The executive offices of the Company consist of a 517,633 square foot office complex located in Englewood, Colorado. The office complex is owned by a subsidiary of the Company. The Company leases sales and claims offices throughout the United States.
BALANCE SHEET DATA Investment assets $12,717 $12,473 $11,791 $11,592 $10,732 Separate account assets 5,485 3,999 2,555 1,680 Total assets 19,351 17,682 15,616 14,296 12,948 Total policyholder liabilities 11,687 11,492 10,929 10,592 10,352 Total shareholder's equity 1,034 769
Management's discussion and analysis of financial condition and results of operations of the Company for the three years ended December 31, 1996 follows. In connection with, and because it desires to take advantage of, the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995, the Company cautions readers regarding certain forward-looking statements contained in the following discussion and elsewhere in this report and in any other statements made by, or on behalf of, the Company, whether or not in future filings with the SEC. Forward-looking statements are statements not based on historical information and which relate to future operations, strategies, financial results, or other developments. In particular, statements using verbs such as "expect," "anticipate," "believe," or words of similar import generally involve forward-looking statements. Without limiting the foregoing, forward-looking statements include statements which represent the Company's beliefs concerning future or projected levels of sales of the Company's products, investment spreads or yields, or the earnings or profitability of the Company's activities.
The Company's consolidated net income increased 73% in 1995, compared with 1994. The majority of the increase was in the Financial Services unit where the asset intensive lines benefited from a combination of lower mortgage writedowns and capital gains from sales in the fixed maturities portfolio, as described below.
Premiums and other income increased 7% from $1,000.1 million in 1994 to $1,067.4 million in 1995, as the result of an increase in group life and health premiums which were augmented by the acquisition of blocks of business from Confederation Life Insurance Company and Life of Georgia.
The Company's realized gains (losses) changed from a net realized loss of $71.9 million in 1994 to a net realized gain of $7.5 million in 1995. The provision for asset losses, included in realized losses, continued to decline as the $22.0 million in 1995 was $12.2 million lower than the $34.2 million recorded in 1994, as the mortgage portfolio continued to improve. Interest rates decreased in 1995, leading to capital gains on the sale of fixed maturities of $28.2 million which were better than the $39.8 million of losses recorded in 1994.
Total benefits and expenses increased 9% in 1995 to a total of $1,733.3 million. This increase reflects the growth in the group life and health block of business, and its impact on the increase in group health claims and operating expenses.
The effective income tax in 1995 and 1994 was lower than the statutory rate due to a reduction of $13.3 million and $7.1 million, respectively, in the deferred tax asset valuation allowance held in a real estate subsidiary.
The following discussion of results from operations is presented in terms of the major business units of the Company, and the financial information regarding such business units, described on pages 1 and 2 (Business of the Company).
401(k) premiums and deposits increased 23% to $1.2 billion in 1996.
Total revenue premium income (including premium equivalents) for group life and health decreased 9% from 1995 levels, however, the Company experienced an increase in premium growth during the last half of 1996. Assets under administration in 401(k) increased 40% over 1995, to $3.9 billion. Employee benefits operating income increased in 1996, with favorable mortality and morbidity results, strong 401(k) asset growth, and effective expense management. The Company increased expenses to fund HMO development and computer systems enhancements.
The managed care industry in the United States experienced frequent acquisitions and mergers in 1996. To position itself for the future, the Company focused on putting in place the products, strategies and processes that will strengthen its competitive position in the evolving managed care environment.
As a result of heightened price sensitivity and competition from managed care companies, the rate of growth in the Company's life and health business slowed. New life and health case sales in 1996 of 1,125 were higher than the 1,031 recorded in 1995, however termination rates were high resulting in a 7% reduction in the premiums associated with this block of business.
The Company experienced a 4% decrease in total covered lives, from 1,621,170 at the end of 1995 to 1,554,142 at year-end 1996. However, gatekeeper (i.e., POS and HMO) members grew 35% from 258,930 in 1995 to 350,185 in 1996, as employers moved from fully insured and PPO products. As additional HMO licenses are obtained, the Company expects this segment of the business to grow.
