Headquarters. Our headquarters is located on a 180-acre corporate campus in Carmel, Indiana, immediately north of Indianapolis. The 12 buildings on the campus (all but one of which are owned) contain approximately 956,000 square feet of space and house Conseco's executive offices and certain administrative operations of its subsidiaries.
Finance operations. Conseco Finance Corp. headquarters are based in St. Paul, Minnesota occupying approximately 120,000 square feet in a building owned by the Company. In addition, the Mortgage Services division, including part of its private label credit card, is housed in 185,000 square feet in a leased facility in downtown St. Paul. The Company also owns a 131,000 square foot building in Rapid City, South Dakota, where it houses part of their Manufactured Housing Services units and leases an additional 75,000 square feet to accommodate part of the servicing units of the private label credit cards and retail bank operations. The Company also leases buildings in Tempe, Arizona and Duluth, Georgia. Tempe has approximately 200,000 square feet where the Manufactured Housing, Mortgage Services and Retail Credit Card divisions operate their collections and service centers. Duluth, Georgia, has two buildings of approximately 48,000 square feet each where the Manufactured Housing division operates its eastern service center. The Manufactured Housing Division has 33 regional offices that are leased from three to five years. The Mortgage Services Division leases 127 branch offices around the country, also on short term (3 - 5 year) leases. The Company leases offices in Alpharetta, Georgia and Clayton, Missouri, for its Commercial Lending Division and a small office in Salt Lake City for its Conseco Bank operations.
Net income applicable to common stock of $459.3 million in 1998, or $1.40 per diluted share, included: (i) net investment losses (net of related costs, amortization and taxes) of $32.8 million, or 10 cents per share; (ii) an impairment charge (net of an income tax benefit of $193.6 million) of $355.8 million, or $1.08 per share, to reduce the value of interest- only securities and servicing rights; (iii) special charges (net of taxes) of $148.0 million, or 44 cents per share, related primarily to costs incurred in conjunction with the merger with Conseco Finance (the "Merger") accounted for as a pooling of interests; (iv) income of $205.2 million, or 62 cents per share, related to the major medical lines of business we intend to sell and other non-recurring items; and (v) an extraordinary charge (net of taxes) of $42.6 million, or 13 cents per share, related to the early retirement of debt.
Total revenues included net investment losses of $358.3 million and $156.2 million in 2000 and 1999, respectively, and net investment gains of $208.2 million in 1998. Total revenues, excluding net investment gains (losses), were up 1.9 percent in 2000 over 1999, and up 12 percent in 1999 over 1998.
We evaluate the performance and determine future earnings goals based on operating earnings which are defined as income before: (i) net investment gains (losses)(less that portion of amortization of cost of policies purchased and cost of policies produced and income taxes relating to such gains (losses)); (ii) the venture capital income (loss) related to our investment in TeleCorp; (iii) special items not related to the continuing operations of our businesses (including impairment charges to reduce the value of interest-only securities and servicing rights, special charges and the provision for losses related to loan guarantees); and (iv) the net income (loss) related to the major medical lines of business we intend to sell. The criteria used by management to identify the items excluded from operating earnings include whether the item: (i) relates to other than the continuing operations of our businesses; (ii) is infrequent; (iii) is material to net income (loss); (iv) results from restructuring activities; (v) results from a change in the regulatory environment; and/or (vi) relates to the sale of an investment or the change in estimated market value of our venture capital investments. The non-operating items may vary from period to period and since these items are determined based on management's discretion, inconsistencies in the application of the criteria may exist. Operating earnings are determined by adjusting GAAP net income for the above mentioned items. While these items may be significant components in understanding and assessing our consolidated financial performance, we believe that the presentation of operating earnings enhances the understanding of our results of operations by highlighting net income attributable to the normal, recurring operations of the business and by excluding events that materially distort trends in net income. However, operating earnings are not a substitute for net income determined in accordance with GAAP.
Results of operations by segment for the three years ended December 31, 2000:
Average insurance liabilities for insurance and asset accumulation products, net of reinsurance receivables, were $27.0 billion in 2000, up 3.3 percent over 1999, and $26.1 billion in 1999, up 4.2 percent over 1998.
Net investment income on general account invested assets (which excludes income on separate account assets related to variable annuities; the income, cost and change in the fair value of S&P 500 Call Options related to equity-indexed products; and the income related to our venture capital investment in TeleCorp) decreased by 3.9 percent, to $1,882.7 million, in 2000, and increased by 2.1 percent, to $1,959.6 million, in 1999. The average balance of general account invested assets decreased by 1.3 percent in 2000 to $25.5 billion and increased by 2.0 percent in 1999 to $25.8 billion. The yield on these assets was 7.4 percent in 2000, and 7.6 percent in both 1999 and 1998. The 2000 decrease reflects general decreases in investment interest rates during the period.
Amortization of cost of S&P 500 Call Options represents the amortization of the premiums paid to purchase S&P 500 Call Options related to our equity-linked products. We amortize these amounts over the terms of the options. Such amortization has increased because of the increase in our equity-linked product business, changes in the participation rate of such business in the S&P 500 Index and the cost of the options. Our equity-indexed products are designed in an effort to have the investment income spread earned on the related insurance liabilities be more than adequate to cover the cost of the S&P 500 Call Options and other costs related to these policies.
Net investment income from separate account assets is offset by a corresponding charge to amounts added to policyholder account balances for separate account liabilities. Such income and related charge fluctuated in relationship to total separate account assets and the return earned on such assets.
Insurance policy benefits increased in both 2000 and 1999 as a result of the factors summarized in the explanations for loss ratio fluctuations related to specific products which follows.
loss ratio to be approximately 65 percent. The 1999 ratio was within our expectations. The 1998 ratio benefited from favorable claim developments which were not expected to continue.
Amounts added to policyholder account balances for annuity products decreased by 7.7 percent, to $615.2 million, in 2000, and 8.5 percent, to $666.5 million, in 1999. These decreases reflect a smaller block of this type of annuity business in force, on the average, compared to 1998. The weighted average crediting rates for these annuity liabilities were 4.4 percent, 4.5 percent and 4.6 percent during 2000, 1999 and 1998, respectively.
Other operating costs and expenses increased in 2000 primarily as a result of our increased business and marketing initiatives. Such increased expenses are consistent with the increase in the ratio of operating expenses (excluding amortization of cost of policies produced and cost of policies purchased) as a percentage of average liabilities for insurance and asset accumulation products (2.66 percent for 2000, compared to 2.36 percent and 2.20 percent for 1999 and 1998, respectively).
General: Conseco's finance subsidiaries provide financing for manufactured housing, home equity, home improvements, consumer products and equipment, and provide consumer and commercial revolving credit. Finance products include both fixed-term and revolving loans and leases. Conseco also markets physical damage and term mortgage life insurance and other credit protection relating to the loans it services.
After September 8, 1999, we no longer structure our securitizations in a manner that results in recording a sale of the loans. Instead, new securitization transactions are being structured to include provisions that entitle the Company to repurchase assets transferred to the special purpose entity when the aggregate unpaid principal balance reaches a specified level. Until these assets are repurchased, however, the assets are the property of the special purpose entity and are not available to satisfy the claims of creditors of the Company. Pursuant to Financial Accounting Standards Board Statement No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities", such securitization transactions are accounted for as secured borrowings whereby the loans and securitization debt remain on the balance sheet, rather than as sales.
These courses of action and the change to the portfolio method of accounting have caused significant fluctuations in account balances as further described below.
Loan originations in 2000 were $16.9 billion, down 33 percent from 1999. Loan originations in 1999 were $25.1 billion, up 17 percent over 1998. The primary reason for the decrease was our decision to no longer originate certain lines and to manage our growth consistent with our revised business plan. The significant decrease in new loan originations allowed the finance segment to enhance net interest margins, to reduce the amount of cash required for new loan originations, and to transfer cash to the parent company. The following table summarizes our loan originations in 2000 and 1999 summarized by product and whether part of our continuing or discontinued lines:
Managed receivables include finance receivables recorded on our consolidated balance sheet and those managed by us but applicable to holders of asset-backed securities sold in securitizations structured in a manner that resulted in gain-on- sale revenue. Average managed receivables increased to $47.4 billion in 2000, up 14 percent over 1999, and to $41.8 billion in 1999, up 29 percent over 1998.
