In 1993, AAG and GALIC moved their offices to Cincinnati from Stamford, Connecticut and Los Angeles, California, respectively.
AAG and GALIC rent office space in Cincinnati totaling approximately 90,000 square feet under leases expiring in 1996 through 1999. Management believes that its corporate offices are generally well maintained and adequate for the Company's present needs.
Interior Expiration Location Square Feet Use (if leased) Discontinued operations: North Adams, MA 154,000 Manufacturing facility Owned Hudson, NH 121,400 Manufacturing facility March 2003 Concord, NH 113,000 Manufacturing facility Owned Hillsville, VA 102,000 Manufacturing facility Owned Ronse, Belgium 85,000 Manufacturing facility Owned Longwood, FL 60,000 Manufacturing facility Owned North Adams, MA 44,000 R & D facility Owned North Adams, MA 22,000 Manufacturing facility January 1998
Most of the manufacturing facilities are still owned and are currently being leased to companies using them for manufacturing operations. The Company is attempting to sell or extend leases on these facilities. In addition to the facilities listed above, the Company has agreed to contribute a facility in North Adams, Massachusetts which has been vacant for several years to a not- for-profit entity which intends to develop the property into a multi- discipline art center.
Federal and state laws and regulations, including the federal Comprehensive Environmental Response, Compensation, and Liability Act and similar state laws, impose liability on the Company (as the successor to Sprague) for the investigation and cleanup of hazardous substances disposed of or spilled by its discontinued manufacturing operations, at facilities still owned by the Company and facilities transferred in connection with the sales of certain operations, as well as at disposal sites operated by third parties. In addition, the Company has indemnified the purchasers of its former operations for the cost of such activities. At several sites, the Company is conducting cleanup activities of soil and ground water contamination in accordance with consent agreements between the Company and state environmental agencies. The Company has also conducted or is aware of investigations at a number of other locations of its former operations that have disclosed environmental contamination that could cause the Company to incur additional investigative, remedial and legal costs. The Company has also been identified by state and federal regulators as a potentially responsible party at a number of other disposal sites.
The Maine Department of Environmental Protection has issued a proposed Administrative Consent Agreement and Enforcement Order calling for a $328,000 fine based on alleged 1991 violations of certain reporting regulations. The Company is working with the Department of Environmental Protection to resolve this matter and is negotiating the amount of the fine.
There are certain other claims involving the Company, including claims relating to the generation, disposal or release into the environment of allegedly hazardous substances. In management's opinion, the outcome of these claims will not, individually or in the aggregate, have a material adverse effect on the Company's financial condition or results of operations.
AAG is organized as a holding company with nearly all of its operations being conducted by Great American Life Insurance Company ("GALIC"). The parent corporation, however, has continuing expenditures for administrative expenses, corporate services, liabilities in connection with discontinued operations and, most importantly, for the payment of interest and principal on borrowings. Since its continuing business is financial in nature, AAG does not prepare its consolidated financial statements using a current- noncurrent format. Consequently, certain traditional ratios and financial analysis tests are not meaningful.
Sources and Uses of Funds AAG's ability to make payments of interest and
In connection with the acquisition of GALIC on December 31, 1992, AAG sold Common and Preferred Stock to GALIC's parent for $156 million in cash. The proceeds of those stock sales together with $230 million in new borrowings and most of the accumulated cash funds of the Company were used to purchase GALIC. The total cost to acquire GALIC was approximately $486 million, including transaction costs and fees of $17.4 million.
The borrowings used to fund the GALIC acquisition were repaid during 1993 from the sales of $125 million of 11-1/8% Senior Subordinated Notes due 2003 and $100 million of 9-1/2% Senior Notes due 2001.
In 1994, AAG (i) issued 4.0 million shares of Common Stock in exchange for all of its Preferred Stock and $7.1 million principal amount of its notes and (ii) repurchased $70.0 million principal amount of its notes (including $14 million purchased by GALIC).
