Subsidiaries conduct operations in Concord, NH in two buildings on approximately 196 acres owned by JPFIC.
Note: All share information has been restated to reflect an April 1998 3-for-2 stock split and a December 1995 3-for-2 stock split, each effected in the form of a dividend. Cash dividends per share may not add due to rounding related to the splits.
Communications operations are conducted by Jefferson-Pilot Communications Company (JPCC) and consist of radio and television broadcasting operations located in strategically selected markets in the Southeastern and Western United States, and sports program production.
Excluding realized gains, JP's 1999's revenues were derived 66% from Life Insurance Products, 21% from AIP, 8% from Communications and 5% from Corporate and Other.
JP's acquisition strategy is designed to deploy capital to enhance core business growth. The acquisitions focus is to increase distribution, add products, and provide economies of scale. On December 30, 1999 the Company acquired Guarantee. In May 1997, the Company acquired JP Financial. The discussion of these acquisitions and other significant transactions in Note 1 is incorporated by reference.
In the following discussion "Reportable segment results" and "Total reportable segment results" include all elements of net income available to common stockholders except realized gains on sales of investments (realized investment gains). Realized investment gains, as defined, are net of related income taxes and amortization of deferred acquisition costs and value of business acquired. Realized investment gains are included in the "Corporate and Other" segment. Reportable segment results is the basis used by management of the Company in assessing the performance of its business segments. Management believes that Reportable segment results is relevant and useful information. Gains from sales of investments arise in majority from its "available for sale" equity and bond portfolios and may be realized in the sole discretion of management. Reportable segment results as described above may not be comparable to similarly titled measures reported by other companies.
Net income available to common stockholders increased 12.2% in 1999 and 12.9% in 1998. Total reportable segment results increased 12.1% in 1999 and 21.3% in 1998 due to increased profitability in the Life Insurance Products, Communications, and Corporate and Other segments. 1998's increase also reflected the deployment of Corporate capital into the more profitable Life Insurance Products segment. Net realized gains increased 12.9% in 1999 and decreased 21.0% in 1998. 1998's decline occurred because of investment portfolio sales in 1997 to fund the acquisition of JP Financial. Total reportable segment results per share increased 13.3% in 1999 and 21.1% in 1998, reflecting the increase in core business earnings and the impact of share repurchases in 1999. Earnings per share increased 13.2% in 1999 and 12.9% in 1998 and earnings per share assuming dilution increased 13.0% in 1999 and 12.7% in 1998 for the same reasons.
Individual life insurance products include traditional life and disability products, as well as universal life (UL) and variable universal life (VUL), together referred to as UL-type products. The operating cycle for life insurance products is long-term in nature; therefore, actuarial assumptions are important to financial reporting for these policies. Traditional products require the policyholder to pay scheduled premiums over the life of the coverage. Traditional premium receipts are recognized as revenues and profits are expected to emerge in relation thereto. Interest-sensitive product premiums may vary over the life of the policy at the discretion of the policyholder and are not recognized as revenues. Revenues and Reportable segment results on UL-type products arise from mortality, expense and surrender charges to policyholder fund balances (policy charges). Additionally, JP earns interest spreads and investment advisory fees on policyholder fund balances. Reportable segment results for both traditional and UL-type products also includes earnings on required capital.
(1) Expenses include deferrals of deferred acquisition costs and value of business acquired of $222.9, $205.4, $187.3, $114.9 and $80.2, net of amortization of deferred acquisition costs and value of business acquired of $175.2, $151.2, $126.3, $103.1, and $51.3 for the years ended December 31, 1999, 1998, 1997, 1996, and 1995. (2) Reportable segment results include all elements of net income available to common stockholders except realized investment gains.
Life Insurance revenues decreased $104.7 or 6.0% in 1999 because of declines in Group products revenues of $148.8, and increased $38.5 or 2.3% in 1998 due to the JP Financial acquisition, net of Group reductions. Revenues include traditional insurance premiums, policy charges and investment income. Individual revenues increased 3.1% in 1999 and 16.3% in 1998. To a large degree, increases in individual revenues are driven by growth in average policyholder fund balances and separate accounts, which increased 12.7% in 1999 and 26.8% in 1998. Group revenues declined 47.6% in 1999 and 33.9% in 1998, because of actions taken to exit medical insurance.