The following table summarizes our average managed receivables at December 31, 2000 and 1999 summarized by product and whether part of our continuing or discontinued lines:
Net investment income on interest-only securities is the accretion recognized on the interest-only securities we retain after we sell finance receivables. Such income decreased by 42 percent, to $106.6 million, in 2000 and increased by 39 percent, to $185.1 million, in 1999. These fluctuations are consistent with the change in the average balance of interest- only securities. The weighted average yields earned on interest-only securities were 13.4 percent, 14.6 percent and 13.2 percent during 2000, 1999 and 1998, respectively. As a result of the change in the structure of our securitizations, our new securitizations are accounted for as secured borrowings and we do not recognize gain-on-sale revenue or additions to interest-only securities from such transactions. Accordingly, future investment income accreted on the interest-only security will decrease, as cash remittances from the prior gain-on-sale securitizations reduce the interest-only security balances. In addition, the balance of the interest-only securities was reduced by $544.4 million in 1998, $533.8 million in 1999 and $504.3 million during 2000 (including $70.2 million due to the accounting change described in note 1 to the accompanying consolidated financial statements) due to impairment charges which have caused a reduction in interest income accreted to this security. We regularly analyze future expected cash flows from this security to determine whether an impairment has occurred. Under current accounting principles, we are required to recognize declines in value of our interest-only securities in earnings when: (i) the fair value of the security is less than its carrying value; and (ii) the timing and/or amount of cash expected to be received from the security has changed adversely from the previous valuation which determined the carrying value of the security.
Gain on sale related to securitization transactions was nil in 2000, reflecting our decision to no longer structure our securitizations as sales. Our new securitizations are being structured as secured borrowings and no gain on sale is recognized. The gain recognized for our previous securitizations fluctuated when changes occurred in: (i) the amount of loans sold; (ii) market conditions (such as the market interest rates available on securities sold in these securitizations); (iii) the amount and type of interest we retained in the receivables sold; and (iv) assumptions used to calculate the gain.
Fee revenue and other income includes servicing income, commissions earned on insurance policies written in conjunction with financing transactions, and other income from late fees. Such income decreased by 1.0 percent, to $369.0 million, in 2000 and increased by 43 percent, to $372.7 million, in 1999. As a result of the change in the structure of our future securitizations announced on September 8, 1999, we no longer record an asset for servicing rights at the time of our securitizations, nor do we record servicing fee revenue; instead, the entire amount of interest income is recorded as investment income. Accordingly, the amount of servicing income has decreased to $108.2 million in 2000 from $165.3 million in 1999 and $140.0 million in 1998, and will decline further in future periods. In 2000, the decrease in servicing income was partially offset by higher commissions and late fee income. In 1999, such income increased as our servicing portfolio and our net written insurance premiums both grew along with managed receivables.
Provision for losses related to finance operations increased by 175 percent, to $354.2 million, in 2000 and by 191 percent, to $128.7 million, in 1999. The increase is principally due to the increase in loans held on our balance sheet. Under the portfolio method (which is used for securitizations structured as collateralized borrowings), we recognize the credit losses on the loans on our balance sheet as the losses are incurred. For loans previously recorded as sales, the anticipated discounted credit losses are reflected through a reduction in the gain-on-sale revenue recorded at the time of securitization.
Under the portfolio method, we recognize interest expense on the securities issued to investors in the securitization trusts. Since these securities typically have higher interest rates than our other debt, our average borrowing rate increased as compared to prior periods.
The average borrowing rate during 1999 was favorably impacted by the use of relatively lower rate borrowings from the parent company to fund finance receivables of Conseco Finance.
Impairment charges represent reductions in the value of interest-only securities and servicing rights recognized as a loss in the statement of operations. We carry interest-only securities at estimated fair value, which is determined by discounting the projected cash flows over the expected life of the receivables sold using current prepayment, default, loss and interest rate assumptions. When declines in value considered to be other than temporary occur, we reduce the amortized cost to estimated fair value and recognize a loss in the statement of operations. The assumptions used to determine new values are based on our internal evaluations and consultation with external advisors having significant experience in valuing these securities. We record any unrealized gain or loss determined to be temporary, net of tax, as a
component of shareholders' equity. We adopted EITF Issue No. 99-20, "Recognition of Interest Income and Impairment on Purchased and Retained Beneficial Interests in Securitized Financial Assets "("EITF 99-20") during the third quarter of 2000, which affects when impairments are considered to be other than temporary and, therefore, are recognized in earnings (see note 1 to the accompanying consolidated financial statements).
During 2000, actual default and loss trends were worse than our previous estimates. In light of these trends, management analyzed the assumptions used to determine the estimated fair value of the interest-only securities and made changes to the credit loss assumptions and the discount rate used to determine the value of our securities. These changes also reflected other economic factors and further methodology enhancements made by the Company. As a result, the expected future cash flows from interest-only securities changed adversely from previous estimates. Pursuant to the requirements of EITF 99-20, the effect of these changes was reflected immediately in earnings as an impairment charge. The effect of the impairment charge and adjustments to the value of our interest-only securities and servicing rights totaled $515.7 million ($324.9 million after the income tax benefit) for 2000 (in addition to the cumulative effect of adopting EITF 99-20 of $70.2 million ($45.5 million after the income tax benefit)).
Special charges in 2000 include: (i) the $103.3 million adjustment to the value of finance receivables identified for sale; (ii) the $53.0 million loss on the sale of asset-based loans; (iii) $29.5 million of costs related to closing offices and streamlining businesses; (iv) $35.8 million related to the abandonment of computer processing systems; (v) $30.3 million of fees paid to Lehman including a $25.0 million fee paid in conjunction with the sale of $1.3 billion of finance receivables to Lehman; (vi) the issuance of a warrant valued at $48.1 million related to the modification of the Lehman master repurchase financing facilities; (vii) the $51.0 million loss on sale of transportation loans and vendor services financing business; (viii) a $48.0 million increase in the allowance for loan losses at our bank subsidiary; and (ix) $4.7 million of net gains related to the sale of certain lines of business, net of other items. These charges are described in greater detail in note 9 to the accompanying consolidated financial statements. Special charges of $148.0 million were recognized in 1998 and include: $45.0 million of transaction costs; $71.0 million of severance and other employment related costs; and $32.0 million of other costs. Transaction costs included expenses related to the Merger such as fees paid for investment bankers, attorneys, accountants and printers. Severance and other employment related costs included contractual severance and other benefits due to certain executives. Other costs included the write-off of computer equipment and related software that will no longer be used, losses for facilities to be vacated, increases to legal expense accruals, and various other costs.
Venture capital income (loss) relates to our investment in TeleCorp, a company in the wireless communication business. Our investment in TeleCorp is carried at estimated fair value, with changes in fair value recognized as investment income. The market values of many companies in this sector have been subject to volatility in recent periods.
Interest expense on corporate debt fluctuated due to the increase in the average balance and interest rate on outstanding debt. The average debt outstanding (net of the intercompany note with the finance segment) was $3.8 billion, $3.0 billion and $2.8 billion in 2000, 1999 and 1998, respectively. The average interest rate on such debt was 8.2 percent, 6.0 percent and 6.0 percent in 2000, 1999 and 1998, respectively. General levels of interest rates have increased over the last twelve months. In addition, as a result of recent rating agency actions, the interest rates on our bank credit facilities have increased (see note 1 to the consolidated financial statements). Such interest expense includes affiliated interest expense (which is eliminated in consolidation) of $26.2 million, $13.2 million for 2000 and 1999, respectively. There was no such affiliated interest expense in 1998.
Major medical lines represent the results of our individual and group major medical health insurance products, which we intend to sell. These lines have experienced adverse loss ratios during 2000.
