GAPR rents office space in Puerto Rico totaling approximately 70,000 square feet under leases expiring primarily in 2001 through 2005.
AAG owns a building in Austin, Texas totaling approximately 40,000 square feet, the vast majority of which is used by UTA for its own operations. The remainder of the space is leased to other tenants.
Basic earnings per common share: Continuing operations $1.50 $2.27 $1.63 $1.39 $1.45 Discontinued operations - - - - (0.08) Extraordinary items - (0.02) (0.03) (0.14) - Change in accounting principle (0.11) - - - - Net income $1.39 $2.25 $1.60 $1.25 $1.37
Balance Sheet Data at year end: Total assets $7,530.7$7,190.4$7,710.3$7,024.1$6,611.0 Notes payable 201.3 131.0 135.8 114.9 167.7 Mandatorily redeemable preferred securities of subsidiary trusts 219.6 225.0 225.0 75.0 - Net unrealized gains (losses) included in stockholders' equity (52.9) 160.1 133.2 61.8 89.3 Total stockholders' equity 525.7 688.7 583.9 486.5 429.3
Following is a discussion and analysis of the financial statements and other statistical data that management believes will enhance the understanding of the financial condition and results of operations of American Annuity Group, Inc. ("AAG" or "the Company"). This discussion should be read in conjunction with the financial statements beginning on page.
AAG and its subsidiary, AAG Holding Company, Inc., are organized as holding companies with nearly all of their operations being conducted by their subsidiaries. These companies, however, have continuing expenditures for administrative expenses, corporate services, satisfaction of liabilities in connection with discontinued operations and for the payment of interest and principal on borrowings and stockholder dividends.
For purposes of the calculations of consolidated debt to capital, consolidated debt includes the Company's notes payable and its Remarketed Par Securities ("ROPES"). Capital represents the sum of consolidated debt, redeemable preferred securities of subsidiary trusts and stockholders' equity (excluding unrealized gains (losses) on marketable securities).
The National Association of Insurance Commissioners' ("NAIC") risk-based capital ("RBC") formulas determine the amount of capital that an insurance company needs to ensure that it has an acceptable expectation of not becoming financially impaired. At December 31, 1999, the capital ratio of each of AAG's principal insurance subsidiaries was at least 4.0 times its authorized control level RBC.
Sources and Uses of Funds To pay interest and principal on borrowings, obligations related to discontinued manufacturing operations and other holding company costs, AAG (parent) and AAG Holding use cash and investments on hand, capital distributions from their principal subsidiary, Great American Life Insurance Company ("GALIC") and bank borrowings. At February 29, 2000, AAG (parent) had over $100 million available under its bank credit line. The amount of capital distributions which can be paid by GALIC is subject to restrictions relating to statutory surplus and earnings. The maximum amount of dividends payable by GALIC in 2000 without prior regulatory approval is $40.4 million.
At December 31, 1999, AAG had approximately $127 million in net unrealized losses on its fixed maturity portfolio compared to net unrealized gains of $240 million at December 31, 1998. This decline in value, representing approximately 6% of AAG's bond portfolio, resulted primarily from an increase in the general level of market interest rates. All of AAG's fixed maturity investments are classified as "available for sale."
Uncertainties IT Initiative From inception of the Year 2000 Project in 1997, AAG estimates that it incurred approximately $27 million in Year 2000 costs, including capitalized costs of $15.2 million, to successfully ensure its systems function properly in the year 2000 and beyond. Although a significant portion of the costs charged to expense were related primarily to allowing systems to continue to execute properly, the Project also included the upgrading of a significant number of systems and enhanced the knowledge of virtually all existing systems.
In the third quarter of 1999, AFG's newly hired Chief Information Officer initiated an enterprise-wide study of its Information Technology ("IT") resources, needs and opportunities (including those of AAG). AAG expects that the initiative will entail extensive effort and costs and may lead to substantial changes in the area, which should result in significant cost savings, efficiencies and effectiveness in the future. While the costs (most of which will be expensed) will precede any savings to be realized, management expects benefits to greatly exceed the costs incurred, all of which will be funded through available working capital.