Based upon the current level of operations and anticipated growth, AAG believes that it will have sufficient resources to meet its liquidity requirements.
The NAIC assigns quality ratings to publicly traded as well as privately placed securities. At December 31, 1994, 94% of AAG's fixed maturity portfolio was comprised of investment grade bonds (NAIC rating of "1" or "2"). Management believes that the high credit quality of AAG's investment portfolio should generate a stable and predictable investment return.
At December 31, 1994, AAG's mortgage-backed securities portfolio consisted primarily of collateralized mortgage obligations ("CMOs"), which represented approximately 28% of fixed maturity investments compared to 35% at December 31, 1993. As of December 31, 1994, interest only (I/O), principal only (P/O) and other "high risk" CMOs represented less than two-tenths of one percent of total assets. AAG invests primarily in CMOs which are structured to minimize prepayment risk. In addition,
Substantially all of AAG's CMOs are AAA-rated by Standard & Poor's Corporation and are collateralized primarily by GNMA, FNMA and FHLMC single- family residential pass-through certificates. The market in which these securities trade is highly liquid. Aside from interest rate risk, AAG does not believe a material risk (relative to earnings or liquidity) is inherent in holding such investments.
General GALIC was acquired by AAG on December 31, 1992; accordingly, its results are not included in the Company's statement of operations prior to 1993. Following is a condensed statement of operating earnings, excluding realized gains and losses and the 1993 provision for relocation expense (in millions):
Net operating earnings for 1994 were up 17% from 1993. Increases in interest margins and growth in invested assets contributed to the improvement. While net operating earnings is not considered an alternative
1994 1993 Flexible Premium Deferred Annuities: First year $ 39 $ 47 Renewal 208 223 247 270 Single Premium Deferred Annuities 196 130 Total annuity receipts $443 $400
All of GALIC's products are fixed rate annuities which permit GALIC to change the crediting rate at any time (subject to minimum interest rate guarantees of 3% to 4% per annum). As a result, management has been able to react to changes in interest rates and maintain a desired interest rate spread with little or no effect on persistency.
Net Investment Income Net investment income increased 5% in 1994 over 1993 due primarily to an increase in the Company's average invested asset base. Investment income is reflected net of investment expenses of $4.9 million in 1994 and 1993.
Amortization of Deferred Policy Acquisition Costs ("DPAC") DPAC (principally commissions, advertising, underwriting, policy issuance and sales expenses that vary with and are primarily related to the production of new business) amortization in 1994 decreased 52% from 1993. This decrease reflects reviews during 1993 and 1994 of DPAC assumptions, which resulted in updating certain factors, primarily the time frame over which DPAC is amortized. The time frame was extended to more accurately reflect the
estimated lives of policies and the expected gross profits resulting from these policies. Estimates of lives and expected gross profits were refined based on actual experience of the Company by product line.
Provision for Relocation Expenses In 1993, GALIC relocated its corporate offices from Los Angeles to Cincinnati; the estimated pretax cost of this move ($8.0 million) was included in 1993 continuing operations.
Discontinued Operations The Company has sold virtually all of its former manufacturing businesses. A small Belgium based subsidiary continues to be held for sale along with certain properties, many of which are currently leased to companies using them for manufacturing operations.
While it is difficult to estimate future environmental investigative, remedial and legal costs accurately, management believes the remaining aggregate cost at all sites for which it has responsibility will range from $8.6 million to $14.0 million at December 31, 1994. Management's estimate of this range at year end 1993 was $10 million to $15 million. The reserve for environmental related costs was $11.7 million at December 31, 1994 and $10.6 million at December 31, 1993.
Regulatory standards for clean-up are continuously evolving toward more stringent requirements. Changes in regulatory standards and further investigations (many of which are still preliminary) at the Company's former operating locations and third-party sites could affect estimated costs in the future. Management believes, based on the costs incurred by the Company over the past several years and discussions with its independent environmental consultants, that reserves recorded are sufficient to satisfy the known liabilities and that the ultimate cost will not, individually or in the aggregate, have a material adverse effect on the financial condition or results of operations of AAG.