Special charges in corporate operations for 2000 include: (i) advisory and professional fees related to debt restructuring of $9.9 million; (ii) a portion of the loss on the sale of asset-backed loans (excluding loss related to loans held by the finance segment) of $15.2 million; (iii) advisory fees paid to investment banks of $44.0 million; (iv) the loss related to our exit from the subprime automobile business of $71.6 million; (v) the amount paid to terminated executive pursuant to his employment agreement of $72.5 million; (vi) the amount paid to newly hired Chief Executive Officer of $45.0 million; (vii) the value of warrants issued to release newly hired Chief Executive Officer from a noncompete provision of a prior agreement of $21.0 million; and (viii) other charges of $25.8 million. These charges are described in greater detail in the note to the accompanying consolidated financial statements entitled "Special Charges".
Other fixed rate annuity products include single-premium deferred annuities ("SPDAs"), flexible-premium deferred annuities ("FPDAs") and single-premium immediate annuities ("SPIAs"), which are credited with a declared rate. The demand for traditional fixed-rate annuity contracts has decreased in recent years, as relatively low interest rates have made other investment products more attractive. SPDA and FPDA policies typically have an interest rate that is guaranteed for the first policy year, after which we have the discretionary ability to change the crediting rate to any rate not below a guaranteed rate. The interest rate credited on SPIAs is based on market conditions existing when a policy is issued and remains unchanged over the life of the SPIA. Annuity premiums on these products decreased by 23 percent, to $740.7 million, in 2000 and increased by 10 percent, to $958.5 million, in 1999. Fixed annuity collections in 1999 included $208.8 million of premiums on reinsurance contracts entered into during the year.
Other health products include: (i) various health insurance products that are not currently being actively marketed; and (ii) in 1999 and 1998, certain specialty health insurance products sold to educators. Premiums collected in 2000 were $125.8 million, up 3.8 percent over 1999. Premiums collected in 1999 were $121.2 million, up .4 percent over 1998. Since we no longer actively market these products, we expect collected premiums to decrease in future years. The in-force business continues to be profitable.
Life products are sold through career agents, professional independent producers and direct response distribution channels. Life premiums collected in 2000 were $934.2 million, down 3.8 percent from 1999. Life premiums collected in 1999 were $970.7 million, up 4.5 percent over 1998. Collections in 1999 included $49.2 million of premiums on reinsurance contracts entered into during the year.
Mutual fund sales increased 66 percent, to $794.2 million in 2000, and increased 450 percent, to $479.3 million, in 1999, reflecting our expanded distribution and new marketing programs. We also believe that these sales were positively impacted by the recent strong investment performance of our funds. Recently, mutual fund sales have been adversely affected by the resignation of certain equity portfolio managers. The Company engaged Frank Russell Company to transition its equity portfolio management.
The following table summarizes investment yields earned over the past three years on the general account invested assets of our insurance subsidiaries (excluding revenues from major medical lines, which the Company intends to sell). General account investments exclude our venture capital investment in TeleCorp, separate account assets, the value of S&P 500 call options and the investments held by our finance segment.
At December 31, 2000, fixed maturity investments included $7.3 billion of mortgage-backed securities (or 34 percent of all fixed maturity securities). CMOs are backed by pools of mortgages that are segregated into sections or "tranches" that provide for reprioritizing of retirement of principal. Pass-through securities receive principal and interest payments through their regular pro rata share of the payments on the underlying mortgages backing the securities. The yield characteristics of mortgage-backed securities differ from those of traditional fixed-income securities. Interest and principal payments for mortgage-backed securities occur more frequently, often monthly. Mortgage-backed securities are subject to risks associated with variable prepayments. Prepayment rates are influenced by a number of factors that cannot be predicted with certainty, including: the relative sensitivity of the underlying mortgages backing the assets to changes in interest rates; a variety of economic, geographic and other factors; and the repayment priority of the securities in the overall securitization structures.
Commercial mortgage-backed securities ("CMBS") are bonds secured by commercial real estate mortgages. Commercial real estate encompasses income producing properties that are managed for economic profit. Property types include multi-family dwellings including apartments, retail centers, hotels, restaurants, hospitals, nursing homes, warehouses, and office buildings. The CMBS market currently offers high yields, strong credits, and call protection compared to similar rated corporate bonds. Most CMBS have strong call protection features where borrowers are locked out from prepaying their mortgages for a stated period of time. If the borrower does prepay any or all of the loan, they will be required to pay prepayment penalties.
Subordinated and mezzanine tranches are classes that provide credit enhancement to the senior tranches. The rating agencies require that this credit enhancement not deteriorate due to prepayments for a period of time, usually five years of complete lockout followed by another period of time where prepayments are shared pro rata with senior tranches. The credit risk of subordinated and mezzanine tranches is derived from owning a small percentage of the mortgage collateral, while bearing a majority of the risk of loss due to property owner defaults. Subordinated bonds can be rated "AA" or lower. We typically do not buy subordinated or mezzanine bonds that are rated lower than "BB". This class also includes our investments in other asset-backed securities that are mortgage related (manufactured housing and home equity loans). The amortized cost and estimated fair value of these other asset-backed securities was $716.8 million and $494.6 million, respectively, at December 31, 2000.
During 2000, we sold $7.0 billion of investments (primarily fixed maturities), resulting in $140.5 million of investment gains and $205.8 million of investment losses (both before related expenses, amortization and taxes). Such securities were sold in response to changes in the investment environment, which created opportunities to enhance the total return of the investment portfolio without adversely affecting the quality of the portfolio or the matching of expected maturities of assets and liabilities. As discussed in the notes to the consolidated financial statements, the realization of gains and losses affects the timing of the amortization of the cost of policies produced and the cost of policies purchased related to universal life and investment products.
At December 31, 2000, we held mortgage loan investments with a carrying value of $1,238.6 million (or 5.0 percent of total invested assets) and a fair value of $1,197.7 million. Mortgage loans were substantially comprised of commercial loans. Noncurrent mortgage loans were insignificant at December 31, 2000. Realized losses on mortgage loans were not significant in any of the past three years. At December 31, 2000, we had a mortgage loan loss reserve of $3.8 million. Approximately 8 percent of the mortgage loans were on properties located in Ohio, 8 percent in New York, 7 percent in Florida, 7 percent in Pennsylvania, 7 percent in Texas and 6 percent in California. No other state accounted for more than 5 percent of the mortgage loan balance.
Finance receivables, including receivables which serve as collateral for the notes issued to investors in securitization trusts of $12,622.8 million and $4,730.5 million at December 31, 2000 and 1999, respectively, summarized by type, were as follows:
Subsequent to September 8, 1999, we no longer structure our securitizations in a manner that results in recording a sale of the loans. Instead, we are using the portfolio method (the accounting method required for securitizations which are structured as secured borrowings) to account for securitization transactions structured after that date. Our securitizations are now structured in a manner that requires them to be accounted for under the portfolio method, whereby the loans and securitization debt are held on our balance sheet, pursuant to Financial Accounting Standards Board Statement No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities" ("SFAS 125").
For loans we finance through securitizations, this change, and the resulting use of the portfolio method of accounting, has no effect on the total profit we recognize over the life of each new loan, but does change the timing of profit recognition. Under the portfolio method, we recognize earnings over the life of a new loan as it generates interest. As a result, our reported earnings from each new loan under the portfolio method are lower in the period it is securitized (compared to our historical method) and higher in later periods, as interest is earned on the loan.
The Financial Accounting Standards Board recently issued Statement of Financial Accounting Standards No. 140, "Accounting for the Transfer and Servicing of Financial Assets and Extinguishments of Liabilities" ("SFAS 140") which is a replacement of SFAS 125, and a related implementation guide. SFAS 140 and the implementation guide have changed the criteria that must be met for securitization transactions to be recorded under the portfolio method. We do not believe we will need to make any significant changes to our securitization structures to meet the new criteria which are effective for securitization transactions completed after March 31, 2001.
The securitizations structured prior to our September 8, 1999, announcement met the applicable criteria to be accounted for as sales. At the time the loans were securitized and sold, we recognized a gain and recorded our retained
interest represented by the interest-only security. The interest-only security represents the right to receive, over the life of the pool of receivables: (i) the excess of the principal and interest received on the receivables transferred to the special purpose entity over the principal and interest paid to the holders of other interests in the securitization; and (ii) contractual servicing fees. In some of those securitizations, we also retained certain lower-rated securities that are senior in payment priority to the interest-only securities. Such retained securities had a par value, fair market value and amortized cost of $769.8 million, $494.6 million and $716.8 million, respectively, at December 31, 2000, and were classified as actively managed fixed maturity securities.
