The Company occupies office space which is owned or leased by Aetna Life Insurance Company or other affiliates. Expenses associated with these offices are allocated on a direct and indirect basis to the Company and the other subsidiaries of Aetna.
(1) Included above are net unrealized capital gains (losses) of $797.1 million, $(386.4) million and $747.1 million at December 31, 1995, 1994 and 1993, respectively.
1995 1994 1993 ---------------------------------- Net Income $175.9 $145.3 $142.9 Less: Net realized capital gains 26.8 1.0 6.2 ---------------------------------- Adjusted earnings $149.1 $144.3 $136.7 ---------------------------------- ----------------------------------
The Company's adjusted earnings increased 3% in 1995 following a 6% increase in 1994. Results in 1995 reflected improved earnings in the financial services segment, while earnings in the life insurance segment were level with the prior year. The improvement in earnings related to the financial services segment reflected an increase in charges assessed against policyholders and increased net investment income related to the growth in assets under management which were partially offset by an increase in operating expenses. This increase in operating expenses primarily reflects continued business growth. The improvement in 1994 adjusted earnings reflected an increase in charges assessed against policyholders, primarily due to an increase in the volume of business in force, partially offset by increases in operating expenses, primarily related to the implementation of a new contract administration system.
The Company's contracts typically impose surrender fees which decline over the duration of the contract. Assets held under experience rated general account options have transfer and withdrawal limitations. Withdrawals from the fully guaranteed accumulation options prior to maturity include an adjustment intended to reflect the estimated fair value of the assets supporting the contract at the time of withdrawal. Approximately 91% and 90% of assets under management at December 31, 1995 and 1994, respectively, allowed for contractholder withdrawal, 63% and 57% of which, respectively, are subject to market value adjustments or deferred surrender charges at December 31, 1995.
1995 1994 1993 ------------------------------------ Net Income $113.8 $85.6 $86.8 Less: Net realized capital gains 24.6 0.9 5.9 ------------------------------------ Adjusted earnings $ 89.2 $84.6 $80.9 ------------------------------------ ------------------------------------
Effective January 1, 1995 the Company assumed responsibility for two service organizations, a plan administration service organization and a payment and retiree administration service organization, from an affiliate, with year-to-date combined adjusted income of $0.2 million. As a result, other income and operating expenses include $39.1 million and $38.8 million, respectively, for the year ended December 31, 1995.
Premiums, related to annuity contracts containing life contingencies, increased by 18% in 1995, following a 119% increase in 1994. The 1995 and 1994 increases resulted primarily from increases in immediate annuity sales. Deposits, related to annuity contracts not containing life contingencies, reflected a 27% increase in 1995 following a 16% increase in 1994. Deposits in 1995 included the assumption of a $300.1 million variable annuity block of business from an unaffiliated insurer. Deposits in 1994 included the $205.0 million acquisition of a block of primarily individual annuity business from an unaffiliated insurer.
Net investment income increased by 10% in 1995, reflecting the increase in assets under management. Net investment income increased by 1% in 1994, reflecting the increase in assets under management offset by a downward trend in the net investment yield on the Company's portfolio of investments.
Current and future benefits increased by 10% and 3% in 1995 and 1994, respectively, reflecting the increase in assets under management.
Assets under management, excluding the effect of FAS 115, at December 31, 1995 of $22.5 billion, were 24% above 1994 levels, primarily reflecting continued business growth and overall improvement in the stock and bond markets.
Sales of tax-qualified annuities are expected to continue to be strong in 1996. Sales of non-qualified products are expected to significantly exceed 1995 levels as relationships formed with broker/dealers and banks in 1995 build sales momentum. The Company intends to expand its retirement planning capabilities. The Company expects to evaluate opportunities for growth of its financial services businesses and strengthen their competitive position.
(1) Included above are net unrealized capital gains (losses) of $107.2 million, $(48.7) million and $100.9 million at December 31, 1995, 1994 and 1993, respectively.
