The Company's business segments are: (i) Health Insurance, which includes the businesses of the Self-Employed Health Insurance Division and the Student Health Insurance Division; (ii) Life Insurance and Annuity; and (iii) Corporate and Other, which includes the businesses of the HealthCare Solutions Division and the Credit Services Division, invested income not allocated to the other segments, expenses relating to corporate operations, goodwill amortization, interest expense and realized gains or losses on sale of investments. Net investment income is allocated to the Health Insurance segment and the Life Insurance and Annuity segment based on policyholder liabilities. The interest rate for the allocation is based on a high credit quality investment portfolio with a duration consistent with the targeted duration of the segment's policy liabilities.
Health premiums. Health premiums increased to $473.8 million in 1995 from $415.3 million in 1994, an increase of $58.5 million, or 14%. The increase was primarily due to the growth in sales of new health insurance policies and increased premiums from coinsured policies sold by UGA and issued by AEGON. In 1995, the coinsurance percentage on both in force and new health insurance policies issued by AEGON increased to 55% from 52.5% in 1994. During 1995, the Company also acquired a block of health insurance policies that contributed to the increase in health premiums.
Life premiums. Life premiums increased to $38.5 million in 1995 from $37.0 million in 1994, an increase of $1.5 million, or 4%. The increase was a result of the sale of new life policies.
Net investment income. Net investment income increased to $65.1 million in 1995 from $48.0 million in 1994, an increase of $17.1 million, or 36%. The increase was due to both an increase in invested assets and an increase in the yield on invested assets. Investments increased to $931.3 million at December 31, 1995 from $835.2 million at December 31, 1994. During 1995, the Company extended the asset portfolio duration to
more closely match the Company's target duration for its policy liabilities, which contributed to a higher yield on invested assets. Market yields on short term investments were also higher in 1995 than in 1994.
Fees and other income. Fees and other income increased to $61.5 million in 1995 from $28.6 million in 1994, an increase of $32.9 million, or 115%. The increase related primarily to the increase in Credit Services Division revenue and revenue from the companies acquired by the HealthCare Solutions Division in 1995.
Gains (losses) on sale of investments. The Company recognized gains on sales of investments of $2.2 million in 1995 compared to losses of $5.8 million in 1994. The amount of realized gains or losses on the sale of investments is a function of interest rates, market trends and the timing of sales. Gains are more likely during periods of decreasing long term interest rates, as occurred in 1995. Losses are more likely during periods of increasing long term interest rates, as occurred in 1994. In addition, due to decreasing long term interest rates in 1995, the net unrealized investment gains on securities classified as "available for sale," reported as a separate component of stockholders' equity and net of applicable income taxes and minority interests, was $6.8 million at December 31, 1995 compared to net unrealized investment losses of $18.1 million at December 31, 1994.
Benefits, claims, and settlement expenses. Benefits, claims, and settlement expenses increased to $317.2 million in 1995 from $273.8 million in 1994, an increase of $43.4 million, or 16%. The increase was primarily due to the growth in premium volume. As a percentage of revenues, these expenses decreased to 49.5% in 1995 from 52.3% in 1994, as a result of the increased revenues from the Credit Services Division and HealthCare Solutions Division, whose expenses are primarily classified as underwriting, acquisition, and insurance expenses.
Interest expense. Interest expense increased to $3.9 million in 1995 from $1.9 million in 1994, an increase of $2.0 million. The increase was due to the 8.75% Senior Notes issued June 22, 1994 and additional debt incurred in the financing of the credit card loans.
Income before federal income taxes and minority interests ("operating income"). Operating income increased to $86.7 million in 1995 from $56.0 million in 1994, an increase of $30.7 million, or 55%. Operating income for each of the Company's segments and divisions was as follows:
Life Insurance and Annuity. Operating income for the Life Insurance and Annuity segment increased to $11.6 million in 1995 from $10.6 million in 1994, an increase of $1.0 million, or 9%. The increase was due to an increase in premiums, an increase in net investment income allocated to life insurance and annuity products, and a decrease in administrative expenses.
Revenues. Revenues increased to $522.9 million in 1994 from $451.8 million in 1993, an increase of $71.1 million or 16%. The increase was a result of increases in premiums and net investment income which was partially offset by a decrease in fees and other income and losses on sales of investments in 1994 compared to gains in 1993.
Benefits, claims, and settlement expenses. Benefits, claims, and settlement expenses increased to $273.8 million in 1994 from $224.4 million in 1993, an increase of $49.4 million, or 22%. The increase was primarily due to the growth in premium volume. As a percentage of revenues, these expenses increased to
52.3% in 1994 from 49.7% in 1993, primarily as a result of the increased health loss ratio which increased to 57% in 1994 from 55% in 1993.
Income before federal income taxes and minority interests ("operating income"). Operating income increased to $56.0 million in 1994 from $53.0 million in 1993, an increase of $3.0 million, or 6%. Operating income for each of the Company's segments and divisions was as follows:
Health Insurance. Operating income for the Health Insurance segment increased to $51.9 million in 1994 from $41.3 million in 1993, an increase of $10.6 million, or 26%. This increase was due to a 21% increase in health premiums and a decrease in the combined health ratio to 93% in 1994 from 94% in 1993. Operating income increased $5.4 million for the Self-Employed Health Insurance Division and $5.2 million for the Student Health Insurance Division. The increase in operating income for the Student Health Insurance Division in 1994 was primarily due to the fact that 1993 was the last year that the Company paid a commission that was based on a percentage of the profits of the Student Health Insurance Division.
