
Provision for income taxes 33,271 31,821
------------- -------------
Income from continuing operations 67,264 62,994
Discontinued operations:
Loss from discontinued accident and health operations, net
of income taxes (707) (894)
------------- -------------
Income before cumulative effect of change in accounting principle 66,557 62,100
Cumulative effect of change in accounting principle,
net of income taxes - (361)
------------- -------------
Net income $ 66,557 $ 61,739
============= =============
BASIC EARNINGS PER SHARE:
Income from continuing operations $ 1.08 $ 1.01
Discontinued operations (0.02) (0.01)
Cumulative effect of change in accounting principle - (0.01)
------------- -------------
Net income $ 1.06 $ 0.99
============= =============
DILUTED EARNINGS PER SHARE:
Income from continuing operations $ 1.05 $ 1.00
Discontinued operations (0.01) (0.01)
Cumulative effect of change in accounting principle - (0.01)
------------- -------------
Net income $ 1.04 $ 0.98
============= =============
DIVIDENDS DECLARED PER SHARE $ 0.09 $ 0.06
============= =============
See accompanying notes to condensed consolidated financial statements
(unaudited).
4
REINSURANCE GROUP OF AMERICA, INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Three months ended March 31,
-----------------------------
2005 2004
------------- -------------
(Dollars in thousands)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 66,557 $ 61,739
Adjustments to reconcile net income to net cash provided by
operating activities:
Change in:
Accrued investment income (18,160) (15,266)
Premiums receivable (20,258) (30,878)
Deferred policy acquisition costs (60,503) (81,010)
Reinsurance ceded balances (7,740) 66,288
Future policy benefits, other policy claims and benefits, and
other reinsurance balances 229,280 263,242
Deferred income taxes 39,772 20,298
Other assets and other liabilities, net (11,374) (2,987)
Amortization of net investment discounts and other (5,256) (8,760)
Realized investment gains, net (3,982) (18,416)
Other, net 1,152 (7,193)
------------- -------------
Net cash provided by operating activities 209,488 247,057
CASH FLOWS FROM INVESTING ACTIVITIES:
Sales of fixed maturity securities - available for sale 376,380 373,726
Maturities of fixed maturity securities - available for sale 18,983 8,152
Purchases of fixed maturity securities - available for sale (563,294) (426,494)
Sales of mortgage loans - 13,927
Cash invested in mortgage loans on real estate (9,555) (41,276)
Cash invested in policy loans (4) (658)
Cash invested in funds withheld at interest (28,546) (29,165)
Principal payments on mortgage loans on real estate 5,142 4,367
Change in short-term investments and other invested assets (9,879) (16,182)
------------- -------------
Net cash used in investing activities (210,773) (113,603)
CASH FLOWS FROM FINANCING ACTIVITIES:
Dividends to stockholders (5,627) (3,733)
Borrowings under credit agreements - 4,600
Exercise of stock options 4,339 3,207
Excess deposits (payments) on universal life and other investment type
policies and contracts (12,918) 32,905
------------- -------------
Net cash provided by (used in) financing activities (14,206) 36,979
Effect of exchange rate changes (1,582) 832
------------- -------------
Change in cash and cash equivalents (17,073) 171,265
Cash and cash equivalents, beginning of period 152,095 84,586
------------- -------------
Cash and cash equivalents, end of period $ 135,022 $ 255,851
============= =============
Supplementary information:
Cash paid for interest $ 4,192 $ 7,698
Cash paid for income taxes $ 52,894 $ 18,008
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
three-month period ended March 31, 2005 are not necessarily indicative of the
results that may be expected for the year ending December 31, 2005. These
unaudited condensed consolidated financial statements should be read in
conjunction with the consolidated financial statements and notes thereto
included in the Company's 2004 Annual Report on Form 10-K ("2004 Annual Report")
filed with the Securities and Exchange Commission on March 3, 2005.
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 2005 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, as amended by SFAS 148, 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 MARCH 31,
----------------------------
(dollars in thousands, except per share information) 2005 2004
- ---------------------------------------------------- ----------- ------------
Net income as reported $ 66,557 $ 61,739
Add compensation expense included in net income,
net of income taxes 1,121 534
Deduct total fair value of compensation expense
for all awards, net of income taxes 1,475 1,156
----------- -----------
Pro forma net income $ 66,203 $ 61,117
Net income per share:
As reported - basic $ 1.06 $ 0.99
Pro forma - basic $ 1.06 $ 0.98
As reported - diluted $ 1.04 $ 0.98
Pro forma - diluted $ 1.04 $ 0.97
6
2. EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings per
share on income from continuing operations (dollars in thousands, except per
share information):
THREE MONTHS ENDED
------------------------------
MARCH 31, 2005 MARCH 31, 2004
-------------- --------------
Earnings:
Income from continuing operations (numerator for
basic and diluted calculations) $ 67,264 $ 62,994
Shares:
Weighted average outstanding shares (denominator
for basic calculation) 62,553 62,210
Equivalent shares from outstanding stock options 1,301 498
--------- ---------
Denominator for diluted calculation 63,854 62,708
Earnings per share:
Basic $ 1.08 $ 1.01
Diluted $ 1.05 $ 1.00
The calculation of equivalent shares from outstanding stock options does not
include the impact of options or warrants having a strike or conversion 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-month period ended March 31, 2005, approximately 0.3
million stock options and 0.3 million performance contingent shares were
excluded from the calculation. For the three months ended March 31, 2004,
approximately 0.1 million performance contingent shares and all outstanding
warrants were excluded from the calculation.
3. COMPREHENSIVE INCOME
The following schedule reflects the change in accumulated other comprehensive
income (dollars in thousands):
THREE MONTHS ENDED
------------------------------
MARCH 31, 2005 MARCH 31, 2004
-------------- --------------
Net income $ 66,557 $ 61,739
Accumulated other comprehensive income (loss), net of
income tax:
Unrealized gains (losses), net of reclassification
adjustment for gains (losses) included in net income (33,850) 57,465
Foreign currency items (8,399) (5,489)
----------- -----------
Comprehensive income $ 24,308 $ 113,715
=========== ===========
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 2004 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.
7
Information related to total revenues and income (loss) from continuing
operations before income taxes for each reportable segment are summarized below
(dollars in thousands).
INCOME (LOSS) FROM CONTINUING
TOTAL REVENUES OPERATIONS BEFORE INCOME TAXES
---------------------------- ------------------------------
THREE MONTHS ENDED MARCH 31, THREE MONTHS ENDED MARCH 31,
---------------------------- ------------------------------
2005 2004 2005 2004
------------ ------------ ------------ -------------
U.S. $ 716,576 $ 650,564 $ 65,984 $ 70,247
Canada 103,384 85,475 24,209 15,920
Europe & South Africa 144,008 122,344 14,758 6,260
Asia Pacific 124,169 108,256 4,772 6,797
Corporate and Other 8,079 12,583 (9,188) (4,409)
------------ ------------ ------------ ------------
Total $ 1,096,216 $ 979,222 $ 100,535 $ 94,815
------------ ------------ ------------ ------------
5. COMMITMENTS AND CONTINGENT LIABILITIES
The Company is currently a party to two arbitrations that involve its
discontinued accident and health business, including personal accident business
(including London market excess of loss business) and medical business. In
addition, the Company is currently a party to litigation that involves the claim
of a broker to commissions on a medical reinsurance arrangement. As of March 31,
2005, the companies involved in these actions raised claims, or established
reserves that may result in claims, in the amount of $4.8 million, which is $3.9
million in excess of the amounts held in reserve by the Company. The Company
generally has little information regarding any reserves established by ceding
companies, and must rely on management estimates to establish policy claim
liabilities. 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 may have threatened arbitration,
asserted claims, or indicated that they anticipate asserting claims in the
future against the Company in the amount of $30.3 million, which is $29.9
million in excess of the amounts held in reserve or retroceded by the Company as
of March 31, 2005. These claims appear to relate to life, personal accident
business (including London market excess of loss business), and workers'
compensation carve-out business. Depending upon the audit findings or other
developments in these cases, they could result in litigation or arbitrations in
the future. See Note 20, "Discontinued Operations" of the 2004 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. However, it is possible that an adverse outcome
could, from time to time, have a material adverse effect on the Company's
consolidated net income or cash flows in particular quarterly or annual periods.
