| ALABAMA | 63-0761690 | ||
|---|---|---|---|
| (State or other jurisdiction of | (IRS Employer | ||
| incorporation or organization) | Identificiation No.) |
Indicate by check mark whether the Registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period that
the registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No[ ]
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
Number of shares of Common Stock, $10.00 par value, outstanding as of November 7, 2003: 250,000 shares.
The registrant meets the conditions set forth in General Instruction H(1)(a)and (b) of Form 10-Q and
PROTECTIVE LIFE AND ANNUITY INSURANCE COMPANY
INDEX
Part I. Financial Information:
Item 1. Financial Statements:
Report of Independent Auditors
Condensed Statements of Income for the Three and
Nine Months ended September 30, 2003 and 2002 (unaudited)
Condensed Balance Sheets as of September 30, 2003
(unaudited) and December 31, 2002
Condensed Statements of Cash Flows for the
Nine Months ended September 30, 2003 and 2002 (unaudited)
Notes to Condensed Financial Statements (unaudited)
Item 2. Management's Narrative Analysis of the Results of Operations
Item 4. Controls and Procedures
Part II. Other Information:
Item 6. Exhibits and Reports on Form 8-K
Signature
REPORT OF INDEPENDENT AUDITORS
To the Directors and
Share Owners
Protective Life and Annuity Insurance Company
We have reviewed the accompanying condensed balance sheet of Protective Life and Annuity Insurance Company as of September 30, 2003, and the related condensed statements of income for each of the three-month and nine-month periods ended September 30, 2003 and 2002, and the condensed statements of cash flows for the nine-month periods ended September 30, 2003 and 2002. These financial statements are the responsibility of the company’s management.
We conducted our review in accordance with standards established by the American Institute of Certified Public Accountants. A review of interim financial information consists principally of applying analytical procedures to financial data and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with auditing standards generally accepted in the United States of America, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should be made to the accompanying condensed interim financial statements for them to be in conformity with accounting principles generally accepted in the United States of America.
We previously audited in accordance with auditing standards generally accepted in the United States of America, the balance sheet as of December 31, 2002, and the related statements of income, share-owners’ equity, and cash flows for the year then ended (not presented herein), and in our report dated March 3, 2003, we expressed an unqualified opinion on those financial statements. In our opinion, the information set forth in the accompanying condensed balance sheet as of December 31, 2002, is fairly stated in all material respects in relation to the balance sheet from which it has been derived.
/s/PricewaterhouseCoopers
LLP
PricewaterhouseCoopers LLP
Birmingham, Alabama
November 7, 2003
PROTECTIVE LIFE AND ANNUITY INSURANCE COMPANY
CONDENSED STATEMENTS OF INCOME
(Unaudited)
Three Months Ended Nine Months Ended
September 30 September 30
2003 2002 2003 2002
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REVENUES
Premiums and policy fees $17,610,353 $12,998,040 $55,766,165 $36,072,174
Reinsurance ceded (11,180,601) (6,108,778) (35,866,491) (14,332,542)
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Premiums and policy fees, net of reinsurance ceded 6,429,752 6,889,262 19,899,674 21,739,632
Net investment income 9,840,689 9,348,179 30,698,992 26,952,791
Realized investment gains (losses) 1,106,032 (249,668) 3,384,562 (779,360)
Other income 6,545 6,378 149,199 8,591
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17,383,018 15,994,151 54,132,427 47,921,654
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BENEFITS AND EXPENSES
Benefits and settlement expenses
(net of reinsurance ceded:
three months: 2003 - $8,319,739; 2002 - $5,381,394
nine months: 2003 - $22,851,317; 2002 - $11,864,729) 8,143,085 9,174,577 24,264,248 25,776,996
Amortization of deferred policy acquisition costs 1,956,536 1,975,347 6,040,291 6,891,892
Other operating expenses (net of reinsurance ceded:
three months: 2003 - $(168,669); 2002 - $531,435
nine months: 2003 - $(1,566,318); 2002 - $480,373) 1,752,609 1,786,366 6,093,527 6,292,258
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11,852,230 12,936,290 36,398,066 38,961,146
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INCOME BEFORE INCOME TAX 5,530,788 3,057,861 17,734,361 8,960,508
Income tax expense 1,934,028 1,062,881 6,193,450 3,126,545
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NET INCOME $3,596,760 $1,994,980 $11,540,911 $5,833,963
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See notes to condensed financial statements
PROTECTIVE LIFE AND ANNUITY INSURANCE COMPANY
CONDENSED BALANCE SHEETS
September 30 December 31
2003 2002
(Unaudited)
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ASSETS
Investments:
Fixed maturities, at market
(amortized cost: 2003 - $610,964,301; 2002 - $466,924,086) $652,715,694 $488,701,807
Mortgage loans on real estate 1,643,618 1,793,590
Policy loans 53,846,245 54,807,151
Short-term investments 2,633,304 178,805,245
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Total investments 710,838,861 724,107,793
Cash 17,001,876 1,669,532
Accrued investment income 10,254,468 8,955,807
Accounts and premiums receivable, net of allowance
for uncollectible amounts 536,465 325,479
Reinsurance receivables 65,096,543 92,256,257
Deferred policy acquisition costs 94,849,696 104,779,582
Other assets 14,184 21,955
Assets related to separate accounts
Variable Annuity 10,165,057 8,382,367
