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Form 10-Q
United States
Securities and Exchange Commission
Washington, D.C. 20549
(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 Transition Period From __________ to __________
Commission file number 333-55268
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THE PHOENIX COMPANIES, INC.
---------------------------
(Exact name of registrant as specified in its charter)
Delaware 06-0493340
-------- ----------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
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One American Row, Hartford, Connecticut 06102-5056
(860) 403-5000
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(Address, including zip code, and telephone number,
including area code, of principal executive offices)
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__.
On September 30, 2002, the registrant had 94,368,382 shares of common stock outstanding.
Part I.
Financial Information
Item 1. Unaudited Consolidated Financial Statements
THE PHOENIX COMPANIES, INC.
Consolidated Balance Sheet
(in millions, except share data)
September 30, 2002 and December 31, 2001
2002 2001
------- --------
ASSETS:
Available-for-sale debt securities, at fair value................. $ 11,818.6 $ 9,607.7
Equity securities, at fair value.................................. 274.1 290.9
Mortgage loans, at unpaid principal balances...................... 491.8 535.8
Real estate, at lower of cost or fair value....................... 76.6 83.1
Venture capital partnerships, at equity in net assets............. 231.7 291.7
Affiliate equity and debt securities.............................. 323.9 330.6
Policy loans, at unpaid principal balances........................ 2,181.0 2,172.2
Other investments................................................. 298.3 282.4
------- -------
Total investments............................................. 15,696.0 13,594.4
Cash and cash equivalents......................................... 712.0 815.5
Accrued investment income......................................... 228.0 203.1
Premiums, accounts and notes receivable........................... 159.6 147.8
Reinsurance recoverable balances.................................. 40.3 21.3
Deferred policy acquisition costs................................. 1,235.5 1,123.7
Premises and equipment............................................ 113.3 117.7
Deferred income taxes............................................. 38.7 1.8
Goodwill and other intangible assets.............................. 774.4 858.6
Net assets of discontinued operations............................. 20.8 20.8
Other general account assets...................................... 66.1 50.7
Separate account and investment trust assets...................... 5,536.0 5,570.0
------- -------
Total assets.................................................. $24,620.7 $22,525.4
============== ===============
LIABILITIES:
Policy liabilities................................................ $12,692.5 $11,993.4
Policyholder deposit funds........................................ 3,180.9 1,368.2
Indebtedness...................................................... 613.6 599.3
Other general account liabilities................................. 538.6 595.1
Separate account and investment trust liabilities................. 5,536.0 5,564.9
-------- --------
Total liabilities............................................. 22,561.6 20,120.9
-------- --------
MINORITY INTEREST:
Minority interest in net assets of subsidiaries................... 11.5 8.8
------- -------
STOCKHOLDERS' EQUITY:
Common stock, $0.01 par value: 1.0 billion shares authorized; 106.4
million shares issued.................................. 1.0 1.0
Additional paid-in capital........................................ 2,424.4 2,410.4
Accumulated deficit............................................... (278.2) (30.8)
Accumulated other comprehensive income............................ 92.0 81.1
Treasury stock, at cost: 12.0 million and 4.5 million shares...... (191.6) (66.0)
-------- --------
Total stockholders' equity.................................... 2,047.6 2,395.7
---------- ----------
Total liabilities, minority interest and stockholders' equity $24,620.7 $22,525.4
============== ===============
The accompanying notes are an integral part of these consolidated financial statements.
THE PHOENIX COMPANIES, INC.
Consolidated Statement of Income and Comprehensive Income
(in millions, except per share data)
Three and Nine Months Ended September 30, 2002 and 2001
Three Months Nine Months
---------------------------- ----------------------------
2002 2001 2002 2001
------------ ------------ ------------ ------------
REVENUES:
Premiums............................................... $ 297.1 $ 302.7 $ 813.9 $ 836.0
Insurance and investment product fees.................. 139.4 129.1 425.6 414.3
Net investment income.................................. 228.8 194.7 675.7 588.6
Net realized investment losses......................... (10.5) (16.7) (74.1) (37.2)
------------ ------------ ------------ ------------
Total revenues..................................... 654.8 609.8 1,841.1 1,801.7
------------ ------------ ------------ ------------
BENEFITS AND EXPENSES:
Policy benefits........................................ 397.9 390.4 1,070.7 1,056.7
Policyholder dividends................................. 112.7 105.7 294.4 301.7
Policy acquisition cost amortization................... 41.1 33.3 41.6 95.3
Goodwill impairment.................................... 66.3 -- 66.3 --
Intangible asset amortization.......................... 8.9 12.7 24.8 37.2
Interest expense....................................... 7.7 6.4 23.1 21.2
Demutualization expenses............................... .2 5.3 1.7 24.8
Other operating expenses............................... 135.9 118.8 451.0 496.4
------------ ------------ ------------ ------------
Total benefits and expenses........................ 770.7 672.6 1,973.6 2,033.3
------------ ------------ ------------ ------------
Loss before income taxes and minority interest......... (115.9) (62.8) (132.5) (231.6)
Applicable income tax benefit.......................... (26.0) (43.2) (40.4) (106.9)
------------ ------------ ------------ ------------
Loss before minority interest.......................... (89.9) (19.6) (92.1) (124.7)
Minority interest in net income of subsidiaries........ 3.1 1.6 9.2 5.1
------------ ------------ ------------ ------------
Loss before cumulative effect of accounting changes.... (93.0) (21.2) (101.3) (129.8)
Cumulative effect of accounting changes:
Goodwill impairment................................ -- -- (130.3) --
Securitized financial instruments.................. -- -- -- (20.5)
Venture capital partnerships....................... -- -- -- (48.8)
Derivative financial instruments................... -- -- -- 3.9
------------ ------------ ------------ ------------
Net loss............................................... $ (93.0) $ (21.2) $(231.6) $ (195.2)
============ ============ ============ ============
BASIC AND DILUTED EARNINGS PER SHARE:
Loss before cumulative effect of accounting changes $ (.96) $ (.20) $ (1.02) $ (1.24)
Cumulative effect of accounting changes................ -- -- (1.32) (.63)
------------ ------------ ------------ ------------
Net loss............................................... $ (.96) $ (.20) $ (2.34) $ (1.87)
============ ============ ============ ============
Weighted-average common shares outstanding ............ 96.6 105.3 99.1 104.6
============ ============ ============ ============
PRO FORMA AMOUNTS ASSUMING RETROACTIVE APPLICATION OF
ACCOUNTING CHANGES:
Net loss............................................... $ (93.0) $ (15.9) $(101.3) $ (114.4)
============ ============ ============ ============
Loss per share......................................... $ (.96) $ (.15) $ (1.02) $ (1.09)
============ ============ ============ ============
DIVIDENDS PER SHARE.................................... $ .16 $ -- $ .16 $ --
============ ============ ============ ============
COMPREHENSIVE INCOME:
Net loss............................................... $ (93.0) $ (21.2) $(231.6) $ (195.2)
------------ ------------ ------------ ------------
Other comprehensive income:
Change in net unrealized investment gains (losses). $ (35.5) $ 16.6 $ 12.6 $ 13.0
Change in net unrealized foreign currency translation
adjustment and other........................... 6.2 14.4 (1.7) 2.2
------------ ------------ ------------ ------------
Total other comprehensive income (loss)........ (29.3) 31.0 10.9 15.2
------------ ------------ ------------ ------------
Comprehensive income (loss)............................ $(122.3) $ 9.8 $(220.7) $ (180.0)
============ ============ ============ ============
The accompanying notes are an integral part of these consolidated financial statements.
THE PHOENIX COMPANIES, INC.
Consolidated Condensed Statement of Cash Flows
(in millions)
Three and Nine Months Ended September 30, 2002 and 2001
Three Months Nine Months
---------------------------- --------------------------
2002 2001 2002 2001
------------ ----------- ----------- -----------
OPERATING ACTIVITIES:
Cash from operations......................................... $ 48.0 $ 79.2 $ 95.6 $ 234.4
------------ ----------- ----------- -----------
INVESTING ACTIVITIES:
Debt security sales, maturities and repayments............... 842.1 418.2 2,146.7 2,763.0
Equity security sales........................................ 13.9 28.1 39.3 104.6
Mortgage loan maturities and principal repayments............ 5.9 18.9 44.9 52.4
Venture capital partnership capital distributions............ 16.7 5.2 29.0 28.2
Real estate and other invested assets sales.................. 24.1 9.8 62.5 29.7
Debt security purchases...................................... (1,498.4) (1,012.7) (3,684.2) (3,743.7)
Equity security purchases.................................... (13.2) (19.2) (42.0) (51.1)
Venture capital partnership investments...................... (11.3) (11.2) (31.8) (35.3)
Other invested asset purchases............................... (34.1) (4.9) (84.2) (51.4)
Subsidiary purchases......................................... (1.7) (20.3) (136.1) (415.1)
Policy loan advances, net.................................... 1.5 (11.0) (8.8) (55.3)
Premises and equipment additions............................. (5.4) (6.5) (11.7) (14.6)
------------ ----------- ----------- -----------
Cash for continuing operations............................... (659.9) (605.6) (1,676.4) (1,388.6)
Cash (for) from discontinued operations...................... (12.1) 17.4 23.4 55.4
------------ ----------- ----------- -----------
Cash for investing activities................................ (672.0) (588.2) (1,653.0) (1,333.2)
------------ ----------- ----------- -----------
FINANCING ACTIVITES:
Policyholder deposit fund receipts, net...................... 745.2 133.5 1,602.0 220.1
Indebtedness proceeds........................................ -- -- -- 180.0
Indebtedness repayments...................................... -- (30.1) -- (174.7)
Common stock repurchases..................................... (56.0) (35.6) (124.5) (35.6)
Common stock issuance........................................ -- 23.1 -- 831.0
Common stock dividend payment................................ (15.8) -- (15.8) --
Payments to policyholders in demutualization................. -- -- -- (28.7)
Minority interest distributions.............................. (.1) (.1) (7.8) (5.7)
------------ ----------- ----------- -----------
Cash from (for) financing activities......................... 673.3 90.8 1,453.9 986.4
------------ ----------- ----------- -----------
Cash and cash equivalents changes............................ 49.3 (418.2) (103.5) (112.4)
Cash and cash equivalents, beginning of period............... 662.7 1,025.8 815.5 720.0
------------ ----------- ----------- -----------
Cash and cash equivalents, end of period..................... $ 712.0 $ 607.6 $ 712.0 $ 607.6
============ =========== =========== ===========
The accompanying notes are an integral part of these consolidated financial statements.
THE PHOENIX COMPANIES, INC.
Consolidated Statement of Changes in Stockholders' Equity
(in millions)
Three and Nine Months Ended September 30, 2002 and 2001
Three Months Nine Months
---------------------------- -----------------------------
2002 2001 2002 2001
------------ ------------ ------------- ------------
STOCKHOLDERS' EQUITY, BEGINNING OF PERIOD............. $2,211.6 $2,390.4 $2,395.7 $1,840.9
COMMON STOCK AND ADDITIONAL PAID-IN CAPITAL:
Common shares issuable in demutualization ............ -- -- -- 1,621.7
Policyholder credits and cash payments in
demutualization.................................... -- -- -- (41.5)
Common shares issued in initial public offering....... -- -- -- 807.9
Other common shares issued............................ -- 23.1 -- 23.1
Restricted stock units awarded........................ 8.0 -- 8.0 --
Other additional paid-in capital...................... 6.0 -- 6.0 --
ACCUMULATED DEFICIT:
Net loss.............................................. (93.0) (21.2) (231.6) (195.2)
Common stock dividends declared....................... -- -- (15.8) --
Transfer from retained earnings to common stock
and additional paid-in capital in demutualization.. -- -- -- (1,621.7)
Policyholder dividend obligation equity
adjustment......................................... -- (14.2) -- (44.5)
Other equity adjustments.............................. -- -- -- 3.2
ACCUMULATED OTHER COMPREHENSIVE INCOME:
Other comprehensive income (loss), net ............... (29.3) 31.0 10.9 15.2
TREASURY STOCK:
Common shares acquired................................ (55.7) (42.6) (125.6) (42.6)
------------ ------------ ------------- ------------
STOCKHOLDERS' EQUITY, END OF PERIOD................... $2,047.6 $ 2,366.5 $2,047.6 $ 2,366.5
============ ============ ============= ============
The accompanying notes are an integral part of these consolidated financial statements.
THE PHOENIX COMPANIES, INC.
Notes to the Unaudited Consolidated Financial Statements
1. Description of Business
The Phoenix Companies, Inc. and its subsidiaries ("Phoenix") provide wealth management products and services offered through a
variety of select advisors and financial services firms to serve the accumulation, preservation and transfer needs of the affluent
and high net worth market, businesses and institutions. Phoenix offers a broad range of life insurance, annuity and investment
management solutions through a variety of distributors. These products and services are managed within two operating segments
(Life and Annuity and Investment Management) and two additional reporting segments (Venture Capital and Corporate and Other). See
note 6, "Segment Information."
2. Basis of Presentation
The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally
accepted in the United States of America ("GAAP") for interim financial information. Accordingly, they do not include all of the
information and footnotes required by GAAP for complete financial statements.
In the opinion of management, all adjustments (consisting only of normal recurring accruals) considered necessary for a fair
statement have been included. Operating results for the three and nine months ended September 30, 2002 are not necessarily
indicative of the results that may be expected for the year ending December 31, 2002. These unaudited consolidated financial
statements should be read in conjunction with the consolidated financial statements of Phoenix for the year ended December 31,
2001 on Form 10-K.
3. Reorganization and Initial Public Offering
On December 18, 2000, the board of directors of Phoenix Home Life Mutual Insurance Company ("Phoenix Mutual") unanimously adopted
a plan of reorganization, which was amended and restated on January 26, 2001. On June 25, 2001, the effective date of the
demutualization, Phoenix Mutual converted from a mutual life insurance company to a stock life insurance company, became a
wholly-owned subsidiary of Phoenix and changed its name to Phoenix Life Insurance Company ("Phoenix Life"). At the same time,
Phoenix Investment Partners, Ltd. ("PXP"), Phoenix's investment management subsidiary, became an indirect wholly-owned subsidiary
of Phoenix. On the effective date of the demutualization, all eligible policyholders of the mutual company received 56.2 million
shares of common stock, $28.8 million of cash and $12.7 million of policy credits as compensation for their policyholder
membership interests in the mutual company. The demutualization was accounted for as a reorganization. Accordingly, Phoenix's
retained earnings immediately following the demutualization and the closing of the Initial Public Offering ("IPO") on June 25,
2001 (net of the cash payments and policy credits that were charged directly to retained earnings) were reclassified to common
stock and additional paid-in capital. In addition, Phoenix Life established a closed block for the benefit of holders of certain
of its individual life insurance policies. The purpose of the closed block is to protect, after demutualization, the reasonable
policy dividend expectations of the holders of the policies included in the closed block. The closed block will continue in effect
until such date as none of such policies are in force. See note 7, "Closed Block."
On June 25, 2001, Phoenix closed its IPO, in which 48.8 million shares of common stock were issued at a price of $17.50 per share.
Net proceeds from the IPO totaling $807.9 million were contributed to Phoenix Life. On July 24, 2001, the lead underwriter
exercised its right to purchase 1,395,900 shares of the common stock of Phoenix at the IPO price of $17.50 per share less
underwriters' discount. Additional proceeds of $23.2 million were contributed to Phoenix Life.
4. Summary of New Significant Accounting Policies
Goodwill and Other Intangible Assets
Effective January 1, 2002, Phoenix adopted the new accounting standard for goodwill and other intangible assets, including amounts
reflected in equity-method investments. The standard primarily addresses the accounting for goodwill and intangible assets
subsequent to their initial recognition. Under the standard, amortization of goodwill and other intangible assets with indefinite
lives recorded in past business combinations was discontinued after 2001 and reporting units have been identified for the purpose
of assessing potential future impairments of goodwill. In accordance with the standard, amortization of goodwill and
indefinite-lived assets has not been recognized after 2001. Phoenix recognized $5.3 million and $15.4 million (after-tax) in
goodwill and other intangible assets amortization during the three and nine months ended September 30, 2001, respectively, that
would not have been recognized had the new accounting standard been in effect in those periods.
The standard also requires that goodwill and indefinite-lived intangible assets be tested at least annually for impairment. Upon
adoption of the standard, Phoenix tested goodwill and indefinite-lived intangibles for impairment by comparing the fair value to
the carrying amount of the asset as of the beginning of 2002. Adopting the standard in 2002 resulted in a cumulative effect of
accounting change which decreased after-tax income by $130.3 million ($1.32 per share) for the nine months ended September 30,
2002, primarily related to the company's investment management segment.
In the third quarter of 2002, Phoenix tested its goodwill in accordance with the new accounting standard. Phoenix determined that
the carrying value of goodwill of certain PXP reporting units had become impaired and recorded a charge of $66.3 million ($62.3
million after-tax) in the third quarter.
5. Significant Transactions
Management Restructuring Reserve
Phoenix recorded a reserve of $33.5 million, pre-tax ($21.8 million, after-tax) in the second quarter of 2002 primarily in
connection with organizational and employment-related costs. In the third quarter of 2002, the reserve was increased $5.6 million,
pre-tax, ($3.6 million, after-tax) for additional related costs.