In 1991, the Company identified possible deficiencies in procedures for reporting quality assurance information to the Defense Electronics Supply Center ("DESC") with respect to the Company's former manufacturing operations. Over the last several years, the Company has been engaged in negotiations with the United States Government with respect to the settlement of claims the Government might have arising out of the reporting deficiencies. Based on these negotiations, the Company believed it had sufficient reserves to cover the estimated settlement amount. In March 1995, the Company received notification from the Government indicating additional reporting deficiencies. The Company is in the process of
evaluating this information and is unable to ascertain the validity of these new claims or the amounts involved. It is impossible to determine the impact, if any, of these alleged claims on the Company and its financial condition.
Extraordinary Items In 1994, AAG repurchased $77.1 million principal amount of its notes, realizing a pretax loss of $1.5 million ($1.0 million net of tax). In addition, AAG recorded a pretax charge of $1.1 million ($700,000 net of tax), representing AAG's proportionate share of Chiquita's extraordinary loss on the retirement of certain of its debt in the first quarter of 1994.
Effective January 1, 1992, AAG implemented SFAS No. 106, "Accounting for Postretirement Benefits Other Than Pensions", and recorded a provision of $3.1 million for the projected future costs of providing postretirement benefits to retirees in its discontinued manufacturing operations.
Consolidated Statement of Operations: Years Ended December 31, 1994, 1993 and 1992
The information required by the following Items will be included in American Annuity's definitive Proxy Statement for the 1995 Annual Meeting of Stockholders which will be filed with the Securities and Exchange Commission within 120 days of the Company's fiscal year end and is herein incorporated by reference:
We have audited the accompanying consolidated balance sheets of American Annuity Group, Inc. and subsidiaries as of December 31, 1994 and 1993, and the related consolidated statements of operations, changes in stockholders' equity and cash flows for each of the three years in the period ended December 31, 1994. Our audits also included the financial statement schedules listed in the Index at Item 14(a). These financial statements and schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedules based on our audits.
American Financial Corporation and subsidiaries ("AFC") owned 31,319,629 shares (80%) of AAG's Common Stock at December 31, 1994.
Short-term investments are carried at cost; mortgage loans on real estate are generally carried at amortized cost; policy loans are stated at the aggregate unpaid balance. Carrying amounts of these investments approximate their fair value.
Gains or losses on sales of securities are recognized at the time of disposition with the amount of gain or loss determined on the specific identification basis. When a decline in the value of a specific investment is considered to be other than temporary, a provision for impairment is charged to earnings and the carrying value of that investment is reduced. Premiums and discounts on mortgage-backed securities are amortized over their expected average lives using the interest method.
Income Taxes As of December 31, 1992, AAG and its 80%-owned U.S. subsidiaries were consolidated with AFC for federal income tax purposes.
AAG and GALIC have separate tax allocation agreements with AFC which designate how tax payments are shared by members of the tax group. In general, both companies compute taxes on a separate return basis. GALIC is obligated to make payments to (or receive benefits from) AFC based on taxable income without regard to temporary differences. In accordance with terms of AAG's indentures, AAG receives GALIC's tax allocation payments for the benefit of AAG's deductions arising from current operations. If GALIC's taxable income (computed on a statutory accounting basis) exceeds a current period net operating loss of AAG, the taxes payable by GALIC associated with the excess are payable to AFC. If the AFC tax group utilizes any of AAG's net operating losses or deductions that originated prior to 1993, AFC will pay to AAG an amount equal to the benefit received.
Deferred income tax assets and liabilities are determined based on differences between financial reporting and tax bases and are measured using enacted tax rates. Current and deferred tax assets and liabilities are aggregated with other amounts receivable from or payable to affiliates.