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$908,757,150 $940,498,772
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LIABILITIES
Policy liabilities and accruals:
Future policy benefits and claims $501,470,233 $517,624,864
Unearned premiums 16,256,820 26,349,028
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517,727,053 543,973,892
Annuity deposits 57,510,054 60,080,082
Other policyholders' funds 2,766,021 6,025,066
Funds held-coinsurance 55,921,435 89,552,015
Other liabilities 14,640,424 14,214,260
Deferred income taxes 36,634,068 25,533,038
Liabilities related to separate accounts
Variable Annuity 10,165,057 8,382,367
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695,364,112 747,760,720
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COMMITMENTS AND CONTINGENT LIABILITIES - NOTE B
SHARE-OWNERS' EQUITY
Preferred Stock, $1.00 par value, shares authorized and issued: 2,000 2,000 2,000
Common Stock, $10.00 par value,
Shares authorized: 500,000
Shares issued and outstanding: 250,000 2,500,000 2,500,000
Additional paid-in capital 171,386,324 171,386,324
Retained earnings 20,884,076 9,343,166
Accumulated other comprehensive income:
Net unrealized gains on investments (net of income tax:
2003 - $10,026,497; 2002 - $5,118,918) 18,620,638 9,506,562
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213,393,038 192,738,052
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$908,757,150 $940,498,772
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See notes to condensed financial statements
PROTECTIVE LIFE AND ANNUITY INSURANCE COMPANY
CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
Nine Months Ended
September 30
2003 2002
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CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 11,540,911 $ 5,833,963
Adjustments to reconcile net income to net cash provided by
operating activities:
Realized investment (gains) losses (3,384,562) 779,360
Amortization of deferred policy acquisition costs 6,040,291 6,891,892
Capitalization of deferred policy acquisition costs (2,093,465) (1,643,281)
Deferred income tax 6,193,450 3,126,545
Interest credited to universal life and investment products 16,227,425 24,579,534
Policy fees assessed on universal life and investment products (25,560,549) (26,117,836)
Change in accrued investment income and other receivables 25,650,067 7,382,601
Change in policy liabilities and other policyholders' funds of traditional
life and health products (32,402,227) (1,085,040)
Change in funds held-coinsurance (33,630,580) (786,199)
Change in other liabilities 426,165 (4,537,271)
Other (net) 7,771 (1,318)
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Net cash (used in) provided by operating activities (30,985,303) 14,422,950
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CASH FLOWS FROM INVESTING ACTIVITIES
Maturities and principal reductions of investments
Investments available for sale 273,682,191 54,573,275
Other 1,110,878 577,349
Sale of investments
Investments available for sale 335,958,623 249,674,713
Cost of investments acquired
Investments available for sale (574,093,484) (338,302,871)
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Net cash provided by (used in) investing activities 36,658,208 (33,477,534)
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CASH FLOWS FROM FINANCING ACTIVITIES
Investment product deposits and change in universal life deposits 18,948,427 37,432,640
Investment product withdrawals (9,288,988) (20,583,010)
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Net cash provided by financing activities 9,659,439 16,849,630
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INCREASE (DECREASE) IN CASH 15,332,344 (2,204,954)
CASH AT BEGINNING OF PERIOD 1,669,532 4,284,257
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CASH AT END OF PERIOD $17,001,876 $2,079,303
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See notes to condensed financial statements
PROTECTIVE LIFE AND ANNUITY INSURANCE COMPANY
NOTES TO CONDENSED FINANCIAL STATEMENTS
(Unaudited)
NOTE A – BASIS OF PRESENTATION
The accompanying unaudited condensed financial statements of Protective Life and Annuity Insurance Company (“the Company”) have been prepared on the basis of accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the disclosures required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments (consisting only of normal recurring accruals) necessary for a fair statement have been included. Operating results for the nine month period ended September 30, 2003 are not necessarily indicative of the results that may be expected for the year ending December 31, 2003. The year-end condensed balance sheet data was derived from audited financial statements, but does not include all disclosures required by accounting principles generally accepted in the United States of America. For further information, refer to the financial statements and notes thereto included in the Company’s annual report on Form 10-K for the year ended December 31, 2002.
All outstanding shares of the Company’s common stock are owned by Protective Life Insurance Company (“Protective”), which is a wholly owned subsidiary of Protective Life Corporation (“PLC”). All outstanding shares of the Company’s preferred stock are owned by PLC.
NOTE B – COMMITMENTS AND CONTINGENT LIABILITIES
Under insurance guaranty fund laws, in most states insurance companies doing business therein can be assessed up to prescribed limits for policyholder losses incurred by insolvent companies. The Company does not currently believe such assessments will be materially different from amounts already provided for in the financial statements. Most of these laws do provide, however, that an assessment may be excused or deferred if it would threaten an insurer’s own financial strength.
