(1) Reflects the acquisition of excess workers' compensation business as a result of the SIG Merger.
(2) Amounts for 1994, 1993 and 1992 include individual life insurance business, which the Company exited in July 1994. See Note N to the Consolidated Financial Statements.
(6) In 1994, the Company adopted the provisions of Statement of Financial Accounting Standards No. 115, "Accounting for Certain Investments in Debt and Equity Securities" ("SFAS No. 115"). See Note A to the Consolidated Financial Statements.
(7) Weighted average shares outstanding in 1996, 1995, 1994 and 1993 reflect the issuance of 2.1 million shares of Class A Common Stock in October 1993.
(8) Return on average equity is calculated by dividing income from continuing operations by average shareholders' equity, excluding realized investment gains and losses, discontinued operations, extraordinary items and changes in accounting principles, as determined as of the beginning and end of each year.
(10) Total capitalization is the sum of the Company's long-term debt and shareholders' equity.
Net Investment Income. Net investment income in 1996 was $154.8 million as compared to $117.1 million in 1995, an increase of 32%. The increase is principally due to an increase in average invested assets as a result of the SIG Merger. The weighted average annual yield on invested assets, excluding realized and unrealized investment gains and losses, was 8.5% on average invested assets of $1,823.2 million and 8.3% on average invested assets of $1,417.5 million in 1996 and 1995, respectively.
Net Realized Investment (Losses) Gains. Net realized investment losses were $2.7 million in 1996 as compared to net realized investment gains of $0.7 million in 1995. The Company's investment strategy results in periodic sales of securities and the recognition of realized investment gains and losses arising from those sales.
Operating Income. Income from continuing operations before interest and taxes in 1996 was $99.6 million as compared to $64.2 million in 1995, an increase of 55%. The increase was primarily due to the acquisition of the excess workers' compensation business through the SIG Merger, partially offset by net realized investment losses in 1996.
Discontinued Operations. The Company recorded the discontinuance of its long-term care insurance business in 1996. Operating losses on this business totaled $0.8 million and $2.3 million, net of a tax benefit of $0.4 million and $1.2 million, in 1996 and 1995, respectively. The Company also recorded a one-time charge in 1996 of $5.8 million, net of a tax benefit of $3.2 million, as a result of the discontinuance of this business.
Insurance Premiums and Policyholder Fees. Insurance premiums and policyholder fees in 1995 were $260.9 million as compared to $248.5 million in 1994, an increase of 5%. Premiums from group employee benefits products increased $23.4 million, an increase of 10%. Contributing to the increase in premiums was the growth and development of the Company's sales force, normal growth in employment and salary levels for the Company's existing customer base and certain price increases. The Company had virtually no premium from individual insurance during 1995 due to the 100% reinsurance of this business effective July 1, 1994, while 1994 reflected premiums of $13.1 million. See Note N to the Consolidated Financial Statements.
Benefits and Expenses. Policyholder benefits and expenses in 1995 were $314.5 million as compared to $315.4 million in 1994. Benefits and expenses related to the Company's individual insurance business, which was 100% reinsured effective July 1, 1994, decreased $17.2 million in 1995 as compared to the same period in 1994. Benefits and interest credited on asset accumulation products decreased by $12.9 million. The primary cause of the decrease was a decline in average funds under management of $201.3 million in 1995 as compared to 1994 due to policy maturities and surrenders. The weighted average annual crediting rate on asset accumulation products was 5.6% in 1995 and 1994. Amortization of cost of business acquired related to asset accumulation products increased by $2.5 million during 1995 due to an increase in the difference between investment yields and credited rates. During 1995, benefits and expenses for group employee benefit products increased by $25.7 million as compared to 1994, primarily due to premium growth in these `product lines. The combined ratio (loss ratio plus expense ratio) for group employee benefit products was 98.9% for the year ended December 31, 1995 as compared to 97.8% for 1994. The increase in the combined ratio was primarily due to an increase in expenses related to the expansion of the Company's loss management capabilities.
Income Taxes. Income tax expense in 1995 was $18.2 million as compared to $11.7 million in 1994. The increase was primarily due to the $14.3 million increase in operating income partially offset by an increase in the effective tax rate to 35.7% in 1995 as compared to 31.1% for 1994, which includes an adjustment for a one-time tax recovery.
The Company's current liquidity needs, in addition to funding operating expenses, include principal and interest payments on outstanding borrowings under the Credit Agreement, the Senior Notes and the SIG Senior Notes. Beginning in 1999, the maximum amount available to the Company under the Credit Agreement will be reduced on October 1 of each year with the balance due on April 1, 2003. At the Company's current level of borrowing, no principal repayments would be required until October 1, 2002. The Senior Notes mature in their entirety on October 1, 2003 and are not subject to any sinking fund requirements nor are they redeemable prior to maturity. The SIG Senior Notes amortize in $9.0 million annual installments beginning in May 1999. See Note F to the Consolidated Financial Statements.
are the marketable investments included in the investment portfolios of RSLIC, FRSLIC and SNCC. The Company believes that these sources of funding will be adequate for its insurance subsidiaries to satisfy on both a short-term and long-term basis these contractual obligations throughout their estimated or stated period.
The Company recorded the discontinuance of its long-term care insurance business in 1996. This is expected to be accomplished by means of a sale, which is intended to be consummated by mid-1997. This business was purchased in December 1994 and was expected to become a significant part of the Company's operations. The Company exited this business due to its continued losses attributable to lower than expected sales and profit levels and decided to concentrate its resources on other opportunities such as product and distribution enhancements for the Company's group employee benefit products. The discontinuance of this business is not expected to have a material effect on the Company's financial condition or liquidity in the future.
Investments. The Company's overall investment strategy to achieve its objectives of safety and liquidity, while seeking the best available return, focuses on, among other things, managing the durations of the Company's interest-sensitive assets and liabilities and minimizing the Company's exposure to fluctuations in interest rates. The Company has de-emphasized the use of reverse repurchase agreements and has reduced its liabilities under these agreements from $202.5 million at December 31, 1995 to $50.2 million at December 31, 1996. The Company's investment portfolio primarily consists of investments in fixed maturity securities. The weighted average credit rating of the Company's fixed maturity portfolio as rated by Standard & Poor's Corporation was "AA" at December 31, 1996. While the investment grade rating of the Company's fixed maturity portfolio addresses credit risk, it does not address other risks, such as prepayment and extension risks, which are discussed below.
The Company has also developed a hedging program to reduce the interest rate risk associated with its municipal securities portfolio. This hedging program utilizes short positions in U.S. Treasury futures contracts and limits the interest rate risk associated with its investments in trusts comprised of municipal securities. The short futures contracts hedging these securities have a net deferred realized loss on closed positions of $4.9 million and an unrealized gain on open positions of $1.8 million which have been recorded as adjustments to the amortized cost of the municipal securities being hedged and will be amortized into investment income over the expected term of the securities being hedged.
The Company maintains an investment program in which securities have been financed using advances from the FHLB. The Company has utilized this program to manage the duration of its liabilities and to earn spread income, which is the difference between the financing cost and the earnings from the securities purchased with those funds. The advances from the FHLB, which are at a fixed rate, had an average term to maturity of 3.8 years. This program requires the Company to maintain securities on deposit with the FHLB as collateral for the advances outstanding. As the fair value of those securities increases or decreases, the Company may be allowed to retake possession of securities or be required to deposit additional securities.