AAG and certain of its subsidiaries provide health care and life insurance benefits to eligible retirees. Effective January 1, 1992, AAG implemented SFAS No. 106, "Accounting for Postretirement Benefits Other Than Pensions". This standard requires companies to expense projected future costs of providing benefits as employees render service.
Available for Sale Amortized Market Gross Unrealized Cost Value Gains Losses U. S. Government and government agencies and authorities $ 130.3 $125.3 $0.1 ($ 5.1) Public utilities 66.2 63.7 0.2 (2.7) Mortgage-backed securities 604.6 564.8 0.7 (40.5) All other corporate 525.3 504.8 2.2 (22.7) $1,326.4 $1,258.6 $3.2 ($71.0)
"Investing activities" related to fixed maturity investments during 1994 included in AAG's Consolidated Statement of Cash Flows consisted of the following:
Held to Available 1993 Maturity Maturity for Sale Total Total One year or less * * * * After one year through five years 14% 1% 15% 10% After five years through ten years 36 8 44 43 After ten years 7 6 13 12 57 15 72 65 Mortgage-backed securities 16 12 28 35 73% 27% 100% 100% [FN] * less than 1%
The carrying values of investments in any entity or mortgage-backed security, ("MBS") in excess of 10% of stockholders' equity at December 31, 1994, other than investments in affiliates and investments issued or guaranteed by the U.S. Government or government agencies, were as follows (in millions):
Realized $ 34.3 $ 1.2 ($ 12.4) $ 23.1 Change in Unrealized 88.6 10.9 (34.8) 64.7
As of February 28, 1995, the pretax unrealized losses on AAG's available for sale portfolio had decreased approximately $50 million since year end 1994, due primarily to a decrease in the general level of interest rates.
In the first quarter of 1994, AAG recorded a pretax extraordinary charge of $1.1 million, representing its proportionate share of Chiquita's loss on the retirement of debt.
Included in AAG's retained earnings (deficit) at December 31, 1994, was approximately $5.5 million applicable to equity in undistributed net losses of Chiquita.
The DPAC balances at December 31, 1994 and 1993 are shown net of unearned revenues of $158.8 million and $146.2 million, respectively.
1994 1993 AAG (Parent Company): 11-1/8% Senior Subordinated Notes due February 2003 $103.9 $125.0 9-1/2% Senior Notes due August 2001 44.0 100.0 Bank Credit Line due December 1998 30.0 - Subsidiary debt 5.4 0.9 Total $183.3 $225.9
During 1994, AAG repurchased $21.1 million principal amount of its 11-1/8% Notes (including $3 million purchased by GALIC) and $56.0 million principal amount of its 9-1/2% Notes (including $11 million purchased by GALIC) in exchange for approximately $69 million in cash and 810,000 shares of its Common Stock. As a result of the repurchases, AAG realized a pretax extraordinary loss of $1.5 million.
In connection with the GALIC acquisition, AAG borrowed $180 million under a Bank Term Loan Agreement and $50 million under a Bridge Loan. In 1993, AAG sold $225 million principal amount of Notes to the public and used the proceeds to repay the Bank and Bridge Loans. As a result, AAG recorded an extraordinary loss of $5.2 million ($3.4 million net of tax) representing unamortized bank debt issue costs which were written off upon retirement of the bank debt.
AAG has no scheduled principal payments on its 9-1/2% Notes and 11-1/8% Notes until 2001. Interest payments were $23.2 million in 1994, $11.7 million in 1993 and $2.0 million in 1992.
Net sales $ - $ - $ 80.7 Cost of sales - - (80.7) Interest and debt expense - - (1.2) Loss on sales of businesses and restructuring provisions (4.0) (14.8) (24.5) Loss from discontinued operations before tax (4.0) (14.8) (25.7) Income tax benefit (1.4) (5.2) (8.9)
All of the Company's former manufacturing businesses are reported as discontinued operations. At December 31, 1994, the Company's last manufacturing unit, Electromag NV, was being held for sale and was carried at estimated net realizable value.