The Company has reinsured privately owned pension funds that were formed as a
result of reform and privatization of Argentina's social security system. The
Company ceased renewal of reinsurance treaties associated with privatized
pension contracts in Argentina during 2001 because of adverse experience on this
business, as several aspects of the pension fund claims flow did not develop as
was contemplated when the reinsurance programs were initially priced. It is the
Company's position that actions of the Argentine government, which may affect
future results from this business for the Company, constitute 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"). The Company has filed a request for arbitration of its dispute
relating to these 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 "ICSID
Arbitration"). The request for arbitration was officially registered in November
of 2004.
In addition, because of the regulatory action that has accelerated payment of
the deferred disability claims, during the third quarter of 2004, the Company
formally notified the Administradoras de Fondos de Jubilaciones y
8
Pensiones ("AFJP") ceding companies that it will no longer make claim payments
it believes to be artificially inflated, as it has been doing for some time
under a reservation of rights, but rather will pay claims only on the basis of
the market value of the AFJP fund units. This formal notification could result
in litigation or arbitrations in the future. While it is not feasible to predict
or determine the ultimate outcome of the contemplated ICSID Arbitration, or
litigation or arbitrations that may occur in Argentina in the future, or provide
reasonable ranges of potential losses if the Argentine government continues with
its present course of action, it is the opinion of management, after
consultation with counsel, that their outcomes, after consideration of the
provisions made in the Company's financial statements, would not have a material
adverse effect on its consolidated financial position. However, it is possible
that an adverse outcome could, from time to time, have a material adverse effect
on the Company's consolidated net income or cash flows in particular quarterly
or annual periods.
6. EMPLOYEE BENEFIT PLANS
The components of net periodic benefit costs were as follows:
Three months ended March 31,
----------------------------------------------
Pension Benefits Other Benefits
---------------------- --------------------
(in thousands) 2005 2004 2005 2004
- ------------------------------------------- --------- --------- -------- --------
DETERMINATION OF NET PERIODIC BENEFIT COST:
Service cost $ 548 $ 442 $ 103 $ 94
Interest cost 382 316 99 91
Expected rate of return on plan assets (300) (192) -- --
Amortization of prior service cost 9 9 -- --
Amortization of prior actuarial loss 40 42 17 18
-------- -------- -------- --------
Net periodic benefit cost $ 679 $ 617 $ 219 $ 203
======== ======== ======== ========
The Company paid $1.7 million in pension contributions during the first quarter
of 2005 and expects this to be the only contribution for the year.
7. NEW ACCOUNTING STANDARDS
In December 2004, the Financial Accounting Standards Board ("FASB") revised SFAS
No. 123 "Accounting for Stock Based Compensation" ("SFAS 123") to "Share-Based
Payment" ("SFAS 123(r)"). SFAS 123(r) provides more guidance on determining
whether certain financial instruments awarded in share-based payment
transactions are liabilities. SFAS 123(r) also requires that the cost of all
share-based transactions should be recorded in the financial statements. The
revised pronouncement will be adopted by the Company during the first quarter of
2006. The Company expects SFAS 123(r) will increase compensation expense by $1.1
million in 2006.
In March 2004, the Emerging Issues Task Force ("EITF") of the FASB 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 November 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 No.
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 Company has complied with the
disclosure requirements of EITF 03-1 which were effective December 31, 2003. The
accounting guidance of EITF 03-1 relating to the recognition of investment
impairment which was to be effective in the third quarter of 2004 has been
delayed pending the development of additional guidance. The Company is actively
monitoring the deliberations relating to this issue at the FASB and currently is
unable to determine the impact of EITF 03-1 on its consolidated financial
statements. In conformity with existing generally accepted accounting
principles, the Company's gross unrealized losses totaling $47.3 million at
March 31, 2005 are reflected as a component of other comprehensive income on the
consolidated balance sheet. Depending on the ultimate guidance issued by the
FASB, including guidance regarding management's assertion about intent and
ability to hold available-for-sale investment securities, the Company could be
required to report these unrealized losses in a different manner, including
possibly reflecting these unrealized losses in the consolidated income
9
statement as other-than-temporary impairments, even if the unrealized losses are
attributable solely to interest rate movements.
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.
8. SUBSEQUENT EVENT
On January 31, 2005, MetLife announced an agreement to purchase Travelers Life &
Annuity and substantially all of Citigroup's international insurance business.
To help finance that transaction, MetLife indicated that it would consider
select asset sales, including its holdings of RGA's common stock. On April 22,
2005, MetLife further announced that since January 31, it had entered into
agreements for the sale of certain assets, and determined that it has sufficient
alternate means of financing the acquisition so that it now doesn't expect to
sell its interest in RGA in connection with that acquisition.
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 changed materially from
those discussed in our 2004 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 believe our sources of liquidity are sufficient to
cover the potential increase in claims payments on both a short-term and
long-term basis.
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
clients. Our 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. The Corporate and
Other segment results include the corporate investment activity, general
corporate expenses, interest expense of RGA, Argentine business in run-off 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
$5.7 million, or 6.0%, for the first quarter of 2005 compared to the first
quarter of 2004, primarily due to strong results in Canada and some of our other
international businesses offsetting poor mortality experience in the U.S.
Consolidated net premiums increased $87.9 million, or 10.8%, during the first
quarter of 2005.
Consolidated investment income, net of related expenses, increased $23.5
million, or 17.6%, during the first quarter of 2005, primarily due to a larger
invested asset base. Invested assets as of March 31, 2005 totaled $10.8 billion,
a 15.8% increase over March 31, 2004. While our invested asset base has grown
significantly since March 31, 2004, the average yield earned on investments
excluding funds withheld decreased from 5.83% during the first quarter of 2004
to 5.75% for the first quarter of 2005. 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 and credit spread environment and changes in the mix of
our underlying investments. Investment income and a portion of realized gains
(losses) are allocated to the segments based upon average assets and related
capital levels deemed appropriate to support the segment business volumes.
The effective tax rate on a consolidated basis was 33.1% for the first quarter
of 2005, compared to 33.6% for the prior-year period. The lower rate in the
current period was due to the realization of a tax receivable against which we
had initially established a valuation reserve of $1.6 million.
11
CRITICAL ACCOUNTING POLICIES
Our accounting policies are described in Note 2 in the 2004 Annual Report. We
believe our most critical accounting policies include the capitalization and
amortization of deferred acquisition costs; the establishment of liabilities for
future policy benefits, other policy claims and benefits, including incurred but
not reported claims; the valuation of investment impairments; and the
establishment of arbitration or litigation reserves. The balances of these
accounts are significant to our financial position and require extensive use of
assumptions and estimates, particularly related to the future performance of the
underlying business.
