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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2002
Commission File Number: 333-45862
JOHN HANCOCK LIFE INSURANCE COMPANY
Exact name of registrant as specified in charter
MASSACHUSETTS 04-1414660
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
John Hancock Place
Boston, Massachusetts 02117
(Address of principal executive offices)
(617) 572-6000
(Registrant's telephone number, including area code)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes |X| No |_|
Number of shares outstanding of our only class of common stock as of
August 14, 2002:
1,000
JOHN HANCOCK LIFE INSURANCE COMPANY
PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS
June 30,
2002 December 31,
(Unaudited) 2001
----------------------------
(in millions)
Assets
Investments
Fixed maturities:
Held-to-maturity--at amortized cost
(fair value: June 30--$1,889.4; December 31--$1,908.2) ... $ 1,856.4 $ 1,923.5
Available-for-sale--at fair value
(cost: June 30--$38,403.1; December 31--$35,778.0) ....... 39,018.1 36,072.1
Equity securities:
Available-for-sale--at fair value
(cost: June 30--$343.9; December 31--$433.1) ............. 403.3 562.3
Trading securities--at fair value
(cost: June 30--$0.9; December 31--$2.7) ................. 0.8 1.4
Mortgage loans on real estate .................................. 9,904.2 9,667.0
Real estate .................................................... 327.6 380.4
Policy loans ................................................... 1,937.3 1,927.0
Short-term investments ......................................... 130.2 78.6
Other invested assets .......................................... 2,047.7 1,676.9
---------- ----------
Total Investments ................................... 55,625.6 52,289.2
Cash and cash equivalents ...................................... 610.2 1,025.3
Accrued investment income ...................................... 813.3 745.9
Premiums and accounts receivable ............................... 107.9 117.2
Deferred policy acquisition costs .............................. 3,339.6 3,186.3
Reinsurance recoverable ........................................ 2,767.2 2,464.3
Other assets ................................................... 2,339.0 2,298.4
Separate account assets ........................................ 17,555.7 18,998.1
---------- ----------
Total Assets ........................................ $ 83,158.5 $ 81,124.7
========== ==========
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
2
JOHN HANCOCK LIFE INSURANCE COMPANY
CONSOLIDATED BALANCE SHEETS -- (CONTINUED)
June 30,
2002 December 31,
(Unaudited) 2001
-----------------------------
(in millions)
Liabilities and Shareholder's Equity
Liabilities
Future policy benefits ..................................... $ 31,706.2 $ 29,715.0
Policyholders' funds ....................................... 21,701.0 20,530.3
Unearned revenue ........................................... 366.5 346.0
Unpaid claims and claim expense reserves ................... 173.5 203.8
Dividends payable to policyholders ......................... 467.9 472.8
Short-term debt ............................................ 39.1 124.6
Long-term debt ............................................. 606.6 618.7
Income taxes ............................................... 837.0 803.9
Other liabilities .......................................... 3,898.0 3,675.5
Separate account liabilities ............................... 17,555.7 18,998.1
---------- ----------
Total Liabilities ............................... 77,351.5 75,488.7
Minority interest .......................................... 28.8 28.8
Commitments and contingencies - Note 4
Shareholder's Equity
Common stock, $10,000 par value; 1,000 shares authorized ... 10.0 10.0
Additional paid in capital ................................. 4,763.2 4,763.4
Retained earnings .......................................... 730.6 608.2
Accumulated other comprehensive income ..................... 274.4 225.6
---------- ----------
Total Shareholder's Equity ...................... 5,778.2 5,607.2
---------- ----------
Total Liabilities and Shareholder's Equity ...... $ 83,158.5 $ 81,124.7
========== ==========
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
3
JOHN HANCOCK LIFE INSURANCE COMPANY
UNAUDITED CONSOLIDATED STATEMENTS OF INCOME
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
--------------------------------------------------
(in millions)
Revenues
Premiums .............................................................. $ 500.5 $ 472.2 $ 949.3 $ 926.6
Universal life and investment-type product charges .................... 150.0 147.3 298.3 295.4
Net investment income ................................................. 888.8 913.9 1,776.5 1,831.9
Net realized investment and other gains (losses), net of related
amortization of deferred policy acquisition costs, amounts
credited to participating pension contractholders and the
policyholder dividend obligation ($(12.6) and $(13.0) for the
three months ended June 30, 2002 and 2001 and $(34.9) and $(9.6)
for the six months ended June 30, 2002 and 2001, respectively) ..... (125.4) (12.6) (211.5) (37.6)
Investment management revenues, commissions and other fees ............ 135.5 150.7 271.4 297.4
Other revenue ......................................................... 48.9 56.5 119.5 58.6
---------------------- ----------------------
Total revenues ................................................ 1,598.3 1,728.0 3,203.5 3,372.3
Benefits and Expenses
Benefits to policyholders, excluding amounts related to net
realized investment and other gains (losses) credited to
participating pension contractholders and the policyholder
dividend obligation ($(3.7) and $(12.2) for the three months
ended June 30, 2002 and 2001 and $(10.5) and $(8.3) for the six
months ended June 30, 2002 and 2001, respectively) ................. 964.3 952.4 1,868.5 1,905.9
Other operating costs and expenses .................................... 299.8 326.7 624.5 610.6
Amortization of deferred policy acquisition costs, excluding
amounts related to net realized investment and other gains
(losses) ($(8.9) and $(0.8) for the three months ended June 30,
2002 and 2001 and $(24.4) and $(1.3) for the six months ended
June 30, 2002 and 2001, respectively) .............................. 64.8 53.0 122.5 127.0
Dividends to policyholders ............................................ 143.5 139.5 281.8 270.6
---------------------- ----------------------
Total benefits and expenses ................................... 1,472.4 1,471.6 2,897.3 2,914.1
---------------------- ----------------------
Income before income taxes and cumulative effect
of accounting change .................................................. 125.9 256.4 306.2 458.2
Income taxes ............................................................. 24.3 74.4 72.8 134.9
---------------------- ----------------------
Income before cumulative effect of accounting change ..................... 101.6 182.0 233.4 323.3
Cumulative effect of accounting change, net of tax - Note 1 .............. -- -- -- 7.2
---------------------- ----------------------
Net income ............................................................... $ 101.6 $ 182.0 $ 233.4 $ 330.5
====================== ======================
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
4
JOHN HANCOCK LIFE INSURANCE COMPANY
UNAUDITED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDER'S EQUITY
AND COMPREHENSIVE INCOME
Accumulated
Additional Other Total
Common Paid in Retained Comprehensive Shareholder's Outstanding
Stock Capital Earnings Income (Loss) Equity Shares
------------------------------------------------------------------------------
(in millions, except for outstanding share amounts)
Balance at April 1, 2001........................... $ 10.0 $ 4,764.2 $ 182.8 $ 316.5 $ 5,273.5 1,000
Demutualization transaction........................ (0.1) (0.1)
Comprehensive income:
Net income................................... 182.0 182.0
Other comprehensive income, net of tax:
Net unrealized gains (losses).............. (5.0) (5.0)
Net accumulated gains (losses) on cash
flow hedges............................. (17.4) (17.4)
Foreign currency translation
adjustment.............................. (0.1) (0.1)
---------------
Comprehensive income............................... 159.5
------------------------------------------------------------------------------
Balance at June 30, 2001........................... $ 10.0 $ 4,764.1 $ 364.8 $ 294.0 $ 5,432.9 1,000
==============================================================================
Balance at April 1, 2002........................... $ 10.0 $ 4,763.3 $ 729.0 $ 131.6 $ 5,633.9 1,000
Demutualization transaction........................ (0.1) (0.1)
Comprehensive income:
Net income................................... 101.6 101.6
Other comprehensive income, net of tax:
Net unrealized gains (losses).............. 113.4 113.4
Net accumulated gains (losses) on cash
flow hedges............................. 28.0 28.0
Foreign currency translation
adjustment.............................. 0.1 0.1
Minimum pension liability.................... 1.3 1.3
---------------
Comprehensive income............................... 244.4
Dividend paid to parent company.................... (100.0) (100.0)
------------------------------------------------------------------------------
Balance at June 30, 2002........................... $ 10.0 $ 4,763.2 $ 730.6 $ 274.4 $ 5,778.2 1,000
==============================================================================
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
5
JOHN HANCOCK LIFE INSURANCE COMPANY
UNAUDITED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDER'S EQUITY
AND COMPREHENSIVE INCOME
Accumulated
Additional Other Total
Common Paid in Retained Comprehensive Shareholder's Outstanding
Stock Capital Earnings Income (Loss) Equity Shares
----------------------------------------------------------------------------------
(in millions, except for outstanding share amounts)
Balance at January 1, 2001...................... $ 10.0 $ 4,764.6 $ 284.3 $ 66.7 $ 5,125.6 1,000
Demutualization transactions.................... (0.5) (0.5)
Comprehensive income:
Net income................................ 330.5 330.5
Other comprehensive income, net of tax:
Net unrealized gains (losses)........... 19.0 19.0
Net accumulated gains (losses) on
cash flow hedges..................... (20.0) (20.0)
Foreign currency translation
adjustment........................... 0.7 0.7
----------------
Comprehensive income............................ 330.2
Dividend paid to parent company................. (250.0) (250.0)
Change in accounting principle - Note 1......... 227.6 227.6
----------------------------------------------------------------------------------
Balance at June 30, 2001........................ $ 10.0 $ 4,764.1 $ 364.8 $ 294.0 $ 5,432.9 1,000
==================================================================================
Balance at January 1, 2002...................... $ 10.0 $ 4,763.4 $ 608.2 $ 225.6 $ 5,607.2 1,000
Demutualization transactions.................... (0.2) (0.2)
Comprehensive income:
Net income................................ 233.4 233.4
Other comprehensive income, net of tax:
Net unrealized gains (losses)........... 30.3 30.3
Net accumulated gains (losses) on
cash flow hedges..................... 15.8 15.8
Foreign currency translation
adjustment........................... 0.2 0.2
Minimum pension liability................. 2.5 2.5
----------------
Comprehensive income............................ 282.2
Dividend paid to parent company................. (111.0) (111.0)
----------------------------------------------------------------------------------
Balance at June 30, 2002........................ $ 10.0 $ 4,763.2 $ 730.6 $ 274.4 $ 5,778.2 1,000
==================================================================================
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
6
JOHN HANCOCK LIFE INSURANCE COMPANY
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
Six Months Ended
June 30,
2002 2001
---------------------------
(in millions)
Cash flows from operating activities:
Net income .......................................................................... $ 233.4 $ 330.5
Adjustments to reconcile net income to net cash provided by operating activities:
Amortization of discount - fixed maturities ....................................... (41.3) (67.9)
Net realized investment and other losses .......................................... 211.5 37.6
Change in deferred policy acquisition costs ....................................... (126.4) (79.6)
Depreciation and amortization ..................................................... 27.0 36.4
Net cash flows from trading securities ............................................ 0.6 (0.1)
Increase in accrued investment income ............................................. (67.4) (151.4)
Premiums and accounts receivable .................................................. 9.3 (194.1)
Increase in other assets and other liabilities, net ............................... (98.1) (42.9)
Increase in policy liabilities and accruals, net .................................. 1,120.9 1,192.9
Increase in income taxes .......................................................... 18.3 167.6
---------- ----------
Net cash provided by operating activities ................................. 1,287.8 1,229.0
Cash flows from investing activities:
Sales of:
Fixed maturities available-for-sale ............................................ 1,936.1 10,228.9
Equity securities available-for-sale ........................................... 169.4 267.6
Real estate .................................................................... 35.9 0.5
Short-term investments and other invested assets ............................... 61.8 108.4
Maturities, prepayments and scheduled redemptions of:
Fixed maturities held-to-maturity .............................................. 84.5 116.6
Fixed maturities available-for-sale ............................................ 1,583.8 1,584.9
Short-term investments and other invested assets ............................... 73.6 99.8
Mortgage loans on real estate .................................................. 605.2 740.8
Purchases of:
Fixed maturities held-to-maturity .............................................. (11.8) (31.9)
Fixed maturities available-for-sale ............................................ (6,526.1) (16,270.5)
Equity securities available-for-sale ........................................... (81.5) (112.5)
Real estate .................................................................... (3.2) (2.5)
Short-term investments and other invested assets ............................... (341.7) (254.7)
Mortgage loans on real estate issued .............................................. (816.7) (610.7)
Cash paid related to acquisition of business ...................................... -- (41.0)
Cash received on sale of subsidiary ............................................... -- 12.8
Other, net ........................................................................ (273.3) 138.0
---------- ----------
Net cash used in investing activities ........................................ $ (3,504.0) $ (4,025.5)
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
7
JOHN HANCOCK LIFE INSURANCE COMPANY
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS -- (CONTINUED)
Six Months Ended
June 30,
2002 2001
------------------------
(in millions)
Cash flows from financing activities:
Dividends paid to parent ................................................. $ (111.0) $ (250.0)
Universal life and investment-type contract deposits ..................... 4,906.3 5,251.6
Universal life and investment-type contract maturities and withdrawals ... (2,898.3) (4,101.2)
Issuance of short-term debt .............................................. 9.3 58.6
Repayment of short-term debt ............................................. (91.6) --
Repayment of long-term debt .............................................. (13.6) (14.0)
Net increase in commercial paper ......................................... -- (222.2)
--------- ---------
Net cash provided by financing activities ........................... 1,801.1 722.8
--------- ---------
Net decrease in cash and cash equivalents ........................... (415.1) (2,073.7)
Cash and cash equivalents at beginning of year ...................... 1,025.3 2,966.3
--------- ---------
Cash and cash equivalents at end of period .......................... $ 610.2 $ 892.6
========= =========
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
8
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
Note 1 -- Summary of Significant Accounting Policies
Business
John Hancock Life Insurance Company, (the Company) is a diversified financial
services organization that provides a broad range of insurance and investment
products, and investment management and advisory services. The Company is a
wholly owned subsidiary of John Hancock Financial Services, Inc. (JHFS).
Basis of Presentation
The accompanying unaudited consolidated financial statements of the Company have
been prepared in accordance with accounting principles generally accepted in the
United States for interim financial information and with the instructions to
Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all
of the information and footnotes required by accounting principles generally
accepted in the United States for complete financial statements. In the opinion
of management, these unaudited consolidated financial statements contain all
adjustments, consisting of only normal and recurring adjustments, necessary for
a fair presentation of the financial position and results of operations.
Operating results for the three and six month periods ended June 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 Company's annual audited financial
statements as of December 31, 2001 included in the Company's Form 10-K for the
year ended December 31, 2001 filed with the United States Securities and
Exchange Commission (hereafter referred to as the Company's 2001 Form 10-K). All
of the Company's United States Securities and Exchange Commission filings are
available on the internet at www.sec.gov, under the name Hancock John Life.
The balance sheet at December 31, 2001 has been derived from the audited
financial statements at that date but does not include all of the information
and footnotes required by accounting principles generally accepted in the United
States for complete financial statements.
Certain prior year amounts have been reclassified to conform to the current year
presentation.
During the fourth quarter of 2001, the Company transferred its remaining
ownership interest of both John Hancock Canadian Holdings Limited and certain
other international subsidiaries held by the Company, with a combined carrying
value at December 31, 2001 of $300.1 million, to JHFS in the form of a dividend.
The transfer has been accounted for as a transfer of entities under common
control. As a result of the transfer, all prior period consolidated financial
data has been restated to exclude the results of operations, financial position,
and cash flows of these transferred foreign subsidiaries from the Company's
financial statements. No gain or loss was recognized on the transaction.
On April 2, 2001, a subsidiary of the Company, Signature Fruit Company, LLC
(Signature Fruit), purchased certain assets and assumed certain liabilities out
of bankruptcy proceedings of Tri Valley Growers, Inc., a cooperative
association, for approximately $53.0 million. The acquisition was recorded under
the purchase method of accounting and, accordingly, the operating results have
been included in the Company's consolidated results of operations from the date
of acquisition. The purchase price was allocated to the assets acquired and the
liabilities assumed based on estimated fair values. The unaudited pro forma
revenues, for the six month period ended June 30, 2001, assuming the transaction
had taken place at the beginning of the year of acquisition, were approximately
$3,425.6 million, a change of $53.3 million from reported balances. The
unaudited pro forma net income for the six month period ended June 30, 2001 was
approximately $329.3 million, a change of $(1.2) million from reported balances.
The net losses related to the acquired operations included in the Company's
results for the three and six month periods ended June 30, 2002 were $2.1
million and $1.2 million, respectively.
9
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 1 -- Summary of Significant Accounting Policies - (Continued)
Deferred Policy Acquisition Costs
Costs that vary with, and are related primarily to, the production of new
business have been deferred to the extent that they are deemed recoverable. Such
costs include commissions, certain costs of policy issue and underwriting, and
certain agency expenses. The Company tests the recoverability of its deferred
policy acquisition costs quarterly with a model that uses data such as market
performance, lapse rates and expense levels. As of June 30, 2002 the Company's
deferred policy acquisition costs are deemed recoverable. For participating
traditional life insurance policies, such costs are being amortized over the
life of the contracts at a constant rate based on the present value of the
estimated gross margin amounts expected to be realized over the lives of the
contracts. Estimated gross margin amounts include anticipated premiums and
investment results less claims and administrative expenses, changes in the net
level premium reserve and expected annual policyholder dividends. For universal
life insurance contracts and investment-type products, such costs are being
amortized generally in proportion to the present value of expected gross profits
arising principally from surrender charges and investment results, and mortality
and expense margins. The effects on the amortization of deferred policy
acquisition costs of revisions to estimated gross margins and profits are
reflected in earnings in the period such estimated gross margins and profits are
revised. For non-participating term life and long-term care insurance products,
such costs are being amortized over the premium-paying period of the related
policies using assumptions consistent with those used in computing policy
benefit reserves. Present values of expected gross profits or expected gross
margins are discounted at the latest revised interest rate and is applied to the
remaining benefit period. At June 30, 2002, the average discount rate is 8.4%
for participating traditional life insurance products and 6.2% for universal
life products, and the total amortization period life is 30 years for
participating traditional life insurance products and universal life products.
Amortization of deferred policy acquisition costs was $64.8 million and $53.0
million for the three month periods ended June 30, 2002 and 2001, respectively,
and $122.5 million and $127.0 million for the six month periods ended June 30,
2002 and 2001, respectively.
Amortization of deferred policy acquisition costs is allocated to: (1) net
realized investment and other gains (losses) for those products in which such
gains (losses) have a direct impact on the amortization of deferred policy
acquisition costs; (2) unrealized investment gains and losses, net of tax, to
provide for the effect on the deferred policy acquisition cost asset that would
result from the realization of unrealized gains and losses on assets backing
participating traditional life insurance and universal life and investment-type
contracts; and (3) a separate component of benefits and expenses to reflect
amortization related to the gross margins or profits, excluding realized gains
and losses, relating to policies and contracts in force.
Net realized investment and other gains (losses) related to certain products
have a direct impact on the amortization of deferred policy acquisition costs as
such gains and losses affect the amount and timing of profit emergence.
Accordingly, to the extent that such amortization results from net realized
investment and other gains (losses), management believes that presenting
realized investment gains and losses net of related amortization of deferred
policy acquisition costs provides information useful in evaluating the operating
performance of the Company. This presentation may not be comparable to
presentations made by other insurers.
Severance
During the three and six month periods ended June 30, 2002, the Company
continued its ongoing Competitive Position Project. This project was initiated
in the first quarter of 1999 to reduce costs and increase future operating
efficiency by consolidating portions of the Company's operations and is expected
to continue through 2003. The project consists primarily of reducing staff in
the home office and terminating certain operations outside the home office.
Since the inception of the project, approximately 1,100 employees have been
terminated. As of June 30, 2002 and December 31, 2001, the liability for
employee termination costs, included in other liabilities was $14.9 million and
$18.0 million, respectively. Employee termination costs net of related
curtailment pension and other post employment benefit related gains are included
in other operating costs and expenses and were $1.8 million and $7.0 million for
the three month period ended June 30, 2002 and 2001 and $6.8 million and $30.6
million for six month
10
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 1 -- Summary of Significant Accounting Policies - (Continued)
periods ended June 30, 2002 and 2001, respectively. Benefits paid since the
inception of the project are $82.8 million.
Cumulative Effect of Accounting Changes
During the first quarter of 2001, the Company changed the method of accounting
for the recognition of deferred gains and losses considered in the calculation
of the annual expense for its employee pension plan under Statement of Financial
Accounting Standards (SFAS) No. 87, "Employers' Accounting for Pensions," and
for its postretirement health and welfare plans under SFAS No. 106, "Employers'
Accounting for Postretirement Benefits Other Than Pensions." The Company changed
the method of recognizing gains and losses from deferral within a 10% corridor
and amortization of gains (losses) outside this corridor over the future working
careers of the participants to a deferral within a 5% corridor and amortization
of gains and losses outside this corridor over the future working careers of the
participants. The new method is preferable because in the Company's situation,
it produces results that respond more quickly to changes in the market value of
the plan assets while providing some measure to mitigate the impact of extreme
short term swings in those markets values. As a result, the Company recorded a
credit of $18.6 million (net of tax of $9.9 million), related to its employee
benefit pension plans, and a credit of $4.7 million (net of tax of $2.6
million), related to its postretirement health and welfare plans. The total
credit recorded as a cumulative effect of an accounting change was $23.3 million
(net of tax of $12.5 million).
On January 1, 2001, the Company adopted SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities", as amended by SFAS No. 138, "Accounting for
Certain Derivative Instruments and Certain Hedging Activities, an amendment of
FASB Statement 133". The adoption of SFAS No. 133, as amended, resulted in a
charge to operations accounted for as a cumulative effect of accounting change
of $16.1 million (net of tax benefit of $8.3 million) as of January 1, 2001. In
addition, as of January 1, 2001, a $227.6 million (net of tax of $122.6 million)
cumulative effect of accounting change was recorded in accumulated other
comprehensive income for (1) the transition adjustment in the adoption of SFAS
No. 133, as amended, an increase of $40.5 million (net of tax of $21.8 million),
and (2) the reclassification of $12.1 billion in securities from the
held-to-maturity category to the available-for-sale category, an increase of
$187.1 million (net of tax of $100.8 million).
Recent Accounting Pronouncements
On January 1, 2002, the Company adopted SFAS No. 142, "Goodwill and Other
Intangible Assets." SFAS No. 142 requires that goodwill and other intangible
assets deemed to have indefinite lives no longer be amortized to earnings, but
instead be reviewed at least annually for impairment. Intangible assets with
definite lives will continue to be amortized over their useful lives. The
Company has performed the required impairment tests of goodwill as of January 1,
2002 based on the guidance in SFAS No. 142. The Company evaluated the goodwill
of each reporting unit for impairment using valuations of reporting units based
on earnings and book value multiples and by reference to similar multiples of
publicly traded peers. No goodwill impairments resulted from these required
impairment tests.
In December 2000, the American Institute of Certified Public Accountants (AICPA)
issued Statement of Position (SOP) 00-3, "Accounting by Insurance Enterprises
for Demutualizations and Formations of Mutual Insurance Holding Companies and
Certain Long-Duration Participating Contracts." The SOP details accounting
requirements for the demutualization of mutual insurance companies. The SOP
required demutualized insurance companies to standardize the presentation of
demutualization expenses and presentation of the closed block in their financial
statements. The adoption of SOP 00-3 also resulted in the recognition of a
policyholder dividend obligation, which represents cumulative actual closed
block earnings in excess of expected periodic amounts calculated at the date of
the demutualization. Adoption of SOP 00-3 resulted in an increase of net income
of $2.4 million and $2.5 million for the three month and six month periods ended
June 30, 2001, respectively. Previously reported net income for the three month
period ended June 30, 2001 included mortality and lapse experience that was
better than expected at the date of demutualization , offset by lower than
expected net investment income and lower net realized investment and other gains
(losses). Previously reported net income for the six month period ended June 30,
2001 included
11
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 1 -- Summary of Significant Accounting Policies - (Continued)
better than expected net investment income and mortality and lapse experience,
offset by lower net realized investment and other gains (losses).