Collateralized Bond Obligation
In August 2002, PXP closed the Phoenix-Mistic 2002-1 CBO, Ltd. $1 billion collateralized bond obligation consisting primarily of
investment grade fixed income assets. The related assets and liabilities are included in separate account and investment trust
assets and liabilities at September 30, 2002.
Variable Life and Annuity Business Acquisition
On July 23, 2002, Phoenix Life, through a wholly-owned subsidiary, acquired the variable life and variable annuity business of
Valley Forge Life Insurance Company (a subsidiary of CNA Financial Corporation), effective July 1, 2002. The business acquired had
a total account value of about $557.0 million as of June 30, 2002. This transaction was effected through a coinsurance agreement.
The business acquired generated a $3.9 million loss, after taxes, for the three and nine months ended September 30, 2002.
PXP's Purchase of Kayne Anderson Rudnick Investment Management, LLC
On January 29, 2002, PXP acquired a majority interest in Kayne Anderson Rudnick. In accordance with the terms of the acquisition
agreement, PXP purchased an initial 60% interest, with future purchases of an additional 15% to occur by 2007. Kayne Anderson
Rudnick's management retained the remaining ownership interests. In addition to the cash payment of approximately $100 million
made at closing, a subsequent payment may be made in 2004 based upon management fee revenue growth of the purchased business
through 2003. Kayne Anderson Rudnick, based in Los Angeles, California, had approximately $8.1 billion in assets under management
at September 30, 2002. Kayne Anderson Rudnick's results of operations for the period beginning January 30, 2002 through September
30, 2002 are included in our consolidated results of operations for the nine months ended September 30, 2002. Our 2001 results do
not include the financial results of Kayne Anderson Rudnick. Had Kayne Anderson Rudnick been acquired at the beginning of 2001, it
would have contributed the following to Phoenix's consolidated revenues and income before tax and minority interest for the three
and nine months ended September 30, 2001 (in millions):
Three Months Nine Months
------------------ ------------------
Revenues..................................... $ 10.5 $ 28.5
Income before taxes and minority interest ... 4.0 9.3
Stock Repurchase Program
Phoenix has a stock repurchase program with a total share repurchase authorization of 13 million shares. Purchases can be made on
the open market, as well as through negotiated transactions, subject to market prices and other conditions. The repurchase program
may be modified, extended or terminated by the board of directors at any time. At September 30, 2002, Phoenix had repurchased 12.0
million common stock shares at an average price of $15.92 per share, including 7.5 million shares acquired in the nine months
ended September 30, 2002 at an average price of $16.61 per share.
Deferred Policy Acquisition Costs
In the first quarter of 2002, Phoenix revised the mortality assumptions used in the development of estimated gross margins for the
traditional participating block of business to reflect favorable experience. This revision resulted in a pre-tax $22.1 million
decrease in deferred policy acquisition cost amortization expense in the first quarter of 2002. In the third quarter of 2002,
Phoenix revised the long-term market return assumption for the variable annuity block of business from 8% to 7%. In addition, as
of September 30, 2002, Phoenix recorded an impairment charge related to the recoverability of its deferred acquisition cost asset
related to the variable annuity business. The revision in long-term market return assumption and the impairment charge resulted
in a $13.5 million pre-tax ($8.8 million after-tax) increase in policy acquisition cost amortization expense in the third quarter
of 2002.
6. Segment Information
The following tables provide certain information about Phoenix's operating segments as of September 30, 2002, December 31, 2001 and
for each of the three and nine months ended September 30, 2002 and 2001 (in millions).
Three Months Nine Months
--------------------------- ---------------------------
2002 2001 2002 2001
------------ ----------- ----------- -----------
Consolidated revenues:
Life and Annuity...................................... $ 620.9 $ 603.1 $ 1,754.5 $ 1,727.0
Investment Management................................. 65.6 65.3 209.2 205.2
------------ ----------- ----------- -----------
Total operating segment revenues................... 686.5 668.4 1,963.7 1,932.2
Venture Capital....................................... (22.0) (48.5) (56.9) (100.2)
Corporate and Other................................... 4.7 11.7 21.2 20.2
------------ ----------- ----------- -----------
Total segment revenues............................. 669.2 631.6 1,928.0 1,852.2
Net realized investment losses........................ (10.5) (16.7) (74.1) (37.2)
Other non-recurring revenue items..................... -- -- -- 3.8
Elimination of inter-segment revenues................. (3.9) (5.1) (12.8) (17.1)
------------ ----------- ----------- -----------
Total revenues..................................... $ 654.8 $609.8 $ 1,841.1 $ 1,801.7
============ =========== =========== ===========
Life and Annuity revenues:
Premiums.............................................. $ 297.1 $ 302.8 $ 813.9 $ 836.0
Insurance and investment product fees................. 78.7 72.0 235.2 226.2
Net investment income................................. 245.1 228.3 705.4 664.8
------------ ----------- ----------- -----------
Total revenues..................................... $ 620.9 $ 603.1 $1,754.5 $1,727.0
============ =========== =========== ===========
Investment Management revenues:
Investment product fees............................... $ 62.6 $ 63.4 $ 199.4 $ 200.2
Net investment income................................. 3.0 1.9 9.8 5.0
------------ ----------- ----------- -----------
Total revenues..................................... $ 65.6 $ 65.3 $ 209.2 $ 205.2
============ =========== =========== ===========
Income (loss):
Life and Annuity...................................... $ (1.9) $ 11.6 $ 54.2 $ 59.2
Investment Management................................. (65.2) (3.2) (62.5) (1.3)
----------- ----------- ----------- -----------
Total operating segment pre-tax operating income.. (67.1) 8.4 (8.3) 57.9
Venture Capital....................................... (22.0) (48.5) (56.9) (100.2)
Corporate and Other................................... (12.7) (1.9) (33.4) (42.0)
----------- ----------- ----------- -----------
Total segment pre-tax operating loss.............. (101.8) (42.0) (98.6) (84.3)
Applicable income tax benefit......................... (20.0) (14.7) (25.5) (36.4)
----------- ----------- ----------- -----------
Segment operating loss................................ (81.8) (27.3) (73.1) (47.9)
Non-operating losses, net:
Net realized investment losses........................ (7.6) (10.7) (16.7) (24.1)
Other non-recurring income (losses)................... (3.6) 16.8 (11.5) (57.8)
----------- ----------- ----------- -----------
Loss before cumulative effect of accounting changes $ (93.0) $ (21.2) $(101.3) $(129.8)
=========== =========== =========== ===========
September 30, December 31,
2002 2001
----------------- ----------------
Consolidated assets:
Life and Annuity............................................................. $ 20,482.3 $18,925.0
Investment Management........................................................ 1,034.0 1,165.0
Venture Capital.............................................................. 230.6 291.7
Corporate and Other.......................................................... 2,853.0 2,122.9
----------------- ----------------
Total segment assets...................................................... 24,599.9 22,504.6
Net assets of discontinued operations........................................ 20.8 20.8
----------------- ----------------
Total assets.............................................................. $24,620.7 $22,525.4
================= ================
7. Closed Block
On the date of demutualization, Phoenix Life established a closed block for the benefit of holders of certain individual
participating life insurance policies and annuities of Phoenix Life for which Phoenix Life had a dividend scale payable in 2000.
See note 15 of Phoenix's consolidated financial statements for the year ended December 31, 2001 in Phoenix's Form 10-K for more
information on the closed block.
As specified in the plan of reorganization, the allocation of assets for the closed block was made as of December 31, 1999.
Consequently, cumulative earnings on the closed block assets and liabilities for the period January 1, 2000 to September 30, 2002
in excess of expected cumulative earnings did not inure to stockholders and have been used to establish a policyholder dividend
obligation as of September 30, 2002.
The following summarizes certain financial information relating to the closed block as of September 30, 2002 and December 31, 2001
(in millions):
2002 2001
-------------- ------------
Liabilities:
Policy liabilities and policyholder deposit funds..................... $ 9,377.2 $ 9,150.2
Policyholder dividends payable........................................ 369.5 357.3
Policyholder dividend obligation...................................... 530.6 167.2
Other closed block liabilities........................................ 45.3 48.8
-------------- ------------
Total closed block liabilities........................................ 10,322.6 9,723.5
-------------- ------------
Assets:
Available-for-sale debt securities at fair value...................... 6,449.4 5,742.0
Mortgage loans........................................................ 375.5 386.5
Policy loans.......................................................... 1,402.5 1,407.1
Cash and cash equivalents............................................. 96.1 176.6
Accrued investment income............................................. 129.1 125.3
Premiums receivable................................................... 40.0 41.1
Deferred income taxes................................................. 404.1 392.8
Other closed block assets............................................. 23.3 18.3
-------------- ------------
Total closed block assets............................................. 8,920.0 8,289.7
-------------- ------------
Excess of closed block liabilities over closed block assets
representing maximum future earnings to be recognized from
closed block assets and liabilities................................ $ 1,402.6 $ 1,433.8
============== ============
The following summarizes the components of the change in our policyholder dividend obligation for the nine months ended September
30, 2002 and the six months ended December 31, 2001 (in millions):
2002 2001
------------ -----------
Change In Policyholder Dividend Obligation:
Balance at beginning of period........................................ $ 167.2 $ 115.5
Unrealized gains on assets............................................ 364.4 38.5
Excess of cumulative (loss) income.................................... (1.0) 13.2
-------------- ------------
Balance at end of period.............................................. $ 530.6 $ 167.2
============== ============
The following summarizes certain financial information relating to the closed block for the nine months ended September 30, 2002
(in millions):
Revenues:
Premiums................................................ $788.9
Net investment income................................... 422.8
Realized investment losses, net......................... (50.3)
----------
Total revenues.......................................... 1,161.4
----------
Expenses:
Benefits to policyholders............................... 811.4
Dividends to policyholders.............................. 294.6
Other operating costs and expenses...................... 8.6
Change in policyholder dividend obligation.............. (1.0)
----------
Total benefits and expenses............................. 1,113.6
----------
Contribution from the closed block, before income taxes 47.8
Income tax expense...................................... 16.6
----------
Contributions from closed block, after income taxes..... $ 31.2
==========
8. Income Taxes
The income taxes attributable to losses before cumulative effect of accounting changes are different than the amounts determined by
multiplying income before income taxes by the statutory income tax rate. The sources of the difference and the income tax effects
of each for the three months and the nine months periods ended September 30, 2002 and 2001were as follows (dollars in millions):
Three Months Nine Months
---------------------------------------------- -----------------------------------------------
2002 2001 2002 2001
--------------------- --------------------- --------------------- ---------------------
Amount % Amount % Amount % Amount %
---------- ------- ---------- ------- ---------- ------ ---------- -------
Income tax expense
(benefit) at statutory
rate.................... $(40.6) (35)% $(22.0) (35)% $(46.4) (35)% $(81.1) (35)%
Goodwill impairment....... 19.5 17% -- -- 19.5 15% -- --
Dividend received
deduction and tax
exempt interest.......... (1.6) (1)% (1.0) (2)% (2.6) (2)% (4.6) (2)%
Minority interest ........ (1.1) (1)% (0.6) (1)% (3.2) (2)% (1.8) (1)%
Low income housing
tax credit............... (1.0) (1)% (1.1) (2)% (3.1) (2)% (3.1) (1)%
Demutualization
expenses................. -- -- 0.7 1% 0.2 -- 6.8 3%
Differential earnings
(equity tax)............ -- -- (21.0) (33)% -- -- (21.0) (9)%
Other, net................ (1.2) (1)% 1.8 3% (4.8) (4)% (2.1) (1)%
---------- ------- ---------- ------- ---------- ------ ---------- -------
Income tax expense
(benefit)............... $(26.0) (22)% $(43.2) (69)% $(40.4) (30)% $(106.9) (46)%
========== ======= ========== ======= ========== ====== ========== =======
9. Discontinued Reinsurance Operations
In 1999, Phoenix exited its reinsurance operations through a combination of sale, reinsurance and placement of certain components
into run-off. The reinsurance segment consisted primarily of individual life reinsurance operations as well as group accident and
health reinsurance business. Phoenix placed the retained group accident and health reinsurance business into run-off. Phoenix
adopted a formal plan to stop writing new contracts covering these risks and end the existing contracts as soon as those contracts
would permit. However, Phoenix remained liable for claims under those contracts.
Phoenix has established reserves and reinsurance recoverables for claims and related expenses that we expect to pay on our
discontinued group accident and health reinsurance business. These reserves and reinsurance recoverables are a net present value
amount that is based on currently known facts and estimates about, among other things, the amount of insured losses and expenses
that we believe we will pay, the period over which they will be paid, the amount of reinsurance we believe we will collect under
our finite reinsurance and our other reinsurance to cover our losses and the likely legal and administrative cost of winding down
the business. Total reserves were $40 million and total reinsurance recoverables were $80 million at September 30, 2002. In
addition, in 1999 we purchased finite aggregate excess-of-loss reinsurance to further protect us from unfavorable results from
this discontinued business. The maximum coverage available is currently $150 million. The amount of our total financial
provisions at September 30, 2002 was therefore $110 million, consisting of reserves, less reinsurance recoverables, plus the
amount currently available from our finite aggregate excess-of-loss reinsurance. Based on the most recent information available,
Phoenix did not recognize any additional reserve provisions during the first nine months of 2002.
Phoenix's reserves and aggregate excess-of-loss reinsurance coverage are expected to cover the run-off of the business; however,
the nature of the underlying risks is such that the claims may take years to reach the reinsurers involved. Therefore, Phoenix
expects to pay claims out of existing estimated reserves for up to ten years as the level of business diminishes.
A significant portion of the claims arising from the discontinued group accident and health reinsurance business arises from the
activities of Unicover Managers, Inc. ("Unicover"). Unicover organized and managed a group, or pool, of insurance companies
("Unicover pool") and certain other facilities, which reinsured the life and health insurance components of workers' compensation
insurance policies issued by various property and casualty insurance companies. Phoenix was a member of the Unicover pool. Phoenix
terminated its participation in the Unicover pool effective March 1, 1999.
Phoenix is involved in disputes relating to the activities of Unicover. Under Unicover's underwriting authority, the Unicover pool
and Unicover facilities wrote a dollar amount of reinsurance coverage that was many times greater than originally estimated. As a
member of the Unicover pool, Phoenix is involved in several disputes in which the pool members assert that they can deny coverage
to certain insurers that claim that they purchased reinsurance coverage from the pool.
Further, Phoenix was, along with Sun Life Assurance of Canada ("Sun Life") and Cologne Life Reinsurance Company ("Cologne Life"),
a retrocessionaire (meaning a reinsurer of other reinsurers) of the Unicover pool and two other Unicover facilities, providing the
pool and facility members with reinsurance of the risks that the pool and facility members had assumed. In September 1999, Phoenix
joined an arbitration proceeding that Sun Life had begun against the members of the Unicover pool and the Unicover facilities. In
this arbitration, Phoenix and Sun Life sought to cancel their retrocession agreement on the grounds that material misstatements
and nondisclosures were made to them about, among other things, the amount of risks they would be reinsuring. The arbitration
proceeded only with respect to the Unicover pool, because Phoenix, Sun Life and Cologne Life reached settlement with the two
Unicover facilities in the first quarter of 2000. On October 8, 2002, the arbitration panel issued its decision. The financial
implications of the decision are consistent with Phoenix's current financial provisions.
In its capacity as a retrocessionaire of the Unicover business, Phoenix had an extensive program of its own reinsurance in place
to protect it from financial exposure to the risks it had assumed. Currently, Phoenix is involved in separate arbitration
proceedings with certain of its own retrocessionaires which are seeking on various grounds to avoid paying any amounts to Phoenix.
Most of these proceedings remain in their preliminary phases. Because the same retrocession program that covers Phoenix's Unicover
business covers a significant portion of its other remaining group accident and health reinsurance business, Phoenix could have
additional material losses if one or more of its retrocesssionaires successfully avoids its obligations.
A second set of disputes involves personal accident business that was reinsured in the London reinsurance market in the mid-1990s
in which Phoenix participated. The disputes involve multiple layers of reinsurance, and allegations that the reinsurance program
created by the brokers involved in placing those layers was interrelated and devised to disproportionately pass losses to a top
layer of reinsurers. Many companies who participated in this business are involved in arbitrations in which those top layer
companies are attempting to avoid their obligations on the basis of misrepresentation. Because of the complexity of the disputes
and the reinsurance arrangements, many of these companies are currently participating in negotiations of the disputes for certain
contract years, and Phoenix believes that similar discussions will follow for the remaining years. Although Phoenix is vigorously
defending its contractual rights, Phoenix is actively involved in the attempt to reach negotiated business solutions.
Given the uncertainty associated with litigation and other dispute resolution proceedings, and the expected long-term development
of net claims payments, the estimated amount of the loss on disposal of reinsurance discontinued operations may differ from actual
results. However, it is management's opinion, after consideration of the provisions made in these financial statements, that
future developments will not have a material effect on Phoenix's consolidated financial position.
The assets and liabilities of the discontinued operations have been excluded from the assets and liabilities of continuing
operations and separately identified on the Consolidated Balance Sheet. Net assets of the discontinued operations totaled $20.8
million as of September 30, 2002 and December 31, 2001.