Additionally, for each of its reinsurance contracts, the Company must determine
if the contract provides indemnification against loss or liability relating to
insurance risk, in accordance with applicable accounting standards. The Company
must review all contractual features, particularly those that may limit the
amount of insurance risk to which the Company is subject or features that delay
the timely reimbursement of claims. If the Company determines that the
possibility of a significant loss from insurance risk will occur only under
remote circumstances, it records the contract under a deposit method of
accounting with the net amount payable/receivable reflected in other reinsurance
assets or liabilities on the consolidated balance sheets. Fees earned on the
contracts are reflected as other revenues, as opposed to net premiums, on the
consolidated statements of income.
Costs of acquiring new business, which vary with and are primarily related to
the production of new business, have been deferred to the extent that such costs
are deemed recoverable from future premiums or gross profits. Deferred policy
acquisition costs ("DAC") reflect our expectations about the future experience
of the business in force and include commissions and allowances as well as
certain costs of policy issuance and underwriting. Some of the factors that can
affect the carrying value of DAC include mortality assumptions, interest spreads
and policy lapse rates. We perform periodic tests to determine that DAC remains
recoverable, and the cumulative amortization is re-estimated and, if necessary,
adjusted by a cumulative charge or credit to current operations.
Liabilities for future policy benefits under long-term life insurance policies
(policy reserves) are computed based upon expected investment yields, mortality
and withdrawal (lapse) rates, and other assumptions, including a provision for
adverse deviation from expected claim levels. We primarily rely on our own
valuation and administration systems to establish policy reserves. The policy
reserves we establish may differ from those established by our ceding companies
(clients) due to the use of different mortality and other assumptions. However,
we rely on our clients to provide accurate data, including policy-level
information, premiums and claims, which is the primary information used to
establish reserves. Our administration departments work directly with our
clients to help ensure information is submitted by them in accordance with the
reinsurance contracts. Additionally, we perform periodic audits of the
information provided by ceding companies. We establish reserves for processing
backlogs with a goal of clearing all backlogs within a ninety-day period. The
backlogs are usually due to data errors we discover or computer file
compatibility issues, since much of the data reported to us is in electronic
format and is uploaded to our computer systems.
We periodically review actual historical experience and relative anticipated
experience compared to the assumptions used to establish policy reserves.
Further, we establish premium deficiency reserves if actual and anticipated
experience indicates that existing policy reserves together with the present
value of future gross premiums are not sufficient to cover the present value of
future benefits, settlement and maintenance costs and to recover unamortized
acquisition costs. The premium deficiency reserve is established along with a
charge to income, as well as a reduction to unamortized acquisition costs and,
to the extent there are no unamortized acquisition costs, an increase to future
policy benefits. Because of the many assumptions and estimates used in
establishing reserves and the long-term nature of our reinsurance contracts, the
reserving process, while based on actuarial science, is inherently uncertain. If
our assumptions, particularly on mortality, are not correct, our reserves may
not be adequate to pay claims and there could be a material adverse effect on
our results of operations and financial condition.
Other policy claims and benefits include claims payable for incurred but not
reported losses, which are determined using case basis estimates and lag studies
of past experience. These estimates are periodically reviewed and any
adjustments to such estimates, if necessary, are reflected in current
operations. The time lag from the date of the claim or death to the date when
the ceding company reports the claim to us can vary significantly by ceding
company and business segment, but generally averages around 2.5 months on a
consolidated basis. We update our analysis of incurred but not reported claims,
including lag studies, on a quarterly basis and adjust our claim liabilities
accordingly. The adjustments in a given period are generally not significant
relative to the overall policy
12
liabilities and may result in an increase or decrease in liabilities.
We primarily invest in fixed maturity securities. We monitor our fixed maturity
securities to determine potential impairments in value. In conjunction with our
external investment managers, we evaluate factors such as the financial
condition of the issuer, payment performance, the extent to which the market
value has been below amortized cost, compliance with covenants, general market
and industry sector conditions, the intent and ability to hold securities, and
various other subjective factors. Securities, based on management's judgments,
with an other-than-temporary impairment in value are written down to
management's estimate of fair value.
Differences in actual experience compared with the assumptions and estimates
utilized in the justification of the recoverability of DAC, in establishing
reserves for future policy benefits and claim liabilities, or in the
determination of other-than-temporary impairments to investment securities can
have a material effect on our results of operations and financial condition.
The Company is currently a party to various litigation and arbitrations. While
it is not feasible to predict or determine the ultimate outcome of the pending
litigation or arbitrations or even provide reasonable ranges of potential
losses, it is the opinion of management, after consultation with counsel, that
the outcomes of such litigation and arbitrations, 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. However,
it is possible that an adverse outcome could, from time to time, have a material
adverse effect on the Company's consolidated net income or cash flows in
particular quarterly or annual periods. See Note 20, "Discontinued Operations"
of the 2004 Annual Report for more information.
Further discussion and analysis of the results for 2005 compared to 2004 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 MARCH 31, 2005 (IN THOUSANDS)
NON-TRADITIONAL TOTAL
ASSET- FINANCIAL U.S.
TRADITIONAL INTENSIVE REINSURANCE OPERATIONS
------------ ------------ ----------- -----------
REVENUES:
Net premiums $ 566,894 $ 1,224 $ -- $ 568,118
Investment income, net of related expenses 55,231 58,272 41 113,544
Realized investment gains (losses), net (423) 3,504 -- 3,081
Change in value of embedded derivatives -- 22,561 -- 22,561
Other revenues 921 1,047 7,304 9,272
----------- ----------- ----------- -----------
Total revenues 622,623 86,608 7,345 716,576
BENEFITS AND EXPENSES:
Claims and other policy benefits 483,261 (1,684) 2 481,579
Interest credited 14,007 40,251 -- 54,258
Policy acquisition costs and other insurance expenses 71,017 13,369 2,624 87,010
Change in deferred acquisition costs associated with
change in value of embedded derivatives -- 15,708 -- 15,708
Other operating expenses 9,262 1,338 1,437 12,037
----------- ----------- ----------- -----------
Total benefits and expenses 577,547 68,982 4,063 650,592
Income before income taxes $ 45,076 $ 17,626 $ 3,282 $ 65,984
13
FOR THE THREE MONTHS ENDED MARCH 31, 2004 (IN THOUSANDS)
NON-TRADITIONAL TOTAL
ASSET- FINANCIAL U.S.
TRADITIONAL INTENSIVE REINSURANCE OPERATIONS
----------- ----------- ----------- -----------
REVENUES:
Net premiums $ 531,211 $ 1,182 $ -- $ 532,393
Investment income, net of related expenses 54,053 45,467 43 99,563
Realized investment gains, net 7,558 144 -- 7,702
Change in value of embedded derivatives -- 1,522 -- 1,522
Other revenues 1,334 1,670 6,380 9,384
----------- ----------- ----------- -----------
Total revenues 594,156 49,985 6,423 650,564
BENEFITS AND EXPENSES:
Claims and other policy benefits 430,891 (1,021) -- 429,870
Interest credited 12,078 34,494 -- 46,572
Policy acquisition costs and other insurance expenses 75,431 7,645 2,294 85,370
Change in deferred acquisition costs associated with
change in value of embedded derivatives -- 4,200 -- 4,200
Other operating expenses 11,724 1,159 1,422 14,305
----------- ----------- ----------- -----------
Total benefits and expenses 530,124 46,477 3,716 580,317
Income before income taxes $ 64,032 $ 3,508 $ 2,707 $ 70,247
Income before income taxes for the U.S. operations totaled $66.0 million in the
first quarter of 2005, compared to $70.2 million for the same period in 2004.
The decrease in income compared to same period prior year can be primarily
attributed to unfavorable mortality experience in the first quarter of 2005. An
increase in total business in-force for the Traditional sub-segment as well as
the change in fair value of embedded derivatives coupled with continued asset
growth in the Asset Intensive sub-segment led to the increased revenue growth
seen in the first quarter of 2005 compared to first quarter 2004.
