Selected consolidated financial data for the Company are presented below for each of the five years in the period ended December 31, 1996. This data should be read in conjunction with the Company's Consolidated Financial Statements and notes thereto and Item 7, Management's Discussion and Analysis of Results of Operations and Financial Condition.
In June, 1996 the Insurance Company was notified that its A.M. Best rating was reaffirmed at "A- (Excellent)".
Net investment income totaled approximately $186.2 million in fiscal 1996, as compared to approximately $170.8 million in fiscal 1995 and approximately $157.3 million in fiscal 1994. This represents approximately a 9.0% increase comparing fiscal 1996 to fiscal 1995 and approximately a 8.6% increase comparing fiscal 1995 to fiscal 1994. Investment income from "other invested assets" totaled approximately $35.3 million in fiscal 1996, $32.5 million in fiscal 1995 and $25.1 million in fiscal 1994. In fiscal 1996 and 1995, the Insurance Company participated in "dollar roll" transactions (i.e., the sale of a mortgage-backed security and a simultaneous agreement to purchase a similar security at a later date at a lower price) to enhance investment income. The proceeds from the sale are invested in short-term securities at a positive spread until the settlement date of the similar security. During this period, the holding institution receives all income and prepayments for the security. The Company's ratio of net investment income to average cash and invested assets less net investment income for the years ended December 31, 1996, 1995 and 1994 was approximately 8.83%, 9.01% and 8.49%, respectively. For additional information, please refer to "Note 2 of the Notes to Consolidated Financial Statements."
Interest credited and benefits to policyholders amounted to approximately $124.3 million in fiscal 1996 as compared to approximately $123.9 million in fiscal 1995 and approximately $119.7 million in fiscal 1994. This represents an increase of approximately 0.3% comparing fiscal 1996 to fiscal 1995 and approximately a 3.5% increase comparing fiscal 1995 to fiscal 1994. The increase in fiscal 1995 principally is attributable to a higher average credited rate and a higher level of policyholder account balances.
The Insurance Company's average credited rates for reserves and account balances for the 12 months ended December 31, 1996, 1995 and 1994 were less than the Company's ratio of net investment income to mean assets for the same periods as noted above under "Net Investment Income." Although management does not currently expect material declines in the spread between the Company's average credited rate for reserves and account balances and the Company's ratio of net investment income to mean assets (the "Spread"), there can be no assurance that the Spread will not decline in future periods or that such decline will not have a material adverse effect on the Company's financial condition and results of operations. Depending, in part, upon competitive factors affecting the industry in general, and the Company, in particular, the Company may, from time to time, adjust the average credited rates on certain of its products. There can be no assurance that the Company will reduce such rates or that any such reductions will broaden the Spread.
General expenses, taxes and commissions to agents totaled approximately $17.2 million in fiscal 1996 as compared to approximately $15.0 million in fiscal 1995 and approximately $10.0 million in fiscal 1994. This represents approximately a 14.7% increase comparing fiscal 1996 to fiscal 1995 and approximately a 49.6% increase comparing fiscal 1995 to fiscal 1994. The increase in fiscal 1996 compared to fiscal 1995 is primarily attributable to higher professional fees related to the potential acquisition of Fidelity. The increase in fiscal 1995 compared to fiscal 1994 is primarily attributable to an increase in (i) commissions and related expenses as a result of an increase in sales of single premium deferred annuities and (ii) data processing related expenses as a result of upgrading certain computer systems.
For the reasons discussed above, income before income taxes amounted to approximately $76.4 million in fiscal 1996, as compared to approximately $56.4 million in fiscal 1995 and approximately $37.2 million in fiscal 1994.
Income tax expense (benefit) was approximately $21.8 million for fiscal 1996, as compared to approximately $7.3 million in fiscal 1995 and approximately $(2.7) million in fiscal 1994. The increase in income taxes in fiscal 1996 is primarily attributable to higher income from operations and realized capital gains during fiscal 1996. In addition, as a result of the finalization of the Company's 1994 federal income tax return, the federal income tax recoverable from operations and capital loss carryback recorded at December 31, 1994 was increased in fiscal 1995 by $3.1 million which reduced income tax expense by a similar amount.
For the reasons discussed above, the Company had net income of approximately $54.5 million in fiscal 1996, net income of approximately $49.1 million in fiscal 1995 and net income of approximately $39.9 million in fiscal 1994.
Principal sources of funds at the Insurance Company are premiums and other considerations paid, net investment income received and proceeds from investments called, redeemed or sold. The principal uses of these funds are the payment of benefits on annuity contracts and life insurance policies, (including withdrawals and surrender payments), the payment of policy acquisition costs, operating expenses and the purchase of investments.
