We currently lease office space in George Town, Grand Cayman where our executive and principal offices are located. We lease office space in Charlotte, North Carolina where Scottish Re's principal offices are located. We currently lease office space in Dallas, Texas and starting April 2001 we will lease office space in Hamilton, Bermuda. The Grand Cayman lease expires in 2006 and the Charlotte, Dallas and Bermuda leases expire in 2005. We believe that these properties are adequate to meet our needs for the foreseeable future.
*the period from May 12, 1998 (date of incorporation) to December 31, 1998.
: Management's Discussion and Analysis of Financial Condition and Results of Operations
Scottish Annuity & Life Holdings, Ltd. ("Scottish Holdings", "we", "our", or "the Company") is a Cayman Islands holding company that was incorporated in May 1998 and completed its initial public offering ("IPO") on November 30, 1998. Through our wholly owned subsidiaries, we provide life reinsurance to life insurance companies and issue variable insurance policies to high net worth individuals.
We have two wholly-owned direct subsidiaries: Scottish Annuity & Life Insurance Company (Cayman) Ltd. ("SALIC"), a Cayman Islands insurance company formed by the Company in 1998; and The Scottish Annuity Company (Cayman) Ltd. ("SAC"), a Cayman Islands insurance company that was incorporated in 1994 and acquired by the Company in 1999.
Scottish Re (U.S.), Inc. ("Scottish Re"), formerly Harbourton Reassurance, Inc. ("Harbourton"), is a Delaware insurance company that was acquired by SALIC in 1999. Scottish Re provides life reinsurance to life insurance companies. Scottish Re is licensed to do business in the United States by 15 states and admitted as a reinsurer in an additional 29 states.
In June 2000, we acquired a 50.01% holding in Scottish Crown Group (Bermuda) Ltd. ("Scottish Crown"). As of December 31, 2000, Scottish Crown owned two Bermuda-licensed insurance companies that are engaged in the issuance of variable insurance policies to high net worth individuals. In February 2001, Scottish Holdings (U.S.), Inc., a wholly-owned subsidiary of SALIC, acquired 100% of one of the Bermuda-licensed insurance companies.
Net investment income increased from $24.1 million in 1999 to $44.8 million in 2000 as a result of an increase in average invested assets plus an increase in our average book yield from 6.75% in 1999 to 7.24% in 2000. Net investment income in 1998 was not significant as our public offering was completed on November 30, 1998 and the proceeds were invested for only one month.
Capital has been contributed to SALIC and Scottish Re and is utilized to support the reinsurance agreements in place; more capital will be contributed as required. Capital that is not yet allocated is invested to provide investment income at competitive rates. Such investment income is shown as other in the above table.
Operating expenses increased from $0.9 million in 1998 to $4.5 million in 1999 and to $9.9 million in 2000 as a result of increased reinsurance activity and the acquisition of Scottish Re. Included in the 2000 figure is $0.9 million of non-recurring employee expenses, which relate to four employees including severance, recruiting and relocation expenses.
The income tax benefit arises from a deferred tax credit. Movements in deferred taxes are addressed in Note 16 to the financial statements.
We generated operating cash flow of $72.0 million in 2000, compared to $108.7 million in 1999, and $(0.3) million in 1998. Operating cash flow includes $89.7 million, $107.9 million and $ nil of funds received in connection with the acquisition of blocks of reinsurance during 2000, 1999 and 1998 which are not reflected in the Income Statement. These acquisitions are explained in more detail in Note 9 of the Notes to Consolidated Financial Statements. The decrease in operating cash flow from 1999 to 2000 is primarily due to the decrease of $18.2 million in the amount received on acquisition of blocks of reinsurance, an increase in benefits and expenses paid of $43.0 million, offset by an increase in reinsurance premiums received of $7.1 million and an increase in investment income received of $22.2 million.
At December 31, 2000, total capitalization was $239.6 million (1999--$218.7 million; 1998--$252.1 million). Pursuant to stock repurchase programs approved by the Board of Directors, we repurchased 2,529,700 ordinary shares for $25.0 million in 1999 and during 2000 we repurchased 432,500 ordinary shares for $3.8 million. Since our IPO we have repurchased a total of 2,962,200 ordinary shares at a cost of $28.8 million.
We must have sufficient assets available for use as collateral to support borrowings, letters of credit, and certain reinsurance transactions. With those reinsurance transactions, the need for collateral or letters of credit arises in three ways: (i) when SALIC enters into a reinsurance treaty with a U.S. customer, it must pledge assets into a reserve credit trust with a U.S. bank in order that the ceding company obtain reserve credit for the reinsurance transaction; in some cases, a letter of credit may be substituted for all or a portion of a reserve credit trust; this same requirement applies to cessions from Scottish Re to SALIC; (ii) when Scottish Re enters into a reinsurance transaction with a customer domiciled in a state in which it is not a licensed or accredited reinsurer, it likewise must provide a reserve credit trust or letter of credit; (iii) even when Scottish Re is licensed or accredited in the state, it may agree with a customer to provide a reserve credit trust or letter of credit voluntarily to mitigate the counter-party risk from the customer's perspective, thereby doing transactions that would be otherwise unavailable or would be available only on significantly less attractive terms; such a requirement most often arises in connection with interest-sensitive liabilities.
In June 1998 the Financial Accounting Standards Board ("FASB") issued Statement No. 133, "Accounting for Derivative Instruments and Hedging Activities". This standard establishes accounting and reporting standards for derivative instruments. It requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. If certain conditions are met, a derivative may be specifically designated as (i) a hedge of the exposure to changes in the fair value of a recognized asset or liability or an unrecognized firm commitment, (ii) a hedge of the exposure to variable cash flows of a forecasted transaction, or (iii) a hedge of the foreign currency exposure of a net investment in a foreign operation, an unrecognized firm commitment, an available-for-sale security, or a foreign-currency-denominated forecasted transaction. In June 1999 the FASB issued Statement No. 137 "Accounting for Derivative Instruments and Hedging Activities--Deferral of the Effective Date of FASB Statement No. 133". This statement amended Statement No. 133 to defer its effective date one-year to fiscal years beginning after June 15, 2000. In June 2000 the FASB issued Statement No. 138 "Accounting for Certain Derivative Instruments and Certain Hedging Activities--An Amendment to SFAS 133". This statement makes certain changes in the hedging provisions of Statement No. 133 and is effective for fiscal years beginning after June 15, 2000. We do not currently own any derivatives and do not engage in any derivative hedging activities, although we may do so in the future.