At December 31, 2000, no single state accounted for more than 8 percent of the contracts we serviced. In addition, no single contractor, dealer or vendor accounted for more than one percent of the total contracts we originated.
These ratios increased during 2000 primarily as a result of: (i) the increases in delinquencies and credit losses as the portfolios age; (ii) changes in the mix of managed receivables; and (iii) underlying loss experience. Such underlying delinquency and loss experience deteriorated after the proposed sale of our finance segment was announced. We believe that our employees' concerns about their future significantly affected the collection function. Our delinquency rates have leveled off in January 2001 and decreased in February 2001.
We recognized impairment charges of $515.7 million ($324.9 million after tax) in 2000, $554.3 million ($349.2 million after tax) in 1999 and $549.4 million ($355.8 million after tax) in 1998 to reduce the book value of interest-only securities and servicing rights as described above under "Finance Operations."
Based on our current assumptions and expectations as to future events related to the loans underlying our interest- only securities, we estimate receiving cash from these securities of $15 million in 2001, $115 million in 2002, $140 million in 2003, $85 million in 2004, $65 million in 2005, and $630 million in all years thereafter. We have projected lower cash flows from our interest-only securities in 2001, reflecting our assumption that the adverse loss experience in 2000 will continue into 2001 and then improve over time. As a result of these assumptions, we project that payments related to guarantees issued in conjunction with the sales of certain finance receivables will exceed the amounts paid in previous periods. These projected payments are considered in the projected cash flows we use to value our interest-only securities. See note 8 to the consolidated financial statements for additional information about the guarantees.
value of such investments by $1,241.9 million as a result of this fair value adjustment. The fair value adjustment resulted in a $1,504.3 million decrease in carrying value at year-end 1999.
Total capital shown below excludes debt of the finance segment used to fund finance receivables. Total capital, before the fair value adjustment recorded in accumulated other comprehensive loss, decreased $1,106.8 million, or 8.1 percent, to $12.5 billion. The decrease is primarily due to our operating results for 2000.
Shareholders' equity, excluding accumulated other comprehensive loss, decreased by $1.3 billion in 2000, to $5.0 billion. Significant components of the decrease included: (i) our net loss of $1,191.2 million; (ii) the settlement of the forward contract and repurchases of common stock of $102.9 million; and (iii) $44.3 million of common and preferred stock dividends. These decreases were partially offset by the issuance of warrants of $21.0 million. The accumulated other comprehensive loss decreased by $120.6 million principally related to the increase in the fair value of our insurance companies' investment portfolio.
Book value per common share outstanding decreased to $11.95 at December 31, 2000, from $15.50 a year earlier. Such change was primarily attributable to the factors discussed in the previous paragraph. Excluding accumulated other comprehensive loss, book value per common share outstanding decreased to $13.95 at December 31, 2000, from $17.85 a year earlier.
Only a small portion of our insurance liabilities have a time for contractual payment; the majority of such liabilities are payable upon occurrence of the insured event or upon surrender. Of our total insurance liabilities at December 31, 2000, approximately 19 percent could be surrendered by the policyholder without a penalty. Approximately 60 percent could be surrendered by the policyholder subject to penalty or the release of an insurance liability in excess of surrender benefits paid. The remaining 21 percent do not provide a surrender benefit.
Insurance liabilities for interest-sensitive products by credited rate (excluding interest rate bonuses for the first policy year only) at December 31, 2000 were as follows (dollars in millions):
Our finance operations require cash to originate finance receivables. Our primary sources of cash are: (i) the collection of receivable balances; (ii) proceeds from the issuance of debt, certificate of deposits and securitization of loans; and (iii) cash provided by operations. During the last six months of 2000, the finance segment significantly slowed the origination of finance receivables to enhance net interest margins, to reduce the amount of cash required for new loan originations, and to transfer cash to the parent company.
We continually investigate and pursue alternative and supplementary methods to finance our lending operations. In late 1998, we began issuing certificates of deposit through our bank subsidiary. At December 31, 2000, we had $1,873.3 million of such deposits outstanding which are recorded as liabilities related to certificates of deposit. The average annual rate paid on these deposits was 6.7 percent during 2000.
Independent rating agencies, financial institutions, analysts and other interested parties monitor the leverage ratio of our finance segment. Such ratio (calculated, as discussed with independent rating agencies, as the ratio of debt to equity of our finance subsidiary calculated on a pro forma basis as if we had accounted for the securitizations of our finance receivables as financing transactions throughout the Company's history) was 21-to-1 at December 31, 2000 and 22-1 at December 31, 1999.
The parent company is a legal entity, separate and distinct from its subsidiaries, and has no business operations. The parent company uses cash for: (i) principal and interest payments on debt; (ii) dividends on mandatorily redeemable preferred stock of subsidiary trusts; (iii) payments to subsidiary trusts to be used for distributions on the Company-obligated mandatorily redeemable preferred securities of subsidiary trusts; (iv) holding company administrative expenses; (v) income taxes; and (vi) investments in subsidiaries and other investments. The primary sources of cash to meet these obligations are payments from our subsidiaries, including the statutorily permitted payments from our life insurance subsidiaries in the form of: (i) fees for services provided; (ii) tax sharing payments; (iii) dividend payments; and (iv) surplus debenture interest and principal payments.
The maturities of the direct debt of the parent company at December 31, 2000 (assuming the Company elects to extend the maturity date of $1.2 billion of bank debt) were as follows (dollars in millions):
Pursuant to the amendment of our bank credit facilities, we have agreed that any amounts received from asset sales or refinancing transactions occurring after December 31, 2000 (with certain exceptions), would be used as follows: (i) the first $13 million received may be retained by Conseco until we have cash on hand of $330 million; (ii) of the next $512 million received, $73 million would be used to reduce our near-term facilities and $439 million would be added to the segregated cash account for the payment of public debt maturing in 2001; (iii) the next $200 million received would be added to the segregated cash account for the payment of debt maturing in 2001; (iv) the next available proceeds would be applied 80 percent to reduce our near-term facilities, with the remaining 20 percent retained by Conseco until we have cash on hand of $330 million, and then 100 percent to our near-term facilities until such facilities have been paid in full; and (v) any subsequent proceeds would be applied: (a) 50 percent to repay the $1.5 billion facility and to fund a segregated cash account to provide collateral for Conseco's guarantee related to the directors, officers and key employee stock purchase program (based on the relative balance due under each facility); and (b) the remaining 50 percent would be retained by Conseco. No assurance can be provided as to the timing, proceeds, or other terms related to any potential asset sale or financing transaction.
Pursuant to the amended agreement, Conseco Finance may make the following payments to Conseco: (i) interest on the intercompany note; (ii) payments for products and services provided by Conseco; and (iii) intercompany tax sharing payments. Conseco Finance may also make the following payments to Conseco provided the minimum liquidity requirements defined in the amended agreement are met and the cash payments are applied in the order summarized: (i) unpaid interest on the intercompany note; (ii) prepayments of principal on the intercompany note or repayments of any increase to the intercompany receivable balance; (iii) dividends on the intercompany preferred stock; (iv) redemption of the intercompany preferred stock; and (v) common stock dividends. The liquidity test of the amended agreement requires Conseco Finance to have minimum levels of liquidity immediately both before and after giving effect to such payments to Conseco. Liquidity, as defined, includes unrestricted cash and may include up to $150 million of liquidity available at Conseco Finance's bank subsidiaries and the aggregate amount available to be drawn under Conseco Finance's credit facilities (where applicable, based on eligible excess collateral pledged to the lender multiplied by the appropriate advance rate). The minimum liquidity must equal or exceed $250 million, plus: (i) 50 percent of cash up to $100 million generated by Conseco Finance subsequent to September 21, 2000; and (ii) 25 percent of cash generated by Conseco Finance in excess of $100 million, provided the total minimum cash liquidity shall not exceed $350 million and the cash generated by Conseco Finance (used in the calculation to increase the minimum) will exclude operating cash flows and the net proceeds received from certain asset sales and other events listed in the amended agreement (which are consistent with the courses of actions we have previously announced).