Life Insurance traditional insurance premiums declined 33.0% and 23.6% in 1999 and 1998 primarily due to decline in premiums of Group medical products. Individual traditional premiums decreased 8.3% in 1999 as recent sales have been more concentrated among UL type products and improved 4.6% in 1998 due in large part to the acquisition of JP Financial. Group traditional premiums declined 51.6% in 1999 and 36.5% in 1998. Including equivalent premiums on self-insured health policies, group premiums were down 60.4% and 30.8%. Policy charges, which include mortality, expense and surrender charges, improved 1.2% in 1999 and 18.6% in
1998. 1999's increase is a result of a 3.5% growth in average face amount of UL type policies in force, partially offset by a 2.9% decline in the average number of Individual life policies in force as recent sales have been more heavily-weighted toward higher face amount policies. Surrender charges declined 7.0% as a result of improved persistency. 1998's growth is a result of the JP Financial acquisition.
Investment income on assets assigned to the Life Insurance segment improved 6.6% and 16.5% in 1999 and 1998, following the growth in segment assets. Total portfolio yields remained constant in 1999 and declined slightly in 1998. The portfolio yield on traditional assets declined 11 basis points in 1999 and 12 basis points in 1998 due to the reduction in older duration policies in force. The average investment spread on UL products (calculated as the difference between portfolio yields earned on invested assets less interest credited to policyholder funds, assuming the same level of invested assets) increased 29 basis points in 1999 to 1.92% and decreased 9 basis points in 1998 to 1.63%. In addition to being impacted by portfolio yields, interest spreads may vary over time due to competitive strategies and changes in product design.
Total expenses (including the net deferral and amortization of policy acquisition costs) decreased 9.2% in 1999 due to continued aggressive expense management versus an increase of 6.8% in 1998 due to acquisitions. Expenses on individual traditional products were 30.0%, 31.3% and 32.8% of premiums in 1999, 1998 and 1997. For UL-type products, expenses as a percentage of average policyholder funds and separate accounts were 2.75%, 2.97% and 3.14% in 1999, 1998 and 1997. The improvement reflects integration savings from the JP Financial acquisition as well as overall aggressive expense management. For group policies, expenses declined 52.8% in 1999 and 21.3% in 1998. The 1999 decline was due to management actions to maintain profitability, and to lower commissions as revenues declined. As a percentage of premiums and equivalents, total Group expenses increased to 18.4% in 1999 versus 15.4% and 13.6% in 1998 and 1997. As the Group block of business continues to decline, fixed cost reductions did not keep pace with the decline in premiums and equivalents.
Reportable segment results decreased 5.8% in 1999 and increased 12.0% in 1998. The following table summarizes key information for AIP:
Revenues increased 1.1% in 1999 and 1.2% in 1998. Annuity revenues are derived from investment income on segment assets, policy charges and concession income earned on investment product sales by Jefferson Pilot Securities Corporation (JPSC), a registered broker-dealer, and related entities. The increases in revenues are primarily driven by increases in average policyholder fund balances including separate accounts, which grew 1.7% in 1999 and 2.0% in 1998. The increases in average fund balances result from interest credited and new receipts less benefits paid and withdrawals. Average fund balances are influenced by the timing of those receipts and payments throughout the year. Fixed annuity receipts increased 128.2% in 1999, primarily in the second half of the year, and decreased 36.9% in 1998. The 1999 increase was due to significant sales increases through independent and career agents and financial institutions of both new and previously-existing products. The decline in 1998 receipts occurred during a lower interest rate environment as fixed rate products were perceived less favorably than other investment alternatives and as potential customers chose variable annuities on the strength of United States equity markets. In total, fixed and variable annuity receipts increased by 92.7% in 1999 and decreased 25.9% in 1998. Fixed annuity benefits and surrenders as a percentage of beginning fund balances were 15.8% in 1999 and 1998 and 15.2% in 1997. Annuity surrenders may increase as the portion of the business that can be withdrawn by policyholders without incurring a surrender charge grows. Other income, which primarily represents concession income earned by JPSC, increased 18.1% in 1999 and 79.5% in 1998, due to higher sales of the Company's variable products and others products such as mutual funds.
was primarily attributable to a reclassification for 1998 of certain single premium annuity products as interest-sensitive rather than traditional products. This reclassification did not affect Reportable segment results. Interest credited represented 5.3% of average policyholder fund balances in 1999 and 5.1% in 1998 and 1997. Effective spreads, which represent the yield on the investment portfolio less interest credited to policyholders, adjusted for net deferral of bonus interest and assuming the same level of assets, were 2.14%, 2.11% and 2.13% for 1999, 1998 and 1997. The 1999 increase results from continued effective spread management.