Note 2 -- Related Party Transactions
Certain directors of the Company are members or directors of other entities that
periodically perform services for or have other transactions with Company. Such
transactions are either subject to bidding procedures or are otherwise entered
into on terms comparable to those that would be available to unrelated third
parties and are not material to the Company's results of operations or financial
condition.
The Company provides JHFS, with personnel, property, and facilities in carrying
out certain of its corporate functions. The Company annually determines a fee
(the parent company service fee) for these services and facilities based on a
number of criteria, which are periodically revised to reflect continuing changes
in the Company's operations. The parent company service fee is included in other
operating costs and expenses within the Company's income statements. The Company
charged JHFS a service fee of $5.0 million and $11.1 million for the three month
periods ended June 30, 2002 and 2001, respectively and $11.8 million and $16.7
million for the six month periods ended June 30, 2002 and 2001, respectively. As
of June 30, 2002, JHFS was current in its payment to the Company, related to
these services.
During the six month period ended June 30, 2002, the Company purchased $100.0
million of corporate owned life insurance from an affiliate and wholly owned
subsidiary of JHFS, John Hancock Insurance Company of Vermont (JHIC of Vermont),
to provide insurance coverage on key management employees. The death benefit on
this COLI product would cover the cost of replacing these employees, including
recruiting, training, and development. There were no such purchases for the
three months ended June 30, 2001.
The Company has reinsured certain portions of its long term care insurance and
group pension businesses with John Hancock Reassurance Company, Ltd. of Bermuda
(JHReCo), an affiliate and wholly owned subsidiary of JHFS. The Company entered
into these reinsurance contracts in order to facilitate its capital management
process. These reinsurance contracts are primarily written on a funds withheld
basis where the related financial assets remain invested at the Company. As a
result, the Company recorded a liability for coinsurance amounts withheld from
JHReCo of $1,465.5 million and $1,158.9 million at June 30, 2002 and December
31, 2001, respectively, which are included with other liabilities in the
consolidated balance sheets. Included in other reinsurance recoverables on the
consolidated balance sheets are $1,851.5 million and $1,504.6 million at June
30, 2002 and December 31, 2001, respectively, due from JHReCo. Premiums ceded to
JHReCo were $264.3 million and $96.8 million for the three month periods ended
June 30, 2002 and 2001, respectively and $375.1 million and $554.8 million for
the six month periods ended June 30, 2002 and 2001, respectively.
In the first quarter of 2002, the Company began reinsuring certain portions of
its group pension businesses with JHIC of Vermont. The Company entered into this
reinsurance contract in order to facilitate its capital management process. This
reinsurance contract is primarily written on a funds withheld basis where the
related financial assets remain invested at the Company. As a result, the
Company recorded a liability for coinsurance amounts withheld from JHIC of
Vermont of $0.5 million at June 30, 2002, which is included with other
liabilities in the consolidated balance sheets. At June 30, 2002, the Company
had not recorded any reinsurance recoverable from JHIC of Vermont. The
reinsurance recoverable, from JHIC of Vermont, is typically recorded with other
reinsurance recoverables on the consolidated balance sheet. Premiums ceded by
the Company to JHIC of Vermont were $0.3 million and $0.4 million for the three
and six month periods ended June 30, 2002, respectively.
12
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 3 -- Segment Information
The Company operates in the following five business segments: two segments
primarily serve retail customers, two segments serve institutional customers and
our fifth segment is the Corporate and Other Segment, which includes our
international operations. Our retail segments are the Protection Segment and the
Asset Gathering Segment. Our institutional segments are the Guaranteed and
Structured Financial Products Segment (G&SFP) and the Investment Management
Segment. For additional information about the Company's business segments please
refer to the Company's 2001 Form 10-K.
The following table summarizes selected financial information by segment for the
periods and dates indicated and reconciles segment revenues and segment
after-tax operating income to amounts reported in the unaudited consolidated
statements of income. Included in the Protection Segment for all periods
presented are the assets, liabilities, revenues and expenses of the closed
block. For additional information on the closed block, see Note 5 -- Closed
Block in the notes to the unaudited consolidated financial statements and the
related footnote in the Company's 2001 Form 10-K.
Amounts reported as segment adjustments in the tables below primarily relate to:
(i) certain net realized investment and other gains (losses), net of related
amortization adjustment for deferred policy acquisition costs, amounts credited
to participating pension contractholder accounts and policyholder dividend
obligation (the adjustment for net realized investment and other gains (losses)
excludes gains and losses from mortgage securitizations because management views
the related gains and losses as an integral part of the core business of those
operations); (ii) benefits to policyholders and expenses incurred relating to
the settlement of a class action lawsuit against the Company involving a dispute
regarding disclosure of costs on various modes of life insurance policy premium
payment; (iii) restructuring costs related to reducing staff in the home office
and terminating certain operations outside the home office and (iv) cumulative
effect of accounting changes.
13
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 3 - Segment Information - (Continued)
Asset Investment Corporate
Protection Gathering G&SFP Management and Other Consolidated
------------------------------------------------------------------------------
(in millions)
As of or for the three months ended
June 30, 2002
Revenues:
Revenues from external customers ........ $ 473.5 $ 142.1 $ 18.0 $ 22.9 $ 180.2 $ 836.7
Net investment income ................... 326.0 140.5 428.7 3.6 (10.0) 888.8
Inter-segment revenues .................. -- -- -- 6.8 (6.8) --
------------------------------------------------------------------------------
Segment revenues ........................ 799.5 282.6 446.7 33.3 163.4 1,725.5
Net realized investment and other
gains (losses) ........................ (28.3) (20.7) (86.7) 0.6 7.9 (127.2)
------------------------------------------------------------------------------
Revenues ................................ $ 771.2 $ 261.9 $ 360.0 $ 33.9 $ 171.3 $ 1,598.3
==============================================================================
Net Income:
Segment after-tax operating income ...... $ 78.7 $ 40.6 $ 72.1 $ 7.4 $ 5.2 $ 204.0
Net realized investment and other
gains (losses) ........................ (18.4) (13.2) (55.9) 0.5 4.9 (82.1)
Class action lawsuit .................... (18.7) -- -- -- (0.8) (19.5)
Restructuring charges ................... (0.9) (0.5) (0.2) (0.2) 1.0 (0.8)
------------------------------------------------------------------------------
Net income .............................. $ 40.7 $ 26.9 $ 16.0 $ 7.7 $ 10.3 $ 101.6
==============================================================================
Supplemental Information:
Equity in net income of investees
accounted for by the equity
method ................................ $ 5.3 $ 2.4 $ 11.4 $ 0.2 $ 0.4 $ 19.7
Amortization of deferred policy
acquisition costs, excluding
amounts related to net realized
investment and other gains (losses) ... 35.3 28.8 0.7 -- -- 64.8
Segment assets .......................... $ 29,743.1 $ 15,294.0 $ 33,463.7 $ 2,089.8 $ 2,567.9 $ 83,158.5
14
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 3 -- Segment Information - (Continued)
Asset Investment Corporate
Protection Gathering G&SFP Management and Other Consolidated
------------------------------------------------------------------------------
(in millions)
As of or for the three months ended
June 30, 2001
Revenues:
Revenues from external customers ........ $ 429.1 $ 172.1 $ 21.3 $ 20.6 $ 183.5 $ 826.6
Net investment income ................... 309.0 122.8 464.4 3.7 14.0 913.9
Inter-segment revenues .................. -- -- -- 6.6 (6.6) --
------------------------------------------------------------------------------
Segment revenues ........................ 738.1 294.9 485.7 30.9 190.9 1,740.5
Net realized investment and other
gains (losses) ........................ (24.0) (18.1) (9.1) (0.1) 38.8 (12.5)
------------------------------------------------------------------------------
Revenues ................................ $ 714.1 $ 276.8 $ 476.6 $ 30.8 $ 229.7 $ 1,728.0
==============================================================================
Net Income:
Segment after-tax operating income ...... $ 76.8 $ 37.4 $ 58.9 $ 4.6 $ 17.9 $ 195.6
Net realized investment and other
gains (losses) ........................ (15.2) (11.2) (6.2) -- 23.3 (9.3)
Restructuring charges ................... (1.6) (1.9) (0.6) (0.1) (0.1) (4.3)
------------------------------------------------------------------------------
Net income .............................. $ 60.0 $ 24.3 $ 52.1 $ 4.5 $ 41.1 $ 182.0
==============================================================================
Supplemental Information:
Equity in net income of investees
accounted for by the equity method .... $ 2.5 $ 2.8 $ 4.7 $ 0.4 $ 15.7 $ 26.1
Amortization of deferred policy
acquisition costs, excluding
amounts related to net realized
investment and other gains (losses) ... 37.9 13.6 0.9 -- 0.6 53.0
Segment assets .......................... $ 27,809.8 $ 14,306.0 $ 32,160.1 $ 2,961.6 $ 2,860.5 $ 80,098.0
15
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 3 -- Segment Information - (Continued)
Asset Investment Corporate
Protection Gathering G&SFP Management and Other Consolidated
-------------------------------------------------------------------------------
(in millions)
As of or for the six months ended
June 30, 2002
Revenues:
Revenues from external customers ........ $ 935.7 $ 287.4 $ 31.1 $ 39.8 $ 345.5 $ 1,639.5
Net investment income ................... 646.4 271.0 848.2 7.6 3.3 1,776.5
Inter-segment revenues .................. -- -- -- 16.5 (16.5) --
-------------------------------------------------------------------------------
Segment revenues ........................ 1,582.1 558.4 879.3 63.9 332.3 3,416.0
Net realized investment and other
gains (losses) ........................ (57.2) (44.4) (108.2) 0.6 (3.3) (212.5)
-------------------------------------------------------------------------------
Revenues ................................ $ 1,524.9 $ 514.0 $ 771.1 $ 64.5 $ 329.0 $ 3,203.5
===============================================================================
Net Income:
Segment after-tax operating income ...... $ 149.5 80.6 136.2 12.3 14.7 393.3
Net realized investment and other
gains (losses) ........................ (36.9) (28.0) (69.4) 0.5 (2.2) (136.0)
Class action lawsuit .................... (18.7) -- -- -- (0.8) (19.5)
Restructuring charges ................... (4.1) (1.9) (0.5) (0.2) 2.3 (4.4)
-------------------------------------------------------------------------------
Net income .............................. $ 89.8 $ 50.7 $ 66.3 $ 12.6 $ 14.0 $ 233.4
===============================================================================
Supplemental Information:
Equity in net income of investees
accounted for by the equity
method ................................ $ 9.5 $ 5.1 $ 18.8 $ 0.1 $ 11.4 $ 44.9
Amortization of deferred policy
acquisition costs, excluding
amounts related to net realized
investment and other gains (losses) ... 71.1 50.4 1.1 -- (0.1) 122.5
Segment assets .......................... $ 29,743.1 $ 15,294.0 $ 33,463.7 $ 2,089.8 $ 2,567.9 $ 83,185.5
16
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 3 -- Segment Information - (Continued)
Asset Investment Corporate
Protection Gathering G&SFP Management and Other Consolidated
-------------------------------------------------------------------------------
(in millions)
As of or for the six months ended
June 30, 2001
Revenues:
Revenues from external customers ........ $ 846.0 $ 341.2 $ 57.2 $ 42.6 $ 293.5 $ 1,580.5
Net investment income ................... 622.3 242.6 931.2 9.2 26.6 1,831.9
Inter-segment revenues .................. -- -- -- 14.7 (14.7) --
-------------------------------------------------------------------------------
Segment revenues ........................ 1,468.3 583.8 988.4 66.5 305.4 3,412.4
Net realized investment and other
gains (losses) ........................ (33.9) (11.2) (23.5) (0.1) 28.6 (40.1)
-------------------------------------------------------------------------------
Revenues ................................ $ 1,434.4 $ 572.6 $ 964.9 $ 66.4 $ 334.0 $ 3,372.3
===============================================================================
Net Income:
Segment after-tax operating income ...... $ 145.1 $ 68.9 $ 117.3 $ 10.0 $ 25.7 $ 367.0
Net realized investment and other
gains (losses) ........................ (20.7) (6.6) (14.4) (0.1) 17.4 (24.4)
Restructuring charges ................... (2.8) (15.1) (0.7) (0.5) (0.2) (19.3)
Cumulative effect of accounting
changes, net of tax ................... 11.7 (0.5) (1.2) (0.2) (2.6) 7.2
-------------------------------------------------------------------------------
Net income .............................. $ 133.3 $ 46.7 $ 101.0 $ 9.2 $ 40.3 $ 330.5
===============================================================================
Supplemental Information:
Equity in net income of investees
accounted for by the equity method .... $ 4.8 $ 3.9 $ 8.1 $ 0.4 $ 28.3 $ 45.5
Amortization of deferred policy
acquisition costs, excluding
amounts related to net realized
investment and other gains (losses) ... 88.4 37.0 1.5 -- 0.1 127.0
Segment assets .......................... $ 27,809.8 $ 14,306.0 $ 32,160.1 $ 2,961.6 $ 2,860.5 $ 80,098.0
17
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 4 -- Contingencies and Other Matters
Class Action
During 1997, the Company entered into a court-approved settlement relating to a
class action lawsuit involving certain individual life insurance policies sold
from 1979 through 1996. In entering into the settlement, the Company
specifically denied any wrongdoing. The total reserve held in connection with
the settlement to provide for relief to class members and for legal and
administrative costs associated with the settlement amounted to $25.4 million
and $52.7 million at June 30, 2002 and December 31, 2001, respectively. There
were no costs related to the settlement incurred for the three and six months
ended June 30, 2002 or 2001. An adjustment of $19.5 million, after-tax, was
recorded to the settlement reserve in the fourth quarter of 2001. The estimated
reserve is based on a number of factors, including the estimated cost per claim
and the estimated costs to administer the claims.
During 1996, management determined that it was probable that a settlement would
occur and that a minimum loss amount could be reasonably estimated. Accordingly,
the Company recorded its best estimate based on the information available at the
time. The terms of the settlement agreement were negotiated throughout 1997 and
approved by the court on December 31, 1997. In accordance with the terms of the
settlement agreement, the Company contacted class members during 1998 to
determine the actual type of relief to be sought by class members. The majority
of the responses from class members were received by the fourth quarter of 1998.
The type of relief sought by class members differed from the Company's initial
estimates. In 1999, the Company updated its estimate of the cost of claims
subject to alternative dispute resolution (ADR) relief and revised its reserve
estimate accordingly. The reserve estimate was further evaluated quarterly, and
was adjusted in the fourth quarter of 2001. The adjustment to the reserve in the
fourth quarter of 2001 was the result of the Company being able to better
estimate the cost of settling the remaining claims, which on average tend to be
larger, more complicated claims. The better estimate comes from experience with
actual settlements on similar claims.
Administration of the ADR component of the settlement continues to date.
Although some uncertainty remains as to the cost of claims in the final phase
(i.e., arbitration) of the ADR process, it is expected that the final cost of
the settlement will not differ materially from the amounts presently provided
for by the Company.
Harris Trust
Since 1983, the Company has been involved in complex litigation known as Harris
Trust and Savings Bank, as Trustee of Sperry Master Retirement Trust No. 2 v.
John Hancock Mutual Life Insurance Company (S.D.N.Y. Civ. 83-5491). After
successive appeals to the Second Circuit and to the U.S. Supreme Court, the case
was remanded to the District Court and tried by a Federal District Court judge
in 1997. The judge issued an opinion in November 2000.
In that opinion the Court found against the Company and awarded the Trust
approximately $13.8 million in relation to this claim together with unspecified
additional pre-judgment interest on this amount from October 1988. The Court
also found against the Company on issues of liability valuation and ERISA law.
Damages in the amount of approximately $5.7 million, together with unspecified
pre-judgment interest from December 1996, were awarded on these issues. As part
of the relief, the judge ordered the removal of Hancock as a fiduciary to the
plan. On April 11, 2001, the Court entered a judgment against the Company for
approximately $84.9 million, which includes damages to the plaintiff,
pre-judgment interest, attorney's fees and other costs.
The Company believes that the underlying case was incorrectly decided and there
are promising grounds for challenging the District Court's decision. Therefore,
on May 14, 2001 the Company filed an appeal and believes that it is probable
that the Appeals Court will reverse the lower court's decision. On April 29,
2002, the Appeals Court
18
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 4 --Contingencies and Other Matters - (Continued)
heard oral arguments from the parties in the case. Notwithstanding what the
Company believes to be the merits of its position in this case, if unsuccessful,
its ultimate liability, including fees, costs and interest could have a material
adverse impact on net income. However, the Company does not believe that any
such liability would be material in relation to its financial position or
liquidity.
Reinsurance Recoverable
On February 28, 1997, the Company sold a major portion of its group insurance
business to UNICARE Life & Health Insurance Company (UNICARE), a wholly owned
subsidiary of WellPoint Health Networks, Inc. The business sold included the
Company's group accident and health business and related group life business and
Cost Care, Inc., Hancock Association Services Group and Tri-State, Inc., all of
which were indirect wholly owned subsidiaries of the Company. The Company
retained its long-term care operations. The insurance business sold was
transferred to UNICARE through a 100% coinsurance agreement. The Company remains
liable to its policyholders to the extent that UNICARE does not meet its
contractual obligations under the coinsurance agreement.
Through the Company's group health insurance operations, the Company entered
into a number of reinsurance arrangements in respect of personal accident
insurance and the occupational accident component of workers compensation
insurance, a portion of which was originated through a pool managed by Unicover
Managers, Inc. Under these arrangements, the Company both assumed risks as a
reinsurer, and also passed 95% of these risks on to other companies. This
business had originally been reinsured by a number of different companies, and
has become the subject of widespread disputes. The disputes concern the
placement of the business with reinsurers and recovery of the reinsurance. The
Company is engaged in disputes, including a number of legal proceedings, in
respect of this business. The risk to the Company is that other companies that
reinsured the business from the Company may seek to avoid their reinsurance
obligations. However, the Company believes that it has a reasonable legal
position in this matter. During the fourth quarter of 1999 and early 2000, the
Company received additional information about its exposure to losses under the
various reinsurance programs. As a result of this additional information and in
connection with global settlement discussions initiated in late 1999 with other
parties involved in the reinsurance programs, during the fourth quarter of 1999
the Company recognized a charge for uncollectible reinsurance of $133.7 million,
after tax, as its best estimate of its remaining loss exposure. The Company
believes that any exposure to loss from this issue, in addition to amounts
already provided for as of June 30, 2002, would not be material.
Reinsurance ceded contracts do not relieve the Company from its obligations to
policyholders. The Company remains liable to its policyholders for the portion
reinsured to the extent that any reinsurer does not meet its obligations for
reinsurance ceded to it under the reinsurance agreements. Failure of the
reinsurers to honor their obligations could result in losses to the Company;
consequently, estimates are established for amounts deemed or estimated to be
uncollectible. To minimize its exposure to significant losses from reinsurance
insolvencies, the Company evaluates the financial condition of its reinsurers
and monitors concentration of credit risk arising from similar characteristics
of the reinsurers.
Other Matters
On July 19, 2002, the Company announced it had entered into a class action
lawsuit settlement agreement involving policyholders who paid premiums on a
monthly, quarterly or semiannual basis, rather than annually. The class action
lawsuit, known as the "Modal Premium" action, was filed in a New Mexico state
court and is applicable to all United States policyholders in the class. As a
result of the settlement, the Company has established a $30.0 million reserve as
of June 30, 2002 to provide for relief to class members and for legal and
administrative costs associated with the settlement. In entering into the
settlement, the Company specifically denied any wrongdoing. Although some
uncertainty remains as to the entire cost of claims, it is expected that the
final cost of the settlement will not differ materially from the amounts
presently provided for by the Company.
In the normal course of its business operations, the Company is involved with
litigation from time to time with claimants, beneficiaries and others, and a
number of litigation matters were pending as of June 30, 2002. It is the opinion
of management, after consultation with counsel, that the ultimate liability with
respect to these claims, if any, will not materially affect the financial
position or results of operations of the Company.
19
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 5 -- Closed Block
In connection with the Company's plan of reorganization for its demutualization
and initial public offering, the Company created a closed block for the benefit
of policies included therein. Additional information regarding the creation of
the closed block and relevant accounting issues is contained in the notes to
consolidated financial statements of the Company's December 31, 2001 Form 10-K.
The following table sets forth certain summarized financial information relating
to the closed block as of the dates indicated.
June 30,
2002 December 31,
(unaudited) 2001
---------------------------
(in millions)
Liabilities
Future policy benefits ................................................ $ 10,328.7 $ 10,198.7
Policyholder dividend obligation ...................................... 229.0 251.2
Policyholders' funds .................................................. 1,483.8 1,460.9
Policyholder dividends payable ........................................ 440.0 433.4
Other closed block liabilities ........................................ 103.6 53.7
---------------------------
Total closed block liabilities ..................................... 12,585.1 12,397.9
---------------------------
Assets
Investments
Fixed maturities:
Held-to-maturity--at amortized cost
(fair value: June 30--$100.1; December 31--$100.7) .............. 95.2 103.3
Available-for-sale--at fair value
(cost: June 30--$5,470.1; December 31--$5,204.0) ................ 5,622.8 5,320.7
Equity securities:
Available-for-sale--at fair value
(cost: June 30--$8.5; December 31--$8.8) ........................ 11.7 13.4
Mortgage loans on real estate ......................................... 1,839.0 1,837.0
Policy loans .......................................................... 1,551.5 1,551.9
Other invested assets ................................................. 133.4 83.1
---------------------------
Total investments .................................................. 9,253.6 8,909.4
Cash and cash equivalents ............................................. 53.5 192.1
Accrued investment income ............................................. 163.2 158.9
Other closed block assets ............................................. 328.7 297.5
---------------------------
Total closed block assets .......................................... 9,799.0 9,557.9
---------------------------
Excess of reported closed block liabilities over assets
designated to the closed block ..................................... 2,786.1 2,840.0
---------------------------
Portion of above representing other comprehensive income:
Unrealized appreciation (depreciation), net of tax of $52.9
million and $43.3 million at June 30 and December 31,
respectively .................................................... 98.1 80.1
Allocated to the policyholder dividend obligation, net of tax of
$57.5 million and $50.8 million at June 30 and December 31,
respectively .................................................... (106.9) (94.4)
---------------------------
Total ......................................................... (8.8) (14.3)
---------------------------
Maximum future earnings to be recognized from closed block
assets and liabilities ............................................. $ 2,777.3 $ 2,825.7
===========================
20
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 5 -- Closed Block - (Continued)
June 30,
2002 December 31,
(unaudited) 2001
-------------------------
(in millions)
Change in the policyholder dividend obligation:
Balance at beginning of period ............................... $ 251.2 $ 77.0
Impact on net income before income taxes .................. (41.4) 42.5
Unrealized investment gains (losses) ...................... 19.2 67.1
Cumulative effect of change in accounting principle (1) ... -- 64.6
-------------------------
Balance at end of period ..................................... $ 229.0 $ 251.2
=========================
(1) The cumulative effect of change in accounting principle represents the
impact of transferring fixed maturities from held-to-maturity to
available-for-sale as part of the adoption of SFAS No. 133 effective
January 1, 2001.