A number of civil jury verdicts have been returned against insurers and other providers of financial services involving sales practices, alleged agent misconduct, failure to properly supervise representatives’ relationships with agents or other persons with whom the insurer does business, and other matters. Increasingly these lawsuits have resulted in the award of substantial judgments that are disproportionate to the actual damages, including material amounts of punitive and non-economic compensatory damages. In some states, juries, judges, and arbitrators have substantial discretion in awarding punitive and non-economic compensatory damages which creates the potential for unpredictable material adverse judgments or awards in any given lawsuit or arbitration. Arbitration awards are subject to very limited appellate review. In addition, in some class action and other lawsuits, companies have made material settlement payments. The Company, like other financial services companies, in the ordinary course of business, is involved in such litigation or, alternatively, in arbitration. Although the outcome of any such litigation or arbitration cannot be predicted, the Company believes that at the present time there are no pending or threatened lawsuits that are reasonably likely to have a material adverse effect on the financial position, results of operation, or liquidity of the Company.
NOTE C – OPERATING SEGMENTS
PLC, through its subsidiaries, operates several business segments. An operating segment is generally distinguished by products and/or channels of distribution. A brief description of each segment in which the Company operates follows:
| Life Marketing. The Life Marketing segment markets level premium term and term-like insurance, universal life, and variable universal life products on a national basis primarily through networks of independent agents and brokers, and in the “bank owned life insurance” market. |
| Acquisitions. The Acquisitions segment focuses on acquiring, converting, and servicing policies acquired from other companies. The segment’s primary focus is on life insurance policies sold to individuals. |
| Annuities. The Annuities segment manufactures, sells, and supports fixed annuity products. These products are primarily sold through stockbrokers, but are also sold through financial institutions and the Life Marketing segment’s sales force. Beginning in 2003, the Company is no longer marketing variable annuity products. |
| Asset Protection. The Asset Protection segment primarily markets credit life and disability insurance products through banks, consumer finance companies and automobile dealers. |
| Corporate and Other. The Company has an additional business segment herein referred to as Corporate and Other. The Corporate and Other segment primarily consists of net investment income and expenses not attributable to the segments above (including net investment income on unallocated capital). |
The Company uses the same accounting policies and procedures to measure operating segment income and assets as it uses to measure its net income and assets. The measure used by the Company’s chief operating decision maker to assess segment performance is operating income. Operating segment income is generally income before income tax, net of realized investment gains and losses. Premiums and policy fees, other income, benefits and settlement expenses, and amortization of deferred policy acquisition costs are attributed directly to each operating segment. Net investment income is allocated based on directly related assets required for transacting the business of that segment. Realized investment gains (losses) and other operating expenses are allocated to the segments in a manner which appropriately reflects the operations of that segment. Unallocated realized investment gains (losses) are deemed not to be associated with any specific segment.
Assets are allocated based on policy liabilities and deferred policy acquisition costs directly attributable to each segment.
There are no significant intersegment transactions.
The following table sets forth total operating segment income and assets for the period shown. Adjustments represent the inclusion of unallocated realized investment gains (losses) and the recognition of income tax expense. Asset adjustments represent the inclusion of assets related to discontinued operations.
Operating Segment Income for the
Nine Months Ended September 30, 2003
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Life
Marketing Acquisitions Annuities
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Premiums and policy fees $ 2,507,808 $30,069,926 $ 237,924
Reinsurance ceded (2,449,295) (13,106,178)
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Net of reinsurance ceded 58,513 16,963,748 237,924
Net investment income 29,854 21,948,904 2,789,867
Realized investment gains (losses) 262,490
Other income (5,045) 17,613
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Total revenue 88,367 38,907,607 3,307,894
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Benefits and settlement expenses (58,639) 19,543,055 3,010,433
Amortization of deferred policy acquisition cost 259,529 4,984,842 209,070
Other operating expenses (573,248) 6,394,212 134,135
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Total benefits and expenses (372,358) 30,922,109 3,353,638
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Income before income tax 460,725 7,985,498 (45,744)
Less: realized investment gains (losses) 262,490
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Operating income 460,725 7,985,498 (308,234)
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Corporate
Asset and Total
Protection Other Adjustments Consolidated
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Premiums and policy fees $22,950,507 $55,766,165
Reinsurance ceded (20,311,018) (35,866,491)
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Net of reinsurance ceded 2,639,489 19,899,674
Net investment income 370,711 $5,559,656 30,698,992
Realized investment gains (losses) $3,122,072 3,384,562
Other income 136,631 149,199
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Total revenue 3,010,200 5,696,287 3,122,072 54,132,427
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Benefits and settlement expenses 1,769,399 24,264,248
Amortization of deferred policy acquisition cost 586,850 6,040,291
Other operating expenses 113,788 24,640 6,093,527
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Total benefits and expenses 2,470,037 24,640 36,398,066
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Income before income tax 540,163 5,671,647 3,122,072 17,734,361
Less: realized investment gains (losses)