Revenue from Sports operations decreased 1.1% in 1999 and 25.6% in 1998. The decline in 1999 results from the sale of certain entertainment production activities, which improved profitability. 1998's decline was due to a non-recurring sporting event held in the first quarter of 1997 and a decrease in collegiate-related basketball sales in 1998.
Broadcast cash flow grew by 12.4% and 16.5% in 1999 and 1998, as a result of the strong growth of the broadcast properties, particularly Radio in both years and Sports in 1999.
Total expenses declined 2.6% and 3.4% in 1999 and 1998. Expenses as a percent of communication revenues were 66.9%, 70.4% and 74.5% for 1999, 1998 and 1997. The declines are attributable to a change in the mix of business away from lower margin sports products toward higher margin broadcast business, and expense management.
The following table summarizes assets assigned to this segment at the end of each year.
Reportable segment results increased 178.6% in 1999 and decreased 5.6% in 1998. Investment earnings improved 28.9% in 1999 and 9.2% in 1998 due to the accumulation of corporate capital, and increased income on equity method investments during 1999. Operating expenses, which decreased 32.2% in 1999 and increased 25.3% in 1998, vary with the level of Corporate activities. Additionally, 1998's operating expenses included $5.5 one-time costs associated with promoting the new brand name and recording surplus furniture and equipment at net realizable values. Federal and state income tax expense includes the tax benefit of preferred dividends on Capital Securities, which are recorded gross of related tax effects. Federal and state income taxes increased $17.1
JP's primary resources are investments related to its Life Insurance and AIP segments, properties and other assets utilized in all segments and investments backing corporate capital. The Investments section reviews the Company's investment portfolio and key strategies.
The Life Insurance and AIP segments defer the costs of acquiring new business, including commissions, first year bonus interest, certain costs of underwriting and issuing policies plus agency office expenses (referred to as DAC). Amounts deferred were $1,091 and $844 at December 31, 1999 and 1998, an increase of 29.3%. The increase was caused partly by the effect of changes in unrealized gains on available for sale investments. Without this effect, DAC increased 16.3% due to strong sales of UL-type and fixed annuity products.
Value of business acquired (VOBA) represents the actuarially-determined present value of future gross profits of each business acquired. VOBA of $949 at December 31, 1999 includes $206 attributable to the Guarantee acquisition. At December 31, 1998 VOBA was $568. Excluding Guarantee, VOBA increased 30.8%, primarily as a result of changes in unrealized gains on available for sale investments. Note 6 contains rollforwards of DAC and VOBA and is incorporated by reference.
Goodwill (the cost of acquired businesses in excess of the fair value of net assets) was $303 and $229 at December 31, 1999 and 1998, with the net increase due to the Guarantee acquisition, which added $81. Goodwill as a percentage of shareholders' equity was 11.0% and 7.5% at year end 1999 and 1998.
At December 31, 1999 and 1998, JP had reinsurance receivables of $ 1,057 and $1,072 and policy loans of $192 and $831 which are related to the businesses of AH Life that were coinsured with Household International (HI) affiliates. HI has provided payment, performance and capital maintenance guarantees with respect to the balances receivable. JP regularly evaluates the financial condition of its reinsurers and monitors concentrations of credit risk related to reinsurance activities. No significant credit losses have resulted from reinsurance activities during the three years ended December 31, 1999.
JP considers existing capital resources to be more than adequate to support the current level of its business activities. The business plan places priority on redirecting certain capital resources invested in bonds and stocks into its core businesses, which would be expected to produce higher returns over time.
JP has sold U. S. Treasury obligations and collateralized mortgages under repurchase agreements involving various counterparties, accounted for as financing arrangements. Proceeds are used to purchase securities with longer durations as an asset/liability management strategy and to provide acquisition financing. The maximum amounts outstanding were $515 and $290 during 1999 and 1998. The securities involved had a fair value and amortized cost of $530 and $531, and $303 and $287, as of year end 1999 and 1998.