21
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 5 -- Closed Block - (Continued)
The following table sets forth certain summarized financial information relating
to the closed block for the period indicated:
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
------------------------------------------
(in millions)
Revenues
Premiums .......................................................... $ 231.6 $ 211.7 $ 468.0 $ 445.3
Net investment income ............................................. 166.7 163.4 333.2 332.4
Net realized investment and other gains (losses), net of
amounts credited to the policyholder dividend obligation
of $3.8 million and $(10.8) million for the three months
ended June 30, 2002 and 2001, respectively and $(2.6)
million and $(7.8) million for the six months ended June 30,
2002 and 2001, respectively .................................... (1.5) (1.5) (2.7) (2.9)
Other closed block revenues ....................................... -- -- -- 0.3
-------------------------------------------
Total closed block revenues .................................... 396.8 373.6 798.5 775.1
Benefits and Expenses
Benefits to policyholders ......................................... 251.1 215.1 509.5 468.7
Change in the policyholder dividend obligation .................... (17.7) 3.3 (35.7) 5.0
Other closed block operating costs and expenses ................... (0.7) (1.6) (2.2) (3.9)
Dividends to policyholders ........................................ 127.5 118.3 253.5 228.1
-------------------------------------------
Total benefits and expenses .................................... 360.2 335.1 725.1 697.9
-------------------------------------------
Closed block revenues, net of closed block benefits and ........... 36.6 38.5 73.4 77.2
expenses, before income taxes and cumulative effect of
accounting change
Income taxes, net of amounts credited to the policyholder
dividend obligation of $(0.1) million and $(0.1) million
for the three months ended June 30, 2002 and 2001,
respectively and $(3.1) million and $(1.2) million for
the six months ended June 30, 2002 and 2001, respectively ...... 12.5 13.1 25.0 26.2
-------------------------------------------
Closed block revenues, net of closed block benefits and
expenses, income taxes before the cumulative effect of
accounting change .............................................. 24.1 25.4 48.4 51.0
Cumulative effect of accounting change, net of tax, and net of
amounts credited to policyholder dividend obligation of
$(1.4) million for the six months ended June 30, 2001 (1) ...... -- -- -- --
-------------------------------------------
Closed block revenues, net of closed block benefits
and expenses, income taxes and the cumulative effect
of accounting change ........................................... $ 24.1 $ 25.4 $ 48.4 $ 51.0
===========================================
(1) The cumulative effect of change in accounting principle represents the
adoption of SFAS No. 133, effective January 1, 2001.
22
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 6 - Goodwill and Value of Business Acquired
The Company recognizes two purchased intangible assets, goodwill and value of
business acquired. The excess of the cost over the fair value of identifiable
assets acquired in business combinations is recorded as goodwill. The present
value of estimated future profits of insurance policies in force related to
businesses acquired is recorded as the value of business acquired (VOBA).
The following tables set forth certain summarized financial information relating
to goodwill and VOBA as of the dates and periods indicated.
Accumulated
Gross Carrying Amortization and Net Carrying
Amount Other Changes Amount
-------------------------------------------------
(in millions)
June 30, 2002
Unamortizable intangible assets:
Goodwill .......................... $ 166.7 $ (58.1) $ 108.6
Amortizable intangible assets:
VOBA .............................. $ 97.4 $ (22.5) $ 74.9
June 30, 2001
Unamortizable intangible assets:
Goodwill .......................... $ 174.1 $ (52.5) $ 121.6
Amortizable intangible assets:
VOBA .............................. $ 97.4 $ (19.6) $ 77.8
Three Months Ended Six Months Ended
Amortization expense June 30, June 30,
2002 2001 2002 2001
---------------------------------------------------------------
(in millions)
Goodwill, net of tax of $0.9 million and $1.8 million
for the three and six month periods ended June 30, 2001,
respectively .............................................. -- $ 1.9 -- $ 3.9
VOBA, net of tax of $0.2 million and $0.2 million for
the three month periods ended June 30, 2002 and 2001,
respectively, and $0.5 million and $0.4 million for the
six month periods ended June 30, 2002 and 2001,
respectively .............................................. $ 0.5 $ 0.5 $ 0.9 $ 0.7
23
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 6 - Goodwill and Value of Business Acquired - (Continued)
Estimated future amortization expense for the years ended
December 31,
Tax Effect Net Expense
---------------------------------------
(in millions)
2002............................... $ 1.1 $ 2.0
2003............................... $ 1.4 $ 2.6
2004............................... $ 1.5 $ 2.7
2005............................... $ 1.6 $ 2.9
2006............................... $ 1.6 $ 3.0
2007............................... $ 1.6 $ 2.9
The changes in the carrying value of goodwill, presented for each business
segment and in total, for the periods indicated, are as follows:
Asset Investment Corporate
Protection Gathering G&SFP Management And Other Consolidated
-------------------------------------------------------------------------------------------
(in millions)
Goodwill balance at April 1, 2002.... $ 66.2 $ 42.1 -- $ 0.4 -- $ 108.7
Changes to goodwill:
Adjustment (1).................. (0.1) -- -- -- -- (0.1)
-------------------------------------------------------------------------------------------
Goodwill balance at June 30, 2002.... $ 66.1 $ 42.1 -- $ 0.4 -- $ 108.6
===========================================================================================
(1) Purchase price negotiations with Fortis, Inc. were concluded during the
first quarter of 2002, resulting in an adjustment to the goodwill related
to the Company's 1999 acquisition of Fortis' long term care insurance
business. Legal fees associated with these negotiations were finalized in
the second quarter of 2002, resulting in a further adjustment to goodwill
of $(0.1) million.
Asset Investment Corporate
Protection Gathering G&SFP Management And Other Consolidated
-------------------------------------------------------------------------------------------
(in millions)
Goodwill balance at January 1, 2002.... $ 73.5 $ 42.1 -- $ 0.4 -- $ 116.0
Changes to goodwill:
Adjustment (1).................... (7.4) -- -- -- -- (7.4)
-------------------------------------------------------------------------------------------
Goodwill balance at June 30, 2002...... $ 66.1 $ 42.1 -- $ 0.4 -- $ 108.6
===========================================================================================
(1) Purchase price negotiations with Fortis, Inc. were concluded during the
first quarter of 2002, resulting in an adjustment of $(7.3) million to the
goodwill related to the Company's 1999 acquisition of Fortis' long term
care insurance business. Legal fees associated with these negotiations
were finalized in the second quarter of 2002, resulting in a further
adjustment to goodwill of $(0.1) million
24
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 6 - Goodwill and Value of Business Acquired - (Continued)
The changes in the carrying value of VOBA, presented for each business segment
and in total, for the periods indicated, are as follows:
Asset Investment Corporate
Protection Gathering G&SFP Management And Other Consolidated
-------------------------------------------------------------------------------------------
(in millions)
VOBA balance at April 1, 2002.......... $ 76.9 -- -- -- -- $ 76.9
Amortization and other changes:
Amortization................... (0.7) -- -- -- -- (0.7)
Adjustment to unrealized
gains on securities
available-for-sale......... (1.3) -- -- -- -- (1.3)
-------------------------------------------------------------------------------------------
VOBA balance at June 30, 2002.......... $ 74.9 -- -- -- -- $ 74.9
===========================================================================================
Asset Investment Corporate
Protection Gathering G&SFP Management And Other Consolidated
-------------------------------------------------------------------------------------------
(in millions)
VOBA balance at January 1, 2002........ $ 76.2 -- -- -- -- $ 76.2
Amortization and other changes:
Amortization................. (1.4) -- -- -- -- (1.4)
Adjustment to unrealized
gains on securities
available-for-sale....... 0.1 -- -- -- -- 0.1
-------------------------------------------------------------------------------------------
VOBA balance at June 30, 2002.......... $ 74.9 -- -- -- -- $ 74.9
===========================================================================================
The net income of the Company, if the Company had not amortized goodwill prior
to the adoption of SFAS No. 142, would have been as follows:
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
--------------------------------------------------------------------------------
(in millions)
Net income:
As reported............................... $ 101.6 $ 182.0 $ 233.4 $ 330.5
Goodwill amortization, net of tax......... -- 1.9 -- 3.9
--------------------------------------------------------------------------------
Pro forma (unaudited)..................... $ 101.6 $ 183.9 $ 233.4 $ 334.4
================================================================================
25
JOHN HANCOCK LIFE INSURANCE COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 7 - Subsequent Events
On August 11, 2002, US Airways and certain of its subsidiaries filed petitions
for reorganization under Chapter 11 of the Bankruptcy Code. The Company's fixed
maturities securities include notes and collateralized structured financings
backed by US Airways or its subsidiaries and in some cases guaranteed by a
guarantor rated AA or better. As of June 30, 2002, these securities were
recorded with a carrying value of $287.9 million, net unrealized losses of $14.7
million, and accrued investment income of $6.4 million. A further breakdown is
shown below:
o $139.9 million, with $3.6 million in accrued interest, are senior
tranche Enhanced Equipment Trust Certificate (EETC) bonds guaranteed
by MBIA, GE, or SNECMA, all of which are rated AA or better.
o $40.1 million, with $1.6 million in accrued interest, are senior
tranche EETC bonds without a guarantee. These bonds had an original
loan-to-value of 40-50% and have a liquidity facility to pay
interest for up to 18 months.
o $85.9 million, with $1.2 million in accrued interest, are Equipment
Trust Certificate (ETC) bonds that originally had a loan-to-value of
75-80%.
o $22.0 million, with no accrued interest, is equity in leveraged
leases of aircraft.
With the bankruptcy filing, US Airways has the right to affirm or reject the
leases on the aircraft that underlie these investments. For tranches other than
the guaranteed EETCs, to the extent that (1) US Airways rejects the leases and
(2) the aircraft are worth less than our loan balance, we will suffer a loss. We
do not yet know if US Airways intends to reject the leases underlying our bonds.
26
JOHN HANCOCK LIFE INSURANCE COMPANY
ITEM 2. MANAGEMENT'S DISCUSSION and ANALYSIS of FINANCIAL CONDITION and RESULTS
of OPERATIONS
Management's Discussion and Analysis of Financial Condition and Results of
Operations (MD&A) addresses the financial condition of John Hancock Life
Insurance Company (John Hancock or the Company) as of June 30, 2002, compared
with December 31, 2001, and its consolidated results of operations for the three
and six month periods ended June 30, 2002 and June 30, 2001, and, where
appropriate, factors that may affect future financial performance. This
discussion should be read in conjunction with the Company's MD&A and annual
audited financial statements as of December 31, 2001 included in the Company's
Form 10-K for the year ended December 31, 2001 filed with the Securities and
Exchange Commission (hereafter referred to as the Company's 2001 Form 10-K) and
unaudited consolidated financial statements and related notes included elsewhere
in this Form 10-Q. All of the Company's United States Securities and Exchange
Commission filings are available on the internet at www.sec.gov, under the name
Hancock John Life.
Statements, analyses, and other information contained in this report
relating to trends in the Company's operations and financial results, the
markets for the Company's products, the future development of the Company's
business, and the contingencies and uncertainties to which the Company may be
subject, as well as other statements including words such as "anticipate,"
"believe," "plan," "estimate," "intend," "will," "should," "may," and other
similar expressions, are "forward-looking statements" under the Private
Securities Litigation Reform Act of 1995. Such statements are made based upon
management's current expectations and beliefs concerning future events and their
potential effects on the Company. Future events and their effect on the Company
may not be these anticipated by management. The Company's actual results may
differ materially from the results anticipated in these forward-looking
statements. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations - Forward-Looking Statements" included herein for a
discussion of factors that could cause or contribute to such material
differences.
Critical Accounting Policies
General
We have identified the policies below as critical to our business
operations and understanding our results of operations. For a detailed
discussion of the application of these and other accounting policies, see Note 1
- -- Summary of Significant Accounting Policies in the notes to consolidated
financial statements of the Company's 2001 Form 10-K. Note that the application
of these accounting policies in the preparation of this report requires
management to use judgments involving assumptions and estimates concerning
future results or other developments including the likelihood, timing or amount
of one or more future transactions or events. There can be no assurance that
actual results will not differ from those estimates. These judgments are
reviewed frequently by senior management, and an understanding of them may
enhance the reader's understanding of the Company's financial statements.
Amortization of Deferred Policy Acquisition Costs
Costs that vary with, and are related primarily to, the production of new
business have been deferred to the extent that they are deemed recoverable. Such
costs include commissions, certain costs of policy issue and underwriting, and
certain agency expenses. The Company tests the recoverability of its deferred
policy acquisition costs quarterly with a model that uses data such as market
performance, lapse rates and expense levels. We amortize our deferred
acquisition costs on term life and long-term care insurance ratably with
premiums. We amortize our deferred policy acquisition costs on our annuity
products and retail life insurance, other than term, based on a percentage of
the estimated gross profits over the life of the policies, which are generally
twenty years for annuities and thirty years for life policies. Our estimated
gross profits are computed based on assumptions related to the underlying
policies including mortality, lapse, expenses, and asset growth rates. We
amortize deferred policy acquisition costs such that the percentage of gross
profits to the amount of deferred policy acquisition costs amortized is constant
over the life of the policies.
Estimated gross profits, including net realized investment and other gains
(losses), are adjusted periodically to take into consideration the actual
experience to date and changes in the remaining gross profits. When estimated
gross profits are adjusted, we also adjust the amortization of deferred
acquisition policy costs to maintain a constant amortization percentage over the
life of the policies. Our current estimated gross profits include certain
judgments
27
JOHN HANCOCK LIFE INSURANCE COMPANY
concerning mortality, lapse and asset growth that are based on a combination of
actual Company experience and historical market experience of equity and fixed
income returns. Short-term variances of actual results from the judgments made
by management can impact quarter to quarter earnings.
Recently, equity market declines have raised the issue of recoverability
of deferred policy acquisition costs related to variable annuity products. Our
current variable annuity deferred policy acquisition costs balance of $372.2
million is only 9.4% of our total deferred policy acquisition costs asset.
Approximately 35% of our variable annuity product assets are invested in fixed
income accounts, which insulate account values from declines in the equity
markets. For example, in the second quarter of 2002, the Standard & Poor's Index
was down 13%, while our variable annuity products assets were down 8.3%. As a
result of these facts and our quarterly recoverability testing, all of the
Company's deferred policy acquisition costs were deemed recoverable at June 30,
2002. In our modeling, one scenario involved additional declines of 10% in the
equity markets in each of the two subsequent quarters to June 30, 2002. We
capped expected future returns in the mid-teen level. These facts resulted in a
one-time write off of deferred policy acquisition costs by the fourth quarter of
2002 of approximately $14 million, after tax. In addition amortization of
deferred policy acquisitions costs would increase by approximately $3 to $4
million, after tax, per quarter.
Benefits to Policyholders
Reserves for future policy benefits are calculated using management's
judgments of mortality, morbidity, lapse, investment experience and expense
levels that are based primarily on the Company's past experience and are
therefore reflective of the Company's proven underwriting and investing
experience. Once these assumptions are made for a given policy or group of
policies, they will not be changed over the life of the policy unless the
Company recognizes a loss on the entire line of business. The Company
periodically reviews its policies for loss recognition and based on management's
judgment the Company from time to time may recognize a loss on certain lines of
business. Short-term variances of actual results from the judgments made by
management are reflected in current period earnings and can impact quarter to
quarter earnings.
Investment in Debt and Equity Securities
Impairments on our investment portfolio are recorded as a charge to income
in the period when the impairment is judged by management to occur. See the
discussion of Credit Risk in the Quantitative and Qualitative Information About
Market Risk section of this document for a more detailed discussion of the
judgments involved in determining impairments.
Certain of our fixed income securities classified as held-to-maturity and
available-for-sale are not publicly traded, and quoted market prices are not
available from brokers or investment bankers on these securities. The change in
the fair value of the available-for-sale securities is recorded in other
comprehensive income as an unrealized gain or loss. We calculate the fair value
of these securities ourselves through the use of pricing models and discounted
cash flows calling for a substantial level of management's judgment. Our
approach is based on currently available information, and we believe it to be
appropriate and fundamentally sound. However, different pricing models or
assumptions or changes in relevant current information could produce different
valuation results. The Company's pricing model takes into account a number of
factors including credit quality, country of issue, market sector and average
investment life, and our pricing analysts take appropriate action to reduce
valuation of securities where an event occurs which negatively impacts the
securities' value. Certain events that could impact the valuation of securities
include issuer credit ratings, business climate, management changes, litigation
and government actions, among others. See "Management's Discussion and Analysis
of Financial Condition and Analysis of Financial Condition and Results of
Operations - General Account Investments" section of this document for a more
detailed discussion of this process and the judgments used therein.
Benefit Plans
The Company annually reviews its pension and other employee benefit plan
assumptions concerning the discount rate, the long-term growth rate on plan
assets and the expected rate of compensation increase. The discount rate is
generally set as an average of the prior year's discount rate and current year
December daily average of long-
28
JOHN HANCOCK LIFE INSURANCE COMPANY
term corporate bond yields, as published by Moody's Investor Services less a 5%
allowance for expenses and default. The long-term rate on plan assets reflects
the long-term rate expected to be earned based on the investment policy and the
various classes of the invested funds. The compensation rate increase is the
average of the expected rates of compensation increase, which are based on
current and expected long-term salary and compensation policy. In 2001, we
changed the method of recognizing deferred gains and losses considered in the
calculation of the annual expense from a deferral within a 10% corridor and
amortization of gains outside this corridor over the future working careers of
the participants to a deferral within 5% corridor and amortization of gains and
losses outside this corridor over the future working careers of the
participants. The new method is preferable because, in our situation, it
produces results that respond more quickly to the changes in the market value of
the plan's assets while providing some measure to mitigate the impact of extreme
short term swings in those market values, Since the plan assets had net
unamortized gains at the time of this change, pension expense will be lower in
the short term and therefore higher in the long term as a result of this change,
assuming that the plan's assets do not change in value and that all other
assumptions made by management remain the same. Any variation of actual results
from management's judgments may result in future earnings being materially
different than anticipated.
Income Taxes
We establish reserves for possible penalty and interest payments to
various taxing authorities with respect to the admissibility and timing of tax
deductions. Management makes judgments concerning the eventual outcome of these
items and reviews those judgments on an ongoing basis.
Reinsurance
We reinsure portions of the risks we assume for our protection products.
The maximum amount of individual ordinary life insurance retained by us on any
life is $10 million under an individual policy and $20 million under a
second-to-die policy. As of January 1, 2001, we established additional
reinsurance programs, which limit our exposure to fluctuations in life claims
for individuals for whom the net amount at risk is $3 million or more. As of
January 1, 2001, the Company entered into an agreement with two reinsurers
covering 50% of its closed block business. The treaties are structured so they
will not affect policyholder dividends or any other financial items reported
within the closed block, which was established at the time of the Life Company's
demutualization to protect the reasonable dividend expectations of certain
participating life insurance policyholders.
The Company enters into reinsurance agreements to specifically address
insurance exposure to multiple life insurance claims as a result of a
catastrophic event. The Company's catastrophic reinsurance coverage expired on
December 31, 2001 for its individual life insurance products and on June 30,
2002 for its group life insurance products. The Company is in the process of
putting in place replacement catastrophic reinsurance covering both individual
and group policies written by itself and all of its U.S. life insurance
subsidiaries. The deductible for individual and group coverages combined is $25
million per occurrence and the limit of coverage is $40 million per occurrence.
Both the deductible and the limit apply to the combined U.S. insurance
companies. The Company has supplemented this coverage by reinsuring all of its
accidental death exposures in excess of $100,000 per life under its group life
insurance coverages, and 50% of such exposures below $100,000. Should
catastrophic reinsurance become unavailable to the Company in the future, the
absence of, or further limitations on, reinsurance coverage, could adversely
affect the Company's future net income and financial position.
By entering into reinsurance agreements with a diverse group of highly
rated reinsurers, we seek to control our exposure to losses. Our reinsurance,
however, does not discharge our legal obligations to pay policy claims on the
policies reinsured. As a result, we enter into reinsurance agreements only with
highly rated reinsurers. Nevertheless, there can be no assurance that all our
reinsurers will pay the claims we make against them. Failure of a reinsurer to
pay a claim could adversely affect our business, financial condition or results
of operations.
Economic Trends
The sales and other financial results of our retail business over the last
several years have been affected by general economic and industry trends. The
appreciation of equity markets in the 1990's resulted in variable products,
including variable life insurance and variable annuities, accounting for the
majority of increases in total premiums and deposits for the insurance industry.
This trend reversed in 2001 and 2002 due to declines in equity market
performance, and we have seen investors return to stable investment products. We
believe our diverse distribution network and product offerings will assist in
the maintenance of assets and provide for sales growth. Although sales of
traditional life insurance products and, more recently, variable annuity
products have experienced declines, sales of fixed annuity products, single life
insurance, universal life insurance, and term life insurance and corporate life
insurance have increased. With respect to our long-term care insurance products,
premiums have
29
JOHN HANCOCK LIFE INSURANCE COMPANY
increased due to the aging of the population and the expected inability of
government entitlement programs to meet retirement needs.
Premiums and deposits of our individual annuity products increased 83.9%
to $868.4 million and 85.5% to $1,794.0 million for the three and six month
periods ended June 30, 2002 from the comparable prior year period, respectively.
Our variable life insurance product deposits for the three and six month periods
ended June 30, 2002 decreased 13.8% to $246.4 million and 2.3% to $533.8 million
from the comparable prior year periods, respectively, primarily from reduced in
the estate protection products, partially offset by growth in sales of single
life and term life insurance. Premiums on our long-term care insurance increased
19.2%, to $118.3 million and 44.1% to $219.1 million for the three and six
months ended June 30, 2002 from the comparable prior year periods, respectively,
driven by renewal premiums in the individual long term care insurance business.
Primarily due to the declining equity markets, mutual fund deposits and
reinvestments decreased $594.9 million, or 38.9%, to $1,529.7 million for the
three months ended June 30, 2002 and decreased $1,212.7 million, or 40.0%, to
$3,029.5 million for the six months ended June 30, 2002. In addition, the sale
of the full service retirement plan business during 2001 contributed to the
decrease in deposits in the current period. There were $89.6 million and $322.1
million in deposits for the three and six month periods ended June 30, 2001,
respectively, in the full service retirement plan business. In addition,
redemptions decreased $481.1 million, or 28.3%, to $1,219.2 million and $532.9
million, or 18.3%, to $2,906.3 million for the three and six month periods ended
June 30, 2002, due to conservation initiatives. We have reduced operating
expenses to protect profit margins as we work to stabilize and grow assets under
management in the mutual fund business. However, our mutual fund operations are
impacted by general market trends, and a continued downturn in the mutual fund
market may negatively affect our future operating results.
Recent economic and industry trends also have affected the sales and
financial results of our institutional business. Sales of fund-type products
decreased $671.2 million, or 43.7%, to $863.3 million and $339.7 million, or
12.5%, to $2,373.5 million for the three and six months ended June 30, 2002 from
the comparable prior year period, respectively. The decrease was driven by
decreasing demand for GICs and funding agreements. Premiums from single premium
annuity contracts decreased to $6.1 million and $9.3 million for the three and
six months ended June 30, 2002, respectively, from $8.3 million and $30.9
million from the comparable prior year period, respectively, as a result of
lower single premium annuity sales. Our investment management services provided
to domestic and international institutions include services and products such as
investment advisory client portfolios, individually managed and pooled separate
accounts, registered investment company funds, bond and mortgage
securitizations, collateralized bond obligation funds and mutual fund management
capabilities. Assets under management of our Investment Management Segment
decreased to $27,627.5 million for the six months ended June 30, 2002 from
$29,571.1 million for the comparable prior year period end, primarily due to
market depreciation.
