The following financial data should be read in conjunction with Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Item 8, “Financial Statements and Supplementary Data.”
Includes operating expenses, commissions and bonuses, premium taxes and other, and the net increase in deferred policy acquisition costs.
Pro forma weighted-average shares outstanding for 1999, basic and diluted, are as if the initial public offering had occurred on January 1, 1999.
Premiums from group life, group and individual disability insurance, and traditional life insurance contracts are recognized as revenue when due. Benefits and expenses are matched with recognized premiums to result in recognition of profits over the life of the contracts. This match is accomplished by recording a provision for future policy benefits and unpaid claims and claim adjustment expenses and by amortizing deferred policy acquisition costs. Universal life-type and investment-type contract premiums and other policy fee revenues consist of charges for policy administration and surrender charges assessed during the period. Charges related to services to be performed are deferred until earned. The amounts received in excess of premiums and fees are included in other policyholder funds in the consolidated balance sheets. Experience rated refunds are computed in accordance with the terms of the contracts with certain group policyholders and are accounted for as a reduction of premiums.
Actuarially determined reserves are established and carried at amounts that are calculated to meet obligations for future policy benefits and claims. The reserves are computed at amounts that, with additions from premiums to be received and with interest on such reserves at certain assumed rates, are expected to be sufficient to meet policy obligations at their maturities or in the event of an insured’s death or disability. Reserves include unearned premiums, premium deposits, claims reported but not yet paid, claims incurred but not reported, and claims in the process of settlement. Reserves are based on actuarially recognized methods for developing assumptions for estimating future policy benefits and claims experience, including an evaluation of interest rates, mortality, morbidity, persistency and expenses. Reserves for assumed reinsurance are computed on bases essentially comparable to direct insurance reserves. Due to the nature of the underlying risks and the high degree of uncertainty associated with the determination of the liability for future policy benefits and claims, the amounts which will ultimately be paid to settle the liability cannot be determined precisely and may vary from the estimated amounts. Reserves for future policy benefits and claims are periodically evaluated. Based on changes in the assumptions used to establish the reserves, as well as actual policy benefits and claims experience, adjustments are made when appropriate. The establishment of reserves and subsequent increases or decreases are charged as expense in the period the reserves are established, increased, or decreased.
Acquisition costs related to the production of new business have been deferred to accomplish matching against related future premiums and gross profits. Such costs may include commissions and incentive payments, certain costs of policy issuance and underwriting and certain variable field office expenses. Deferred costs associated with group life and disability insurance products are amortized in proportion to future premiums over periods that generally range from five to ten years. Individual disability insurance product costs are amortized in proportion to future premiums over the life of the contract generally ranging from 15 to 35 years. For individual deferred annuities, group annuities and investment-type contracts, the costs are amortized in proportion to expected gross profits over periods that generally range from 10 to 30 years. The discount rate applied to expected gross profits is revised for actual changes in credited interest rates. Deferred policy acquisition costs are charged to current earnings to the extent it is determined that future premiums or gross profits are not adequate to cover amounts deferred.
Effective January 1, 2001, Standard sold its individual life insurance business to Protective Life Insurance Company (“Protective Life”) through a reinsurance transaction. Standard received a ceding commission of approximately $90 million and transferred to Protective Life approximately $790 million in assets and corresponding liabilities. If Protective Life becomes unable to meet its obligations, Standard would retain the reinsured liabilities. Therefore, the reinsured liabilities remain on Standard’s books and an equal amount is recorded as a recoverable from reinsurer. In accordance with the agreement, Protective Life established a trust for the benefit of Standard with assets in the trust required to be equal to Standard’s reinsurance receivable from Protective Life.
Operating income was $3.44 per diluted common share for 2001, a 13.9% increase over 2000.
Operating return on average equity in 2001 was 11.4% compared to 10.8% in 2000, reflecting progress toward the related financial objective.
Net income for 2001 was $106.0 million, an 11.9% increase over 2000. The increase in 2001 resulted primarily from premium growth combined with stable claims experience in the Employee Benefits-Insurance segment and increased net income from the Individual Insurance segment as a result of the combined effect of two reinsurance transactions (see “-Acquisition and Disposition of Product Lines”). Net income for 2001 included $5.0 million in pre-tax charges related to the terrorist events of September 11.