At December 31, 1999 and 1998, the Company had $290 and $327 Exchangeable securities and other debt outstanding, including $137 and $143 Mandatorily Exchangeable Debt Securities (MEDS) and $152 and $182 Automatic Common Exchange Securities (ACES). Additionally, $300 of Guaranteed preferred beneficial interest in subordinated debentures (Capital Securities) were outstanding at December 31, 1999 and 1998. These are further described in Notes 8 and 9 which are incorporated by reference. At maturity of the ACES (January 21, 2000), the Company repaid security holders in cash, commercial paper proceeds of $146.
In the fourth quarter 1999, the Company used operating cash flows, proceeds from commercial paper issues and borrowings under repurchase agreements to finance the Guarantee acquisition and purchase common shares outstanding. Certain of those borrowings were made by subsidiaries. At December 31, 1999 and 1998 net advances from (to) subsidiaries were $329 and ($121). While the Company has no commitments for additional financing, additional funds may be borrowed to finance acquisitions or for other corporate purposes.
Cash provided by operations in 1999, 1998 and 1997 was $481, $438 and $561. The 1999 increase reflects growth in the Company's business segments as reflected in net income. 1998's decrease occurred as a result of a
decline in Group medical policies in force and a shift from traditional products (which are reflected in operating cash flows) to UL-type product receipts, (which are reflected in financing cash flows).
Net cash provided by financing activities was $671, $293 and $561 in 1999, 1998 and 1997. Cash inflows from policyholder contract deposits net of withdrawals were $704, $318 and $374. The 1999 increase is a result of higher annuity sales, lower withdrawals of policyholder funds, and higher UL-type contract receipts due to the shift from traditional to UL-type business. 1998's net policyholder receipts were lower due to lower annuity sales and higher annuity withdrawals in a very competitive interest rate environment. Net commercial paper borrowings (repayments) of $303, $201 and ($138) in 1999, 1998 and 1997 were primarily related to the Guarantee acquisition in 1999, asset/liability management strategies in 1998 and issuance of Capital Securities and Exchangeable Debt in 1997.
JP's Investment Policy Statement requires an average quality fixed income portfolio (excluding mortgage loans) of "A" or higher. Currently, the average quality is "A1". The Policy also imposes limits on the amount of lower quality investments and requires diversification by issuer and asset type. The Company monitors "higher risk" investments for compliance with the Policy and for proper valuation. Securities that experience other than temporary declines in value are adjusted to net realizable values through a charge to earnings. Commercial mortgage loans in foreclosure are carried at the net present value of expected future cash flows. The Company has a reserve for impaired mortgage loans, which was $30 and $31 at December 31, 1999 and 1998.
Collateralized Mortgage Obligations (CMO's), which are included in debt securities Available for Sale, were as follows:
The Company's investment strategy with respect to CMO's focuses on actively traded less volatile issues that produce relatively stable cash flows. The majority of CMO holdings are sequential and PAC tranches of federal agency issuers. The CMO portfolio has been constructed with underlying mortgage collateral characteristics and structure in order to lower cash flow volatility over a range of interest rate levels.
The Company did not experience any significant system failures due to the inability of its systems or vendor provided equipment and services to distinguish between dates in the 1900's and in the 2000's.
The Company began work on the Year 2000 compliance issue in 1995 and completed remediation and certification of all systems prior to December 31, 1999. The Company also received written documentation for most vendor-provided equipment, systems and critical services. From inception of the project through December 31, 1999, the Company incurred external costs of $10.7 and internal costs of $9.9. Previously-estimated costs to monitor and implement contingency plans were not necessary and provisions for emergency remediation were not required as no significant interruptions were experienced. Since the beginning of the project, costs incurred to
remediate and certify systems were charged to specific business segments and expensed as incurred. There has not been a material adverse impact on the Company's operations as a result of IT projects being deferred due to resource constraints caused by the Year 2000 project.