Transaction Affecting Comparability of Results of Operations
On April 2, 2001, a subsidiary of the Company, Signature Fruit Company,
LLC (Signature Fruit), purchased certain assets and assumed certain liabilities
out of bankruptcy proceedings of Tri Valley Growers, Inc., a cooperative
association, for approximately $53.0 million. The acquisition was recorded under
the purchase method of accounting and, accordingly, the operating results have
been included in the Company's consolidated results of operations from the
applicable date of acquisition. The purchase price was allocated to the assets
acquired and the liabilities assumed based on estimated fair values. The
unaudited pro forma revenues, for the six month period ended June 30, 2001,
assuming the transaction had taken place at the beginning of the year of
acquisition, were approximately $3,425.6 million, a change of $53.3 million from
reported balances. The unaudited pro forma net income for the six month period
ended June 30, 2001 was approximately $329.3 million, a change of $(1.2) million
from reported balances. The net loss related to the acquired operations included
in the Company's results for the three and six month periods ended June 30, 2002
were $2.1 million and $1.2 million, respectively.
30
JOHN HANCOCK LIFE INSURANCE COMPANY
Results of Operations
The table below presents the consolidated results of operations for the
periods presented.
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
------------------------------------------------------------
(in millions)
Revenues...................................................... $ 1,598.3 $ 1,728.0 $ 3,203.5 $ 3,372.3
Benefits and expenses......................................... 1,472.4 1,471.6 2,897.3 2,914.1
----------------------------- -----------------------------
Income before income taxes and cumulative effect of
accounting changes...................................... 125.9 256.4 306.2 458.2
Income taxes.................................................. 24.3 74.4 72.8 134.9
----------------------------- -----------------------------
Income before cumulative effect of
accounting changes...................................... 101.6 182.0 233.4 323.3
Cumulative effect of accounting changes, net of tax (1)....... -- -- -- 7.2
----------------------------- -----------------------------
Net income.................................................... $ 101.6 $ 182.0 $ 233.4 $ 330.5
============================= =============================
(1) Cumulative effect of accounting changes is shown net of taxes of $4.2
million for the three and six month periods ended June 30, 2001,
respectively. There was no cumulative effect of accounting change for the
three and six month periods ended June 30, 2002.
Three Months Ended June 30, 2002 Compared to Three Months Ended June 30, 2001
The following discussion reflects adjustments to the prior year results
for the adoption of Statement of Position (SOP) 00-3, "Accounting by Insurance
Enterprises for Demutualizations and Formation of Mutual Holding Companies and
Certain Long-Duration Participating Contracts" for all periods presented. In
addition, in the fourth quarter of 2001 the Company transferred its remaining
ownership interest in both John Hancock Canadian Holdings Limited and certain
other international subsidiaries, with a total carrying value of $300.1 million
at December 31, 2001, to its parent, JHFS, in the form of a dividend. The
transfer has been accounted for as a transfer of entities under common control.
As a result of the transfer of entities under common control, all current and
prior period consolidated financial data has been restated to exclude the
results of operations, financial position, and cash flows of these transferred
foreign subsidiaries from the Company's financial statements. No gain or loss
was recognized on the transfer transaction. Consolidated pre-tax income
decreased $130.5 million, or 50.9%, from the prior year period. The decrease
consolidated in pre-tax income was recognized by segment as follows: Guaranteed
and Structured Financial Products Segment (G&SFP) decreased $58.6 million,
Corporate and Other decreased $56.6 million, Protection Segment decreased $23.5
million, Asset Gathering Segment increased $3.6 million, and Investment
Management Segment increased $4.6 million.
Consolidated pre-tax income decreased primarily due to an increase in net
realized investment and other losses of $112.8 million and a $30.0 million
reserve recorded for the settlement of the "Modal Premium" class action lawsuit.
See Note 4 - Committments and Other Matters in the notes to the unaudited
consolidated financial statements. The Company recognized $125.4 million in net
realized investment and other losses in the three months ended June 30, 2002,
compared to $12.6 million in net realized investment and other losses in the
prior year. The net realized investment and other losses in 2002 were driven by
losses recognized on other than temporary declines in value and sales of fixed
maturity securities of $218.4 million primarily NRG Energy, Enron, WorldCom,
High Voltage Engineering and a number of other investments. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations -
General Account Investments" In addition, the Company wrote down equity
securities totaling $10.4 million. These losses were partially offset by gains
on equity investments of $85.0 million and mortgage loans of $19.4 million. The
second driver of the decrease in pre-tax consolidated income was the
31
JOHN HANCOCK LIFE INSURANCE COMPANY
$30.0 million reserve recorded for the settlement of the "Modal Premium" class
action lawsuit. See Note 3 - Commitments and Other Matters in the notes to the
unaudited consolidated financial statements. The reserve was recorded to provide
relief to class members and for legal and administrative costs associated with
the settlement.
Revenues decreased $129.7 million, or 7.5%, from the prior year. The
decrease in revenues was driven by the previously discussed $112.8 million
increase in net realized investment and other losses driven by the write downs
of fixed maturity investments. Net investment income decreased $25.1 million
primarily due to decreases in the G&SFP Segment where approximately 43% of the
asset portfolio is invested in floating rate investments, made to match floating
rate liabilities, are contributing to lower net investment income. Approximately
$12 billion, or 23%, of total Company average invested assets are invested in
floating rate investments. Average invested assets were $51,922.3 million at
June 30, 2002. Investment management revenues, commissions and other fees
decreased $15.2 million, or 10.0%, from the prior year, driven by a 4.1%
decrease in third party advisory assets under management. The $7.6 million
decrease in other revenue is driven by lower revenue in Signature Fruit, where
price and volume decreases drove sales down. Premiums increased $28.3 million
from the prior year due to increases in the Protection Segment where traditional
life insurance business increased $21.2 million on single and whole life
products. In addition, universal life and investment type product charges
increased $2.7 million from the prior year, primarily due to growth in the
average variable life insurance account balance of 3.5%.
Benefits and expenses of increased $0.8 million from the prior year. The
stable balance of benefits and expenses is primarily due to reinsurance
arrangements with affiliates in the G&SFP Segment and the Protection Segment
which lowers increases in reserve balances in the structured settlement business
in G&SFP and the long term care insurance in the Protection Segment.
Accordingly, benefits to policyholders increased $11.9 million, or 1.2%, from
the prior year, primarily driven by the Protection Segment due to the $30.0
million charge related to a class action lawsuit settlement. Operating costs and
expenses decreased $26.9 million primarily due to a decrease in operating
expenses of $18.8 million driven by cost containment measures in the mutual
funds business where operating expenses decreased $12.4 million. Operating
expenses also decreased $8.4 million in Signature Fruit due to lower sales
volume and competitive positioning of the entity. In addition, deferrals of
policy acquisition costs increased by $26.2 million primarily due to increased
sales offset by a $18.1 million increase in commissions. Amortization of
deferred policy acquisition costs increased $11.8 million primarily due to the
annuity business, both fixed and variable. The increased amortization in the
annuity business was driven by increased credit losses incurred in the
businesses and sales growth. Dividends to policyholders increased $4.0 million,
or 2.9%, from the prior year primarily due to normal growth on traditional life
insurance products where average reserves have grown 3.4% from the prior year.
Six Months Ended June 30, 2002 Compared to Six Months Ended June 30, 2001
The following discussion reflects the adoption of Statement of Position
(SOP) 00-3, "Accounting by Insurance Enterprises for Demutualizations and
Formation of Mutual Insurance Holding Companies and Certain Long-Duration
Participating Contracts" for all periods presented. In addition, in the fourth
quarter of 2001 the Company transferred its remaining ownership interest in both
John Hancock Canadian Holdings Limited and certain other international
subsidiaries, with a total carrying value of $300.1 million at December 31,
2001, to its parent, JHFS, in the form of a dividend. The transfer has been
accounted for as a transfer of entities under common control . As a result of
the transfer of entities under common control, all current and prior period
consolidated financial data has been restated to exclude the results of
operations, financial position, and cash flows of these transferred foreign
subsidiaries from the Company's financial statements. No gain or loss was
recognized on the transfer transaction. Consolidated pre-tax income decreased
$152.0 million, or 33.2%, from the prior year period. The decrease consolidated
in pre-tax income was recognized by segment as follows: Guaranteed and
Structured Financial Products Segment (G&SFP) decreased $57.9 million, Corporate
and Other decreased $57.2 million, Protection Segment decreased $44.0 million,
the Asset Gathering Segment increased $3.0 million, and the Investment
Management Segment increased $4.1 million.
Consolidated pre-tax income decreased primarily due to a increase in net
realized investment and other losses of $173.9 million and a $30.0 million
reserve recorded for the settlement of the "Modal Premium" class action lawsuit.
See Note 4 - Committments and Other Matters in the notes to the unaudited
consolidated financial statements. The Company recognized $211.5 million in net
realized investment and other losses in the six months ended June 30, 2002,
compared to $37.6 million in net realized investment and other losses in the
prior year. The net realized investment and other losses in 2002 were driven by
losses recognized on other than temporary declines in value and sales of fixed
maturity securities of $265.2 million, primarily NGR Energy, Enron, WorldCom,
High Voltage Engineering, and a number of other investments. See "Management's
Discussion and Analysis of
32
JOHN HANCOCK LIFE INSURANCE COMPANY
Financial Condition and Results of Operations - General Account Investments" In
addition, the Company wrote down equity securities totaling $10.4 million for
the six month period ended June 30, 2002. These losses were partially offset by
gains on sales of equity investments of $94.4 million and mortgage loans of
$12.3 million for the six month period ended June 30, 2001. The second driver of
the decrease in pre-tax consolidated income, as previously noted, was the $30.0
million reserve recorded for the settlement of the "Modal Premium" class action
lawsuit. The reserve was recorded to provide relief to class members and for
legal and administrative costs associated with the settlement.
Revenues decreased $168.8 million, or 5.0%, from the prior year. The
decrease in revenues was driven by the previously discussed $173.9 million
increase in net realized investment and other losses driven by the write downs
of fixed maturity investments. In addition, net investment income decreased
$55.4 million primarily due to decreases in the G&SFP Segment where
approximately 43% of the asset portfolio are invested in floating rate
investments, made to match floating rate liabilities, are contributing to lower
net investment income. Approximately $12 billion, or 23%, of total Company
average invested assets are invested in floating rate investments. Average
invested assets were $51,628.7 million at June 30, 2002. Investment management
revenues, commission and other fees decreased $26.0 million, or 8.5%, from the
prior year, driven by an 8.2% decrease in third party advisory assets under
management. Universal life and investment type product charges increased $2.9
million, driven by an increase of $11.9 million in the Protection Segment due to
variable life insurance product fee income. The increases in Protection Segment
fees generated were offset by a decrease in both the fixed and variable annuity
businesses. The $60.9 million increase in other revenue is driven by revenues in
Signature Fruit, which began operations on April 1, 2001. Premiums increased by
$22.7 million driven by the Protection Segment primarily due to transactions
with affiliates involving corporate owned life insurance and growth in the
traditional life insurance product line.
Benefits and expenses of decreased $16.8 million, or 0.6%, from the prior
year. The decrease is driven by a decrease in benefits to policyholders of $37.4
million which includes a $153.0 million decrease in benefits to policyholders in
the G&SFP Segment due to lower annuity reserves reflecting lower sales of
annuity contracts and lower interest credited. Benefits to policyholders in the
Protection Segment increased $123.9 million from the prior year primarily due to
a $30.0 million charge related to a class action lawsuit settlement and an
increase in benefits to policyholders of $69.2 million in the long term care
insurance business due to growth in the business on lower lapses and higher
sales. Operating costs and expenses increased $13.9 million primarily due to an
increase in operating expenses of $59.6 million in Signature Fruit whose
operations were commenced on April 1, 2001, offsetting this was a decrease of
$35.4 million in the in the mutual funds business. Amortization of deferred
policy acquisition costs decreased $4.5 million primarily due to a $18.3 million
decrease in the traditional life insurance due to lower margins on the declining
business in the first quarter 2002. Amortization increased by $13.3 million in
the annuity business due to increased credit losses incurred in the businesses
as well as sales growth. Dividends to policyholders increased $11.2 million, or
4.1%, from the prior year primarily due to normal growth on traditional life
insurance products where average reserves have grown 4.4% from the prior year.
33
JOHN HANCOCK LIFE INSURANCE COMPANY
Results of Operations by Segment
We operate our business in five segments. Two segments primarily serve
retail customers, two segments serve institutional customers and our fifth
segment is the Corporate and Other Segment, which includes our international
operations. Our retail segments are the Protection Segment and the Asset
Gathering Segment. Our institutional segments are the Guaranteed and Structured
Financial Products Segment and the Investment Management Segment.
We evaluate segment performance and base management's incentives on
segment after-tax operating income, which excludes the effect of net realized
investment and other gains and losses and other unusual or non-recurring events
and transactions. Segment after-tax operating income is determined by adjusting
GAAP net income for net realized investment and other gains and losses,
extraordinary items, and certain other items, which we believe are not
indicative of overall operating trends. While these items may be significant
components in understanding and assessing our consolidated financial
performance, we believe that the presentation of segment after-tax operating
income enhances the understanding of our results of operations by highlighting
net income attributable to the normal, recurring operations of the business.
However, segment after-tax operating income is not a substitute for net income
determined in accordance with GAAP.
A discussion of the adjustments to GAAP reported income, many of which
affect each operating segment, follows the table below. A reconciliation of
segment after-tax operating income, as adjusted, to GAAP reported net income
precedes each segment discussion.
Three Months Ended Six Months Ended,
June 30, June 30,
2002 2001 2002 2001
------------------------------------------------------------
(in millions)
Segment Data: (1)
Segment after-tax operating income:
Protection Segment........................................ $ 78.7 $ 76.8 $ 149.5 $ 145.1
Asset Gathering Segment................................... 40.6 37.4 80.6 68.9
------------------------------- ----------------------------
Total Retail Segments................................... 119.3 114.2 230.1 214.0
Guaranteed and Structured Financial Products
Segment................................................. 72.1 58.9 136.2 117.3
Investment Management Segment............................. 7.4 4.6 12.3 10.0
------------------------------- ----------------------------
Total Institutional Segments............................ 79.5 63.5 148.5 127.3
Corporate and Other Segment............................... 5.2 17.9 14.7 25.7
------------------------------- ----------------------------
Total segment after-tax operating income................ 204.0 195.6 393.3 367.0
After-tax adjustments: (1)
Net realized investment and other gains (losses).......... (82.1) (9.3) (136.0) (24.4)
Class action lawsuit...................................... (19.5) -- (19.5) --
Restructuring charges..................................... (0.8) (4.3) (4.4) (19.3)
------------------------------- ----------------------------
Total after-tax adjustments............................. (102.4) (13.6) (159.9) (43.7)
GAAP Reported:
Income before cumulative effect of accounting
changes................................................ 101.6 182.0 233.4 323.3
Cumulative effect of accounting changes, net of tax....... -- -- -- 7.2
------------------------------- ----------------------------
Net income................................................ $ 101.6 $ 182.0 $ 233.4 $ 330.5
=============================== ============================
(1) See "Adjustments to GAAP Reported Net Income" set forth below.
Adjustments to GAAP Reported Net Income
Our GAAP reported net income was significantly affected by net realized
investment and other gains and losses and unusual or non-recurring events and
transactions presented in the reconciliation of GAAP reported net income to
34
JOHN HANCOCK LIFE INSURANCE COMPANY
segment after-tax operating income in Note 3 -- Segment Information in the notes
to the unaudited consolidated financial statements. A description of these
adjustments follows.
In both periods, net realized investment and other gains (losses), except
for gains (losses) from mortgage securitizations have been excluded from segment
after-tax operating income because such data are often excluded by analysts and
investors when evaluating the overall financial performance of insurers. Net
realized investment and other gains (losses) from mortgage securitizations are
not excluded from segment after-tax operating income because we view the related
gains (losses) as in integral part of the core business of those operations.
Net realized investment and other gains (losses) have been reduced by: (1)
amortization of deferred policy acquisition costs to the extent that such
amortization results from net realized investment and other gains (losses) (2)
the portion of net realized investment and other gains (losses) credited to
participating pension contractholder accounts and (3) the portion of the net
realized investment and other gains (losses) credited to the policyholder
dividend obligation. We believe presenting net realized investment and other
gains (losses) in this format provide information useful in evaluating our
operating performance. This presentation may not be comparable to presentations
made by other insurers. Summarized below is a reconciliation of (a) net realized
investment and other gains (losses) per the unaudited consolidated financial
statements and (b) the adjustment made for net realized investment and other
gains (losses) to calculate segment after-tax operating income for the periods
indicated.
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
-----------------------------------------------------
(in millions)
Net realized investment and other gains (losses) ....................... $(138.0) $(25.6) $(246.4) $(47.2)
Add amortization of deferred policy acquisition costs related to net
realized investment and other gains (losses) ..................... 8.9 0.8 24.4 1.3
Add (less) amounts credited to participating pension contractholder
accounts ......................................................... 7.5 1.4 7.9 (0.9)
Add (less) amounts credited to policyholder dividend obligation ........ (3.8) 10.8 2.6 9.2
-----------------------------------------------------
Net realized investment and other gains (losses), net of related
amortization of deferred policy acquisition costs and amounts
credited to participating pension contractholders
per unaudited consolidated financial statements .................. (125.4) (12.6) (211.5) (37.6)
Add net realized investment and other gains (losses)
attributable to mortgage securitizations ......................... (1.8) 0.1 (1.0) (2.5)
-----------------------------------------------------
Net realized investment and other gains (losses) net - pre-tax
adjustment to calculate segment operating income ................. (127.2) (12.5) (212.5) (40.1)
Less income tax effect ................................................. 45.1 3.2 76.5 15.7
-----------------------------------------------------
Net realized investment and other gains (losses) - after-tax
adjustment to calculate segment operating income ................. $ (82.1) $ (9.3) $(136.0) $(24.4)
=====================================================
The Company incurred after-tax restructuring charges to reduce costs and
increase future operating efficiency by consolidating portions of our
operations. Additional information regarding restructuring costs is included in
Note 1 -- Summary of Significant Accounting Policies in the notes to the
unaudited consolidated financial statements. After-tax restructuring costs net
of related curtailment pension and other post employment benefit related gains,
were $0.8 million and $4.3 million for the three month periods ended June 30,
2002 and 2001, respectively, and $4.4 million and $19.3 million for the six
month periods ended June 30, 2002 and 2001, respectively. The six month period
ended June 30, 2001 included $9.0 million of restructuring charges related to
the sale of our full service retirement plan business. There were no such
charges for the three month period ended June 30, 2001.
The Company incurred a $19.5 million after-tax charge related to the
settlement of the Modal Premium class action lawsuit. The settlement agreement
involves policyholders who paid premiums on a monthly, quarterly, or semi-annual
basis rather than annually. The settlement costs are intended to provide for
relief to class members and for legal and administrative costs associated with
the settlement. In entering into the settlement, the Company specifically denied
any wrongdoing. Although some uncertainty remains as to the entire cost of
claims, it is expected that the final cost of the settlement will not differ
materially from the amounts presently provided by the Company.
35
JOHN HANCOCK LIFE INSURANCE COMPANY
Protection Segment
The following table presents certain summary financial data relating to
the Protection Segment for the periods indicated.
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
-----------------------------------------------------
(in millions)
Revenues ..................................................... $ 799.5 $ 738.1 $ 1,582.1 $ 1,468.3
Benefits and expenses (2) .................................... 675.5 622.6 1,351.2 1,247.6
Income taxes (2) ............................................. 45.3 38.7 81.4 75.6
----------------------- ---------------------------
Segment after-tax operating income (1) ....................... 78.7 76.8 149.5 145.1
----------------------- ---------------------------
After-tax adjustments: (1)
Net realized investment and other gains (losses) (2) ... (18.4) (15.2) (36.9) (20.7)
Restructuring charges .................................. (0.9) (1.6) (4.1) (2.8)
Class action lawsuit ................................... (18.7) -- (18.7) --
----------------------- ---------------------------
Total after-tax adjustments .................................. (38.0) (16.8) (59.7) (23.5)
----------------------- ---------------------------
GAAP Reported:
Income before cumulative effect of accounting changes ........ 40.7 60.0 89.8 121.6
Cumulative effect of accounting changes, net of tax .......... -- -- -- 11.7
----------------------- ---------------------------
Net income ................................................... $ 40.7 $ 60.0 $ 89.8 $ 133.3
======================= ===========================
Other Data:
Segment after-tax operating income: (1)
Non-traditional life (variable and universal life) ..... $ 30.6 $ 30.8 $ 57.3 $ 61.9
Traditional life ....................................... 27.6 29.8 57.0 55.6
Long-term care ......................................... 22.1 15.6 37.1 29.0
Other .................................................. (1.6) 0.6 (1.9) (1.4)
----------------------- ---------------------------
Segment after-tax operating income: (1) ...................... $ 78.7 $ 76.8 $ 149.5 $ 145.1
======================= ===========================
(1) See "Adjustments to GAAP Reported Net Income" included in this MD&A.
(2) Certain 2001 amounts were adjusted for the adoption of the provisions of
SOP 00-3, "Accounting by Insurance Enterprises for Demutualization and
Formations of Mutual Insurance Holding Companies and Certain Long-Duration
Participating Contracts" as outlined in Note 1 -- Summary of Significant
Accounting Principles in the notes to the unaudited consolidated financial
statements.
Three Months Ended June 30, 2002 Compared to Three Months Ended June 30, 2001
Segment after-tax operating income was $78.7 million for the three months
ended June 30, 2002, an increase of $1.9 million, or 2.5%, from $76.8 million
for the three months ended June 30, 2001. Traditional life insurance business
after-tax operating income decreased $2.2 million, or 7.4%, primarily resulting
from the run-off of the closed block of $2.0 million and increases in operating
costs and expenses of $5.7 million offset by lower deferred policy acquisition
cost amortization of $4.5 million. Non-traditional life insurance business
after-tax operating income decreased $0.2 million, or 0.6%, primarily due to
higher benefits to policyholders of $20.5 million, resulting from growth in the
in-force partially offset by higher investment income of $9.8 million and lower
operating costs and expenses of $7.9 million; the prior period also included
lower than usual mortality. Long-term care insurance business after-tax
operating income increased $6.5 million, or 41.6%, resulting from lower
operating costs and expenses of $ 4.2 million and growth of the business.
36
JOHN HANCOCK LIFE INSURANCE COMPANY
Revenues were $799.5 million for the three months ended June 30, 2002, an
increase of $61.4 million, or 8.3%, from $738.1 million for the three months
ended June 30, 2001. Premiums increased $40.3 million, or 12.4%, primarily due
to the traditional life insurance and long-term care insurance businesses.
Traditional life insurance business premiums increased $21.2 million, or 9.3%,
primarily due to the return of premiums in the prior year period as part of the
resolution of the class action lawsuit which amounted to $16.1 million. This was
offset by a corresponding change in the reserve. Long-term care insurance
business premiums increased $19.1 million, or 19.3%, driven by continued overall
growth in the business. Long-term care policies have increased from 505.5
thousand at June 30, 2001 to 568.2 thousand at June 30, 2002. Universal life and
investment-type product charges consist primarily of cost of insurance fees and
separate account fees and were $107.4 million for the three months ended June
30, 2002, an increase of $5.5 million, or 5.4%, from $101.9 million for the
three months ended June 30, 2001. This increase was due primarily to the
variable life insurance product fee income, which increased $5.3 million, or
6.4%, from the comparable prior period driven primarily by a $3.2 million
increase in cost of insurance fees. Costs of insurance fees were up due to an
8.4% growth of the variable life insurance in-force. The Segment's net
investment income increased $17.0 million, or 5.5%, primarily due to a 9.0%
increase in average account balances, offset by a 25 basis points decrease in
yields.
