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 September 30, 2002
--------------------------------------------------------------
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transaction period from to
-------------------------- ----------------------------
Commission file number 333-64473
----------------------------
GWL&A FINANCIAL INC.
- -------------------------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
- -------------------------------------------------------------------------------------------------
Colorado 84-1474245
- --------------------------------------------------------- -------------------------------------
(State or other jurisdiction of incorporation or (I.R.S. Employer Identification
organization) Number)
8515 East Orchard Road, Greenwood Village, CO 80111
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(Address of principal executive offices)
(Zip Code)
(303) 737-4128
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(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
-------------- --------------
As of September 30, 2002, 50,025 shares of the registrant's common stock were
outstanding, all of which were owned by the registrant's parent company.
NOTE:This Form 10-Q is filed by the registrant only as a consequence of the
sale by the registrant of a market value adjusted annuity product.
10
TABLE OF CONTENTS
Part I FINANCIAL INFORMATION Page
---------
Item 1 Financial Statements 3
Consolidated Statements of Income 3
Consolidated Balance Sheets 4
Consolidated Statements of Cash Flows 6
Consolidated Statement of Stockholder's Equity 8
Notes to Consolidated Financial Statements 9
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations 11
Item 3 Quantitative and Qualitative Disclosures About Market Risk 20
Item 4 Controls and Procedures 20
Part II OTHER INFORMATION 21
Item 1 Legal Proceedings 21
Item 6 Exhibits and Reports on Form 8-K 21
Signature 21
Certifications 22
PART I FINANCIAL INFORMATION
ITEM 1 FINANCIAL STATEMENTS
GWL&A FINANCIAL INC.
CONSOLIDATED STATEMENTS OF INCOME
[Dollars in Thousands]
==============================================================================================
[Unaudited]
Three Months Ended Nine Months Ended
September 30, September 30,
---------------------------- ----------------------------
2002 2001 2002 2001
------------ ------------ ------------ ------------
REVENUES:
Premium income $ 292,155 $ 294,308 $ 841,164 $ 891,638
Fee income 216,968 250,335 676,976 733,185
Net investment income 231,368 227,369 693,873 709,411
Net realized gains on
Investments 18,077 13,111 25,985 22,043
------------ ------------ ------------ ------------
758,568 785,123 2,237,998 2,356,277
------------ ------------ ------------ ------------
BENEFITS AND EXPENSES:
Life and other policy 264,790 234,350 715,974 766,266
benefits
(Decrease) increase
in reserves 38,540 47,484 63,767 76,799
Interest paid or credited
to contractholders 119,363 120,992 370,392 387,814
Provision for policyholders'
share of earnings on
Participating business(loss) (710) 567 212 2,878
Dividends to policyholders 16,861 16,300 57,151 55,826
------------ ------------ ------------ ------------
438,844 419,693 1,207,496 1,289,583
------------ ------------ ------------ ------------
Commissions 40,979 52,792 139,518 147,022
Operating expenses 171,480 185,027 542,550 597,836
Premium taxes 7,883 13,454 23,231 27,047
Special charges 127,040
------------ ------------ ------------ ------------
659,186 670,966 1,912,795 2,188,528
------------ ------------ ------------ ------------
INCOME BEFORE
INCOME TAXES 99,382 114,157 325,203 167,749
PROVISION FOR
INCOME TAXES:
Current 68,128 (2,840) 112,293 54,885
Deferred (35,368) 42,743 (6,776) 832
------------ ------------ ------------ ------------
32,760 39,903 105,517 55,717
------------ ------------ ------------ ------------
NET INCOME $ 66,622 $ 74,254 $ 219,686 $ 112,032
============ ============ ============ ============
See notes to consolidated financial statements.
GWL&A FINANCIAL INC.
CONSOLIDATED BALANCE SHEETS
[Dollars in Thousands]
==============================================================================================
September 30, December 31,
ASSETS 2002 2001
----------------- ----------------
[unaudited]
INVESTMENTS:
Fixed Maturities available-for-sale, at fair value
(amortized cost $9,977,138 and $9,904,453) $ 10,518,304 $ 10,116,175
Mortgage loans on real estate (net of allowances
of $57,654 and $57,654) 466,949 613,453
Common stock, at fair value (cost $74,586, and 66,247 73,344
$74,107)
Real estate, net 3,839 11,838
Policy loans 2,927,927 3,000,441
Short-term investments, available-for-sale
(amortized cost $362,922 and $427,866) 363,134 425,198
----------------- ----------------
Total investments 14,346,400 14,240,449
Cash 124,914 216,209
Reinsurance receivable 315,215 282,352
Deferred policy acquisition costs 257,152 275,570
Investment income due and accrued 124,938 130,775
Amounts receivable related to uninsured accident
and health plan claims (net of allowances
of $42,100 and $53,431) 104,867 89,533
Other assets 874,455 745,617
Premiums in course of collection (net of allowances
of $11,955 and $22,217) 65,343 99,811
Deferred income taxes 102,879 149,168
Separate account assets 10,933,287 12,584,661
----------------- ----------------
TOTAL ASSETS $ 27,249,450 $ 28,814,145
================= ================
(continued)
GWL&A FINANCIAL INC.