There were no discontinued reinsurance operating results for the nine months ended September 30, 2002 and 2001.
10. Commitments and Contingencies
Certain group accident and health reinsurance business has become the subject of disputes concerning the placement of the business
with reinsurers and the recovery of the reinsurance. See note 9, "Discontinued Reinsurance Operations."
Phoenix has commitments under the terms of two of its acquisition agreements. Phoenix may be obligated to pay an additional amount
in 2005 for its initial ownership interest in Capital West Asset Management, LLC depending upon Capital West Asset Management's
revenue growth through 2004. Phoenix may also be obligated to pay an additional amount in 2004 for its initial ownership interest
in Kayne Anderson Rudnick based upon Kayne Anderson Rudnick's management fee revenue growth through 2003. In addition, Phoenix
will purchase additional ownership interests in Capital West Asset Management and Kayne Anderson Rudnick by 2007.
As of September 30, 2002, Phoenix had off-balance sheet unfunded commitments totaling $164.1 million to 78 different private
equity funds. These unfunded commitments can be drawn down by the various private equity funds as necessary to fund their
portfolio investments over the next three years. The amount collectively drawn down by the private equity funds in our portfolio
over the nine months ended September 30, 2002 was $31.8 million. The amounts collectively drawn down by the private equity funds
in our portfolio over the last three years were $47.0 million in 2001, $96.9 million in 2000 and $108.5 million in 1999. During
that same three-year period, the private equity funds in our portfolio have made cash and stock distributions to Phoenix valuing
$63.1 million in 2001, $245.1 million in 2000 and $101.4 million in 1999. Cash and stock distributions to Phoenix for the nine
months ended September 30, 2002 were $34.8 million.
Phoenix has letters of credit provided by commercial banks totaling $10.3 million as of September 30, 2002.
Phoenix has entered into certain agreements with a small number of both Phoenix Life's and PXP's key executives that will, in
certain circumstances, provide separation benefits upon the termination of an executive's employment by the company for reasons
other than death, disability, cause or retirement, or by the executive for "good reason," as defined in the agreements. For most
of these executives, the agreements provide this protection only if the termination occurs following (or is effectively connected
with) the occurrence of a change of control, as defined in the agreements. For additional details, see our proxy statement for
the 2002 Annual Meeting of Shareholders and the various employment-related contracts contained as exhibits in our filings with the
Securities and Exchange Commission.
11. Stock-based Compensation
Stock Options
Phoenix has a plan through which it makes options available to employees at the discretion of its board of directors. Non-employee
directors receive option grants under a separate plan at the discretion of the board of directors. Exercise prices are generally
fixed at the market value of the company's common stock at the date of grant. Under the employee plan, options vest and are
exercisable over a three-year period. Under the directors plan, options vest and are exercisable immediately, provided no options
may be exercised until after the second anniversary of the company's IPO. The employee plan authorized the issuance of up to 5% of
the total number of common stock shares outstanding immediately after the IPO in June 2001, or 5.3 million shares. All options
have an expiration date not exceeding ten years. The directors plan authorized the issuance of not more than 500,000 shares.
Phoenix granted 5,000 options during the three months ended September 30, 2002 and 4,456,906 options during the nine months ended
September 30, 2002. The options granted during the second quarter were granted at $16.20 and the options granted during the third
quarter were granted at $15.90. During the three and nine months ended September 30, 2002, 7,500 options were forfeited; no
options were exercised and none expired. No options were exercisable at September 30, 2002.
Phoenix has chosen to account for these stock options in accordance with initial accounting guidance that treats these options as
capital transactions, not as compensation expense. Accordingly, Phoenix is providing pro forma disclosures of earnings and
earnings per share as if it had elected to treat the options as compensation expense (in millions, except per share amounts):
Three Nine
Months Months
------------ ------------
Net income (loss):
As reported................................................ $ (93.0) $ (231.6)
Pro forma.................................................. $ (95.4) $ (236.9)
Basic earnings per share:
As reported................................................ $ (.96) $ (2.34)
Pro forma.................................................. $ (.99) $ (2.39)
Pro forma after-tax compensation expense is $2.4 million for the three months ended September 30, 2002 and $5.3 million for the
nine months ended September 30, 2002. The options related to approximately $1.3 million of the pro forma expense have fully vested
as of September 30, 2002 and there will be no additional pro forma expense recognition for those options.
The pro forma adjustment relating to options granted is based on a fair value method using the Black-Scholes option pricing model.
Valuation and related assumption information consists of: expected volatility at 34.9%, risk-free interest rate at 5.5% and common
share dividend yield of 0.9%. The Black-Scholes option valuation model was developed for use in estimating the fair value of
options that have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of
highly subjective assumptions including the expected share price volatility. Because Phoenix's share options have characteristics
significantly different from those of traded options, and because changes in the subjective input assumptions can materially
affect the fair value estimate, especially in a security traded for only a short time, in Phoenix's opinion the existing models do
not necessarily provide a reliable measure of the fair value of its share options. Notwithstanding these concerns, the
Black-Scholes model was used to develop the above pro forma costs.
Restricted Stock Units
During the third quarter of 2002, Phoenix awarded 573,477 restricted stock units valued at $13.95 per share. The entire expense
associated with the award was recognized for the three months ended September 30, 2002 with a corresponding credit to additional
paid-in capital. The restriction period for this award ends June 25, 2006, at which time shares of Phoenix common stock will be
issued to settle the restricted stock units obligation.
12. Earnings Per Share
The 2001 weighted-average shares outstanding calculation is pro forma and is based on the weighted-average shares outstanding for
the period from the demutualization and initial public offering to the end of the year.
Common stock equivalents, including stock options and restricted stock units, have not been included in the earnings per share
calculation because the effect would be anti-dilutive. If the effect had been dilutive, there would have been 573,477 common stock
equivalent shares from restricted stock units. The weighted-average effect from the restricted stock units on the quarter would
have been 19,116 shares, and the year-to-date effect would have been 6,372 shares.
13. Subsequent Event
At September 30, 2002, Phoenix owned approximately 6.1% (13.95% when the convertible subordinated debenture is included) of the
common stock of Hilb, Rogal and Hamilton Company, or HRH, a publicly-traded insurance intermediary. Phoenix acquired 1,730,084
shares of HRH common stock in 1999. Also in 1999, Phoenix acquired a 5.25% convertible subordinated debenture issued by HRH for
$32.0 million. We converted the debenture, which would have matured on May 3, 2014, into 2,813,186 shares of HRH common stock on
November 12, 2002.
Our investment in HRH common stock is reported on the equity method. Our investment in HRH's convertible debenture is reported at
fair value with net unrealized gains or losses included in equity. The notes and common stock are classified as affiliate equity
and debt securities in the consolidated balance sheet.
On November 13, 2002, Phoenix sold 3,622,500 stock purchase contracts, including 472,500 stock purchase contracts pursuant to an
over-allotment option granted to the underwriters of the offering. The purchase contracts were sold at a price of $38.10 per
purchase contract.
Under each purchase contract, Phoenix will make quarterly contract adjustment payments at the rate of 7.0 percent of the initial
price per year, payable quarterly beginning on February 13, 2003. Contract holders will receive shares of HRH from us on November
13, 2005. The number of shares to be delivered for each purchase contract on the settlement date will range between 0.8197 shares
and 1.000 shares, depending on HRH's stock price during a specified period prior to the settlement date.
The purchase contract offering was concurrent with a separate secondary offering of 1,804,000 shares of HRH common stock, 654,000
of which were being offered by Phoenix, with the remaining 1,150,000 being offered by HRH. Those shares initially were priced at
$38.10 per share. Phoenix also granted the underwriters an over-allotment option of up to 266,770 shares.
After deducting for underwriting discounts and commissions, Phoenix received $156.5 million in aggregate net proceeds from the
stock purchase contracts offering, the exercise of the related over-allotment option, and the separate secondary offering. Phoenix
will convey these net proceeds (or approximately $166 million if the remaining underwriters' over-allotment option is exercised)
to Phoenix Life (our subsidiary that originally owned the stock and convertible notes), which will use the proceeds for general
corporate purposes. Assuming the remaining over-allotment options are exercised, Phoenix would recognize an additional pre-tax
GAAP realized gain of approximately $23 million in the fourth quarter of 2002 and at least $94 million in the fourth quarter of
2005. In addition, Phoenix Life would recognize a pre-tax statutory gain of approximately $54.5 million in the fourth quarter of
2002.
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
Management's discussion and analysis reviews: our consolidated financial condition as of September 30, 2002 as compared to December
31, 2001; our consolidated results of operations for the three and nine months ended September 30, 2002 and 2001; and, where
appropriate, factors that may affect our future financial performance. This discussion and analysis should be read in conjunction
with our unaudited interim financial statements and notes thereto of The Phoenix Companies, Inc. ("Phoenix") contained in this filing
as well as in conjunction with the audited financial statements and related notes included in our Annual Report on Form 10-K for the
year ended December 31, 2001.
This quarterly report contains statements that constitute forward-looking statements within the meaning of the Private Securities
Litigation Reform Act of 1995. These include statements relating to trends in, or representing our beliefs about, our future
strategies, operations and financial results, as well as other statements including words such as "anticipate," "believe," "plan,"
"estimate," "expect," "intend," "may," "should" and other similar expressions. Forward-looking statements are made based upon our
current expectations and beliefs concerning trends and future developments and their potential effects on the company. They are not
guarantees of future performance. Actual results may differ materially from those suggested by forward-looking statements as a result
of risks and uncertainties, which include, among others:
o changes in general economic conditions, including changes in interest and currency exchange rates and the performance of
financial markets;
o heightened competition with respect to pricing, entry of new competitors and the development of new products and services by
new and existing competitors;
o our primary reliance, as a holding company, on dividends from our subsidiaries to meet debt payment obligations and the
applicable regulatory restrictions on the ability of our subsidiaries to pay such dividends;
o regulatory, accounting or tax changes that may affect the cost of, or demand for, the products or services of our
subsidiaries;
o downgrades in the claims paying ability or financial strength ratings of our subsidiaries;
o discrepancies between actual claims experience and assumptions used in setting prices for the products of insurance
subsidiaries' and establishing the liabilities of such subsidiaries for future policy benefits and claims relating to such
products;
o movements in the equity markets that affect our investment results, including those from venture capital, the fees we earn
from assets under management and the demand for our variable products;
o our success in achieving planned expense reductions; and
o other risks and uncertainties described from time to time in our filings with the Securities and Exchange Commission.
We specifically disclaim any obligation to update or revise any forward-looking statement, whether as a result of new information,
future developments or otherwise.
We are a leading provider of wealth management products and services offered through a variety of select advisors and financial
services firms to serve the accumulation, preservation and transfer needs of the affluent and high-net-worth market, businesses and
institutions. We refer to our products and services together as our wealth management solutions. We offer a broad range of life
insurance, annuity and investment management solutions through a variety of distributors. These distributors include affiliated and
non-affiliated advisors and financial services firms who make our solutions available to their clients.
Our Demutualization
On June 25, 2001, Phoenix Home Life Mutual Insurance Company ("Phoenix Mutual") converted from a mutual life insurance company to a
stock life insurance company (Phoenix Life Insurance Company, or "Phoenix Life") and became a wholly-owned subsidiary of Phoenix. At
the same time, Phoenix Investment Partners, Ltd. ("PXP") became an indirect wholly-owned subsidiary of Phoenix.
Phoenix Life established a closed block for the benefit of holders of certain individual life insurance policies (closed block
policies). The purpose of the closed block is to ensure that the reasonable dividend expectations of policyholders who own policies
included in the closed block are met. The closed block will continue in effect until the date none of such policies is in force. On
June 25, 2001, Phoenix Life allocated assets to the closed block in an amount that produces cash flows which, together with
anticipated revenue from the closed block policies, are reasonably expected to be sufficient in the aggregate to support the
obligations and liabilities relating to these policies and to provide for a continuation of dividend scales in effect at that time,
if the experience underlying such scales continues. Appropriate adjustments will be made to the dividend scales when actual
experience differs from the aggregate experience underlying such scales.
In addition to the closed block assets, we hold assets outside the closed block in support of closed block liabilities. Investment
earnings on these assets less allocated expenses and the amortization of deferred acquisition costs provide an additional source of
earnings to our stockholders. In addition, the amortization of deferred acquisition costs requires the use of various assumptions.
To the extent that actual experience is more or less favorable than assumed, stockholder earnings will be affected.
In addition, Phoenix Life remains responsible for paying the benefits guaranteed under the policies included in the closed block,
even if cash flows and revenues from the closed block prove insufficient. We funded the closed block to provide for these payments
and for continuation of dividends paid under 2000 policy dividend scales, assuming the experience underlying such dividend scales
continues. Therefore, we believe that Phoenix Life will not have to pay these benefits from assets outside the closed block, unless
the closed block business experiences substantial adverse deviations in investment, mortality, persistency or other experience
factors. We will accrue contributions necessary to fund guaranteed benefits under the closed block if it becomes probable that we
will be required to fund any shortage.
The allocation of assets for the closed block was made as of December 31, 1999. Consequently, cumulative earnings on the closed block
assets and liabilities for the period January 1, 2000 to September 30, 2002 in excess of expected cumulative earnings do not inure to
stockholders and have been used to establish a policyholder dividend obligation as of September 30, 2002. For the nine months ended
September 30, 2002, the increase in the policyholder dividend obligation of $363.4 million pre-tax consists of $1.0 million of
pre-tax losses offset by the change in unrealized gains on assets in the closed block of $364.4 million, pre-tax.
We incurred costs relating to the demutualization, excluding costs relating to the initial public offering, of $39.2 million, net of
income taxes of $10.2 million, of which $14.1 million was recognized in the year ended December 31, 2000, $23.9 million was
recognized in the year ended December 31, 2001 and $1.2 million was recognized in the nine months ended September 30, 2002.
Recently Issued Accounting Standard
Goodwill and Other Intangible Assets. Effective January 1, 2002, we adopted the new accounting standard for goodwill and other
intangible assets, including amounts reflected in equity-method investments. The standard primarily addresses the accounting for
goodwill and intangible assets subsequent to their initial recognition. Under the standard, amortization of goodwill and other
intangible assets with indefinite lives recorded in past business combinations was discontinued after 2001 and reporting units have
been identified for the purpose of assessing potential future impairments of goodwill. In accordance with the standard, amortization
of goodwill and indefinite-lived assets has not been recognized after 2001.
The standard also requires that goodwill and indefinite-lived intangible assets be tested at least annually for impairment. Upon
adoption of the standard, we tested our goodwill and indefinite-lived intangible assets for impairment by comparing the fair value to
the carrying amount of the asset as of the beginning of 2002. The effect of adopting the standard in 2002 decreased after-tax income
by $130.3 million ($1.32 per share) for the nine months ended September 30, 2002, primarily due to declines in the market value of
investment management business units previously acquired.
In the third quarter of 2002, we tested our goodwill in accordance with the new accounting standard. We determined that the carrying
value of certain goodwill had become impaired. Consequently, we wrote-off $66.3 million ($62.3 million after-tax) of goodwill in the
third quarter. See note 4 of the unaudited consolidated financial statements in this Form 10-Q.
Significant Transactions
Management Restructuring Reserve. We recorded a reserve of $33.5 million, pre-tax ($21.8 million, after-tax) in the second quarter of
2002 primarily in connection with organizational and employment-related costs. In the third quarter of 2002, the reserve was
increased $5.6 million, pre-tax ($3.6 million, after-tax) for additional related costs.
Collateralized Bond Obligation. In August 2002, PXP closed the Phoenix-Mistic 2002-1 CBO, Ltd. $1 billion collateralized bond
obligation consisting primarily of investment grade fixed income assets. The related assets and liabilities are included in separate
account and investment trust assets and liabilities at September 30, 2002.
Variable Life and Annuity Business Acquisition. On July 23, 2002, Phoenix Life, through a wholly-owned subsidiary, acquired the
variable life and variable annuity business of Valley Forge Life Insurance Company (a subsidiary of CNA Financial Corporation),
effective July 1, 2002. The business acquired had a total account value of about $557.0 million as of June 30, 2002. This transaction
was effected through a coinsurance agreement. The business acquired generated a $3.9 million operating loss, after taxes, for the
three and nine months ended September 30, 2002.
Kayne Anderson Rudnick. On January 29, 2002, PXP acquired a majority interest in Kayne Anderson Rudnick. In accordance with the terms
of the acquisition agreement, PXP purchased an initial 60% interest, with future purchases of an additional 15% to occur by 2007.
Kayne Anderson Rudnick's management retained the remaining ownership interests. In addition to the cash payment of approximately
$100 million made at closing, a subsequent payment may be made in 2004 based upon growth in management fee revenues of the purchased
business through 2003. Kayne Anderson Rudnick, based in Los Angeles, California, had approximately $8.1 billion in assets under
management at September 30, 2002. Kayne Anderson Rudnick's results of operations for the period beginning January 30, 2002 through
September 30, 2002 are included in our consolidated results of operations for the nine months ended September 30, 2002. Our 2001
results do not include the financial results of Kayne Anderson Rudnick. Had Kayne Anderson Rudnick been acquired at the beginning of
2001, it would have contributed $10.5 million to Phoenix's consolidated revenues for the quarter ended September 30, 2001, and it
would have contributed $4.0 million to income from operations (pre-tax and excluding minority interest) for the quarter. Kayne
Anderson Rudnick's contribution to consolidated revenues for the nine months ended September 30, 2001 would have been $28.5 million,
and its contribution to income from operations would have been $9.3 million for the nine months ended September 30, 2001.