Benefits and expenses were $675.5 million for the three months ended June
30, 2002, an increase of $52.9 million, or 8.5%, from $622.6 million for the
three months ended June 30, 2001. Benefits to policyholders increased $54.8
million, or 14.7%, due primarily to traditional life insurance and
non-traditional life insurance businesses. The traditional life insurance
business had an increase in benefits to policyholders of $13.5 million primarily
due to the prior period's reversal of benefits as part of the resolution of the
class action lawsuit, which amounted to $19.4 million. The non-traditional life
insurance business had an increase in benefits to policyholders of $20.5
million, or 37.3%, compared to the prior period, which included lower than usual
mortality. The variable life insurance business had an increase in benefits to
policyholders of $14.5 million, which was driven by both the return to normal
mortality levels and the growth in the business. The remaining $6.0 million
increase in benefits to policyholders for the universal life insurance business
was due primarily to an increase in interest credited on higher current year
account balances, driven by an increase in the in-force, particularly from bank
and corporate-owned life insurance sales. Universal life insurance business
average account value increased 23.2% from $2,318.4 million, at June 30, 2001 to
$2,857.2 million at June 30, 2002. Other operating costs and expenses decreased
$8.1 million, or 9.4%, primarily due to a decrease of $7.9 million in operating
costs on non-traditional life insurance business mainly attributable to lower
non-deferrable operating costs and expenses. Amortization of deferred policy
acquisition costs decreased $2.5 million, or 6.6%, related to true-ups on
traditional life insurance business's residual block experience. The prior
quarter included a reduction to the non-traditional life insurance business
amortization of deferred policy acquisition costs of $3.9 million to recognize
the future impact on net income of higher administrative fees. Dividends to
policyholders increased $8.6 million, or 6.9%, primarily due to increased
dividends of $9.2 million on traditional life insurance business within the
closed block, as a result of an increase in the dividend scale and normal aging
of the policies. The Segment's effective tax rate on operating income was 36.5%
and 33.5% for the three months ended June 30, 2002 and 2001, respectively. The
increase was primarily due to decreased deductions for general account dividends
received on common stock and from market fluctuations in corporate-owned life
insurance programs.
Six Months Ended June 30, 2002 Compared to Six Months Ended June 30, 2001
Segment after-tax operating income was $149.5 million for the six months
ended June 30, 2002, an increase of $4.4 million, or 3.1%, from $145.1 million
for the six months ended June 30, 2001. Non-traditional life insurance after-tax
operating income decreased $4.6 million, or 7.4%, primarily due to an increase
in benefits to policyholders of $45.1 million partially offset by higher
universal life and investment type product charges of $11.9 million, higher
investment income of $14.9 million and lower operating costs and expenses of
$13.0 million. Traditional life insurance business after-tax operating income
increased $1.4 million, or 2.5%. Long-term care insurance business after-tax
operating income increased $8.1 million, or 27.9%, as a result of growth in the
business.
Revenues were $1,582.1 million for the six months ended June 30, 2002, an
increase of $113.8 million, or 7.8%, from
37
JOHN HANCOCK LIFE INSURANCE COMPANY
$1,468.3 million for the six months ended June 30, 2001. Premiums increased
$82.6 million, or 13.0%, primarily due to long-term care insurance business
premiums, which increased $67.3 million or 44.1%, driven by continued growth
overall in the business. In addition, the prior period long-term care insurance
business premium was reduced by $43.2 million of reserves transferred to John
Hancock Reassurance Company, Ltd. Long-term care insurance business policies
increased from 505.5 thousand at June 30, 2001 to 568.2 thousand at June 30,
2002. Traditional life insurance business premiums increased $15.3 million, or
3.2%, primarily due to the return of renewal premiums in the prior year period
as part of the resolution of the class action lawsuit of $28.9 million, offset
by a corresponding change in the reserve. Universal life and investment-type
product charges were $215.7 million for the six months ended June 30, 2002, an
increase of $11.9 million, or 5.8%, from $203.8 million for the six months ended
June 30, 2001. This increase was due primarily to the variable life insurance
product fee income, which increased $11.3 million, or 6.8%, from the comparable
period driven primarily by both higher expense charges of $3.5 million, or 9.1%,
and higher cost of insurance charges of $2.2 million, or 2.6%. Costs of
insurance fees were up due to an 8.4% growth of the variable life insurance in
force. Segment net investment income increased $24.1 million, or 3.9%, primarily
due to an 8.5% increase in average asset balances, partially offset by a 34
basis point decrease in yields.
Benefits and expenses were $1,351.2 million for the six months ended June
30, 2002, an increase of $103.6 million, or 8.3%, from $1,247.6 million for the
six months ended June 30, 2001. Benefits to policyholders increased $109.7
million, or 14.7%, due primarily to non-traditional life insurance and long-term
care insurance businesses. The non-traditional life insurance business had in
increase in benefits to policyholders of $45.1 million, or 40.7%. This increase
included $26.9 million increase for the variable life insurance business,
primarily attributable to higher net claims in the first quarter of 2002. The
remaining $18.2 million increase in benefits to policyholders for the universal
life business was due primarily to higher interest credit on higher current year
account balances, driven by an increase in the in-force, particularly from bank
and corporate-owned life insurance sales. Universal life insurance business
average account value increased 23.3% from $2,293.3 million at June 30, 2001 to
$2,826.7 million at June 30, 2002. The long-term care insurance business had an
increase in benefits to policyholders of $68.4 million due to continued growth
in the business. In addition, the prior period includes the transfer of $43.2
million of reserves to John Hancock Reassurance Company, Ltd. Other operating
costs and expenses decreased $13.0, million or 7.6%, primarily due to a decrease
of $13.0 million in operating expenses for non-traditional life insurance
products mainly attributable to lower operating costs and expenses. Amortization
of deferred policy acquisition costs decreased $17.1 million, or 19.4%,
primarily due to a decrease in amortization of deferred acquisition costs in the
traditional life insurance business of $18.3 million, due to lower margins.
Dividends to policyholders increased $24.1 million, or 10.0%, primarily due to
increased dividends of $25.3 million on traditional life insurance business
within the closed block, as a result of an increase in the dividend scale and
normal aging of the policies. The Segment's effective tax rate on operating
income was 35.3% and 34.3% for the six months ended June 30, 2002 and 2001,
respectively. This increase was primarily due to decreased deductions for
general account dividends received on common stock and from market fluctuations
in corporate-owned life insurance programs.
38
JOHN HANCOCK LIFE INSURANCE COMPANY
Asset Gathering Segment
The following table presents certain summary financial data relating to
the Asset Gathering Segment for the periods indicated.
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
-------------------------------------------------
(in millions)
Revenues ................................................. $ 282.6 $ 294.9 $ 558.4 $ 583.8
Benefits and expenses .................................... 223.3 239.4 440.7 481.5
Income taxes ............................................. 18.7 18.1 37.1 33.4
----------------------- -----------------------
Segment after-tax operating income (1) ................... 40.6 37.4 80.6 68.9
----------------------- -----------------------
After-tax adjustments: (1)
Net realized investment and other gains (losses) ... (13.2) (11.2) (28.0) (6.6)
Restructuring charges .............................. (0.5) (1.9) (1.9) (15.1)
----------------------- -----------------------
Total after-tax adjustments .............................. (13.7) (13.1) (29.9) (21.7)
GAAP Reported:
Income before cumulative effect of accounting changes .... 26.9 24.3 50.7 47.2
Cumulative effect of accounting changes, net of tax ...... -- -- -- (0.5)
----------------------- -----------------------
Net income ............................................... $ 26.9 $ 24.3 $ 50.7 $ 46.7
======================= =======================
(1) See "Adjustments to GAAP Reported Net Income" included in this MD&A.
Three Months Ended June 30, 2002 Compared to Three Months Ended June 30, 2001
Segment after-tax operating income was $40.6 million for the three months
ended June 30, 2002, an increase of $3.2 million, or 8.6%, from $37.4 million
reported in the comparable prior year period. Annuity business after-tax
operating income was $23.4 million for the three months ended June 30, 2002, an
increase of $1.9 million, or 8.8%, primarily due to increased net investment
income and lower operating expenses, partially offset by an increase in
amortization of deferred policy acquisition costs. Mutual funds after-tax
operating income increased $0.8 million, or 5.8%, primarily due to operating
expenses that decreased $14.3 million, or 19.4%, from the comparable prior year
period, partially offset by lower management advisory fees that decreased $12.3
million to $81.5 million. Essex, a distribution subsidiary primarily serving the
financial institution channel, after-tax operating income increased $0.5
million, or 71.4%. Signator Investors, the Company's broker-dealer distribution
subsidiary, had after-tax operating income of $0.4 million, an increase of $0.3
million. First Signature Bank after-tax operating income decreased $0.3 million.
Revenues were $282.6 million for the three months ended June 30, 2002, a
decrease of $12.3 million, or 4.2%, from $294.9 million reported for the
comparable prior year period. The decreased revenue was due to lower investment
management revenues of $12.2 million, partially offset by increased net
investment income. Net investment income was $140.5 million for the three months
ended June 30, 2002, an increase of $17.7 million, or 14.4%, from $122.8 million
reported in the comparable prior year period. Net investment income increased
primarily due to increases in invested assets backing fixed annuity products,
partially offset by lower earned yields in the portfolio. Average invested
assets, backing fixed annuity products, increased 27.0% to $7,805.6 million
while the average investment yield decreased 70 basis points. Investment-type
product charges decreased $1.6 million, or 4.9%, due to a decline in the average
variable annuity reserves which decreased $567.4 million, or 8.7%, to $5,963.2
million for the three months ended June 30, 2002 from $6,530.6 million reported
in the comparable prior year period. This decrease in average variable annuity
reserves is due to an $840.0 million decrease primarily driven by market
depreciation. For
39
JOHN HANCOCK LIFE INSURANCE COMPANY
variable annuities, the mortality and expense fees as a percentage of average
account balances were 1.35% and 1.29% for the three months ended June 30, 2002
and 2001, respectively.
Investment management revenues, commissions, and other fees were $106.9
million for the three months ended June 30, 2002, a decrease of $12.2 million,
or 10.2%, from $119.1 million for the comparable prior year period. Average
mutual fund assets under management were $27,505.5 million for the three months
ended June 30, 2002, a decrease of $2,633.8 million, or 8.7%, from $30,139.3
million reported in the comparable prior year period, due to market depreciation
of approximately $2,128.7 million for the three months ended June 30, 2002. The
mutual fund business experienced net redemptions for the three months ended June
30, 2002 of $346.2 million compared to net redemptions of $136.5 million in the
comparable prior year period, a change of $209.7 million. This change was
primarily due to a decrease in deposits of $594.9 million, or 38.9%, driven by
approximately $450 million institutional advisory account deposit in the prior
year period. No large deposits were received for the three months ended June 30,
2002. In addition, the sale of the full service retirement plan business during
2001 contributed to the decrease in deposits in the current period. There was
$89.6 million in deposits for the three months ended June 30, 2001 in the full
service retirement plan business. Investment advisory fees were $40.3 million
for the three months ended June 30, 2002, a decrease of $6.7 million, or 14.3%,
from $47.0 million reported in the comparable prior year period and were 0.59%
and 0.62% of average mutual fund assets under management for the three months
ended June 30, 2002 and 2001, respectively. Underwriting and distribution fees
decreased $2.0 million, or 3.5%, to $55.6 million for the three months ended
June 30, 2002, primarily due to a decrease in front end load charge mutual fund
sales, resulting in a decrease of $1.9 million in fees and accordingly,
commission revenue. The decrease also included a $0.1 million decrease in
distribution and other fees. Shareholder service and other fees were $11.0
million for the three months ended June 30, 2002 compared to $14.7 million
reported in the comparable prior year period.
Benefits and expenses decreased $16.1 million, or 6.7%, to $223.3 million
for the three months ended June 30, 2002 from $239.4 million reported in the
comparable prior year period. Benefits to policyholders decreased $5.8 million,
or 5.1%, primarily due to lower life-contingent immediate fixed annuity reserves
on new business, which contributed $16.1 million to the decrease, partially
offset by a $13.8 million increase in interest credited on retail annuity
account balances due to higher average account balance. Other operating costs
and expenses decreased $25.4 million, or 22.5%, to $87.5 million for the three
months ended June 30, 2002 from $112.9 million reported in the comparable prior
year period. The decrease was primarily due to cost savings in the mutual fund
business as well as company wide cost reduction programs, which drove the
decline in expenses in the other Asset Gathering segment businesses.
Amortization of deferred policy acquisition costs increased $15.1 million, or
110.2%, to $28.8 million for the three months ended June 30, 2002 from $13.7
million reported in the comparable prior year period, driven by higher variable
and fixed annuity amortization of deferred policy acquisition costs, of $8.6
million and $6.5 million, respectively. In our modeling of deferred policy
acquisition cost, one scenario involved additional declines of 10% in the equity
markets in each of the two subsequent quarters to June 30, 2002. We capped
expected future returns in the mid-teen level. These facts would result in a
one-time write off of deferred policy acquisition costs by the fourth quarter of
2002 of approximately $14 million, after tax. In addition amortization of
deferred policy acquisitions costs would increase by approximately $3 to $4
million, after tax, per quarter. The Segment's effective tax rate on operating
income was 31.4% and 32.6% for the three months ended June 30, 2002 and 2001,
respectively.
Six Months Ended June 30, 2002 Compared to Six Months Ended June 30, 2001
Segment after-tax operating income was $80.6 million for the six months
ended June 30, 2002, an increase of $11.7 million, or 17.0%, from $68.9 million
reported in the comparable prior year period. Annuity business after-tax
operating income was $48.3 million for the six months ended June 30, 2002, an
increase of $6.6 million, or 15.8%, primarily due to an increase in net
investment income and lower operating expenses, partially offset by an increase
in amortization of deferred policy acquisition costs. Signature Services
after-tax operating income increased $2.6 million, or 371.4%, driven by an
increase in management advisory fees of $12.4 million, from the same period in
2001. Signator Investors, the Company's broker-dealer distribution subsidiary,
had after-tax operating income of $0.8 million, an increase of $2.6 million.
Mutual funds after-tax operating income decreased $1.1 million, or 3.9%,
primarily due to lower revenues that decreased $26.1 million, or 13.6%,
partially offset by a decline in other operating costs and expenses of $25.4
million.
40
JOHN HANCOCK LIFE INSURANCE COMPANY
Revenues were $558.4 million for the six months ended June 30, 2002, a
decrease of $25.4 million, or 4.4%, from $583.8 million reported for the
comparable prior year period. The decreased revenue was due to a $33.0 million
or 80.5% decline in life-contingent immediate fixed annuity premiums, partially
offset by an increase in net investment income. Net investment income was $271.0
million for the six months ended June 30, 2002, an increase of $28.4 million, or
11.7%, from $242.6 million reported in the comparable prior year period. Net
investment income increased primarily due to increases in invested assets
backing fixed annuity products, partially offset by lower earned yields in the
portfolio. Average invested assets backing fixed annuity products increased
24.7% to $7,422.0 million while the average investment yield decreased 73 basis
points. Investment-type product charges decreased $4.2 million, or 6.4%, due to
a decline in the average variable annuity reserves which decreased $929.9
million, or 13.4%, to $6,003.0 million for the six months ended June 30, 2002
from $6,932.9 million reported in the comparable prior year period. This
decrease in variable annuity reserves is due to a $108.8 million of market
depreciation. For variable annuities the mortality and expense fees as a
percentage of average account balances were 1.33% and 1.24% for the six months
ended June 30, 2002 and 2001, respectively. In addition, other revenue increased
$1.3 million, driven by the mutual fund business.
Investment management revenues, commissions, and other fees were $217.0
million for the six months ended June 30, 2002, a decrease of $17.4 million, or
7.4%, from $234.4 million for the comparable prior year period. Average mutual
fund assets under management were $28,270.2 million for the six months ended
June 30, 2002, a decrease of $2,079.6 million, or 6.9%, from $30,349.8 million
reported in the comparable prior year period, due to market depreciation of
$2,229.6 million for the six months ended June 30, 2002. The mutual fund
business experienced net redemptions for the six months ended June 30, 2002 of
$663.8 million compared to net deposits of $124.1 million in the comparable
prior year period, a change of $787.9 million. This change was primarily due to
a decrease in deposits of $1,212.7 million, or 40.0%, driven by approximately
$697.0 million institutional advisory account deposits in the prior year period.
No such deposits were received for the six months ended June 30, 2002. In
addition, the sale of the full service retirement plan business during 2001
contributed to the decrease in deposits in the current period. There were $322.1
million in deposits for the six months ended June 30, 2001, in the full service
retirement plan business. Investment advisory fees were $81.6 million for the
six months ended June 30, 2002, a decrease of $11.5 million, or 12.4%, from
$93.1 million reported in the comparable prior year period and were 0.58% and
0.61% of average mutual fund assets under management for the six months ended
June 30, 2002 and 2001, respectively. Underwriting and distribution fees
decreased $3.1 million, or 2.7%, to $113.5 million for the six months ended June
30, 2002, primarily due to a decrease in front end load mutual fund sales,
resulting in a decrease of $3.3 million in distribution and other fees. The
decrease was partially offset by a $0.2 million increase in fees and accordingly
commission revenue. Shareholder service and other fees were $22.0 million for
the six months ended June 30, 2002 compared to $24.9 million reported in the
comparable prior year period.
Benefits and expenses decreased $40.8 million, or 8.5%, to $440.7 million
for the six months ended June 30, 2002 from $481.5 million reported in the
comparable prior year period. Benefits to policyholders decreased $11.8 million,
or 5.4%, primarily due to lower life-contingent immediate fixed annuity reserves
on new business, which contributed $31.6 million to the decrease, partially
offset by a $22.1 million increase in interest credited on retail annuity
account balances due to higher average account balances. Other operating costs
and expenses decreased $42.3 million, or 18.7%, to $183.8 million for the six
months ended June 30, 2002 from $226.1 million reported in the comparable prior
year period. The decrease was primarily due to cost savings in the mutual fund
business as well as company wide cost reduction programs, which drove the
decline in expenses in the other Asset Gathering segment businesses.
Amortization of deferred policy acquisition costs increased $13.3 million to
$50.4 million for the six months ended June 30, 2002 from $37.1 million reported
in the comparable prior year period, driven by higher amortization of $9.4
million in the fixed annuities business. In our modeling of deferred policy
acquisition costs, one scenario involved additional declines of 10% in the
equity markets in each of the two subsequent quarters to June 30, 2002. We
capped expected future returns in the mid-teen level. These facts would result
in a one-time write off of deferred policy acquisition costs by the fourth
quarter of 2002 of approximately $14 million, after tax. In addition
amortization of deferred policy acquisitions costs would increase by
approximately $3 to $4 million, after tax, per quarter. The Segment's effective
tax rate on operating income was 31.5% and 32.6% for the six months ended June
30, 2002 and 2001, respectively.
41
JOHN HANCOCK LIFE INSURANCE COMPANY
Guaranteed and Structured Financial Products Segment
The following table presents certain summary financial data relating to
the Guaranteed and Structured Financial Products Segment for the periods
indicated.
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
---------------------------------------------------------
(in millions)
Revenues ...................................................... $ 446.7 $ 485.7 $ 879.3 $ 988.4
Benefits and expenses.......................................... 340.3 398.0 677.0 812.9
Income taxes................................................... 34.3 28.8 66.1 58.2
---------------------------- ---------------------------
Segment after-tax operating income (1)......................... 72.1 58.9 136.2 117.3
---------------------------- ---------------------------
After-tax adjustments: (1)
Net realized investment and other gains (losses)......... (55.9) (6.2) (69.4) (14.4)
Restructuring charges.................................... (0.2) (0.6) (0.5) (0.7)
---------------------------- ---------------------------
Total after-tax adjustments.................................... (56.1) (6.8) (69.9) (15.1)
---------------------------- ---------------------------
GAAP Reported:
Income before cumulative effect of accounting changes.......... 16.0 52.1 66.3 102.2
Cumulative effect of accounting changes, net of tax............ -- -- -- (1.2)
---------------------------- ---------------------------
Net income..................................................... $ 16.0 $ 52.1 $ 66.3 $ 101.0
============================ ===========================
Other Data:
Segment after-tax operating income: (1)
Spread-based products.................................... $ 66.6 $ 52.7 $ 125.0 $ 104.4
Fee-based products....................................... 5.5 6.2 11.2 12.9
---------------------------- ---------------------------
Segment after-tax operating income (1)......................... $ 72.1 $ 58.9 $ 136.2 $ 117.3
============================ ===========================
(1) See "Adjustments to GAAP Reported Net Income" included in this MD&A.
Three Months Ended June 30, 2002 Compared to Three Months Ended June 30, 2001
Segment after-tax operating income was $72.1 million for the three months
ended June 30, 2002, an increase of $13.2 million, or 22.4%, from $58.9 million
reported in the comparable prior year period. Spread-based products after-tax
operating income was $66.6 million, an increase of $13.9 million, or 26.4%, from
$52.7 million reported in the comparable prior year period, primarily due to
decreased benefits to policyholders, reflecting an increased level of
reinsurance rearrangements, resulting in a lower increase in policy reserves.
Fee-based products after-tax operating income was $5.5 million, a decrease of
$0.7 million, or 11.3%, from $6.2 million reported in the comparable prior year
period, primarily due to lower risk-based capital and lower underwriting gains.
Revenues decreased $39.0 million, or 8.0%, to $446.7 million for the three
months ended June 30, 2002 from $485.7 million reported in the comparable prior
year period, largely due to a decrease of $35.7 million in net investment income
to $428.7 million for the three months ended June 30, 2002 from $464.4 million
in the comparable prior year period, despite growth of $2.5 billion in average
invested assets backing spread-based products. Net investment income decreased
due to lower average investment yields which fell to 6.51% for the three months
ended June 30, 2002, from 7.85% in the comparable prior year period reflecting
the lower interest rate environment in the current period. Net investment income
varies with market interest rates because the return on approximately $10
billion, or approximately 43%, of the asset portfolio floats with market rates.
Matching the interest rate exposure on our asset portfolio to the exposure on
our liabilities is a central feature of our asset/liability management process.
Premiums decreased $2.2 million, or 26.5%, to $6.1 million for the three months
ended June
42
JOHN HANCOCK LIFE INSURANCE COMPANY
30, 2002 from $8.3 million in the comparable prior year period due to lower
sales of participating separate account products. Investment type product
charges decreased $1.3 million, or 10.1%, to $11.6 million for the three months
ended June 30, 2002 from $12.9 million in the comparable prior year period, due
to lower asset-based fees from lower risk-based capital and lower underwriting
gains.
Benefits and expenses decreased $57.7 million, or 14.5%, to $340.3 million
for the three months ended June 30, 2002 from $398.0 million reported in the
comparable prior year period, primarily due to the decrease in benefits to
policyholders reflecting lower current period sales of fee-based products, an
increased level of reinsurance arrangements, combined with lower interest
credited on account balances for spread-based products. Interest credited was
$257.2 million for the three months ended June 30, 2002, a decrease of $51.8
million, or 16.8%, from $309.0 million in the comparable prior year period. The
decrease in interest credited was due to the decrease in the average interest
credited rate on account balances for spread-based products, which decreased to
4.94% for the three months ended June 30, 2002, from 6.65% in the comparable
prior year period. Dividends to contractholders of $8.3 million for the three
months ended June 30, 2002, decreased $0.5 million, or 5.7%, from $8.8 million
reported in the comparable prior year period due to the new reinsurance
arrangement in the fee-based business. The Segment's effective tax rates on
operating income were 32.2% and 32.8% for the three months ended June 30, 2002
and 2001, respectively.
Six Months Ended June 30, 2002 Compared to Six Months Ended June 30, 2001
Segment after-tax operating income was $136.2 million for the six months
ended June 30, 2002, an increase of $18.9 million, or 16.1%, from $117.3 million
reported in the comparable prior year period. Spread-based products after-tax
operating income was $125.0 million, an increase of $20.6 million, or 19.7%,
from $104.4 million reported in the comparable prior year period, primarily due
to decreased benefits to policyholders, reflecting an increased level of
reinsurance arrangements, resulting in a lower increase in policy reserves.
