NAIC ratings Moody's equivalent description Fair value Percent to total ------- ------------------------------- ---------- -----------------
MBS, however, are subject to interest rate risk as the duration and ultimate realized yield are affected by the rate of repayment of the underlying mortgages. The Company attempts to limit interest rate risk by purchasing MBS where cost does not significantly exceed par value, and with repayment protection to provide a more certain cash flow to the Company. At December 31, 1998, the amortized cost of the MBS portfolio was below par value by $2.4 million and over 23% of the MBS portfolio was invested in planned amortization class bonds. This type of MBS is purchased to provide additional protection against declining interest rates.
Contractholder funds and reinsurance recoverable from ALIC Contractholder funds increased $177.9 million and $185.0 million at December 31, 1998 and 1997, respectively. Reinsurance recoverable from ALIC increased $200.3 million and $188.0 million at December 31, 1998 and 1997, respectively. In 1998, the increase in contractholder funds was due primarily to universal life-type policies, as higher sales and interest credited to contractholders were partially offset by surrenders and benefits paid on universal life-type policies. Reinsurance recoverable from ALIC relates to contract benefit obligations ceded to ALIC.
One way to quantify this exposure is duration. Duration measures the sensitivity of the fair value of assets to changes in interest rates. For example, if interest rates increase 1%, the fair value of an asset with a duration of 5 years is expected to decrease in value by approximately 5%. At December 31, 1998, the Company's asset duration was approximately 4.3 years, a slight decrease from the 4.6 years reported for December 31, 1997.
Equity Price Risk Equity price risk is the risk that the Company will incur economic losses due to adverse changes in equity prices. At December 31, 1998 the Company had variable annuity and variable life funds with balances totaling $763.4 million. The Company earns mortality and expense fees as a percentage of fund balance. In the event of an immediate decline of 10% in the fund balances due to equity market declines, the Company would earn approximately $1.0 million less in annualized fee income which would be ceded to ALIC.
AIC has investment guidelines that define the overall framework for managing market and other investment risks, including the accountabilities and controls over these activities. In addition, AIC has specific investment policies for each of its affiliates, including the Company, that delineate the investment limits and strategies that are appropriate for the Company's liquidity, surplus, product and regulatory requirements.
Under the terms of reinsurance agreements, all premiums and deposits, excluding those relating to Separate Accounts, are transferred primarily to ALIC, which maintains the investment portfolios supporting the Company's products. Payments of policyholder claims, benefits, contract maturities, contract surrenders and withdrawals and certain operating costs are also reimbursed primarily by ALIC, under the terms of the reinsurance agreements. The Company continues to have primary liability as a direct reinsurer for risks reinsured. The Company's ability to meet liquidity demands is dependent on ALIC's ability to meet those demands. ALIC's claims-paying ability was rated Aa2, AA+, and A+ by Moody's, Standard & Poor's and A.M. Best, respectively at December 31, 1998.
The Company is dependent upon certain services provided for it by the Corporation including computer-related systems, and systems and equipment that are not typically thought of as computer-related (referred to as "non-IT"). For this reason, the Company is reliant upon the Corporation for the establishment and maintenance of its computer-related systems and non-IT.
In 1995, the Corporation commenced a plan consisting of four phases which are intended to mitigate and/or prevent the adverse effects of Year 2000 issues on its systems: 1) inventory and assessment of affected systems and equipment, 2) remediation and compliance of systems and equipment through strategies that include the replacement or enhancement of existing systems, upgrades to operating systems already covered by maintenance agreements and modifications to existing systems to make them Year 2000 compliant, 3) testing of systems using clock-forward testing for both current and future dates and for dates which trigger specific processing, and 4) contingency planning which will address possible adverse scenarios and the potential financial impact to the Corporation's results of operations, liquidity or financial position.
In addition, the Corporation is actively working with its major external counterparties and suppliers to assess their compliance efforts and the Corporation's exposure to both their Year 2000 issues and non-IT issues. This assessment has included the solicitation of external counterparties and suppliers, evaluating responses received and testing third party interfaces and interactions to determine compliance. Currently, the Corporation has solicited approximately 1,500 and has received responses from approximately 75% of its counterparties and suppliers. The Corporation will continue its efforts to solicit responses on Year 2000 compliance from these parties. The majority of these responses have stated that the counterparties and suppliers believe that they will be Year 2000 compliant and that no transactions will be affected. However, some key vendors have not provided affirmative responses to date. The Corporation has also decided to test certain interfaces and interactions to gain additional assurance on third party compliance. If key vendors are unable to meet the Year 2000 requirement, the Corporation is preparing contingency plans that will allow the Corporation to continue to sell its products and to service its customers. Management believes these contingency plans should be completed by mid-1999. The Corporation currently does not have sufficient information to determine whether or not all of its external counterparties and suppliers will be Year 2000 ready.