Stock Repurchase Program. We have a stock repurchase program with a total share repurchase authorization of 13 million shares.
Purchases can be made on the open market, as well as through negotiated transactions, subject to market prices and other conditions.
The repurchase program may be modified, extended or terminated by the board of directors at any time. At September 30, 2002, we had
repurchased 12.0 million shares of our common stock at an average price of $15.92 per share, including 7.5 million shares acquired in
the nine months ended September 30, 2002 at an average price of $16.61 per share.
Deferred Policy Acquisition Costs. In the first quarter of 2002, we revised the mortality assumptions used in the development of
estimated gross margins for the traditional participating block of business to reflect favorable experience. This revision resulted
in a pre-tax $22.1 million decrease in policy acquisition cost amortization expense in the first quarter of 2002. In the third
quarter of 2002, we revised the long-term market return assumption for the annuity block of business from 8% to 7%. In addition, as
of September 30, 2002, Phoenix recorded an impairment charge related to the recoverability of its deferred acquisition cost asset
related to the variable annuity business. The revision in long-term market return assumption and the impairment charge resulted in a
$13.5 million pre-tax ($8.8 million after-tax) increase in policy acquisition cost amortization expense in the third quarter of 2002.
Consolidated Results of Operations
The following table presents summary consolidated financial data for the three and nine months ended September 30, 2002 and 2001 (in
millions).
Three Months Nine Months
---------------------------------------- ---------------------------------------
2002 2001 Change 2002 2001 Change
---------- ----------- ---------- ---------- --------- ----------
REVENUES:
Premiums................................ $297.1 $ 302.7 $ (5.6) $813.9 $836.0 $(22.1)
Insurance and investment product fees... 139.4 129.1 10.3 425.6 414.3 11.3
Net investment income................... 228.8 194.7 34.1 675.7 588.6 87.1
Net realized investment losses.......... (10.5) (16.7) 6.2 (74.1) (37.2) (36.9)
---------- ----------- ---------- ---------- --------- ----------
Total revenues..................... 654.8 609.8 45.0 1,841.1 1,801.7 39.4
---------- ----------- ---------- ---------- --------- ----------
BENEFITS AND EXPENSES:
Policy benefits......................... 397.9 390.4 7.5 1,070.7 1,056.7 14.0
Policyholder dividends.................. 112.7 105.7 7.0 294.4 301.7 (7.3)
Policy acquisition cost amortization ... 41.1 33.3 7.8 41.6 95.3 (53.7)
Goodwill impairment..................... 66.3 -- 66.3 66.3 -- 66.3
Intangible asset amortization........... 8.9 12.7 (3.8) 24.8 37.2 (12.4)
Interest expense........................ 7.7 6.4 1.3 23.1 21.2 1.9
Demutualization expenses................ .2 5.3 (5.1) 1.7 24.8 (23.1)
Other operating expenses................ 135.9 118.8 17.1 451.0 496.4 (45.4)
---------- ----------- ---------- ---------- --------- ----------
Total benefits and expenses........ 770.7 672.6 98.1 1,973.6 2,033.3 (59.7)
---------- ----------- ---------- ---------- --------- ----------
Income (loss) before income taxes
and minority interest................ (115.9) (62.8) (53.1) (132.5) (231.6) 99.1
Applicable income tax (benefit)expense.. (26.0) (43.2) 17.2 (40.4) (106.9) 66.5
---------- ----------- ---------- ---------- --------- ----------
Income (loss) before minority interest (89.9) (19.6) (70.3) (92.1) (124.7) 32.6
Minority interest in net income of
subsidiaries......................... 3.1 1.6 1.5 9.2 5.1 4.1
---------- ----------- ---------- ---------- --------- ----------
Income (loss) before cumulative
effect of accounting changes......... (93.0) (21.2) (71.8) (101.3) (129.8) 28.5
Cumulative effect of accounting
changes:
Goodwill impairment................. -- -- -- (130.3) -- (130.3)
Securitized financial instruments... -- -- -- -- (20.5) 20.5
Venture capital partnerships........ -- -- -- -- (48.8) 48.8
Derivative financial instruments.... -- -- -- -- 3.9 (3.9)
---------- ----------- ---------- ---------- --------- ----------
Net loss................................ $ (93.0) $ (21.2) $ (71.8) $ (231.6) $ (195.2) $ (36.4)
========== =========== ========== ========== ========= ==========
The fluctuations in both premiums and insurance and investment product fees for the comparative three-month and nine-month periods
reflect our continued emphasis on variable universal life, universal life and annuity product sales, rather than on traditional life
product sales.
The increases in net investment income for the comparative three-month and nine-month periods were due primarily to decreased losses
in our venture capital portfolio in 2002 and increased investment income, including equity in the increased earnings of our
investments in Aberdeen. Investment income increased in 2002 due to higher invested asset balances from the investment of proceeds
from our IPO, our December 2001 debt offering and growth in our annuity business. The increase was partially offset by a drop in new
money rates during 2002.
The increase in realized investment losses for the comparative nine-month periods was due primarily to increased credit related
losses in the telecommunications industry and collateralized debt obligation holdings. The majority of these losses were in the
closed block.
The increase in policyholder dividends for the comparative three-month periods was due primarily to the growth of our policyholder
dividend obligation resulting from favorable mortality and persistency experience.
The increase in policy acquisition cost amortization for the comparative three-month periods was due primarily to a $13.5 million
pre-tax acceleration of deferred acquisition costs primarily related to the variable annuity business. It resulted from a revision of
our long-term market return assumption for annuities from 8% to 7% and an impairment charge related to the recoverability of our
deferred acquisition cost asset related to our variable annuities business. The Valley Forge block we acquired at the beginning of
the quarter, which experienced significant declines in assets due to equity market declines, accounts for $4.5 million of this
acceleration. The increase in amortization was partially offset by favorable mortality and persistency experience in other blocks of
business.
The decrease in policy acquisition cost amortization for the comparative nine-month periods was primarily due to favorable mortality
and persistency experience and revised mortality assumptions, offset by a $13.5 million acceleration of deferred acquisition cost
expense related to our annuity business in the third quarter of 2002. Deferred policy acquisition costs for individual participating
life insurance policies are amortized in proportion to estimated gross margins. The amortization process requires the use of various
assumptions, estimates and judgments about the future. The primary assumptions involve expenses, investment performance, mortality
and contract cancellations (i.e. lapses, withdrawals and surrenders). These assumptions are reviewed on a regular basis and are
generally based on our past experience, industry studies, regulatory requirements and judgments about the future. In the first
quarter of 2002, we revised the mortality assumptions used in the development of estimated gross margins to reflect favorable
experience and, as a result, the amortization cost decreased.
Goodwill impairment for the three-month and nine-month periods ended September 30, 2002 relates to goodwill associated with certain
of our investment management partners. In the third quarter of 2002, we tested our goodwill in accordance with the new accounting
standard. We determined that the carrying value of certain goodwill had become impaired and recorded a charge of $66.3 million ($62.3
million after-tax) in the third quarter.
The decreases in intangible asset amortization for the comparative three-month and nine-month periods were due to our current year
adoption of the recently issued goodwill accounting standard, which ended the amortization of goodwill and indefinite-lived assets on
January 1, 2002.
Interest expense increased in both current year reporting periods due to higher levels of indebtedness in 2002 than in 2001.
The increase in other operating expenses for the comparative three-month periods was due primarily to higher Life and Annuity expenses
and the non-recurring management restructuring charge of $5.6 million, pre-tax. Life and Annuity expenses were higher due principally
to pension costs, slightly higher compensation and corporate overhead absorption. The decrease in other operating expenses for the
comparative nine-month periods was due mostly to lower non-recurring charges and Corporate and Other segment expenses. This decrease
was partially offset by increases in Life and Annuity and Investment Mnagement segment expenses. Life and Annuity expenses were higher
due primarily to pension costs, slightly higher compensation and corporate overhead absorption. Investment Management expenses were
higher due to the expenses of Kayne Anderson Rudnick. We acquired a majority interest in Kayne Anderson Rudnick on January 29, 2002.
Our effective income tax benefit rates of 22.4% and 30.5% for the three months and nine months ended September 30, 2002,
respectively, differed from the statutory U.S. federal income tax benefit rate of 35% as a result of the tax benefits associated with
low income housing tax credits, non-taxable dividend and interest income and the recovery of non-taxable amounts related to an IRS
settlement, offset by the tax on nondeductible goodwill impairment charges. The effective income tax benefit rates of 68.8% and
46.2% for the three months and nine months ended September 30, 2001, respectively, also differed from the statutory income tax
benefit rate of 35% as a result of the non-deductible demutualization expenses offset by the tax benefits associated with low income
housing tax credits and non-taxable dividend and interest income.
Based on the current low level of pre-tax operating income in relation to permanent tax benefits, future changes in pre-tax operating
income may produce disproportionate changes to the effective income tax rate. As a result, the effective income tax rate for the
three and nine months ended September 30, 2002 should not be considered an estimate of the effective income tax rate for the year
2002. The effective benefit rate for the year 2001, excluding the equity tax applicable to mutual life insurance company operations
and nondeductible demutualization expenses, was 39%.
Results of Operations by Segment
We evaluate segment performance on the basis of segment operating income. Realized investment gains and some non-recurring items are
excluded because we do not consider them when evaluating the financial performance of the segments. The size and timing of realized
investment gains are often subject to our discretion. Non-recurring items are removed from segment operating income if, in our
opinion, they are not indicative of overall operating trends. While some of these items may be significant components of net income
reported in accordance with generally accepted accounting principles ("GAAP"), we believe that segment operating income is an
appropriate measure that represents earnings attributable to the ongoing operations of our business. The criteria used to identify
non-recurring items and to determine whether to exclude a non-recurring item from segment operating income include whether the item
is infrequent and:
o is material to the segment's operating income; or
o results from a business restructuring; or
o results from a change in the regulatory environment; or
o relates to other unusual circumstances (e.g., litigation).
Non-recurring items excluded from segment after-tax operating income may vary from period to period. Because such items are excluded
based on our discretion, inconsistencies in the application of our selection criteria may exist. Segment after-tax operating income
is not a substitute for net income determined in accordance with GAAP and may be different from similarly titled measures of other
companies.
Segment Allocations
We allocate capital to Investment Management on an historical cost basis and to our Life and Annuity segment based on 250% of company
action level risk-based capital. We allocate net investment income based on the assets allocated to each segment. We allocate other
costs and operating expenses to each segment based on the nature of such costs, cost allocations using time studies, and other
allocation methodologies.
The following table presents a reconciliation of segment operating income to GAAP reported income for the three and nine months ended
September 30, 2002 and 2001 (in millions).
Three Months Nine Months
-------------------------------------- ----------------------------------------
2002 2001 Change 2002 2001 Change
---------- ---------- ---------- ---------- ----------- ----------
SEGMENT OPERATING INCOME (LOSS):
Life and Annuity........................... $ (1.2) $ 7.6 $ (8.8) $ 35.2 $ 38.7 $ (3.5)
Investment Management...................... (60.0) (.8) (59.2) (55.4) (1.8) (53.6)
---------- ----------- ---------- ---------- ---------- ----------
Total operating segments................ (61.2) 6.8 (68.0) (20.2) 36.9 (57.1)
Venture Capital............................ (14.3) (31.5) 17.2 (37.0) (65.1) 28.1
Corporate and Other........................ (6.3) (2.6) (3.7) (15.9) (19.7) 3.8
---------- ---------- ---------- ---------- ----------- ----------
Total segment operating loss............ $(81.8) $ (27.3) (54.5) (73.1) $ (47.9) (25.2)
---------- ---------- ---------- ---------- ----------- ----------
ADJUSTMENTS:
Net realized investment losses............. (7.6) (10.7) 3.1 (16.7) (24.1) 7.4
Management restructuring reserve........... (3.6) -- (3.6) (25.4) -- (25.4)
Deferred policy acquisition costs
mortality assumptions refinement...... -- -- -- 15.1 -- 15.1
Pension adjustment......................... -- 2.9 (2.9) -- 2.9 (2.9)
Surplus tax................................ -- 21.0 (21.0) -- 21.0 (21.0)
Demutualization expenses................... -- (3.9) 3.9 (1.2) (22.9) 21.7
Early retirement pension adjustment........ -- -- -- -- (11.3) 11.3
Partnership gains.......................... -- -- -- -- 2.4 (2.4)
Expense of purchase of PXP minority
interest.............................. -- (3.2) 3.2 -- (49.9) 49.9
---------- ---------- ---------- ---------- ----------- ----------
Total adjustments....................... (11.2) 6.1 (17.3) (28.2) (81.9) 53.7
---------- ---------- ---------- ---------- ----------- ----------
Income (loss) before cumulative effect
of accounting changes.................... $(93.0) $ (21.2) $(71.8) $ (101.3) $(129.8) $ 28.5
========== ========== ========== ========== =========== ==========
Life and Annuity Segment
The following table presents summary financial data relating to Life and Annuity for the three and nine months ended September 30,
2002 and 2001 (in millions).
Three Months Nine Months
---------------------------------------- ---------------------------------------
2002 2001 Change 2002 2001 Change
---------- ----------- ---------- ---------- --------- ----------
REVENUES:
Premiums............................. $297.1 $302.8 $ (5.7) $813.9 $836.0 $ (22.1)
Insurance and investment product fees 78.7 72.0 6.7 235.2 226.2 9.0
Net investment income................ 245.1 228.3 16.8 705.4 664.8 40.6
---------- ----------- ---------- ---------- --------- ----------
Total revenues.................. 620.9 603.1 17.8 1,754.5 1,727.0 27.5
---------- ----------- ---------- ---------- --------- ----------
BENEFITS AND EXPENSES:
Policy benefits and dividends........ 506.0 493.7 12.3 1,400.7 1,351.0 49.7
Policy acquisition cost amortization. 41.2 33.3 7.9 68.2 95.3 (27.1)
Other operating expenses............. 75.6 64.5 11.1 231.4 221.5 9.9
---------- ----------- ---------- ---------- --------- ----------
Total benefits and expenses..... 622.8 591.5 31.3 1,700.3 1,667.8 32.5
---------- ----------- ---------- ---------- --------- ----------
Operating income (loss) before
income taxes....................... (1.9) 11.6 (13.5) 54.2 59.2 (5.0)
Applicable income tax expense
(benefit).......................... (.7) 4.0 (4.7) 19.0 20.5 (1.5)
---------- ----------- ---------- ---------- --------- ----------
Segment operating income (loss)...... $ (1.2) $ 7.6 $ (8.8) $ 35.2 $ 38.7 $ (3.5)
========== =========== ========== ========== ========= ==========
The fluctuations in both premiums and insurance and investment product fees for the comparative three-month and nine-month periods
reflect our continued emphasis on variable universal life, universal life and annuity product sales, rather than on traditional life
product sales.
The increases in net investment income for the comparative three-month and nine-month periods resulted from increases in invested
assets, primarily from the fixed portion of our annuity business. The increase was partially offset by lower new money rates.
The increases in policy benefits and dividends for the comparative three-month and nine-month periods were due primarily to the
growth of our policyholder dividend obligation resulting from favorable mortality and persistency experience. Also, in the nine
months ended September 30, 2001, there was a one-time favorable adjustment (expense reduction) of $15.8 million, before-tax, related
to the establishment of the closed block, pursuant to the accounting rules for newly demutualized companies.
The increase in policy acquisition cost amortization expense for the comparative three-month periods was due primarily to a $13.5
million pre-tax ($8.8 million after-tax) acceleration of deferred acquisition costs primarily related to the variable annuity
business in the third quarter. It resulted from a revision of our long-term market return assumption for annuities from 8% to 7%. In
addition, $4.5 million of this acceleration is related to the Valley Forge block which we acquired at the beginning of the quarter
and which experienced significant declines in assets due to equity market declines. The increase in amortization was partially offset
by favorable mortality and persistency experience in other blocks of business.
The decrease in policy acquisition cost amortization for the comparative nine-month periods was primarily due to favorable mortality
and persistency experience and revised mortality assumptions, offset by a $13.5 million acceleration of deferred acquisition cost
expense related to our annuity business in the third quarter of 2002. Deferred policy acquisition costs for individual participating
life insurance policies are amortized in proportion to estimated gross margins. The amortization process requires the use of various
assumptions, estimates and judgments about the future. The primary assumptions involve expenses, investment performance, mortality
and contract cancellations (i.e. lapses, withdrawals and surrenders). These assumptions are reviewed on a regular basis and are
generally based on our past experience, industry studies, regulatory requirements and judgments about the future. In the first
quarter of 2002, we revised the mortality assumptions used in the development of estimated gross margins to reflect favorable
experience and, as a result, the amortization cost expense decreased.
The increases in other operating expenses for the comparative three-month and nine-month periods were due primarily to higher benefit
costs, mainly pension-related costs for the nine-month period. The segment also experienced slightly higher compensation expense and
corporate overhead absorption costs.