Fee-based products after-tax operating income was $11.2 million, a decrease of
$1.7 million, or 13.2%, from $12.9 million reported in the comparable prior year
period, primarily due to lower risk-based capital and lower underwriting gains.
Revenues decreased $109.1 million, or 11.0%, to $879.3 million for the six
months ended June 30, 2002 from $988.4 million reported in the comparable prior
year period, largely due to a decrease of $83.0 million in net investment income
to $848.2 million for the six months ended June 30, 2002 from $931.2 million in
the comparable prior year period, despite growth of $2.8 billion in the average
invested assets backing spread based products. Net investment income decreased
due to lower average investment yields which fell to 6.55% for the six months
ended June 30, 2002 from 8.16% in the comparable prior year period reflecting
the lower interest rate environment in the current period. Net investment income
varies with market interest rates because the return on approximately $10
billion, or approximately 43%, of the asset portfolio floats with market rates.
Matching the interest rate exposure on our asset portfolio to the exposure on
our liabilities is a central feature of our asset/liability management process.
Premiums decreased $21.7 million, or 70.0%, to $9.3 million for the six months
ended June 30, 2002 from $31.0 million in the comparable prior year period due
to lower sales of participating separate account products. Investment type
product charges decreased $4.8 million, or 18.3%, to $21.4 million for the six
months ended June 30, 2002 from $26.2 million in the comparable prior year
period, due to lower asset-based fees from lower risk-based capital and lower
underwriting gains.
Benefits and expenses decreased $135.9 million, or 16.7%, to $677.0
million for the six months ended June 30, 2002 from $812.9 million reported in
the comparable prior year period, primarily due to the decrease in benefits to
policyholders reflecting lower current period sales of fee-based products, an
increased level of reinsurance arrangements, combined with lower interest
credited on account balances for spread-based products. Interest credited was
$511.0 million for the six months ended June 30, 2002, a decrease of $111.1
million, or 17.9%, from $622.1 million in the comparable prior year period. The
decrease in interest credited was due to the decrease in the average interest
credited rate on account balances for spread-based products, which decreased to
5.01% for the six months ended June 30, 2002, from 6.86% in the comparable prior
year period. Dividends to contractholders of $16.6 million for the six months
ended June 30, 2002, decreased $1.0 million, or 5.7%, from $17.6 million
reported in the comparable prior year period due to the new reinsurance
arrangement in the fee-based business. The Segment's effective tax rates on
operating income were 32.6% and 33.1% for the six months ended June 30, 2002 and
2001, respectively.
43
JOHN HANCOCK LIFE INSURANCE COMPANY
Investment Management Segment
The following table presents certain summary financial data relating to
the Investment Management Segment for the periods indicated.
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
----------------------------------------------------------------------------
(in millions)
Revenues ......................................... $ 33.3 $ 30.9 $ 63.9 $ 66.5
Benefits and expenses ............................ 21.5 23.3 44.6 49.8
Income taxes ..................................... 4.4 3.0 7.0 6.7
------------------------------------- -------------------------------------
Segment after-tax operating income (1) ........... 7.4 4.6 12.3 10.0
------------------------------------- -------------------------------------
After-tax adjustments: (1)
Net realized investment and other gains
(losses) ................................. 0.5 -- 0.5 (0.1)
Restructuring charges ........................ (0.2) (0.1) (0.2) (0.5)
------------------------------------- -------------------------------------
Total after-tax adjustments ...................... 0.3 (0.1) 0.3 (0.6)
------------------------------------- -------------------------------------
GAAP Reported:
Income before cumulative effect of
accounting changes ........................... 7.7 4.5 12.6 9.4
Cumulative effect of accounting changes,
net of tax ................................... -- -- -- (0.2)
------------------------------------- -------------------------------------
Net income ....................................... $ 7.7 $ 4.5 $ 12.6 $ 9.2
===================================== =====================================
(1) See "Adjustments to GAAP Reported Net Income" included in this MD&A.
Three Months Ended June 30, 2002 Compared to Three Months Ended June 30, 2001
Segment after-tax operating income was $7.4 million for the three months
ended June 30, 2002, an increase of $2.8 million, or 60.9%, from $4.6 million
reported in the comparable prior year period. The increase was primarily due to
$1.8 million of higher net realized investment and other gains (losses) on
mortgage securitizations, $0.6 million of higher revenue, commission and other
fees and $1.8 million of lower operating expense.
Revenues increased $2.4 million, or 7.8%, to $33.3 million for the three
months ended June 30, 2002 from $30.9 million reported in the comparable prior
year period. Net realized investment and other gains (losses) on mortgage
securitizations increased $1.8 million for the three months ended June 30, 2002,
to $1.7 million. This increase in securitization gains is due to higher average
profitability of the securitizations and higher securitization activity in the
current year period. Investment management revenues, commissions, and other fees
increased $0.6 million, or 2.2%, to $27.8 million for the three months ended
June 30, 2002, primarily due to an increase in investment advisory fees, which
increased $1.1 million to $26.6 million for the three months ended June 30, 2002
compared to $25.5 million reported in the prior year period. Advisory fee
increases included and increase of $2.2 million in acquisition fees from
affordable housing investments and a $1.7 million decrease in advisory fees at
Independence Investment LLC, based on lower assets under management resulting
from market depreciation. The increase in advisory fees was offset by a decrease
in mortgage origination and servicing fees of $0.6 million, to $1.2 million, due
primarily to a one-time $0.5 million loan assumption fee earned in the
comparable prior year period. Investment management revenues, commissions and
other fees were 0.39% and 0.37% of average advisory assets under management in
the three month periods ended June 30, 2002 and 2001, respectively. Net
investment income of $3.7 million for the three months ended June 30, 2002 was
unchanged from the comparable prior year period.
Benefits and expenses were $21.5 million for the three months ended June
30, 2002, a decrease of $1.8 million, or 7.7%, from $23.3 million reported in
the comparable prior year period. This decrease was due to interest expense
savings of $0.9 million from lower average borrowings and lower interest rates
this period and from $0.4 million in
44
JOHN HANCOCK LIFE INSURANCE COMPANY
lower compensation at Independence Investment LLC, based on lower assets under
management, offset by a $0.4 million increase in acquisition expenses from
affordable housing investments and from $0.4 million increase in commission
expenses as a result of signing up new timber investors in 2002. The balance of
the reduction was primarily due to ongoing cost cutting efforts across the
Investment Management Segment subsidiaries. Other operating costs and expenses
were 0.30% and 0.32% of average advisory assets under management for the three
month periods ended June 30, 2002 and 2001, respectively. The Segment's
effective tax rate on operating income fell to 37.3% from 39.5% for the three
month periods ended June 30, 2002 and 2001, respectively, primarily due to
changes in the state tax status of Independence Investment LLC. The effective
tax rate for the Investment Management Segment remains higher than for our other
business segments due to state taxes on certain investment management
subsidiaries, and fewer tax benefits from portfolio holdings in this segment.
Six Months Ended June 30, 2002 Compared to Six Months Ended June 30, 2001
Segment after-tax operating income was $12.3 million for the six months
ended June 30, 2002, an increase of $2.3 million, or 23.0%, from $10.0 million
reported in the comparable prior year period. The increase was primarily due to
$5.2 million of lower operating expenses and $0.5 million of higher revenue,
commission and other fees, partially offset by $1.6 million of lower net
investment income and $1.5 million of lower net realized investment and other
gains (losses) in the current period.
Revenues decreased $2.6 million, or 3.9%, to $63.9 million for the six
months ended June 30, 2002 from $66.5 million reported in the comparable prior
year period. Net investment income was $7.6 million for the six months ended
June 30, 2002, a decrease of $1.6 million from the comparable prior year period,
primarily due to a lower level of warehoused mortgages and from lower prevailing
short-term interest rates in the six month period ended June 30, 2002. Net
realized investment and other gains (losses) on mortgage securitizations
decreased $1.5 million to $1.0 million in the current year period, based on
lower average profitability of the securitizations and lower levels of
securitization activity in the current year period. Investment management
revenues, commissions, and other fees increased $0.5 million, or 0.9%, for the
six months ended June 30, 2002, primarily due to an increase in real estate
acquisition fee income, increased management fees from a private equity
partnership and higher mortgage loan origination fees largely offset by lower
advisory fees at Independence Investment LLC on lower average assets under
management. Investment management revenues, commissions and other fees were
0.39% and 0.36% of average advisory assets under management in the six month
periods ended June 30, 2002 and 2001, respectively.
Benefits and expenses were $44.6 million for the six months ended June 30,
2002, a decrease of $5.2 million, or 10.4%, from $49.8 million reported in the
comparable prior year period. The decrease was primarily due to $3.6 million of
lower interest expense on a lower level of warehoused mortgages, $0.8 million of
lower compensation expenses based on lower average assets under management at
Independence Investments LLC and savings from ongoing cost cutting efforts
across the Investment Management Segment subsidiaries. Offsetting these
reductions was an increase of $1.1 million in commission expenses, to $1.2
million, due to signing new timber investors in the current year period. Other
operating costs and expenses were 0.30% and 0.33% of average advisory assets
under management for the six month periods ended June 30, 2002 and 2001,
respectively. The Segment's effective tax rate on operating income fell to 36.3%
from 40.1% for the six month periods ended June 30, 2002 and 2001, respectively,
primarily due to changes in the state tax status of Independence Investment
LLC.. The effective tax rate for the Investment Management Segment remains
higher than for our other business segments due to state taxes on certain
investment management subsidiaries, and fewer tax benefits from portfolio
holdings in this segment.
45
JOHN HANCOCK LIFE INSURANCE COMPANY
Corporate and Other Segment
The following table presents certain summary financial data relating to
the Corporate and Other Segment for the periods indicated.
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
--------------------------------------------------------
(in millions)
Revenues..................................................... $ 163.4 $ 190.9 $ 332.3 $ 305.4
Benefits and expenses........................................ 180.1 181.2 346.9 291.7
Income taxes................................................. (21.9) (8.2) (29.3) (12.0)
-------------------------- ---------------------------
Segment after-tax operating income (1)....................... 5.2 17.9 14.7 25.7
-------------------------- ---------------------------
After-tax adjustments: (1)
Net realized investment and other gains (losses)....... 4.9 23.3 (2.2) 17.4
Restructuring charges.................................. 1.0 (0.1) 2.3 (0.2)
Class action lawsuit................................... (0.8) -- (0.8) --
-------------------------- ---------------------------
Total after-tax adjustments.................................. 5.1 23.2 (0.7) 17.2
-------------------------- ---------------------------
GAAP Reported:
Income before cumulative effect of accounting changes........ 10.3 41.1 14.0 42.9
Cumulative effect of accounting changes, net of tax.......... -- -- -- (2.6)
-------------------------- ---------------------------
Net income................................................... $ 10.3 $ 41.1 $ 14.0 $ 40.3
========================== ===========================
(1) See "Adjustments to GAAP Reported Net Income" included in this MD&A.
Three Months Ended June 30, 2002 Compared to Three Months Ended June 30, 2001
Corporate and Other Segment after-tax operating income consists of three
sub-segments: International Operations, $2.3 million and $1.0 million, Corporate
Operations, $1.7 million and $15.1 million and Non-Core Operations, or
businesses in run-off, $1.2 million and $1.8 million, respectively for the three
months ended June 30, 2002 and 2001. The following discussion focuses on
Corporate Operations.
Segment after-tax operating income from corporate operations was $1.7
million for the three months ended June 30, 2002, a decrease of $13.4 million
from $15.1 million in the comparable prior year period. The decrease was due to
lower investment income of $9.2 million due to prior year adjustments to
partnership funds and lease funds and a decrease in net periodic pension plan
credits of $5.1 million. Signature Fruit's operations were $1.2 million
unfavorable primarily due to lower volume and lower profit margins. Group Life's
operations were $2.6 million favorable due to lower claims experience. Our
corporate-owned life insurance program was $6.7 million favorable due to both an
increase in the asset base and to improved performance of the underlying assets
which were reallocated from equity to fixed income investments.
The Segment's effective tax rate on operating income was (131.1)% and
(84.5)% for the three months ended June 30, 2002 and 2001, respectively. This
rate decreased primarily due to the increase in tax benefits generated by
increased affordable housing tax credits, lease residual management investment
strategy, dividends received deduction, and the Company's corporate-owned life
insurance program.
46
JOHN HANCOCK LIFE INSURANCE COMPANY
Six Months Ended June 30, 2002 Compared to Six Months Ended June 30, 2001
Corporate and Other Segment after-tax operating income consists of three
sub-segments: International Operations, $3.5 million and $1.3 million, Corporate
Operations, $8.3 million and $20.9 million and Non-Core Operations, or
businesses in run-off, $2.9 million and $3.5 million, respectively for the six
months ended June 30, 2002 and 2001. The following discussion focuses on
International Operations and Corporate Operations.
Segment after-tax operating income from corporate operations was $8.3
million for the six months ended June 30, 2002, a decrease of $12.6 million from
income of $20.9 million gain reported in the comparable prior year period. The
decrease was due to lower investment income of $9.2 million due to prior year
adjustments to partnership funds and lease funds and due to a decrease in net
periodic pension plan credits of $10.3 million. Group Life's operation were $1.6
million favorable due to change in the reserve for waiver benefits. Our
corporate owned life insurance program was $14.7 million favorable due to both
an increase in the asset base and to improved performance of the underlying
assets which were reallocated from equity to fixed income investments.
The Segment's effective tax rate on operating income was (200.7)% and
negative (87.6)% for the six months ended June 30, 2002 and 2001, respectively.
This rate decreased primarily due to the increase in tax benefits generated by
increased affordable housing tax credits, lease residual management investment
strategy, dividends received deduction, and the Company's corporate-owned life
insurance program.
47
JOHN HANCOCK LIFE INSURANCE COMPANY
General Account Investments
We manage our general account assets in investment segments that support
specific classes of product liabilities. These investment segments permit us to
implement investment policies that both support the financial characteristics of
the underlying liabilities, and also provide returns on our invested capital.
The investment segments also enable us to gauge the performance and
profitability of our various businesses.
Asset/Liability Risk Management
Our primary investment objective is to maximize after-tax returns within
acceptable risk parameters. We are exposed to two primary types of investment
risk:
o Interest rate risk, meaning changes in the market value of fixed
maturity securities as interest rates change over time, and
o Credit risk, meaning uncertainties associated with the continued
ability of an obligor to make timely payments of principal and
interest
We use a variety of techniques to control interest rate risk in our
portfolio of assets and liabilities. In general, our risk management philosophy
is to limit the net impact of interest rate changes on our assets and
liabilities. Assets are invested predominantly in fixed income securities, and
the asset portfolio is matched with the liabilities so as to eliminate the
company's exposure to changes in the overall level of interest rates. Each
investment segment holds bonds, mortgages, and other asset types that will
satisfy the projected cash needs of its underlying liabilities. Another
important aspect of our asset-liability management efforts is the use of
interest rate derivatives. We selectively apply derivative instruments, such as
interest rate swaps and futures, to reduce the interest rate risk inherent in
combined portfolios of assets and liabilities. For a more complete discussion of
our interest rate risk management practices, please see the Interest Rate Risk
section in the Quantitative and Qualitative Disclosures about Market Risk
section of this document.
Management of credit risk is central to our business and we devote
considerable resources to the credit analysis underlying each investment
acquisition. Our corporate bond management group employs a staff of highly
specialized, experienced, and well-trained credit analysts. We rely on these
analysts' ability to analyze complex private financing transactions and to
acquire the investments needed to profitably fund our liability requirements. In
addition, when investing in private fixed maturity securities, we rely upon
broad access to proprietary management information, negotiated protective
covenants, call protection features and collateral protection.
Our bond portfolio is reviewed on a continuous basis to assess the
integrity of current quality ratings. As circumstances warrant, specific
investments are "re-rated" with the adjusted quality ratings reflected in our
investment system. All bonds are evaluated regularly against the following
criteria:
o material declines in the issuer's revenues or margins;
o significant management or organizational changes;
o significant uncertainty regarding the issuer's industry;
o debt service coverage or cash flow ratios that fall below
industry-specific thresholds;
o violation of financial covenants; and
o other business factors that relate to the issuer.
Product prices are set on the basis of expected default losses over the
long term. Actual losses therefore vary above and below this average, and the
market value of the portfolio as a whole also changes as market credit spreads
move up and down during an economic cycle.
John Hancock is able to hold to this investment strategy over the long
term, both because of its strong capital position, the fixed nature of its
liabilities and the matching of those liabilities with assets, and because of
the experience gained through many decades of a consistent investment
philosophy. Despite the current high levels of market default rates and widened
credit spreads, we expect losses on our investment portfolio to approximate
priced
48
JOHN HANCOCK LIFE INSURANCE COMPANY
for losses over the economic cycle. We generally intend to hold all of our fixed
maturity investments to maturity to meet liability payments, and to ride out any
unrealized gains and losses over the long term.
Overall Composition of the General Account
Invested assets, excluding separate accounts, totaled $56.2 billion and
$53.3 billion as of June 30, 2002 and December 31, 2001, respectively. Although
the composition of the portfolio has not significantly changed at June 30, 2002
as compared to December 31, 2001, the majority of the $2.9 billion increase in
the invested assets is attributable to an increase in the fixed maturity
security portfolio where the Company directs a majority of its net cash flow.
The following table shows the composition of investments in the general account
portfolio.
As of June 30, As of December 31,
2002 2001
------------------------------------------------------------------------
Carrying % of Carrying % of
Value Total Value Total
------------------------------------------------------------------------
(in millions) (in millions)
Fixed maturity securities (1)................. $ 40,874.5 72.7% $ 37,995.6 71.3%
Mortgage loans (2)............................ 9,904.2 17.6 9,667.0 18.1
Real estate................................... 327.6 0.6 380.4 0.7
Policy loans (3).............................. 1,937.3 3.5 1,927.0 3.6
Equity securities............................. 404.1 0.7 563.7 1.1
Other invested assets......................... 2,047.7 3.6 1,676.9 3.1
Short-term investments........................ 130.2 0.2 78.6 0.2
Cash and cash equivalents (4)................. 610.2 1.1 1,025.3 1.9
------------------------------------------------------------------------
Total invested assets......................... $ 56,235.8 100.0% $ 53,314.5 100.0%
========================================================================
(1) In addition to bonds, the fixed maturity security portfolio contains
redeemable preferred stock with a carrying value of $698.7 million and
$691.8 million as of June 30, 2002 and December 31, 2001, respectively.
Carrying value is composed of investments categorized as
'held-to-maturity', which are carried at amortized cost, and investments
categorized as 'available-for-sale', which are carried at fair value. The
total fair value of the fixed maturity security portfolio was $40,907.5
million and $37,980.3 million, at June 30, 2002 and December 31, 2001,
respectively.
(2) The fair value of the mortgage loan portfolio was $10,581.3 million and
$10,215.0 million as of June 30, 2002 and December 31, 2001, respectively.
(3) Policy loans are secured by the cash value of the underlying life
insurance policies and do not mature in a conventional sense, but expire
in conjunction with the related policy liabilities.
(4) Cash and cash equivalents are included in total invested assets for the
purposes of calculating yields on the income producing assets for the
Company.
Consistent with the nature of the Company's product liabilities, assets
are heavily oriented toward fixed maturity securities. The Company determines
the allocation of assets primarily on the basis of cash flow and return
requirements of its products and by the level of investment risk.
Fixed Maturity Securities. The fixed maturity securities portfolio is
predominantly comprised of low risk, investment grade, publicly and privately
traded corporate bonds and senior tranches of asset-backed securities (ABS) and
mortgage-backed securities (MBS), with the balance invested in government bonds.
The fixed maturity securities portfolio also includes redeemable preferred
stock. As of June 30, 2002, fixed maturity securities represented 72.7% of
general account investment assets with a carrying value of $40.9 billion,
roughly comprised of 56% public securities and 44% private securities. Each year
the Company directs the majority of its net cash inflows into investment grade
fixed maturity securities. Typically between 5% and 15% of funds allocated to
fixed maturity securities are invested in below-investment-grade bonds while
maintaining a policy to limit the overall level of these bonds to no more than
10% of invested assets, and the majority of that balance in the BB category.
Allocations are based on an assessment of relative value and the likelihood of
enhancing risk-adjusted portfolio returns. While the Company has
49
JOHN HANCOCK LIFE INSURANCE COMPANY
profited from the below-investment-grade asset class in the past, care is taken
to manage its growth strategically by limiting its size relative to the
Company's assets.
The following table shows the composition by our internal industry
classification of the fixed maturity securities portfolio and the unrealized
gains and losses contained therein.
Fixed Maturity Securities -- By Industry Classification
As of June 30, 2002
----------------------------------------------------------------------------------------------
Carrying Value
of Securities Carrying Value of
Net with Gross Gross Securities with Gross
Total Carrying Unrealized Unrealized Unrealized Gross Unrealized Unrealized
Value Gain (Loss) Gains Gains Losses (1) Losses (2) (3)
- ------------------------------------------------------------------------------------------------------------------------------------
(in millions)
Corporate securities:
Banking and finance........... $ 4,675.0 $ 134.6 $ 3,531.1 $ 170.7 $ 1,143.9 $ (36.1)
Communications................ 1,888.9 (48.5) 1,097.9 70.8 791.0 (119.3)
Government.................... 1,038.0 71.2 984.8 74.1 53.2 (2.9)
Manufacturing................. 7,053.3 57.1 4,735.0 292.0 2,318.3 (234.9)
Oil & gas..................... 4,462.3 (13.3) 2,907.7 163.7 1,554.6 (177.0)
Services / trade.............. 2,365.7 78.1 1,688.7 104.7 677.0 (26.6)
Transportation................ 3,465.9 19.3 2,256.9 138.7 1,209.0 (119.4)
Utilities..................... 7,716.5 90.2 4,631.0 327.2 3,085.5 (237.0)
----------------------------------------------------------------------------------------------
Total Corporate Securities....... 32,665.6 388.7 21,833.1 1,341.9 10,832.5 (953.2)
MBS/ABS............................. 7,353.9 193.5 6,066.3 272.9 1,287.6 (79.4)
U.S. Treasury securities and
obligations of U.S. government
agencies......................... 143.9 3.9 134.3 4.3 9.6 ( 0.4)
Debt securities issued by foreign
governments...................... 452.2 45.1 387.7 49.3 64.5 (4.2)
Obligations of states and political
subdivisions..................... 258.9 16.8 245.9 17.1 13.0 (0.3)
----------------------------------------------------------------------------------------------
Total......................... $ 40,874.5 $ 648.0 $ 28,667.3 $ 1,685.5 $ 12,207.2 $ (1,037.5)
==============================================================================================
As of June 30, 2002, there are $1,685.5 million of gross unrealized gains
and $1,037.5 million of gross unrealized losses on the fixed maturities
portfolio. $887.6 million, or 85.5%, of those unrealized losses are concentrated
in the manufacturing, oil and gas, transportation, utility and communications
industries. Only the communications and oil and gas industries have net
unrealized losses.
Manufacturing: Manufacturing is a large, diverse sector encompassing
cyclical industries. Low commodity prices continue to pressure the subsectors of
mining, chemicals, metals, and forest products. When the economy recovers, these
cyclical subsectors should recover and the bonds of companies in these
subsectors should recover as well. We have financed these subsectors though
several economic cycles and have the ability and intent to hold our investments
until they recover in value or mature. Our portfolio should also benefit from
our underwriting process where we stress test each company's financial
performance through a recession scenario.
Oil & Gas: In the Oil & Gas industry much of our unrealized loss arises
from companies in emerging markets, primarily Latin America. Our philosophy in
emerging markets is to generally lend to those companies with dollar based
export products such as oil companies. Emerging markets continue to experience
significant stress and bond prices across most emerging market countries are
down. However, our oil & gas investments are faring well. The companies have
dollar based revenues to pay their debts and have continued to do so. In many
cases, deals are structured so that all export revenues first pass through an
offshore trust and our debt service is then paid before any dollars are released
back to the company. This type of transaction is known as an export receivables
deal. All of our Venezuelan transactions are structured in this manner.