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Operating income 540,163 5,671,647
Income tax expense 6,193,450 6,193,450
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Net income $11,540,911
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Operating Segment Income for the
Three Months Ended September 30, 2003
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Life
Marketing Acquisitions Annuities
Premiums and policy fees $ 978,362 $ 9,806,651 $ 74,045
Reinsurance ceded (905,587) (4,404,257)
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Net of reinsurance ceded 72,775 5,402,394 74,045
Net investment income 6,730 7,064,121 919,847
Realized investment gains (losses) 112,670
Other income 6,545
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Total revenue 79,505 12,466,515 1,113,107
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Benefits and settlement expenses 52,342 6,645,332 1,004,094
Amortization of deferred policy acquisition cost (3,423) 1,648,941 112,573
Other operating expenses (347,526) 1,973,992 48,459
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Total benefits and expenses (298,607) 10,268,265 1,165,126
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Income before income tax 378,112 2,198,250 (52,019)
Less: realized investment gains (losses) 112,670
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Operating income 378,112 2,198,250 (164,689)
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Corporate
Asset and Total
Protection Other Adjustments Consolidated
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Premiums and policy fees $6,751,295 $17,610,353
Reinsurance ceded (5,870,757) (11,180,601)
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Net of reinsurance ceded 880,538 6,429,752
Net investment income 127,556 $1,722,435 9,840,689
Realized investment gains (losses) $ 993,362 1,106,032
Other income 6,545
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Total revenue 1,008,094 1,722,435 993,362 17,383,018
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Benefits and settlement expenses 441,317 8,143,085
Amortization of deferred policy acquisition cost 198,445 1,956,536
Other operating expenses 42,685 34,999 1,752,609
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Total benefits and expenses 682,447 34,999 11,852,230
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Income before income tax 325,647 1,687,436 993,362 5,530,788
Less: realized investment gains (losses)
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Operating income 325,647 1,687,436
Income tax expense 1,934,028 1,934,028
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Net income $3,596,760
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Operating Segment Income for the
Nine Months Ended September 30, 2002
Life
Marketing Acquisitions Annuities
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Premiums and policy fees $654,130 $32,702,177 $ 121,780
Reinsurance ceded (537,723) (13,767,961)
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Net of reinsurance ceded 116,407 18,934,216 121,780
Net investment income 1,734 23,129,313 2,743,405
Realized investment gains (losses) 79,720
Other income 5,071 3,520
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Total revenue 118,141 42,068,600 2,948,425
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Benefits and settlement expenses 147,576 21,554,861 2,642,074
Amortization of deferred policy acquisition cost 43,124 5,775,028 577,902
Other operating expenses (104,340) 6,241,822 154,882
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Total benefits and expenses 86,360 33,571,711 3,374,858
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Income before income tax 31,781 8,496,889 (426,433)
Less: realized investment gains (losses) 79,720
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Operating income 31,781 8,496,889 (506,153)
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Corporate
Asset and Total
Protection Other Adjustments Consolidated
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Premiums and policy fees $2,594,087 $36,072,174
Reinsurance ceded (26,858) (14,332,542)
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Net of reinsurance ceded 2,567,229 21,739,632
Net investment income 429,571 $648,768 26,952,791
Realized investment gains (losses) $ (859,080) (779,360)
Other income 8,591
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Total revenue 2,996,800 648,768 (859,080) 47,921,654
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Benefits and settlement expenses 1,432,485 25,776,996
Amortization of deferred policy acquisition cost 495,838 6,891,892
Other operating expenses 91,344 (91,450) 6,292,258
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Total benefits and expenses 2,019,667 (91,450) 38,961,146
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Income before income tax 977,133 740,218 (859,080) 8,960,508
Less: realized investment gains (losses)
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Operating income 977,133 740,218
Income tax expense 3,126,545 3,126,545
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Net income $5,833,963
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Operating Segment Income for the
Three Months Ended September 30, 2002
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Life
Marketing Acquisitions Annuities
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Premiums and policy fees $ 289,921 $11,770,967 $ 44,904
Reinsurance ceded (395,020) (5,713,054)
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Net of reinsurance ceded (105,099) 6,057,913 44,904
Net investment income 1,942 7,864,982 984,708
Realized investment gains (losses) 13,443
Other income 5,071 1,307
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Total revenue (103,157) 13,927,966 1,044,362
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Benefits and settlement expenses 115,853 7,582,972 1,021,216
Amortization of deferred policy acquisition cost 57,829 1,752,875 (1,706)
Other operating expenses (217,419) 1,955,356 35,751
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Total benefits and expenses (43,737) 11,291,203 1,055,261
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Income before income tax (59,420) 2,636,763 (10,899)
Less: realized investment gains (losses) 13,443
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Operating income (59,420) 2,636,763 (24,342)
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Corporate
Asset and Total
Protection Other Adjustments Consolidated
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Premiums and policy fees $ 892,248 $12,998,040
Reinsurance ceded (704) (6,108,778)