Policyholder benefits include changes in the liability for future policy benefits and claims (see “-Critical Accounting Policies and Estimates”). Policyholder benefits are affected by claims experience, which can fluctuate significantly from period to period. Policyholder benefits, including $5.0 million in pre-tax charges incurred as a result of the terrorist events of September 11, 2001 increased $75.8 million, or 7.4%, in 2001 compared to 2000. The increase resulted primarily from business growth, as evidenced by premium growth, in the Employee Benefits-Insurance segment, which was offset in part by a net decrease in policyholder benefits in the Individual Insurance segment as a result of the combined effect of two reinsurance transactions. (See “-Selected Segment Information.”)
Income before income taxes for the segment, including $4.3 million in pre-tax charges from the terrorist events of September 11, 2001 increased $15.3 million, or 13.2%, in 2001 compared to 2000, and increased $15.0 million, or 14.8%, in 2000 compared to 1999. The increases for both comparative periods were primarily the result of business growth, as evidenced by premium growth, and a stable benefit ratio (the ratio of policyholder benefits to premiums) in 2001 and 2000 of 82.1% which was slightly better than the 1999 benefit ratio of 83.3%. Based on historical experience, management generally expects the benefit ratio for the Employee Benefits-Insurance segment to be in the range of 83% - 85%. However, the ratio can vary widely depending on claims experience. The following table sets forth selected financial data for the Employee Benefits-Insurance segment at or for the years ended December 31:
Net investment income increased $13.4 million, or 8.8%, for 2000 compared to 1999. The increase was primarily a result of an increase in average invested assets supporting the segment of 8.3% for 2000 compared to 1999, partially offset by a decrease in the portfolio yield (see “-Consolidated Results of Operations-Net investment Income”).
Policyholder benefits increased $87.4 million, or 12.3%, for 2000 compared to 1999, primarily due to business growth as evidenced by premium growth, offset in part by a decrease in the benefit ratio to 82.1% in 2000 from 83.3% in 1999.
Operating expenses increased $16.4 million, or 12.4%, in 2001 compared to 2000 and $17.1 million, or 14.8%, in 2000 compared to 1999. The increases for both comparative periods were incurred to support business growth, as evidenced by premium growth. Expenses continued to be incurred in early 2001 to support initiatives undertaken in the second half of 2000 to accelerate expansion to take advantage of strategic market opportunities then available in the Eastern United States. Those opportunities included, among others, the ability to rapidly establish Eastern processing and claims adjudication functions, both improving customer service in that region and mitigating exposure to a previous concentration of those functions in one geographic location. Total sales representatives were 151 at December 31, 2001 compared to 142 at December 31, 2000. Plans are in place for 2002 to add up to 25 more sales representatives toward an objective of having 200 in place by the end of 2003 (see “-Consolidated Results of Operations-Operating Expenses”).
Commissions and bonuses increased $7.6 million, or 9.2%, in 2001 compared to 2000, and $15.1 million, or 22.4%, in 2000 compared to 1999. Increases for both comparative periods were due primarily to higher commissions on new sales.
Premiums decreased $23.6 million, or 22.5%, in 2001 compared to 2000, and increased $17.8 million, or 20.5%, in 2000 compared to 1999. The decrease in 2001 related to a decrease in individual life premiums of $70.0 million from the sale of the individual life insurance product line, partially offset by an increase of $50.2 million in individual disability insurance premiums primarily due to the individual disability insurance business acquired. Disability and annuity sales in 2001 were strong in the previously existing distribution channels as well as the new disability distribution channel established under the marketing agreement with Minnesota Life in connection with the acquisition discussed above. The increase in premiums in 2000 primarily resulted from premiums for the individual disability insurance block of business acquired in the fourth quarter of 2000.
Net investment income decreased $29.1 million, or 22.7%, in 2001 compared to 2000, and increased $6.5 million, or 5.3%, in 2000 compared to 1999. The decrease in 2001 primarily reflected a decrease in average invested assets supporting the segment as a result of the combination of the transactions discussed above. The increase in 2000 related to additional assets supporting the individual disability insurance block of business acquired in the fourth quarter of 2000. (See “-Consolidated Results of Operations-Net Investment Income”).
Net realized investment gains were $0.6 million in 2001, compared to net realized investment losses of $4.1 million in 2000 and net realized investment gains of $0.5 million in 1999. Net realized investment gains or losses occur primarily as a result of disposition of invested assets supporting the segment in the regular course of investment management.
