Loyal's former home office building in Mobile, Alabama, contains approximately 82,000 square feet, of which approximately one-third is leased to unaffiliated tenants and approximately one-fifth is utilized by Loyal for certain administrative functions which remain in Mobile. The remainder of the space is vacant and the building is being marketed for lease or sale.
The following financial data has been summarized from, and should be read in conjunction with, the Company's Consolidated Financial Statements and "Management's Discussion and Analysis of Financial Condition and Results of Operations". The data reflects the acquisitions of American Memorial and Loyal in November 1995, GAPR in December 1997 and the sale of the Funeral Services Division in September 1998 (in millions, except per share amounts).
Income from continuing operations $ 97.5 $ 71.4 $ 61.1 $ 58.7 $ 40.9 Loss from discontinued operations - - - (3.2) (2.6) Extraordinary items (0.8) (1.5) (6.0) (0.2) (1.7) Change in accounting principle - - - - (0.5) Net income $ 96.7 $ 69.9 $ 55.1 $ 55.3 $ 36.1
Basic earnings per common share: Continuing operations $2.27 $1.63 $1.39 $1.45 $1.05 Discontinued operations - - - (0.08) (0.07) Extraordinary items (0.02) (0.03) (0.14) - (0.05) Change in accounting principle - - - - (0.01) Net income $2.25 $1.60 $1.25 $1.37 $0.92
Balance Sheet Data at year end: Total assets $7,190.4$7,710.3$7,024.1$6,611.0$5,089.9 Notes payable 131.0 135.8 114.9 167.7 183.3 Mandatorily redeemable preferred securities of subsidiary trusts 225.0 225.0 75.0 - - Net unrealized gains (losses) included in stockholders' equity 160.1 133.2 61.8 89.3 (29.0) Total stockholders' equity 688.7 583.9 486.5 429.3 204.4
Ratios The following ratios may be considered relevant indicators of AAG's liquidity and are typically presented by AAG in its prospectuses and similar documents. 1998 1997 1996 Earnings to fixed charges 5.6 5.1 6.0
Including cash and investments on hand and the unused availability under a bank line of credit, AAG and AAG Holding had nearly $270 million of liquidity at March 1, 1999. The September 1998 sale of its Funeral Services Division netted approximately $165 million in cash ($145 million after-tax). The majority of the proceeds were received by AAG's insurance subsidiaries. Based upon the current level of operations and anticipated growth, AAG believes that it will have sufficient resources to meet its liquidity requirements.
The NAIC assigns quality ratings to publicly traded as well as privately placed securities. At December 31, 1998, 93% of AAG's fixed maturity portfolio was comprised of investment grade bonds (NAIC rating of "1" or "2"). Management believes that the high credit quality of AAG's investment portfolio should generate a stable and predictable investment return.
AAG invests primarily in fixed income investments which, including loans and short-term investments, comprised 98% of its investment portfolio at December 31, 1998. AAG generally invests in securities with intermediate- term maturities with an objective of optimizing interest yields while maintaining an appropriate relationship of maturities between AAG's assets and expected liabilities.
At December 31, 1998, AAG's mortgage-backed securities ("MBSs") portfolio represented less than one-third of its fixed maturity investments. AAG invests primarily in MBSs which have a lower risk of prepayment. In addition, the majority of MBSs held by AAG were purchased at a discount. Management believes that the structure and discounted nature of the MBSs will reduce the effect of prepayments on earnings over the anticipated life of the MBS portfolio.
Uncertainties Year 2000 Status AAG's Year 2000 Project is a corporate-wide program designed to ensure that its computer hardware and software systems, telecommunications and other business activities function properly in the Year 2000. The project also encompasses communicating with agents, vendors, financial institutions and others with which the Company conducts business to determine their Year 2000 readiness and resulting effects on AAG. As part of the project, the Company is also developing contingency plans for the systems and procedures deemed most critical to the Company. AAG's Year 2000 Project is being coordinated by a team of individuals from a variety of disciplines in the organization which monitors the work being performed by the various business units and reports frequently to senior management. The Company's internal audit staff reports at least quarterly to the Audit Committee of the Board of Directors on the Company's Year 2000 progress.