In a falling interest rate environment, the risk of prepayment on some fixed income securities increases, causing funds to be reinvested at lower yields. The Company limits this risk by concentrating the fixed income portfolio on non-callable securities, through careful selection of CMO's that are structured to minimize cash flow volatility and by purchasing securities that provide for "make-whole" type prepayment fees. Falling interest rates can also impact demand for the Company's products, as bank certificates of deposit with no surrender charges and higher average returns from equity markets may become more attractive to new and existing customers. Conversely, in a rising interest rate environment, competitive pressures may make it difficult for the Company to sustain spreads between rates credited on interest-sensitive products and portfolio earnings rates, thereby prompting withdrawals by policyholders. The Company manages this risk by adjusting interest crediting rates, at least on an annual basis, with due regard to the yield of its investment portfolio and pricing assumptions and by prudently managing interest rate risk of assets and liabilities.
As is typical in the industry, the Company's life and annuity products contain minimum rate guarantees regarding interest credited. For interest sensitive life products the minimum rates range from approximately 3.0% to 5.5%, with an approximate weighted average of 4.5%. For annuity products, the minimum rates range from 3.0% to 5.5%, with the greatest concentration in the 3.5% to 4.0% range.
The Company employs various methodologies to manage its exposure to interest rate risks. The asset/liability management process focuses primarily on the management of interest rate risk of the Company's insurance operations. JP monitors the duration of insurance liabilities compared to the duration of assets backing the insurance lines, giving measurement to the optionality of cash flows. The Company's goal in such analysis is to prudently balance profitability and risk for each insurance product category, and for the Company as a whole. At December 31, 1999 and 1998, 87% and 88% of policy liabilities related to interest-sensitive portfolios.
These estimates were derived by modeling estimated cash flows of the Company's market risk sensitive instruments and insurance portfolios. Changes in interest rates illustrated above assume parallel shifts in the yield curve graded pro-rata over four quarters. Incremental income or loss is net of taxes at 35%. Estimated cash flows produced in the model assume reinvestments representative of JP's current investment strategy and calls/prepayments include scheduled maturities as well as those expected to occur when issuers can benefit financially based on the difference between prepayment penalties and new money rates under each scenario. Assumed lapse rates among insurance portfolios give consideration to relationships expected between crediting rates and market interest rates, as well as the level of surrender charges inherent in individual contracts. The illustrated incremental income or loss also includes the expected impact on amortization of DAC and VOBA. The model is based on the Company's existing business in force as of December 31, 1999 and does not consider new sales of life and annuity products or the potential impact (as discussed above) of interest rate fluctuations on sales.
JP operates within the United States financial services and communications market sectors, which are both subject to general economic conditions. During 1999 and 1998, the U.S. economy continued to grow without adverse inflationary pressures. Recently, inflationary concerns over skilled labor shortages and record equity market returns have prompted the Federal Reserve to become more active in monetary policy, resulting in a higher interest rate environment and an inverted yield curve. The Company's operations are impacted over the longer term by demographic shifts, global markets, technological innovation and overall capital market volatility. These forces impact JP in various ways such as demand for its insurance products and advertising revenues,
competition from other financial services providers, competition from emerging technologies for television and radio advertising, competition for new investments, debt costs, mergers and consolidations within the financial services and communications sectors, and costs inherent in administering complex financial products.
The U.S. insurance industry has experienced an increasing number of mergers, acquisitions, consolidations, sales of business lines and marketing arrangements with other financial services providers. These activities have been driven by a need to reduce costs of distribution and to increase economies of scale in the face of growing competition from larger insurers, banks, securities brokers, mutual funds and other non-traditional competitors. On November 12, 1999, President Clinton signed the Gramm-Leach-Bliley Act, intended to modernize the regulatory framework for financial services in the United States and allow insurance companies, banks and securities firms to affiliate under Financial Holding Companies. The passage of this law, combined with changing demographics, technological advances and customer expectations for one-stop shopping, are expected to result in further strategic alignments within the financial services industry. JP continues to analyze its options within this environment for increasing distribution and improving economies of scale.
We have audited the accompanying consolidated balance sheets of Jefferson-Pilot Corporation and subsidiaries as of December 31, 1999 and 1998, and the related consolidated statements of income, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 1999. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Jefferson-Pilot Corporation and subsidiaries at December 31, 1999 and 1998, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1999 in conformity with accounting principles generally accepted in the United States.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (DOLLAR AMOUNTS IN MILLIONS, EXCEPT SHARE INFORMATION) DECEMBER 31, 1999
The following pro-forma financial information has been prepared assuming that the acquisition of JP Financial had taken place at the beginning of 1997:
In January 1997, JPCC purchased substantially all of the broadcast assets of a radio station in Denver, Colorado for $15 in cash. This acquisition resulted in cost in goodwill of $14 and was accounted for as a purchase.