The following table presents variable annuity funds under management data for the three and nine months ended September 30, 2002 and
2001 (in millions).
Three Months Nine Months
---------------------------- ----------------------------
2002 2001 2002 2001
------------- ----------- ------------ -----------
Deposits.............................. $ 804.2 $ 235.5 $ 2,040.6 $ 899.5
Performance........................... (294.7) (578.4) (515.1) (932.9)
Fees.................................. (13.8) (15.5) (45.4) (50.6)
Benefits and surrenders............... (191.9) (109.6) (524.5) (388.3)
------------- ----------- ------------ -----------
Change in funds under management...... 303.8 (468.0) 955.6 (472.3)
Beginning balance..................... 5,400.9 4,398.9 4,749.1 4,403.2
------------- ----------- ------------ -----------
Ending balance........................ $ 5,704.7 $ 3,930.9 $5,704.7 $ 3,930.9
============= =========== ============ ===========
Investment Management Segment
The following table presents summary financial data relating to Investment Management for the three and nine months ended September
30, 2002 and 2001 (in millions).
Three Months Nine Months
---------------------------------------- ---------------------------------------
2002 2001 Change 2002 2001 Change
---------- ----------- ---------- ---------- --------- ----------
REVENUES:
Investment product fees.................. $ 62.6 $ 63.4 $ (.8) $199.4 $200.2 $ (.8)
Net investment income.................... 3.0 1.9 1.1 9.8 5.0 4.8
---------- ----------- ---------- ---------- --------- ----------
Total revenues...................... 65.6 65.3 .3 209.2 205.2 4.0
---------- ----------- ---------- ---------- --------- ----------
EXPENSES:
Goodwill impairment...................... 66.3 -- 66.3 66.3 -- 66.3
Intangible asset amortization............ 8.7 12.5 (3.8) 24.6 36.8 (12.2)
Other operating expenses................. 52.7 54.4 (1.7) 171.6 164.6 7.0
---------- ----------- ---------- ---------- --------- ----------
Total expenses...................... 127.7 66.9 60.8 262.5 201.4 61.1
---------- ----------- ---------- ---------- --------- ----------
Income (loss) before income taxes
and minority interest................. (62.1) (1.6) (60.5) (53.3) 3.8 (57.1)
Applicable income tax benefit ........... (5.2) (2.4) (2.8) (7.1) .5 (7.6)
---------- ----------- ---------- ---------- --------- ----------
Income (loss) before minority interest
in net income of subsidiaries......... (56.9) .8 (57.7) (46.2) 3.3 (49.5)
Minority interest in net income of
subsidiaries.......................... 3.1 1.6 1.5 9.2 5.1 4.1
---------- ----------- ---------- ---------- --------- ----------
Segment operating income (loss).......... $(60.0) $ (.8) $(59.2) $(55.4) $ (1.8) $ (53.6)
========== =========== ========== ========== ========= ==========
Poor equity market performance during the second and third quarters of 2002 decreased investment product fees. This decrease was
largely offset by $1.2 billion increases in average assets under management for each of the private client and institutional lines of
business during the third quarter. Our acquisition of Kayne Anderson Rudnick increased assets under management by $7.6 billion, and
the issuance of the Phoenix-Mistic CBO increased assets under management by $1 billion.
The increases in net investment income for the comparative three-month and nine-month periods were due primarily to equity in the
increased earnings of our investments in Aberdeen, an unconsolidated affiliate.
The goodwill impairment expense of $66.3 million for the three-month and nine-month periods ended September 30, 2002 relates to
goodwill associated with certain of our investment management partners. In the third quarter of 2002, we tested our goodwill in
accordance with the new accounting standard. We determined that the carrying value of certain goodwill had become impaired and
recorded a charge of $66.3 million ($62.3 million after-tax) in the third quarter.
The decreases in intangible asset amortization for the comparative three-month and nine-month periods were due to our current year
adoption of the recently issued goodwill accounting statement, which ended the amortization of goodwill and indefinite-lived assets
effective January 1, 2002.
The decrease in other operating expenses for the comparative three-month periods was due primarily to employment related expenses
which decreased $1.3 million. This decrease primarily resulted from reductions of management incentive accruals and performance-based
incentive plans at certain partners, partially offset by an increase in pension costs. Additionally, non-employment related expenses
decreased $0.5 million largely due to a reduced use of outside consultants.
The increase in other operating expenses for the comparative nine-month periods was due to employment related expenses at Kayne
Anderson Rudnick. Excluding Kayne Anderson Rudnick, other operating expenses for the comparative nine-month period decreased. This
decrease was primarily from reductions of management incentive accruals and performance-based incentive plans at certain partners,
partially offset by an increase in pension costs. Additionally, non-employment related expenses decreased $3.1 million ($7.1
million, excluding Kayne Anderson Rudnick) due primarily to reductions in the use of outside consultants, and decreased professional
fees and distribution costs.
The increases in minority interest in net income of subsidiaries for the comparative three-month and nine-month periods were due to
our acquisition of Kayne Anderson Rudnick earlier this year. The effect of this acquisition was partially offset by decreased
earnings at other subsidiaries in which there are minority investors.
The following table presents assets under management data for the three and nine months ended September 30, 2002 and 2001 (in
millions).
Three Months Nine Months
------------------------------- ----------------------------
2002 2001 2002 2001
-------------- ------------- ------------ ------------
TOTAL:
Deposits........................................ $ 3,009.1 $ 2,091.9 $ 8,337.1 $ 7,700.2
Redemptions and withdrawals..................... (2,599.0) (2,455.9) (8,079.6) (6,647.8)
Acquisitions.................................... 105.3 -- 7,755.4 713.9
Performance..................................... (4,377.6) (5,763.4) (8,336.4) (10,409.8)
Other........................................... 600.3 126.3 1,528.5 809.4
-------------- ------------- ------------ ------------
Change in funds under management................ (3,261.9) (6,001.1) 1,205.0 (7,834.1)
Beginning balance............................... 56,557.0 54,759.8 52,090.1 56,592.8
-------------- ------------- ------------ ------------
Ending balance.................................. $53,295.1 $48,758.7 $ 53,295.1 $ 48,758.7
============== ============= ============ ============
INSTITUTIONAL PRODUCTS:
Deposits........................................ $ 1,798.6 $ 1,082.8 $ 3,591.9 $ 3,945.3
Redemptions and withdrawals..................... (1,178.3) (1,169.3) (3,973.1) (2,370.7)
Acquisitions.................................... -- -- 1,507.7 --
Performance..................................... (1,063.1) (1,165.2) (2,601.1) (1,994.9)
Other........................................... 600.3 126.3 1,528.5 809.4
-------------- ------------- ------------ ------------
Change in funds under management................ 157.5 (1,125.4) 53.9 389.1
Beginning balance............................... 31,926.6 31,930.5 32,030.2 30,416.0
-------------- ------------- ------------ ------------
Ending balance.................................. $32,084.1 30,805.1 $ 32,084.1 $ 30,805.1
============== ============= ============ ============
PRIVATE CLIENT PRODUCTS:
Mutual Funds:
Deposits........................................ $ 318.4 $ 384.7 $ 971.0 $ 1,492.0
Redemptions and withdrawals..................... (610.5) (661.1) (1,942.1) (2,159.2)
Acquisitions.................................... -- -- 333.5 --
Performance..................................... (994.6) (2,163.3) (2,194.7) (3,772.8)
-------------- ------------- ------------ ------------
Change in funds under management................ (1,286.7) (2,439.7) (2,832.3) (4,440.0)
Beginning balance............................... 9,676.0 12,716.4 11,221.6 14,716.7
-------------- ------------- ------------ ------------
Ending balance.................................. $ 8,389.3 $ 10,276.7 $ 8,389.3 $ 10,276.7
============== ============= ============ ============
Intermediary Programs:
Deposits........................................ $ 802.9 $ 582.8 $ 3,577.9 $ 2,161.6
Redemptions and withdrawals..................... (731.6) (553.5) (1,838.9) (1,948.3)
Acquisitions.................................... -- -- 4,723.4 --
Performance..................................... (1,994.5) (1,801.1) (3,084.7) (3,728.8)
-------------- ------------- ------------ ------------
Change in funds under management ............... (1,923.2) (1,771.8) 3,377.7 (3,515.5)
Beginning balance............................... 11,120.5 6,660.4 5,819.6 8,404.1
-------------- ------------- ------------ ------------
Ending balance.................................. $ 9,197.3 $ 4,888.6 $ 9,197.3 $ 4,888.6
============== ============= ============ ============
Direct Managed Accounts:
Deposits........................................ $ 89.2 $ 41.6 $ 196.3 $ 101.3
Redemptions and withdrawals..................... (78.6) (72.0) (325.5) (169.6)
Acquisitions.................................... 105.3 -- 1,190.8 713.9
Performance..................................... (325.4) (633.8) (455.9) (913.3)
-------------- ------------- ------------ ------------
Change in funds under management ............... (209.5) (664.2) 605.7 (267.7)
Beginning balance............................... 3,833.9 3,452.5 3,018.7 3,056.0
-------------- ------------- ------------ ------------
Ending balance.................................. $ 3,624.4 $ 2,788.3 $ 3,624.4 $ 2,788.3
============== ============= ============ ============
Venture Capital Segment
Our investments in Venture Capital are primarily in the form of limited partnership interests in venture capital funds, leveraged
buyout funds and other private equity partnerships sponsored and managed by third parties. We refer to all of these types of
investments as venture capital.
We record our investments in venture capital partnerships in accordance with the equity method of accounting. Our pro rata share of
the earnings or losses of the partnerships, which represent realized and unrealized investment gains and losses, as well as
operations of the partnerships, is included in our investment income. We record our share of the net equity in earnings of the
venture capital partnerships in accordance with GAAP, using the most recent financial information received from the partnerships.
Historically, this information had been provided to us on a one-quarter lag. Due to the volatility in the equity markets, we believed
the one-quarter lag in reporting was no longer appropriate. Therefore, beginning in the first quarter of 2001 we changed our method
of applying the equity method of accounting to eliminate the quarterly lag in reporting. We removed the lag in reporting by
estimating the change in our share of the net equity in earnings of the venture capital partnerships for the period from December 31,
2000, the date of the most recent financial information provided by the partnerships, to our then current reporting date of March 31,
2001. To estimate the net equity in earnings of the venture capital partnerships for each quarter, we developed a methodology to
estimate the change in value of the underlying investee companies in the venture capital partnerships. For public investee companies,
we used quoted market prices at the end of each quarter, applying liquidity discounts to these prices in instances where such
discounts were applied in the underlying partnerships' financial statements. For private investee companies, we applied a public
industry sector index to roll the value forward each quarter. We applied this methodology consistently each quarter with subsequent
adjustments to reflect market events reported by the partnerships (e.g., new rounds of financing, initial public offerings and
writedowns by the general partners). In addition, on an annual basis we revised the valuations we have assigned to the investee
companies to reflect the valuations contained in the audited financial statements received from the venture capital partnerships. Our
venture capital earnings remain subject to equity market volatility.
In the first quarter of 2001, we recorded a charge of $48.8 million (net of income taxes of $26.3 million) representing the
cumulative effect of this accounting change on the fourth quarter of 2000. The cumulative effect was based on the actual fourth
quarter 2000 financial results as reported by the partnerships.
The following table presents summary financial data relating to Venture Capital for the three and nine months ended September 30,
2002 and 2001 (in millions).
Three Months Nine Months
---------------------------------------- ---------------------------------------
2002 2001 Change 2002 2001(1) Change
---------- ----------- ---------- ---------- --------- ----------
Net investment income (loss)............ $ (22.0) $ (48.5) $ 26.5 $(56.9) $ (100.2) $ 43.3
Applicable income tax expense
(benefit)............................. (7.7) (17.0) 9.3 (19.9) (35.1) 15.2
---------- ----------- ---------- ---------- --------- ----------
Segment operating income (loss)......... $ (14.3) $ (31.5) $ 17.2 $(37.0) $ (65.1) $ 28.1
========== =========== ========== ========== ========= ==========
(1) Information for the nine months ended September 30, 2001 excludes the charge of $48.8 million representing the cumulative
effect of an accounting change as described above.
The reduction in net investment losses for the comparative three-month and nine-month periods were primarily due to a reduced impact
of industry sector indices on lower partnership holdings balances in 2002 compared to 2001.
Corporate and Other Segment
The following table presents summary financial data relating to Corporate and Other for the three and nine months ended September 30,
2002 and 2001 (in millions).
Three Months Nine Months
---------------------------------------- ---------------------------------------
2002 2001 Change 2002 2001 Change
---------- ----------- ---------- ---------- --------- ----------
REVENUES:
Insurance and investment product fees $ 4.0 $ 2.8 $ 1.2 $ 9.9 $ 9.4 $ .5
Net investment income (loss) ............ .7 8.9 (8.2) 11.3 10.8 .5
---------- ----------- ---------- ---------- --------- ----------
Total revenues...................... 4.7 11.7 (7.0) 21.2 20.2 1.0
---------- ----------- ---------- ---------- --------- ----------
EXPENSES:
Policy benefits.......................... 3.4 2.4 1.0 9.6 7.4 2.2
Interest expense......................... 7.7 6.8 .9 23.1 21.6 1.5
Other operating expenses................. 6.3 4.4 1.9 21.9 33.2 (11.3)
---------- ----------- ---------- ---------- --------- ----------
Total expenses...................... 17.4 13.6 3.8 54.6 62.2 (7.6)
---------- ----------- ---------- ---------- --------- ----------
Income (loss) before income taxes........ (12.7) (1.9) (10.8) (33.4) (42.0) 8.6
Applicable income tax (benefit)expense... (6.4) .7 (7.1) (17.5) (22.3) 4.8
---------- ----------- ---------- ---------- --------- ----------
Segment operating loss................... $ (6.3) $ (2.6) $ (3.7) $(15.9) $ (19.7) $ 3.8
========== =========== ========== ========== ========= ==========
The increases in insurance and investment product fees for the comparative three-month and nine-month periods were due primarily to
increased revenues from our information technology consulting subsidiary.
The decrease in net investment income for the comparative three-month periods was due primarily to a decrease in invested assets in
2002. The increase for the comparative nine-month periods was due primarily to equity in increased earnings of unconsolidated
affiliates, including Hilb, Rogal and Hamilton Company, in 2002. In addition, net investment income in both periods was reduced as a
result of asset re-allocation to the Life and Annuity segment, effective January 1, 2002.
Policy benefits increased in the comparative three-month periods primarily due to higher group pension benefits. The increase in the
comparative three-month periods was principally the result of higher group life claims on our group policy carried by our
wholly-owned subsidiary.
Interest expense increased in both reporting periods due to higher levels of indebtedness in 2002 than in 2001.
The increase in other operating expenses for the comparative three-month periods was due primarily to a one-time insurance expense
recovery in the third quarter of 2001 that reduced that period's expense. We also experienced modestly higher technology related
costs. The decrease in other operating expenses for the comparative nine-month periods was due to our exit from our physician
practice management business in 2001 and lower unallocated corporate expenses in 2002.
General Account
The invested assets in our general account are generally of high quality and broadly diversified across asset classes, sectors and
individual credits and issuers. Our Investment Management professionals manage our general account assets in investment segments that
support specific product liabilities. These investment segments have distinct investment policies that are structured to support the
financial characteristics of the specific liability or liabilities within them. Segmentation of assets allows us to manage the risks
and measure returns on capital for our various businesses and products.
Separate Account and Investment Trust Assets and Liabilities
Separate account assets are managed in accordance with the specific investment contracts and guidelines relating to our variable
products. We generally do not bear any investment risk on assets held in separate accounts. Rather, we receive investment management
fees based on assets under management. Generally, assets held in separate accounts are not available to satisfy general account
obligations.
Investment trusts are assets held for the benefit of those institutional clients which have investments in structured finance
products offered and managed by our investment management subsidiary. Investment trusts for which PXP is the investment advisor and
actively manages the assets, and for which there is not a substantive amount of outside third party equity investment in the trust,
are consolidated in the financial statements. In 2001, we determined that two out of the eight investment trusts that PXP managed did
not have a substantive amount of outside equity and, as a result, we concluded that consolidation was required. Our financial
exposure is limited to our share of equity and bond investments in these vehicles and there are no financial guarantees from, or
recourse to, us for these investment trusts. Asset valuation changes are directly offset by changes in the corresponding
liabilities. We receive investment management fees for services provided to the trusts.
In August 2002, PXP, our investment management subsidiary, closed the Phoenix-Mistic 2002-1 CBO, Ltd. $1 billion collateralized bond
obligation consisting primarily of investment grade fixed income assets. The related assets and liabilities are included in separate
account and investment trust assets and liabilities at September 30, 2002.
Asset/Liability and Risk Management
Our primary investment objective is to maximize after-tax investment return within defined risk parameters. Our primary sources of
investment risk are:
o credit risk, which relates to the uncertainty associated with the ongoing ability of an obligor to make timely payments
of principal and interest;
o interest rate risk, which relates to the market price and cash flow variability associated with changes in market
interest rates; and
o equity risk, which relates to the volatility of prices for equity and equity-like investments.