Exposure to Market Risk Market risk represents the potential economic loss arising from adverse changes in the fair value of financial instruments. AAG's exposures to market risk relate primarily to its fixed maturity investment portfolio, annuity contracts and long-term debt which are exposed to interest rate risk. AAG's investments in equity securities and derivatives were not significant at December 31, 1999.
Nearly half of AAG's fixed annuity liabilities at December 31, 1999, were two-tier in nature in that policyholders can receive a higher amount if they annuitize rather than surrender their policy, even if the surrender period has expired. Current stated crediting rates on AAG's principal fixed annuity products range from 3% on equity-indexed annuities (before any equity participation) to over 7% on certain new policies (including first year bonus amounts). AAG estimates that its effective weighted-average crediting rate over the next five years will approximate 5%. This rate reflects actuarial assumptions as to: (i) deaths; (ii) the number of policyholders who annuitize and receive higher credited amounts and (iii) the number of policyholders who surrender. Actual experience and changes in actuarial assumptions may result in different effective crediting rates than those above.
December 31, 1999 December 31, 1998 Scheduled Scheduled Principal Principal Payments Rate Payments Rate 2000 through 2004 * 1999 through 2003 * Thereafter $101.2 6.9% Thereafter $100.8 6.9%
At December 31, 1999 and 1998, respectively, AAG and its subsidiaries had $97 million and $27 million in variable-rate debt maturing primarily in 2002 and 2003. The weighted average interest rate on AAG's variable-rate debt was 6.8% at December 31, 1999, compared to 6.1% at December 31, 1998. There were $220 million and $225 million of subsidiary trust preferred securities outstanding at December 31, 1999, and 1998, none of which are scheduled for maturity or mandatory redemption during the next five years; the weighted average interest rate on these trust securities at both dates was 8.5%.
General The comparability of AAG's financial statement is affected by the acquisitions and sale of subsidiaries discussed in Note C to its financial statements.
Management believes the concept of net operating earnings (or "core" earnings) is helpful in comparing the operating performance of AAG with that of similar companies. However, core earnings should not be considered a substitute for net income as an indication of AAG's overall performance. The following table (in millions, except per share amounts) compares the Company's core earnings over the past three years.
Core operating earnings before tax 109.1 111.6 102.2 Income tax expense 32.5 35.4 32.1 Net core operating earnings $ 76.6 $ 76.2 $ 70.1
Net core operating earnings per common share (basic) $ 1.81 $ 1.77 $ 1.60
1999 1998 1997 Annuity Premiums: Single premium fixed rate annuities $230 $260 $254 Flexible premium fixed rate annuities 153 172 192 Single premium variable annuities 158 67 37 Flexible premium variable annuities 47 22 6 $588 $521 $489
Sales of annuity products linked to the performance of the stock market (equity-indexed and variable annuities) helped offset a decrease in sales of traditional fixed annuities.
Premiums 1999 1998 1997 Life insurance $ 72 $ 62 $ 23 Accident and health insurance 52 30 21 124 92 44
Benefits Life insurance $ 57 $ 45 $ 22 Accident and health insurance 29 14 11 86 59 33 Funeral Services Division - 73 77 $ 86 $132 $110
Life, accident and health premiums and benefits increased (excluding Funeral Services Division sold in 1998) in 1999 due primarily to the acquisition of United Teacher Associates in October 1999 and increased sales by GALIC's Life Division. Increases in life, accident and health premiums and benefits in 1998 reflect primarily the acquisition of GAPR.
Realized Gains In September 1998, AAG sold its Funeral Services Division to that Division's biggest customer, Service Corporation International. This customer accounted for approximately one-half of American Memorial's sales in 1997.
Annuity Benefits Annuity benefits reflect amounts accrued on annuity policyholders' funds accumulated. The majority of AAG's fixed rate annuity products permit AAG 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 market interest rates and maintain a desired interest rate spread. While management believes the interest rate and stock market environment over the last several years has contributed to an increase in annuitizations and surrenders, the Company's persistency rate remains approximately 90%.
Provision for Relocation Expenses In 1997, AAG relocated most of the operations of Loyal from Mobile, Alabama to Cincinnati, Ohio to more closely coordinate its efforts with those of other AAG operations. The estimated cost of the relocation ($4.0 million) was expensed in 1997.
Income Taxes AAG's effective tax rate reflects reductions of the valuation allowance associated with certain deferred tax assets (See Note K).