Traditional Reinsurance
The U.S. Traditional sub-segment provides life reinsurance to domestic clients
for a variety of life products through yearly renewable term, coinsurance and
modified coinsurance agreements. These reinsurance arrangements may be either
facultative or automatic agreements. During the first three months of 2005,
production totaled $36.0 billion of face amount of new business, compared to
$44.2 billion for the first three months of 2004. Management believes industry
consolidation and the trend toward reinsuring mortality risks should continue to
provide opportunities for growth.
Income before income taxes for U.S. Traditional reinsurance decreased 29.6% for
the first quarter of 2005. This decrease was primarily due to unfavorable
mortality experience. Claims and other policy benefits, as a percentage of net
premiums (loss ratios), were 85.2% in the first quarter of 2005 compared to
81.1% in first quarter 2004. In addition, net realized investment losses of $0.4
million were reported compared to net realized investment gains of $7.6 million
for the same prior-year period.
Net premiums for U.S. Traditional reinsurance increased approximately $35.7
million during the first three months of 2005, or 6.7% over the same period in
2004. This increase in net premiums was driven by the growth of total U.S.
business in force, which totaled $1.0 trillion as of March 31, 2005, a 10.1%
increase over the amount in force on March 31, 2004.
Investment income and realized investment gains and losses are allocated to the
various operating segments based on average assets and related capital levels
deemed appropriate to support the segment business volumes. Investment
performance varies with the composition of investments and the relative
allocation of capital to the operating segments.
Loss ratios were 85.2% and 81.1% for the first three months of 2005 and 2004,
respectively. As stated previously, mortality experience for the quarter was
unfavorable and included an unusually high number of claims in excess of $1.0
million. Mortality experience is generally considered in-line with expectations
when the loss ratio is close to
14
80%. 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 cash value products, which have
a significant mortality component. The amount of interest credited fluctuates in
step with changes in deposit levels, cash surrender values and investment
performance. Income before taxes is affected by the spread between the
investment earnings and the interest credited. Interest credited expense during
the first quarter of 2005 totaled $14.0 million compared to $12.1 million during
the same period in 2004.
Policy acquisition costs and other insurance expenses, as a percentage of net
premiums, were 12.5% and 14.2% during the first quarter of 2005 and 2004,
respectively. Overall, these ratios are expected to fluctuate due to varying
allowance levels within coinsurance-type arrangements, as well as the
amortization pattern of previously capitalized amounts, which are subject to the
form of the reinsurance agreement and the underlying insurance policies.
Additionally, the mix of first year coinsurance business versus yearly renewable
term business can cause the percentage to fluctuate from period to period.
Other operating expenses, as a percentage of net premiums, were 1.6% and 2.2%
during the first quarter of 2005 and 2004, respectively. Operating expenses
decreased $2.5 million over same prior-year period. In the first quarter of
2004, approximately $2.0 million of one-time expenses associated with the
transferring of Allianz business to RGA were incurred. The expense ratio is
expected to fluctuate slightly from period to period, however, the addition of
the Allianz business as well as the size and maturity of the U.S. Operations
segment indicate it should remain fairly constant over the long term.
Asset-Intensive Reinsurance
The U.S. Asset-Intensive sub-segment assumes investment risk within underlying
annuities and corporate-owned life insurance policies. Most of these agreements
are coinsurance, coinsurance funds withheld or modified coinsurance of
non-mortality risks whereby the Company recognizes profits or losses primarily
from the spread between the investment earnings and the interest credited on the
underlying deposit liabilities.
In accordance with the provisions of Statement of Financial Accounting Standards
("SFAS") No. 133 Implementation Issue No. B36, "Embedded Derivatives: Modified
Coinsurance Arrangements and Debt Instruments That Incorporate Credit Risk
Exposures That Are Unrelated or Only Partially Related to the Creditworthiness
of the Obligor under Those Instruments" ("Issue B36"), the Company recorded a
change in value of embedded derivatives of $22.6 million within revenues and
$15.7 million of amortization of related deferred acquisition costs.
Income before income taxes increased during the first quarter of 2005 to $17.6
million compared to $3.5 million for the same period in 2004. Contributing to
this growth was an increase in capital gains of $3.4 million, a $9.5 million
increase for Issue B36 and continued growth in the size of the business. The
increase for Issue B36 can primarily be attributed to the general decrease in
credit spreads.
Total revenues, which are comprised primarily of investment income, increased
$36.6 million, or 73.3%, during the first three months of 2005 compared to the
same prior-year period. This increase was primarily due to continued growth in
the asset base for this sub-segment coupled with the change in Issue B36. The
average invested asset balance was $3.7 billion and $3.1 billion for the first
quarter of 2005 and 2004, respectively. The growth in the asset base is
primarily being driven by new business written on an existing annuity treaty.
Invested assets outstanding as of March 31, 2005 and 2004 were $3.7 billion and
$3.2 billion, of which $1.9 billion and $2.1 billion were funds withheld at
interest, respectively. Of the $1.9 billion funds withheld balance, 81% of the
assets are with one client.
Total expenses, which are comprised primarily of interest credited, policy
benefits, and acquisition costs increased $22.5 million, or 48.4%, during the
first quarter of 2005 compared to the same period in 2004. Contributing to this
increase were policy acquisition costs and interest credited expense, which
increased $5.7 million and $5.8 million, respectively. These increases were
primarily due to the aforementioned increase in the average invested asset base.
Finally, the change in amortization of deferred acquisition costs related to
Issue B36 increased $11.5 million over same prior-year period. As stated above,
the fair value of the derivatives is tied primarily to movements in credit
spreads.
15
Financial Reinsurance
The U.S. Financial Reinsurance sub-segment income consists primarily of net fees
earned on financial reinsurance transactions. The majority of the financial
reinsurance transactions assumed by the Company are retroceded to other
insurance companies. The fees earned from the assumption of the financial
reinsurance contracts are reflected in other revenues, and the fees paid to
retrocessionaires are reflected in policy acquisition costs and other insurance
expenses. Fees are also earned on brokered business in which the Company does
not participate in the assumption of the financial reinsurance. This income is
reflected in other revenues.
Income before income taxes increased $0.6 million, or 21.3%, during the first
quarter of 2005 compared to the same period in 2004. This increase was largely
due to two new deals booked in 2004.
At March 31, 2005 and 2004, the amount of reinsurance provided, as measured by
pre-tax statutory surplus, was $1.6 billion and $1.3 billion, respectively. The
pre-tax statutory surplus includes all business assumed or brokered by the
Company. Fees earned from this business can vary significantly depending on the
size of the transactions and the timing of their completion and therefore can
fluctuate from period to period.
CANADA OPERATIONS
The Company conducts reinsurance business in Canada through RGA Life Reinsurance
Company of Canada ("RGA Canada"), a wholly-owned subsidiary. RGA Canada assists
clients with capital management activity and mortality risk management, and is
primarily engaged in traditional individual life reinsurance, as well as group
reinsurance and non-guaranteed critical illness products.
FOR THE THREE MONTHS ENDED MARCH 31, (IN THOUSANDS)
2005 2004
-------- --------
REVENUES:
Net premiums $ 73,756 $ 60,148
Investment income, net of related expenses 28,760 23,980
Realized investment gains, net 834 1,309
Other revenues 34 38
-------- --------
Total revenues 103,384 85,475
BENEFITS AND EXPENSES:
Claims and other policy benefits 68,646 59,366
Interest credited 357 377
Policy acquisition costs and other insurance expenses 6,713 7,083
Other operating expenses 3,459 2,729
-------- --------
Total benefits and expenses 79,175 69,555
Income before income taxes $ 24,209 $ 15,920
Income before income taxes increased by $8.3 million or 52.1% in the first
quarter of 2005. The increase in 2005 was primarily the result of favorable
mortality experience in the current year, offset by a decrease in realized
investment gains of $0.5 million, or 3.0%. In addition, the Canadian dollar was
stronger against the U.S. dollar in 2005 than in 2004, causing an increase in
2005 of $1.8 million, or 11.3%, in income before income taxes.