The ability of our insurance subsidiaries to pay dividends is subject to state insurance department regulations. These regulations generally permit dividends to be paid from earned surplus of the insurance company for any 12-month period in amounts equal to the greater of (or in a few states, the lesser of): (i) net gain from operations for the prior year; or (ii) 10 percent of surplus as of the end of the preceding year. Any dividends in excess of these levels require the approval of the director or commissioner of the applicable state insurance department. After a deduction of $264.4 million of fees and interest paid to Conseco in 2000, the remaining statutory earnings of our insurance subsidiaries permit distributions to Conseco in 2001 of approximately $162.3 million without the permission of regulatory authorities. During 2000, our insurance subsidiaries paid dividends to Conseco totaling $178.0 million.
The ratings assigned to Conseco's senior debt, trust preferred securities and commercial paper are important factors in determining the Company's ability to access the public capital markets for additional liquidity. Following our March 31, 2000, announcement that we planned to explore the sale of Conseco Finance and other events described in note 9 the accompanying consolidated financial statements entitled "Special Charges" and elsewhere herein, rating agencies lowered their ratings on Conseco's senior debt, trust preferred securities and commercial paper. As of November 7, 2000, the rating agencies had assigned the following ratings: (i) Standard & Poor's has assigned a "BB-" rating to Conseco's senior debt and a "B-" rating to trust preferred securities; (ii) Fitch Rating Company has assigned a "BB-" rating to Conseco's senior debt and a "B" rating to trust preferred securities; and (iii) Moody's Investor Services has assigned a "B1" rating to Conseco's senior debt and a "caa" rating to trust preferred securities. These ratings make it difficult for the Company to issue additional securities in the public markets, although the Company does not believe additional issuances will be necessary in the near future.
Medical cost inflation has had a significant impact on our supplemental health operations. Generally, these costs have increased more rapidly than the Consumer Price Index. Medical costs will likely continue to rise. The impact of
We seek to invest our available funds in a manner that will maximize shareholder value and fund future obligations to policyholders and debtors, subject to appropriate risk considerations. We seek to meet this objective through investments that: (i) have similar characteristics to the liabilities they support; (ii) are diversified among industries, issuers and geographic locations; and (iii) make up a predominantly investment-grade fixed maturity securities portfolio. Many of our products incorporate surrender charges, market interest rate adjustments or other features to encourage persistency.
We use computer models to simulate the cash flows expected from our existing insurance business under various interest rate scenarios. These simulations help us to measure the potential gain or loss in fair value of our interest rate- sensitive financial instruments. With such estimates, we seek to closely match the duration of our assets to the duration of our liabilities. When the estimated durations of assets and liabilities are similar, exposure to interest rate risk is minimized because a change in the value of assets should be largely offset by a change in the value of liabilities. At December 31, 2000, the adjusted modified duration of our fixed maturity securities and short-term investments was approximately 6.4 years and the duration of our insurance liabilities was approximately 6.5 years. We estimate that our fixed maturity securities and short-term investments (net of corresponding changes in the value of cost of policies purchased, cost of policies produced and insurance liabilities) would decline in fair value by approximately $590 million if interest rates were to increase by 10 percent from their December 31, 2000 levels. This compares to a decline in fair value of $605 million based on amounts and rates at December 31, 1999. The calculations involved in our computer simulations incorporate numerous assumptions, require significant estimates and assume an immediate change in interest rates without any management of the investment portfolio in reaction to such change. Consequently, potential changes in value of our financial instruments indicated by the simulations will likely be different from the actual changes experienced under given interest rate scenarios, and the differences may be material. Because we actively manage our investments and liabilities, our net exposure to interest rates can vary over time.
Our investment in S&P 500 Call Options is closely matched with our obligation to equity-indexed annuity holders. Market value changes associated with that investment are substantially offset by an increase or decrease in the amounts added to policyholder account balances for equity-indexed products.
Subsequent to September 8, 1999, we no longer structure the securitizations of the loans we originate in a manner that results in gain-on-sale revenues. Our new securitizations are being structured as secured borrowings. Prior to September 8, 1999, we retained interests in the finance receivables sold through investments in interest-only securities that are subordinated to the rights of other investors. Interest-only securities do not have a stated maturity or amortization period. The expected amount of the cash flow as well as the timing depends on the performance of the underlying collateral supporting each securitization. The actual cash flow of these instruments could vary substantially if performance is different from our assumptions. We develop assumptions to value these investments by analyzing past portfolio performance, current loan characteristics, current and expected market conditions and the expected effect of our actions to mitigate adverse performance. Assumptions used as of December 31, 2000, are summarized in the notes to the consolidated financial statements.
We use computer models to simulate the cash flows expected from our interest-only securities under various interest rate scenarios. These simulations help us to measure the potential gain or loss in fair value of these financial instruments, including the effects of changes in interest rates on prepayments. We estimate that our interest-only securities would decline in fair value by approximately $30 million if interest rates were to decrease by 10 percent from their December 31, 2000 levels. This compares to a decline in fair value of $72.4 million based on amounts and rates at December 31, 1999. The calculations involved in our computer simulations incorporate numerous assumptions, require significant estimates and assume an immediate change in interest rates without any management of the interest-only securities in reaction to such change. Consequently, potential changes in value of our interest-only securities indicated by the simulations will likely be different from the actual changes experienced under given interest rate scenarios, and the differences may be material. See the note to the consolidated financial statement entitled "Finance Receivables and Interest-Only Securities" for a summary of the Key economic assumptions used to determine the estimated fair value of all of our retained interests in securitizations and the sensitivity of the current fair value of cash flows to immediate 10 percent and 20 percent changes in those assumptions.
We estimate that our finance receivables (including both "finance receivables" and "finance receivables-securitized") would decline in fair value by approximately $308.8 million if interest rates were to increase by 10 percent from their December 31, 2000 levels. This compares to a decline in fair value of $128.8 million based on amounts and rates at December 31, 1999. The increase in the estimated decline corresponds with the increase to our finance receivable balances.
Our finance receivables are primarily funded with the fixed rate asset-backed securities purchased by investors in our securitizations and floating-rate debt. Such borrowings included bank credit facilities, master repurchase agreements and the notes payable related to securitized finance receivables structured as collateralized borrowings ($9.8 billion of which was at fixed rates and $5.1 billion of which was at floating rates). Based on the interest rate exposure and prevalent rates at December 31, 2000, a relative 10 percent decrease in interest rates would increase the fair value of the finance segment's fixed-rate borrowed capital by approximately $244.9 million. The interest expense on this segment's floating-rate debt will fluctuate as prevailing interest rates change.
The fair value of our borrowed capital also varies with credit ratings and other conditions in the capital markets. Following the events that occurred during 2000 concerning plans to explore the sale of Conseco Finance and other events
described elsewhere herein, the capital markets reacted by lowering the value of our publicly traded securities. In addition, the capital markets have also lowered the value of the securities issued in previous securitization transactions of Conseco Finance.
Several elements of the plans we previously announced have already been completed:
(i) We completed the restructuring of the operations of Conseco Finance;
(iv) On November 7, 2000, A.M. Best upgraded the financial liquidation ratings of our principal life insurance subsidiaries to A- (Excellent) from B++ (Very Good). The return of these ratings to A- (Excellent) satisfies a covenant in the amended bank credit facilities, well before the required date of March 31, 2001;
(vi) On February 22, 2001, we completed the sale of our interest in the Argosy Riverboat Casino in Lawrenceberg, Indiana, generating cash proceeds of $260 million.