CONSOLIDATED BALANCE SHEETS
[Dollars in Thousands]
==============================================================================================
September 30, December 31,
LIABILITIES AND STOCKHOLDER'S EQUITY 2002 2001
----------------- ----------------
[unaudited]
POLICY BENEFIT LIABILITIES:
Policy reserves $ 12,272,288 $ 12,211,496
Policy and contract claims 382,154 401,389
Policyholders' funds 306,254 242,916
Provision for policyholders' dividends 75,931 74,740
Undistributed earnings on participating business 162,017 163,086
GENERAL LIABILITIES:
Due to GWL 37,554 41,874
Repurchase agreements 281,063 250,889
Commercial paper 96,592 97,046
Other liabilities 868,450 1,099,963
Separate account liabilities 10,933,287 12,584,661
----------------- ----------------
Total liabilities 25,415,590 27,168,060
----------------- ----------------
GUARANTEED PREFERRED BENEFICIAL INTERESTS
IN THE COMPANY'S JUNIOR SUBORDINATE
DEBENTURES 175,000 175,000
STOCKHOLDER'S EQUITY:
Preferred stock, $1 par value, 50,000,000 shares
authorized; 0 shares issued and outstanding
Common stock, $0 par value; 500,000 shares
authorized; 50,025 shares issued and outstanding 250 250
Additional paid-in capital 724,569 719,833
Accumulated other comprehensive income 178,183 76,507
Retained earnings 755,858 674,495
----------------- ----------------
Total stockholder's equity 1,658,860 1,471,085
----------------- ----------------
TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY $ 27,249,450 $ 28,814,145
================= ================
See notes to consolidated financial statements. (Concluded)
GWL&A FINANCIAL INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
[Dollars in Thousands]
==============================================================================================
[Unaudited]
Nine Months Ended
September 30,
-------------------------------------
2002 2001
----------------- ----------------
OPERATING ACTIVITIES:
Net income $ 219,686 $ 112,032
Adjustments to reconcile net income to net cash
Provided by operating activities:
Earnings allocated to participating policyholders 212 2,878
Amortization of investments (55,937) (57,973)
Realized gains on disposal of investments
And write-downs of mortgage loans and real (25,985) (22,043)
estate
Amortization 26,229 39,881
Deferred income taxes (6,776) 832
Changes in assets and liabilities:
Policy benefit liabilities 530,745 236,026
Reinsurance receivable (32,863) 10,425
Accrued interest and other receivables 24,971 179,466
Corporate owned life insurance (7,110) (105,222)
Securities receivable/payable (200,369) 129,442
Other, net (180,087) (198,162)
----------------- ----------------
Net cash provided by operating activities 292,716 327,582
----------------- ----------------
INVESTING ACTIVITIES:
Proceeds from sales, maturities, and redemptions
of investments:
Fixed maturities available-for-sale
Sales 4,301,335 3,940,889
Maturities and redemptions 1,038,940 906,159
Mortgage loans 157,956 142,209
Real estate 1,800
Common stock 7,960 19,600
Purchases of investments:
Fixed maturities available-for-sale (5,283,540) (5,259,788)
Mortgage loans
Real estate (2,648) (2,280)
Common stock (828) (24,172)
----------------- ----------------
Net cash provided by (used in) investing 220,975 (277,383)
activities
----------------- ----------------
(continued)
GWL&A FINANCIAL INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
[Dollars in Thousands]
==============================================================================================
[Unaudited]
Nine Months Ended
September 30,
-----------------------------------
2002 2001
--------------- ----------------
FINANCING ACTIVITIES:
Contract withdrawals, net of deposits $ (492,063) $ (250,355)
Net GWL repayments (4,320) 3,498
Dividends paid (138,323) (141,007)
Net commercial paper borrowings, net (454) (9,631)
Net repurchase agreements borrowings, net 30,174 282,100
--------------- ----------------
Net cash used in financing activities (604,986) (115,395)
--------------- ----------------
NET DECREASE IN CASH (91,295) (65,196)
CASH, BEGINNING OF YEAR 216,209 156,388
--------------- ----------------
CASH, END OF PERIOD $ 124,914 $ 91,192
=============== ================
See notes to consolidated financial statements. (Concluded)
GWL&A FINANCIAL INC.
CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2002 [Dollars in Thousands]
==============================================================================================
[Unaudited]
Accumulated
Additional Other
Preferred Stock Common Stock Paid-in Comprehensive Retained
---------------------- -----------------------
Shares Amount Shares Amount Capital Income Earnings Total
---------- --------- ---------- ---------- ---------- -------------- ---------- ----------
BALANCES, JANUARY 1, 2002 0 $ 0 50,025 $ 250 $ 719,833 $ 76,507 $ 674,495 $ 1,471,085
Net income 219,686 219,686
Other comprehensive income 101,676 101,676
----------
Total comprehensive income 321,362
----------
Dividends (138,323) (138,323)
Income tax benefit on stock
compensation 4,736 4,736
---------- --------- ---------- ---------- ---------- -------------- ---------- ----------
BALANCES, SEPTEMBER 30, 2002 0 $ 0 50,025 $ 250 $ 724,569 $ 178,183 $ 755,858 $ 1,658,860
========== ========= ========== ========== ========== ============== ========== ==========
See notes to consolidated financial statements.