We manage credit risk through fundamental analysis of the underlying obligors, issuers and transaction structures. We employ a staff
of specialized and experienced credit analysts who review obligors' management, competitive position, financial statements, cash
flow, coverage ratios, liquidity and other key financial and non-financial information. These specialists recommend the investments
needed to fund our liability guarantees within diversification and credit rating guidelines. In addition, when investing in private
debt securities, we rely upon broad access to management information, negotiated protective covenants, call protection features and
collateral protection. We review our debt security portfolio regularly to monitor the performance of obligors and assess the
integrity of their current credit ratings.
We manage interest rate risk as part of our asset/liability management process and product design procedures. Asset/liability
management strategies include the segmentation of investments by product line, and the construction of investment portfolios designed
to satisfy the projected cash needs of the underlying liabilities. We identify potential interest rate risk in portfolio segments by
modeling asset and liability durations and cash flows under current and projected interest rate scenarios. We use these projections
to assess and control interest rate risk.
We also manage interest rate risk by emphasizing the purchase of securities that feature prepayment restrictions and call protection.
Our product design and pricing strategies include the use of surrender charges or restrictions on withdrawals in some products. In
addition, we selectively apply derivative instruments, such as interest rate swaps, swaptions, and floors to reduce the interest rate
risk inherent in our portfolios. These derivatives are transacted with highly rated counterparties and monitored for effectiveness on
an ongoing basis. We use derivatives exclusively for hedging purposes.
We manage equity risk, as well as credit risk, through industry and issuer diversification and asset allocation. Maximum exposure to
an issuer is defined by quality ratings, with higher quality issuers having larger exposure limits. We have an overall limit on below
investment-grade rated issuer exposure.
For further information about our management of interest rate risk and equity risk, see "Management's Discussion and Analysis of
Financial Condition and Results of Operations--Quantitative and Qualitative Information About Market Risk."
Debt Securities
Our debt security portfolio consists primarily of investment-grade publicly-traded and privately-placed corporate bonds, residential
mortgage-backed securities, commercial mortgage-backed securities and asset-backed securities. As of September 30, 2002, debt
securities represented 72.0% of general account invested assets, with a carrying value of $11,818.6 million. Public debt securities
represented 77.3% of this total amount, with the remaining 22.7% consisted of private debt securities. Our debt securities are
classified as available-for-sale and are reported at fair value with unrealized gains or losses included in equity.
Each year, the majority of our net cash flows are invested in investment-grade debt securities. However, we maintain a portfolio
allocation of between 6% and 10% of debt securities in below investment-grade rated bonds. Allocations are based on our assessment of
relative value and the likelihood of enhancing risk-adjusted portfolio returns. The size of our allocation to below investment-grade
bonds is constrained by the size of our net worth. We are subject to the risk that the issuers of the debt securities we own may
default on principal and interest payments, particularly if a major economic downturn occurs. As of September 30, 2002, total debt
securities having an increased risk of default (those securities with a Securities Valuation Office ("SVO") securities rating of
four or greater) totaled $178.4 million, or 1.5% of our total debt security portfolio, and our below investment-grade debt securities
represented 7.9% of our total debt security portfolio.
The following table presents the SVO ratings for our debt security portfolio as of September 30, 2002 and December 31, 2001 (in
millions), along with an equivalent S%P rating agency designation. The majority of our bonds are investment grade, with 92.2%
invested in Categories 1 and 2 securities as of September 30, 2002.
Debt Securities by Credit Quality
SVO S%P Equivalent Total Debt Securities Public Debt Securities Private Debt Securities
-------------------------- --------------------------- ---------------------------
Rating Designation 2002 2001 2002 2001 2002 2001
- ----------- ------------------ ----------- ----------- ------------ ----------- ----------- -----------
1 AAA/AA/A $ 7,887.5 $ 6,139.3 $ 6,532.2 $ 5,019.3 $ 1,355.3 $ 1,120.0
2 BBB 3,005.4 2,686.7 1,907.7 1,667.9 1,097.7 1,018.8
----------- ----------- ------------ ----------- ----------- -----------
Total investment grade 10,892.9 8,826.0 8,439.9 6,687.2 2,453.0 2,138.8
3 BB 759.5 581.6 575.9 452.9 183.6 128.7
4 B 129.7 173.0 97.7 150.4 31.9 22.6
5 CCC and lower 43.8 38.6 23.7 18.0 20.2 20.6
6 In or near default 4.9 23.3 1.5 19.8 3.4 3.5
----------- ----------- ------------ ----------- ----------- -----------
Total 11,830.8 9,642.5 $ 9,138.7 $ 7,328.3 $ 2,692.1 $ 2,314.2
============ =========== =========== ===========
Less debt securities of
discontinued operations....... 12.2 34.8
------------ -----------
Total debt securities,
continuing operations......... $11,818.6 $ 9,607.7
============ ===========
Aberdeen Asset Management PLC
We own approximately 22.0% of the common stock of Aberdeen Asset Management PLC, or Aberdeen, a publicly-traded Scottish investment
management company with institutional and retail clients in the United Kingdom, continental Europe, Asia, Australia and the U.S. We
purchased 38.1 million Aberdeen common stock shares beginning in 1996. In 1996, we purchased 7% convertible subordinated notes issued
by Aberdeen for $37.5 million. The notes, which mature on March 29, 2003 (Aberdeen may, through successive elections, extend the
maturity date of the notes to March 29, 2005.) are convertible into 17,441,860 shares of Aberdeen common stock. On January 8, 2002,
we purchased 5.9% convertible subordinated notes issued by Aberdeen for $19.0 million. The notes which mature on January 14, 2007 are
convertible into 2,526,442 Aberdeen common stock shares.
The investment in Aberdeen common stock is reported on the equity method. The investment in Aberdeen's convertible notes is reported
at fair value with net unrealized gains or losses included in equity. The notes and common stock are classified as affiliate equity
and debt securities in the consolidated balance sheet.
The carrying values (equity in net assets for common stock and fair value for debt securities) and the alternative values (fair value
for common stock, based on a closing price of Aberdeen common stock at specified dates, and cost for debt securities) at September 30,
2002, June 30, 2002 and December 31, 2001 follows:
9/30/02 6/30/02 12/31/01
------------ ------------ ------------
Debt securities:
Carrying value (fair value) $ 50.8 $ 72.0 $ 101.2
Cost 56.5 56.5 37.5
------------ ------------ ------------
Unrealized gain (loss) $ (5.7) $ 15.5 $ 63.7
------------ ------------ ------------
Equity securities:
Fair value $ 46.3 $ 113.3 $ 221.1
Carrying value (equity in net assets) 117.3 111.6 103.9
------------ ------------ ------------
Unrealized gain (loss) $ (71.0) $ 1.7 $ 117.2
------------ ------------ ------------
The difference of $(71) million between the fair values and carrying values in our interest in Aberdeen common stock has not been
recognized in our financial statements. The difference of $(5.7) million between the fair value and cost of our investment in
Aberdeen debt securities has been recognized in our financial statements through other comprehensive income.
During the third quarter of 2002, Aberdeen experienced a 60% decline in its market capitalization resulting in a reduction in the
fair value of our holdings during the same period. At September 30, 2002, the decline in the fair value of our holdings in Aberdeen
was considered to be temporary because of the relative short period of decline in fair value and Aberdeen's continued generation of
earnings and positive cash flow from operations. We are currently assessing the facts and circumstances surrounding the decline in
Aberdeen's market capitalization to determine if the decline in the fair value of our holdings in Aberdeen is other than temporary.
A determination of an other-than-temporary impairment of our investment in Aberdeen would result in a write-down of our related
carrying value to fair value, which would be reflected in earnings, net of deferred income taxes, as a realized investment loss in
the period that determination of such impairment is made.
Hilb, Rogal and Hamilton Company
At September 30, 2002, we owned approximately 6.1% (13.95% when the convertible subordinated debenture is included) of the common
stock of Hilb, Rogal and Hamilton Company, or HRH, a publicly-traded insurance intermediary. We acquired 1,730,084 shares of HRH
common stock in 1999. Also in 1999, we acquired a 5.25% convertible subordinated debenture issued by HRH for $32.0 million. We
converted the debenture, which would have matured on May 3, 2014, into 2,813,186 shares of HRH common stock on November 12, 2002.
Our investment in HRH common stock is reported on the equity method. Our investment in HRH's convertible debenture is reported at fair
value with net unrealized gains or losses included in equity. The notes and common stock are classified as affiliate equity and debt
securities in the consolidated balance sheet.
On November 13, 2002, we sold 3,622,500 stock purchase contracts, including 472,500 stock purchase contracts pursuant to an
over-allotment option granted to the underwriters of the offering. The purchase contracts were sold at a price of $38.10 per
purchase contract.
Under each purchase contract, we will make quarterly contract adjustment payments at the rate of 7.0 percent of the initial price per
year, payable quarterly beginning on February 13, 2003. Contract holders will receive shares of HRH from us on November 13, 2005.
The number of shares to be delivered for each purchase contract on the settlement date will range between 0.8197 shares and 1.000
shares, depending on HRH's stock price during a specified period prior to the settlement date.
The purchase contract offering was concurrent with a separate secondary offering of 1,804,000 shares of HRH common stock, 654,000 of
which were being offered by us, with the remaining 1,150,000 being offered by HRH. Those shares initially were priced at $38.10 per
share. We also granted the underwriters an over-allotment option of up to 266,770 shares.
We received $156.5 million in aggregate net proceeds from the stock purchase contracts offering, the exercise of the related
over-allotment option, and the separate secondary offering after deducting for underwriting discounts and expenses. We will convey
the net proceeds of approximately $156.5 million (or approximately $166 million if the remaining underwriters' over-allotment option
is exercised) to Phoenix Life (our subsidiary that originally owned the stock and convertible notes), which will use the proceeds for
general corporate purposes. Assuming the remaining over-allotment options are exercised, we would recognize an additional pre-tax
GAAP realized gain of approximately $23 million in the fourth quarter of 2002 and at least $94 million in the fourth quarter of 2005.
In addition, Phoenix Life would recognize a pre-tax statutory gain of approximately $54.5 million in the fourth quarter of 2002.
Certain Risks Related to Our Business
Claims paying ability ratings, sometimes referred to as financial strength ratings, indicate a rating agency's view of an insurance
company's ability to meet its obligations to its insureds. These ratings are therefore key factors underlying the competitive
position of life insurers. In particular, several of the non-affiliated distributors of our life insurance products refuse to do
business with insurance companies that are rated lower than Aa3 for financial strength by Moody's Investors Service, Inc. (or the
equivalent of such ratings issued by other recognized ratings agencies). Phoenix Life currently has ratings of Aa3 ("Excellent") from
Moody's Investors Services, Inc. and A ("Excellent") from A.M. Best Company, Inc. On September 19, 2002, Fitch IBCA downgraded our
rating from AA ("Very Strong") to AA- ("Very Strong"). On October 16, 2002, Standard % Poor's Ratings Services downgraded our rating
from AA- ("Very Strong") to A+ ("Strong"). On September 6, 2002, Moody's placed us on review for a possible downgrade. A further
rating downgrade or the potential for such a downgrade for Phoenix Life could materially increase the number of policy surrenders and
withdrawals by policyholders of cash values from their policies, adversely affect relationships with distributors of our life insurance
products, reduce new sales and adversely affect our ability to compete. Any of these occurrences could have a material adverse effect
on our revenues from sales of life insurance policies.
Liquidity and Capital Resources
In the normal course of business, we enter into transactions involving various types of financial instruments such as debt securities
and equity securities. These instruments have credit risk and also may be subject to risk of loss due to interest rate and market
fluctuations.
We also make off-balance sheet commitments related to venture capital partnerships. As of September 30, 2002, these total unfunded
capital commitments were $164.1 million. These unfunded commitments can be drawn down by the various private equity funds (which
numbered 78 at September 30, 2002) as necessary to fund their portfolio investments over the next three years. The amounts
collectively drawn down by the private equity funds in our portfolio over the nine months ended September 30, 2002 was $31.8 million,
including $11.3 million in the third quarter of 2002. The amounts collectively drawn down by the private equity funds in our
portfolio over the last three years were $47.0 million in 2001, $96.9 million in 2000 and $108.5 million in 1999. During that same
three-year period, the private equity funds in our portfolio have made cash and stock distributions to us of $63.1 million in 2001,
$245.1 million in 2000 and $101.4 million in 1999. Cash and stock distributions to us for the nine months ended September 30, 2002
were $34.8 million.
Liquidity refers to the ability of a company to generate sufficient cash flow to meet its cash requirements. The following discussion
combines liquidity and capital resources as these subjects are interrelated. Consistent with the discussion of our results of
operations, we discuss liquidity and capital resources on both consolidated and segment bases.
The Phoenix Companies, Inc. (unconsolidated)
Our primary uses of liquidity include the payment of dividends on our common stock, the making of loans or contributions to our
subsidiaries, the servicing of our debt and the funding of our general corporate expenses.
Our primary source of liquidity has been from dividends from Phoenix Life. Under New York Insurance Law, Phoenix Life can pay
stockholder dividends to us in any calendar year without prior approval in the amount of the lesser of:
(1) 10% of Phoenix Life's surplus to policyholders as of the immediately preceding calendar year; or
(2) Phoenix Life's statutory net gain from operations for the immediately preceding calendar year, not including realized
capital gains.
Any amount in excess of this is subject to the discretion of the New York Superintendent of Insurance.
The dividend limitation imposed by New York Insurance Law is based on the statutory financial results of Phoenix Life. Statutory
accounting practices differ in certain respects from accounting principles used in financial statements prepared in conformity with
GAAP. The significant differences relate to deferred acquisition costs, deferred income taxes, required investment reserves, reserve
calculation assumptions and surplus notes.
At this time we do not expect to receive dividends from Phoenix Life in 2003 without special permission from the New York Insurance
Department. We have a master credit facility under which we have direct borrowing rights, as do Phoenix Life and PXP with our
unconditional guarantee. Under this facility, we can borrow funds sufficient to enable us to make dividend payments on our common
stock, pay our operating expenses, service our outstanding debt, make contributions to our subsidiaries and meet our other
obligations if required.
We do not expect to receive significant dividend income from PXP in the near term because we expect that during this time, PXP will
use a substantial portion of its cash flows from operations to pay down its outstanding debt, including indebtedness to Phoenix Life
and Phoenix.
PXP
PXP's cash requirements are primarily to fund operating expenses and repay outstanding debt. PXP also will require liquidity to fund
the costs of any future acquisitions or make contingent payments on previous acquisitions. Historically, PXP's principal source of
liquidity has been cash flows from operations. We expect that cash flow from operations will continue to be PXP's principal source of
working capital for the foreseeable future. PXP, together with Phoenix and Phoenix Life, has entered into a master credit facility
under which PXP has direct borrowing rights, subject to Phoenix's unconditional guarantee. See "Debt Financing-- Master Credit
Facility." We believe that PXP's current and anticipated sources of liquidity are adequate to meet its present and anticipated needs.
Phoenix Life
Phoenix Life's liquidity requirements principally relate to: the liabilities associated with its various life insurance and annuity
products; the payment of dividends to us; operating expenses; contributions to subsidiaries; and payment of principal and interest on
outstanding surplus notes obligations. Phoenix Life's liabilities arising from its life insurance and annuity products include the
payment of benefits, as well as cash payments in connection with policy surrenders, withdrawals and loans. Phoenix Life also has
liabilities arising from the run-off of the remaining group accident and health reinsurance discontinued operations.
Historically, Phoenix Life has used cash flows from operations and investment activities to fund its liquidity requirements. Phoenix
Life's principal cash inflows from its life insurance and annuity activities come from premiums, annuity deposits and charges on
insurance policies and annuity contracts. Cash flows also came from dividends and distributions from subsidiaries. Phoenix Life's
principal cash inflows from its investment activities result from repayments of principal, proceeds from maturities, sales of
invested assets and investment income.
Additional sources of liquidity to meet unexpected cash outflows are available from Phoenix Life's portfolio of liquid assets. These
liquid assets include substantial holdings of U.S. government and agency bonds, short-term investments and marketable debt and equity
securities. The cash Phoenix Life received as consideration for the transfer of shares of common stock of PXP and other subsidiaries
in 2001 following its demutualization was a non-recurring source of liquidity. Pursuant to the plan of reorganization, this cash
payment was $659.8 million.
Phoenix Life's current sources of liquidity also include a master credit facility under which Phoenix Life has direct borrowing
rights, subject to our unconditional guarantee (see "Debt Financing"). Since the demutualization, Phoenix Life's access to the cash
flows generated by the closed block assets is only for the purpose of funding the closed block.
A primary liquidity concern with respect to life insurance and annuity products is the risk of early policyholder and contractholder
withdrawal. Phoenix Life closely monitors its liquidity requirements in order to match cash inflows with expected cash outflows, and
employs an asset/liability management approach tailored to the specific requirements of each product line, based upon the return
objectives, risk tolerance, liquidity, tax and regulatory requirements of the underlying products. In particular, Phoenix Life
maintains investment programs generally intended to provide adequate funds to pay benefits without forced sales of investments.
Products having liabilities with relatively long lives, such as life insurance, are matched with assets having similar estimated
lives, such as long-term bonds, private placement bonds and mortgage loans. Shorter-term liabilities are matched with investments
such as short-term and medium-term fixed maturities.