The Company currently has one bank line of credit for $5 million.
To meet its anticipated liquidity requirements, the Company purchases investments taking into account the anticipated future cash flow requirements of its underlying liabilities. In managing the relationship between assets and liabilities, the Company analyzes the cash flows necessary to correspond with the expected cash needs on the underlying liabilities under various interest rate scenarios. In addition, the Company invests a portion of its total assets in short-term investments (approximately 9.97%, 8.2% and 6.4% as of December 31, 1996, 1995 and 1994, respectively). The weighted average duration of the Company's investment portfolio was approximately seven years as of December 31, 1996. The Company's fixed maturity investments are all classified as available for sale and includes those securities available to be sold in response to, among other things, changes in market interest rates, changes in the security's prepayment risk, the Company's need for liquidity and other similar factors. These investments are carried at estimated market value, and unrealized gains (losses), net of federal income taxes and deferred policy acquisition costs, if any, are charged directly to shareholders' equity, unless a decline in market value is considered to be other than temporary, in which event the Company recognizes a loss. Equity securities include common stocks and non-redeemable preferred stocks and are carried at market, with the related unrealized gains and losses, net of federal income taxes, if any, charged or credited directly to shareholders' equity, unless a decline in market value is considered to be other than temporary, in which event the Company recognizes a loss.
The Insurance Company is subject to Regulation 130 adopted and promulgated by the NYSDI. Under this Regulation, the Insurance Company's ownership of below investment grade debt securities is limited to 20.0% of total admitted assets, as calculated under statutory accounting practices. As of December 31, 1996 and 1995, approximately 5.4% and 7.4%, respectively of the Insurance Company's total admitted assets were invested in below investment grade debt securities.
The Company maintains a portfolio which includes below investment grade securities which were purchased to achieve a more favorable investment yield, all of which are classified as available for sale and reported at estimated market value. As of December 31, 1996 and 1995, the carrying value of these securities was approximately $119.8 million and $159.6 million, respectively (representing approximately 5.0% and 6.8%, respectively of the Company's total assets and 28.3% and 39.8%, respectively of shareholders' equity).
In certain situations, the terms of some fixed maturity assets are restructured or modified. Restructured fixed maturities amounted to $8.6 million at December 31, 1996.
As previously discussed, in fiscal 1996 and 1995 the Company participated in "dollar roll" repurchase agreement transactions. Amounts outstanding to repurchase securities under such agreements were approximately $200.9 million and $160.4 million at December 31, 1996 and 1995, respectively. The Company may engage in selected "dollar roll" transactions as market opportunities arise.
The Company disagreed with the Insurance Commissioner's actions and commenced litigation. Subsequently, the Company and the Insurance Commissioner have agreed to settle this litigation.
Interest rate changes also may have temporary effects on the sale and profitability of the universal life and annuity products offered by the Company. For example, if interest rates rise, competing investments (such as annuity or life insurance products offered by the Company's competitors, certificates of deposit, mutual funds and similar instruments) may become more attractive to potential purchasers of the Company's products until the Company increases the rates credited to holders of its universal life and annuity products. In contrast, as interest rates fall, the Company attempts to lower its credited rates to compensate for the corresponding decline in its net investment income. As a result, changes in interest rates could materially adversely effect the financial condition and results of operations of the Company depending on the attractiveness of alternative investments available to the Company's customers. In that regard, in the current interest rate environment, the Company has attempted to maintain its credited rates at competitive levels which are designed to discourage surrenders and which may be considered attractive to purchasers of new annuity products. In addition, because the level of prevailing interest rates impacts the Company as well as its competition, management does not believe that the low interest rate environment has materially affected the Company's competitive position vis a vis other life insurance companies that emphasize the sale of annuity products. Notwithstanding the foregoing, if interest rates continue at current levels or decline further, there can be no assurance that this segment of the life insurance industry, including the Company, would not experience increased levels of surrenders and reduced sales and thereby be materially adversely affected.
In December 1996, the Financial Accounting Standards Board ("FASB") issued SFAS No. 127, "Deferral of the Effective Date of Certain Provisions of FASB Statement No. 125." SFAS No. 127 amends SFAS No. 125 by deferring for one year the effective date of paragraph 15 of SFAS No. 125, addressing secured borrowings and collateral, and for repurchase agreement, dollar roll, security lending and similar transactions, of paragraphs 9 through 12 and 237(b) of SFAS No. 125.