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Net of reinsurance ceded 891,544 6,889,262
Net investment income 145,671 $350,876 9,348,179
Realized investment gains (losses) $ (263,111) (249,668)
Other income 6,378
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Total revenue 1,037,215 350,876 (263,111) 15,994,151
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Benefits and settlement expenses 454,536 9,174,577
Amortization of deferred policy acquisition cost 166,349 1,975,347
Other operating expenses 33,350 (20,672) 1,786,366
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Total benefits and expenses 654,235 (20,672) 12,936,290
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Income before income tax 382,980 371,548 (263,111) 3,057,861
Less: realized investment gains (losses)
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Operating income 382,980 371,548
Income tax expense 1,062,881 1,062,881
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Net income $1,994,980
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Operating Segment Assets
September 30, 2003
- ------------------------------------------------------------------------------------------------------------------------------------
Life
Marketing Acquisitions Annuities
- ------------------------------------------------------------------------------------------------------------------------------------
Investments and other assets $2,330,237 $594,040,745 $51,953,650
Deferred policy acquisition costs 1,687,413 89,224,230 2,388,533
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Total assets $4,017,650 $683,264,975 $54,342,183
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Corporate
Asset and
Protection Other Adjustments Total
- ------------------------------------------------------------------------------------------------------------------------------------
Investments and other assets $47,913,291 $117,547,808 $121,723 $813,907,454
Deferred policy acquisition costs 1,549,520 94,849,696
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Total assets 49,462,811 $117,547,808 $121,723 $908,757,150
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Operating Segment Assets
December 31, 2002
- ------------------------------------------------------------------------------------------------------------------------------------
Life
Marketing Acquisitions Annuities
- ------------------------------------------------------------------------------------------------------------------------------------
Investments and other assets $ 523,211 $600,231,727 $54,071,804
Deferred policy acquisition costs 583,131 100,007,935 2,581,309
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Total assets $1,106,342 $700,239,662 $56,653,113
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Corporate
Asset and
Protection Other Adjustments Total
- ------------------------------------------------------------------------------------------------------------------------------------
Investments and other assets $78,120,621 $99,048,739 $3,723,088 $835,719,190
Deferred policy acquisition costs 1,607,207 104,779,582
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Total assets $79,727,828 $99,048,739 $3,723,088 $940,498,772
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NOTE D – STATUTORY REPORTING PRACTICES
Financial statements prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”) differ in some respects from the statutory accounting practices prescribed or permitted by insurance regulatory authorities. In accordance with statutory accounting reporting practices, at September 30, 2003, and for the nine months then ended, the Company had share-owners’ equity of $120.0 million and net income of $18.9 million.
NOTE E – COMPREHENSIVE INCOME
The following table sets forth the Company's comprehensive income for the periods shown:
- -------------------------------------------------------------------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30 September 30
2003 2002 2003 2002
- -------------------------------------------------------------------------------------------------------------------------------
Net income $ 3,596,760 $1,994,980 $11,540,911 $ 5,833,963
Change in net unrealized gains/losses
on investments (net of income tax:
three months: 2003 - $(3,182,797); 2002 - $3,394,269;
nine months: 2003 - $6,092,176; 2002 - $4,061,110) (5,910,909) 6,303,644 11,314,041 7,542,062
Reclassification adjustment for amounts
included in net income (net of income tax:
three months: 2003 -$(387,111); 2002 $87,384;
nine months: 2003 - $(1,184,597); 2002 - $272,776) (718,920) 162,284 (2,199,965) 506,584
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Comprehensive income (loss) $(3,033,069) $8,460,908 $20,654,987 $13,882,609
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NOTE F – RECLASSIFICATIONS
Certain reclassifications have been made in the previously reported financial statements and accompanying notes to make the prior year amounts comparable to those of the current year. Such reclassifications had no effect on previously reported net income, total assets, or share-owners’ equity.
NOTE G – RECENTLY ISSUED ACCOUNTING STANDARDS
In April 2003, the Derivatives Implementation Group of the Financial Accounting Standards Board (FASB) cleared 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” (DIG B36). DIG B36 requires the bifurcation of embedded derivatives within modified coinsurance and funds withheld coinsurance arrangements that expose the creditor to credit risk of a company other than the debtor, even if the debtor owns as investment assets the third-party securities to which the creditor is exposed. The effective date of the implementation guidance in DIG B36 is for the first fiscal quarter beginning after September 15, 2003, and should be applied on a prospective basis. The Company is currently evaluating the impact of this pronouncement on its financial statements, but does not anticipate a material impact on its financial condition or results of operations.
In April 2003, the FASB issued SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities.” SFAS No. 149 amends and clarifies accounting for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities under Statement 133. This Statement is effective for contracts entered into or modified after June 2003, and should be applied prospectively. The adoption of SFAS No. 149 did not have a material effect on the Company’s financial position or results of operations.
In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity.” SFAS No. 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. The adoption of SFAS No. 150 did not have a material effect on the Company’s financial position or results of operations.