Net premiums increased by $13.6 million, or 22.6%, in 2005, primarily due to new
business from new and existing treaties. In addition, a stronger Canadian dollar
resulted in an increase in net premiums of $5.1 million or 8.5% in 2005 relative
to 2004. Premium levels are 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 $4.8 million, or 19.9%, in 2005. Investment
performance varies with the composition of investments. In 2005, the increase in
investment income was mainly the result of a stronger
16
Canadian dollar, which resulted in an increase of $1.8 million, or 7.7%; an
increase in the invested asset base due to operating cash flows on traditional
reinsurance, which resulted in an increase of $1.2 million or 4.9%; and interest
on an increasing amount of funds withheld at interest related to one treaty,
which resulted in an increase of $0.6 million or 2.4%. Investment income also
includes an allocation to the segments based upon average assets and related
capital levels deemed appropriate to support business volumes. The amount of
investment income allocated to the Canadian operations was $2.0 million and $1.4
million in 2005 and 2004, respectively.
For the first quarter of 2005, the loss ratio for this segment was 93.1%
compared to 98.7% in 2004. The lower loss ratio for the current period is
primarily due to better mortality experience compared to the prior year.
Additionally, the current period ratio benefited from a $0.5 million reduction
in the liability for the December 2004 Indian Ocean tsunami claims. Claims
associated with that disaster have been lower than originally anticipated.
Historically, the loss ratio increased primarily as the result of several large
permanent level premium in-force blocks assumed in 1998 and 1997. These blocks
are mature blocks of permanent level premium business in which mortality as a
percentage of net premiums is expected to be higher than the historical ratios.
The nature of level premium permanent policies requires the Company to set up
actuarial liabilities and invest the amounts received in excess of early-year
mortality costs to fund claims in the later years when premiums, by design,
continue to be level as compared to expected increasing mortality or claim
costs. Claims and other policy benefits, as a percentage of net premiums and
investment income, were 67.0% during 2005 compared to 70.6% in 2004. 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 9.1% in 2005 and 11.8% in 2004. Policy acquisition costs and
other insurance expenses as a percentage of net premiums vary from period to
period primarily due to the mix of the business in the segment.
Other operating expenses increased $0.7 million or 26.8% in 2005. The increase
in 2005 is primarily attributable to the strengthening of the Canadian dollar.
EUROPE & SOUTH AFRICA OPERATIONS
The 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 MARCH 31, (IN THOUSANDS)
2005 2004
--------- ---------
REVENUES:
Net premiums $ 141,358 $ 117,203
Investment income, net of related expenses 2,555 1,544
Realized investment gains, net 43 3,159
Other revenues 52 438
--------- ---------
Total revenues 144,008 122,344
BENEFITS AND EXPENSES:
Claims and other policy benefits 96,332 81,997
Interest credited 363 --
Policy acquisition costs and other insurance expenses 26,396 29,031
Other operating expenses 5,660 4,682
Interest expense 499 374
--------- ---------
Total benefits and expenses 129,250 116,084
Income before income taxes $ 14,758 $ 6,260
17
Europe & South Africa net premiums increased $24.2 million, or 20.6%, during the
current quarter compared to the same period last year. This increase was
primarily the result of new business from both existing treaties and new
treaties, combined with the translation effects of a generally weaker U.S.
dollar. Several foreign currencies, particularly the British pound, the euro,
and the South African rand strengthened against the U.S. dollar in the current
quarter. The effect of the stronger local currencies was an increase in 2005 net
premiums of $5.3 million. Also, a portion of the growth of net premiums was due
to reinsurance of accelerated critical illness, primarily in the U.K. This
coverage provides a benefit in the event of a death from or the diagnosis of a
defined critical illness. Net premiums earned from this coverage totaled $50.9
million this quarter compared to $45.6 million during the first quarter of 2004.
Premium levels are significantly influenced by large transactions and reporting
practices of ceding companies and therefore can fluctuate from period to period.
Investment income increased $1.0 million this quarter compared to the same
period in 2004. This increase was primarily due to growth in the invested assets
in the U.K. and South Africa of $24.1 million and $20.7 million, respectively.
Investment performance varies with the composition of investments and the
relative allocation of capital to the operating segments.
Loss ratios were 68.1% and 70.0% for the first three months of 2005 and 2004,
respectively. 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 represented 18.7% and 24.8% for the current and
prior-year quarter, respectively. These percentages fluctuate due to timing of
client company reporting, 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 net premiums. Accordingly, the
change in the mixture of business during the current quarter caused the loss
ratio to slightly increase and caused the policy acquisition costs and other
insurance expenses as a percentage of net premiums to slightly decrease.
Other operating expenses increased 20.9% during this quarter compared to the
same period in 2004. This increase was due to higher costs associated with
maintaining and supporting the significant increase in business. As a percentage
of net premiums, other operating expenses were 4.0% during the first three
months of 2005 and 2004. The Company believes that sustained growth in net
premiums should lessen the burden of start-up expenses and expansion costs over
time.
18
ASIA PACIFIC OPERATIONS
The Asia Pacific segment has operations in Australia, Hong Kong, Japan,
Malaysia, New Zealand, South Korea, Taiwan and mainland China. The principal
types of reinsurance for this segment include life, critical care and illness,
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 in an effort to best meet the needs of the local client
companies.
FOR THE THREE MONTHS ENDED MARCH 31, (IN THOUSANDS)
2005 2004
-------- ---------
REVENUES:
Net premiums $118,207 $ 103,539
Investment income, net of related expenses 6,228 3,735
Realized investment gains (losses), net (79) 347
Other revenues (187) 635
-------- ---------
Total revenues 124,169 108,256
BENEFITS AND EXPENSES:
Claims and other policy benefits 90,660 74,845
Policy acquisition costs and other insurance expenses 23,655 21,530
Other operating expenses 4,674 4,742
Interest expense 408 342
-------- ---------
Total benefits and expenses 119,397 101,459
Income before income taxes $ 4,772 $ 6,797
Income before income taxes decreased 29.8% during the first quarter of 2005
compared to the same period in 2004. The decrease was primarily the result of
poor mortality experience in the Japan market. Income before income taxes for
Japan reflected a $5.4 million loss for the first quarter of 2005 compared to a
$1.0 million gain for the same period in 2004. This loss in Japan was partially
offset by an increase of approximately $2.5 million in net investment income in
the first quarter of 2005 compared to the same period in 2004, and modest
changes in the underwriting results of other Asia Pacific offices.
Net premiums grew $14.7 million, or 14.2%, during the current quarter, primarily
as a result of continued increases in the volume of business in Australia,
Japan, and Korea. The reinsurance of accelerated critical illness business,
primarily in Australia and Korea, contributed to the growth. This coverage
provides a benefit in the event of a death from or the diagnosis of a defined
critical illness. Net premiums earned from this coverage totaled $17.1 million
and $8.4 million in the first three months of 2005 and 2004, respectively.
Premium levels are significantly influenced by large transactions and reporting
practices of ceding companies and therefore can fluctuate from period to period.
Several foreign currencies, particularly the Korean won and the Australian
dollar, continued to strengthen against the U.S. dollar in the current quarter.
