The Company also leases approximately 103,000 square feet at 611 Fifth Avenue, Des Moines, Iowa from AmerUs Properties, Inc. The life insurance segment and the annuity segment occupy approximately 69,000 square feet and 12,000 square feet, respectively, of this space. The remaining space is primarily utilized for technology and cafeteria facilities.
The Company owns a 105,000 square foot office building in Topeka, Kansas. The annuity segment occupies approximately 60,000 square feet of this facility and the remaining space is leased to third parties.
(A) Consolidated Income Statement Data for 1997 includes the results for Delta, subsequent to October 23, 1997 and the results for AmVestors, subsequent to December 19, 1997, and Consolidated Balance Sheet Data includes year-end data for Delta and AmVestors.
(K) Effective May 1996, substantially all individual deferred annuity sales by AmerUs Life distribution systems are made through the Ameritas Joint Venture. See "Item 1 - Business - Ameritas Joint Venture".
Premium revenues reported for traditional life insurance products are recognized as revenues when due. Future policy benefits and policy acquisition costs are recognized as expenses over the life of the
(C) Represents amortization of deferred policy acquisition costs due to realized gains or losses being included in product margins adjusted for income taxes on such amounts.
The Company acquired all of the outstanding stock of Delta Life Corporation (Delta) on October 23, 1997, for approximately $165 million in cash. The transaction was accounted for as a purchase and accordingly, the Company's results of operations include Delta from the date of purchase. The Company acquired all of the outstanding stock of AmVestors Financial Corporation (AmVestors) on December 19, 1997, in a stock exchange valued at approximately $350 million. This transaction was also accounted for as a purchase and the Company's results of operations include AmVestors from the date of purchase. (See Note 15 of the Consolidated Financial Statements for the discussion of the Company's acquisitions.)
The Closed Block was established on June 30, 1996. Insurance policies which had a dividend scale in effect as of June 30, 1996, were included in the Closed Block. The Closed Block was designed to provide reasonable assurance to owners of insurance policies included therein that, after the reorganization of AmerUs Life, assets would be =available to maintain the dividend scales and interest credits in effect prior to the Reorganization if the experience underlying such scales and credits continues.
The Company has two operating segments: Life Insurance and Annuities. Products generally distinguish a segment. The Company uses the same accounting policies and procedures to measure operating segment income as it uses to measure its consolidated operating income. Revenues and benefits and expenses are primarily attributed directly to each operating segment. Net investment income and realized gains (losses) on investments are allocated based on the directly-related asset portfolios. Other revenues and expenses are deemed not to be associated with any specific segment and primarily consist of discontinued product lines such as group and health, and holding company revenues and expenses not directly associated with a segment.
Traditional life insurance premiums increased by $20.5 million to $51.3 million in 1998. The increase in traditional life insurance premiums in 1998 was primarily the result of continued favorable persistency and increased sales of term life and participating whole life insurance products. Traditional life insurance premiums decreased by $90.0 million in 1997 to $30.7 million. The decrease in traditional life insurance premiums in 1997 was primarily due to the reclassification resulting from the formation of the Closed Block during 1996. Premiums on policies included in the Closed Block are reported as part of the Contribution from the Closed Block.
Other premiums were $0.3 million in 1998 compared to $0.2 million in 1997 and $1.7 million in 1996. The decrease in other premiums in 1997 was primarily due to the Company's exit from the group life business in 1996.
Universal life product charges increased by $0.6 million in 1998 to $46.2 million. This increase in product charges in 1998 was primarily due to increased cost of insurance charges as a result of the normal aging of the block of business. Universal life product charges decreased by $5.8 million in 1997 primarily due to the formation of the Closed Block in 1996. Universal life product charges on policies included in the Closed Block are reported as part of the Contribution from the Closed Block.
lower reinvestment rates in 1998. The decrease in 1997 net investment income was primarily due to the formation of the Closed Block in 1996. Net investment income attributable to the Closed Block is reported as part of the Contribution from the Closed Block.