Policyholder benefits decreased $55.9 million, or 32.1%, in 2001 compared to 2000, and increased $19.4 million, or 12.5%, in 2000 compared to 1999. The decrease in 2001 was primarily due to the two reinsurance
transactions. The increase in policyholder benefits in 2000 resulted from the acquisition of the individual disability insurance block of business in the fourth quarter of 2000. The benefit ratio (policyholder benefits divided by premiums) was 104.5% for 2001. The ratio is currently greater than 100% due to the substantial size of the individual disability insurance block of business acquired in the fourth quarter of 2000, as compared to historical business that has been on the Company’s books. A significant portion of the block of business acquired in the fourth quarter of 2000 consists of stable claims, which are funded primarily from the investments acquired with the block of business and interest thereon, and not premiums. As premiums from sales of new business increase, the benefit ratio is expected to decline. Policyholder benefits are affected by claims experience, which can fluctuate significantly from period to period.
Operating expenses were relatively stable at 1.3%, 1.3% and 1.5% of average assets under management in 2001, 2000 and 1999, respectively. Operating expenses in 1999 were increased by the segment’s conversion of its traditional plans to daily plans, which allow daily investment directives by plan participants.
Other businesses primarily include return on capital not allocated to the product segments, income from StanCorp Mortgage Investors, LLC, net realized investment gains and losses related to real estate investments and holding company expenses. Income before income taxes and reorganization expenses for other businesses was $5.3 million, $13.9 million, and $9.9 million for 2001, 2000, and 1999, respectively. StanCorp Mortgage Investors contributed net income of $6.6 million, $5.7 million and $5.5 million for 2001, 2000 and 1999, respectively. Sales of real estate resulted in net realized capital gains of $1.6 million, $3.3 million and $3.2 million for 2001, 2000 and 1999, respectively.
Operating cash inflows consist primarily of premiums, annuity deposits and net investment income. Operating cash outflows consist primarily of benefits to policyholders, operating expenses, commissions and taxes. Net cash provided by operating activities was $264.5 million, $282.4 million, and $317.6 million, for 2001, 2000 and 1999, respectively. Net cash provided by operating activities in 2001 was reduced by approximately $79 million as a result of changes in temporary differences associated with a change in the tax return filing status. The changes increased current Federal income tax receivable, a use of funds, for which amounts are expected to be received in 2002.
Investment management is an integral part of the Company’s business. Investments are maintained to ensure that asset types and maturities are appropriate for the Company’s policy reserves and other liabilities so that the Company can meet its obligations to policyholders under a wide variety of economic conditions. Investing cash inflows consist primarily of the proceeds of investments sold, matured, or repaid. Investing cash outflows consist primarily of payments for investments acquired or originated (see Item 1 “Business-Investments”).
The market values of the Company’s investments vary with changing economic and market conditions and interest rates. The Company is subject to the risk of default on principal and interest payments by the issuers of the fixed maturity securities it owns. The overall portfolio rating for fixed maturity securities was A+ at December 31, 2001. Although the Company believes it maintains prudent issuer diversification, a major economic downturn could result in issuer defaults. During 2001, the Company began a program to invest $50 million to $100 million in a high yield portfolio with an overall average of BB rated securities. Investments in BB or lower rated securities were $85.8 million at December 31, 2001. Since fixed maturity securities represent 56.5% of the Company’s total general account invested assets at December 31, 2001, an increase in defaults could have a material adverse effect on the Company’s business, financial position, results of operations, or cash flows.
In the normal course of business, the Company commits to fund commercial mortgage loans generally up to 90 days in advance. At December 31, 2001, the Company had outstanding commitments to fund commercial mortgage loans with interest rates ranging from 6.63% to 8.75%, totaling $91.4 million. The commitments may have fixed expiration dates or other termination clauses and generally require payment of a fee. The Company evaluates each customer’s credit worthiness individually and may terminate a commitment based on the financial condition of the borrower. Additionally, a small percentage of borrowers allow their commitments to expire without being drawn upon. The Company currently has no commitments consisting of standby letters of credit, guarantees, standby repurchase obligations, or other related commercial commitments.
Currently, the Company has no long-term debt, although current financial strength ratings from independent rating agencies incorporate the expectation that moderate amounts of long-term debt will ultimately be added to the Company’s capital structure. The Company may pursue long-term debt in the future to support internal growth, potential acquisition opportunities, or execution of the Company’s share repurchase program based on management’s assessment of market conditions for its common stock.