GWL&A FINANCIAL INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
[Amounts in Thousands]
================================================================================
[Unaudited]
1. BASIS OF PRESENTATION
The consolidated financial statements and related notes of GWL&A
Financial Inc. (the Company) have been prepared in accordance with
accounting principles generally accepted in the United States of
America applicable to interim financial reporting and do not include
all of the information and footnotes required for complete financial
statements. However, in the opinion of management, these statements
include all normal recurring adjustments necessary for a fair
presentation of the results. These financial statements should be read
in conjunction with the audited consolidated financial statements and
the accompanying notes included in the Company's latest annual report
on Form 10-K for the year ended December 31, 2001.
Operating results for the nine months ended September 30, 2002 are not
necessarily indicative of the results that may be expected for the
full year ending December 31, 2002.
2. NEW ACCOUNTING PRONOUNCEMENTS
On June 29, 2001, Statement No. 142, "Goodwill and Other Intangible
Assets" (SFAS No. 142) was approved by the FASB. SFAS No. 142 changes
the accounting for goodwill and certain other intangibles from an
amortization method to an impairment-only approach. Amortization of
goodwill, including goodwill recorded in past business combinations,
will cease upon adoption of this statement. The Company implemented
SFAS No. 142 on January 1, 2002. Adoption of this statement did not
have a material impact on the Company's financial position or results
of operations.
In August 2001, the FASB issued Statement No.144 "Accounting for the
Impairment or Disposal of Long-Lived Assets" (SFAS No.144). SFAS
No.144 supercedes current accounting guidance relating to impairment
of long-lived assets and provides a single accounting methodology for
long-lived assets to be disposed of, and also supercedes existing
guidance with respect to reporting the effects of the disposal of a
business. SFAS No.144 was adopted January 1, 2002 without a material
impact on the Company's financial position or results of operations.
In April 2002, the FASB issued Statement No. 145 "Rescission of FASB
No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical
Corrections" (SFAS No. 145). FASB No. 4 required all gains or losses
from extinguishment of debt to be classified as extraordinary items
net of income taxes. SFAS No. 145 requires that gains and losses from
extinguishment of debt be evaluated under the provision of Accounting
Principles Board Opinion No. 30, and be classified as ordinary items
unless they are unusual or infrequent or meet the specific criteria
for treatment as an extraordinary item. This statement is effective
January 1, 2003. The Company does not expect this statement to have a
material effect on the Company's financial position or results of
operations.
In July 2002, the FASB issued Statement No. 146 " Accounting for Costs
Associated With Exit or Disposal Activities" (SFAS No. 146). This
statement addresses financial accounting and reporting for costs
associated with exit or disposal activities and nullifies EITF Issue
No. 94-3, "Liability Recognition for Certain Employee Termination
Benefits and Other Costs to Exit an Activity (including Certain Costs
Incurred in a Restructuring)." This statement requires recognition of
a liability for a cost associated with an exit or disposal activity
when the liability is incurred, as opposed to when the entity commits
to an exit plan under EITF 94-3. SFAS No. 146 is to be applied
prospectively to exit or disposal activities initiated after December
31, 2002. The Company does not expect this statement to have a
material impact on the Company's financial position or results of
operations.
3. GUARANTEED PREFERRED BENEFICIAL INTERESTS IN THE COMPANY'S JUNIOR
SUBORDINATED DEBENTURES
On May 4, 1999, Great-West Life & Annuity Insurance Capital I (the
Trust), the Company's wholly-owned subsidiary trust created under the
laws of the State of Delaware, issued $175,000 of Subordinated Capital
Income Securities. The sole assets of the Trust are the $180,412
aggregate principal amount of the Company's 7.25% Junior Subordinated
Debentures due June 30, 2048. The obligations of the Trust related to
its Junior Subordinated Debentures are fully and unconditionally
guaranteed by the Company.
4. OTHER
In the second quarter of 2001, the Company recorded a $127 million
special charge, ($80.9 million, net of tax) related to Alta Health &
Life Insurance Company (Alta). The principal components of the charge
include a $46 million premium deficiency reserve related to
under-pricing on the block of business, a $29 million reserve for
doubtful premium receivables, a $28 million reserve for doubtful
accident and health plan claim receivables, and $24 million decrease
in goodwill and other. Alta was acquired by the Company on July 8,
1998. During 1999 and 2000 the Alta business continued to be run as a
free-standing unit but was converted to the Company's system and
accounting processes. This conversion program resulted in significant
issues related to pricing, underwriting, and administration of the
business. The Company has decided to transition Alta business to other
Company products. All Alta sales and administration staff have become
employees of the Company and the underwriting functions will be
conducted by the underwriting staff of the Company.
The Company is involved in various legal proceedings that arise in the
ordinary course of its business. In the opinion of management, after
consultation with counsel, the resolution of these proceedings should
not have a material adverse effect on its financial position or
results of operations.
Certain reclassifications have been made to the 2001 financial
statements to conform to the 2002 presentation.