To address its Year 2000 issue, AAG's operations have been divided into separate systems groups. At December 31, 1998, these groups were in the process of either (i) testing internally developed and third party software applications believed to be Year 2000 compliant without need for any modifications; (ii) modifying and testing other software applications or (iii) replacing software with new applications that are Year 2000 compliant, and testing those replacements for operational acceptance and Year 2000 compliance.
AAG believes it has reasonable plans in place to ensure business activities function properly in the Year 2000. However, should software modifications and new software installations not be completed on a timely basis, the resulting disruptions could have a material adverse impact on operations. AAG's operations could also be materially adversely affected by the inability of third parties such as agents, vendors and policyholders' employers to also function properly in the Year 2000.
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, 1998.
Fixed Maturity Portfolio The fair value of AAG's fixed maturity portfolio ($6.02 billion at December 31, 1998) is directly impacted by changes in market interest rates. AAG's fixed maturity portfolio is comprised of substantially all fixed rate investments with primarily short- term and intermediate-term maturities. This practice allows flexibility in reacting to fluctuations of interest rates. AAG's portfolio is managed with an attempt to achieve an adequate risk-adjusted return while maintaining sufficient liquidity to meet policyholder obligations. AAG uses various actuarial models in an attempt to align the duration of invested assets to the projected cash flows of policyholder liabilities.
Annuity Contracts Substantially all of AAG's fixed rate annuity contracts permit AAG to change crediting rates (subject to minimum interest rate guarantees of 3% to 4% per annum) enabling management to react to changes in market interest rates and maintain an adequate spread. Sales of variable rate annuities have not been significant. Projected payments of AAG's fixed annuity liabilities at December 31, 1998, were as follows (dollars in millions):
About half of AAG's fixed annuity liabilities at December 31, 1998, 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 range from 5% to 5.2%. This range 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.
Debt and Preferred Securities At December 31, 1998, AAG's debt securities had a weighted-average interest rate of 6.7% and a weighted- average life of approximately eight years. Variable debt comprised less than 10% of AAG's total debt and preferred securities.
At December 31, 1998, AAG's preferred securities of its subsidiary trusts had a weighted-average dividend rate of 8.5% and a weighted-average life of approximately 34 years, based on final maturity dates. Based on initial optional redemption dates, the trust preferred securities had an average life of approximately four years. (See Notes H and I.)
AAG (Consolidated): 1998 1997 1996 Revenues per income statement $724.5 $634.2 $577.3
Less realized gains on sales of investments (10.7) (5.2) (1.2) Less gain on sale of subsidiaries (21.6) - - Less equity in net loss (earnings) of affiliate 0.4 (0.8) 2.2 Operating revenues 692.6 628.2 578.3
Operating earnings before tax 111.6 102.2 79.5 Income tax expense 35.4 32.1 17.8 Net operating earnings $ 76.2 $ 70.1 $61.7
The Company's principal products are its fixed annuities -- Single Premium Deferred Annuities ("SPDAs") and Flexible Premium Deferred Annuities ("FPDAs"). The following table summarizes AAG's premiums for its retirement annuities (in millions). 1998 1997 1996 Retirement Annuity Premiums: SPDAs $260 $254 $319 FPDAs 172 192 217 Variable annuities - flexible premium 22 6 1 Variable annuities - single premium 67 37 3 Total retirement annuity premiums $521 $489 $540
The decrease in SPDA sales in 1997 reflects primarily the decrease of business written by GALIC's largest premium producing agency in 1996 (from $99 million to $23 million). GALIC is no longer writing business through this agency (see Item 3 - "Legal Proceedings"). Management believes that the success of the stock market and the recent interest rate environment have also resulted in decreased sales and persistency of traditional fixed annuities. Sales of annuity products linked to the performance of the stock market (equity-indexed and variable annuities) helped offset this decrease.