Realized losses on investments were $0.1 million in 1998 compared to realized gains of $13.8 million in 1997 and $66.0 million in 1996. The level of realized gains and losses will fluctuate from period to period depending on the prevailing interest rate and economic environment and the timing of the sale of investments. Included in the amounts for 1996 is approximately $51.1 million of gains from the sale of common stock as a result of the liquidation of the Company's equity portfolio. The sale of the common stock in 1996 was the direct result of the Company's decision to permanently reduce the level of equity securities as a percentage of its investment portfolio.
The Contribution from the Closed Block was $31.5 million in 1998 compared to $31.0 million in 1997 and $19.9 million in 1996. The following table sets forth the operating results of the Closed Block for the years ended December 31, 1998 and 1997 and for the six months ended December 31, 1996.
Closed Block dividends to policyowners increased by $14.8 million to $74.4 million in 1998. The increase was primarily due to the increase in the deferred dividend liability resulting from increased realized capital gains and lower policyowner benefits in 1998.
Annuity benefits increased by $221.7 million in 1998 to $339.3 million compared to $117.6 million in 1997 and $100.6 million in 1996 primarily due to the acquisitions of Delta and AmVestors. The average interest crediting rate on deferred annuity account balances in 1998 was 5.23% compared to 5.25% in 1997 and 5.36% in 1996. Spreads between investment rates and crediting rates are managed on a statutory basis. Crediting rates are adjusted to maintain targeted spreads on a statutory basis.
Total life insurance expenses increased by $10.0 million in 1998 and decreased by $17.7 million in 1997. The increase in 1998 was partially due to a $5.1 million increase in the amortization of deferred policy acquisition costs and value of business acquired (VOBA). Deferred policy acquisition costs are generally amortized in proportion to gross margins, including realized capital gains. Lower death benefits in 1998 on those policies for which deferred costs are amortized contributed to higher gross margins in 1998, resulting in the increased amortization. Underwriting, acquisition and insurance expenses increased by $4.9 million in 1998 primarily due to costs related to the Year 2000 Compliance Project and costs associated with the Company's development of alternative distribution systems through brokerages and banks. The decrease in total life insurance expenses from 1996 to 1997 was primarily due to the decrease in amortization of deferred policy acquisition costs of $13.5 million. This decrease was primarily due to the formation of the Closed Block. Amortization of deferred policy acquisition costs on policies included in the Closed Block is reported as part of the Contribution from the Closed Block. Underwriting, acquisition and insurance expenses decreased $4.2 million in 1997 primarily due to the establishment of a $5.0 million litigation reserve during 1996.
Income from Annuity operations increased by $38.8 million in 1998 to $75.8 million compared to $37.0 million in 1997 and $50.1 million in 1996 primarily due to the acquisitions of Delta and AmVestors. The decrease in income from Annuity operations in 1997 compared to 1996 was primarily due to lower realized gains on investments.
Interest expense increased by $12.1 million in 1998 to $27.1 million compared to $15.0 million in 1997 and $2.1 million in 1996. The increased interest expense in 1998 was primarily due to increased debt levels from the 1997 fourth quarter acquisitions of Delta and AmVestors. The increased interest expense in 1997 was primarily due to interest expense on the capital securities issued by the Company during 1997 and interest expense on the revolving line of credit established in that year.
Income tax expense increased by $6.4 million in 1998 to $28.4 million. The effective tax rate in 1998 was 31.1% compared to 27.5% in 1997. The increase in the effective tax rate in 1998 was primarily due to a $2.4 million increase in goodwill amortization and a $0.8 million decrease in tax credits generated by affordable housing and historic rehabilitation investments. Tax credits generated from these investments totaled $5.5 million in 1998 compared to $6.3 million in 1997. Income tax expense decreased by $21.8 million in 1997 primarily due to lower pre-tax income, a $4.5 million provision for the equity add-on tax included in the first half of 1996, and increased tax credits of $3.9 million to $6.3 million in 1997 compared to $2.4 million in 1996.