In 1997, the Company will continue to enhance managed care programs and services by furthering HMO development, implementing a new claims adjudication system, seeking National Committee for Quality Assurance accreditation and introducing quality assurance programs and member communication directed at health improvements. The Company will continue to build on its 401(k) product, placing more emphasis on participant education and enrollment strategies, as well as introducing new investment options. Finally, the Company will introduce a non-qualified deferred compensation program designed to allow key executives to defer salary for retirement savings beyond 401(k) contribution limits.
Customer demand for investment diversification continued to grow during 1996. New contributions to variable business represented 69% of the total 1996 deposits, compared to 54% in 1995. The Company continues to expand the investment products available through its subsidiary mutual fund company, Maxim Series Fund, Inc., and arrangements with external fund managers. This array of funds allows customers to diversify their investments across a wide range of investment products, including fixed income, stock, and international equity fund offerings.
Premium deposits associated with the Company's individual deferred annuities were $5.3 million in 1996, compared to $112.7 million in 1995. The Company discontinued the distribution of the product early in 1996 with the intention of replacing these sales through the Charles Schwab distribution channel.
The Company continued to de-emphasize the development and distribution of traditional life insurance products, while focusing on customer retention and expense management. Aggressive expense management and favorable individual life insurance policy persistency resulted in unit costs improving significantly during the year. In late 1996, the Company announced that it would no longer sell insurance products through general agents. The Company began test marketing the sale of term, universal, and joint survivor life insurance products under its marketing agreement with Charles Schwab & Co., Inc. The results of this test program will be evaluated in 1997.
The Company follows rigorous procedures to control interest rate risk and observes strict asset and liability matching guidelines. These guidelines are designed to ensure that even in changing interest rate environments the Company's assets will always be able to meet the cash flow and income requirements of its liabilities. Through dynamic modeling, using state-of-the-art software to analyze the effects of a wide range of possible market changes upon investments and policyholder benefits, the Company ensures that its investment portfolio is appropriately structured to fulfill financial obligations to its policyholders.
Fixed maturities, available for sale, at fair value $6,206 $6,263 Fixed maturities, held at maturity, at amortized cost 1,993 2,054 Mortgage loans 1,488 1,713 Real estate and common stock Short-term investments Policy loans 2,523 2,238 $12,717 $12,473
Private placement investments are generally less marketable than publicly traded assets, yet they typically offer covenant protection which allows the Company, if necessary, to take appropriate action to protect its investment. The Company believes that the cost of the additional monitoring and analysis required by private placements is more than offset by their enhanced yield.
AAA 45.9% 43.9% AA 8.1 8.0 A 23.7 26.8 BBB 20.9 19.2 BB and Below (non-investment grade) 1.4 2.1 TOTAL 100.0% 100.0%
The Company follows a comprehensive approach to the management of mortgage loans which includes ongoing analysis of key mortgage characteristics such as debt service coverage, net collateral cash flow, property condition, loan to value ratios and market conditions. Collateral valuations are performed for those mortgages which, after review, are determined by management to present possible risks and exposures. These valuations are then incorporated into the determination of the Company's allowance for credit losses. Effective January 1, 1995, the Company adopted Statement of Financial Accounting Standards Nos. 114 and 118 (see Note 1 to the financial statements - page 38), both of which deal with accounting for impaired loans (defined as those loans upon which the Company will likely collect less than all amounts due according to the contractual terms of the agreement). As the Company already provided for impairment reserves through its allowance procedures, the adoption of the new standards had no material effect upon the Company's financial position.
The Company uses certain derivatives, such as futures, options, and swaps, for purposes of hedging interest rate and foreign exchange risk. These derivatives, when taken alone, may subject the Company to varying degrees of market and credit risk; however, when used for hedging, these instruments typically reduce risk. The Company controls the credit risk of its financial contracts through credit approvals, limits and monitoring procedures. Note 6 to the financial statements (page 46) contains a summary of the Company's outstanding financial hedging derivatives.
During 1996, cash increased $34.2 million to $125.2 million as of December 31, 1996. This increase primarily reflects the positive cash flow from operating activities ($712.4 million). The increase was partially offset by net investment purchases ($127.7 million), contract withdrawals ($413.6 million), net repurchase agreement payments ($88.6 million) and payment of dividends on stock ($56.7 million).