Consolidation issues. The consolidated financial statements give retroactive effect to the merger (the "Merger") with Conseco Finance on June 30, 1998, in a transaction accounted for as a pooling of interests (see note 2, "Acquisitions"). The pooling of interests method of accounting requires the restatement of all periods presented as if Conseco and Conseco Finance had always been combined. The consolidated statement of shareholders' equity therefore reflects the accounts of
Our consolidated financial statements exclude the results of material transactions between us and our consolidated affiliates, or among our consolidated affiliates. We reclassified certain amounts in our 1999 and 1998 consolidated financial statements and notes to conform with the 2000 presentation. These reclassifications have no effect on net income or shareholders' equity.
Interest-only securities represent the right to receive certain future cash flows from securitization transactions structured prior to our September 8, 1999 announcement (see "Revenue Recognition for Sales of Finance Receivables and Amortization of Servicing Rights" below). Such cash flows generally are equal to the value of the principal and interest to be collected on the underlying financial contracts of each securitization in excess of the sum of the principal and interest to be paid on the securities sold and contractual servicing fees. We carry interest-only securities at estimated fair value. We determine fair value by discounting the projected cash flows over the expected life of the receivables sold using current prepayment, default, loss and interest rate assumptions. Estimates for prepayments, defaults, and losses for manufactured housing loans are determined based on a macroeconomic model developed by the Company with the assistance of outside experts and refined to reflect Company-specific experience and trends. We record any unrealized gain or loss determined to be temporary, net of tax, as a component of shareholders' equity. With the adoption of EITF Issue No. 99-20, "Recognition of Interest Income and Impairment on Purchased and Retained Beneficial Interests in Securitized Financial Assets" ("EITF 99-20") on July 1, 2000, declines in value are considered to be other than temporary when: (i) the fair value of the security is less than its carrying value; and (ii) the timing and/or amount of cash expected to be received from the security has changed adversely from the previous valuation which determined the carrying value of the security. When declines in value considered to be other than temporary occur, we reduce the amortized cost to estimated fair value and recognize a loss in the statement of operations. The assumptions used to determine new values are based on our internal evaluations and consultation with external advisors having significant experience in valuing these securities. See note 4 for additional discussion of gain on sale of receivables and interest-only securities.
Venture capital investment in TeleCorp was made by our subsidiary which engages in venture capital investment activity. TeleCorp is a company in the wireless communication business. Our investment in TeleCorp is carried at estimated fair value, with changes in fair value recognized as investment income. Since there are restrictions in our ability to sell this investment, we adjust the quoted market price to produce an estimate of the attainable fair value.
At December 31, 2000, we held 17.2 million common shares of TeleCorp. The market values of many companies in TeleCorp's business sector have been subject to volatility in recent periods. We recognized venture capital investment
income (loss) of $(199.5) million in 2000 and $354.8 million in 1999, primarily related to this investment.
When we sell a security (other than trading securities, venture capital investments or S&P 500 Call Options), we report the difference between the sale proceeds and amortized cost (determined based on specific identification) as an investment gain or loss.
We regularly evaluate all of our investments based on current economic conditions, credit loss experience and other investee-specific developments. If there is a decline in a security's net realizable value that is other than temporary, we treat it as a realized loss and reduce the cost basis of the security to its estimated fair value.
We generally stop accruing investment income on finance receivables after three consecutive months of contractual delinquency.
Finance receivables transferred to securitization trusts in transactions structured as securitized borrowings are classified as finance receivables - securitized. These receivables are held as collateral for the notes issued to investors in the securitization trusts. Finance receivables held by us that have not been securitized are classified as finance receivables.
We reduce the carrying value of finance receivables to net realizable value after six months of contractual delinquency.
Conseco common stock (see note 8 for additional information on this provision).
When we replace an existing insurance contract with another insurance contract with substantially different terms, all unamortized cost of policies produced related to the replaced contract is immediately written off. When we replace an existing insurance contract with another insurance contract with substantially similar terms, we continue to defer the cost of policies produced associated with the replaced contract. Such costs related to the replaced contracts which continue to be deferred were $5.6 million, $8.6 million and $9.1 million in 2000, 1999 and 1998, respectively.
Each year, we evaluate the recoverability of the unamortized balance of the cost of policies produced. We consider estimated future gross profits or future premiums, expected mortality or morbidity, interest earned and credited rates, persistency and expenses in determining whether the balance is recoverable. If we determine a portion of the unamortized balance is not recoverable, it is charged to amortization expense.
The cost assigned to the right to receive future cash flows from contracts existing at the date of an acquisition is referred to as the cost of policies purchased. We also defer renewal commissions paid in excess of ultimate commission levels related to the purchased policies in this account. The balance of this account is amortized, evaluated for recovery, and adjusted for the impact of unrealized gains (losses) in the same manner as the cost of policies produced described above.
Generally, we recognize insurance premiums for traditional life and accident and health contracts as earned over the premium-paying periods. We establish reserves for future benefits on a net-level premium method based upon assumptions as to investment yields, mortality, morbidity, withdrawals and dividends. We record premiums for universal life-type and investment-type contracts that do not involve significant mortality or morbidity risk as deposits to insurance liabilities. Revenues for these contracts consist of mortality, morbidity, expense and surrender charges. We establish reserves for the estimated present value of the remaining net costs of all reported and unreported claims.
These liabilities relate to the certificates of deposits issued by our bank subsidiary. The liability and interest expense account are also increased for the interest which accrues on the deposits. The weighted average interest crediting rate on these deposits was 6.7 percent and 5.8 percent during 2000 and 1999, respectively.
Our income tax expense includes deferred income taxes arising from temporary differences between the tax and financial reporting bases of assets and liabilities. In assessing the realization of deferred income tax assets, we consider whether it is more likely than not that the deferred income tax assets will be realized. The ultimate realization of deferred income tax assets depends upon generating future taxable income during the periods in which temporary differences become deductible. If future income is not generated as expected, deferred income tax assets may need to be written off (no such write-offs have occurred).
When we prepare financial statements in conformity with GAAP, we are required to make estimates and assumptions that significantly affect various reported amounts of assets and liabilities, and the disclosure of contingent assets and liabilities at the date of the financial statements and revenues and expenses during the reporting periods. For example, we use significant estimates and assumptions in calculating values for the cost of policies produced, the cost of policies purchased, interest-only securities, certain investments, servicing rights, goodwill, liabilities for insurance and asset accumulation products, liabilities related to litigation, guaranty fund assessment accruals, liabilities related to guarantees of securitized debt issued in conjunction with certain sales of finance receivables and liabilities related to guarantees of bank loans and the related interest loans to certain current and former directors, officers and key employees, gain on sale of finance receivables, allowance for credit losses on finance receivables and deferred income taxes. If our future experience differs materially from these estimates and assumptions, our financial statements could be affected.
If the counterparties for the S&P 500 Call Options of these financial instruments fail to meet their obligations, Conseco may have to recognize a loss. Conseco limits its exposure to such a loss by diversifying among several counterparties believed to be strong and creditworthy. At December 31, 2000, all of the counterparties were rated "A" or higher by Standard & Poor's Corporation.
For securitizations structured prior to September 8, 1999, we accounted for the transfer of finance receivables as sales in accordance with SFAS 125. In applying SFAS 125 to our securitized sales, we recognized a gain, representing the difference between the proceeds from the sale (net of related sale costs) and the carrying value of the component of the finance receivable sold. We determined such carrying amount by allocating the carrying value of the finance receivables between the portion we sold and the interests we retained (generally interest-only securities, servicing rights and, in some instances, other securities), based on each portion's relative fair values on the date of the sale.
Interest-only securities. We discount future expected cash flows over the expected life of the receivables sold using prepayment, default, loss severity and interest rate assumptions that we believe market participants would use to value such securities.
Under the new accounting rule, declines in value are recognized when: (i) the fair value of the security is less than its carrying value; and (ii) the timing and/or amount of cash expected to be received from the security has changed adversely from the previous valuation which determined the carrying value of the security. When both occur, the security is written down to fair value.
Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133"), as amended by Statement of Financial Accounting Standards No. 137, "Deferral of the Effective Date of FASB Statement No. 133" and Statement of Financial Accounting Standards No. 138, "Accounting for Certain Derivative Instruments and Certain Hedging Activities" ("SFAS 138") requires all derivative instruments to be recorded on the balance sheet at estimated fair value. Changes in the fair value of derivative instruments are to be recorded each period either in current earnings or other comprehensive income, depending on whether a derivative is designated as part of a hedge transaction and, if it is, on the type of hedge transaction. We will adopt SFAS 133 as of January 1, 2001. Because of our minimal use of derivatives, other than the S&P 500 Call Options and embedded derivatives associated with our equity-indexed annuities, we do not anticipate that the adoption of the new standard and implementation guidance approved by FASB prior to December 31, 2000, will have a material impact on the Company's financial position or results of operations. On March 14, 2001, FASB approved additional SFAS 133 implementation guidance regarding derivatives associated with equity-indexed annuity products. We are still finalizing the actual impact of complying with the provisions of the recently approved implementation guidance, which was initially issued as draft guidance by FASB's Derivative
On June 30, 1998, we completed the Merger. We issued a total of 128.7 million shares of Conseco common stock (including 5.0 million common equivalent shares issued in exchange for Conseco Finance's outstanding options), exchanging .9165 of a share of Conseco common stock for each share of Conseco Finance common stock. The Merger constituted a tax-free exchange and was accounted for under the pooling of interests method. We restated all prior period consolidated financial statements to include Conseco Finance as though it had always been a subsidiary of Conseco.
The revenues and net income (loss) for Conseco and Conseco Finance, separately and combined, for periods prior to the Merger were as follows:
Accumulated other comprehensive loss is primarily comprised of unrealized losses on actively managed fixed maturity investments. Such amounts, included in shareholders' equity as of December 31, 2000 and 1999, were as follows:
The carrying value of fixed maturity investments and mortgage loans not accruing investment income totaled $98.4 million, $48.3 million and $50.1 million at December 31, 2000, 1999 and 1998, respectively.
At December 31, 2000, the mortgage loan balance was primarily comprised of commercial loans. Approximately 8 percent, 8 percent, 7 percent, 7 percent, 7 percent and 6 percent of the mortgage loan balance were on properties located in Ohio, New York, Florida, Pennsylvania, Texas and California, respectively. No other state comprised greater than 5 percent of the mortgage loan balance. Less than 1 percent of the mortgage loan balance was noncurrent at December 31, 2000. Our allowance for loss on mortgage loans was $3.8 million at both December 31, 2000 and 1999.
We classify the finance receivables transferred to the securitization trusts and held as collateral for the notes issued to investors as "finance receivables-securitized". The average interest rate earned on these receivables was 12.2 percent and 11.7 percent at December 31, 2000 and 1999, respectively. We classify the notes issued to investors in the securitization trusts as "notes payable related to securitized finance receivables structured as collateralized borrowings".
The securitizations structured prior to September 8, 1999, met the applicable criteria to be accounted for as sales. At the time the loans were securitized and sold, we recognized a gain and recorded our retained interest represented by the interest-only security. The interest-only security represents the right to receive, over the life of the pool of receivables: (i) the excess of the principal and interest received on the receivables transferred to the special purpose entity over the principal and interest paid to the holders of other interests in the securitization; and (ii) contractual servicing fees. In some of those securitizations, we also retained certain lower-rated securities that are senior in payment priority to the interest- only securities. Such retained securities (classified as actively managed fixed maturity securities) had a par value, fair market value and amortized cost of $769.8 million, $494.6 million and $716.8 million, respectively, at December 31, 2000, and had a par value, fair market value and amortized cost of $769.8 million, $694.3 million and $712.6 million, respectively, at December 31, 1999.
During 1999 and 1998, the Company sold $9.7 billion and $13.4 billion, respectively, of finance receivables in various securitized transactions and recognized gains of $550.6 million and $745.0 million, respectively. During 2000, we recognized no gain on sale related to securitized transactions.
As described in note 1 under the caption entitled "Cumulative Effect of Accounting Change", the Company adopted the requirements of EITF 99-20 effective July 1, 2000. During 2000, management analyzed the assumptions used to determine the estimated fair value of the interest-only securities and made changes to the credit loss assumptions and the discount rate used to determine the value of several securities. These changes were made considering recent adverse default and loss trends and other economic factors. As a result of these changes, the cash flows from interest-only securities changed adversely from previous estimates. Pursuant to the requirements of EITF 99-20, the effect of these changes were reflected immediately in earnings as an impairment charge. The effect of the impairment charge and adjustments to the value of our interest-only securities and servicing rights totaled $515.7 million ($324.9 million after the income tax benefit) for 2000 (in addition to the cumulative effect of adopting EITF 99-20 of $70.2 million ($45.5 million after the income tax benefit)).
Activity in the interest-only securities account during 2000, 1999 and 1998 is as follows:
Pursuant to the amendment of our bank credit facilities, we have agreed that any amounts received from asset sales or refinancing transactions occurring after December 31, 2000 (with certain exceptions), would be used as follows: (i) the first $13 million received may be retained by Conseco until we have cash on hand held by the parent company of $330 million; (ii) of the next $512 million received, $73 million would be used to reduce our near-term facilities and $439 million would be added to the segregated cash account for the payment of public debt maturing in 2001; (iii) the next $200 million received would be added to the segregated cash account for the payment of debt maturing in 2001; (iv) the next available proceeds would be applied 80 percent to reduce our near-term facilities, with the remaining 20 percent retained by Conseco until we have cash on hand of $330 million held by the parent company, and then 100 percent to our near-term facilities until such facilities have been paid in full; and (v) any subsequent proceeds would be applied: (a) 50 percent to repay the $1.5 billion facility and to fund a segregated cash account to provide collateral for Conseco's guarantee related to the directors, officers and key employee stock purchase program (based on the relative balance due under each facility); and
The interest rate on our amended bank credit facilities is based on an IBOR rate plus a margin of 2.5 percent. Borrowings under the former and amended bank credit facilities averaged $1,787.3 million during 2000, at a weighted average interest rate of 7.6 percent.
During 2000, the Company amended an agreement with Lehman related to certain master repurchase agreements and the collateralized credit facility. Such amendment significantly reduced the restrictions on intercompany payments from Conseco Finance to Conseco as required by the previous agreement. In conjunction with the amendment, Conseco agreed to convert $750 million principal balance of its intercompany note due from Conseco Finance to $750 million stated value of Conseco Finance 9 percent redeemable cumulative preferred stock (the "intercompany preferred stock"). After such conversion and prepayments made during 2000, the intercompany note had a balance of $786.7 million.
Pursuant to the amended agreement, Conseco Finance may make the following payments to Conseco: (i) interest on the intercompany note; (ii) payments for products and services provided by Conseco; and (iii) intercompany tax sharing payments. Conseco Finance may also make the following payments to Conseco provided the minimum liquidity requirements defined in the amended agreement are met and the cash payments are applied in the order summarized: (i) unpaid interest on the intercompany note; (ii) prepayments of principal on the intercompany note or repayments of any increase to the intercompany receivable balance; (iii) dividends on the intercompany preferred stock; (iv) redemption of the intercompany preferred stock; and (v) common stock dividends. The liquidity test of the amended agreement requires Conseco Finance to have minimum levels of liquidity both before and after giving effect to such payments to Conseco. Liquidity, as defined, includes unrestricted cash and may include up to $150 million of liquidity available at Conseco Finance's bank subsidiaries and the aggregate amount available to be drawn under Conseco Finance's credit facilities (where applicable, based on eligible excess collateral pledged to the lender multiplied by the appropriate advance rate). The minimum liquidity must equal or exceed $250 million, plus: (i) 50 percent of cash up to $100 million generated by Conseco Finance subsequent to September 21, 2000; and (ii) 25 percent of cash generated by Conseco Finance in excess of $100 million, provided the total minimum cash liquidity shall not exceed $350 million and the cash generated by Conseco
Finance (used in the calculation to increase the minimum) will exclude operating cash flows and the net proceeds received from certain asset sales and other events listed in the amended agreement (which are consistent with the courses of actions we have previously announced).