In July 2003, the American Institute of Certified Public Accountants 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 is effective for fiscal years beginning after December 15, 2003. SOP 03-1 provides guidance related to the reporting and disclosure of certain insurance contracts and separate accounts, including the calculation of guaranteed minimum death benefits (GMDB). SOP 03-1 also addresses the capitalization and amortization of sales inducements to contract holders. The Company is currently evaluating the impact of SOP 03-1, but does not anticipate a material impact on its financial condition or results of operations.
In January 2003, the FASB issued FASB Interpretation No. (FIN) 46 “Consolidation of Variable Interest Entities.” FIN 46 clarifies the application of Accounting Research Bulletin No. 51, “Consolidated Financial Statements,” to certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated support from the other parties. The FASB has deferred implementation of FIN 46 for variable interest entities (VIEs) created before February 1, 2003, until periods ending after December 15, 2003. The Company does not expect that FIN 46 will have a material impact on its financial condition or results of operations.
ITEM 2. MANAGEMENT’S NARRATIVE ANALYSIS OF THE
RESULTS OF OPERATIONS
Protective Life and Annuity Insurance Company (“the Company”), a stock life insurance company, was founded in 1978. Since 1983, all outstanding shares of the Company’s common stock have been owned by Protective Life Insurance Company (“Protective”), which is a wholly owned subsidiary of Protective Life Corporation (“PLC”), an insurance holding company whose common stock is traded on the New York Stock Exchange under the symbol “PL”. All outstanding shares of the Company’s preferred stock are owned by PLC. The Company is authorized to transact insurance business as an insurance company or a reinsurance company in 49 states, including New York.
In accordance with General Instruction H(2)(a), the Company includes the following analysis with the reduced disclosure format.
For a more complete understanding of the Company’s business and its current period results, please read the following Management’s Narrative Analysis of the Results of Operations in conjunction with the Company’s latest annual report on Form 10-K and other filings with the SEC.
PLC, through its subsidiaries, provides financial services through the production, distribution, and administration of insurance and investment products. PLC, through its subsidiaries, operates several business segments each having a strategic focus. An operating segment is generally distinguished by products and/or channels of distribution.
The Company, since it is licensed in the State of New York, is the entity through which PLC markets, distributes, and services insurance and annuity products in New York. As of September 30, 2003, the Company was involved in the businesses of four of PLC’s operating segments: Life Marketing, Acquisitions, Annuities, and Asset Protection. The Company has an additional business segment which is described herein as Corporate and Other.
Protective has entered into an intercompany guaranty agreement, enforceable by the Company or its successors, whereby Protective has guaranteed the Company’s payment of claims made by the holders of Company policies according to the terms of such policies. The guarantee will remain in force until the earlier of (a) when the Company achieves a claims-paying rating equal to or better than Protective without the benefit of any intercompany guaranty agreement or (b) 90 days after the guaranty agreement is revoked by written instrument; provided, however, even after any revocation or termination by such notice, the guarantee shall remain effective as to policies issued during the existence of the guaranty agreement.
This report reviews the Company’s financial condition and results of operations including its liquidity and capital resources. Historical information is presented and discussed. Where appropriate, factors that may affect future financial performance are also identified and discussed. Certain statements made in this report include “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include any statement that may predict, forecast, indicate or imply future results, performance or achievements instead of historical facts and may contain words like “believe,” “expect,” “estimate,” “project,” “budget,” “forecast,” “anticipate,” “plan,” “will,” “shall,” “may,” and other words, phrases, or expressions with similar meanings. Forward-looking statements involve risks and uncertainties which may cause actual results to differ materially from the results contained in the forward-looking statements, and the Company cannot give assurances that such statements will prove to be correct. Given these risks and uncertainties, investors should not place undue reliance on forward-looking statements as a prediction of actual results. Please refer to Exhibit 99(a), incorporated by reference herein, for more information about factors which could affect future results.
The following discussion and analysis primarily relates to the nine months ended September 30, 2003, as it compares to the same period last year. Unless otherwise noted, the general factors discussed also apply to the quarter ended September 30, 2003, as it compares to the same quarter last year. Where needed for a more complete understanding of the Company’s operating results, information related to the quarters ended September 30, 2003, and September 30, 2002, has been provided.
The Company’s results may fluctuate from period to period due to fluctuations in mortality, persistency, claims, expenses, interest rates, and other factors. Therefore, it is management’s opinion that quarterly operating results for an insurance company are not necessarily indicative of results to be achieved in future periods, and that a review of operating results over a longer period is necessary to assess an insurance company’s performance.
Revenues
The following table sets forth revenues by source for the periods shown:
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Three Months Ended Nine Months Ended
September 30 September 30
2003 2002 2003 2002
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Premiums and policy fees, net of reinsurance $ 6,429,752 $ 6,889,262 $19,899,674 $21,739,632
Net investment income 9,840,689 9,348,179 30,698,992 26,952,791
Realized investment gains (losses) 1,106,032 (249,668) 3,384,562 (779,360)
Other income 6,545 6,378 149,199 8,591
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$17,383,018 $15,994,151 $54,132,427 $47,921,654
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Premiums and policy fees, net of reinsurance (“premiums and policy fees”) decreased $1.8 million or 8.5% in the first nine months of 2003 from the first nine months of 2002. Premiums and policy fees in the Acquisitions Division are expected to decline with time unless new acquisitions are made. No acquisitions were made in this Division in 2002 or the first nine months of 2003, therefore decreases in older acquired policies resulted in a decrease of $2.0 million in the first nine months of 2003 as compared with the first nine months of 2002. Premiums and policy fees in both the Annuities and Asset Protection segments increased $0.1 million in the first nine months of 2003 as compared to 2002, while premiums and policy fees in the Life Marketing segment decreased $0.1 million for the same period.