Cumulative Effect of Accounting Change In the first quarter of 1999, AAG implemented Statement of Position ("SOP") 98-5, "Reporting on the Costs of Start-Up Activities." The SOP requires that costs of start-up activities be expensed as incurred and that unamortized balances of previously deferred costs be expensed and reported as the cumulative effect of a change in accounting principle. Accordingly, AAG expensed previously capitalized start-up costs of $4.7 million (net of tax) in the first quarter of 1999.
Please refer to "Forward Looking Statements" following the index in front of this Form 10-K.
Net operating earnings 65.5 97.8 70.9 Equity in earnings of affiliate, net of tax (2.0) (0.3) 0.5
Extraordinary items, net of tax - (0.8) (1.5) Cumulative effect of accounting change, net of tax (4.7) - -
Diluted earnings (loss) per common share: Income before extraordinary items and accounting change $1.48 $2.23 $1.61 Extraordinary items - (0.02) (0.03) Accounting change (0.11) - - Net income $1.37 $2.21 $1.58
Average number of common shares: Basic 42.4 43.0 43.2 Diluted 43.0 43.7 43.7
Year ended December 31, 1999 1998 1997 Preferred Stock: Balance at beginning of year $ - $ - $ 49.0 Preferred Stock retired - - (49.0) Balance at end of year $ - $ - $ -
Capital Surplus: Balance at beginning of year $354.1 $368.0 $358.5 Capital contribution - - 9.3 Common Stock issued 0.6 0.4 0.2 Common Stock retired (5.0) (14.3) (1.0) Preferred Stock retired - - 2.0 Preferred dividends declared - - (1.0) Balance at end of year $349.7 $354.1 $368.0
Retained Earnings: Balance at beginning of year $131.9 $ 39.5 ($ 26.1) Net income 58.8 96.7 69.9 Common dividends declared (4.2) (4.3) (4.3) Balance at end of year $186.5 $131.9 $ 39.5
CONSOLIDATED STATEMENT OF CASH FLOWS (In millions) Year ended December 31, 1999 1998 1997 Cash Flows from Operating Activities: Net income $ 58.8 $ 96.7 $ 69.9 Adjustments: Extraordinary loss on prepayment of debt - 0.8 1.5 Cumulative effect of accounting change 4.7 - - Equity in earnings of affiliate, net of tax 2.0 0.3 (0.5) Increase in life, accident and health reserves 39.3 47.1 36.3 Benefits to annuity policyholders 262.6 261.7 278.8 Amortization of insurance acquisition costs 45.0 55.4 36.3 Depreciation and amortization 7.2 12.6 5.1 Realized losses (gains) 7.1 (32.3) (5.2) Increase in insurance acquisition costs (119.4) (117.2) (72.6) Other, net 7.3 (22.3) (38.5) 314.6 302.8 311.1
Net increase (decrease) in cash and short-term investments (13.4) 82.3 (33.4) Beginning cash and short-term investments 133.0 50.7 84.1 Ending cash and short-term investments $ 119.6 $ 133.0 $ 50.7
American Annuity Group, Inc. ("AAG" or "the Company") markets retirement products, primarily fixed and variable annuities, and various forms of life and supplemental health insurance through independent agents, payroll deduction plans, financial institutions and in-home sales.
American Financial Group, Inc. ("AFG") and its subsidiaries owned 83% of AAG's Common Stock at December 31, 1999.
These amounts are amortized with interest over the estimated remaining life of the acquired policies for annuities and universal life products and over the expected premium paying period for traditional life and health insurance products.
Variable Annuity Assets and Liabilities Separate accounts related to variable annuities represent deposits invested in underlying investment funds on which AAG earns a fee. The investment funds are selected and may be changed only by the policyholder.
Life, Accident and Health Premiums and Benefits For traditional life, accident and health products, premiums are recognized as revenue when legally collectible from policyholders. Policy reserves have been established in a manner which allocates policy benefits and expenses on a basis consistent with the recognition of related premiums and generally results in the recognition of profits over the premium-paying period of the policies.
Fair Value of Financial Instruments Methods and assumptions used in estimating fair values are described in Note P to the financial statements. These fair values represent point-in-time estimates of value that might not be particularly relevant in predicting AAG's future earnings or cash flows.