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Three Months Ended Nine Months Ended
Operating Summary September 30, September 30,
------------------------- ------------------------------
[Millions] 2002 2001 2002 2001
--------------------------- ----------- ---------- -------------- -------------
Premium income $ 292 $ 295 $ 841 $ 892
Fee income 217 250 677 733
Net investment income 232 227 694 709
Realized investment gains 18 13 26 22
----------- ---------- -------------- -------------
Total revenues 759 785 2,238 2,356
Total benefits and 659 671 1,913 2,061
expenses
Income tax expenses 33 40 105 102
----------- ---------- -------------- -------------
Net income before special
Charges 67 74 220 193
Special charges (net) 81
----------- ---------- -------------- -------------
Net income (loss) $ 67 74 220 112
=========== ========== ============== =============
Deposits for investment-
type
Contracts $ 201 207 513 581
Deposits to separate 521 917 1,909 2,559
accounts
Self-funded premium
Equivalents 1,305 1,370 3,947 4,346
Balance Sheet September 30, December 31,
[Millions] 2002 2001
--------------------------- -------------- -------------
Investment assets $ 14,346 $ 14,240
Separate account
Assets 10,933 12,585
Total assets 27,249 28,811
Total policy
benefit liabilities 13,037 12,931
Due to GWL 38 42
Guaranteed preferred
beneficial interests in
the Company's junior
subordinated debentures 175 175
Total stockholder's
equity 1,659 1,471
GENERAL
This Form 10-Q contains forward-looking statements. Forward-looking
statements are statements not based on historical information and that
relate to future operations, strategies, financial results, or other
developments. In particular, statements using verbs such as "expect",
"anticipate", "believe", or words of similar import generally involve
forward-looking statements. Without limiting the foregoing,
forward-looking statements include statements which represent the
Company's beliefs concerning future or projected levels of sales of
the Company's products, investment spreads or yields, or the earnings
or profitability of the Company's activities. Forward-looking
statements are necessarily based upon estimates and assumptions that
are inherently subject to significant business, economic, and
competitive uncertainties and contingencies, many of which are beyond
the Company's control and many of which, with respect to future
business decisions, are subject to change. These uncertainties and
contingencies can affect actual results and could cause actual results
to differ materially from those expressed in any forward-looking
statements made by, or on behalf of, the Company. Whether or not
actual results differ materially from forward-looking statements may
depend on numerous foreseeable and unforeseeable events or
developments, some of which may be national in scope, such as general
economic conditions and interest rates, some of which may be related
to the insurance industry generally, such as pricing competition,
regulatory developments, and industry consolidation, and others of
which may relate to the Company specifically, such as credit,
volatility, and other risks associated with the Company's investment
portfolio, and other factors. Readers are also directed to consider
other risks and uncertainties discussed in documents filed by the
Company and certain of its subsidiaries with the Securities and
Exchange Commission.
The following discussion addresses the financial condition of the
Company as of September 30, 2002, compared with December 31, 2001, and
its results of operations for the quarter and nine months ended
September 30, 2002, compared with the same period last year. The
discussion should be read in conjunction with the Management's
Discussion and Analysis section included in the Company's report on
Form 10-K for the year ended December 31, 2001 to which the reader is
directed for additional information.
CONSOLIDATED RESULTS
The Company's consolidated net income decreased $7 million or 9.5% for
the third quarter and increased $8 million or 4% for the first nine
months of 2002 when compared to the third quarter and first nine
months of 2001, before one-time charges of $80.9 million and operating
losses of $18.7 million, net of tax, related to the Alta Health & Life
Insurance Company (Alta) business. Alta was acquired by the Company on
July 8, 1998. During 2001 and 2000, the Alta business continued to be
run as a free-standing unit but was converted to the Company's systems
and accounting processes. This conversion program resulted in
significant issues related to pricing, underwriting, and
administration of the business. The Company has decided to transition
Alta business to other Company products. All Alta sales and
administration staff have become employees of the Company and the
underwriting functions will be conducted by the underwriting staff of
the Company. The $7 million net income decrease quarter over quarter
reflects a $14 million decrease in the Employee Benefits segment,
offset by an $7 million increase in the Financial Services segment.
The $8 million net income increase year over year reflects an increase
of $10 million in the Financial Services segment, offset by a decrease
of $2 million in the Employee Benefits segment, before one-time
charges of $80.9 million and operating losses of $18.7 million, net of
tax, related to the Alta business.
Total revenues decreased $26 million or 3.3% and $118 million or 5.0%
for the third quarter and first nine months of 2002 when compared to
the third quarter and first nine months of 2001. The decrease in the
third quarter was primarily due to a $33 million decrease in fee
income.
The decrease in total revenues for the first nine months of 2002 was
due to a $51 million decrease in premium income, a $56 million
decrease in fee income, and a $15 million decrease in net investment
income, offset by a $4 million increase in realized investment gains.
The decrease in premium income for the first nine months of 2002 is
primarily in the Employee Benefits segment reflecting lower case
sales.
The decreases in fee income in the third quarter and first nine months
of 2002 were primarily in the Employee Benefits segment as a result of
the decline in membership.
The decrease in net investment income for the first nine months of
2002 was primarily the result of decreasing interest rates. The actual
earned rate at September 30, 2002 was 6.87% compared to 7.59% at
September 30, 2001. The earned rate is expected to trend lower in the
next few quarters reflecting the interest rate environment.
Benefits and expenses decreased $12 million or 1.8% and $148 million
or 7.2% for the third quarter and the first nine months of 2002 when
compared to the third quarter and the first nine months of 2001. The
decrease in benefits and expenses was a combination of lower group
life and health claims and effective cost management.
Income tax expense before special charges decreased $7 million or
17.5% for the third quarter of 2002 when compared to the same period
in 2001 reflecting the decrease in pretax income.