Adjusted earnings in the Life Insurance segment (after-tax) follow (in millions):
1995 1994 1993 --------------------------------- Net Income $62.1 $59.8 $56.1 Less: Net realized capital gains 2.2 0.1 0.3 --------------------------------- Adjusted earnings $59.9 $59.7 $55.8 --------------------------------- ---------------------------------
Charges assessed against policyholders for universal life and interest-sensitive whole life insurance increased 11% in 1995 and 7% in 1994 reflecting an increase in the volume of business in force.
Net investment income increased by 6% in 1995, reflecting an increase in universal life assets under management offset in part by the downward trend in the net investment yield on the Company's portfolio of investments. Net investment income decreased 1% in 1994, reflecting the downward trend in the net investment yield on the Company's portfolio of investments, offset by the increase in universal life assets under management.
Current and future benefits decreased 2% in 1995 following a 10% increase in 1994, reflecting improved mortality experience related to universal life insurance. The increase in 1994 reflected higher mortality related to universal life insurance. Amortization of deferred policy acquisition costs increased by 95% in 1995, reflecting the growth in current and estimated future gross profit margins related to universal life insurance. Amortization of deferred policy acquisition costs decreased 21% in 1994, primarily reflecting lower mortality margins related to universal life insurance.
Operating expenses increased 7% in 1995, reflecting continued business growth. Operating expenses were level in 1994, reflecting savings from previous restructurings.
Sales of life products through traditional channels (managing general agents and regional brokers) are expected to continue to be strong in 1996. Sales of life products through non-traditional distribution channels (banks, broker/dealers, worksite), are expected to significantly exceed 1995 levels as the Company's retirement planning emphasis begins to build momentum.
The Company's investment strategies and portfolios are intended to match the duration of the related liabilities and provide sufficient cash flow to meet obligations while maintaining a competitive rate of return. The duration of these investments is monitored, and investment purchases and sales are executed with the objective of having adequate funds available to satisfy the Company's maturing liabilities. The risks associated with investments supporting experience-rated products are assumed by those customers subject to, among other things, certain minimum guarantees.
At December 31, 1995 and 1994, the Company's carrying value of investments in debt securities were $12.7 billion and $10.2 billion, 95% and 94%, respectively, of total general account invested assets. At December 31, 1995 and 1994, $10.0 billion and $8.0 billion, 79% and 78%, respectively, of total debt securities supported experience-rated products.
In 1995, as a result of a change in investment strategy, the Company reduced its investments in U.S. Treasuries/Agencies and residential mortgage-backed securities and increased its investments in U.S. Corporate securities (see Note 2 of the Notes to the Consolidated Financial Statements). Investments in U.S. dollar denominated foreign corporations and governments, asset-backed, and commercial/multifamily mortgage-backed securities also increased.
In 1996, the Company does not anticipate any major changes in market sector weightings, but will continue to marginally increase exposure to diversifying asset classes, such as securitized commercial mortgage-backed securities. The average quality rating of the Company's portfolio is not expected to change significantly. Duration is anticipated to remain fairly constant and will be monitored and maintained in line with liability duration to minimize interest rate risk.
Consolidated Statements of Income for the Years Ended December 31, 1995, 1994 and 1993 21
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Aetna Life Insurance and Annuity Company and Subsidiaries as of December 31, 1995 and 1994, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1995, in conformity with generally accepted accounting principles.
Notes to Consolidated Financial Statements December 31, 1995, 1994, and 1993
The financial services products include individual and group annuity contracts which offer a variety of funding and distribution options for personal and employer-sponsored retirement plans that qualify under Internal Revenue Code Sections 401, 403, 408 and 457, and individual and group non-qualified annuity contracts. These contracts may be immediate or deferred and are offered primarily to individuals, pension plans, small businesses and employer-sponsored groups in the health care, government, education (collectively "not-for-profit" organizations) and corporate markets. Financial services also include pension plan administrative services.
The life insurance products include universal life, variable universal life, interest sensitive whole life and term insurance. These products are offered primarily to individuals, small businesses, employer sponsored groups and executives of Fortune 2000 companies.
AETNA LIFE INSURANCE AND ANNUITY COMPANY AND SUBSIDIARIES (A wholly owned subsidiary of Aetna Retirement Services, Inc.)