In July 1999, AAG acquired Consolidated Financial Corporation, an insurance agency, for approximately $21 million in cash.
AAG's life, accident and health businesses sell various forms of life and supplemental health products in the United States and Puerto Rico. Sales in Puerto Rico accounted for nearly 40% of AAG's life, accident and health premiums in 1999.
Corporate and other consists primarily of AAG (parent), AAG Holding and the Funeral Services Division.
The following tables show AAG's assets, revenues and operating profit (loss) by significant business segment (in millions):
Assets 1999 1998 1997 Retirement products $6,465.7 $6,424.6 $6,130.3 Life, accident & health: U.S. 751.3 376.3 351.9 Puerto Rico 183.2 181.1 159.8 Corporate and other (a) 118.2 192.5 1,051.5 Investment in affiliate 12.3 15.9 16.8 Total assets per balance sheet $7,530.7 $7,190.4 $7,710.3
Revenues Retirement products $464.4 $447.7 $448.1 Life, accident & health: U.S. 106.6 66.9 59.7 Puerto Rico 54.7 53.3 4.5 Corporate and other (a) 17.3 127.7 118.8 Total operating revenues 643.0 695.6 631.1
Realized gains (losses) (b) (7.1) 32.3 5.2 Provision for realignment expenses (c)(10.0) - - Provision for relocation expenses - - (4.0) Total pretax income per income statement $ 92.0 $143.9 $103.4
Amortized Market Gross Unrealized Cost Value Gains Losses Fixed maturities: U. S. Government and government agencies and authorities $ 218.0 $ 233.9 $ 15.9 $ - States, municipalities and political subdivisions 34.2 36.3 2.1 - Foreign governments 25.8 28.0 2.2 - Public utilities 419.0 433.3 14.5 (0.2) Mortgage-backed securities 1,800.6 1,877.4 82.8 (6.0) All other corporate 3,271.5 3,399.6 145.6 (17.5) Redeemable preferred stocks 13.7 14.6 1.0 (0.1) $5,782.8 $6,023.1 $264.1 ($ 23.8)
* As of December 31, 1998, all of AAG's fixed maturity investments were classified as "available for sale".
At December 31, 1999, AAG had a $60 million investment in National Westminster Bank PLC debt obligations. AAG had no other investment in excess of 10% of stockholders' equity not guaranteed by the U.S. Government or government agencies.
At December 31, 1999 and 1998, gross unrealized gains on its marketable equity securities were $35.7 million and $39.5 million, respectively. At December 31, 1999 and 1998, gross unrealized losses were $7.0 million and $1.0 million, respectively. Realized gains and changes in unrealized appreciation on fixed maturity and equity security investments are summarized as follows (in millions):
Realized $ 2.6 $ 1.8 $6.3 ($ 3.9) $ 6.8 Change in unrealized (1.3) (13.6) - 5.2 (9.7)
AAG Holding has a floating rate revolving credit agreement with several banks under which it may borrow a maximum of $200 million through September 29, 2000. The maximum amount available reduces quarterly between September 30, 2000, and December 31, 2003. At December 31, 1999 and 1998, the weighted-average interest rate on amounts borrowed under AAG Holding's bank credit line was 6.76% and 6.09%, respectively. At March 1, 2000, the weighted-average interest rate on its credit line was 6.44%.
In August 1997, AAG Holding retired its 9-1/2% Senior Notes, realizing a pretax extraordinary loss of $2.4 million.
Cash interest payments were $11.2 million in 1999, $10.9 million in 1998 and $9.4 million in 1997.
Wholly-owned subsidiary trusts of AAG Holding issued $225 million of preferred securities and, in turn, purchased a like amount of AAG Holding subordinated debt which provides interest and principal payments to fund the Trusts' obligations. The preferred securities are mandatorily redeemable upon maturity or redemption of the subordinated debt. The three preferred securities issues are summarized as follows:
Date of Optional Issuance Issue (Maturity Date) 12/31/99 12/31/98 Redemption Dates
In the first quarter of 1999, AAG repurchased $5.4 million of its preferred securities for $5.5 million in cash. Cash payments with respect to the preferred securities were $19.6 million in 1999 and 1998 and $11.0 million in 1997.