The Company's financial strength provides the capacity and flexibility to enable it to raise funds in the capital markets through the issuance of commercial paper. The Company continues to be well capitalized, with sufficient borrowing capacity to meet the anticipated needs of its business. The Company had $84.7 million of commercial paper outstanding at December 31, 1996, compared with $84.9 million at December 31, 1995. The commercial paper has been given a rating of A-1+ by Standard & Poor's Corporation and a rating of P-1 by Moody's Investors Service, each being the highest rating available.
Effective January 1, 1995, the Company adopted SFAS No. 114, "Accounting by Creditors for Impairment of a Loan" and SFAS No. 118, "Accounting by Creditors for Impairment of a Loan - Income Recognition and Disclosures". As the Company was already providing for impairment of loans through an allowance for credit losses, the implementation of these statements had no material effect on the Company's financial condition. See Note 6 to the financial statements for further information (page 46).
In connection with the employee transfer discussed in Note 2 to the financial statements on page 42, the Company in 1997 will apply the provisions of SFAS No. 87, "Employers Accounting for Pensions", SFAS No. 106, "Employers' Accounting for Postretirement Benefits Other Than Pensions", and SFAS No. 123, "Accounting for Stock-Based Compensation". Previously employee expenses (including costs for benefit plans) were transferred from Great-West Life to the Company through administrative services agreements. Accordingly, the implementation of these standards will have no material effect on the financial results of the Company.
Consolidated Financial Statements for the Years Ended December 31, 1996, 1995, and 1994 and Independent Auditors' Report
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Great-West Life & Annuity Insurance Company and subsidiaries as of December 31, 1996 and 1995, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1996 in conformity with generally accepted accounting principles.
INVESTMENTS: Fixed Maturities: Held-to-maturity, at amortized cost (fair value $2,041,064 and $2,158,043) $ 1,992,681 $ 2,054,204 Available-for-sale, at fair value (amortized cost $6,151,519 and $6,087,969) 6,206,478 6,263,187 Common stock 19,715 9,440 Mortgage loans on real estate, net 1,487,575 1,713,195 Real estate, net 67,967 60,454 Policy loans 2,523,477 2,237,745 Short-term investments, available-for-sale (cost approximates fair value) 419,008 134,835 Total Investments 12,716,901 12,473,060
POLICY BENEFIT LIABILITIES: Policy reserves $11,022,595 $10,845,935 Policy and contract claims 372,327 359,791 Policyholders' funds 153,867 154,872 Experience refunds 87,399 83,562 Provision for policyholders' dividends 51,279 47,760
STOCKHOLDER'S EQUITY: Preferred stock, $1 par value, 50,000,000 shares authorized: Series A, cumulative, 1500 shares authorized, liquidation value of $100,000 per share, 600 shares issued and outstanding 60,000 60,000 Series B, cumulative, 1500 shares authorized, liquidation value of $100,000 per share, 200 shares issued and outstanding 20,000 20,000 Series C, cumulative, 1500 shares authorized, none outstanding
Series E, non-cumulative, 2,000,000 shares authorized, liquidation value of $20.90 per share, issued, and outstanding 41,800 41,800 Common stock, $1 par value; 50,000,000 shares authorized; 7,032,000 shares issued and outstanding 7,032 7,032 Additional paid-in capital 664,265 657,265 Net unrealized gains on securities available-for-sale, net 14,951 58,763 Retained earnings 226,166 148,261 Total Stockholder's Equity 1,034,214 993,121
CONSOLIDATED STATEMENTS OF INCOME YEARS ENDED DECEMBER 31, 1996, 1995, AND 1994 (Dollars in Thousands)
Commissions 106,561 122,926 120,058 Operating expenses 336,719 314,810 261,311 Premium taxes 25,021 26,884 27,402
BALANCE, DECEMBER 31, 1994 2,000,800 121,800 7,032,000 7,032 657,265 (78,427) 69,561 777,231
BALANCE, DECEMBER 31, 1995 2,000,800 121,800 7,032,000 7,032 657,265 58,763 148,261 993,121
BALANCE, DECEMBER 31, 1996 2,000,800 $121,800 7,032,000 $7,032 $664,265 $14,951 $226,166 $1,034,214
INVESTING ACTIVITIES: Proceeds from sales, maturities, and redemptions of investments: Fixed maturities Held-to-maturity Sales
FINANCING ACTIVITIES: Contract withdrawals, net of deposits $(413,568) $(217,190) $(238,166) Due to Parent Corporation 1,457 (9,143) (13,078) Dividends paid (56,670) (48,980) (40,438) Net commercial paper (repayments) borrowings (172) (4,832) 89,686 Net repurchase agreements repayments (88,563) (191,195) (39,244) Capital contributions 7,000
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION Cash paid during the year for: Income taxes $103,700 $83,841 $68,892 Interest 15,414 17,016 12,229
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED DECEMBER 31, 1996, 1995, AND 1994 (Amounts in Thousands, except Share Amounts)
Organization - Great-West Life & Annuity Insurance Company (the Company) is a wholly-owned subsidiary of The Great-West Life Assurance Company (the Parent Corporation). The Company is an insurance company domiciled in the State of Colorado. The Company offers a wide range of life insurance, health insurance, and retirement and investment products to individuals, businesses, and other private and public organizations throughout the United States.