On December 31, 1993, the Company adopted Financial Accounting Standard ("FAS") No. 115, Accounting for Certain Investments in Debt and Equity Securities, which requires the classification of debt securities into three categories: "held to maturity", which are carried at amortized cost; "available for sale", which are carried at fair value with changes in fair value recognized as a component of shareholder's equity; and "trading", which are carried at fair value with immediate recognition in income of changes in fair value.
Equity securities are classified as available for sale and carried at fair value based on quoted market prices or dealer quotations. Equity securities are written down (as realized losses) for other than temporary declines in value. Unrealized gains and losses related to such securities are reflected in shareholder's equity. Purchases and sales are recorded on the trade date.
Reserves for fixed universal life (included in Future Policy Benefits) and fixed deferred annuity contracts (included in Policyholders' Funds Left With the Company) are equal to the fund value. The fund value is equal to cumulative deposits less charges plus credited interest thereon, without reduction for possible future penalties assessed on premature withdrawal. For guaranteed interest options, the interest credited ranged from 4.00% to 6.38% in 1995 and 4.00% to 5.85% in 1994. For all other fixed options, the interest credited ranged from 5.00% to 7.00% in 1995 and 5.00% to 7.50% in 1994.
The amortized cost and fair value of debt securities for the year ended December 31, 1995 are shown below by contractual maturity. Actual maturities may differ from contractual maturities because securities may be restructured, called, or prepaid.
At December 31, 1995 and 1994, debt securities carried at $7.4 million and $7.0 million, respectively, were on deposit as required by regulatory authorities.
Investments in a single issuer, other than obligations of the U.S. government, with a carrying value in excess of 10% of the Company's shareholder's equity at December 31, 1995 are as follows:
Included in residential mortgage-back securities are collateralized mortgage obligations ("CMOs") with carrying values of $2.5 billion and $2.6 billion at December 31, 1995 and 1994, respectively. The principal risks inherent in holding CMOs are prepayment and extension risks related to dramatic decreases and increases in interest rates whereby the CMOs would be subject to repayments of principal earlier or later than originally anticipated. At December 31, 1995 and 1994, approximately 79% and 85%, respectively, of the Company's CMO holdings consisted of sequential and planned amortization class debt securities which are subject to less prepayment and extension risk than other CMO instruments. At December 31, 1995 and 1994, approximately 81% and 82%, respectively, of the Company's CMO holdings were collateralized by residential mortgage loans, on which the timely payment of principal and interest was backed by specified government agencies (e.g., GNMA, FNMA, FHLMC).
At December 31, 1995 and 1994, approximately 3% and 4%, respectively, of the Company's CMO holdings consisted of interest-only strips ("IOs") or principal-only strips ("POs"). IOs receive payments of interest and POs receive payments of principal on the underlying pool of mortgages. The risk inherent in holding POs is extension risk related to dramatic increases in interest rates whereby the future payments due on POs could be repaid much slower than originally anticipated. The extension risks inherent in holding POs was mitigated somewhat by offsetting positions in IOs. During dramatic increases in interest rates, IOs would generate more future payments than originally anticipated.
Net realized capital gains (losses) on investments, net of amounts allocated to experience-rated contracts, were as follows:
After-tax realized capital gains $25.8 $1.0 $ 6.2 ----- ---- ------ ----- ---- ------
Net change in unrealized capital gains (losses) $321.5 $(303.5) $113.7 ------ -------- ------ ------ -------- ------
Net unrealized capital gains (losses) allocable to experience-rated contracts of $515.0 million and $104.1 million at December 31, 1995 and $(260.9) million and $(47.7) million at December 31, 1994 are reflected on the Consolidated Balance Sheet in Policyholders' Funds Left With the Company and Future Policy Benefits, respectively, and are not included in shareholder's equity.
Deferred federal income taxes (See Note 6) 71.5 108.0 61.7 ------ ------- ------
Net unrealized capital gains (losses) $132.5 $(189.0) $114.5 ------ ------- ------ ------ ------- ------
The amount of dividends that may be paid to the shareholder in 1996 without prior approval by the Insurance Commissioner of the State of Connecticut is $70.0 million.