The overall effect of the strengthening of local Asia Pacific segment currencies
was an increase in first quarter 2005 net premiums of $2.8 million over the
comparable prior-year period.
Net investment income increased $2.5 million in the current quarter compared to
the prior-year quarter. This increase was primarily due to growth in the
invested assets in Australia and favorable exchange rates, along with an
increase in allocated investment income. Investment income and realized
investment gains and losses are allocated to the various operating segments
based on average assets and related capital levels deemed appropriate to support
the segment business volumes. Investment performance varies with the composition
of investments and the relative allocation of capital to the operating segments.
19
Other revenue includes the profit and fees associated with financial reinsurance
deals in Japan and Taiwan. The first quarter of 2005 includes the effects of the
recapture of a significant client treaty in Hong Kong.
Loss ratios were 76.7% and 72.3% for the first quarter of 2005 and 2004,
respectively. The current quarter loss ratio was higher primarily due to poor
mortality experience in Japan. The poor mortality in Japan was partially offset
by approximately $0.8 million due to a reduction in the liability for the
December 2004 Indian Ocean tsunami, as claim levels from that disaster have been
lower than originally anticipated. This percentage will fluctuate due to timing
of client company reporting, variations in the mixture of business being
reinsured and the relative maturity of the business. 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 during the first quarter of 2005 was 20.0%, consistent with the 20.8%
ratio for the same period in 2004. The ratio of policy acquisition costs and
other insurance expenses as a percentage of net premiums will generally decline
as the business matures. The percentage also fluctuates periodically due to
timing of client company reporting and variations in the mixture of business
being reinsured.
Other operating expenses decreased to 4.0% of net premiums in the current
quarter, from 4.6% in the comparable prior-year period. This decrease related to
lower consulting expenses in the current period. The Company believes that
sustained growth in net premiums should lessen the burden of start-up expenses
and expansion costs over time. The timing of the entrance into and development
of new markets in the growing Asia Pacific segment may cause other operating
expenses as a percentage of net premiums to be somewhat volatile over periods of
time.
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, Inc., 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, and an insignificant amount of direct
insurance operations in Argentina.
FOR THE THREE MONTHS ENDED MARCH 31, (IN THOUSANDS)
2005 2004
-------- -------
REVENUES:
Net premiums $ 381 $ 591
Investment income, net of related expenses 5,966 4,738
Realized investment gains, net 100 5,899
Other revenues 1,632 1,355
-------- -------
Total revenues 8,079 12,583
BENEFITS AND EXPENSES:
Claims and other policy benefits 836 976
Interest credited 75 69
Policy acquisition costs and other insurance expenses 202 54
Other operating expenses 7,176 7,071
Interest expense 8,978 8,822
-------- -------
Total benefits and expenses 17,267 16,992
Loss before income taxes $ (9,188) $(4,409)
Loss before income taxes increased $4.8 million to $9.2 million during the first
quarter of 2005 from $4.4 million during the same period in 2004. This increase
was primarily due to a $5.8 million decrease in unallocated realized investment
gains, offset in part by a $1.2 million increase in unallocated investment
income.
20
DISCONTINUED OPERATIONS
The discontinued accident and health division reported a loss, net of taxes, of
$0.7 million for the first quarter of 2005 compared to a loss, net of taxes, of
$0.9 million for the first quarter of 2004. As of March 31, 2005, amounts in
dispute or subject to audit exceed the Company's reserves by approximately $30.0
million. 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 indebtedness, and repurchases of RGA
common stock under a plan approved by the board of directors. The Company 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.
The Company believes that it has sufficient liquidity to fund its cash needs
under various scenarios that include the potential risk of the early recapture
of a reinsurance treaty by the ceding company and significantly higher than
expected death claims. Historically, the Company has generated positive net cash
flows from operations. However, in the event of significant unanticipated cash
requirements beyond normal liquidity, the Company has multiple liquidity
alternatives available based on market conditions and the amount and timing of
the liquidity need. These options include borrowings under committed credit
facilities, secured borrowings, the ability to issue long-term debt, capital
securities or common equity and, if necessary, the sale of invested assets
subject to market conditions.
Cash Flows
The Company's net cash flows provided by operating activities for the three
months ended March 31, 2005 and 2004 were $209.5 million and $247.1 million,
respectively. Cash flows from operating activities are affected by the timing of
premiums received, claims paid, and working capital changes. The $37.6 million
net decrease in operating cash flows during the first quarter of 2005 compared
to the same period in 2004 was primarily a result of cash outflows related to
claims, acquisition costs, income taxes and other operating expenses increasing
more than cash inflows related to premiums and investment income. Cash from
premiums and investment income increased $98.6 million and $20.6 million,
respectively, and was offset by higher operating cash outlays of $156.8 million
during the current quarter. 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 believes it maintains a high
quality fixed maturity portfolio with positive liquidity characteristics. These
securities are available for sale and could be sold if necessary to meet the
Company's short and long-term obligations.
Net cash used in investing activities was $210.8 million and $113.6 million in
the current quarter and the comparable prior-year quarter, respectively. The
increase in cash used in investing activities and, in particular, the purchases
of fixed maturity securities, primarily related to the management of the
Company's investment portfolios and the investment of excess cash generated by
operating and financing activities.
Net cash used in financing activities was $14.2 million in the first quarter of
2005 and net cash provided by financing activities was $37.0 million in the
first quarter of 2004. This change was largely due to net withdrawals from
universal life and other investment type policies and contracts of $12.9 million
during the current quarter compared to excess deposits or $32.9 million in 2004.
21
Debt and Preferred Securities
As of March 31, 2005, the Company had $405.2 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 March 31, 2005, the Company had $50.0 million
outstanding under this facility at a blended interest rate of 3.5%. 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 6.3%. Interest is expensed on the face amount, or $225 million, of the Trust
Preferred Securities at a rate of 5.75%. The Company's U.K. credit facility had
an outstanding balance of $28.4 million as of March 31, 2005. This facility
expires in May 2005 and the Company is currently in the process of renewing the
facility. The Company can give no assurances that it will be successful in
negotiating the renewal, and if successful, that the terms, including cost, will
be comparable to the current terms.
Asset / Liability Management
The Company actively manages its assets using an approach that is intended to
balance quality, diversification, asset/liability matching, liquidity and
investment return. The goals of the investment process are to optimize
after-tax, risk-adjusted investment income and after-tax, risk-adjusted total
return while managing the assets and liabilities on a cash flow and duration
basis.
The Company has established target asset portfolios for each major insurance
product, which represent the investment strategies intended to profitably fund
its liabilities within acceptable risk parameters. These strategies include
objectives for effective duration, yield curve sensitivity and convexity,
liquidity, asset sector concentration and credit quality.
The Company's liquidity position (cash and cash equivalents and short-term
investments) was $161.9 million and $184.1 million at March 31, 2005 and
December 31, 2004, respectively. Liquidity needs are determined from valuation
analyses conducted by operational units and are driven by product portfolios.
Annual evaluations of demand liabilities and short-term liquid assets are
designed to adjust specific portfolios, as well as their durations and
maturities, in response to anticipated liquidity needs.
The Company occasionally enters into sales of investment securities under
agreements to repurchase the same securities to help manage its short-term
liquidity requirements. These transactions are reported as collateralized
financings and the repurchase obligation is a component of other liabilities.
There were no agreements outstanding at December 31, 2004, and at March 31,
2005, there were $23.7 million in repurchase agreements outstanding.
Future Liquidity and Capital Needs
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.