The accompanying consolidated financial statements have been prepared in accordance with generally accepted accounting principles (GAAP). The insurance subsidiaries also submit financial statements to insurance industry regulatory authorities. Those financial statements are prepared on the basis of statutory accounting practices (SAP) and are significantly different from GAAP financial statements. See Note 12. All share and per share amounts have been restated to give retroactive effect to the April 1998 three-for-two common stock split. See Note 10.
The consolidated financial statements include the accounts of Jefferson-Pilot Corporation and all of its subsidiaries. All material intercompany accounts and transactions have been eliminated.
The preparation of financial statements requires management to make estimates and assumptions affecting the reported amounts of assets and liabilities and the disclosures of contingent assets and liabilities as of the date of the financial statements, and the reported amounts of revenue and expenses for the reporting period. Estimates are inherently subject to change and actual results could differ from the estimates. Reported amounts and disclosures that require extensive use of estimates include asset valuation allowances, policy liabilities, deferred policy acquisition costs, value of business acquired and the potential effects of resolving litigated matters.
Mortgage loans on real estate are stated at unpaid balances, net of estimated unrecoverable amounts. In addition to a general estimated allowance, an allowance for unrecoverable amounts is provided when a mortgage loan becomes impaired. Mortgage loans are considered impaired when it becomes probable the Company will be unable to collect the total amounts due, including principal and interest, according to contractual terms. The impairment is measured based upon the present value of expected cash flows discounted at the effective interest
rate on both a loan by loan basis and by measuring aggregated loans with similar risk characteristics. Interest on mortgage loans is recorded until collection is deemed improbable. Policy loans are stated at their unpaid balances.
Costs related to obtaining new and renewal business, including commissions, certain costs of underwriting and issuing policies, certain agency office expenses, and first year bonus interest on annuities, all of which vary with and are primarily related to the production of new and renewal business, have been deferred.
The carrying amounts of deferred policy acquisition costs and value of business acquired are adjusted for the effect of realized gains and losses and the effects of unrealized gains or losses on debt securities classified as available for sale. Both deferred policy acquisition costs and value of business acquired are reviewed periodically to determine that the unamortized portion does not exceed expected recoverable amounts. No impairment adjustments have been reflected in the results of operations for any year presented.
Cost in excess of net assets acquired (goodwill) is amortized on a straight-line basis over periods of 25 to 40 years. Accumulated amortization was $29 and $21 at December 31, 1999 and 1998. Carrying amounts are regularly reviewed for indications of value impairment, with consideration given to financial performance and other relevant factors.
Policyholder account deposits and withdrawals, investment income and realized investment gains and losses are excluded from the amounts reported in the Consolidated Statements of Income. Fees charged on policyholders' deposits are included in other considerations.
Premiums on accident and health, and disability insurance are reported as earned over the contract period. A reserve is provided for the portion of premiums written which relates to unexpired coverage terms.
Policyholder contract deposits consist of policy values that accrue to holders of universal life-type contracts and annuities. The liability is determined using the retrospective deposit method and consists of policy values that accrue to the benefit of the policyholder, before deduction of surrender charges.
The Company and most of its subsidiaries file a consolidated life/nonlife federal income tax return. Currently, AH Life, JP Financial and Guarantee each file separate consolidated returns with their respective subsidiaries. Deferred income taxes are recorded on the differences between the tax bases of assets and liabilities and the amounts at which they are reported in the consolidated financial statements. Recorded amounts are adjusted to reflect changes in income tax rates and other tax law provisions as they become enacted.
Aggregate amortized cost and aggregate fair value of debt securities as of December 31, 1999, according to contractual maturity date, are as indicated below. Actual future maturities will differ from the contractual maturities shown because the issuers of certain debt securities have the right to call or prepay the amounts due the Company, with or without penalty.
Investments in debt and equity securities include 2,049 issuers, with only one corporate issuer representing more than one percent of investments. Equity securities include investment in Bank of America Corporation (BankAmerica) of $417 and $500 as of December 31, 1999 and 1998. Debt securities considered less than investment grade approximated 5.1% and 4.5% of the total debt securities portfolio as of December 31, 1999 and 1998.