The Insurance Department of the State of Connecticut (the "Department") recognizes as net income and shareholder's equity those amounts determined in conformity with statutory accounting practices prescribed or permitted by the Department, which differ in certain respects from generally accepted accounting principles. Statutory net income was $70.0 million, $64.9 million and $77.6 million for the years ended December 31, 1995, 1994 and 1993, respectively. Statutory shareholder's equity was $670.7 million and $615.0 million as of December 31, 1995 and 1994, respectively.
1995 1994 1993 ---- ---- ---- (millions) Current taxes (benefits): Income from operations $ 82.9 $ 78.7 $ 87.1 Net realized capital gains 28.5 (33.2) 18.1 ------ ------ ------ 111.4 45.5 105.2 ------ ------ ------ Deferred taxes (benefits): Income from operations (14.4) (8.0) (14.2) Net realized capital gains (12.9) 33.7 (14.8) ------ ------ ------ (27.3) 25.7 (29.0) ------ ------ ------ Total $ 84.1 $ 71.2 $ 76.2 ------ ------ ------ ------ ------ ------
Income tax expense was different from the amount computed by applying the federal income tax rate to income before federal income taxes for the following reasons:
Income before federal income taxes $260.0 $216.5 $219.1 Tax rate 35% 35% 35% Application of the tax rate 91.0 75.8 76.7 ------ ------ ------ Tax effect of: Excludable dividends (9.3) (8.6) (8.7) Tax reserve adjustments 3.9 2.9 4.7 Reinsurance transaction (0.5) 1.9 (0.2) Tax rate change on deferred liabilities -- -- 3.7 Other, net (1.0) (0.8) -- ------ ------ ------ Income tax expense $ 84.1 $ 71.2 $ 76.2 ------ ------ ------ ------ ------ ------
1995 1994 ---- ---- Deferred tax assets: (millions) Insurance reserves $290.4 $211.5 Net unrealized capital losses -- 136.3 Unrealized gains allocable to experience-rated contracts 216.7 -- Investment losses not currently deductible 7.3 15.5 Postretirement benefits other than pensions 7.7 8.4 Other 32.0 28.3 ------ ------ Total gross assets 554.1 400.0 Less valuation allowance -- 136.3 ------ ------ Deferred tax assets, net of valuation 554.1 263.7
Deferred tax liabilities: Deferred policy acquisition costs 433.0 385.2 Unrealized losses allocable to experience-rated contracts -- 108.0 Market discount 4.4 3.6 Net unrealized capital gains 288.2 -- Other (1.9) 0.4 ------ ------ Total gross liabilities 723.7 497.2 ------ ------ Net deferred tax liability $169.6 $233.5 ------ ------ ------ ------
Net unrealized capital gains and losses are presented in shareholder's equity net of deferred taxes. At December 31, 1994, $81.0 million of net unrealized capital losses were reflected in shareholder's equity without deferred tax benefits. As of December 31, 1995, no valuation allowance was required for unrealized capital gains and losses. The reversal of the valuation allowance had no impact on net income in 1995.
The Internal Revenue Service ("Service") has completed examinations of the consolidated federal income tax returns of Aetna through 1986. Discussions are being held with the Service with respect to proposed adjustments. However, management believes there are adequate defenses against, or sufficient reserves to provide for, such challenges. The Service has commenced its examinations for the years 1987 through 1990.
The cost to the Company associated with the Aetna postretirement plans for 1995, 1994 and 1993 were $1.4 million, $1.0 million and $0.8 million, respectively.
The cost to the Company associated to the agents' postretirement plans for 1995, 1994 and 1993 were $0.8 million, $0.7 million and $0.6 million, respectively.
Stock Plans - Aetna has a stock incentive plan that provides for stock options and deferred contingent common stock or cash awards to certain key employees. Aetna also has a stock option plan under which executive and middle management employees of Aetna may be granted options to purchase common stock of Aetna at the market price on the date of grant or, in connection with certain business combinations, may be granted options to purchase common stock on different terms. The cost to the Company associated with the Aetna stock plans for 1995, 1994 and 1993, was $6.3 million, $1.7 million and $0.4 million, respectively.
