Diluted earnings per share $ (0.64 ) $ (1.58 ) $ (3.41 ) $ 2.61
GAAP loss ratio 95.2 % 74.5 % 196.3 % 79.6 %
Morbidity based upon past Company experience and industry data. We also include as estimate for improving morbidity trends in the general population.
Our principal products are individual, defined benefit accident and health insurance policies that consist of nursing home care, home health care and Medicare supplement.Our insurance subsidiaries are subject to the insurance laws and regulations of the states in which they are licensed to write insurance. These laws and regulations govern matters such as payment of dividends, settlement of claims and loss ratios. State regulatory authorities must approve premiums charged for insurance products. In addition, our insurance subsidiaries are required to establish and maintain reserves with respect to reported and incurred but not reported claims, as well as estimated future benefits payable under our insurance policies. These reserves must, at a minimum, comply with mandated standards. Our reserves are certified annually by our consulting actuary as to standards required by the insurance departments for our domiciliary states and for the other states in which we conduct business. We believe we maintained adequate reserves as mandated by each state in which we are currently writing business at September 30, 2003. For a description of current regulatory matters affecting our insurance subsidiaries, see “Liquidity and Capital Resources - Subsidiary Operations.”
During the 2002 period the interest rates on the underlying investments in the benchmark indices supporting our notional experience account were declining, resulting in a market gain. During the 2003 period, although interest rates were volatile during the year, interest rates at the beginning and end of the year were relatively unchanged.
The total return of the Lehman Brothers US Aggregate Bond Index was 10.26% and 8.44% for 2002 and 2001, respectively. The total return on our experience account, which comprises the majority of our investible assets, was 15.65% in the 2002 period and the total return of our fixed income portfolio in 2001 was 8.92%. Management attributes the favorable return achieved from its experience account in 2002 to a longer duration of the underlying benchmark indices, which were positively impacted by declining market interest rates during 2002. The performance of our portfolio in 2001, which did not include an experience account, was similar to the total return of the Lehman Brothers US Aggregate Bond Index.
To estimate reserves for future claims payments more precisely, we have refined our assumptions and processes for developing these reserves. During the third quarter, we completed an analysis of the adverse deviation recognized in the past development of our reserves for current claims. As a result of this analysis, our actuarial modeling suggested that future claim payments would likely exceed our past assumptions, which, if unaddressed, could continue to cause future adverse deviation.
As a result, we have made two modifications to our process for developing claims reserves:
Commissions. Commissions to agents decreased 40.4% to $45,741 in the 2002 period, compared to $76,805 in the 2001 period.
General and administrative expenses. General and administrative expenses in the 2002 period decreased 5.7% to $46,472, compared to $49,282 in the 2001 period. The ratio of total general and administrative expenses to premium revenues was 13.9% in the 2002 period, compared to 14.1% in the 2001 period. As a result of the adoption of SFAS No. 142 (see “New Accounting Principles”), 2002 expenses were reduced by $1,293, due to the cessation of goodwill amortization. Certain expenses have declined as a result of reduced new premium sales, related underwriting and policy issuance expenses and management initiatives to reduce operating expenses.
In the event we determine that commutation of the reinsurance agreement is unlikely on December 31, 2007, but likely at some future date, we will include additional annual expense risk charge credits against our experience account in our DAC recoverability analysis. As a result, we could impair the value of our DAC asset and record the impairment in our financial statements. However, we currently believe that we will have a sufficient amount of statutory capital and surplus to do so by December 31, 2007 or that sufficient alternatives, such as additional capital issuance or new reinsurance opportunities, are available to enable us to commute the agreement as planned.
The reinsurance agreement also granted the reinsurer an option to participate in reinsuring new business sales on a quota share basis. In August 2002, the reinsurer exercised its option to reinsure up to 50% of future sales, subject to a limitation of the reinsurer’s risk. The reinsurer may continue this level of participation on the next $100 million in new policy premium issued after January 1, 2002. The final agreement, which was entered into in December 2002, further provides the reinsurer the option to reinsure a portion of the next $1 billion in newly issued long-term care annual insurance premium, subject to maximum quota share amounts of up to 40% as additional policies are written.
Management believes the current assumptions and other considerations used to estimate, and evaluate the recoverability of, DAC are appropriate. However, in the event actual experience, including planned rate increases, differs from the assumptions, the Company could recognize an additional impairment of its deferred acquisition costs in the future, which could have a material adverse affect upon its results of operations and financial condition.
The Company amortized $631, $607 and $399 of its cost related to software in 2003, 2002 and 2001, respectively. Depreciation expense on other property and equipment was $1,079, $1,024 and $1,010 for the years ended December 31, 2003, 2002 and 2001, respectively.
Long-lived assets and certain identifiable intangible assets held and used by the Company are reviewed for impairment whenever events or circumstances indicate that the carrying amount may not be recoverable.
Policy reserves have been computed principally by the net premium method based upon estimated future investment yield, mortality, morbidity (claims experience), withdrawals and other benefits. The Company employs a prospective net premium methodology, which incorporates premium rate increases expected to be implemented in the near term in the net premium used to establish policy reserves. The composition of the policy reserves at December 31, 2003 and 2002, and the assumptions pertinent thereto are presented below:
c) The Founding Chairman will continue to provide certain services to the Company for a period of up to two years, in exchange for which the Company will pay him an annual retainer of $100.
These rates were selected based upon current market conditions, company experience, and future company expectations.
Long-term debt - The statement value approximates the fair value of mortgage debt, since the instruments carry interest rates, which approximate market value. The convertible, subordinated debt, as a publicly traded instrument, has a readily accessible fair market value, and, as such is reported at that value. This value incorporates the fair value of the preferred interest on early conversion liability.