50
JOHN HANCOCK LIFE INSURANCE COMPANY
Transportation: The Transportation sector consists largely of air, rail,
and automotive manufacturers and service companies. All of these subsectors are
experiencing cyclical downturns, particularly the airline industry, having been
hit both by the recession and the fallout from September 11. While most airlines
are losing money, we lend to this industry almost exclusively on a secured basis
(approximately 99% of our loans are secured). These secured airline financings
are of two types: Equipment Trust Certificates (ETC's) and Enhanced Equipment
Trust Certificates (EETC's). The ETC's initially have an 80% loan-to-value ratio
and the EETC senior tranches initially have a 40-50% loan-to-value and include a
provision for a third party to pay interest for eighteen months from a default.
For us to lose money on an ETC, three things must happen: the airline must
default, the airline must decide it does not want to fly our aircraft, and the
aircraft must be worth less than our loan. When lending to this industry, we
underwrite both the airline and the aircraft. We've been lending to this
industry in this fashion for 25 years through several economic cycles and have
seen values on our secured airline bonds fall and recover thorough these cycles.
Utilities: The Utility sector has faced a number of challenges over the
past few years including the California Power Crisis, the Enron bankruptcy, and
the recession which has resulted in a drop in demand. More recently, there have
been issues around energy trading activities and the financial liquidity of some
large merchant industry players. These events caused a general widening in
utility and project finance bond spreads over the course of the year. We expect
a recovery in many of the utility bonds due to the following events: the
situation in California has begun to stabilize, Southern California Edison has
avoided bankruptcy, and individual companies have addressed their liquidity
issues.
Communications: The Communication sector has experienced aggressive
expansion, which has resulted in considerable excess capacity. There have been
high profile companies which have filed for bankruptcy. Among the remaining
players, further pressure has resulted. Our strategy has been to focus on
operating companies with strong balance sheets and diversified product
offerings. As in past recessions, we see pressure on these bonds. We would
expect improvement when the economy begins to recover.
The following table shows the composition by credit quality of the
securities with gross unrealized losses in our fixed maturity securities
portfolio.
Unrealized Fixed Maturity Securities -- By Quality
As of June 30, 2002
Carrying Value Of
Securities with
SVO S&P Equivalent Gross Unrealized % of Unrealized % of
Rating (1) Designation (2) Losses (3) (4) Total Loss (3) (4) Total
- --------------------------------------------------------------------------------------------------------------------------------
(in millions) (in millions)
1 AAA/AA/A...................... $ 2,725.4 22.9% $ 111.1 10.9%
2 BBB........................... 6,675.1 56.1 479.7 47.2
3 BB............................ 1,578.0 13.2 237.6 23.4
4 B............................. 532.9 4.5 104.3 10.3
5 CCC and lower................. 262.7 2.2 74.7 7.4
6 In or near default............ 133.3 1.1 8.4 0.8
-------------------------------------------------------------------------------
Total......................... $ 11,907.4 100.0% $ 1,015.8 100.0%
===============================================================================
(1) With respect to securities that are awaiting an SVO rating, the Company
has assigned a rating based on an analysis that it believes is equivalent
to that used by the SVO.
(2) Comparisons between SVO and S&P ratings are published by the National
Association of Insurance Commissioners.
(3) Does not include redeemable preferred stock with a carrying value of
$299.8 million and unrealized losses of $21.7 million.
(4) Includes 139 securities that are awaiting an SVO rating with a carrying
value of $1,624.5 million and unrealized losses of $96.0 million. Due to
lags between the funding of an investment, the processing of final legal
documents, the filing with the SVO, and the rating by the SVO, there will
always be a number of unrated securities at each statement date.
Securities comprised 13.5% and 9.3% of the total carrying value and total
gross unrealized losses of securities in a loss position, including
redeemable stock, respectively.
51
JOHN HANCOCK LIFE INSURANCE COMPANY
At June 30, 2002, $590.8 million, or 58.1%, of the gross unrealized losses
are on securities that are rated investment grade. Unrealized losses on
investment grade securities principally relate to changes in interest rates or
changes in credit spreads since the securities were acquired. Any such
unrealized losses are recognized in income if, and when, we decide to sell such
securities (note that such a decision only would be made with respect to our
available-for-sale portfolio). We believe that the discussion of securities with
ongoing unrealized losses should focus on below investment grade securities that
generally are more likely to develop credit concerns.
As of June 30, 2002, there are $425.0 million of the gross unrealized
losses on below investment grade securities in the fixed maturities portfolios.
Of this amount, 77.0% has been in place for over six months. The Company
believes, however, that after a comprehensive review of each borrower's ability
to meet the obligations of the notes, and based on information available at this
time, these securities will continue to pay as scheduled, and the Company has
the ability and the intent to hold these securities until they recover in value
or mature.
The scheduled maturity dates for securities in an unrealized loss position
at June 30, 2002 is shown below.
Unrealized Losses on Fixed Maturity Securities -- By Maturity
June 30, 2002
Carrying Value of
Securities with Gross
Unrealized Loss Gross Unrealized Loss
--------------------------------------------------
(in millions)
Due in one year or less......................................... $ 327.5 $ 19.5
Due after one year through five years........................... 3,401.9 250.4
Due after five years through ten years.......................... 3,457.9 364.0
Due after ten years............................................. 3,732.3 324.3
--------------------------------------------------
10,919.6 958.2
Mortgage-backed securities...................................... 1,287.6 79.3
--------------------------------------------------
Total........................................................... $12,207.2 $1,037.5
==================================================
As of June 30, 2002 we had thirteen securities that had an unrealized loss
of $10 million or more. They include:
Carrying Unrealized
Description of Issuer Value Loss
- ------------------------------------------------------------------------------------------------------------------------------
(in millions)
US based farmer owned cooperative.................................................. $ 36.9 $ 20.8
Argentinean trust holding rights to oil and gas royalty producer................... 24.2 19.8
US Timber and solid wood manufacturer.............................................. 79.5 17.2
Argentinean oil company with US dollar based cash flows............................ 16.0 16.1
Venezuelan oil company with US dollar based cash flows............................. 32.7 15.3
Petrochemical and related products producer........................................ 31.6 11.9
Notes secured by leases on a pool of aircrafts in service with two major carriers.. 14.1 11.8
Large Mexican copper producer...................................................... 24.3 11.7
Large US wireless communications company........................................... 72.9 11.5
Joint venture between a large Venezuelan company and a large US oil
company........................................................................ 48.1 11.2
Joint venture between a large Venezuelan company and two large US oil
companies...................................................................... 13.6 10.7
US telecommunications company ..................................................... 21.1 10.2
A joint venture with a Venezuelan oil company that produces fertilizer............. 28.7 10.0
The securities above have undergone thorough analysis by our investment
professionals, and at this time we believe that the borrowers have the financial
capacity to make all required contractual payments on the notes when due, and we
intend to hold these securities until they either mature or recover in value.
52
JOHN HANCOCK LIFE INSURANCE COMPANY
In keeping with the investment philosophy of tightly managing interest
rate risk the Company's MBS & ABS holdings are heavily concentrated in
commercial MBS where the underlying loans are largely call protected, which
means they are not pre-payable without penalty prior to maturity at the option
of the issuer. By investing in MBS and ABS securities with relatively
predictable repayments, The Company adds high quality, liquid assets to the
portfolios without incurring the risk of cash flow variability. The portion of
the MBS/ABS portfolio subject to prepayment risk as of June 30, 2002 and
December 31, 2001 was limited to 8.6% and 10.4% of total MBS/ABS portfolio and
1.5% and 1.7% of total fixed maturity securities holdings, respectively.
The Securities Valuation Office (SVO) of the National Association of
Insurance Commissioners evaluates all public and private bonds purchased as
investments by insurance companies. The SVO assigns one of six investment
categories to each security it reviews (See the SVO website at
www.naic.org/1svo/, for more information). Category 1 is the highest quality
rating, and Category 6 is the lowest. Categories 1 and 2 are the equivalent of
investment grade debt as defined by rating agencies such as Standard & Poor's
(S&P) and Moody's (i.e., BBB-/Baa3 or higher), while Categories 3-6 are the
equivalent of below-investment grade securities. SVO ratings are reviewed and
may be revised at least once a year.
The following table sets forth the SVO ratings for the Company's bond
portfolio along with an equivalent S&P rating agency designation. The majority
of bonds are investment grade, with 87.9% and 87.4% invested in Category 1 and 2
securities as of June 30, 2002 and December 31, 2001, respectively. Below
investment grade bonds were 12.1% and 12.6% of fixed maturity investments
excluding redeemable preferred stock and 8.6% and 8.8% of total invested assets
as of June 30, 2002 and December 31, 2001, respectively. This allocation
reflects the Company's strategy of avoiding the unpredictability of interest
rate risk in favor of relying on the ability of bond analysts to better predict
credit or default risk. The Company's bond analysts operate in an
industry-based, team-oriented structure that permits the evaluation of a wide
range of below investment grade offerings in a variety of industries resulting
in a well-diversified high yield portfolio.
Valuation techniques for the bond portfolio vary by security type and the
availability of market data. Pricing models and their underlying assumptions
impact the amount and timing of unrealized gains and losses recognized, and the
use of different pricing models or assumptions could produce different financial
results. External pricing services are used where available, broker dealer
quotes are used for thinly traded securities, and a spread pricing matrix is
used when price quotes are not available, which typically is the case for our
private placement securities. The spread pricing matrix is based on credit
quality, country of issue, market sector and average investment life and is
created for these dimensions through brokers' estimates of public spreads
derived from their respective publications. When utilizing the spread pricing
matrix, securities are valued by utilizing a discounted cash flow method where
each bond is assigned a spread, that is added to the current U.S. Treasury rates
to discount the cash flows of the security. The spread assigned to each security
is changed from month to month based on changes in the market. Certain market
events that could impact the valuation of securities include issuer credit
ratings, business climate, management changes, litigation, and government
actions among others. The Company's pricing analysts take appropriate actions to
reduce valuations of securities where such an event occurs which negatively
impacts the securities' value. To the
53
JOHN HANCOCK LIFE INSURANCE COMPANY
extent that bonds have longer maturity dates, management's estimate of fair
value may involve greater subjectivity since they involve judgment about events
well into the future.
The majority (58.1%) of below investment grade bonds is in category 3, the
highest quality below investment grade. Category 6 bonds represent securities
that were originally acquired as long-term investments, but subsequently became
distressed. The carrying value of bonds in or near default was $450.7 million
and $388.7 million as of June 30, 2002 and December 31, 2001, respectively. As
of June 30, 2002 and December 31, 2001, $5.3 million and $2.4 million,
respectively of interest on bonds in or near default was included in accrued
investment income, respectively. It is the Company's policy to reverse any
accrued investment income and cease accruing interest income on bonds in or near
default and accrue interest income on bonds near default that the Company
expects to collect. Management judgement is used and the actual results could be
materially different.
Fixed Maturity Securities -- By Credit Quality
As of June 30, As of December 31,
2002 2001
-----------------------------------------------------------------------------
SVO S&P Equivalent Carrying % of Carrying % of
Rating (1) Designation (2) Value (3)(4) Total Value (3) Total
- ------------------------------------------------------------------------------------------------------------------------------
(in millions) (in millions)
1 AAA/AA/A...................... $ 15,349.1 38.2% $ 14,336.9 38.4%
2 BBB........................... 19,976.0 49.7 18,275.9 49.0
3 BB............................ 2,815.8 7.0 2,771.9 7.4
4 B............................. 1,075.2 2.7 1,095.1 2.9
5 CCC and lower................. 509.0 1.3 435.3 1.2
6 In or near default............ 450.7 1.1 388.7 1.1
-----------------------------------------------------------------------------
Total......................... $ 40,175.8 100.0% $ 37,303.8 100.0%
=============================================================================
(1) With respect to securities that are awaiting an SVO rating, the Company
has assigned a rating based on an analysis that it believes is equivalent
to that used by the SVO.
(2) Comparisons between SVO and S&P ratings are published by the National
Association of Insurance Commissioners.
(3) Does not include redeemable preferred stock with a carrying value of
$698.7 million and $691.8 million as of June 30, 2002 and December 31,
2001, respectively.
(4) Includes 431 securities that are awaiting an SVO rating with a carrying
value of $5,672.5 million at June 30, 2002. Due to lags between the
funding of an investment, the processing of final legal documents, the
filing with the SVO, and the rating by the SVO, there will always be a
number of unrated securities at each statement date.
54
JOHN HANCOCK LIFE INSURANCE COMPANY
Mortgage Loans. As of June 30, 2002 and December 31, 2001, the Company
held mortgage loans with a carrying value of $9.9 billion and $9.7 billion,
respectively, including $7.4 billion and $7.2 billion respectively, of
commercial loans and $2.5 billion, at each period end, of agricultural loans.
The following table shows the Company's agricultural mortgage loan
portfolio by its three major sectors: agribusiness, timber and production
agriculture.
As of June 30, 2002 As of December 31, 2001
Amortized Carrying % of Total Amortized Carrying % of Total
Cost Value Carrying Value Cost Value Carrying Value
-------------------------------------------- ---------------------------------------------
(in millions) (in millions)
Agri-business................... $ 1,468.8 $ 1,401.7 57.1% $ 1,480.6 $ 1,432.7 57.9%
Timber.......................... 1,029.0 1,025.1 41.8 1,017.5 1,009.5 40.8
Production agriculture.......... 28.6 28.2 1.1 34.1 33.8 1.3
-------------------------------------------- ---------------------------------------------
Total........................ $ 2,526.4 $ 2,455.0 100.0% $ 2,532.2 $ 2,476.0 100.0%
============================================ =============================================
The following table shows the carrying values of our commercial loan
portfolio that are delinquent but not in foreclosure, delinquent and in
foreclosure, restructured and foreclosed. The table also shows the respective
ratios of these items to the total carrying value of our mortgage loan
portfolio. Commercial mortgage loans are classified as delinquent when they are
60 days or more past due as to the payment of interest or principal. Commercial
mortgage loans are classified as restructured when they are in good standing,
but the basic terms, such as interest rate or maturity date, have been modified
as a result of a prior actual delinquency or an imminent delinquency. All
foreclosure decisions are based on a thorough assessment of the property's
quality and location and market conditions. The decision may also reflect a plan
to invest additional capital in a property to make tenant improvements or
renovations to secure a higher resale value at a later date. Following
foreclosure, we rely on our real estate investment group's ability to manage
foreclosed real estate for eventual return to investment real estate status or
outright sale.
Impaired loans comprised 1% of the mortgage portfolio at June 30, 2002.
John Hancock's average historical impaired loan percentage during the period of
1996 through 2001 is 2.1%. This historical percentage is higher than the current
1% because it includes some remaining problem assets of the 1990's real estate
downturn. Since that downturn, our commercial mortgage delinquency rate has
declined from a high of 4.9% to 0.3% as of December 31,
55
JOHN HANCOCK LIFE INSURANCE COMPANY
2001 leading to a decrease in our impaired loans. This compares to industry
delinquency rates of 7.1% and 0.3% for the comparable periods, respectively. In
addition, we strengthened our underwriting standards following the last
downturn. As of June 30, 2002, we had 9 loans delinquent more than 60 days or in
process of foreclosure. We believe the recent economic downturn, unlike the last
real estate recession, has had a lot more discipline in that the construction of
new assets was limited, keeping supply in check.
Commercial Mortgage Loan Comparisons
As of June 30, As of December 31,
2002 2001
------------------------------------------ ------------------------------------------
Carrying % of Total Carrying % of Total
Value Mortgage Loans Value Mortgage Loans
------------------------------------------ ------------------------------------------
(in millions) (in millions)
Delinquent, not in foreclosure ........ -- -- $ 5.5 0.1%
Delinquent, in foreclosure ............ $ 11.8 0.1% 13.0 0.1
Restructured .......................... 55.6 0.6 56.0 0.6
------------------------------------------ ------------------------------------------
Subtotal ........................... $ 67.4 0.7% $ 74.5 0.8%
------------------------------------------ ------------------------------------------
Loans foreclosed during period ........ 3.9 -- -- --
------------------------------------------ ------------------------------------------
Total .............................. $ 71.3 0.7% $ 74.5 0.8%
========================================== ==========================================
Investment Results
Overall, the yield, net of investment expenses, on the general account
portfolio decreased from the second quarter of the prior year. The lower yield
was driven primarily by the sharp drop in short-term rates during the year. As
of June 30, 2002, the Company had approximately $12 billion of net exposure to
the short-term floating rates (primarily LIBOR), mostly created through interest
rate swaps designed to match our portfolio with an increasing volume of floating
rate liabilities. Therefore, approximately 87% of the decline in investment
income was off set by a decline in floating-rate liability payments. In
addition, a less favorable interest rate environment in which to invest new cash
contributed to the decline. The inflow of new cash for the twelve month period
between the second quarter of 2001 and the second quarter of 2002 was invested
at rates that were lower than the overall portfolio earnings rate during the
second quarter of 2001. The following table summarizes the Company's investment
results for the periods indicated.
Three Months Ended Six Months Ended
As of As of As of As of
June 30, 2002 June 30, 2001 June 30, 2002 June 30, 2001
--------------------------------------------------------------------------------------------
Yield Amount Yield Amount Yield Amount Yield Amount
--------------------------------------------------------------------------------------------
(in millions) (in millions) (in millions) (in millions)
General account assets-excluding
Policy loans
Gross income 6.87% $ 907.8 7.72% $ 907.0 6.90% $ 1,822.1 7.90% $ 1,857.8
Ending assets-excluding policy
loans 54,298.5 48,534.1 54,298.5 48,534.1
Policy loans
Gross income 6.19% 29.9 6.18% 29.4 6.09% 58.8 6.24% 59.4
Ending assets 1,937.3 1,914.1 1,937.3 1,914.1
Total gross income 6.85% 937.7 7.66% 936.4 6.87% 1,880.9 7.84% 1,917.2
Less: investment expenses 48.9 22.5 104.4 85.3
------------ -------------- ------------- --------------
Net investment income 6.49% $ 888.8 7.47% $ 913.9 6.49% $ 1,776.5 7.49% $ 1,831.9
============ ============== ============= ==============
Impairments: The Company has a process in place to identify securities
that could potentially have an impairment that is other than temporary. This
process involves monitoring market events that could impact issuers' credit
ratings, business climate, management changes, litigation and government
actions, and other similar factors. This process also involves monitoring late
payments, downgrades by rating agencies, key financial ratios, financial
statements, revenue forecasts and cash flow projections as indicators of credit
issues.
56
JOHN HANCOCK LIFE INSURANCE COMPANY
At the end of each quarter, our Investment Review Committee reviews all
securities trading below ninety cents on the dollar, to determine whether
impairments need to be taken. This committee includes the head of workouts, the
head of each industry team, and the head of portfolio management. The analysis
focuses on each company's or project's ability to service its debts in a timely
fashion and the length of time the security has been trading below cost. To
supplement this process, a bi-annual review is made of the entire fixed maturity
portfolio to assess credit quality, including a review of all impairments with
the Committee of Finance, a subcommittee of the Board of Directors.
The Company considers relevant facts and circumstances in evaluating
whether the impairment of a security is other than temporary. Relevant facts and
circumstances considered include (1) the length of time the fair value has been
below cost; (2) the financial position of the issuer, including the current and
future impact of any specific events; and (3) the Company's ability and intent
to hold the security to maturity or until it recovers in value. To the extent
the Company determines that a security is deemed to be other than temporarily
impaired, the difference between amortized cost and fair value would be charged
to earnings.
There are a number of significant risks and uncertainties inherent in the
process of monitoring impairments and determining if an impairment is other than
temporary. These risks and uncertainties include (1) the risk that our
assessment of an issuer's ability to meet all of its contractual obligations
will change based on changes in the credit characteristics of that issuer, or
(2) the risk that the economic outlook will be worse than expected or have more
of an impact on the issuer than anticipated, and (3) the risk that new
information obtained by us or changes in other facts and circumstances lead us
to change our intent to hold the security to maturity or until it recovers in
value.
Any of these situations could result in a charge to earnings in a future
period to the extent of the impairment charge recorded. Because the majority of
our portfolio is classified as available-for-sale and held at fair value with
the related unrealized gains (losses) recorded in shareholders' equity, the
charge to earnings would not have a significant impact on shareholders' equity.
As disclosed on page 32 of our MD&A, the Company recorded losses on fixed
maturity securities of $265.2 million in the first six months of 2002, which
were driven primarily by write-downs and sales of securities. The following
lists shows the largest losses, the related circumstances giving rise to the
loss and a discussion of how those circumstances impacted other material
investments held. Unless noted otherwise, all of the items shown are impairments
of securities held at June 30, 2002.
o $45.5 million on securities issued by the holding company of a large
domestic power producer that was downgraded to below investment
grade status in July due to liquidity concerns. We also hold senior
debt at various projects of this producer that is supported by the
cash flows of those projects and does not depend on the financial
support of the parent
o $35.3 million on issuers affiliated with the Argentina government
and other investments in that country, due to the continued
political and economic difficulties of that country. We hold a
number of other investments in Argentina that we expect to collect
according to the original terms of the agreements. They consist of
mainly oil and gas investments dependent upon dollar based flows. We
currently intend to hold these until they recover or mature.
o $26.1 million on securities issued by a large telecommunications
company that filed for bankruptcy in July. $22.0 million of this
amount was the loss on the sale of holdings that were sold in
response to the issuer losing its investment grade rating. While the
issuer had specific issues related to the classification of expenses
and possible fraud, the telecommunications industry in general is
under extreme pressure. Our exposure in this sector has typically
been limited to large investment grade names with solid assets
backing the investments. We continue to carefully monitor
developments within the sector.
o $23.9 million of issuers affiliated with a large energy company that
filed for bankruptcy in late 2001. We hold additional investments in
the issuer, that are typically backed by cash generating assets. We
currently believe the cash flows from the various projects support
the impaired value of our claims. We intend to work through the
bankruptcy process and ultimately recover our impaired values on
these investments.
o $22.2 million on structured financings as a result of ongoing
negotiations with a borrower to restructure debt. We hold additional
investments with this issuer backed by collateral. The loan to value
ratios for these investments, at 40-50%, provide adequate protection
against loss and we currently intend to hold these investments until
they recover in value or mature.
57
JOHN HANCOCK LIFE INSURANCE COMPANY
o $19.2 million on redeemable preferred stock of a technology based
manufacturer of engineering products with a tight liquidity
position. The circumstances of this impairment have no impact on
other investments.
o $18.4 million on securities of an Australian power project that
failed to produce the benefits expected from the deregulation of
that country's power industry. The circumstances of this impairment
have no impact on other investments.
o $15.0 million on redeemable preferred stock of a large domestic farm
cooperative due to the cyclical nature of the business and a heavy
debt load. The circumstances of this impairment have no impact on
other investments.
o $9.9 million on subordinated private placement securities funding a
toll road between the US and Mexico. We also hold senior securities
in this project. We are working with the regulatory authorities on a
possible resolution to the situation. We currently expect to
continue to be paid on the senior notes according to the terms of
the original agreement and intend to hold the investment until it
recovers or matures.
58
JOHN HANCOCK LIFE INSURANCE COMPANY
Liquidity and Capital Resources
Liquidity describes the ability of a company to generate sufficient cash
flows to meet the immediate capital needs to facilitate business operations. The
assets of the Company consist of a diversified investment portfolio and
investments in operating subsidiaries. The Company's cash flow consists
primarily of premiums, deposits, investment income, results of its operating
subsidiaries and proceeds from the Company's debt offerings (see Note 7 - Debt
and Line of Credit in the Company's 2001 Form 10-K), offset by benefits paid to
contractholders, operating expenses, policyholder dividends to its participating
policyholders and shareholder dividends to it parent company. All of the
outstanding common stock of John Hancock Life Insurance Company is owned by its
parent, an insurance holding company, John Hancock Financial Services, Inc.