Under Oregon law, Standard may pay dividends only from the earned surplus arising from its business. It also must receive the prior approval of the Director of the Oregon Department of Consumer and Business Services (the “Oregon Department”) to pay a dividend, if such dividend would exceed certain statutory limitations. The current statutory limitation is the greater of (a) 10% of Standard’s combined capital and surplus as of December 31st of the preceding year or (b) the net gain from operations after dividends to policyholders and Federal income taxes and before capital gains or losses for the twelve-month period ended on the December 31st last preceding. In each case the limitation must be determined under statutory accounting practices. Oregon law gives the Oregon Department broad discretion to disapprove requests for dividends in excess of these limits. The amount available for payment of dividends by Standard without approval of the Oregon Department is $126.9 million in 2002. There is no amount available for payment of dividends by The Standard Life Insurance Company of New York in 2002.
It is management’s objective to generally align the cash flow characteristics of assets and liabilities to ensure that the Company’s financial obligations can be met under a wide variety of economic conditions. In meeting the objectives, management may choose to liquidate certain investments and reinvest in alternate investments to better match the cash flow characteristics of assets to currently existing liabilities. A substantial portion of the Company’s insurance subsidiaries’ policy liabilities result from long term disability reserves that have proven to be very stable over time, annuity products on which interest rates can be adjusted periodically, and products associated with the separate account. Policyholders or claimants may not withdraw from the large block of disability reserves. Instead, claim payments are issued monthly over periods that may extend for many years. The holding of stable long-term reserves makes it possible to allocate a significant portion of the Company’s assets to long-term commercial mortgage loans, a benefit many other insurance companies do not experience.
based upon the Company’s fixed maturity securities and commercial mortgage loans held at December 31, 2001 and 2000. For the fixed maturity securities portfolio, the analyses estimated the reduction in fair value of the portfolio utilizing a duration-based analysis that assumes a hypothetical ten percent increase in treasury rates. For mortgage loan portfolios, the analyses estimated the reduction in fair value by discounting expected cash flows at theoretical treasury spot rates in effect at December 31, 2001 and 2000. The analyses discounted cash flows using an average of possible discount rates to provide for the potential effects of interest rate volatility. The analyses did not provide for the possibility of non-parallel shifts in the yield curve, which would involve discount rates for different maturities being increased by different amounts. The actual decrease in fair value of the Company’s financial assets that would have resulted from a ten percent increase in interest rates could be significantly different from that estimated by the model. The hypothetical reduction in the fair value of the Company’s financial assets that resulted from the model was estimated to be $113.1 million and $99.9 million at December 31, 2001 and 2000, respectively.
During 2001, as a result of recommendations from a task force of the American Academy of Actuaries, the NAIC approved revisions to certain disability insurance RBC factors. The NAIC also revised the RBC calculations to allow a tax adjustment for most asset amounts and certain other items. The changes increased the Company’s ratio of statutory capital and surplus compared to the RBC minimum.
Insolvency regulations exist in many of the jurisdictions in which subsidiaries of the Company do business. Such regulations may require insurance companies operating within the jurisdiction to participate in guaranty associations. The associations levy assessments against their members for the purpose of paying benefits due to policyholders of impaired or insolvent insurance companies. Association assessments levied against the Company from January 1, 1999 through December 31, 2001 aggregated $0.9 million. At December 31, 2001, the Company maintained a reserve of $0.9 million for future assessments with respect to currently impaired, insolvent or failed insurers.
The Company is dependent on information technology systems to support its ability to conduct business. All of the systems are vulnerable to reliability issues, integration and compatibility concerns, and security-threatening intrusions. Management believes that its information technology and systems are adequate to meet the requirements of its business and operations. The Company continues to make significant investments of capital for infrastructure, system development and maintenance, system security, and staff development. However, there can be no assurance that future incidents, whether of an external, malicious nature, or arising from the functioning and relationships among the Company’s information systems, will not result in a disruption of operations or material adverse effect on the Company’s business, financial position, results of operations, or cash flows.
Consolidated Statements of Income and Comprehensive Income (Loss) for the years ended December 31, 2001, 2000 and 1999
Consolidated Statements of Changes in Shareholders’ Equity for the years ended December 31, 2001, 2000 and 1999
We have audited the accompanying consolidated balance sheets of StanCorp Financial Group, Inc. and subsidiaries (the “Company”) as of December 31, 2001 and 2000, and the related consolidated statements of income and comprehensive income (loss), changes in shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2001. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
The consolidated financial statements include StanCorp Financial Group, Inc. and its subsidiaries (collectively the “Company”). All significant intercompany balances and transactions have been eliminated.