The Company may, from time to time, make reimbursements to a Fund for some or all of its operating expenses. Reimbursement arrangements may be terminated at any time without notice.
Effective February 1, 1992, the Company increased its retention limit per individual life to $2.0 million and entered into a reinsurance agreement with Aetna Life to reinsure amounts in excess of this limit, up to a maximum of $8.0 million on any new individual life business, on a yearly renewable term basis. Premium amounts related to this agreement were $3.2 million, $1.3 million and $0.6 million for 1995, 1994 and 1993, respectively.
The following table includes premium amounts ceded/assumed to/from affiliated companies as discussed in Note 8 above.
1995 1994 ----------------- --------------- Carrying Fair Carrying Fair Value Value Value Value ----- ----- ----- ----- (millions) Assets: Cash and cash equivalents $ 568.8 $ 568.8 $ 623.3 $ 623.3 Short-term investments 15.1 15.1 98.0 98.0 Debt securities 12,720.8 12,720.8 10,191.4 10,191.4 Equity securities 257.6 257.6 229.1 229.1 Limited partnership -- -- 24.4 24.4 Mortgage loans 21.2 21.9 9.9 9.9 Liabilities: Investment contract liabilities: With a fixed maturity 989.1 1,001.2 826.7 833.5 Without a fixed maturity 9,511.0 9,298.4 8,122.6 7,918.2
The following valuation methods and assumptions were used by the Company in estimating the fair value of the above financial instruments:
MORTGAGE LOANS: Fair value is estimated by discounting expected mortgage loan cash flows at market rates which reflect the rates at which similar loans would be made to similar borrowers. The rates reflect management's assessment of the credit quality and the remaining duration of the loans. The fair value estimate of mortgage loans of lower quality, including problem and restructured loans, is based on the estimated fair value of the underlying collateral.
INVESTMENT CONTRACT LIABILITIES (INCLUDED IN POLICYHOLDERS' FUNDS LEFT WITH THE COMPANY):
During 1995, the Company received $0.4 million for writing call options on underlying securities. As of December 31, 1995 there were no option contracts outstanding.
At December 31, 1995, the Company had a forward swap agreement with a notional amount of $100.0 million and a fair value of $0.1 million.
Through the normal course of investment operations, the Company commits to either purchase or sell securities or money market instruments at a specified future date and at a specified price or yield. The inability of counterparties to honor these commitments may result in either higher or lower replacement cost. Also, there is likely to be a change in the value of the securities underlying the commitments. At December 31, 1995, the Company had commitments to purchase investments of $31.4 million. The fair value of the investments at December 31, 1995 approximated $31.5 million. There were no outstanding forward commitments at December 31, 1994.
There were no material legal proceedings pending against the Company as of December 31, 1995 or December 31, 1994 which were beyond the ordinary course of business. The Company is involved in lawsuits arising, for the most part, in the ordinary course of its business operations as an insurer.
Revenue: Financial services $ 1,129.4 $ 946.1 $ 892.8 Life insurance 407.9 386.1 371.7 --------------------------------- Total revenue $ 1,537.3 $ 1,332.2 $ 1,264.5 - ------------------------------------------------------------------------------ Income before federal income taxes: Financial services $ 158.0 $ 119.7 $ 121.1 Life insurance 102.0 96.8 98.0 --------------------------------- Total income before federal $ 260.0 $ 216.5 $ 219.1 income taxes - ----------------------------------------------------------------------------- Net income: Financial services $ 113.8 $ 85.5 $ 86.8 Life insurance 62.1 59.8 56.1 --------------------------------- Net income $ 175.9 $ 145.3 $ 142.9 - -----------------------------------------------------------------------------
Assets under management, at fair value: Financial services $23,224.3 $17,785.2 $16,600.5 Life insurance 2,698.1 2,171.7 2,175.5 - ----------------------------------------------------------------------------- Total assets under management $25,922.4 $19,956.9 $18,776.0 - -----------------------------------------------------------------------------