Premiums 1998 1997 1996 Life insurance (excluding Funeral Services Division) $ 62 $ 23 $ 20 Accident and health insurance 30 21 21 92 44 41 Funeral Services Division 78 78 63 $170 $122 $104
Equity in Net Earnings (Loss) of Affiliate Equity in net earnings (loss) of affiliate represents AAG's proportionate share of the results of Chiquita Brands International. Chiquita reported net income from continuing operations before unusual items of $55 million in 1998, $0.3 million in 1997 and $43 million in 1996. Chiquita reported net income (loss) before extraordinary items of ($18 million) in 1998, $0.3 million in 1997 and ($28 million) in 1996. Included in AAG's equity in Chiquita's 1998 and 1997 earnings are gains attributable to Chiquita's issuance of common stock.
Other Income Other income increased in 1998 and 1997 due primarily to increased revenues from certain non-insurance subsidiaries and additional insurance fees.
Annuity benefits decreased 6% in 1998 due primarily to decreases in crediting rates and changes in actuarial assumptions. Annuity benefits increased 3% in 1997 due primarily to an increase in average annuity benefits accumulated, partially offset by decreases in crediting rates.
Other Expenses Other expenses increased 21% in 1998, reflecting primarily: (i) operating expenses of GAPR, which was acquired in December 1997; (ii) higher depreciation and amortization costs and (iii) increases in personnel costs. In 1997, other expenses decreased 10%, reflecting primarily the absence of a $15.7 million pretax charge in 1996 related to pension and other liabilities of the Company's former manufacturing operations.
Extraordinary Items Extraordinary items reflect AAG's losses, net of tax, on retirements of its debt and, in 1996, also includes AAG's proportionate share of Chiquita's extraordinary loss on the retirement of certain of its debt.
Recent Accounting Standards The following accounting standards have been implemented by AAG in 1997 or 1998 or will be implemented in 1999 or 2000.
Implementation of Statement of Position ("SOP") 98-5 in the first quarter of 1999 will result in a one-time after-tax charge of approximately $5 million resulting from a change in accounting principle. Implementation of Statement of Financial Accounting Standard ("SFAS") No. 133 in the first quarter of 2000 is not expected to have a significant effect on AAG.
Consolidated Income Statement: Years Ended December 31, 1998, 1997 and 1996
Consolidated Statement of Changes in Stockholders' Equity: Years Ended December 31, 1998, 1997 and 1996
The information required by the following Items will be included in AAG's definitive Proxy Statement for the 1999 Annual Meeting of Stockholders which will be filed with the Securities and Exchange Commission within 120 days of the Company's fiscal year end and is herein incorporated by reference:
We have audited the accompanying consolidated balance sheet of American Annuity Group, Inc. and subsidiaries as of December 31, 1998 and 1997, and the related consolidated statements of income, changes in stockholders' equity and cash flows for each of the three years in the period ended December 31, 1998. Our audits also included the financial statement schedules listed in the Index at Item 14(a). These financial statements and schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedules based on our audits.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of American Annuity Group, Inc. and subsidiaries at December 31, 1998 and 1997, and the consolidated results of their operations and their 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, the related financial statement schedules, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein.
Year ended December 31, 1998 1997 1996 Revenues: Life, accident and health premiums $170.4 $121.5 $103.6 Net investment income 506.9 494.3 467.7 Realized gains on sales of investments 10.7 5.2 1.2 Gain on sale of subsidiaries 21.6 - - Equity in net earnings (loss) of affiliate(0.4) 0.8 (2.2) Other income 15.3 12.4 7.0 724.5 634.2 577.3 Costs and Expenses: Annuity benefits 261.7 278.8 271.8 Life, accident and health benefits 131.7 110.1 92.3 Insurance acquisition expenses 65.0 36.3 34.1 Trust preferred distribution requirement 19.0 15.5 1.0 Interest and other debt expenses 10.8 8.9 14.3 Provision for relocation expenses - 4.0 - Other expenses 92.8 76.4 85.3 581.0 530.0 498.8 Income from continuing operations before income taxes 143.5 104.2 78.5 Provision for income taxes 46.0 32.8 17.4 Income from continuing operations 97.5 71.4 61.1 Extraordinary items, net of tax (0.8) (1.5) (6.0) Net Income $ 96.7 $ 69.9 $ 55.1