Net investment income in the first nine months of 2003 increased by $3.7 million as compared to the corresponding period of the preceding year primarily due to increases in the average amount of invested assets. The percentage earned on average cash and investments was 5.6% in the first nine months of 2003 compared to 6.7% in the first nine months of 2002. Investment returns have been negatively affected by higher prepayments on mortgage-backed securities and mortgage loans, and lower interest rates.
The Company generally purchases its investments with the intent to hold to maturity by purchasing investments that match future cash-flow needs. The sales of investments that have occurred generally result from portfolio management decisions to maintain proper matching of assets and liabilities. Accordingly, the Company has classified its fixed maturities and certain other securities as “available for sale.”
Realized investment gains were approximately $3.4 million in the first nine months of 2003. During the first nine months of 2003, the Company recorded other than temporary impairments on its investments of $0.3 million as compared to $3.8 million in the first nine months of 2002. Realized investment losses were approximately $0.8 million in the first nine months of 2002.
Each quarter the Company reviews investments with material unrealized losses and tests for other-than-temporary impairments. Management analyzes various factors to determine if any specific other-than-temporary asset impairments exist. Once a determination has been made that a specific other-than-temporary impairment exists, a realized loss is recognized and the cost basis of the impaired asset is adjusted to its fair value. An other-than-temporary impairment loss is recognized based upon all relevant facts and circumstances for each investment. With respect to unrealized losses due to issuer-specific events, the Company considers the creditworthiness and financial performance of the issuer and other available information. With respect to unrealized losses that are not due to issuer-specific events, such as losses due to interest rate fluctuations, general market conditions or industry-related events, the Company considers its intent and ability to hold the investment to allow for a market recovery or to maturity together with an assessment of the likelihood of full recovery.
The Company reported an increase in the amount of other income in the first nine months of 2003 of $0.1 million as compared to the first nine months of 2002.
Income Before Income Tax and Operating IncomeConsistent with the Company’s segment reporting in the Notes to Condensed Financial Statements, management evaluates the results of the Company’s segments on a before-income-tax basis as adjusted for certain items which management believes are not indicative of the segment’s core operations. Segment operating income (loss) excludes net realized investment gains and losses because fluctuations in these items are due to changes in interest rates and other financial market factors instead of mortality and morbidity. Also, segment operating income (loss) excludes discontinued operations, extraordinary items, and the cumulative effect of changes in accounting principles. Although the items excluded from segment operating income (loss) may be significant components in understanding and assessing the Company’s overall financial performance, management believes that segment operating income (loss) enhances an investor’s understanding of the Company’s results of operations by highlighting the income (loss) attributable to the normal, recurring operations of the insurance business (i.e., mortality and morbidity), consistent with industry practice. However, the Company’s segment income (loss) measures may not be comparable to similarly titled measures reported by other companies. Segment operating income (loss) should not be construed as a substitute for net income (loss) determined in accordance with accounting principles generally accepted in the United States of America (GAAP). “Total income before income tax” is a GAAP measure to which the non-GAAP measure “total operating income” may be compared. Unlike total operating income, total income before income tax includes net realized investment gains and losses and the related amortization of deferred policy acquisition costs. In the Life Marketing, Acquisitions, Asset Protection, and Corporate and Other segments, operating income equals segment income before income tax for all periods. In the Annuities segment, operating income excludes realized investment gains and losses.
The following table sets forth operating income or loss and income or loss before income tax by business segment for the
periods shown:
Operating Income (Loss) and Income (Loss) Before Income Tax
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Three Months Ended Nine Months Ended
September 30 September 30
2003 2002 2003 2002
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Operating income (loss)1
Life Marketing $ 378,112 $ (59,420) $ 460,725 $ 31,781
Acquisitions 2,198,250 2,636,763 7,985,498 8,496,889
Annuities (164,689) (24,342) (308,234) (506,153)
Asset Protection 325,647 382,980 540,163 977,133
Corporate and Other 1,687,436 371,548 5,671,647 740,218
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Realized Investment gains (losses)
Annuities 112,670 13,443 262,490 79,720
Unallocated realized investment gains (losses) 993,362 (263,111) 3,122,072 (859,080)
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Income (loss) before income tax
Life Marketing 378,112 (59,420) 460,725 31,781
Acquisitions 2,198,250 2,636,763 7,985,498 8,496,889
Annuities (52,019) (10,899) (45,744) (426,433)
Asset Protection 325,647 382,980 540,163 977,133
Corporate and Other 1,687,436 371,548 5,671,647 740,218
Unallocated realized investment gains (losses) 993,362 (263,111) 3,122,072 (859,080)
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Total income before income tax $5,530,788 $3,057,861 $17,734,361 $8,960,508
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1 Income (loss) before income tax excluding realized investment gains and losses.