During 1992, the Company recorded charges related to discontinued operations as follows: employee related obligations - $6.8 million; environmental liabilities - $5.0 million; corporate office shutdown and severance costs - $5.0 million; property valuation adjustments - $3.6 million; potential merchandise returns - $2.0 million and other - $2.1 million.
Effective January 1, 1992, AAG implemented SFAS No. 106 and recorded a provision of $3.1 million for the projected future costs of providing postretirement medical benefits to retirees in its discontinued manufacturing operations.
December 31, 1994 1993 Deferred tax assets: Net operating loss carryforwards $47.6 $56.4 Accrued expenses 13.3 16.7 Investment securities 50.8 - Valuation allowance for deferred tax assets (50.6) (61.3)
Deferred tax liabilities: Deferred policy acquisition costs (21.9) (13.1) Policyholder liabilities (16.0) (12.3) Investment securities - (6.1)
At December 31, 1994, AAG had net operating loss carryforwards for federal income tax purposes of approximately $136 million which are scheduled to expire as follows: $6 million in 1995 and 1996; $130 million in 2001 through 2005. Cash disbursements for income taxes were not material.
Leases relate principally to certain administrative facilities and discontinued operations. Future minimum lease payments, net of sublease revenues, under operating leases having initial or remaining noncancellable lease terms in excess of one year at December 31, 1994 are payable as follows: 1995 - $1.6 million; 1996 - $1.7 million; 1997 - $1.3 million; 1998 - $1.0 million; 1999 - $900,000; 2000 and beyond - $2.2 million.
Rental expense for operating leases was $1.7 million in 1994, $900,000 in 1993 and $1.5 million in 1992.
The Company is continuing its investigations and clean-up activities in accordance with consent agreements with state environmental agencies. Based on the costs incurred over the past several years and discussions with independent environmental consultants, the Company believes the remaining aggregate cost of environmental work at all sites for which it has responsibility will range from $8.6 million to $14.0 million. The reserve for environmental work was $11.7 million at December 31, 1994. Management does not believe that these clean-up activities will have a material effect upon the Company's financial position, results of operations or cash flows.
K. STATUTORY INFORMATION; RESTRICTIONS ON TRANSFERS OF FUNDS AND ASSETS OF SUBSIDIARIES
GALIC is required to file financial statements with state insurance regulatory authorities prepared on an accounting basis prescribed or permitted by such authorities (statutory basis). Certain statutory amounts at December 31, were as follows (in millions):
Related Party Transaction In the fourth quarter of 1994, AAG purchased Carillon Life Insurance Company from a subsidiary of AFC for $9.0 million in cash. At December 31, 1994, Carillon had statutory assets of $9.0 million and statutory surplus of $6.3 million. Carillon is licensed to sell annuity products in 41 states and the District of Columbia.
Depreciation and amortization 0.8 1.2 Decrease in other assets 2.7 0.4 Increase in balances with affiliates 13.1 40.0 Decrease in other liabilities (12.8) (10.7) Capital distributions from GALIC 44.0 18.2 Other, net - (0.1) 29.0 24.4
Financing Activities: Additions to notes payable 30.0 225.0 Reductions of notes payable (55.1) (230.0) Cash dividends paid (3.1) (4.1) (28.2) (9.1)
Cash and short-term investments at end of period $ 1.9 $10.4
27.0 Financial Data Schedule - included in Report filed electronically with the Securities and Exchange Commission.
s/CARL H. LINDNER Chairman of the Board March 20, 1995 Carl H. Lindner of Directors
s/WILLIAM J. MANEY Senior Vice President, March 20, 1995 William J. Maney Treasurer and Chief Financial Officer (Principal Accounting Officer) [FN] * Chairman of Audit Committee