Net income applicable to Common Stock $ 96.7 $ 68.9 $ 53.7
Average number of common shares: Basic 43.0 43.2 43.1 Diluted 43.7 43.7 43.1
Basic earnings (loss) per common share: Continuing operations $2.27 $1.63 $1.39 Extraordinary items (0.02) (0.03) (0.14) Net income $2.25 $1.60 $1.25
Year ended December 31, 1998 1997 1996 Preferred Stock: Balance at beginning of year $ - $ 49.0 $ 17.0 Preferred Stock issued - - 32.0 Preferred Stock retired - (49.0) - Balance at end of year $ - $ - $ 49.0
Unrealized Gains, Net: Balance at beginning of year $133.2 $ 61.8 $ 89.3 Change during year 26.9 71.4 (27.5) Balance at end of year $160.1 $133.2 $ 61.8
CONSOLIDATED STATEMENT OF CASH FLOWS (In millions) Year ended December 31, 1998 1997 1996 Cash Flows from Operating Activities: Net income $ 96.7 $ 69.9 $ 55.1 Adjustments: Extraordinary loss on prepayment of debt 0.8 1.5 6.0 Increase in life, accident and health reserves 47.1 36.3 28.4 Benefits to annuity policyholders 261.7 278.8 271.8 Amortization of insurance acquisition costs 55.4 36.3 34.1 Depreciation and amortization 12.6 5.1 6.5 Realized gains on sales of investments (10.7) (5.2) (1.2) Gain on sale of subsidiaries (21.6) - - Increase in insurance acquisition costs (117.2) (72.6) (68.5) Increase in accrued investment income (4.5) (4.8) (7.4) Increase in other assets (27.1) (32.6) (10.4) Increase (decrease) in other liabilities 27.9 19.8 (6.3) Other, net (18.3) (21.4) (2.6) 302.8 311.1 305.5 Cash Flows from Investing Activities: Purchases of and additional investments in: Fixed maturity investments (1,121.9)(1,449.9)(1,010.1) Equity securities (23.5) (12.5) - Real estate, mortgage loans and other assets (25.7) (16.1) (26.7) Purchase of subsidiaries, net of cash acquired (9.5) (48.7) - Maturities and redemptions of fixed maturity investments 673.0 408.2 255.2 Sales and decreases in: Subsidiaries 164.6 - - Fixed maturity investments 369.5 747.6 261.0 Equity securities 6.3 5.8 1.3 Real estate, mortgage loans and other assets 20.4 20.9 27.8 Cash and short-term investments of subsidiaries sold (40.5) - - Decrease (increase) in policy loans 1.5 (1.3) 5.4 14.2 (346.0) (486.1) Cash Flows from Financing Activities: Fixed annuity receipts 480.6 493.7 573.8 Annuity surrenders, benefits and withdrawals (690.4) (607.2) (517.9) Additions to notes payable 150.0 114.0 92.7 Reductions of notes payable (156.1) (94.9) (153.2) Issuance of trust preferred securities - 149.3 72.4 Issuance of Common Stock 0.4 - - Retirement of Common Stock (14.9) (1.1) - Issuance of Preferred Stock - - 32.0 Retirement of Preferred Stock - (47.0) - Cash dividends paid (4.3) (5.3) (4.5) (234.7) 1.5 95.3
INDEX TO NOTES A. Description of the Company J. Stockholders' Equity B. Summary of Significant Accounting Policies K. Income Taxes C. Acquisitions and Sale of Subsidiaries L. Leases D. Segments of Operations M. Earnings Per Share E. Investments N. Contingencies F. Investment in Affiliate O. Statutory Information G. Unamortized Insurance Acquisition Costs P. Additional Information H. Notes Payable Q. Quarterly Financial I. Mandatorily Redeemable Preferred Data (Unaudited) Securities of Subsidiary Trusts
Investments Debt securities are classified as "held to maturity" and reported at amortized cost if AAG has the positive intent and ability to hold them to maturity. Debt and equity securities are classified as "available for sale" and reported at fair value with unrealized gains and losses reported as a separate component of stockholders' equity if the securities are not classified as held to maturity or bought and held principally for selling in the near term. At December 31, 1998, AAG reclassified "held to maturity" securities with an amortized cost of $1.9 billion to "available for sale" to give management greater flexibility to react to changing market conditions. This reclassification resulted in an increase of $72.4 million in the carrying value of fixed maturity investments and an increase of $39.4 million in stockholders' equity. The transfer had no effect on net earnings.