Life Insurance and Annuity. Operating income for the Life Insurance and Annuity segment increased to $10.6 million in 1994 from $7.7 million in 1993, an increase of $2.9 million, or 37%. The increase was primarily due to an increase in premiums resulting from an acquisition of a life insurance company in March 1994.
Many proposals have been introduced in Congress and various state legislatures to reform the present health care system. Some of these proposals are specifically directed at the small group health care market, which could affect the Company's principal business. At the state level, a number of states have passed or are considering legislation that would limit the differentials in rates that carriers could charge between new business and renewal business and with respect to similar demographic groups. Legislation also has been adopted or is being considered that would make health insurance available to all small groups by requiring coverage of all employees and their dependents, by limiting the applicability of pre-existing conditions exclusions, by requiring carriers to offer a basic plan exempt from certain mandated benefits as well as a standard plan and by establishing a mechanism to spread the risk of high risk employees to all small group carriers.
Deferred acquisition costs. Under generally accepted accounting principles, certain policy acquisition costs may be deferred and amortized over the expected life of the policy. For all of the business in the Health Insurance segment, only the commissions and premium taxes related to the unearned premiums are deferred. This amount increased to $16.1 million at December 31, 1995 from $14.1 million at December 31, 1994, due to an increase in health insurance policies issued or coinsured. As a result of an increase in life insurance and annuity policies issued in the Life Insurance and Annuity segment, deferred acquisition costs increased to $19.6 million at December 31, 1995 from $12.6 million at December 31, 1994. The remaining deferred acquisition costs of $20.4 million at December 31, 1995 and $30.1 million at December 31, 1994 relates primarily to the cost of various blocks of insurance acquired. Amortization of the cost of insurance acquired accounts for the decrease on this portion. Deferred acquisition costs are reviewed periodically to determine that the unamortized portion does not exceed expected recoverable amounts.
The Company's claims liabilities are computed using the Company's own experience to estimate outstanding claims. The Company periodically tests its estimation process to monitor the degree to which the Company's method continues to properly estimate future obligations.
The primary sources of cash for the Company are premium revenues from policies issued or coinsured, investment income and fees and other income. The primary uses of cash are payments for benefits, claims and commissions under those policies and operating expenses. Net cash provided from operations totaled approximately $84.2 million in 1995, $64.8 million in 1994, and $63.8 million in 1993. The Company's insurance subsidiaries invest a substantial portion of these funds, pending payment of their pro rata share of future benefits and claims.
The Company's invested assets increased to $931.3 million at December 31, 1995 from $835.2 million at December 31, 1994, an increase of $96.1 million. The primary sources for asset growth were increases in the funds retained for future payments of health insurance policy liabilities, cash provided by current year earnings, and the increase in market values of the fixed maturity securities held as "available for sale." The increase in market values were the direct result of decreases in long term interest rates. These sources were offset by withdrawals from investment products (primarily annuities) and the acquisition of companies relating to the HealthCare Solutions Division in 1995.
During 1995, the Company borrowed $10.7 million from Mr. Jensen which was principally used to pay off the then existing indebtedness on the AEGON revolving credit note. The note is due on demand and bears interest at the prime rate. At March 21, 1996, the outstanding principal amount of the note was $2.4 million.
At December 31, 1995, the Company had approximately $546.1 million in student loan commitments outstanding of which the Company expects to fund approximately $74.0 million. These commitments will continue to come due in years 1996 through 2017. The Company estimates that approximately $6.0 million in student loans will be funded in 1996.
The Company has commitments to fund the unused line of credit on certain credit cards and to purchase the credit card receivables related to the credit cards issued by the Credit Services Division. At December 31, 1995, the outstanding commitment for the unused line of credit was $14.5 million.
Reinsurance receivables decreased to $65.3 million at December 31, 1995 from $83.7 million at December 31, 1994. In 1994, the Company assumed a block of life and annuity policies which were ceded to an unrelated reinsurer. These policies were subject to a moratorium on withdrawals and surrenders at the time of purchase. A significant portion of the decrease in the reinsurance receivables relates to the surrenders and withdrawals on these policies, which were made in 1995 after the expiration of the moratorium period. There was a corresponding decrease in future policy and contract benefits.
Dividends paid by domestic insurance companies out of earned surplus in any year are limited by the law of the state of domicile. See "Item 5. Market for Registrant's Common Stock and Related Stockholder Matters."
General. The Company has an Investment Committee which monitors the investment portfolio of the Company and its subsidiaries. The Investment Committee receives investment management services from external professionals. The largest portion of the Company's portfolio is managed by AEGON.
Fixed maturity securities. Fixed maturity securities accounted for 81.0% of the Company's total investments at December 31, 1995. Fixed maturity securities consisted of the following:
As of December 31, 1995, $722.5 million or 95.8% of the fixed maturity securities portfolio was rated BBB or better (investment grade) and only $32.0 million or 4.2% of the fixed maturity securities portfolio were invested in below investment grade securities (less than BBB). A quality distribution for fixed maturity securities is as follows:
Inflation historically has had a significant impact on the health insurance business. In recent years, inflation in the costs of medical care covered by such insurance has exceeded the general rate of inflation. Under the major hospital insurance coverage, established ceilings for covered expenses limit the impact of inflation on the amount of claims paid. Under the catastrophic hospital expense plans, covered expenses are generally limited only by a maximum lifetime benefit and a maximum lifetime benefit per accident or sickness. Thus, inflation may have a significantly greater impact on the amount of claims paid under catastrophic hospital expense plans as compared to claims under major hospital coverage. As a result, trends in health care costs must be monitored and rates adjusted accordingly. Under the health insurance policies issued
in the self-employed market, the primary insurer generally has the right to increase rates upon 30-60 days written notice.