The amended agreement requires Conseco Finance to maintain various financial ratios, commencing December 31, 2000, as defined in the agreement. These ratios include: (i) an adjusted tangible net worth of at least $1.95 billion (such amount was $2.1 billion at December 31, 2000); (ii) a fixed charge coverage ratio of not less than 1.0:1.0 for the three- month period ending December 31, 2000, and defined periods thereafter (such ratio was 1.15:1.0 for the quarter ended December 31, 2000); (iii) a ratio of net worth to total managed receivables of not less than 4:100 (such ratio was 4.41:100 at December 31, 2000); and (iv) a ratio of total non-warehouse debt (excluding master repurchase agreements and the collateralized credit facility) to net worth of less than 1.0:2.0 (such ratio was .08:2.0 at December 31, 2000).
The maturities of notes payable (excluding notes payable related to securitized finance receivables structured as collateralized borrowings) at December 31, 2000, were as follows (dollars in millions):
Notes Payable Related to Securitized Finance Receivables Structured as Collateralized Borrowings
1999. Beginning in 2000, as a result of plan amendments, no assumption for compensation increases was required. For measurement purposes, we assumed an 8.6 percent annual rate of increase in the per capita cost of covered health care benefits for 2001, decreasing gradually to 5.0 percent in 2010 and remaining level thereafter. During 2000 and 1999, we amended the pension plans of recently acquired companies to reduce future benefits accruing under such plans. These changes resulted in the actuarial, settlement and curtailment gains summarized above.
Eleven of the cases in the United States District Court were filed as purported class actions on behalf of persons or entities that purchased preferred securities issued by various Conseco Financing Trusts, including Conseco Financing Trust V, Conseco Financing Trust VI, and Conseco Financing Trust VII. Each of these complaints named as defendants the Company, the relevant trust (with two exceptions), two former officers/directors of the Company, and underwriters for the particular issuance (with one exception). One complaint also named an officer and all of the Company's directors at the time of issuance of the preferred stock by Conseco Financing Trust VII. In each case, plaintiffs assert claims under Section 11 and Section 15 of the Securities Act of 1933, and the eight complaints also asserted claims under Section 12(a)(2) of that Act. Two complaints also asserted claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, and one complaint also asserted a claim under Section 10(b) of that Act. In each case, plaintiffs alleged that the defendants violated the federal securities laws by, among other things, making false and misleading statements, in Prospectuses and/or Registration Statements related to the issuance of preferred securities by the Trust involved, regarding the current state and future prospects of Conseco Finance (particularly with respect to performance of certain loan portfolios of Conseco Finance) which allegedly rendered the disclosure documents false and misleading.
All of the securities cases have now been consolidated into one case in the United States District Court for the Southern District of Indiana, captioned: "In Re Conseco, Inc. Securities Litigation", cause number IP00-585-C-Y/S. An amended complaint was filed on January 12, 2001. The Company intends to defend this lawsuit vigorously. The ultimate outcome cannot be predicted with certainty.
The changes in unrealized appreciation (depreciation) included in comprehensive income are net of reclassification adjustments for after-tax net gains (losses) from the sale of investments included in net income of approximately $220 million, $(25) million and $475 million for the years ended December 31, 2000, 1999 and 1998, respectively.
During the fourth quarter of 2000, we sold transportation loans with a carrying value of $566.0 million (after the market adjustment described above) in whole loan sale transactions. We recognized an additional loss of $30.7 million on the sale. During 2000, we recognized a special charge and reduced goodwill by $20.3 million, representing the difference between: (i) the carrying value of the net assets of the vendor services financing business; and (ii) the anticipated proceeds from the sale of such business, which was completed in the first quarter of 2001.
During the second and third quarters of 2000, we repurchased a significant portion of the finance receivables sold to Lehman. These finance receivables were subsequently included in securitization transactions structured as financings. The cost of the finance receivables purchased from Lehman did not differ materially from the book value of the loans prior to their sale to Lehman.
We also paid Lehman $5.3 million in advisory fees related to the finance business and debt restructuring.
On April 28, 2000, Conseco and Rollin M. Dick, the Company's former Chief Financial Officer, entered into an agreement pursuant to which Mr. Dick's employment was terminated. As contemplated by the terms of his employment agreement, Conseco agreed to pay Mr. Dick his salary of $250,000 per year through December 31, 2001, and he also received the bonus of $187,500 payable under his employment agreement for the first quarter of 2000. Conseco also agreed to continue to treat Mr. Dick as though he was an employee/participant for purposes of the guaranteed bank loans and the loans for interest on such loans pursuant to the stock purchase program. Conseco also entered into a consulting agreement with Mr. Dick pursuant to which Mr. Dick has agreed to provide consulting services up to an average of 25 hours per month for a period of three years. Mr. Dick also agreed not to compete with Conseco during the term of the consulting agreement. On April 27, 2000, Mr. Dick was granted options to purchase an aggregate of 600,000 shares of Conseco common stock at a price of $5.75 per share. The options expire on April 26, 2003.
During 1998, we recognized special charges of $148.0 million related to the Merger including: $45.0 million transaction costs; $71.0 million severance and other employment related costs; and $32.0 million other costs. Transaction costs included expenses related to the Merger such as fees paid for investment bankers, attorneys, accountants and printers. Severance and other employment related costs included contractual severance and other benefits due to certain executives. Other costs included the write-off of computer equipment and related software that will no longer be used, losses for facilities to be vacated, increases to legal expense accruals, and various other costs.
In February 1999, we redeemed all $105.5 million (carrying value) of outstanding shares of Preferred Redeemable Increased Dividend Equity Securities, 7% PRIDES Convertible Preferred Stock ("PRIDES") in exchange for 5.9 million shares of Conseco common stock.
Changes in the number of shares of common stock outstanding during the years ended December 31, 2000, 1999 and 1998 were as follows:
Dividends declared on common stock for 2000, 1999 and 1998, were $.10, $.580 and $.530 per common share, respectively. As part of our plan to strengthen our capital structure, the Board of Directors reduced the cash dividend on our common stock to a quarterly rate of 5 cents per share, which was paid in April and July of 2000. In September 2000, cash dividend payments on our common stock were suspended. The amended bank credit facilities prohibit the payment of cash dividends on our common stock until the Company has received investment grade ratings on its outstanding public debt and the bank credit facilities maturing in December 2001 are paid in full.
The stock option activity and related information includes the combined activity and information of both Conseco and Conseco Finance for all periods. A summary of the Company's stock option activity and related information for the years ended December 31, 2000, 1999 and 1998, is presented below (shares in thousands):
The statutory capital and surplus shown above included investments in up-stream affiliates, all of which were eliminated in the consolidated financial statements prepared in accordance with GAAP, as follows:
State insurance laws generally restrict the ability of insurance companies to pay dividends or make other distributions. In 2001, our insurance subsidiaries may pay dividends to Conseco of $162.3 million without permission from state regulatory authorities. During 2000, our insurance subsidiaries paid dividends to Conseco totaling $178.0 million.
In 1998, the National Association of Insurance Commissioners adopted codified statutory accounting principles in a process referred to as codification. Such principles are summarized in the Accounting Practices and Procedures Manual. The revised manual is effective January 1, 2001. The domiciliary states of our insurance subsidiaries have adopted the provisions of the revised manual or, with respect to some states, adopted the manual with certain modifications. The revised manual has changed, to some extent, prescribed statutory accounting practices and will result in changes to the accounting practices that our insurance subsidiaries use to prepare their statutory-basis financial statements. However, we believe the impact of these changes to our insurance subsidiaries' statutory-based capital and surplus as of January 1, 2001, will not be significant.
marketing. Fee-based activities include services performed for other companies, including: (i) investment management; and (ii) insurance product marketing.
Corporate and other segment. Our corporate segment includes certain investment activities, such as our venture capital investment in the wireless communication company, TeleCorp, and our ownership interest in the riverboat casino in Lawrenceberg, Indiana. In addition, the corporate segment includes interest expense related to the Company's corporate debt, special corporate charges, income from the major medical lines of business which we intend to sell and other income and expenses. Corporate expenses are net of charges to our subsidiaries for services provided by the corporate operations.
This segment information is prepared in conformity with Financial Accounting Standards Board Statement No. 131 "Disclosures about Segments of an Enterprise and Related Information" which we adopted in 1998. We restated certain previously reported segment information to comply with the new standard.