DPAC related to annuities and universal life insurance products is amortized, with interest, in relation to the present value of expected gross profits on the policies. These expected gross profits consist principally of estimated future net investment income and surrender, mortality and other policy charges, less estimated future interest on policyholders' funds, policy administration expenses and death benefits in excess of account values. DPAC is reported net of unearned revenue relating to certain policy charges that represent compensation for future services. These unearned revenues are recognized as income using the same assumptions and factors used to amortize DPAC.
DPAC related to traditional life and health insurance is amortized over the expected premium paying period of the related policies, in proportion to the ratio of annual premium revenues to total anticipated premium revenues. Such anticipated premium revenues were estimated using the same assumptions used for computing liabilities for future policy benefits.
Income Taxes AAG and its principal subsidiary, Great American Life Insurance Company ("GALIC"), have separate tax allocation agreements with American Financial Corporation ("AFC"), a subsidiary of AFG, which designate how tax payments are shared by members of the tax group. In general, both companies compute taxes on a separate return basis. GALIC is obligated to make payments to (or receive benefits from) AFC based on taxable income without regard to temporary differences. If GALIC's taxable income (computed on a statutory accounting basis) exceeds a current period net operating loss of AAG, the taxes payable by GALIC associated with the excess are payable to AFC.
Start-Up Costs Certain costs associated with introducing new products and distribution channels are deferred by AAG and are amortized on a straight- line basis over five years. Statement of Position ("SOP") 98-5, "Reporting on the Costs of Start-Up Activities," was issued during the second quarter of 1998 and is effective for fiscal years beginning after December 15, 1998. The SOP requires that (i) costs of start-up activities be expensed as incurred and (ii) unamortized balances of previously deferred costs be expensed no later than the first quarter of 1999 and reported as the cumulative effect of a change in accounting principle. AAG had approximately $7 million in capitalized start-up costs at December 31, 1998.
Derivatives The Financial Accounting Standards Board issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," during the second quarter of 1998. SFAS No. 133 is effective for fiscal periods (both years and quarters) beginning after June 15, 1999. SFAS No. 133 establishes accounting and reporting standards for derivative instruments, including derivative instruments that are embedded in other contracts, and for hedging activities. SFAS No. 133 requires the recognition of all derivatives (both assets and liabilities) in the statement of financial position at fair value. Changes in fair value of derivative instruments are included in current income or as a component of comprehensive income (outside current income) depending on the type of derivative. Implementation of SFAS No. 133 is not expected to have a material effect on AAG's financial position or results of operations.
Earnings Per Share In 1997, AAG implemented SFAS No. 128, "Earnings Per Share." This standard requires the presentation of basic and diluted earnings per share. Basic earnings per share is calculated using the weighted-average number of shares of common stock outstanding during the period. Diluted earnings per share include the effect of the assumed exercise of dilutive common stock options. Per share amounts for prior periods were restated.
Comprehensive Income Effective January 1, 1998, AAG implemented SFAS No. 130, "Reporting Comprehensive Income." SFAS No. 130 uses the term "comprehensive income" to describe the total of net earnings plus other comprehensive income. For AAG, other comprehensive income represents the change in net unrealized gain on marketable securities net of deferred taxes. Implementation of this statement had no impact on net earnings or stockholders' equity. Appropriate data for prior periods has been added to conform to the current presentation.
In February 1999, AAG acquired Old Republic Life Insurance Company of New York for approximately $25 million in cash. This acquisition provides AAG with the opportunity to offer its life and annuity products in all 50 states.
In December 1997, AAG acquired GAPR for approximately $50 million in cash.