At December 31, 1999 and 1998, the recorded investment in mortgage loans that are considered to be impaired was $63 and $65. Delinquent loans outstanding as of December 31, 1999 and 1998 totaled $0 and $3. The related allowance for credit losses on all mortgage loans decreased from $31 at December 31, 1998 to $30 at December 31, 1999 through a charge to realized gains in 1999. The average recorded investment in impaired loans was $64, $70 and $78 during the years ended December 31, 1999, 1998 and 1997, on which interest income of $6, $7 and $8 was recognized.
Guarantee marketed an equity indexed annuity product which has an equity market component, where interest credited to the contracts is linked to the performance of the S&P 500(R) index. Guarantee historically managed this risk by purchasing call options that mirrored the interest credited to the contracts. As of December 31, 1999, the fair value and the carrying value of these options totaled $5. The fair value equaled the carrying value due to the mark-to-market adjustment made to Guarantee's assets as of the acquisition date.
The Company's credit exposure on swaps is limited to the fair value of swap agreements favorable to the Company. The Company does not expect any counterparty to fail to meet its obligation. Currently, non-performance by a counterparty would not have a material adverse effect on the Company's financial position or results of operations. The Company's exposure to market risk is mitigated by the offsetting effects of changes in the value of swap agreements and the related direct investments and credited interest on annuities.
NOTE 6. DEFERRED POLICY ACQUISITION COSTS AND VALUE OF BUSINESS ACQUIRED
The liability for future policy benefits associated with ordinary life insurance policies has been determined using initial interest rate assumptions ranging from 2% to 9.9% and, when applicable, uniform grading over 20 to 30 years to ultimate rates ranging from 2% to 6%. Interest rate assumptions for weekly premium, monthly debit and term life insurance products generally fall within the same ranges as those pertaining to individual life insurance policies.
Activity in the liabilities for accident and health, and disability benefits, including reserves for future policy benefits and unpaid claims and claim adjustment expenses, is summarized below:
The Company uses conservative estimates for determining its liability for accident and health, and disability benefits, which are based on historical claim payment patterns and attempt to provide for potential adverse changes in claim patterns and severity. Lower than anticipated claims resulted in adjustments to liabilities in each year.
The Company has entered into two bank credit agreements for unsecured revolving credit, under which the Company has the option to borrow at various interest rates. One agreement is for $375 and extends to May 2002, and the other agreement is for $150 and extends to December 18, 2000. The credit agreements principally support the issuance of commercial paper. As of December 31, 1999, outstanding commercial paper had various maturities, with none in excess of 90 days. The Company can issue commercial paper with maturities of up to 270 days. If the Company cannot remarket commercial paper at maturity, the Company intends to borrow a like amount under a credit agreement. The weighted-average interest rates for commercial paper borrowings outstanding of $361 and $289 at December 31, 1999 and 1998 were 5.80% and 5.61%.
The Company issued 1,815,000 unsecured 7.25% ACES due January 21, 2000, having a principal amount of $72.50 per security. The principal amount was to be mandatorily exchanged into either (1) a number of shares of BankAmerica stock determined based on an exchange rate reflecting the then trading price or (2) cash of equal value. The exchange rate was 1.6666 shares if the average stock price, calculated as specified, was at least $43.50; at maturity that average was $48.3406. On January 21, 2000, the Company repaid the ACES for $146.2 in cash, plus accrued interest.
The Exchangeable Securities are carried at fair value. Changes in the carrying value, net of deferred income taxes, are recorded in other comprehensive income. At December 31, 1999 and 1998, the combined carrying value of the Exchangeable Securities was $289 and $325, based on the market value of BankAmerica stock, which was $50.1875 per share as of year end 1999.
Under a shareholders' rights plan, one common share purchase right is attached to each share of the Company's common stock. The plan becomes operative in certain events involving an offer for or the acquisition of 15% or more of the Company's common stock by any person or group. Following such an event, each right, unless redeemed by the Board, entitles the holder (other than the acquiring person or group) to purchase for an exercise price of $235.00 an amount of common stock of the Company, or in certain circumstances stock of the acquiring company, having a market value of twice the exercise price. Approximately 103 million shares of common stock are currently reserved for the amended rights plan. The rights expire on February 8, 2009 unless extended by the Board, and are redeemable by the Board at a price of $0.44 per right at any time before they become exercisable.
one to three years, and terminate ten years from the date of award, but are subject to earlier vesting or termination under certain circumstances. This plan will terminate as to further awards on March 31, 2003.