Use of estimates. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America (“GAAP”) requires management to make estimates and assumptions that affect reported amounts of assets and liabilities and contingent assets and contingent liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from estimates. The estimates most susceptible to significant changes are those used in determining the liability for future policy benefits and claims, deferred policy acquisition costs, and the provision for income taxes. Changes in such estimates may affect amounts reported in future periods.
Investments. Investment securities include fixed maturity securities. Investment securities are categorized as trading, stated at fair value with changes in fair value reflected as net realized investment gains and losses; or available-for-sale, stated at fair value with net unrealized gains and losses recorded as an increase or decrease to other comprehensive income or loss. The trading securities portfolio was liquidated in June 2001.
Mortgage loans are stated at amortized cost less a valuation allowance for uncollectible amounts.
Real estate held for investment is stated at cost less accumulated depreciation. Depreciation generally is provided on the straight-line method, with property lives varying from 30 to 40 years. Accumulated depreciation totaled $27.0 million and $25.6 million at December 31, 2001 and 2000, respectively. Real estate acquired in satisfaction of debt is stated at the lower of cost or fair value less estimated costs to sell.
Policy and collateral loans are stated at their aggregate unpaid principal balances and are secured by policy cash values.
Cash equivalents. Cash equivalents include investments purchased with original maturities at the time of acquisition of three or fewer months.
Separate account. Separate account assets and liabilities represent segregated funds held for the exclusive benefit of contractholders. The activities of the account primarily relate to contractholder-directed 401(k) contracts. Standard charges the segregated funds asset management and administrative fees associated with the contracts. Separate account assets and liabilities are carried at fair value.
Income taxes. The provision for income taxes includes amounts currently payable and deferred amounts that result from temporary differences between financial reporting and tax bases of assets and liabilities as measured by current tax rates and laws. If it is determined to be more likely than not that a deferred tax asset will not be realized, a valuation allowance will be established.
Net income per common share. Net income per common share was calculated based on the weighted-average number of common shares outstanding. Net income per diluted common share reflects the potential effects of restricted stock grants and exercise of outstanding options. The weighted-average share and share equivalents outstanding used to compute the dilutive effect of common stock options outstanding were computed using the treasury stock method. Net income per diluted common share was calculated as follows:
In June 2001, the FASB issued SFAS No. 142, “Goodwill and Other Intangible Assets.” SFAS No. 142 supersedes Accounting Principles Board Opinion No. 17, “Intangible Assets.” The provisions of SFAS No. 142 are required to be applied starting with fiscal years beginning after December 15, 2001. The Company does not expect the adoption of SFAS No. 142 to have a material impact on the Company’s financial statements.
In August 2001, the FASB issued SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” SFAS No. 144 supersedes SFAS No. 121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of,” as well as reporting provisions of Accounting Principles Board Opinion No. 30 and Accounting Research Bulletin No. 51. The provisions of SFAS No. 144 are required to be applied starting with fiscal years beginning after December 15, 2001. The Company does not expect the adoption of SFAS No. 144 to have a material impact on the Company’s financial statements.
Effective October 1, 2000, Standard acquired a substantial block of individual disability insurance business, through a reinsurance transaction, from Minnesota Life Insurance Company (“Minnesota Life”). Standard paid a ceding commission of approximately $55 million and received approximately $500 million in assets and corresponding liabilities. In accordance with the agreement with Minnesota Life, Standard established a trust for the benefit of Minnesota Life. The market value of assets required to be maintained in the trust at December 31, 2001 was $547.3 million. Accompanying the transaction was an agreement that provides access to Minnesota Life agents who now market Standard’s individual disability products throughout the United States.
Effective January 1, 2001, Standard sold its individual life insurance business to Protective Life Insurance Company (“Protective Life”) through a reinsurance transaction. Standard received a ceding commission of approximately $90 million and transferred to Protective Life approximately $790 million in assets and corresponding liabilities. If Protective Life becomes unable to meet its obligations, Standard would retain the reinsured liabilities. Therefore, the liabilities remain on Standard’s books and an equal amount is recorded as a recoverable from reinsurer. In accordance with the agreement, Protective Life established a trust for the benefit of Standard with assets in the trust required to be equal to Standard’s reinsurance receivable from Protective Life. The sale included the closed block business, which was established for certain classes of policies in conjunction with the reorganization in April 1999.