Assets 1998 1997 1996 Retirement annuities $6,419.3 $6,142.9 $5,830.2 Life, accident & health 557.4 511.7 332.6 Corporate and other (a) 197.8 1,038.9 844.8 Investment in affiliate 15.9 16.8 16.5 Total assets per balance sheet $7,190.4 $7,710.3 $7,024.1
Revenues Retirement annuities $442.9 $437.7 $419.2 Life, accident & health 119.6 63.6 60.9 Corporate and other 130.1 126.9 98.2 Total operating revenues 692.6 628.2 578.3
Available for Sale 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 433.1 449.3 16.2 - Mortgage-backed securities 1,800.6 1,877.4 82.8 (6.0) All other corporate 3,257.4 3,383.6 143.9 (17.7) 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, $1.90 billion of fixed maturities investments formerly classified as held to maturity were reclassed to available for sale at their market price of $1.97 billion.
Available for Sale Amortized Market Gross Unrealized Cost Value Gains Losses Fixed maturities: U. S. Government and government agencies and authorities $ 303.1 $ 312.8 $9.8 ($0.1) States, municipalities and political subdivisions 26.8 27.6 0.8 - Foreign governments 20.1 21.0 0.9 - Public utilities 135.6 141.7 6.1 - Mortgage-backed securities 1,250.6 1,302.5 51.9 - All other corporate 2,169.2 2,274.9 105.7 - Redeemable preferred stocks 16.6 18.9 2.3 - $3,922.0 $4,099.4 $177.5 ($0.1)
Held to Maturity Amortized Market Gross Unrealized Cost Value Gains Losses Fixed maturities: U. S. Government and government agencies and authorities $ - $ - $ - $ - States, municipalities and political subdivisions 39.8 40.2 0.4 - Foreign governments 8.3 8.9 0.6 - Public utilities 360.8 366.2 6.7 (1.3) Mortgage-backed securities 659.2 684.6 25.6 (0.2) All other corporate 1,208.3 1,240.7 33.2 (0.8) Redeemable preferred stocks - - - - $2,276.4 $2,340.6 $66.5 ($2.3)
Purchases ($1,121.9) $ - ($1,121.9) Maturities and paydowns 394.7 278.3 673.0 Sales 336.2 33.3 369.5 Gross gains 8.9 3.4 12.3 Gross losses (9.3) (0.4) (9.7)
Available Held to for Sale Maturity Total Purchases ($1,448.5) ( $1.4) ($1,449.9) Maturities and paydowns 195.5 212.7 408.2 Sales 742.4 5.2 747.6 Gross gains 19.8 0.2 20.0 Gross losses (13.9) - (13.9)
The distribution of maturities based on amortized cost is generally the same. Mortgage-backed securities had an estimated average life of approximately four and one-half years at December 31, 1998.
AAG had no investments in any issue in excess of 10% of stockholders' equity at December 31, 1998, other than investments issued or guaranteed by the U.S. Government or government agencies.
At December 31, 1998 and 1997, AAG had no unrealized losses on its marketable equity securities. Realized gains and changes in unrealized appreciation on fixed maturity and equity security investments are summarized as follows (in millions):
Fixed Equity Tax Maturities Securities Other Effects Total Realized $ 2.6 $ 1.8 $6.3 ($ 3.9) $ 6.8 Change in unrealized (1.3) (13.6) - 5.2 (9.7)
Realized $ 6.1 $ 1.7 ($2.6) ($ 1.8) $ 3.4 Change in unrealized 142.0 17.2 - (55.7) 103.5
Realized $ 0.8 $ - $0.4 ($ 0.4) $ 0.8 Change in unrealized (142.2) 16.4 - 44.0 (81.8)
Investment in affiliate reflects AAG's 4% ownership (2.7 million shares; carrying value of $15.9 million at December 31, 1998) of the common stock of Chiquita Brands International which is accounted for under the equity method. AFG and its other subsidiaries own an additional 33% interest in the common stock of Chiquita. Chiquita is a leading international marketer, producer and distributor of bananas and other quality fresh and processed food products.
The market value of AAG's investment in Chiquita was approximately $26 million and $44 million at December 31, 1998 and 1997, respectively.
In the fourth quarter of 1998, Chiquita recorded an after-tax charge of $74 million due to significant damage to its operations as a result of widespread flooding caused by Hurricane Mitch. Accordingly, AAG recorded its proportionate share (4%) of this after-tax write-off. Included in equity in Chiquita's earnings are gains of $1.0 million in 1998 and $1.3 million in 1997 attributable to Chiquita's issuance of common stock.