In December 1997, AAG merged its underfunded pension plan with two pension plans of affiliates (see Note P - "Pension Plan"). The net overfunded amount of the affiliates' plans was recorded as a capital contribution.
In March 1997, AAG repurchased all 490,000 shares of its Preferred Stock for approximately $47 million.
AAG's dividend paying capability is limited by certain customary debt covenants to amounts based on cumulative earnings and losses, debt ratios and other items.
At December 31, 1999, there were 3.0 million shares of AAG Common Stock reserved for issuance under AAG's stock option plans. Under the plans, the exercise price of each option equals the market price of AAG Common Stock at the date of grant. Options generally become exercisable at the rate of 20% per year commencing one year after grant. All options expire ten years after the date of grant.
Outstanding at end of year 2,521,115 $17.10 2,464,080 $16.42 2,178,190 $15.21
The average remaining life of AAG's options was 7.7 years at December 31, 1999. The exercise prices of options issued during the year ranged from $21.73 to $24.25 in 1999; $22.13 to $24.38 in 1998 and $14.00 to $21.75 in 1997.
For SFAS No. 123 purposes, calculations were determined using the Black- Scholes option pricing model and the following assumptions:
1999 1998 1997 Dividend yield <1% <1% <1% Expected volatility 20% 20% 20% Expected life (years) 7.5 7.5 7.5 Risk free interest rates: Low 5.0% 4.7% 5.7% High 5.9% 5.7% 6.5%
Effect of: Reduction of valuation allowance (5.3) (6.6) (3.5) Book basis over tax basis of subsidiaries sold - 2.3 - Other, net (0.3) 0.1 (0.2) Total provision (all current) 23.0 45.6 32.0
Amounts applicable to earnings of affiliate 1.0 0.1 (0.3) Amounts applicable to extraordinary items - 0.4 0.8 Amounts applicable to accounting change 2.5 - - Provision for income tax as shown in Consolidated Income Statement $26.5 $ 46.1 $ 32.5
Deferred tax liabilities: Unamortized insurance acquisition costs (99.9) (68.8) Policyholder liabilities (38.5) (17.2) Capitalized assets (5.1) (8.6)
Rental expense for operating leases was $5.6 million in 1999, $4.9 million in 1998 and $2.9 million in 1997.
In 1999, GALIC was named a defendant in purported class action lawsuits seeking unspecified money damages. GALIC believes it has meritorious defenses but it is not possible to predict the ultimate impact of this action on the Company.
Insurance reserves $5,933 $5,692 Notes payable: Due parent 102 115 Due others 199 130 Variable annuity liabilities (separate accounts) 354 120 Other liabilities 131 167
Related Party Transactions In a 1997 transaction, AAG purchased a minority ownership position in a company engaged in the production of ethanol. AAG's Chairman purchased the remaining ownership. During 1998, this company borrowed $4.0 million from AAG under a subordinated note bearing interest at 14% and used the proceeds to pay a portion of a $6.3 million capital distribution, including $3.1 million to AAG. AAG's equity investment in this company at December 31, 1999, was $1.8 million. In addition, AAG has extended a $5 million line of credit to this company; no amounts have been borrowed under the credit line.
GALIC has a line of credit with a company owned in part by AFG and a brother of AAG's Chairman. Under the agreement, this company may borrow up to $8 million at 13% with interest deferred and added to principal. At December 31, 1999, $6.7 million was due GALIC under the line.
Net investment income includes approximately $900,000 in 1999, 1998 and 1997 of payments from a subsidiary of AFG for the rental of an office building owned by GALIC.
Fair Value of Financial Instruments The following table shows the carrying value and estimated fair value of AAG's financial instruments at December 31 (in millions):
Liabilities Annuity benefits accumulated $5,519.5 $5,370.6 $5,449.6 $5,307.2 Notes payable 201.3 191.4 131.0 130.4
Trust preferred securities $ 219.6 $ 204.7 $ 225.0 $ 231.4
Fair value of stockholders' equity is based on the quoted market price of AAG's Common Stock.