INVESTMENTS
The Company had total cash and invested assets of $11.0 billion and $9.6 billion
at March 31, 2005 and 2004, 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
22
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 5.75%
during the first quarter of 2005, compared with 5.83% for the first quarter of
2004. See "Note 5 - INVESTMENTS" in the Notes to Consolidated Financial
Statements of the 2004 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 March 31, 2005,
approximately 97.9% 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 59.8% and 60.4% of fixed maturity
securities as of March 31, 2005 and 2004, respectively. These corporate
securities had an average Standard and Poor's ("S&P") rating of "A" at March 31,
2005.
Within the fixed maturity security portfolio, the Company holds approximately
$122.7 million in asset-backed securities at March 31, 2005, which include
credit card and automobile receivables, home equity loans, manufactured housing
bonds 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 and 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, current 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 did not record any other-than-temporary write-downs on fixed
maturity securities during the three months ending March 31, 2005. The Company
recorded other-than-temporary write-downs of $0.1 million for the three months
ending March 31, 2004. During the three months ended March 31, 2005, the Company
sold fixed maturity securities with a fair value of $162.7 million at a net loss
of $3.4 million.
The following table presents the total gross unrealized losses for 638 fixed
maturity securities and equity securities as of March 31, 2005, where the
estimated fair value had declined and remained below amortized cost by the
indicated amount (in thousands):
At March 31, 2005
-----------------------
Gross
Unrealized
Losses % of Total
---------- ----------
Less than 20% $47,302 100%
20% or more for less than six months - -%
20% or more for six months or greater - -%
------- ---
Total $47,302 100%
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.
23
The following tables presents the estimated fair values and gross unrealized
losses for the 638 fixed maturity securities and equity securities that have
estimated fair values below amortized cost as of March 31, 2005. 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 MARCH 31, 2005
--------------------------------------------------------------------------
EQUAL TO OR GREATER
LESS THAN 12 MONTHS THAN 12 MONTHS TOTAL
---------------------- ---------------------- --------------------------
Gross Gross Gross
Estimated Unrealized Estimated Unrealized Estimated Fair Unrealized
Fair Value Loss Fair Value Loss Value Loss
(in thousands) ---------- ---------- ---------- ---------- -------------- ----------
INVESTMENT GRADE SECURITIES:
COMMERCIAL AND INDUSTRIAL $ 696,838 $ 13,957 $ 35,046 $ 1,582 $ 731,884 $ 15,539
PUBLIC UTILITIES 170,934 3,229 3,075 205 174,009 3,434
ASSET-BACKED SECURITIES 32,919 500 4,500 32 37,419 532
CANADIAN AND CANADIAN PROVINCIAL
GOVERNMENTS 22,617 90 - - 22,617 90
MORTGAGE-BACKED SECURITIES 859,352 12,386 - - 859,352 12,386
FINANCE 382,422 9,432 12,050 478 394,472 9,910
U.S. GOVERNMENT AND AGENCIES 25,171 516 - - 25,171 516
FOREIGN GOVERNMENTS 118,129 949 - - 118,129 949
---------- ---------- ---------- ---------- -------------- ----------
INVESTMENT GRADE SECURITIES 2,308,382 41,059 54,671 2,297 2,363,053 43,356
---------- ---------- ---------- ---------- -------------- ----------
NON-INVESTMENT GRADE SECURITIES:
COMMERCIAL AND INDUSTRIAL 25,776 1,189 - - 25,776 1,189
PUBLIC UTILITIES 5,101 37 - - 5,101 37
FINANCE 1,149 35 - - 1,149 35
---------- ---------- ---------- ---------- -------------- ----------
NON-INVESTMENT GRADE SECURITIES 32,026 1,261 - - 32,026 1,261
---------- ---------- ---------- ---------- -------------- ----------
TOTAL FIXED MATURITY SECURITIES $2,340,408 $ 42,320 $ 54,671 $ 2,297 $ 2,395,079 $ 44,617
========== ========== ========== ========== ============== ==========
EQUITY SECURITIES $ 83,868 $ 2,683 $ - $ - $ 83,868 $ 2,683
========== ========== ========== ========== ============== ==========
The Company believes that the analysis of each security whose price has been
below market for twelve months or longer 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 March 31,
2005. The unrealized losses did not exceed 19.0% 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, each security
whose price has been below market for twelve months or longer is investment
grade.
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 March 31, 2005.
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
24
corresponding liabilities.
Funds withheld at interest comprised approximately 26.3% and 25.0% of the
Company's cash and invested assets as of March 31, 2005 and December 31, 2004,
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 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-".
Other invested assets represented approximately 2.0% of the Company's cash and
invested assets as of March 31, 2005 and December 31, 2004. Other invested
assets include derivative contracts, common stock, preferred stocks and limited
partnership interests. During the first quarter of 2005, the Company recorded an
other-than-temporary writedown of $1.3 million on its investments in limited
partnerships based on losses in the underlying holdings.
CONTRACTUAL OBLIGATIONS
The following table displays the Company's contractual obligations that have
materially changed since December 31, 2004 (in millions):
Payment Due by Period
-----------------------------------------------------------------
Less than
-----------
Contractual Obligations: Total 1 Year 1 - 3 Years 4 - 5 Years After 5 Years
- ------------------------ ------ ----------- ----------- ----------- -------------
Life claims payable(1) $735.3 $735.3 $ - $ - $ -
Limited partnerships 40.6 - 8.4 30.0 2.2
Structured investment contracts 26.6 4.8 6.7 15.1 -
Mortgage purchase commitments 15.5 15.5 - - -
------ ------ ----- ----- ----
Total $818.0 $755.6 $15.1 $45.1 $2.2
====== ====== ===== ===== ====
(1) Included in the other policy claims and benefits line item in the condensed
consolidated balance sheet.
The Company's insurance liabilities, including future policy benefits and
interest sensitive contract liabilities, represent future obligations, where the
timing of payment is unknown because the payment depends on an insurable event,
such as the death of an insured, or policyholder behavior, such as the surrender
or lapse of a policy. These future obligations are established based primarily
on actuarial principles and are reflected on the Company's consolidated balance
sheet, but have been excluded from the table above due to the uncertain timing
of payment.
MORTALITY RISK MANAGEMENT
In the normal course of business, the Company seeks to limit its exposure to
loss on any single insured and to recover a portion of benefits paid by ceding
reinsurance to other insurance enterprises or reinsurers under excess coverage
and coinsurance contracts. In the U.S., the Company retains a maximum of $6.0
million of coverage per individual life. For other countries, particularly those
with higher risk factors or smaller books of business, the Company
systematically reduces its retention. The Company has a number of retrocession
arrangements whereby certain business in force is retroceded on an automatic or
facultative basis.
25
Generally, RGA's insurance subsidiaries retrocede amounts in excess of their
retention to RGA Reinsurance Company ("RGA Reinsurance"), RGA Reinsurance
Company (Barbados) Ltd., or RGA Americas Reinsurance Company, Ltd. Retrocessions
are arranged through the Company's retrocession pools for amounts in excess of
its retention. The Company also retrocedes most of its financial reinsurance
business to other insurance companies to alleviate the strain on statutory
surplus created by this business. For a majority of the retrocessionaires that
were not rated, letters of credit or trust assets have been given as additional
security in favor of RGA Reinsurance. In addition, the Company performs annual
financial and in force reviews of its retrocessionaires to evaluate financial
stability and performance.
The Company has never experienced a material default in connection with
retrocession arrangements, nor has it experienced any material difficulty in
collecting claims recoverable from retrocessionaires; however, no assurance can
be given as to the future performance of such retrocessionaires or as to the
recoverability of any such claims.