At December 31, 1998 and 1997, the weighted-average interest rate on amounts borrowed under AAG Holding's bank credit lines was 6.09% and 6.80%, respectively. At March 1, 1999, the weighted-average interest rate on its credit line was 5.44%.
Optional Date of Redemption Issuance Issue (Maturity Date) Amount Dates November 1996 9-1/4% TOPrS* (2026) $75,000,000 On or after 11/7/2001 March 1997 8-7/8% Preferred Securities (2027) 75,000,000 On or after 3/1/2007 May 1997 7-1/4% ROPES** (2041) 75,000,000 Prior to 9/28/2000 and after 9/28/2001
Pretax Taxes Net Unrealized holding gains on securities arising during the period $ 6.6 ($1.0) $ 5.6 Unrealized gain on securities transferred from held to maturity 60.6 (21.2) 39.4 Reclassification adjustment for investment losses (gains) realized in net income and unrealized gains of subsidiaries sold (27.8) 9.7 (18.1) Changes in net unrealized gains on marketable securities $39.4 ($12.5) $26.9
Pretax Taxes Net Unrealized holding gains on securities arising during the period $ 117.6 ($41.2) $ 76.4 Unrealized gain on securities transferred from held to maturity - - - Reclassification adjustment for investment losses (gains) realized in net income and unrealized gains of subsidiaries sold (7.7) 2.7 (5.0) Changes in net unrealized gains on marketable securities $109.9 ($38.5) $71.4
1998 1997 Average Average Exercise Exercise Shares Price Shares Price Outstanding at beginning of year 2,178,190 $15.21 1,548,969 $13.38 Granted 417,000 $22.51 633,070 $19.70 Forfeited (90,332) $16.57 (3,849) $13.51 Exercised (40,778) $13.80 - -
Average Exercise Shares Price Outstanding at beginning of year - - Granted 1,557,759 $13.38 Forfeited (8,790) $13.25 Exercised - -
No compensation cost has been recognized for stock option grants. Had compensation cost been determined for stock option awards based on the fair values at grant dates consistent with the method prescribed by SFAS No. 123, AAG's net income and earnings per share would have been approximately $7.5 million ($0.18 per share) lower. For SFAS No. 123 purposes, calculations were determined using the Black-Scholes option pricing model and the following assumptions: dividend yield of less than 1%; expected volatility of 20%; risk-free interest rates of 4.7% - 5.7% for 1998; 5.7% - 6.5% for 1997 and 6.0% for 1996 and expected life of 7.5 years.
1998 1997 1996 Income before income taxes: Continuing operations $143.5 $104.2 $78.5 Extraordinary items (1.2) (2.3) (9.2) Income before income taxes $142.3 $101.9 $69.3
Effect of: Reduction of valuation allowance (6.6) (3.5) (10.0) Book basis over tax basis of subsidiaries sold 2.3 - - Other, net 0.1 (0.2) (0.1) Total provision (all current) 45.6 32.0 14.2
December 31, 1998 1997 Deferred tax assets: Net operating loss carryforwards $29.4 $39.8 Accrued expenses 5.1 8.4 Investment securities, including affiliate 36.3 34.7 Valuation allowance for deferred tax assets (26.4) (33.0)
Rental expense for operating leases was $4.9 million in 1998, $2.9 million in 1997 and $2.6 million in 1996.
The Company is continuing its clean-up activities at certain of its former manufacturing operations and third-party sites, in some cases in accordance with consent agreements with federal and state environmental agencies. Changes in regulatory standards and further investigations could affect estimated costs in the future. Management believes that reserves recorded are sufficient to satisfy the known liabilities and that the ultimate cost will not, individually, or in the aggregate, have a material adverse effect on the financial condition or results of operations of AAG. Based on prior costs and discussions with independent environmental consultants, the Company believes the remaining aggregate cost of environmental work at all sites for which it has responsibility will range from $6.5 million to $14.5 million. AAG is actively pursuing recovery of a portion of the costs from the companies which provided insurance coverage for the former manufacturing operations. At December 31, 1998, AAG had settlement offers from certain of these insurance companies totaling more than $4 million. In addition, the Company's reserve for environmental costs was $4.7 million at December 31, 1998.