In evaluating its results of operations, the Company also considers
net changes in deposits received for investment-type contracts,
deposits to separate accounts and self-funded equivalents. Self-funded
equivalents represent paid claims under minimum premium and
administrative services only contracts, which amounts approximate the
additional premiums that would have been earned under such contracts
if they had been written as traditional indemnity or HMO programs.
Deposits for separate accounts decreased $650 million or 25.4% for the
first nine months of 2002 when compared to the first nine months of
2001. The decrease is due primarily to a combination of lower 401(k)
single premium deposits and lower BOLI deposits.
Self-funded premium equivalents decreased $399 million or 9.2% for the
first nine months of 2002 when compared to the first nine months of
2001. The decrease was due to the decrease in membership and improved
morbidity.
Historically, the 401(k) business unit had been included with the
Employee Benefits segment. In order to capitalize on administrative
system efficiencies and group pension expertise, 401(k) is now
administered by the Financial Services segment. As a result, prior
period segment results have been reclassified to conform with this
change.
SEGMENT RESULTS
Employee Benefits
The following is a summary of certain financial data of the Employee Benefits segment:
Three Months Ended Nine Months Ended
Operating Summary September 30, September 30,
------------------------- -------------------------
[Millions] 2002 2001 2002 2001
----------------------------- ----------- ---------- ----------- ----------
Premium income $ 257 $ 258 $ 722 $ 766
Fee income 162 192 508 556
Net investment income 18 17 52 51
Realized investment gains 5 1 6 3
----------- ---------- ----------- ----------
Total revenues 442 468 1,288 1,376
Total benefits and expenses 402 404 1,131 1,239
Income tax expenses 14 24 52 49
----------- ---------- ----------- ----------
Net income before special
Charges 26 40 105 88
Special charges (net) 81
----------- ---------- ----------- ----------
Net income $ 26 $ 40 $ 105 $ 7
=========== ========== =========== ==========
Self-funded premium $ 1,305 $ 1,370 $ 3,947 $ 4,346
equivalents
The $14 million decrease in earnings for the third quarter of 2002
compared to the third quarter of 2001 is primarily due to a
combination of an expense loss from a decrease in membership and poor
morbidity experience as a result of accelerating claims payments
associated with the July 1, 2002 ERISA change. The ERISA change
requires payments of claims within 30 days rather than the previously
allowed 45 days.
The $2 million decrease in earnings for the first nine months of 2002
compared to a year ago, before one-time charges of $80.9 million and
operating losses of $18.7 million, net of tax, related to the Alta
business, is primarily related to improved mortality and morbidity
results through June 30, 2002, offset by a decrease in the third
quarter of 2002 discussed above.
Premium and fee income decreased $31 million or 7% for the third
quarter of 2002 and decreased $92 million or 7.0% for the first nine
months of 2002, when compared to the same periods of 2001. The
decreases are primarily due to lower membership levels associated with
lower case sales. There was a 4% decrease in total health care
membership from 2,321,400 at June 30, 2002 to 2,239,300 at September
30, 2002. There was a 16% decrease in total health care membership
from 2,668,700 at September 30, 2001 to 2,239,300 at September 30,
2002. Much of the health care membership decline can be attributed to
lower case sales. The decline in membership was also, in part, due to
difficulties with the implementation of a systems enhancement, which
was resolved by the end of 2001; a decrease in the employee base for
existing group health care customers; and the general decline in the
economy.
Total benefits and expenses decreased $108 million or 9% for the first
nine months of 2002 when compared to the first nine months of 2001.
The decreases are due primarily to a combination of lower group life
and health claims due to decreasing membership and a reduction in
operating expenses.
Self-funded premium equivalents decreased $65 million and $399 million
for the third quarter and first nine months of 2002 compared to the
third quarter and first nine months of 2001. The decrease was due to
improved morbidity as well as a decrease in membership.
The Company recorded $14.0 million ($9.1 million, net of tax) and $4.5
million ($2.9 million, net of tax) of restructuring costs in the first
quarter of 2002 and in the second quarter of 2002 related to the costs
associated with the consolidation of benefit payment offices and sales
offices throughout the United States. The charges relate to severance
of $2.8 million and $1.5 million, disposal of furniture and equipment
of $4.4 million and $0.5 million, and termination of leasing
agreements of $6.8 million and $2.5 million. During the first quarter
of 2002, 304 employees were terminated, of which 250 employees were
from the Employee Benefits division. During the second quarter of
2002, 252 employees were terminated, all of which were from the
Employee Benefits division.
The Company established a premium deficiency reserve of $46 million
(included in one-time charges previously discussed) on the Alta block
of business in 2001. Releases of $18.7 million in 2001, $6.2 million
in the first quarter of 2002, and $2.1 million in the second quarter
of 2002 were made to offset the underwriting losses incurred on the
under-priced block of business. During the first quarter of 2002 the
reserve was reduced by $15.0 million ($9.8 million net of tax) and
during the second quarter of 2002 the reserve was reduced by $4.0
million ($2.6 million, net of tax) based on an analysis of emerging
experience which was more favorable than originally estimated. The
balance of the premium deficiency reserve at September 30, 2002 was
zero.
Financial Services
The following is a summary of certain financial data of the Financial
Services segment.