The Corporation is currently assessing the level of Year 2000 risk associated with certain personal lines policies that have been issued. To date, no changes have been made in the coverages provided by the Corporation's personal auto or homeowners lines policies to specifically exclude coverage for Year 2000 related claims. This does not mean that all losses, or any particular type of loss, that might be related to Year 2000 will be covered. Rather, all claims will continue to be evaluated on a case-by-case basis to determine whether coverage is available for a particular loss in accordance with the applicable terms and conditions of the policy in force.
The Corporation also has investments which have been publicly or privately placed. The Corporation may be exposed to the risk that the issuers of these investments will be adversely impacted by Year 2000 issues. The Company assesses the impact which Year 2000 issues have on the Corporation's investments as part of due diligence for proposed new investments, and in its ongoing review of all current portfolio holdings. Any recommended actions with respect to individual investments are determined by taking into account the potential impact of Year 2000 on the issuer. Contingency plans are being created for any securities held whose issuer is determined to not be Year 2000 compliant.
Schedule IV - Reinsurance for the Years Ended December 31, 1998, 1997 and 1996..................................
TO THE BOARD OF DIRECTORS AND SHAREHOLDERS OF LINCOLN BENEFIT LIFE COMPANY:
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 1998 and 1997, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 1998 in conformity with generally accepted accounting principles. Also, in our opinion, Schedule IV - Reinsurance, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.
Cash 1,735 4,220 Reinsurance recoverable from Allstate Life Insurance Company 6,933,084 6,732,755 Reinsurance recoverable from non-affiliates 191,092 127,182 Receivable from affiliates, net 37,103 14,481 Other assets 30,919 31,976 Separate Accounts 763,416 447,658 ---------- ---------- Total assets $8,120,008 $7,507,203 ========== ==========
Income from operations before income tax expense 10,374 10,587 8,603 Income tax expense 3,704 3,735 3,020 ------- ------- -------
Other comprehensive income, after tax Change in unrealized net capital gains and losses 1,774 2,331 (3,197) ------- ------- -------
Retained income Balance, beginning of year 27,952 21,110 18,060 Net income 6,670 6,852 5,583 Dividend-in-kind -- (10) (2,533) --------- --------- --------- Balance, end of year 34,622 27,952 21,110 --------- --------- ---------
Accumulated other comprehensive income Balance, beginning of year 4,132 1,801 4,998 Change in unrealized net capital gains and loss 1,774 2,331 (3,197) --------- --------- --------- Balance, end of year 5,906 4,132 1,801 --------- --------- ---------
Year Ended December 31, ----------------------- ($ in thousands) 1998 1997 1996 ---- ---- ----
Cash flows from operating activities Net income $ 6,670 $ 6,852 $ 5,583 Adjustments to reconcile net income to net cash provided by operating activities Depreciation, amortization and other non-cash items 10 20 50 Realized capital gains and losses (134) (17) (6) Changes in: Life-contingent contract benefits and contractholder funds (425) 427 (4,918) Income taxes payable 2,973 (381) 143 Other operating assets and liabilities (1,047) (4,606) 10,473 -------- -------- -------- Net cash provided by operating activties 8,047 2,295 11,325 -------- -------- --------
Cash flows from investing activities Fixed income securities Investment collections 10,710 11,980 8,759 Investment purchases (18,587) (18,307) (17,570) Change in short-term investments, net (2,655) 840 4,489 -------- -------- -------- Net cash used in investing activities (10,532) (5,487) (4,322) -------- -------- --------
Net (decrease) increase in cash (2,485) (3,192) 7,003 Cash at beginning of year 4,220 7,412 409 -------- -------- -------- Cash at end of year $ 1,735 $ 4,220 $ 7,412 ======== ======== ========
Supplemental disclosure of cash flow information Noncash financing activity: Dividend-in-kind to Allstate Life Insurance $ - $ (10) $ (2,533) ======== ======== ========
Basis of presentation The accompanying consolidated financial statements include the accounts of Lincoln Benefit Life Company ("LBL") and its wholly owned subsidiary, Allstate Financial Distributors, Inc., formerly Lincoln Benefit Financial Services, a registered broker-dealer (collectively, the "Company"). LBL is a wholly owned subsidiary of Allstate Life Insurance Company ("ALIC"), which is wholly owned by Allstate Insurance Company ("AIC"), a wholly owned subsidiary of The Allstate Corporation (the "Corporation"). These consolidated financial statements have been prepared in conformity with generally accepted accounting principles. All significant intercompany accounts and transactions have been eliminated.
To conform with the 1998 presentation, certain amounts in the prior years' financial statements and notes have been reclassified.