Unrealized Gains (Losses) on Marketable Securities, Net The components of the Consolidated Balance Sheet caption "Unrealized gains (losses) on marketable securities, net" in stockholders' equity are summarized as follows (in millions): Unadjusted Adjusted Asset Effect of Asset (Liability) SFAS 115 (Liability) Fixed maturities $6,073.2 ($126.5) $5,946.7 Equity securities 43.6 28.7 72.3 Unamortized insurance acquisition costs, net 401.6 4.6 406.2 Annuity benefits accumulated (5,532.6) 13.1 (5,519.5) Deferred taxes on unrealized losses - 27.2 27.2 Unrealized gains (losses) ($ 52.9)
Fixed maturities $5,782.8 $240.3 $6,023.1 Equity securities 46.7 38.5 85.2 Unamortized insurance acquisition costs, net 256.3 (8.9) 247.4 Annuity benefits accumulated (5,424.1) (25.5) (5,449.6) Deferred taxes on unrealized gains - (84.3) (84.3) Unrealized gains (losses) $160.1
Diluted earnings (loss) per common share: Income before accounting change $0.52 $0.43 $0.35 $0.17* $1.48 Accounting change (0.11) - - - (0.11) Net income $0.41 $0.43 $0.35 $0.17* $1.37
Income before extraordinary items 25.7 21.7 37.3 12.8 97.5 Extraordinary items (0.8) - - - (0.8) Net income 24.9 21.7 37.3 12.8 96.7
Basic earnings (loss) per common share: Income before extraordinary items $0.60 $0.50 $0.87 $0.30 $2.27 Extraordinary items (0.02) - - - (0.02) Net income $0.58 $0.50 $0.87 $0.30 $2.25
Diluted earnings (loss) per common share: Income before extraordinary items $0.59 $0.49 $0.85 $0.30 $2.23 Extraordinary items (0.02) - - - (0.02) Net income $0.57 $0.49 $0.85 $0.30 $2.21
* In the fourth quarter of 1999, AAG recorded a $10 million ($6.5 million after-tax) realignment charge. Excluding this charge, fourth quarter 1999 basic and diluted earnings per share would have been $0.15 higher.
Year ended December 31, 1999 1998 1997 Revenues: Net investment income and other income $ 29.3 $ 37.5 $ 34.1 Realized gains (losses) on sales of: Investments 1.7 (1.5) 0.1 Subsidiaries - 4.6 - Equity in undistributed earnings of subsidiaries 27.9 72.7 (92.9) Capital distributions from subsidiaries 43.7 50.6 181.1 102.6 163.9 122.4 Costs and Expenses: Interest and other financing expenses 0.1 0.1 0.2 Provision for realignment expenses (c) 2.8 - - Provision for relocation expenses - - 4.0 Other expenses 7.7 15.9 14.0 10.6 16.0 18.2
Operating earnings before income taxes 92.0 147.9 104.2 Provision for income taxes 26.5 47.5 32.8
Equity in earnings of affiliate, net of tax (2.0) (2.9) -
(a) Includes unrealized gains (losses) of ($51.3) million and $160.8 million in 1999 and 1998, respectively. (b) Includes unrealized gains (losses) of ($52.9) million and $160.1 million in 1999 and 1998, respectively. (c) Represents AAG (parent only) portion of realignment charge.
Financing Activities: Additions to notes payable 1.1 - - Reductions of notes payable (0.1) (0.1) (0.1) Issuance of Common Stock 0.6 0.4 - Retirement of Common Stock (5.2) (14.9) (1.1) Retirement of Preferred Stock - - (47.0) Repurchase of trust preferred securities (5.5) - - Cash dividends paid (4.2) (4.3) (5.3) (13.3) (18.9) (53.5)
Cash and short-term investments at beginning of period 3.6 3.6 1.9
10.2 Assignment of Tax Allocation Payments dated December 31, 1992, between American Financial Corporation and the Registrant incorporated herein by reference to Exhibit 10.15 to the Registrant's Registration Statement on Form S-2 dated January 7, 1993.
27.1 Financial Data Schedule for 1999 - included in Report filed electronically with the Securities and Exchange Commission.
s/CARL H. LINDNER Chairman of the Board March 29, 2000 Carl H. Lindner of Directors
s/JOHN T. LAWRENCE, III Director* March 29, 2000 John T. Lawrence, III
s/WILLIAM J. MANEY Executive Vice President, March 29, 2000 William J. Maney Treasurer and Chief Financial Officer (Principal Accounting Officer)