Three Months Ended Nine Months Ended
Operating Summary September 30, September 30,
------------------------- -------------------------
[Millions] 2002 2001 2002 2001
----------------------------- ----------- ---------- ----------- ----------
Premium income $ 35 $ 37 $ 119 $ 126
Fee income 55 58 169 177
Net investment income 214 210 642 658
Realized investment gains 13 12 20 19
----------- ---------- ----------- ----------
Total revenues 317 317 950 980
Total benefits and expenses 257 267 782 822
Income tax expenses 19 16 53 53
----------- ---------- ----------- ----------
Net income $ 41 $ 34 $ 115 $ 105
=========== ========== =========== ==========
Deposits for investment-type
Contracts $ 201 $ 207 $ 513 $ 581
Deposits to separate 521 917 1,909 2,559
accounts
Net income for Financial Services increased $7 million and $10 million
for the third quarter and first nine months ended September 30, 2002
when compared to the same periods last year. The increase reflects an
improvement in interest margins on guaranteed public/nonprofit
business and reductions in operating expenses.
Savings
Savings premiums and deposits and fees increased $163 million to $370
million or 79% for the third quarter of 2002 when compared to the same
period last year, and increased $95 million (from $1,089 million to
$1,184 million) or 9% for the first nine months of 2002 when compared
to the first nine months of 2001. The increases primarily reflect a
combination of an increase in deposits for investment-type contracts
and an increase in the deposits to separate accounts.
The Financial Services segment's core savings business is in the
public/non-profit pension market. The assets of the public/non-profit
pension business including separate accounts but excluding Guaranteed
Investment Contracts decreased $207 million or 2.5% from December 31,
2001 due to the influence of the volatility of the U.S. equity
markets.
The Financial Services segment's savings business experienced growth
during the first nine months of 2002. The total lives under
administration increased 4.7% from 1,268,549 at December 31, 2001 to
1,329,388 at September 30, 2002.
Customer participation in guaranteed separate accounts increased
during 2002, as many customers prefer the security of fixed income
securities in separate account assets. Assets under management for
guaranteed separate account funds were $1,658.6 million at September
30, 2002 compared to $1,214.4 million at December 31, 2001.
Life Insurance
Individual life insurance deposits and premiums and fees of $116
million and $362 million for the third quarter and first nine months
of 2002 represent a decrease of $458 million or 80% and a decrease of
$466 million or 56% from the same periods last year. The decreases are
primarily due to slow sales in the BOLI markets due to low fixed
interest rates.
401(k)
401(k) premiums and deposits decreased 26% for the third quarter of
2002 when compared to the third quarter of 2001 (from $438 million to
$324 million). 401(k) premiums and deposits decreased 24% for the nine
months of 2002 (from $1,526 million to $1,164 million) when compared
to the nine months of 2001. Assets under administration (including
third-party administration) in 401(k) decreased 18.0% during the first
nine months of 2002 due to the impact of lower U.S. equity markets and
a decreasing number of participants. The number of participants
decreased from 564,025 at September 30, 2001 to 501,564 at September
30, 2002, reflecting higher termination rates. 401(K) case
terminations increased 45% to 702 for the first nine months of 2002 as
compared to the first nine months of 2001.
GENERAL ACCOUNT INVESTMENTS
The Company's primary investment objective is to acquire assets whose
duration and cash flow reflect the characteristics of the Company's
liabilities, while meeting industry, size, issuer, and geographic
diversification standards. Formal liquidity and credit quality
parameters have also been established.
The Company follows rigorous procedures to control interest rate risk
and observes strict asset and liability matching guidelines. These
guidelines are designed to ensure that even in changing market
conditions, the Company's assets will meet the cash flow and income
requirements of its liabilities. Using dynamic modeling to analyze the
effects of a wide range of possible market changes upon investments
and policyholder benefits, the Company ensures that its investment
portfolio is appropriately structured to fulfill financial obligations
to its policyholders.
Fixed Maturities
Fixed maturities investments include public and privately placed
corporate bonds, public and privately placed structured assets and
government bonds. This latter category contains both asset-backed and
mortgage-backed securities, including collateralized mortgage
obligations (CMOs). The Company's strategy related to structured
assets is to focus on those with lower volatility and minimal credit
risk. The Company does not invest in higher risk CMOs such as
interest-only and principal-only strips, and currently has no plans to
invest in such securities.
Private placement investments are generally less marketable than
publicly traded assets, yet they typically offer covenant protection
that allows the Company, if necessary, to take appropriate action to
protect its investment. The Company believes that the cost of the
additional monitoring and analysis required by private placements is
more than offset by their enhanced yield.
One of the Company's primary objectives is to ensure that its fixed
maturity portfolio is maintained at a high average quality, so as to
limit credit risk. If not externally rated, the securities are rated
by the Company on a basis intended to be similar to that of rating
agencies.
The distribution of the fixed maturity portfolio by credit rating is
summarized as follows:
June 30, December 31,
2002 2001
------------------ -------------------
AAA 59 % 58 %
AA 9 % 9 %
A 14 % 14 %
BBB 16 % 16 %
BB and Below (non-investment grade) 2 % 3 %
-------------- --- --------------- ---
TOTAL 100.0 % 100.0 %
============== === =============== ===
During the first nine months of 2002, net unrealized gains on fixed
maturities included in stockholder's equity, which is net of
policyholder-related amounts and deferred income taxes, increased
stockholder's equity by $101.7 million.