The Company monitors economic and regulatory developments which have the potential to impact its business. There continues to be proposed federal and state regulation and legislation that, if passed, would allow banks greater participation in the securities and insurance businesses. Such events would present an increased level of competition for sales of the Company's products. Furthermore, the market for deferred annuities and interest-sensitive life insurance is enhanced by the tax incentives available under current law. Any legislative changes which lessen these incentives are likely to negatively impact the demand for these products.
The Company is authorized to sell life and savings products in all states except New York, as well as in the District of Columbia, Guam and the U.S. Virgin Islands. The top geographic locations for statutory premiums and deposits for the Company were California, Wisconsin, Florida, Pennsylvania and Illinois for the year ended December 31, 1998. No other jurisdiction accounted for more than 5% of statutory premiums and deposits. All premiums and deposits are ceded under reinsurance agreements.
Investments Fixed income securities include bonds and mortgage-backed securities. All fixed income securities are carried at fair value and may be sold prior to their contractual maturity ("available for sale"). The difference between amortized cost and fair value, net of deferred income taxes, is reflected as a component of shareholder's equity. Provisions are recognized for declines in the value of fixed income securities that are other than temporary. Such writedowns are included in realized capital gains and losses. Short-term investments are carried at cost or amortized cost which approximates fair value.
New accounting standards In 1998, the Company adopted Statement of Financial Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive Income." Comprehensive income is a measurement of certain changes in shareholder's equity that result from transactions and other economic events other than transactions with the shareholder. For the Company, these consist of changes in unrealized gains and losses on the investment portfolio (See Note 9).
In 1998, the Company adopted SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." SFAS No. 131 redefines how segments are determined and requires additional segment disclosures for both annual and interim financial reporting. The Company has identified itself as a single operating segment.
Pending accounting standards In December 1997, the Accounting Standards Executive Committee of the American Institute of Certified Public Accountants ("AICPA") issued Statement of Position ("SOP") 97-3, "Accounting by Insurance and Other Enterprises for Insurance-related Assessments." The SOP is required to be adopted in 1999. The SOP provides guidance concerning when to recognize a liability for insurance-related assessments and how those liabilities should be measured. Specifically, insurance-related assessments should be recognized as liabilities when all of the following criteria have been met: 1) an assessment has been imposed or it is probable that an assessment will be imposed, 2) the event obligating an entity to pay an assessment has occurred and 3) the amount of the assessment can be reasonably estimated. The Company is currently evaluating the effects of this SOP on its accounting for insurance-related assessments. Certain information required for compliance is not currently available and therefore the Company is studying alternatives for estimating the accrual. In addition, industry groups are working to
improve the information available. Adoption of this standard is not expected to be material to the results of operations or financial position of the Company.
Premiums $ 30,811 $ 34,834 $ 48,111 Contract charges 106,158 87,061 73,659 Credited interest, policy benefits, and other expenses 609,325 533,369 496,735
Gross Unrealized Amortized --------------- Fair cost Gains Losses value ----------- ------- -------- ---------- At December 31, 1998 U.S. government and agencies $ 14,105 $ 2,498 $ - $ 16,603 Corporate 84,547 3,548 (151) 87,944 Foreign government 3,031 239 - 3,270 Mortgage-backed securities 48,215 2,972 (20) 51,167 -------- -------- -------- -------- Total fixed income securities $149,898 $ 9,257 $ (171) $158,984 ======== ======== ======== ========
Net investment income Year ended December 31, 1998 1997 1996 ---- ---- ---- Fixed income securities $10,375 $10,723 $ 9,825 Short-term investments 231 160 215 ------- ------- ------- Investment income,before expense 10,606 10,883 10,040 Investment expense 366 313 521 ------- ------- ------- Net investment income $10,240 $10,570 $ 9,519 ======= ======= =======
Realized capital gains and losses Year ended December 31, 1998 1997 1996 ------ ------ ------
Change in unrealized net capital gains and losses Year ended December 31, 1998 1997 1996 ---- ---- ---- Fixed income securities $ 2,729 $ 3,585 $(4,918) Deferred income taxes (955) (1,254) 1,721 ------- ------- -------- Increase (decrease) in unrealized net capital gains $ 1,774 $ 2,331 $(3,197) ======= ======= ======== Securities on deposit At December 31, 1998, fixed income securities with a carrying value of $8,945 were on deposit with regulatory authorities as required by law.
In the normal course of business, the Company invests in various financial assets and incurs various financial liabilities. The fair value estimates of financial instruments presented on the following page are not necessarily indicative of the amounts the Company might pay or receive in actual market transactions. Potential taxes and other transaction costs have not been considered in estimating fair value. The disclosures that follow do not reflect the fair value of the Company as a whole since a number of the Company's significant assets (including reinsurance recoverable) and liabilities (including traditional life and universal life-type insurance reserves, and deferred income taxes) are not considered financial instruments and are not carried at fair value. Other assets and liabilities considered financial instruments, such as accrued investment income and cash, are generally of a short-term nature. Their carrying values are assumed to approximate fair value.