The Company’s reportable segments are major lines of business based on products and services provided to customers through its distribution channels. Three reportable segments comprise a substantial majority of the Company’s operations: Employee Benefits-Insurance, Individual Insurance and Retirement Plans. Performance assessment and resource allocation are done at the segment level. The Employee Benefits-Insurance segment markets group life and disability insurance products, dental insurance, and accidental death and dismemberment insurance. The Individual Insurance segment sells disability insurance to individuals nationally and markets a full line of immediate and deferred fixed annuities. The Retirement Plans segment sells full-service 401(k) defined benefit, money purchase, profit sharing and deferred compensation plan products and services to small and medium-sized employers.
Amounts reported as “Other” primarily include return on capital not allocated to the product segments, other financial service businesses, holding company expenses and adjustments made in consolidation. Other financial service businesses are generally non-insurance related and include StanCorp’s mortgage lending and investment management subsidiaries.
Assets. The fair values of investment securities were based on quoted market prices, where available, or on values obtained from independent pricing services. The fair values of mortgage loans were estimated using option adjusted valuation discount rates. The carrying values of real estate, policy loans and collateral loans approximate fair values. While potentially financial instruments, policy loans are an integral component of the insurance contract and have no maturity date.
Liabilities. The fair values of other policyholder funds that are investment-type contracts were estimated using discounted cash flows at the then-prevailing interest rates offered for similar contracts or as the amounts payable on demand less surrender charges at the balance sheet date.
Realized investment gains (losses) were as follows for the years ended December 31:
Securities deposited for the benefit of policyholders in various states, in accordance with state regulations, amounted to $2.3 million and $3.6 million at December 31, 2001 and 2000, respectively.
Other policyholder funds. Other policyholder funds at December 31, 2001 and 2000 included $676.9 million and $589.1 million, respectively, of employer-sponsored defined contribution and benefit plans deposits and $555.4 million and $501.9 million, respectively, of individual deferred annuity deposits.
The provision (benefit) for income taxes was as follows for the years ended December 31:
The difference between taxes calculated as if the statutory Federal tax rate of 35% was applied to income before income taxes and the recorded tax expense is reconciled as follows:
The amounts provided for uncertainties and adjustments primarily reflect uncertainties related to the use of estimates and the subsequent resolution of those uncertainties. Resolution occurs when amounts provided on an estimated basis are known or when the tax year closes.
The tax effect of temporary differences that give rise to significant portions of the net deferred tax liability was as follows at December 31:
Net periodic benefit cost and assumptions used in the measurement of the benefit obligations were as follows for the years ended December 31:
The assumed health care cost trend rate used in measuring the accumulated postretirement benefit obligation was 8.0% in the first year, 7.5% in the second year, and declined ratably to 5.0% over the next five years. A one-percentage-point change in the assumed health care cost trend rate would have the following effect at December 31, 2001:
The pension plans’ assets are invested in Standard’s general account invested assets. Effective January 2, 2002, the Company initiated an investment strategy to invest approximately 50% of the pension plan’s assets in equity investments. The postretirement benefit plan’s assets are separately invested primarily in long-term municipal bonds.
The 1999 Omnibus Stock Incentive Plan (“Stock Plan”) authorizes the board of directors of StanCorp to grant eligible employees certain incentive or non-statutory stock options, bonuses and performance stock options, restricted and foreign stock awards, and stock appreciation and cash bonus rights related to StanCorp’s common stock. All options are granted at a stock price of not less than the market value at the date of the option grant and may be exercised for a period not exceeding ten years from the date of the grant. The maximum number of shares of common stock that may be issued under the Stock Plan is 1.7 million.