1. Management determines the classification of fixed maturities at the time of purchase. Fixed maturities are classified as held-to-maturity when the Company has the positive intent and ability to hold the securities to maturity. Held-to-maturity securities are stated at amortized cost unless fair value is less than cost and the decline is deemed to be other than temporary, in which case they are written down to fair value and a new cost basis is established.
Deferred Policy Acquisition Costs - Policy acquisition costs, which consist of sales commissions and other costs that vary with and are primarily related to the production of new and renewal business, have been deferred to the extent recoverable. Deferred costs associated with the annuity products are being amortized over the life of the contracts in proportion to the emergence of gross profits. Retrospective adjustments of these amounts are made when the Company revises its estimates of current or future gross profits. Deferred costs associated with traditional life insurance are amortized over the premium paying period of the related policies in proportion to premium revenues recognized. Amortization of deferred policy acquisition costs totaled $47,089, $48,054, and $28,199 in 1996, 1995, and 1994, respectively.
Recognition of Premium Income and Benefits and Expenses - Life insurance premiums are recognized as earned. Annuity premiums with life contingencies are recognized as received. Accident and health premiums are earned on a monthly pro rata basis. Revenues for annuity and other contracts without significant life contingencies consist of contract charges for the cost of insurance, contract administration, and surrender fees that have been assessed against the contract account balance during the period. Benefits and expenses on policies with life contingencies are associated with premium income by means of the provision for future policy benefit reserves, resulting in recognition of profits over the life of the contracts. The average crediting rate on annuity products was approximately 6.8% in 1996.
Derivatives - The Company engages in hedging activities to manage interest rate and foreign exchange risk (See Note 6).
Cash $162,000 Policy reserves $164,839 Mortgages 19,753 Due to parent corporation 9,180 Other 18 Deferred income taxes 1,283 Undistributed earnings on Stockholder's equity 7,000 participating business 431 $182,302 $182,302
The Company and the Parent Corporation have a number of service agreements whereby the Parent Corporation administers, distributes, and underwrites business for the Company and administers the Company's investment portfolio. Certain operating expenses represent allocations made by the Parent Corporation to the Company for services provided pursuant to these service agreements. These transactions are summarized as follows:
Total reinsurance premiums assumed from the Parent Corporation were $1,693, $1,606 and $2,438, in 1996, 1995, and 1994, respectively.
The Company considers all accident and health policies to be short-duration contracts. The following schedule details life insurance in force and life and accident/health premiums:
Premiums: Life insurance $334,127 $(111,743) $19,633 $465,503 4.2% Accident/health 592,577 7,493 56,780 641,864 8.8% Total $926,704 $(104,250) $76,413 $1,107,367
December 31, 1995: Life insurance in force: Individual $22,388,520 $7,200,882 $3,476,784 $18,664,422 18.6% Group 48,415,592
(10) (102) Provisions (10,597) (22,000) (34,182) Net realized gains (losses) on investments $(21,078) $7,465 $(71,939)
Fixed maturities owned at December 31, 1996 are summarized as follows:
Held-to-Maturity: U.S. Treasury Securities and obligations of U.S. Government Agencies: Collateralized mortgage obligations $ $ $ $ $ Direct mortgage pass-through certificates
In November 1995, the Financial Accounting Standards Board issued a special report entitled "A Guide to Implementation of SFAS 115 on Accounting for Certain Investments in Debt and Equity Securities". In accordance with the adoption of this guidance, the Company reassessed the classification of its investment portfolio in December 1995 and reclassed securities totaling $2,119,814 from held-to-maturity to available-for-sale. In connection with this reclassification, an unrealized gain, net of related adjustments (see above), of $23,449 was recognized in stockholder's equity at the date of transfer.