The Company maintains two catastrophe insurance programs that renew on August
13th of each year. The current programs began August 13, 2004. The primary
program covers all of RGA's business worldwide and provides protection for
losses incurred during any event involving 10 or more insured deaths. Under this
program, RGA retains the first $50 million in claims, the catastrophe program
covers the next $30 million in claims, and RGA retains all claims in excess of
$80 million. This program covers terrorism related losses including those due to
nuclear, chemical or biological events. Under the second program, which covers
events involving 5 or more insured deaths, RGA retains the first $25 million in
claims, the catastrophe program covers the next $25 million in claims, and RGA
retains all claims in excess of $50 million. It covers only losses under U.S.
guaranteed issue (corporate owned life insurance, bank owned life insurance,
etc.) reinsurances and includes losses due to acts of terrorism, but excludes
terrorism losses due to nuclear, chemical and/or biological events. Both
programs are insured by several insurance companies and Lloyds Syndicates with
no single entity providing more than $13 million of coverage.
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 March 31, 2005 from
that disclosed in the 2004 Annual Report.
NEW ACCOUNTING STANDARDS
In December 2004, the Financial Accounting Standards Board ("FASB") revised SFAS
No. 123 "Accounting for Stock Based Compensation" ("SFAS 123") to "Share-Based
Payment" ("SFAS 123(r)"). SFAS 123(r) provides
26
more guidance on determining whether certain financial instruments awarded in
share-based payment transactions are liabilities. SFAS 123(r) also requires that
the cost of all share-based transactions should be recorded in the financial
statements. The revised pronouncement will be adopted by the Company during the
first quarter of 2006. The Company expects SFAS 123(r) will increase
compensation expense by $1.1 million in 2006.
In March 2004, the Emerging Issues Task Force ("EITF") of FASB 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 November 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 No. 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 Company has complied with the disclosure requirements of EITF
03-1 which were effective December 31, 2003. The accounting guidance of EITF
03-1 relating to the recognition of investment impairment which was to be
effective in the third quarter of 2004 has been delayed pending the development
of additional guidance. The Company is actively monitoring the deliberations
relating to this issue at the FASB and currently is unable to determine the
impact of EITF 03-1 on its consolidated financial statements. In conformity with
existing generally accepted accounting principles, the Company's gross
unrealized losses totaling $47.3 million at March 31, 2005 are reflected as a
component of other comprehensive income on the consolidated balance sheet.
Depending on the ultimate guidance issued by the FASB, including guidance
regarding management's assertion about intent and ability to hold
available-for-sale investment securities, the Company could be required to
report these unrealized losses in a different manner, including possibly
reflecting these unrealized losses in the consolidated income statement as
other-than-temporary impairments, even if the unrealized losses are attributable
solely to interest rate movements.
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.
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 strategies, earnings,
revenues, income or loss, ratios, 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) risks inherent in our risk
management and investment strategy, including changes in investment portfolio
yields 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 adequacy
of reserves relating to settlements, awards and terminated and discontinued
lines of business, (9) the stability of governments and economies in the markets
in which we operate, (10) competitive factors and competitors' responses to our
initiatives, (11) the success of our clients, (12) successful execution of our
entry into new markets, (13) successful development and introduction of new
products,
27
(14) our ability to successfully integrate and operate reinsurance business that
we acquire, including without limitation, the traditional life reinsurance
business of Allianz Life, (15) regulatory action that may be taken by state
Departments of Insurance with respect to us, MetLife, or its subsidiaries, (16)
our dependence on third parties, including those insurance companies and
reinsurers to which we cede some reinsurance, third-party investment managers
and others, (17) changes in laws, regulations, and accounting standards
applicable to us, our subsidiaries, or our business, and (18) 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. These forward-looking statements 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.
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
The Chief Executive Officer and the Chief Financial Officer have evaluated the
effectiveness of the design and operation of the Company's disclosure controls
and procedures as defined in Exchange Act Rule 13a-15(e) as of the end of the
period covered by this report. Based on that evaluation, the Chief Executive
Officer and the Chief Financial Officer concluded that these disclosure controls
and procedures were effective.
There was no change in the Company's internal control over financial reporting
as defined in Exchange Act Rule 13a-15(f) during the quarter ended March 31,
2005, that has materially affected, or is reasonably likely to materially
affect, the Company's internal control over financial reporting.
PART II - OTHER INFORMATION
ITEM 1.
LEGAL PROCEEDINGS
The Company is currently a party to two arbitrations that involve its
discontinued accident and health business, including personal accident business
(including London market excess of loss business) and medical business. In
addition, the Company is currently a party to litigation that involves the claim
of a broker to commissions on a medical reinsurance arrangement. As of March 31,
2005, the companies involved in these actions have raised claims, or established
reserves that may result in claims, in the amount of $4.8 million, which is $3.9
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 must rely on management estimates to establish policy
claim liabilities. 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 may have threatened
arbitration, asserted claims, or indicated that they anticipate asserting claims
in the future against the Company in the amount of $30.3 million, which is $29.9
million in excess of the amounts held in reserve or retroceded by the Company as
of March 31, 2005. These claims appear to relate to life, personal accident
business (including London market excess of loss business), and workers'
compensation carve-out business. Depending upon the audit findings or other
developments in these cases, they could result in litigation or arbitrations in
the future. See Note 20, "Discontinued Operations," in the Company's 2004 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. However, it is possible that an adverse
outcome could, from time to time,
28
have a material effect on the Company's consolidated net income or cash flows in
particular quarterly or annual periods.
In addition, as discussed in the Company's 2004 Annual Report, AFJP claims
payments are linked to AFJP fund unit values, which are artificially inflated
because of the regulatory intervention of the Argentine government. In view of
this fact, coupled with the acceleration of permanent disability payments,
during the third quarter of 2004, the Company formally notified the AFJP ceding
companies that it will no longer make artificially inflated claim payments, as
it has been doing for some time under a reservation of rights, but rather will
pay claims only on the basis of the market value of the AFJP fund units. This
formal notification could result in litigation or arbitrations in the future.
While it is not feasible to predict or determine the ultimate outcome of any
such future litigations 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 March
31, 2005, 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 6
EXHIBITS
See index to exhibits.
29
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 May 6, 2005
----------------------------------------------
A. Greig Woodring
President & Chief Executive Officer
(Principal Executive Officer)
By: /s/ Jack B. Lay May 6, 2005
----------------------------------------------
Jack B. Lay
Executive Vice President & Chief Financial Officer
(Principal Financial and Accounting Officer)
30
INDEX TO EXHIBITS
Exhibit
Number Description
- ------- -----------
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, incorporated by reference to Exhibit 3.2
of Quarterly Report on Form 10-Q filed August 6, 2004.
10.1* Summary of the salaries for the named executive officers of the
Company, incorporated by reference to Exhibit 10.1 to Form 8-K dated
March 2, 2005 (File No. 1-11848), filed March 8, 2005.
10.2* Summary of the award levels and performance goals under the
Management Incentive Plan for the named executive officers of the
Company, incorporated by reference to Exhibit 10.2 to Form 8-K dated
March 2, 2005 (File No. 1-11848), filed March 8, 2005.
10.3 Amendment No. 2 dated as of February 25, 2005 to First Amended and
Restated Credit Agreement dated as of May 23, 2003 between RGA, as
borrower, the financial institutions listed on the signature pages
thereof, The Bank of New York, as Administrative Agent, Bank of
America, N.A. and Fleet National Bank, as Co-Syndication Agents, and
Key Bank National Association, as Documentation Agent, incorporated
by reference to Exhibit 10.23 to Annual Report on Form 10-K, filed
March 3, 2005.
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
* Denotes management contract or compensatory plan arrangements.
31