Financial assets The carrying value and fair value of financial assets at December 31, are as follows:
1998 1997 ---- ---- Carrying Fair Carrying Fair value value value value ------- ------ -------- -------
Fixed income securities $158,984 $158,984 $147,911 $147,911 Short-term investments 3,675 3,675 1,020 1,020 Separate Accounts 763,416 763,416 447,658 447,658
1998 1997 ---- ---- Carrying Fair Carrying Fair value value value value ------- ------- --------- ------ Contractholder funds on nvestment contracts $5,220,485 $5,006,124 $5,188,474 $4,941,732 Separate Accounts 763,416 763,416 447,658 447,658
Prior to Sears, Roebuck and Co.'s ("Sears") distribution ("Sears distribution") on June 30, 1995 of its 80.3% ownership in the Corporation to Sears shareholders, the Allstate Group, including the Company, joined with Sears and its domestic business units (the "Sears Group") in the filing of a consolidated federal income tax return (the "Sears Tax Group") and were parties to a federal income tax allocation agreement (the "Tax Sharing Agreement"). Under the Tax Sharing Agreement, the Company, through the Corporation, paid to or received from the Sears Group the amount, if any, by which the Sears Tax Group's federal income tax liability was affected by virtue of inclusion of the Company in the consolidated federal income tax return.
The components of the income tax expense for the year ended at December 31, are as follow:
Current $ 3,262 $ 4,321 $ 3,082 Deferred 442 (586) (62) ------- ------- ------- Total income tax expense $ 3,704 $ 3,735 $ 3,020 ======= ======= =======
The Company paid income taxes of $731, $4,116 and $2,864 in 1998, 1997 and 1996, respectively. The Company had a current income tax liability of $3,659 and $1,128 at December 31, 1998 and 1997, respectively.
Prior to January 1, 1984, the Company was entitled to exclude certain amounts from taxable income and accumulate such amounts in a "policyholder surplus" account. The balance in this account at December 31, 1998, approximately $340, will result in federal income taxes payable of $119 if distributed by the Company to ALIC. No provision for taxes has been made as the Company has no plan to distribute amounts from this account. No further additions to the account have been permitted since the Tax Reform Act of 1984.
Permitted statutory accounting practices The Company prepares its statutory financial statements in accordance with accounting principles and practices prescribed or permitted by the Nebraska Department of Insurance. Prescribed statutory accounting practices include a variety of publications of the National Association of Insurance Commissioners ("NAIC"), as well as state laws, regulations and general administrative rules. Permitted statutory accounting practices encompass all accounting practices not so prescribed. The Company does not follow any permitted statutory accounting practices that have a significant impact on statutory surplus or statutory net income.
Regulation and legal proceedings The Company's business is subject to the effects of a changing social, economic and regulatory environment. Public and regulatory initiatives have varied and have included employee benefit regulation, controls on medical care costs, removal of barriers preventing banks from engaging in securities and insurance business, tax law changes affecting the taxation of insurance companies, and tax treatment of insurance products and its impact on the relative desirability of various personal investment vehicles, and proposed legislation to prohibit the use of gender in determining insurance rates and benefits. The ultimate changes and eventual effects, if any, of these initiatives are uncertain.
From time to time the Company is involved in pending and threatened litigation in the normal course of its business in which claims for monetary damages are asserted. In the opinion of management, the ultimate liability, if any, arising from such pending or threatened litigation is not expected to have a material effect on the results of operations, liquidity or financial position of the Company.
Gross Net Year Ended December 31, 1997 amount Ceded amount - ---------------------------- ------- ------ ------
Life insurance in force $72,754,000 $72,754,000 $ - =========== =========== ============= Premiums and contract charges: Life and annuities $ 277,825 $ 277,825 $ - Accident and health 35,217 35,217 - ----------- ----------- ------------- $ 313,042 $ 313,042 $ - =========== =========== =============
Gross Net Year Ended December 31, 1996 amount Ceded amount - ---------------------------- ------ ----- ------
Life insurance in force $51,514,000 $51,514,000 $ - ============ =========== ============= Premiums and contract charges: Life and annuities $ 191,475 $ 191,475 $ - Accident and health 9,566 9,566 - ------------- ----------- -------------- $ 201,041 $ 201,041 $ - ============ =========== ==============
number, if any, listed opposite a document indicates the page number in the sequential numbering system in the manually signed original of this Report where such document can be found.
By: /s/ B. Eugene Wraith --------------------- B. Eugene Wraith President and Chief Operating Officer
/s/ Janet P. Anderbery - ---------------------- Janet P. Anderbery Vice President March 30, 1999 (Principal Accounting and Controller Officer)
/s/ John J. Morris - ------------------- John J. Morris Director March 30, 1999