The equity in earnings of unconsolidated subsidiary represents 34% of the net income of AMAL Corporation, net of goodwill amortization. AMAL Corporation is the parent company of Ameritas Variable Life Insurance Company, the joint venture partner that markets variable life, and variable and fixed annuity products.
Net income increased by $4.8 million to $62.8 million in 1998 compared to $58.1 million in 1997. The increase in net income in 1998 was primarily from increased annuity operating income which was partially offset by lower realized gains on investments and increased interest expense. Net income decreased by $16.1 million in 1997 to $58.1 million compared to $74.2 million in 1996 primarily due to lower realized gains on investments.
The Company and its subsidiaries generated cash flows from operating activities of $479.4 million, $224.4 million and $147.6 million for the years ended December 31, 1998, 1997 and 1996, respectively. Excess operating cash flows were primarily used to increase the Company's investment portfolio, fund policyowner account withdrawals and purchase common stock for the treasury.
In 1998, the Company completed public offerings of senior notes and Adjustable Conversion-rate Equity Security units totaling $270 million. The proceeds from the offerings were primarily utilized to pay down amounts owed under the revolving credit agreement.
During 1998, the Company purchased 4,325,019 shares of common stock for the treasury at a total cost of $102.1 million.
(A) Includes $1,146.3 million of liabilities with a contractual surrender charge of less than five percent of the account balance.
Investment policies and strategies have been established based on the specific characteristics of each product line. The portfolio investment policies and strategies establish asset duration, quality and other guidelines. The Company utilizes analytical systems to establish an optimal asset mix for each line of business. The Company seeks to manage the asset/liability mismatch and the associated interest rate risk through active management of the investment portfolio. Financial, actuarial, investment, product development and product marketing professionals work together throughout the product development, introduction and management phases to jointly develop and implement product features, initial and renewal crediting strategies, and investment strategies based on extensive modeling of a variety of factors under a number of interest rate scenarios.
The fixed maturity securities portfolio consists primarily of investment grade corporate fixed maturity securities, high-quality MBS and United States government and agency obligations. As of December 31, 1998 fixed maturity securities were $7,826.8 million, or 87.0% of the carrying value of invested assets with public and private fixed maturity securities constituting $7,247.6 million, or 92.6%, and $579.2 million, or 7.4%, of total fixed maturity securities, respectively.
The following table summarizes fixed maturity securities by remaining maturity as of December 31, 1998:
The Company's portfolio of investment grade fixed maturity securities is diversified by number and type of issuer. As of December 31, 1998, investment grade fixed maturity securities included the securities of over 717 issuers, with 2,658 different issues of securities. No non-government issuer represents more than 0.7% of investment grade fixed maturity securities.
As of December 31, 1998, 81.0% of total invested assets were investment grade fixed maturity securities. The following table sets forth the credit quality, by NAIC designation and Standard & Poor's rating equivalents, of fixed maturity securities as of December 31, 1998:
MBS comprise a core position within the Company's fixed maturity securities investments. MBS investments include residential, commercial MBS, home equity loans (including home equity loans purchased from one of the Company's affiliates), manufactured housing, FHA Title I and CMBS. Residential mortgage pass-throughs and CMOs total $2,302.4 million or 25.6% of total invested assets. As of December 31, 1998, MBS were $2,814.7 million or 31.3%, of total invested assets of which $2,152.3 million, or 76.5% of MBS were from government sponsored enterprises. Other MBS were $662.4 million, or 23.5%, of MBS as of December 31, 1998. Management believes that the quality of assets in the MBS portfolio is generally high, with 84.6% of such assets representing agency backed or "AAA" rated securities.