The following table summarizes certain stock option information at December 31, 1999:
Because the options generally vest over three years and because SFAS 123 applies only to options granted after December 31, 1994, 1998 is the first year in which the full pro forma effect is reflected.
participating policies amounted to $332 and $371. The excess of liabilities over the assets represents the total estimated future earnings expected to emerge from these participating policies.
The NAIC Codification of Statutory Accounting Principles has been completed. The purpose of Codification is to create uniformity in statutory financial reporting across states. Codification must be adopted by individual states before it will have any bearing on the statutory reporting requirements of their domiciliary companies. The NAIC is encouraging the states to adopt Codification as soon as possible, with an implementation date of January 1, 2001. The Company does not expect implementation to have a material impact on statutory surplus of its insurance subsidiaries. However, implementation is expected to result in a net reduction of statutory surplus and RBC throughout the insurance industry.
The insurance statutes of the states of domicile limit the amount of dividends that the life insurance subsidiaries may pay annually without first obtaining regulatory approval. Generally, the limitations are based on a combination of statutory net gain from operations for the preceding year, 10% of statutory surplus at the end of the preceding year, and dividends and distributions made within the preceding twelve months. Approximately $263 of dividends could be paid by the life insurance subsidiaries at various times during 2000 without regulatory approval.
Federal income tax returns for all years through 1994 are closed. Tax years 1995 and 1996 are currently under examination by the Internal Revenue Service, and assessments totaling $15.1 million have been proposed. The potential assessments pertain to issues related to timing differences between tax accounting and generally accepted accounting principles. The Company is contesting the proposed assessments. In the opinion of management, recorded liabilities adequately provide for these pending assessments as well as all remaining open years.
Under prior federal income tax law, one-half of the excess of a life insurance company's income from operations over its taxable investment income was not taxed, but was set aside in a special tax account designated as "Policyholders' Surplus." The Company has approximately $107 of untaxed "Policyholders' Surplus" on which no payment of federal income taxes will be required unless it is distributed as a dividend, or under other specified conditions. The Clinton Administration is proposing to tax, as part of its 2001 budget initiative, the "Policyholders' Surplus" over a five-year period. No related deferred tax liability has been recognized for the potential tax which would approximate $37 million.
The Company and its subsidiaries other than Guarantee have defined benefit pension plans which are funded through group annuity contracts with JP Life. The assets of the plans are those of the related contracts, and are primarily held in separate accounts of JP Life. Information regarding pension plans is as follows:
As of December 31, 1999 and 1998, JP Financial had a reinsurance recoverable of $87 and $95 from a single reinsurer, pursuant to a 50% coinsurance agreement. JP Financial and the reinsurer are joint and equal owners in $191 of securities and short-term investments as of December 31, 1999 and 1998, 50% of which is included in investments in the accompanying consolidated balance sheets.
Reinsurance contracts do not relieve an insurer from its primary obligation to policyholders. Therefore, the failure of a reinsurer to discharge its reinsurance obligations could result in a loss to the subsidiaries. The subsidiaries regularly evaluate the financial condition of their reinsurers and monitor concentrations of credit risk related to reinsurance activities. No significant credit losses have resulted from reinsurance activities of the subsidiaries during the three years ended December 31, 1999.
The Company allocates depreciation expense to Life Insurance and AIP, but the related fixed assets are not allocated to these reportable segments.
Comprehensive income and its components are displayed in the consolidated statements of stockholders' equity. Currently, the only element of other comprehensive income is changes in unrealized gains and losses on securities classified as available for sale, which is displayed in the following table, along with related tax effects. See Note 4 for further detail of changes in unrealized gains.
The fair values of commercial paper and revolving credit borrowings approximate their carrying amounts due to their short-term nature. Similarly, the fair value of the liability for securities sold under repurchase agreements approximates its carrying amount, which includes accrued interest. With respect to the Exchangeable Securities, the fair value of the ACES is based on its nationally quoted market price. The fair value of the MEDS, which are not publicly traded, is estimated based on the value holders would have received had the MEDS been redeemable as of year end based on the market price of BankAmerica stock.