O. STATUTORY INFORMATION; RESTRICTIONS ON TRANSFERS OF FUNDS AND ASSETS OF SUBSIDIARIES
Pretax income from operations $111.2 $ 91.7 $ 87.1 Net income from operations 99.9 72.7 68.1 Net income 35.6 73.6 66.2
Insurance reserves $5,692 $6,142 Notes payable: Due parent 115 159 Due others 130 135 Liabilities related to separate accounts 120 300 Other liabilities 167 165
Mandatorily redeemable preferred securities of subsidiary trusts $ 225 $ 225
Net investment income includes approximately $900,000 in 1998 and 1997 and $1 million in 1996 of payments from a subsidiary of AFG for the rental of an office building owned by GALIC.
Trust preferred securities $ 225.0 $ 231.4 $ 225.0 $ 230.3
When available, fair values are based on prices quoted in the most active market for each security, including AAG Common Stock. If quoted prices are not available, fair value is estimated based on present values, discounted cash flows, fair value of comparable securities or similar methods. The fair value of short-term investments, mortgage loans on real estate and policy loans approximate their carrying value. The fair value of the liability for annuities in the payout phase is assumed to be the present value of the anticipated cash flows, discounted at current interest rates. Fair value of annuities in the accumulation phase is assumed to be the policyholders' cash surrender amount.
Fixed maturities - available for sale $3,922.0 $177.4 $4,099.4 Equity securities 30.9 52.1 83.0 Unamortized insurance acquisition costs, net 268.0 (6.4) 261.6 Annuity benefits accumulated (5,510.0) (18.1) (5,528.1) Deferred taxes on unrealized gains - (71.8) (71.8) Unrealized gains on marketable securities, net $133.2
First Second Third Fourth Total 1998 Quarter Quarter Quarter Quarter Year Realized gains (losses) on sales of investments $ 10.2 $ 1.5 $ 4.0 ($ 5.0) $ 10.7 Gain on sale of subsidiaries - - 21.6 - 21.6 Total revenues 189.6 186.9 209.6 138.4 724.5
Income from continuing operations 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
* In the third quarter of 1997, AAG recorded a $4 million ($2.6 million after-tax) charge relating to the relocation of Loyal American Life Insurance Company (a wholly-owned subsidiary of AAG) from Mobile, Alabama to Cincinnati, Ohio. Excluding this charge, third quarter 1997 basic and diluted earnings per share would have been $0.06 higher.
Date of Report Items Reported October 15, 1998 Sale of Funeral Services Division
Operating Activities: Net income $ 96.7 $ 69.9 $55.1 Adjustments: Extraordinary items 0.8 1.5 6.0 Equity in net earnings of subsidiaries (76.6) (58.8) (70.8) Realized gains on investing activities 1.5 (0.1) - Gain on sale of subsidiaries (4.6) - - Depreciation and amortization 1.4 2.2 1.6 Decrease (increase) in other assets 1.1 (1.9) (8.5) Increase (decrease) in balances with affiliates (5.1) 9.5 (26.5) Increase (decrease) in other liabilities (3.4) (11.2) 0.1 Capital distributions from subsidiaries 8.9 181.2 61.2 Contributions to subsidiaries (61.6) (3.1) (12.7) Other, net 6.2 (0.7) 1.3 (34.7) 188.5 6.8
Financing Activities: Additions to notes payable - - 87.7 Reductions of notes payable (0.1) (0.1) (74.8) Issuance of Common Stock 0.4 - - Retirement of Common Stock (14.9) (1.1) - Issuance of Preferred Stock - - 32.0 Retirement of Preferred Stock - (47.0) - Cash dividends paid (4.3) (5.3) (4.5) (18.9) (53.5) 40.4
Net Increase (Decrease) in Cash and Short-term Investments - 1.7 0.5
Cash and short-term investments at beginning of period 3.6 1.9 1.4
Cash and short-term investments at end of period $ 3.6 $ 3.6 $ 1.9
27.1 Financial Data Schedule for 1998 - included in Report filed electronically with the Securities and Exchange Commission.
s/JOHN T. LAWRENCE, III Director March 30, 1999 John T. Lawrence, III