The following table summarizes Phoenix Life's annuity contract reserves and deposit fund liabilities in terms of contractholders'
ability to withdraw funds as of September 30, 2002 and December 31, 2001 (dollars in millions):
Withdrawal Characteristics of Annuity Contract
Reserves and Deposit Fund Liabilities (1)
2002 2001
----------------------- ----------------------
Amount % Amount %
----------- --------- ----------- -------
Not subject to discretionary withdrawal provisions........... $ 167.2 3% $ 173.9 3%
Subject to discretionary withdrawal without adjustment(2).... 2,103.9 36% 1,054.8 21%
Subject to discretionary withdrawal with market value
adjustment................................................ 621.1 11% 239.1 5%
Subject to discretionary withdrawal at contract value
less surrender charge..................................... 620.7 10% 453.3 9%
Subject to discretionary withdrawal at market value ......... 2,318.9 40% 3,087.5 62%
----------- --------- ----------- -------
Total annuity contract reserves and deposit fund liability... $ 5,831.8 100% $ 5,008.6 100%
=========== ========= =========== =======
- ----------
(1) Contract reserves and deposit fund liability amounts are reported on a statutory basis, which more accurately reflects the
potential cash outflows. Amounts include variable product liabilities. Annuity contract reserves and deposit fund liabilities are
monetary amounts that an insurer must have available to provide for future obligations with respect to its annuities and deposit
funds. These are liabilities on the balance sheet of financial statements prepared in conformity with statutory accounting
practices. These amounts are at least equal to the values available to be withdrawn by policyholders.
(2) The increase in amounts subject to discretionary withdrawal without adjustment has resulted from sales of a short maturity
guaranteed rate contract without surrender charges. Assets supporting this product consist of high quality commercial paper and
high quality short maturity fixed income instruments. Asset and liability cash flows are monitored on a frequent basis, but no
less than weekly.
Individual life insurance policies are less susceptible to withdrawals than are annuity contracts because policyholders may incur
surrender charges and be required to undergo a new underwriting process in order to obtain a new insurance policy. As indicated in
the table above, most of Phoenix Life's annuity contract reserves and deposit fund liabilities are subject to withdrawals.
Individual life insurance policies, other than term life insurance policies, increase in cash values over their lives. Policyholders
have the right to borrow from Phoenix Life an amount generally up to the cash value of their policies at any time. As of September
30, 2002, Phoenix Life had approximately $10.6 billion in cash values with respect to which policyholders had rights to take policy
loans. The majority of cash values eligible for policy loans are at variable interest rates that are reset annually on the policy
anniversary. Phoenix Life's amount of policy loans has not changed significantly since 1999. Policy loans at September 30, 2002 were
$2.2 billion.
On July 23, 2002, Phoenix Life, through a wholly-owned subsidiary, acquired the variable life and variable annuity business of Valley
Forge Life Insurance Company (a subsidiary of CNA Financial Corporation), effective July 1, 2002. The business acquired had a total
account value of about $556.1 as of June 30, 2002. This transaction was effected through a coinsurance agreement.
The primary liquidity concerns with respect to Phoenix Life's cash inflows from its investment activities are the risks of default by
debtors, interest rate and other market volatility and potential illiquidity of investments. Phoenix Life closely monitors and
manages these risks.
We believe that Phoenix Life's current and anticipated sources of liquidity are adequate to meet its present and anticipated needs.
Debt Financing
As of September 30, 2002, we had outstanding indebtedness of $613.6 million (excluding the inter-company indebtedness of PXP and
Phoenix Life described below under "PXP" and "Phoenix Life," respectively) consisting of our debt offering, master credit facility
and surplus notes.
Debt offering. On December 19, 2001, we completed a debt offering of $300 million, thirty-year senior unsecured bonds at a coupon of
7.45%. The bonds are traded on the New York Stock Exchange under the symbol PFX. The carrying value at September 30, 2002 was $313.6
million.
Master Credit Facility. In June 2001, we, PXP and Phoenix Life entered into a $375 million revolving credit facility which matures on
June 10, 2005 (the "Master Credit Facility") and terminated PXP's and Phoenix Life's prior credit facilities. The Bank of Montreal is
the administrative agent for this credit facility. Each company has direct borrowing rights under this credit facility. We
unconditionally guarantee loans to PXP and Phoenix Life. Base rate loans bear interest at the greater of the Bank of Montreal's prime
commercial rate or the effective federal funds rate plus 0.5%. Eurodollar rate loans bear interest at LIBOR plus an applicable
margin. At September 30, 2002, the outstanding balance under this facility was $125 million, subject to the Eurodollar rate
structure. The credit agreement contains customary financial and operating covenants that include, among other provisions,
requirements that we maintain a minimum stockholders' equity of $2.0 billion through 2002 (increasing to $2.1 billion in 2003) and a
maximum debt to capitalization ratio of 34%; that Phoenix Life maintain a minimum risk based capital ratio of 210%; and that PXP
maintain a maximum debt to capitalization ratio of 60% and a minimum stockholder's equity of $224.0 million. Phoenix, Phoenix Life
and PXP are in compliance with all debt covenants at September 30, 2002. We are currently in discussions with our banks to amend our
financial covenants or to rewrite our credit facility.
PXP
As of September 30, 2002, PXP had $454 million of indebtedness outstanding, including:
Master Credit Facility. As of September 30, 2002, PXP had $125 million of debt outstanding under the Master Credit Facility, bearing
interest annually at applicable LIBOR plus thirty-six basis points (increasing to 65 basis points in October 2002).
Phoenix Senior Note. During the first quarter of 2002, PXP borrowed $20 million from Phoenix to fund significant non-operating cash
outflows. The senior note matures in 2006 and bears interest annually at 7.6%. Ten million dollars of this $20 million note was
assigned as a contribution to capital of PXP during the third quarter of 2002.
Phoenix 2002 Subordinated Notes. PXP borrowed $20 million in the second quarter and $14 million in the third quarter from Phoenix to
fund significant non-operating cash outflows. These subordinated notes, which would have matured in 2006, bore interest annually at
7.6%. These notes were assigned as a contribution of capital in the third quarter of 2002. During the first quarter of 2002, PXP
borrowed an additional $100 million from Phoenix to fund the purchase of Kayne Anderson Rudnick. This subordinated note is due in
2007 and bears interest at the rate of 7.6%.
Phoenix Life Subordinated Note. In 2001, in exchange for the debentures held by it, Phoenix Life agreed to accept from PXP, in lieu
of cash, a $69.0 million subordinated note due 2006, bearing interest annually at the rate of Three Month LIBOR plus two hundred
basis points.
Phoenix 2001 Subordinated Note. In December 2001, PXP paid down $150 million in debt from the Master Credit Facility and borrowed
from Phoenix in the form of a $150 million subordinated note due 2007, bearing interest annually at the rate of Three Month LIBOR
plus seventy-two and a quarter basis points.
Phoenix Life
As of June 30, 2002, Phoenix Life had $175 million of indebtedness outstanding, but none under the Master Credit Facility.
Surplus Notes. In November 1996, Phoenix Life issued $175 million principal amount of 6.95% surplus notes due December 1, 2006. Each
payment of interest or principal of the notes requires the prior approval of the New York Superintendent of Insurance and may be made
only out of surplus funds which the Superintendent determines to be available for such payment under the New York Insurance Law. The
notes contain neither financial covenants nor early redemption provisions and are to rank equally with any subsequently issued
surplus, capital or contribution notes or similar obligations of Phoenix Life. Section 1307 of the New York Insurance Law provides
that the notes are not part of the legal liabilities of Phoenix Life and are not a basis of any set-off against Phoenix Life.
Reinsurance
We maintain life reinsurance programs designed to protect against large or unusual losses in our life insurance business. Over the
last several years in response to the reduced cost of reinsurance coverage, we increased the amount of individual mortality risk
coverage purchased from third party reinsurers. Based on our review of their financial statements and reputations in the reinsurance
marketplace, we believe that these third party reinsurers are financially sound and, therefore, that we have no material exposure to
uncollectable life reinsurance.
Statutory Capital and Surplus and Risk Based Capital
Phoenix Life's consolidated statutory basis capital and surplus (including asset valuation reserve) has decreased from $1,037.6
million at June 30, 2002 to $797.7 million at September 30, 2002. Principal factors resulting in the decrease in Phoenix Life's
consolidated statutory basis capital and surplus include:
o a $67.0 million decrease in carrying value of our common stock holdings in Aberdeen reflecting a decrease in Aberdeen's
stock price from 194 pence at June 30, 2002 to 78 pence at September 30, 2002;
o an $86.9 million statutory loss from operations principally driven by the growth in our annuity business and the acquisition
of a block of variable annuity business from CNA Financial where acquisition costs are immediately expensed for statutory
accounting purposes;
o $30.7 million in unrealized losses on other equity securities;
o $22.1 million in unrealized losses on venture capital partnership investments; and
o $33.2 million in net realized investment losses.
At September 30, 2002, Phoenix owned approximately 6.1% (13.95% when the convertible subordinated debenture is included) of the
common stock of Hilb, Rogal and Hamilton Company, or HRH, a publicly-traded insurance intermediary. Phoenix acquired 1,730,084 shares
of HRH common stock in 1999. Also in 1999, Phoenix acquired a 5.25% convertible subordinated debenture issued by HRH for
$32.0 million. We converted the debenture, which would have matured on May 3, 2014, into 2,813,186 shares of HRH common stock on
November 12, 2002.
On November 13, 2002, Phoenix sold 3,622,500 stock purchase contracts, including 472,500 stock purchase contracts pursuant to an
over-allotment option granted to the underwriters of the offering. The purchase contracts were sold at a price of $38.10 per
purchase contract. The purchase contract offering was concurrent with a separate secondary offering of 1,804,000 shares of HRH common
stock, 654,000 of which were being offered by Phoenix, with the remaining 1,150,000 being offered by HRH.Those shares initially were
priced at $38.10 per share. Phoenix also granted the underwriters an over-allotment option of up to 266,770 shares.
Phoenix received $156.5 million in aggregate net proceeds from the stock purchase contracts offering, the exercise of the related
over-allotment option, and the separate secondary offering after deducting for underwriting discounts and expenses. Phoenix will
convey the net proceeds of approximately $156.5 million (or approximately $166 million if the remaining underwriters' over-allotment
option is exercised) to Phoenix Life (our subsidiary that originally owned the stock and convertible notes), which will use the
proceeds for general corporate purposes. Assuming the remaining over-allotment options are exercised, Phoenix Life would recognize a
pre-tax statutory gain of approximately $54.5 million in the fourth quarter of 2002.
Effective December 31, 2002, Phoenix Life will adopt Statutory Statement of Accounting Practices No. 10, Income Taxes ("SSAP No.
10"), for statutory accounting purposes. Prior to December 31, 2002, New York domiciled insurance companies are precluded from
recording deferred tax assets as admitted assets. Recently enacted legislation provides for the admission of deferred tax assets as
calculated under SSAP No. 10 effective December 31, 2002, at which point Phoenix Life anticipates recording a deferred tax asset to
the extent that federal income taxes paid in prior years are recoverable through loss carrybacks and to the extent that any
additional deferred tax assets are expected to be realized by December 31, 2003. Based upon results through September 30, 2002,
Phoenix Life anticipates recovering approximately $48.0 million through net operating loss carrybacks.
Section 1322 of the New York Insurance Law requires that New York life insurers report their risk based capital ("RBC"). RBC is based
on a formula calculated by applying factors to various asset, premium and statutory reserve items. The formula takes into account the
risk characteristics of the insurer, including asset risk, insurance risk, interest rate risk and business risk. Section 1322 gives
the New York Superintendent of Insurance explicit regulatory authority to require various actions by, or take various actions
against, insurers whose total adjusted capital does not exceed certain RBC levels. As of September 30, 2002 and December 31, 2001,
Phoenix Life's total adjusted capital was in excess of each of these RBC levels. Each of the U.S. insurance subsidiaries of Phoenix
Life is also subject to these same RBC requirements. As of September 30, 2002 and December 31, 2001, the total adjusted capital of
each of these insurance subsidiaries was in excess of each of their respective RBC required levels.
Net Capital Requirements
The broker-dealer subsidiaries of Phoenix are each subject to the net capital requirements imposed on registered broker-dealers by
the Securities Exchange Act of 1934. Each company is also required to maintain a ratio of aggregate indebtedness to net capital that
does not exceed 15 to 1. The largest of these subsidiaries had net capital of approximately $1.5 million. This amount exceeded the
regulatory minimum of $0.5 million. The ratio of aggregate indebtedness to net capital for that subsidiary was 5.39 to 1. The ratios
of aggregate indebtedness to net capital for each of the other broker-dealer subsidiaries were also below the margin limit at
September 30, 2002, and their respective net capital each exceeded the applicable regulatory minimum.
Consolidated Cash Flows
The following table presents summary consolidated cash flow data for the three and nine months ended September 30, 2002 (in millions):
Three Nine
Months Months
------------ ------------
Cash from operations.............................................. $ 48.0 $ 95.6
Cash from financing activities.................................... 673.3 1,453.9
Cash for investing activities..................................... (672.0) (1,653.0)
Cash from operations for the three and nine months ended September 30, 2002 was affected by lower than expected benefit payments and
higher than expected policy acquisition costs paid.
Cash from financing activities for the three and nine months ended September 30, 2002 is primarily attributable to general account
annuity deposits (policyholder deposit funds). These deposits were partially offset by our common stock repurchases.
Cash used for investing activities for the three and nine months ended September 30, 2002 was primarily for investments in debt
securities, principally from general account annuity deposits. Cash from operations and financing activities was used for investing.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Market Risk Exposures and Risk Management
We must effectively manage, measure and monitor the market risk generally associated with our insurance and annuity business and, in
particular, our commitment to fund insurance liabilities. We have developed an integrated process for managing risk, which we conduct
through our Corporate Portfolio Management Department, Actuarial Department, Corporate Finance Department and additional specialists
at the business segment level. These groups confer with each other regularly. We have implemented comprehensive policies and
procedures at both the corporate and business segment level to minimize the effects of potential market volatility.
Market risk is the risk that we will incur losses due to adverse changes in market rates and prices. We have exposure to market risk
through both our insurance operations and our investment activities. Our primary market risk exposure is to changes in interest
rates, although we also have exposures to changes in equity prices and foreign currency exchange rates. We also have credit risks in
connection with our derivative contracts.
Interest Rate Risk
Interest rate risk is the risk that we will incur economic losses due to adverse changes in interest rates. Our exposure to interest
rate changes primarily results from our commitment to fund interest-sensitive insurance liabilities, as well as from our significant
holdings of fixed rate investments. Our insurance liabilities largely comprise dividend-paying individual whole life and universal
life policies. Our fixed maturity investments include U.S. and foreign government bonds, securities issued by government agencies,
corporate bonds, asset-backed securities, mortgage-backed securities and mortgage loans, most of which are mainly exposed to changes
in medium-term and long-term U.S. Treasury rates.
We manage interest rate risk as part of our asset/liability management process and product design procedures. Asset/liability
strategies include the segmentation of investments by product line and the construction of investment portfolios designed to
specifically satisfy the projected cash needs of the underlying product liability. We manage the interest rate risk inherent in our
assets relative to the interest rate risk inherent in our insurance products. We identify potential interest rate risk in portfolio
segments by modeling asset and product liability durations and cash flows under current and projected interest rate scenarios.
One of the key measures we use to quantify this interest rate exposure is duration. Duration is one of the most significant
measurement tools in measuring the sensitivity of the fair value of assets and liabilities to changes in interest rates. For example,
if interest rates increase by 100 basis points, or 1%, the fair value of an asset with a duration of five years is expected to
decrease by 5%. We believe that as of September 30, 2002 and December 31, 2001, our asset and liability portfolio durations were well
matched, especially for the largest segments of our balance sheet (i.e. whole life and universal life). Since our insurance products
have variable interest rates (which expose us to the risk of interest rate fluctuations), we regularly undertake a sensitivity
analysis that calculates liability durations under various cash flow scenarios.
The selection of a 100 basis point immediate, parallel increase or decrease in interest rates is a hypothetical rate scenario used to
demonstrate potential risk. While a 100 basis point immediate, parallel increase or decrease does not represent our view of future
market changes, it is a reasonably possible hypothetical near-term change that illustrates the potential impact of such events.
Although these fair value measurements provide a representation of interest rate sensitivity, they are based on our portfolio
exposures at a point in time and may not be representative of future market results. These exposures will change as a result of
on-going portfolio transactions in response to new business, management's assessment of changing market conditions and available
investment opportunities.
To calculate duration, we project asset and liability cash flows and discount them to a net present value using a risk-free market
rate adjusted for credit quality, sector attributes, liquidity and any other relevant specific risks. Duration is calculated by
revaluing these cash flows at an alternative level of interest rates and by determining the percentage change in fair value from the
base case.
We also employ product design and pricing strategies to manage interest rate risk. Product design and pricing strategies include the
use of surrender charges or restrictions on withdrawals in some products.