CRITICAL ACCOUNTING POLICIES
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
the Company's management to make a variety of estimates and
assumptions. These estimates and assumptions affect, among other
things, the reported amounts of assets and liabilities, the disclosure
of contingent liabilities and the reported amounts of revenues and
expenses. Actual results can differ from the amounts previously
estimated, which were based on the information available at the time
the estimates were made.
The critical accounting policies described below are those that the
Company believes are important to the portrayal of the Company's
financial condition and results, and which require management to make
difficult, subjective and/or complex judgments. Critical accounting
policies cover accounting matters that are inherently uncertain
because the future resolution of such matters is unknown. The Company
believes that critical accounting policies include policy reserves,
allowances for credit losses, deferred policy acquisition costs, and
valuation of privately placed fixed maturities.
Policy Reserves
Life Insurance and Annuity Reserves - Life insurance and annuity
policy reserves with life contingencies are computed on the basis of
estimated mortality, investment yield, withdrawals, future maintenance
and settlement expenses, and retrospective experience rating premium
refunds. Annuity contract reserves without life contingencies are
established at the contractholder's account value.
Reinsurance - Policy reserves ceded to other insurance companies are
carried as a reinsurance receivable on the balance sheet. The cost of
reinsurance related to long-duration contracts is accounted for over
the life of the underlying reinsured policies using assumptions
consistent with those used to account for the underlying policies.
Reinsurance contracts do not relieve the Company from its obligations
to policyholders. Failure of reinsurers to honor their obligations
could result in losses to the Company. The Company evaluates the
financial condition of its reinsurers and monitors concentrations of
credit risk arising from similar geographic regions, activities, or
economic characteristics of the reinsurers to minimize its exposure to
significant losses from reinsurer insolvencies. 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
risks to other insurance enterprises under excess coverage and
co-insurance contracts. The Company retains a maximum of $1.5 million
of coverage per individual life.
Policy and Contract Claims - Policy and contract claims include
provisions for reported life and health claims in process of
settlement, valued in accordance with the terms of the related
policies and contracts, as well as provisions for claims incurred and
unreported based primarily on prior experience of the Company.
Allowance For Credit Losses
The Company maintains an allowance for credit losses at a level that,
in management's opinion, is sufficient to absorb credit losses on its
amounts receivable related to uninsured accident and health plan
claims paid on behalf of policyholders and premiums in course of
collection, and to absorb credit losses on its impaired loans.
Management's judgement is based on past loss experience and current
and projected economic conditions, and extensive situational analysis
of each individual loan. The measurement of impaired loans is based on
the fair value of the collateral.
Deferred Policy Acquisition Costs
Policy acquisition costs, which primarily consist of sales commissions
and costs associated with the Company's group sales representatives
related to the production of new business, have been deferred to the
extent recoverable. These costs are variable in nature and are
dependent upon sales volume. Deferred costs associated with the
annuity products are being amortized over the life of the contracts in
proportion to the emergence of gross profits. Retrospective
adjustments of these amounts are made when the Company revises its
estimates of current or future gross profits. Deferred costs
associated with traditional life insurance are amortized over the
premium paying period of the related policies in proportion to premium
revenues recognized.
Valuation Of Privately Placed Fixed Maturities
The estimated fair values of financial instruments have been
determined using available information and appropriate valuation
methodologies. However, considerable judgement is required to
interpret market data to develop estimates of fair value. Accordingly,
the estimates presented are not necessarily indicative of the amounts
the Company could realize in a current market exchange. The use of
different market assumptions and/or estimation methodologies may have
a material effect on the estimated fair value amounts.
To determine fair value for fixed maturities not actively traded, the
Company utilizes discounted cash flows calculated at current market
rates on investments of similar quality and term.
LIQUIDITY AND CAPITAL RESOURCES
The Company's operations have liquidity requirements that vary among
the principal product lines. Life insurance and pension plan reserves
are primarily long-term liabilities. Accident and health reserves,
including long-term disability, consist of both short-term and
long-term liabilities. Life insurance and pension plan reserve
requirements are usually stable and predictable, and are supported
primarily by long-term, fixed income investments. Accident and health
claim demands are stable and predictable but generally shorter term,
requiring greater liquidity.
Generally, the Company has met its operating requirements by
maintaining appropriate levels of liquidity in its investment
portfolio. Liquidity for the Company has remained strong, as evidenced
by significant amounts of short-term investments and cash that totaled
$488.0 million and $641.4 million as of September 30, 2002 and
December 31, 2001, respectively.
Funds provided from premiums and fees, investment income and
maturities of investment assets are reasonably predictable and
normally exceed liquidity requirements for payment of claims,
benefits, and expenses. However, since the timing of available funds
cannot always be matched precisely to commitments, imbalances may
arise when demands for funds exceed those on hand. Also, a demand for
funds may arise as a result of the Company taking advantage of current
investment opportunities. The Company's capital resources represent
funds available for long-term business commitments and primarily
consist of retained earnings and proceeds from the issuance of equity
securities. Capital resources provide protection for policyholders and
the financial strength to support the underwriting of insurance risks,
and allow for continued business growth. The amount of capital
resources that may be needed is determined by the Company's senior
management and Board of Directors, as well as by regulatory
requirements. The allocation of resources to new long-term business
commitments is designed to achieve an attractive return, tempered by
considerations of risk and the need to support the Company's existing
business.