State insurance laws generally restrict the ability of insurance companies
to pay cash dividends in excess of prescribed limitations without prior
approval. The Company's limit is the greater of 10% of the statutory surplus at
prior year-end or the prior calendar year's statutory net gain from operations
of the Company. The ability of the Company to pay shareholder dividends is and
will continue to be subject to restrictions set forth in the insurance laws and
regulations of Massachusetts, it domiciliary state. The Massachusetts insurance
law limits how and when the Company can pay shareholder dividends. The Company,
in the future could also be viewed as being commercially domiciled in New York.
If so, dividend payments may also be subject to New York's holding company act
as well as Massachusetts' law. The Company currently does not expect such
regulatory requirements to impair its ability to meet its liquidity and capital
needs.
In March and May of 2002, in accordance with files made with the
Commissioner of Insurance for the Commonwealth of Massachusetts, the Company
paid dividends to its parent, John Hancock Financial Services, Inc., in the
amount of $11.0 million and $100.0 million, respectively. None of these
dividends were classified as extraordinary by state regulators.
Sources of cash for the Company include premiums, deposits and charges on
policies and contracts, investment income, maturing investments, and proceeds
from sales of investment assets. In addition to the need for cash flow to meet
operating expenses, our liquidity requirements relate principally to the
liabilities associated with various life insurance, annuity, and structured
investment products, and to the funding of investments in new products,
processes, and technologies. Product liabilities include the payment of benefits
under life insurance, annuity and structured investment products and the payment
of policy surrenders, withdrawals and policy loans. The Company periodically
adjusts its investment policy to respond to changes in short-term and long-term
cash requirements and provide adequate funds to pay benefits without forced
sales of investments.
The liquidity of our insurance operations is also related to the overall
quality of our investments. As of June 30, 2002, $35,325.1 million, or 87.9% of
the fixed maturity securities held by us and rated by Standard & Poor's Ratings
Services, a division of the McGraw-Hill Companies, Inc. (S&P) or the National
Association of Insurance Commissioners were rated investment grade (BBB or
higher by S&P or 1 or 2 by the National Association of Insurance Commissioners).
The remaining $4,850.7 million, or 12.1%, of fixed maturity investments were
rated non-investment grade. For additional discussion of our investment
portfolio see the General Account Investments section on page 49 in this
Management's Discussion and Analysis of Financial Condition and Results of
Segment Operations.
We employ an asset/liability management approach tailored to the specific
requirements of each of our product lines. Each product line has an investment
strategy based on the specific characteristics of the liabilities in the product
line. As part of this approach, we develop investment policies and operating
guidelines for each portfolio based upon the return objectives, risk tolerance,
liquidity, and tax and regulatory requirements of the underlying products and
business segments.
Net cash provided by operating activities was $1,287.8 million and
$1,229.0 million for the six months ended June 30, 2002 and 2001, respectively.
Cash flows from operating activities are affected by the timing of premiums
received, fees received and investment income. The increase in the six months
ended June 30, 2002 compared to 2001 resulted primarily from increased fees and
investment income, partially offset by increased expense payments, higher
benefit payments and a smaller increase to income taxes.
Net cash used in investing activities was $3,504.0 million compared to
$4,025.5 million for the six months ended June
59
JOHN HANCOCK LIFE INSURANCE COMPANY
30, 2002 and 2001, respectively. Changes in the cash provided by investing
activities primarily relate to the management of the Company's investment
portfolios and the investment of excess capital generated by operating and
financing activities. The decrease in cash used in the six months ended June 30,
2002 as compared to 2001 is primarily due to fewer net acquisitions of fixed
maturities during the period. Somewhat offsetting the Company's decreased net
acquisition of fixed maturities of $1,438.5 million, were increases to net
acquisitions of short-term securities, mortgages and other assets net of other
liabilities.
Net cash provided by financing activities was $1,801.1 million and $722.8
million for the six months ended June 30, 2002 and 2001, respectively. Changes
in cash provided by financing activities primarily relate to excess deposits or
withdrawals under investment type contracts, the issuance of debt and borrowings
or re-payments of the Company's debt. The $1,078.3 million increase in net cash
provided by financing activities for the six months ended June 30, 2002 as
compared to 2001 was driven primarily by a $857.6 million increase in deposits
in universal life and investment-type contracts in 2002 net of maturities and
withdrawals as compared to the prior year period. Additional sources of cash
from financing activities derived from a reduction to the dividend payments made
to John Hancock Financial Services, Inc., the parent holding company of John
Hancock Life Insurance Company in the first six months of 2002 as compared to
same period in 2001.
Cash flow requirements also are supported by a committed line of credit of
$1.0 billion, through a syndication of banks including Fleet National Bank, The
JPMorgan Chase, Citicorp USA, Inc., The Bank of Nova Scotia, Fleet Securities,
Inc., and J.P. Morgan Securities Inc. The line of credit agreement provides for
two facilities: one for $500 million pursuant to a 364-day commitment (renewed
effective July 26, 2002) and a second for $500 million (renewable in 2005). The
line of credit is available for general corporate purposes. The line of credit
agreement contains various covenants, among these being that statutory total
capital and surplus plus asset valuation reserve meet certain requirements. To
date, we have not borrowed any amounts under the line of credit.
As of June 30, 2002, we had $645.7 million of debt outstanding consisting
of $39.1 million of debt classified as short-term and $606.6 million classified
as long-term, including $447.3 million of surplus notes. A new commercial paper
program has been established at John Hancock Financial Services, Inc., the
Company's parent, that has replaced the commercial paper program that was in
place at John Hancock Capital Corporation, the Company's subsidiary. As of May
1, 2001, all commercial paper issued by John Hancock Capital Corporation had
been retired.
The risk-based capital standards for life insurance companies, as
prescribed by the National Association of Insurance Commissioners, establish a
risk-based capital ratio comparing adjusted surplus to required surplus for the
Company and each of our United States domiciled insurance subsidiaries. If the
risk-based capital ratio falls outside of acceptable ranges, regulatory action
may be taken ranging from increased information requirements to mandatory
control by the domiciliary insurance department. The Company's risk-based
capital ratios of all our insurance subsidiaries as of year end were
significantly above the ranges that would require regulatory action.
We maintain reinsurance programs designed to protect against large or
unusual losses. Based on our review of our reinsurers' financial statements and
reputations in the reinsurance marketplace, we believe that our reinsurers are
financially sound, and, therefore, that we have no significant exposure to
uncollectible reinsurance in excess of uncollectible amounts already recognized
in our unaudited consolidated financial statements.
Given the historical cash flow of our subsidiaries and current financial
results, management believes that the cash flow from the operating activities
over the next year will provide sufficient liquidity for our operations, as well
as to satisfy debt service obligations and to pay other operating expenses.
Although we anticipate that we will be able to meet our cash requirements, we
can give no assurances in this regard.
60
JOHN HANCOCK LIFE INSURANCE COMPANY
Forward-Looking Statements
The statements, analyses, and other information contained herein relating
to trends in the John Hancock Life Insurance Company's (the Company's)
operations and financial results, the markets for the Company's products, the
future development of the Company's business, and the contingencies and
uncertainties to which the Company may be subject, as well as other statements
including words such as "anticipate," "believe," "plan," "estimate," "expect,"
"intend," "will," "should," "may," and other similar expressions, are
"forward-looking statements" under the Private Securities Litigation Reform Act
of 1995. Such statements are made based upon management's current expectations
and beliefs concerning future events and their effects on the Company. Future
events and their effects on the Company may not be those anticipated by
management. The Company's actual results may differ materially from the results
anticipated in these forward-looking statements.
These forward-looking statements are subject to risks and uncertainties
including, but not limited to, the risks that (1) a significant downgrade in our
ratings for claims-paying ability and financial strength may lead to policy and
contract withdrawals and materially harm our ability to market our products; (2)
new laws and regulations, including the recently-enacted Sarbanes-Oxley Act of
2002, or changes to existing laws or regulations, (including, but not limited
to, those relating to the Federal Estate Tax Laws), and the applications and
interpretations given to these laws, may adversely affect the Company's sales of
insurance and investment advisory products (3) Massachusetts insurance law may
restrict the ability of John Hancock Variable Life Insurance Company to pay
dividends to us; (4) we face increasing competition in our retail businesses
from mutual fund companies, banks and investment management firms as well as
from other insurance companies; (5) a decline or increased volatility in the
securities markets, and other economic factors, may adversely affect our
business, particularly our variable life insurance, mutual fund, variable
annuity and investment business; (6) due to acts of terrorism or other
hostilities, there could be business disruption, economic contraction, increased
mortality, morbidity and liability risks, generally, or investment losses that
could adversely affect our business; (7) our life insurance sales are highly
dependent on a third party distribution relationship; (8) customers may not be
responsive to new or existing products or distribution channels, (9) interest
rate volatility may adversely affect our profitability; (10) our net income and
revenues will suffer if customers surrender annuities and variable and universal
life insurance policies or redeem shares of our open-end mutual funds; (11) the
independent directors of our variable series trusts and of our mutual funds
could reduce the compensation paid to us or could terminate our contracts to
manage the funds; (12) under our Plan of Reorganization, we were required to
establish the closed block, a special arrangement for the benefit of a group of
our policyholders. We may have to fund deficiencies in our closed block, and any
overfunding of the closed block will benefit only the holders of policies
included in the closed block, not our sole shareholder; (13) we will face losses
if the claims on our insurance products, or reductions in rates of mortality on
our annuity products, are greater than we projected; (14) we face investment and
credit losses relating to our investment portfolio (15) we may experience
volatility in net income due to changes in standards for accounting for
derivatives and other changes; (16) we are subject to risk-based capital
requirements and possible guaranty fund assessments; (17) the National
Association of Insurance Commissioners' codification of statutory accounting
practices affected our statutory surplus; (18) we may be unable to retain
personnel who are key to our business; (19) we may incur losses from assumed
reinsurance business in respect of personal accident insurance and the
occupational accident component of workers compensation insurance; (20)
litigation and regulatory proceedings may result in financial losses, harm our
reputation and divert management resources, and (21) we face unforeseen
liabilities arising from our acquisitions and dispositions of businesses. (22)
we may incur multiple life insurance claims as a result of a catastrophic event
which, because of higher deductibles and lower limits could adversely affect the
Company's future net income and financial position.
Readers are also directed to other risks and uncertainties discussed, as
well as to further discussion of the risks described above, in other documents
that may be filed by the Company with the United States Securities and Exchange
Commission from time to time. The Company specifically disclaims any obligation
to update or revise any forward-looking information, whether as a result of new
information, future developments, or otherwise.
61
JOHN HANCOCK LIFE INSURANCE COMPANY
ITEM 3. QUANTITATIVE and QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Capital Markets Risk Management
The Company maintains a disciplined, comprehensive approach to managing
capital market risks inherent in its business operations. To mitigate these
risks, and effectively support Company objectives, investment operations are
organized and staffed to focus investment management expertise on specific
classes of investments, with particular emphasis placed on private placement
markets. In addition, a dedicated unit of asset / liability risk management
(ALM) professionals centralizes the implementation of its interest rate risk
management program. As an integral component of its ALM program, derivative
instruments are used in accordance with risk reduction techniques established
through Company policy and with formal approval granted from the New York
Insurance Department. The Company's use of derivative instruments is monitored
on a regular basis by senior management and reviewed quarterly with the
Company's Committee of Finance.
The Company's principal capital market exposures are credit and interest
rate risk, although we have certain exposures to changes in equity prices and
foreign currency exchange rates. Credit risk pertains to the uncertainty
associated with the ability of an obligor or counterparty to continue to make
timely and complete payments of contractual principal and/or interest. Interest
rate risk pertains to the market value fluctuations that occur within fixed
maturity securities or liabilities as market interest rates move. Equity and
foreign currency risk pertain to price fluctuations, associated with the
Company's ownership of equity investments or non-US dollar denominated
investments, driven by dynamic market environments.
Credit Risk
The Company manages the credit risk inherent in its fixed maturity
securities by applying strict credit and underwriting standards, with specific
limits regarding the proportion of permissible below investment grade holdings.
We also diversify our fixed maturity securities with respect to investment
quality, issuer, industry, geographical, and property-type concentrations. Where
possible, consideration of external measures of creditworthiness, such as
ratings assigned by nationally recognized rating agencies, supplement our
internal credit analysis. The Company uses simulation models to examine the
probability distribution of credit losses to ensure that it can readily
withstand feasible adverse scenarios. In addition, the Company periodically
examines, on various levels of aggregation, its actual default loss experience
on significant asset classes to determine if the losses are consistent with the
(1) levels assumed in product pricing, (2) ACLI loss experience and (3) rating
agencies' quality-specific cohort default data. These tests have generally found
the Company's aggregate experience to be favorable relative to these external
benchmarks and consistent with priced for levels.
The Company has a process in place to identify securities that could
potentially have an impairment that is other than temporary. This process
involves monitoring market events that could impact issuers' credit ratings,
business climate, management changes, litigation and government actions, and
other similar factors. This process also involves monitoring late payments,
downgrades by rating agencies, key financial ratios, financial statements,
revenue forecasts and cash flow projections as indicators of credit issues.
At the end of each quarter, our Investment Review Committee reviews all
securities trading below ninety cents on the dollar, to determine whether
impairments need to be taken. This committee includes the head of workouts, the
head of each industry team, and the head of portfolio management. The analysis
focuses on each company's or project's ability to service its debts in a timely
fashion and the length of time the security has been trading below cost. The
results of this analysis are reviewed with the Committee of Finance each
quarter. To supplement this process, a bi-annual review is made of the entire
fixed maturity portfolio to assess credit quality, including a review of all
impairments with the Committee of Finance.
The Company considers relevant facts and circumstances in evaluating
whether the impairment of a security is other than temporary. Relevant facts and
circumstances considered include (1) the length of time the fair value has been
below cost; (2) the financial position of the issuer, including the current and
future impact of any specific events; and (3) the Company's ability and intent
to hold the security to maturity or until it recovers in value. To the extent
the Company determines that a security is deemed to be other than temporarily
impaired, the difference between amortized cost and fair value would be charged
to earnings.
62
JOHN HANCOCK LIFE INSURANCE COMPANY
There are a number of significant risks and uncertainties inherent in the
process of monitoring impairments and determining if an impairment is other than
temporary. These risks and uncertainties include (1) the risk that our
assessment of an issuer's ability to meet all of its contractual obligations
will change based on changes in the credit characteristics of that issuer, (2)
the risk that the economic outlook will be worse than expected or have more of
an impact on the issuer than anticipated and (3) the risk that new information
obtained by us or changes in other facts and circumstances lead us to change our
intent to hold the security to maturity or until it recovers in value.
Any of these situations could result in a charge to earnings in a future
period to the extent of the impairment charge recorded. Because the majority of
our portfolio is classified as available-for-sale and held at fair value with
the related unrealized gains (losses) recorded in shareholders' equity, the
charge to earnings would not have a significant impact on shareholders' equity.
As of June 30, 2002 and December 31, 2001, the Company's fixed maturity
portfolio was comprised of 87.9% and 87.4% investment grade securities and 12.1%
and 12.6% below-investment-grade securities, respectively. These percentages are
consistent with recent experience and indicative of the Company's long-standing
investment philosophy of pursuing moderate amounts of credit risk in return for
higher expected returns. We believe that credit risk can be successfully managed
given our proprietary credit evaluation models and experienced personnel.
Interest Rate Risk
The Company maintains a tightly controlled approach to managing its
potential interest rate risk. Interest rate risk arises from many of our primary
activities, as we invest substantial funds in interest-sensitive assets to
support the issuance of our various interest-sensitive liabilities, primarily
within our Protection, Asset Gathering and Guaranteed & Structured Financial
Products Segments.
The Company manages interest rate sensitive segments of the business, and
the supporting investments, under one of two broadly defined risk management
methods designed to provide an appropriate matching of assets and liabilities.
For guaranteed rate products, where contractual liability cash flows are highly
predictable (e.g., GICs or immediate annuities) sophisticated duration-matching
techniques are utilized to manage the segment's exposure to both parallel and
non-parallel yield curve movements. Typically this type of management is
expressed as a targeted duration mismatch of zero with an operational tolerance
of only +/- 18 days, with other measures used for limiting exposure to
non-parallel risk. For non-guaranteed rate products, such as whole life
insurance or single premium deferred annuities, liability cash flows are less
predictable. Therefore, a conventional duration-matching strategy is less
effective at managing the inherent risk. For these products, we manage interest
rate risk based on scenario-based portfolio modeling that seeks to identify the
most appropriate investment strategy given probable policyholder behavior and
liability crediting needs under a wide range of interest rate environments.
We project asset and liability cash flows on guaranteed rate products and
then discount them against credit-specific interest rate curves to attain fair
values. Duration is then calculated by re-pricing these cash flows against a
modified or "shocked" interest rate curve and evaluating the change in fair
value versus the base case. As of June 30, 2002 and December 31, 2001, the fair
value of fixed maturity securities and mortgage loans supporting duration
managed liabilities was approximately $30,655.9 million and $27,788.4 million,
respectively. Based on the information and assumptions we use in our duration
calculations in effect as of December 31, 2001, we estimate that a 100 basis
point immediate, parallel increase in interest rates ("rate shock") would have
no effect on the net fair value, or surplus, of our duration managed assets and
liabilities based on our targeted mismatch of zero, but could be -/+ $14.7
million based on our operational tolerance of +/- 18 days years.
The risk management method for non-guaranteed rate products, such as whole
life insurance or single premium deferred annuities, is less formulaic, but more
complex, due to the less predictable nature of the liability cash flows. For
these products, we manage interest rate risk based on scenario-based portfolio
modeling that seeks to identify the most appropriate investment strategy given
probable policyholder behavior and liability crediting needs under a wide range
of interest rate environments. As of June 30, 2002 and December 31, 2001, the
fair value of fixed maturity securities and mortgage loans supporting
liabilities managed under this modeling was approximately $29,453.7 million and
$23,091.2 million, respectively. A rate shock (as defined above) would decrease
the fair value of these assets by $953.9 million, which we estimate would be
offset by a comparable change in the fair value of the associated liabilities,
thus minimizing the impact on surplus.
63
JOHN HANCOCK LIFE INSURANCE COMPANY
As of June 30, 2002, there have been no material changes to the interest
rate exposures as reported in the Company's 2001 Form 10-K, as amended.
Derivative Instruments
The Company uses a variety of derivative financial instruments, including
swaps, caps, floors, and exchange traded futures contracts, in accordance with
Company policy. Permissible derivative applications include the reduction of
economic risk (i.e., hedging) related to changes in yields, price, cash flows,
and currency exchange rates. In addition, certain limited applications of
"income generation" are allowed. Examples of this type of use include the
purchase of call options to offset the sale of embedded options in Company
liability issuance or the purchase of swaptions to offset the purchase of
embedded put options in certain investments. The Company does not make a market
or trade derivatives for the purpose of speculation.
The Company's Investment Compliance Unit monitors all derivatives activity
for consistency with internal policies and guidelines. All derivatives trading
activity is reported monthly to the Company's Committee of Finance for review,
with a comprehensive governance report provided jointly each quarter by the
Company's Derivatives Supervisory Officer and Chief Investment Compliance
Officer. The table below reflects the Company's derivative positions that are
managing interest rate risk as of June 30, 2001. The notional amounts in the
table represent the basis on which pay or receive amounts are calculated and are
not reflective of credit risk. These exposures represent only a point in time
and will be subject to change as a result of ongoing portfolio and risk
management activities.
As of June 30, 2002
----------------------------------------------------------------------------------------------------
Fair Value
------------------------------------------------------------
Weighted
Notional Average Term -100 Basis Point As of +100 Basis Point
Amount (Years) Change (2) 6/30/02 Change (2)
----------------------------------------------------------------------------------------------------
(in millions, except for weighted average term)
Interest rate swaps........ $ 19,449.5 9.1 $ (574.9) $ (523.7) $ (401.1)
CMT swaps.................. 293.0 0.7 5.4 5.4 5.3
Futures contracts (1)...... 229.1 6.9 5.2 -- (5.6)
Interest rate caps......... 291.6 4.8 1.2 2.5 5.1
Interest rate floors....... 8,203.0 7.9 149.5 68.5 62.1
Swaptions.................. 30.0 22.9 (13.0) (1.3) (1.8)
--------------------- ------------------------------------------------------------
Totals.................. $ 28,496.2 8.6 $ (426.6) $ (448.6) $ (336.0)
===================== ============================================================
(1) Represents the notional value of open contracts as of June 30, 2002.
(2) The selection of a 100 basis point immediate change in interest rates
should not be considered as a prediction by us of future market events but
rather as an illustration of the potential impact of such an event.
Our non-exchange-traded derivatives are exposed to the possibility of loss
from a counterparty failing to perform its obligations under terms of the
derivative contract. We believe the risk of incurring losses due to
nonperformance by our counterparties is remote. To manage this risk, Company
procedures include the (a) on-going evaluation of each counterparty's credit
ratings, (b) the application of credit limits and monitoring procedures based on
an internally developed, scenario-based, risk assessment system, (c) monthly
reporting of each counterparty's "potential exposure", (d) master netting
agreements and, where appropriate, (e) collateral agreements. Futures contracts
trade on organized exchanges and, therefore, have effectively no credit risk.
64
JOHN HANCOCK LIFE INSURANCE COMPANY
ITEM 1. LEGAL PROCEEDINGS
On July 19, 2002, the Company announced it had entered into a class action
lawsuit settlement agreement involving policyholders who paid premiums on a
monthly, quarterly or semiannual basis, rather than annually. The class action
lawsuit, known as the "Modal Premium" action, was filed in a New Mexico state
court and is applicable to all United States policyholders in the class. As a
result of the settlement, the Company has established a $30.0 million reserve as
of June 30, 2002 to provide for relief to class members and for legal and
administrative costs associated with the settlement. In entering into the
settlement, the Company specifically denied any wrongdoing. Although some
uncertainty remains as to the entire cost of claims, it is expected that the
final cost of the settlement will not differ materially from the amounts
presently provided for by the Company.
ITEM 6. EXHIBITS and REPORTS on FORM 8-K
(a) Exhibits
Exhibit
Number Description
- ------- -----------
10.16 Second Amendment dated as of July 26, 2002 to the $1,000,000,000
Credit Agreement dated as of August 3, 2000, as amended, among John
Hancock Financial Services, Inc., John Hancock Life Insurance
Company, The Banks listed therein, Fleet National Bank, as
Co-Administrative Agent, JPMorgan Chase, as Co-Administrative Agent,
Citicorp USA, Inc., as Syndication Agent, The Bank of New York, as
Co-Documentation Agent (364-Day Revolver) and The Bank of Nova
Scotia, as Co-Documentation Agent (364-Day Revolver)and Fleet
Securities, Inc., and J.P. Morgan Securities, Inc., as Joint
Bookrunners and Joint Lead Arrangers. (*)
- ----------------
(*) Previously filed as an exhibit to the John Hancock Financial Services,
Inc.'s quarterly report on Form 10-Q/A for the quarter ended June 30,
2002, and incorporated by reference herein.
(b) Reports on Form 8-K.
There were no reports on Form 8-K required to be filed during the second
quarter of 2002.
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JOHN HANCOCK LIFE INSURANCE COMPANY
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, the Registrant has duly caused this Report to be signed on its behalf
by the undersigned thereunto duly authorized.
JOHN HANCOCK LIFE INSURANCE COMPANY
Date: August 14, 2002 By:/s/ THOMAS E. MOLONEY
---------------------
Thomas E. Moloney
Senior Executive Vice President and
Chief Financial Officer
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