The tables below show the interest rate sensitivity of our fixed income financial instruments measured in terms of fair value as of
September 30, 2002 and December 31, 2001 (in millions). Given that our asset and liability portfolio durations were well matched for
the periods indicated, it is expected that market value gains or losses in assets would be largely offset by corresponding changes in
liabilities.
2002: Fair Value
-------------------------------------------------------
Carrying -100 Basis As of +100 Basis
Value Point Change 9/30/02 Point Change
-------------- ----------------- ------------- ----------------
Cash and cash equivalents.......... $ 712.0 $ 712.0 $ 712.0 $ 712.0
Available-for-sale debt securities 11,818.6 12,374.1 11,818.6 11,273.5
Commercial mortgages............... 491.8 546.9 528.3 510.4
------------ ------------ ------------ ------------
Total........................ $ 13,080.3 $ 13,633.7 $ 13,058.9 $ 12,495.2
============ ============ ============ ============
2001: Fair Value
-------------------------------------------------------
Carrying -100 Basis As of +100 Basis
Value Point Change 12/31/01 Point Change
-------------- ----------------- ------------- ----------------
Cash and cash equivalents.......... $ 815.5 $ 815.5 $ 815.5 $ 815.5
Available-for-sale debt securities 9,607.7 10,088.7 9,607.7 9,150.8
Commercial mortgages............... 535.8 594.5 571.6 549.8
------------ ------------ ------------ ------------
Total........................ $ 10,795.5 $ 11,499.3 $ 10,994.8 $ 10,515.5
============ ============ ============ ============
With respect to our residual exposure to fluctuations in interest rates, we use various derivative financial instruments to manage
such exposure to fluctuations in interest rates, including interest rate swap agreements, interest rate caps, interest rate floors,
interest rate swaptions and foreign currency swap agreements. To reduce counterparty credit risks and diversify counterparty
exposure, we enter into derivative contracts only with highly rated financial institutions.
We enter into interest rate swap agreements to reduce market risks from changes in interest rates. We do not enter into interest rate
swap agreements for trading purposes. Under interest rate swap agreements, we exchange cash flows with another party at specified
intervals for a set length of time based on a specified notional principal amount. Typically, one of the cash flow streams is based
on a fixed interest rate set at the inception of the contract and the other is based on a variable rate that periodically resets.
Generally, no premium is paid to enter into the contract and neither party makes payment of principal. The amounts to be received or
paid on these swap agreements are accrued and recognized in net investment income.
We enter into interest rate floor, cap and swaption contracts for our assets and our insurance liabilities as a hedge against
substantial changes in interest rates. We do not enter into such contracts for trading purposes. Interest rate floor and interest
rate cap agreements are contracts with a counterparty which require the payment of a premium and give us the right to receive over
the term of the contract the difference between the floor or cap interest rate and a market interest rate on specified future dates
based on an underlying notional principal. Swaption contracts are options to enter into an interest rate swap transaction on a
specified future date and at a specified interest rate. Upon the exercise of a swaption, we receive either a swap agreement at the
pre-specified terms or cash for the market value of the swap. We pay the premium for these instruments on a quarterly basis over the
term of the contract and recognize these payments in computing net investment income.
The tables below show the interest rate sensitivity of our interest rate derivatives measured in terms of fair value as of September
30, 2002 and December 31, 2001 (dollars in millions). These exposures will change as our insurance liabilities are created and
discharged and as a result of ongoing portfolio and risk management activities.
2002: Weighted Fair Value
-----------------------------------------------------
Average Term
Notional -100 Basis As of +100 Basis
Amount (Years) Point Change 9/30/02 Point Change
--------------- -------------- ---------------- ----------- ------------------
Interest rate floors $ 85.0 .8 $ 1.5 $ .9 $ .2
Interest rate swaps 540.0 11.7 35.5 23.6 11.7
Interest rate caps 50.0 5.7 (.1) -- .3
------------ ---------- -------- ---------
Total $ 675.0 $36.9 $ 24.5 $12.2
============ ========== ======== =========
2001: Weighted Fair Value
-----------------------------------------------------
Average Term
Notional -100 Basis As of +100 Basis
Amount (Years) Point Change 12/31/01 Point Change
--------------- -------------- ---------------- ----------- ------------------
Interest rate floors $ 110.0 1.4 $ 1.7 $ .4 $ (.4)
Interest rate swaps 590.0 12.2 25.0 6.4 (12.1)
Interest rate caps 50.0 6.5 -- .4 1.3
------------ ---------- --------- ----------
Total $ 750.0 $ 26.7 $ 7.2 $ (11.2)
============ ========== ========= ==========
Equity Risk
Equity risk is the risk that we will incur economic losses due to adverse changes in equity prices. Our exposure to changes in equity
prices primarily results from our commitment to fund our variable annuity and variable life products, as well as from our holdings of
common stocks, mutual funds and other equities. We manage our insurance liability risks on an integrated basis with other risks
through our liability and risk management and capital and other asset allocation strategies. We also manage equity price risk through
industry and issuer diversification and asset allocation techniques. We held $274.1 million and $290.9 million in equity securities
on our balance sheet as of September 30, 2002 and December 31, 2001, respectively. A 10% decline in the relevant equity price would
decrease the value of these assets by approximately $27 million and $29 million as of September 30, 2002 and December 31, 2001,
respectively. Conversely, a 10% increase in the relevant equity price would increase the value of these assets by approximately $27
million and $29 million as of September 30, 2002 and December 31, 2001, respectively.
Certain annuity products sold by our life insurance subsidiaries contain guaranteed minimum death benefits. The guaranteed minimum
death benefit feature provides annuity contract holders with a guarantee that the benefit received at death will be no less than a
prescribed amount. This minimum amount is based on the net deposits paid into the contract, the net deposits accumulated at a
specified rate, the highest historical account value on a contract anniversary, or more typically, the greatest of these values. To
the extent that the guaranteed minimum death benefit is higher than the current account value at the time of death, the company
incurs a cost. This typically results in an increase in annuity policy benefits in periods of declining financial markets and in
periods of stable financial markets following a decline. As of September 30, 2002, the difference between the guaranteed minimum
death benefit and the current account value (the "net amount at risk") for all existing contracts was $214.0 million, including
$194.3 million related to our third quarter variable life and annuity business acquisition from CNA Financial Corporation.
The following analysis represents the sensitivity of our deferred acquisition cost asset and guaranteed minimum death benefit
liability to equity market changes, based on their September 30, 2002 carrying values (in millions):
-10% Equity Carrying + 10% Equity
Market Value Market
------------- -------------- -------------
Deferred policy acquisition costs (variable annuities) $261.9 $ 266.4 $270.3
Deferred policy acquisition costs (variable universal life) 299.6 302.3 303.6
Guaranteed minimum death benefit liability (variable annuities) 11.9 7.8 6.8
We sponsor a defined benefit pension plan for our employees and account for it under Statement of Financial Accounting Standards No.
87. In accordance with the accounting standard, we assumed a 9% long-term rate of return on plan assets in 2001 and 2002. To the
extent there are deviations in actual returns, there could be changes in our projected expense and funding requests. We are currently
evaluating all assumptions related to our defined benefit pension plan.
Foreign Exchange Risks
Foreign exchange risk is the risk that we will incur economic losses due to adverse changes in foreign currency exchange rates. Our
functional currency is the U.S. dollar. Our exposure to fluctuations in foreign exchange rates against the U.S. dollar results from
our holdings in non-U.S. dollar-denominated fixed maturity securities and equity securities and through our investments in foreign
subsidiaries and affiliates. The principal currencies that create foreign exchange rate risk for us are the British pound sterling,
due to our investments in Aberdeen Asset Management and Lombard, and the Argentine Peso, due to our investment in EMCO. In the third
quarter of 2002, we had a favorable foreign currency translation adjustment recorded in other comprehensive income of $6.4 million
related to the British pound sterling. On a year-to-date basis, this favorable adjustment was increased by a second quarter favorable
adjustment of $10.4 million and offset by a first quarter 2002 charge of $11.1 million related to the Argentine peso devaluation.
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures. The company has developed controls and procedures to ensure that information
- ------------------------------------------------
required to be disclosed by it in reports it files or submits pursuant to the Securities Exchange Act of 1934 is recorded, processed,
summarized and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission. Based on
their review within 90 days prior to the filing of this report, the company's Chief Executive Officer and Chief Financial Officer
each concluded that the company's disclosure controls and procedures, as in effect on the date hereof, are effective, both in design
and operation, for achieving the foregoing purpose.
Changes in Internal Controls. During the calendar quarter ending on September 30, 2002, there were no significant changes in the
- ----------------------------
company's internal controls or in other factors that could significantly affect these controls subsequent to the date of their most
recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.
Part II.
Other Information
Item 1. Legal Proceedings
General
We are regularly involved in litigation, both as a defendant and as a plaintiff. The litigation naming us as a defendant ordinarily
involves our activities as an insurer, employer, investment adviser, investor or taxpayer. In addition, state regulatory bodies, the
SEC, the NASD and other regulatory bodies regularly make inquiries of us and, from time to time, conduct examinations or
investigations concerning our compliance with, among other things, insurance laws, securities laws, and laws governing the activities
of broker-dealers. These types of lawsuits and regulatory actions may be difficult to assess or quantify, may seek recovery of very
large and/or indeterminate amounts, including punitive and treble damages, and their existence and magnitude may remain unknown for
substantial periods of time. A substantial legal liability or significant regulatory action against us could have a material adverse
effect on our business, results of operations and financial condition.
While it is not feasible to predict or determine the ultimate outcomes of all pending investigations and legal proceedings or to
provide reasonable ranges of potential losses, it is the opinion of our management that such outcomes, after consideration of
available insurance and reinsurance and the provisions made in our consolidated financial statements, are not likely to have a
material adverse effect on our consolidated financial condition.
However, given the large and/or indeterminate amounts sought in certain of these matters and the inherent unpredictability of
litigation, it is possible that an adverse outcome in certain matters could, from time to time, have a material adverse effect on our
operating results or cash flows.
Discontinued Reinsurance Business
Our life companies' reinsurance business included, among other things, reinsurance by the life companies of other insurance
companies' group accident and health business. During 1999, our life companies placed their remaining group accident and health
reinsurance business into run-off, adopting a formal plan to terminate the related contracts as early as contractually permitted and
not entering into any new contracts. As part of the decision to discontinue remaining reinsurance operations, we reviewed the run-off
block and estimated the amount and timing of future net premiums, claims and expenses.
We established reserves and reinsurance recoverables for claims and related expenses that we expect to pay on our discontinued group
accident and health reinsurance business. These reserves and reinsurance recoverables are a net present value amount that is based
on currently known facts and estimates about, among other things, the amount of insured losses and expenses that we believe we will
pay, the period over which they will be paid, the amount of reinsurance we believe we will collect under our finite reinsurance and
our other reinsurance to cover our losses and the likely legal and administrative cost of winding down the business. Total reserves
were $40 million and total reinsurance recoverables were $80 million at September 30, 2002. In addition, in 1999 we purchased finite
aggregate excess-of-loss reinsurance to further protect us from unfavorable results from this discontinued business. The maximum
coverage available is currently $150 million. The amount of our total financial provisions at September 30, 2002 was therefore $110
million, consisting of reserves, less reinsurance recoverables, plus the amount currently available from our finite aggregate
excess-of-loss reinsurance.
Our life companies are involved in disputes relating to reinsurance arrangements under which they reinsured group accident and health
risks. The first of these involves contracts for reinsurance of the life and health carveout components of workers compensation
insurance arising out of a reinsurance pool created and formerly managed by Unicover Managers, Inc. ("Unicover"). In one of those,
the arbitration panel issued its decision on October 8, 2002. The financial implications of this decision are consistent with
Phoenix's current financial provisions. In addition, Phoenix Life is involved in arbitrations and negotiations pending in the United
Kingdom between multiple layers of reinsurers and reinsureds relating to transactions in which Phoenix Life participated involving
certain personal accident excess-of-loss business reinsured in the London market.
In light of our provisions for our discontinued reinsurance operations through the establishment of reserves and the finite
reinsurance, based on currently available information, we do not expect these operations, including the proceedings described above,
to have a material adverse effect on our consolidated financial position. However, given the large and/or indeterminate amounts
involved and the inherent unpredictability of litigation, it is not possible to predict with certainty the ultimate impact on us of
all pending matters or of our discontinued reinsurance operations.
Policyholder Lawsuits Challenging the Plan of Reorganization
Two pending lawsuits seek to challenge Phoenix Life's reorganization and the adequacy of the information provided to policyholders
regarding the plan of reorganization. We believe that each of these lawsuits lacks merit. The first of these lawsuits, Andrew
Kertesz v. Phoenix Home Life Mut. Ins. Co., et al., was filed on April 16, 2001, in the Supreme Court of the State of New York for
New York County. The plaintiff seeks to maintain a class action on behalf of a putative class consisting of the eligible policyholders
of Phoenix Life as of December 18, 2000, the date the plan of reorganization was adopted. The plaintiff also seeks compensatory
damages for losses allegedly sustained by the class as a result of the demutualization, punitive damages and other relief. The
defendants named in the lawsuit include Phoenix Life and Phoenix and their directors, as well as Morgan Stanley % Co. Incorporated,
financial advisor to Phoenix Life in connection with the plan of reorganization. A motion to dismiss the claims asserted in this
lawsuit has been granted. The plaintiff has filed an appeal. The company will rigorously defend this suit.
On October 22, 2001, Andrew Kertesz filed a proceeding pursuant to Article 78 of the New York Civil Practice Law and Rules, Andrew
Kertesz v. Gregory V. Serio, et al., in the Supreme Court of New York for New York County. The Article 78 petition sought to vacate
and annul the decision and order of the New York Superintendent, dated June 1, 2001, approving the plan of reorganization. The
petition named as respondents Phoenix Life and Phoenix and their directors and the New York Superintendent. A motion to dismiss this
lawsuit has recently been granted and the appeal period has expired.
Two additional lawsuits challenging the plan have been dismissed. We are not aware of any other lawsuits challenging the
reorganization or the plan.
Item 2. Changes in Securities and Use of Proceeds
Not applicable
Item 3. Defaults Upon Senior Securities
Not applicable
Item 4. Submission of Matters to a Vote of Security Holders
Not applicable
Item 5. Other Information
Not applicable
Item 6. Exhibits and Reports on Form 8-K
During the three months ended September 30, 2002, Phoenix filed the following reports on Form 8-K:
o dated August 13, 2002, Items 7 and 9 - containing:
o chief executive officer's certification of the Company's second quarter 2002 Form 10-Q, dated August 12, 2002;
o chief financial officer's certification of the Company's second quarter 2002 Form 10-Q, dated August 12, 2002;
o chief executive officer's certification pursuant to SEC Order No. 4-460, dated August 12, 2002;
o chief financial officer's certification pursuant to SEC Order No. 4-460, dated August 12, 2002;
o dated August 12, 2002, Item 6, 7 and 9 - containing the resignation of Director Philip R. McLoughlin and a press release
announcing second quarter 2002 results.
The following exhibits are attached to this Form 10-Q:
Exhibit Number
- --------------
99.1 Chief executive officer certification, pursuant to 18 United States Code section 1350, of the
Quarterly Report on Form 10-Q for the quarter ended September 30, 2002 of The Phoenix Companies, Inc.
99.2 Chief financial officer certification, pursuant to 18 United States Code section 1350, of the
Quarterly Report on Form 10-Q for the quarter ended September 30, 2002 of The Phoenix Companies, Inc.
Signature
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned thereunto duly authorized.
THE PHOENIX COMPANIES, INC.
By/s/Coleman D. Ross
------------------
Coleman D. Ross, Executive Vice President and
Chief Financial Officer
November 14, 2002
Certifications
Chief Executive Officer certification, pursuant to Section 302 of The Sarbanes-Oxley Act of 2002, of the Quarterly Report on Form
10-Q for the quarter ended September 30, 2002 of The Phoenix Companies, Inc.
I, Robert W. Fiondella, certify that:
1. I have reviewed this quarterly report on Form 10-Q of The Phoenix Companies, Inc.;
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 officer 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 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 of this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation, to the registrant's
auditors and the audit committee of the registrant's board of directors:
a) all significant deficiencies in the design or operation of internal controls which could adversely effect the registrant's
ability to record, process, summarize and report financial data and have identified for the registrant's
auditors any material weakness 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 officer and I have indicated in this quarterly report whether 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/Robert W. Fiondella
- ----------------------
Robert W. Fiondella
Chief Executive Officer and Chairman of the Board
Chief Financial Officer certification, pursuant to Section 302 of The Sarbanes-Oxley Act of 2002, of the Quarterly Report on Form
10-Q for the quarter ended September 30, 2002 of The Phoenix Companies, Inc.
I, Coleman D. Ross, certify that:
1. I have reviewed this quarterly report on Form 10-Q of The Phoenix Companies, Inc.;
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 officer 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 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 of this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation, to the registrant's
auditors and the audit committee of the registrant's board of directors:
a) all significant deficiencies in the design or operation of internal controls which could adversely effect the registrant's
ability to record, process, summarize and report financial data and have identified for the registrant's
auditors any material weakness 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 officer and I have indicated in this quarterly report whether 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/Coleman D. Ross
- ------------------
Coleman D. Ross
Executive Vice President and Chief Financial Officer