Held-to-Maturity Amortized Cost Estimated Fair Value Available-for-Sale Amortized Cost Estimated Fair Value
Proceeds from sales of securities available-for-sale were $3,569,608, $4,211,649, and $1,753,445 during 1996, 1995, and 1994, respectively. The realized gains on such sales totaled $24,919, $39,755, and $7,030 for 1996, 1995, and 1994, respectively. The realized losses totaled $40,748, $15,516, and $50,612 for 1996, 1995, and 1994, respectively. During 1996, 1995, and 1994 held-to-maturity securities with an amortized cost of $0, $18,087, and $15,300 were sold due to credit deterioration with insignificant realized gains and losses.
Interest Rate Floor $100,000 4.5% [LIBOR] Interest Rate Caps 260,000 11.0% to 11.82%[CMT] 2000 to 2001 Interest Rate Swaps 187,847 6.203% to 9.35% 01/98 to 02/2003 Foreign Currency Exchange Contracts 61,012 N/A 09/98 to 03/2003
Impaired Loans Loans with related allowance for credit losses of $2,793 and $654 $16,443 $3,254 Loans with no related allowance for credit losses 31,709 20,424 Average balance of impaired loans during the year 39,064 29,150 Interest income recognized [while impaired] Interest income received and recorded [while impaired] using the cash basis method of recognition 1,130
The following table presents changes in the allowance for credit losses since January 1, 1995 (date of the adoption of SFAS No. 114):
The Company has a commercial paper program which is partially supported by a $50,000 standby letter-of-credit. At December 31, 1996, commercial paper outstanding has maturities ranging from 49 to 123 days and interest rates ranging from 5.4% to 5.6%. At December 31, 1995, maturities ranged from 25 to 160 days and interest rates ranged from 5.7% to 5.9%.
The estimated fair value of financial instruments has been determined using available market information and appropriate valuation methodologies. However, considerable judgment is necessarily required to interpret market data to develop the estimates of fair value. Accordingly, the estimates presented are not necessarily indicative of the amounts the Company could realize in a current market exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts.
The fair value of annuity contract reserves without life contingencies is estimated by discounting the cash flows to maturity of the contracts, utilizing current credited rates for similar products.
See note 6 for additional information on policies regarding estimated fair value of fixed maturities.
Temporary differences which give rise to the deferred tax assets and liabilities as of December 31, 1996 and 1995 are as follows:
The Company's valuation allowance was increased/(decreased) in 1996, 1995, and 1994 by $1,463, $(13,145), and $(6,278), respectively, primarily as a result of taxable income in subsidiaries which was greater than expected and the resulting re-evaluation by management of future estimated taxable income in the subsidiaries.
Pursuant to a December 31, 1993 agreement between the Company and its Parent whereby the Company assumed responsibility for the Parent Corporation's income tax liability for fiscal years prior to 1994, the Company had previously recorded a contingent liability provision. The Company's 1996 results of operations include a release of $25,600 from the provision, to reflect the resolution of 1988 and l989 tax issues with the Internal Revenue Service (IRS). Audits of tax years 1990 and 1991 are in the process of being finalized. The IRS is currently auditing tax years 1992 and 1993. In the opinion of Company management, the amounts paid or accrued are adequate; however, it is possible that the Company's accrued amounts may change as a result of the completion of the IRS audits.
The Company's Series E 7.5% non-cumulative, non-redeemable preferred shares are redeemable by the Company after April 1, 1999.
The shares are convertible into common shares at the option of the holder on or after September 30, 1999, at a conversion price negotiated between the holder and the Company or at a formula determined conversion price in accordance with the share conditions.
Dividends of $8,587, $9,217, and $7,475, were paid on preferred stock in 1996, 1995, and 1994, respectively. In addition, dividends of $48,083, $39,763, and $32,963, were paid on common stock in 1996, 1995 and 1994, respectively. Dividends are paid as determined by the Board of Directors.