Through December 31, 2001, options were granted to purchase 1,111,615 shares of common stock at prices ranging from $22.13 to $46.02 per share. The options were granted to members of StanCorp’s board of directors, and employee groups consisting of officer and non-officer employees. Members of StanCorp’s board of directors received grants of options totaling 58,500 shares of common stock. Officers received grants of options on an individual basis totaling 725,700 shares of common stock. Non-officer employees received grants of options totaling 327,415 shares of common stock. The grants generally are subject to a three and four year annual-step-vesting schedules from the date of the grant or beginning one year after date of grant. The Company applies Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations in accounting for its stock-based compensation plans. If compensation costs for awards under stock-based compensation plans had been determined based on the fair value at the grant dates using the method prescribed by SFAS No. 123, “Accounting for Stock-Based Compensation,” net income and net income per common share would have been reduced to the following pro forma amounts for the years ended December 31:
The following tables set forth stock-based compensation plan activity for the years ended December 31:
Through December 31, 2001, 252,080 shares of restricted stock had been granted to key management employees. During 2001, 65,080 shares were released subject to a previously negotiated retention agreement and 28,000 performance based restricted shares were released based on the attainment of financial goals. The remaining 159,000 shares include 155,000 shares granted with restrictions based on the attainment of financial goals and 4,000 shares granted to two key management employees based on their continued employment with the Company through February 2005.
The Employee Share Purchase Plan allows eligible employees to purchase common stock at 85.0% of the lesser of the fair market value of the stock on either the purchase date or the effective date of each six month and five and a half month offering period. Under the terms of the plan, each eligible employee may elect to have up to 10.0% of the employee’s gross total cash compensation for the period withheld to purchase common stock. Under the Employee Share Purchase Plan, the maximum fair market value of common stock an employee may purchase in any calendar year is $25,000.
Methods used by the Company to manage risk include, but are not limited to, sound underwriting, effective claims management, disciplined pricing, broad distribution of risk by geography, industry, occupation and customer size, maintaining a strong balance sheet and entering into reinsurance and catastrophe reinsurance arrangements. Insurance over maximum retention limits is routinely ceded to other companies. The primary purpose of ceded reinsurance is to limit losses from large exposures. The maximum retention limit per individual for group life policies is $500,000. For group disability policies, the maximum monthly retention limit is $10,000 gross monthly benefit aggregated per individual. For individual disability policies, the maximum retention is generally $3,500 gross monthly benefit aggregated per individual. As of December 31, 2001, certain policies acquired from Minnesota Life had substantially higher retentions. In the Minnesota Life block of business, there are 3,100 policies, 4,400 insured lives, with net monthly benefits that exceed $5,000. If the reinsurer is unable to meet its obligations, the originating issuer of the insurance contract retains the liability. Except for the Minnesota Life and Protective Life transactions, the reinsurance agreements are generally yearly renewable term reinsurance agreements with each reinsurer.
Standard is involved in a reinsurance and third-party administration arrangement with The Northwestern Mutual Life Insurance Company (“Northwestern Mutual”) to market Northwestern Mutual’s group long term and short term disability products using Northwestern Mutual’s agency distribution system. Generally, Standard provides reinsurance to Northwestern Mutual for 60% of the risk, and receives 60% of the premiums, for the policies issued. In addition to assuming reinsurance risk, Standard provides product design, pricing, state regulatory filings, underwriting, legal support, claims management and other administrative services under the arrangement. Premiums assumed by Standard for the Northwestern Mutual business accounted for 3.9%, 4.0% and 3.9% of the Company’s total premiums in 2001, 2000, and 1999, respectively.
when received; e) reserves for life and disability policies and contracts are based on statutory requirements; f) commissions, policy acquisition expenses, and the expenses of originating or acquiring investments are expensed as incurred; g) non-operating software and development costs are expensed as incurred; and (h) Federal income tax expense includes current income taxes defined as current year estimates of Federal income taxes and tax contingencies for current and all prior years; and amounts incurred or received during the year relating to prior periods, to the extent not previously provided. Deferred tax assets and liabilities are included in the regulatory financial statements and represent the expected future tax consequences of differences between the tax and the financial statement basis of assets and liabilities. Changes in the differences are recognized in surplus.
The following table reconciles the statutory shareholder surplus of the insurance subsidiaries as reported to state insurance regulatory authorities with the Company’s GAAP equity at December 31:
From time to time, the Board of Directors has authorized share repurchase programs. Share repurchases are to be effected in the open market or in negotiated transactions in compliance with the safe harbor provisions of
In the normal course of business, the Company is involved in various legal actions and other state and Federal proceedings. A number of the actions or proceedings were pending as of December 31, 2001. In some instances, lawsuits include claims for punitive damages and similar types of relief in unspecified or substantial amounts, in addition to amounts for alleged contractual liability or other compensatory damages. In the opinion of management, the ultimate liability, if any, arising from the actions or proceedings is not expected to have a material adverse effect on the Company’s business, financial position, results of operations, or cash flows.