The Company uses interest rate swaps, caps, and options to reduce its exposure to changes in interest rates and to manage duration mismatches. Although the Company is subject to the risk that counterparties will fail to perform, credit standings of counterparties are monitored regularly. The Company's policy is to contract only with counterparties that are rated "AA" or higher; accordingly, it is expected that counterparties will be able to satisfy their obligations under such contracts. The Company is also subject to the risk associated with changes in the value of contracts. However, such adverse changes in value generally are offset by changes in the value of the items being hedged. The notional principal amounts of the swaps, caps, and options, which represent the extent of the Company's involvement in such contracts but not the risk of loss, at December 31, 1998, amounted to $1,336.0 million. The swaps had no carrying value at December 31, 1998 and a fair value which amounted to a net payable position of $1.9 million at December 31, 1998. The carrying value and fair value of interest rate caps amounted to $1.7 million and $0.5 million, respectively, and the carrying value and fair value of options amounted to $49.2 million and $70.9 million, respectively. The interest rate caps and options are reflected as "other investments" on the Company's consolidated financial statements as of December 31, 1998. The net amount payable or receivable from interest rate swaps and caps are accrued as an adjustment to interest income.
Commercial mortgage loans consist primarily of fixed-rate mortgage loans. As of December 31, 1998, the Company held 372 individual commercial mortgage loans with an average balance of $1.1 million.
The Company held $240.1 million of other invested assets (including short-term investments) on December 31, 1998. Other invested assets consist primarily of various joint venture and limited partnership investments.
Interest rate changes may have temporary effects on the sale and profitability of the annuities and life insurance products offered by the Company. For example, if interest rates rise, competing investments (such as annuities 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 interest rate credited to owners of its annuities and life insurance products. In contrast, as interest rates fall, the Company attempts to adjust its credited rates to compensate for the corresponding decline in reinvestment rates. The Company monitors interest rates
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities." SFAS No. 133 defines derivative instruments and provides comprehensive accounting and reporting standards for the recognition and measurement of derivative and hedging activities (including certain instruments embedded in other contracts). It requires derivatives to be recorded in the Consolidated Balance Sheet at fair value and establishes criteria for hedges of changes in the fair value of assets, liabilities or firm commitments, hedges or variable cash flows or forecasted transactions, and hedges of foreign currency exposures of net investments in foreign operations. Changes in the fair value of derivatives not meeting specific hedge accounting criteria would be recognized in the Consolidated Statement of Operations. SFAS No. 133 is effective for all fiscal quarters of all years beginning after December 31, 1999. The Company is evaluating SFAS No. 133 and has not determined its effect on the Consolidated Financial Statements.
In March 1998, the AICPA issued SOP 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use." This SOP provides guidance for determining whether costs of software developed or obtained for internal use should be capitalized or expensed as incurred. In the past, the Company has expensed such costs as they were incurred. This SOP is also effective for fiscal years beginning after December 15, 1998. The SOP will not have a material impact on the financial position or results of operations of the Company.
The NAIC has codified statutory accounting practices, which are expected to constitute the only source of prescribed statutory accounting practices and are effective in 2001. Codification will change prescribed statutory accounting practices and may result in changes to the accounting practices that insurance enterprises use to prepare their statutory financial statements. The Company is currently evaluating the impact of codification to its statutory financial statements, however the changes will not have a material impact on statutory surplus.
The IT Systems Project has been organized into three phases as follows: inventory, remediation/replacement and integrated testing. The inventory phase is complete. Because mainframe systems are a major part of our Year 2000 Project, work on these systems began in 1996. Mainframe remediation efforts are more than 92% complete, and this work is scheduled for completion in the first quarter of 1999. Work on personal computer and network systems began in early 1998, and the remediation/replacement phase for these systems is about 62% complete. This work is scheduled for completion in the second quarter of 1999. The Company has been testing individual systems as part of its remediation effort, and full system integration testing of all business critical systems is scheduled for completion in the second quarter of 1999.