Additional liquidity is available through the Company's participation
in repurchase agreements with third party brokers and the issuance of
commercial paper. The Company had $281.1 million of repurchase
agreements at September 30, 2002, compared to $250.9 at December 31,
2001. The Company's participation in repurchase agreements depends on
current market conditions, and as a result, fluctuations may occur.
The Company's financial strength provides the capacity and flexibility
to enable it to raise funds in the capital markets through the
issuance of commercial paper. The Company continues to be well
capitalized, with sufficient borrowing capacity to meet the
anticipated needs of its business. The Company had $97.0 million of
commercial paper outstanding at September 30, 2002, and December 31,
2001. The commercial paper has been given a rating of A-1 + by
Standard & Poor's Corporation and a rating of P-1 by Moody's Investors
Service, each being the highest rating available.
OBLIGATIONS RELATING TO DEBT AND LEASES FOR THE FULL YEAR ARE AS FOLLOWS:
2002 2003 2004 2005 2006 Thereafter
-------- -------- -------- -------- -------- -----------
Subordinated
debentures $ $ $ $ $ $ 175.0
Related party 25.0
note
Operating leases 7.9 28.9 23.3 20.7 17.9 38.0
-------- -------- -------- -------- -------- -----------
Total contractual
obligations $ 7.9 $ 28.9 $ 23.3 $ 20.7 $ 42.9 $ 213.0
======== ======== ======== ======== ======== ===========
Item 3. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's assets are purchased to fund future benefit payments to
its policyholders and contractholders. The primary risk of these
assets is exposure to rising interest rates. The Company's exposure to
foreign currency exchange rate fluctuations is minimal as only nominal
foreign investments are held.
To manage interest rate risk, the Company invests in assets that are
suited to the products that it sells. For products with fixed and
highly predictable benefit payments such as certificate annuities and
payout annuities, the Company invests in fixed income assets with cash
flows that closely match the liability product cash flows. The Company
is then protected against interest rate changes, as any change in the
fair value of the assets will be offset by a similar change in the
fair value of the liabilities. For products with uncertain timing of
benefit payments such as portfolio annuities and life insurance, the
Company invests in fixed income assets with expected cash flows that
are earlier than the expected timing of the benefit payments. The
Company can then react to changing interest rates sooner as these
assets mature for reinvestment.
The Company also manages risk with interest rate derivatives such as
interest rate caps that would pay the Company investment income if
interest rates rise above the level specified in the cap. The Company
also uses interest rate swaps to convert cash flow from variable-rate
investments to fixed amounts to match such cash flows to expected cash
flows on its liabilities to policyholders. These derivatives are only
used to reduce risk and are not used for speculative purposes.
To manage foreign currency exchange risk, the Company uses currency
swaps to convert foreign currency back to United States dollars. These
swaps are purchased each time a foreign currency denominated asset is
purchased.
There are no significant changes to the Company's market risk position
from December 31, 2001.
Item 4. CONTROLS AND PROCEDURES
Based on their evaluation as of October 25, 2002, the Chief Executive
Officer and Chief Financial Officer have concluded that the Company's
Disclosure Controls and Procedures are effective in ensuring that
information relating to the Company and its subsidiaries which is
required to be disclosed in reports filed under the Securities
Exchange Act of 1934 is (i) accumulated, processed and reported in a
timely manner; and (ii) communicated to the Company's senior
management, including the President and Chief Executive Officer and
the Executive Vice President and Chief Financial Officer, so that
timely decisions may be made regarding disclosure.
The Chief Executive Officer and Chief Financial Officer hereby confirm
that, since the date of their evaluation on October 25, 2002, there
were no significant changes in the Company's internal controls or in
other factors that could significantly affect these internal controls
including any corrective actions with regard to significant
deficiencies and material weaknesses.
PART II - OTHER INFORMATION
ITEM 1 - LEGAL PROCEEDINGS
There are no material pending legal proceedings to which the Company
or any of its subsidiaries is a party or of which any of their
property is the subject.
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K
(a) Index to Exhibits
None
(b) Reports on Form 8-K
A report on Form 8-K, dated July 30, 2002, was filed disclosing
the Company's second quarter results as of June 30, 2002.
SIGNATURES
Pursuant to the requirements of the Securities Act of 1934, the registrant has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized.
GWL&A FINANCIAL INC.
BY: /s/ Glen R. Derback DATE: November 14, 2002
--------------------------------------- ------------------------
Glen R. Derback, Vice President and Controller
(Duly authorized officer and chief accounting officer)
CERTIFICATIONS
I, William T. McCallum, certify that:
1. I have reviewed this quarterly report on Form 10-Q of GWL&A Financial
Inc. (the "registrant");
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly
report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusion about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: November 14, 2002
/s/ William T. McCallum
William T. McCallum
President and Chief Executive Officer
I, Mitchell T.G. Graye, certify that:
1. I have reviewed this quarterly report on Form 10-Q of GWL&A Financial
Inc. (the "registrant");
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a. designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly
report is being prepared;
b. evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
c. presented in this quarterly report our conclusion about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a. all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b. any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: November 14, 2002
/s/ Mitchell T.G. Graye
Mitchell T.G. Graye
Executive Vice President and
Chief Financial Officer