The Life Marketing segment had pretax operating income of $0.5 million in the first nine months of 2003 as compared to $0.1 million in the same period of 2002. The Company began operations in the Life marketing segment in 2002. Because the segment is in the early stages of business, reinsurance allowances received continue to offset commission expenses and death benefits.
Pretax operating income from the Acquisitions segment was $8.0 million in the first nine months of 2003 as compared to $8.5 million in the same period of 2002. Earnings from the Acquisitions segment are expected to decline over time (due to the lapsing of policies resulting from deaths of insureds or terminations of coverage) unless new acquisitions are made. There were no new acquisitions made in 2002 or in the first nine months of 2003.
The Annuities segment had pretax operating losses of $0.3 million in the first nine months of 2003 and $0.5 million of pretax operating losses in the same period of 2002, primarily due to an increase in premiums and policy fees and a decrease in amortization of deferred policy acquisition costs. The Annuities segment’s future results may be negatively affected by a slow economy. Volatile equity markets could negatively affect the fees the segment assesses on variable annuity contracts. Lower interest rates could negatively affect sales of fixed annuities. In this segment, equity market volatility may create uncertainty regarding the future results in the variable annuity business and the related rate of amortization of deferred policy acquisition costs. Also, beginning January 2003, the Company is no longer marketing variable annuity products.
In accordance with statutory accounting practices prescribed or permitted by regulatory authorities (which require the assumption that equity markets will significantly worsen), the Company reported GMDB related policy liabilities and accruals of $0.1 million at September 30, 2003.
The Asset Protection segment’s pretax operating income was $0.5 million in the first nine months of 2003, as compared to $1.0 million in the first nine months of 2002. The decrease is primarily due to an increase in benefits and settlement expenses as much of the segment’s business is in runoff mode
The Corporate and Other segment consists of net investment income and expenses not identified with the preceding business segments. Pretax operating income from this segment was $5.7 million in the first nine months of 2003 as compared to $0.7 million in the first nine months of 2002, primarily due to an increase in net investment income on capital.
Income Taxes
The following table sets forth the effective tax rates for the periods shown:
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Three Months Ended Nine Months Ended
September 30 September 30
2003 2002 2003 2002
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Effective Income Tax Rates 35.0% 34.8% 34.9% 34.9%
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The effective income tax rate for the full year of 2002 was 34.9%. Management's estimate of the effective income tax rate
for the full year of 2003 is approximately 35.0%.
Net Income
The following table sets forth net income for the periods shown:
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Three Months Ended Nine Months Ended
September 30 September 30
2003 2002 2003 2002
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$3,596,760 $1,994,980 $11,540,911 $5,833,963
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Compared to the same period in 2002, net income in the first nine months of 2003 increased $5.7 million, reflecting increases in the Life Marketing, Annuities and Corporate and Other segments, and larger unallocated realized gains, which were partially offset by decreases in the, Acquisitions, and Asset Protection segments.
Review by Independent Auditors
With respect to the unaudited condensed financial information of Protective Life and Annuity Insurance Company for the three-month and nine-month periods ended September 30, 2003 and 2002, PricewaterhouseCoopers LLP (“PricewaterhouseCoopers”) reported that they have applied limited procedures in accordance with professional standards for a review of such information. However, their separate report dated November 7, 2003, appearing herein, stated that they did not audit and they do not express an opinion on that unaudited condensed financial information. Accordingly, the degree of reliance on their report on such information should be restricted in light of the limited nature of the review procedures applied. PricewaterhouseCoopers is not subject to the liability provisions of Section 11 of the Securities Act of 1933 for their report on the unaudited condensed financial information because that report is not a “report” or a “part” of a registration statement prepared or certified by PricewaterhouseCoopers into which this Form 10-Q may be incorporated by reference within the meaning of Sections 7 and 11 of the Act.
Item 4. Controls and Procedures
The Company’s President and Chief Financial Officer have evaluated the Company’s disclosure controls and procedures and believe them to be operating effectively to make known to them on a timely basis any material information required to be included in the Company’s periodic filings with the Securities and Exchange Commission. In the ordinary course of business, the Company continues to refine its internal control environment. There have been no changes in the Company’s internal control over financial reporting that occurred during the period covered by this report that have materially affected, or are reasonably likely to materially affect the Company’s internal control over financial reporting.
PART II
Item 6. Exhibits and Reports on Form 8-K| (a) |
Exhibit 31(a) – Certification Pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002. |
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| Protective Life and Annuity Insurance Company | |||
|---|---|---|---|
| Date: | November 14, 2003 | /s/ Steven G. Walker | |
| Steven G. Walker | |||
| Vice President and Controller | |||
| and Chief Accounting Officer | |||
| (Duly authrorized officer) |