Realized investment gains and losses related to derivative financial instruments primarily represent changes in the fair values of certain derivative financial instruments.
The recorded amounts that reflect overpayments to be recovered in the future are estimates. Therefore, new information relating to the recovery of such amounts could result in Protective increasing (decreasing) its estimates of the amounts to be recovered, or Protective could receive more (less) than the recorded amounts, which, in either event, could result in an additional positive (negative) effect on future income.
The Asset Protection segment had pretax operating losses of $15.2 million in 2002, $50.9 million lower than 2001. The decrease included the $30.9 million charge discussed above. The segment also experienced lower service contract administration fees of $2.8 million and lower earned credit premium that reduced income $5.8 million. Higher loss ratios in the vehicle service contract line lowered earnings $2.8 million. Also, higher loss ratios in the segment’s ancillary lines led to higher losses of $6.1 million in 2002. Included in the segment’s pretax income for 2002 was $2.7 million of income-related to the sale of an inactive charter of a small subsidiary compared to $2.0 million for a charter sale in 2001. In addition, the 2001 reserve estimate change did not recur in 2002. All other items decreased 2002 operating income by $3.5 million.
Income Tax Expense The following table sets forth the effective income tax rates relating to continuing operations for the periods shown:
In January, 2003, the FASB issued FIN 46 “Consolidation of Variable Interest Entities.” FIN 46 clarifies the application of Accounting Research Bulletin No. 51, “Consolidated Financial Statements,” to certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated support from other parties. Protective is currently assessing the impact that FIN 46 will have on its financial condition and results of operations. FIN 46 potentially will affect the accounting related to a lease arrangement currently accounted for as an operating lease that also involves a special purpose vehicle (SPV). Although Protective does not expect the provisions of FIN 46 to have a material impact on its results of operations, had the provision been effective at December 31, 2002, Protective’s reported assets and liabilities would have increased by approximately $75 million.
In our opinion, the consolidated financial statements listed in the accompanying index present fairly, in all material respects, the financial position of Protective Life Insurance Company and Subsidiaries at December 31, 2002 and 2001, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2002, in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedules listed in the accompanying index present fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. These financial statements and financial statement schedules are the responsibility of Protective’s management; our responsibility is to express an opinion on these financial statements and financial statement schedules based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS No. 144 requires that the same accounting model be used for long-lived assets to be disposed of by sale, whether previously held and used or newly acquired, expands the use of discontinued operations accounting to include more types of transactions and changes the timing of when discontinued operations accounting is applied. Protective adopted SFAS No. 144 on January 1, 2002, and the adoption did not have a material effect on Protective's financial position or results of operations.
DERIVATIVE FINANCIAL INSTRUMENTS Protective utilizes a risk management strategy that incorporates the use of derivative financial instruments, primarily to reduce its exposure to interest rate risk as well as currency exchange risk.
2002 2001 ---------------------------------- Home office building.................................... $ 45,297 $ 42,980 Other, principally furniture and equipment.............. 67,059 67,128 --------- --------- 112,356 110,108 Accumulated depreciation................................ 73,478 63,771 --------- --------- $ 38,878 $ 46,337 ========= =========
• Traditional Life, Health, and Credit Insurance Products - Traditional life insurance products consist principally of those products with fixed and guaranteed premiums and benefits, and include whole life insurance policies, term and term-like life insurance policies, limited-payment life insurance policies, and certain annuities with life contingencies. Life insurance and immediate annuity premiums are recognized as revenue when due. Health and credit insurance premiums are recognized as revenue over the terms of the policies. Benefits and expenses are associated with earned premiums so that profits are recognized over the life of the contracts. This is accomplished by means of the provision for liabilities for future policy benefits and the amortization of deferred policy acquisition costs. Gross premiums in excess of net premiums related to immediate annuities are deferred and recognized over the life of the policy.
2002 2001 2000 -------------------------------------- Balance beginning of year...................................... $100,023 $109,973 $120,575 Less reinsurance....................................... 33,723 25,830 47,661 --------- --------- --------- Net balance beginning of year.............................. 66,300 84,143 72,914 --------- --------- --------- Incurred related to: Current year............................................... 258,612 383,371 311,633 Prior year................................................. (338) (1,080) (4,489) --------- --------- --------- Total incurred......................................... 258,274 382,291 307,144 --------- --------- ---------
Under pre-1984 life insurance company income tax laws, a portion of Protective’s gain from operations which was not subject to current income taxation was accumulated for income tax purposes in a memorandum account designated as Policyholders’ Surplus. The aggregate accumulation in this account at December 31, 2002 was approximately $70.5 million. Should the accumulation in the Policyholders’ Surplus account exceed certain stated maximums, or should distributions including cash dividends be made to PLC in excess of approximately $1.1 billion, such excess would be subject to federal income taxes at rates then effective. Deferred income taxes have not been provided on amounts designated as Policyholders’ Surplus. Under current income tax laws, Protective does not anticipate paying income tax on amounts in the Policyholders’ Surplus accounts.
Summarized below are the consolidated results of operations for 2002 and 2001, on an unaudited pro forma basis, as if the Inter-State, First Variable, and Conseco transactions had occurred as of January 1, 2001. The pro forma information is based on Protective’s consolidated results of operations for 2002 and 2001, and on data provided by the acquired companies, after giving effect to certain pro forma adjustments. The pro forma financial information does not purport to be indicative of results of operations that would have occurred had the transaction occurred on the basis assumed above nor are they indicative of results of the future operations of the combined enterprises.
Note J - RELATED PARTY MATTERS On August 6, 1990, PLC announced that its Board of Directors approved the formation of an Employee Stock Ownership Plan (ESOP). On December 1, 1990, Protective transferred to the ESOP 520,000 shares of PLC’s common stock held by it in exchange for a note. The outstanding balance of the note, $3.8 million at December 31, 2002, is accounted for as a reduction to share-owner’s equity. The stock will be used to match employee contributions to PLC’s existing 401(k) Plan. The ESOP shares are dividend paying. Dividends on the shares are used to pay the ESOP’s note to Protective.
Certain corporations with which PLC’s directors were affiliated paid Protective premiums and policy fees or other amounts for various types of insurance and investment products. Such premiums, policy fees, and other amounts totaled $16.0 million, $19.6 million and $50.9 million in 2002, 2001, and 2000, respectively. Protective and/or PLC paid commissions, interest on debt and investment products, and fees to these same corporations totaling $1.6 million, $5.9 million and $28.2 million in 2002, 2001, and 2000, respectively.
Premiums and policy fees: Life insurance.................................... $ 774,294 $ 565,130 $ 198,832 $ 407,996 48.7% Accident and health insurance..................... 181,508 122,747 58,761 0.0% Property and liability insurance.................. 158,890 83,274 76,295 151,911 50.2% ------------ ------------ ----------- ----------- TOTAL $ 1,114,692 $ 771,151 $ 275,127 $ 618,668 ============ ============ =========== ===========
Premiums and policy fees: Life insurance.................................... $ 670,113 $ 493,793 $ 112,668 $ 288,988 39.0% Accident and health insurance..................... 203,475 128,520 17,164 92,119 18.6% Property and liability insurance.................. 159,354 63,795 13,169 108,728 12.1% ------------ ------------ ----------- ----------- TOTAL......................................... $ 1,032,942 $ 686,108 $ 143,001 $ 489,835 ============ ============ =========== ===========