Annuity & Life Re's operations are conducted from leased office space located at Cumberland House, 1 Victoria Street, Hamilton, HM 11, Bermuda.
The following analysis of the Company's consolidated financial condition and results of operations should be read in conjunction with "Selected Financial Data" and the consolidated financial statements and accompanying notes included elsewhere herein. The preparation of financial statements in conformity with generally accepted accounting principles requires the use of estimates and assumptions developed by management. Any adjustments to reported bases of assets or liabilities resulting from changes in estimates are reflected in earnings in the period the estimates are revised. Certain management estimates are based, in part, on information provided by ceding companies. As is usual in the reinsurance business, Annuity & Life Re's ceding companies periodically update, refine and revise reinsurance information provided to Annuity & Life Re. The financial effects resulting from the incorporation of revised data are reflected in earnings as changes in estimates.
With the exception of historical information, the matters contained in the following analysis are "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended and Section 21E of the Securities Exchange Act of 1934, as amended. Such statements may include, but are not limited to, projections of earnings, revenues, income or loss, capital expenditures, plans for future operations
and financing needs or plans, as well as assumptions relating to the foregoing. The words "expect", "project", "estimate", predict", "anticipate", "believes", and similar expressions are also intended to identify forward-looking statements. Forward-looking statements are inherently subject to risks and uncertainties, some of which cannot be predicted or quantified. Future events and actual results, performance and achievements could differ materially from those set forth in, contemplated by or underlying the forward-looking statements. Such factors include, but are not limited to: uncertainties relating to general economic and business conditions that may impact the reinsurance marketplace, including, among other things, changes in interest rate levels and the liquidity of certain securities; changes in laws and government regulations applicable to Annuity & Life Re; the ability of Annuity and Life Re successfully to implement its operating strategies; material changes in the level of the Company's operating expenses; material changes in mortality and morbidity experience; and material changes in persistency. In addition, as part of the Company's business strategy the Company evaluates from time to time opportunities to acquire, make investments in, or enter into joint ventures or other strategic alliances with companies whose businesses compliment the Company's business, some of which could be material. If an acquisition is consummated, the Company may need to incur indebtedness in connection with such acquisition. In addition, the Company could have difficulty assimilating the personnel and operations of the acquired company, which would prevent the Company from realizing expected synergies and could disrupt the Company's ongoing business and distract management and resources. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual outcomes may vary materially from those indicated.
The net proceeds from the initial public offering were invested by the Company in short term and fixed maturity securities in accordance with the Company investment guidelines. The entire portfolio of fixed maturity securities has been classified as available for sale.
Realized Investment Gains. Realized investment gains were $2.7 million resulting from activity within the Company's investment portfolios. In addition, at December 31, 1998 the Company's portfolio of fixed maturity securities had unrealized gains of approximately $3.7 million which were included in Other Comprehensive Income.
Claims and Policy Benefits. Claims and Policy Benefits were approximately $23.3 million for the period ending December 31, 1998. This represents 84% of the Premium Revenue.
Policy Acquisition and Other Insurance Expenses. Policy Acquisition and Other Insurance Expenses, consisting primarily of allowances and amortization of deferred policy acquisition costs, were approximately $6.5 million for the period ending December 31, 1998. Generally, policy acquisition costs and other insurance expenses fluctuate with business volume and changes in product mix.
Invested assets, including cash and cash equivalents, amounted to $342.6 million at December 31, 1998. Net unrealized gains on invested assets totaled $3.7 million at year-end 1998 and generally reflect the decrease in interest rates during the period.
Annuity & Life Re does not engage in trading activities to generate realized investment gains and, thus, does not have a trading portfolio. However, Annuity & Life Re evaluates the desirability of continuing to hold a security when market conditions, creditworthiness or other measurement factors change. These changes may relate to a change in the credit risk of an issuer and a decision to sell may be made to avoid further declines in realizable value. Securities also may be sold prior to maturity to provide liquidity.
Annuity & Life Re's fixed maturity securities, which constituted all of the total fair value of its invested assets as of December 31, 1998, are 83% investment grade, liquid securities with varying maturity dates. The fair value of such investments may vary depending on economic and market conditions, the level of interest rates and the perceived creditworthiness of the issuer. At December 31, 1998, the weighted average duration of invested assets was 2.9 years, and the weighted average investment quality rating was "AA-".
The following table summarizes certain of the Company's investment results, excluding interest earned on funds withheld under modified coinsurance agreements, for the year ended December 31, 1998.
The Company's invested assets consist primarily of fixed maturity securities. These fixed maturity securities are invested primarily in U.S. government obligations, foreign government obligations, public utilities obligations, corporate fixed maturities, and mortgage backed securities.
At December 31, 1998, approximately 14.3% of the Company's mortgage backed investment portfolio consisted of planned amortization class ("PAC"), target amortization class ("TAC") and sequential instruments. These investments are designed to amortize in a more predictable manner by shifting the primary risk of prepayment of the underlying collateral to investors in other tranches ("support classes") of the CMO.
During 1998, proceeds from sales of fixed maturity securities amounted to $309.3 million. The net gains realized from such sales were $2.7 million.
On April 17, 1998 the Company completed an initial public offering of 19,640,579 common shares; total proceeds received net of underwriting discounts and commissions were $276,932,164. Simultaneous with the
initial closing of the public offering, sales of 5,859,420 common shares and 397,500 Class B warrants were made by the Company to certain investors, members of the Board of Directors and Company management; total net proceeds were $82,617,806. Substantially all of the net proceeds from these offerings were used to provide working capital and to capitalize the operating subsidiary, Annuity & Life Reassurance, Ltd., in support of its reinsurance underwriting capacity; all funds were invested in accordance with the Company's investment guidelines.
At the October 29, 1998 and March 2, 1999 Board of Directors meetings, shareholder dividends of $.04 per share were declared. The board intends to continue to declare and pay out of earnings a quarterly dividend. The continued payment of dividends is dependent on the ability of Annuity & Life Re to achieve satisfactory underwriting and investment results, and no assurance can be given that dividends will be declared or paid in the future.
Many existing computer programs use only two digits to identify a year in the date field. These programs, if not corrected, could fail or create erroneous results by or at the year 2000. This "Year 2000" issue is believed to affect virtually all companies and organizations. All of the Company's data processing and related systems were purchased after April 17, 1998. Therefore, the Company believes that its exposure with respect to its own computer systems to Year 2000-related problems will not be significant. The Company does not expect to incur any material costs in connection with Year 2000-related issues.
However, the Company will be exposed to the risk that its third-party service providers and client companies may be exposed to Year 2000-related problems. The Company has no direct control over the Year 2000 compliance efforts of its third party service providers and client companies. The Company is monitoring whether such parties will be Year 2000 compliant on a timely basis and has received assurances that they will be. There can be no assurance, however, that the Company's operations will not experience material disruptions due to the failure of the Company's third-party service providers or client companies to become fully Year 2000 compliant in a timely manner or that such failure will not otherwise have an adverse effect on the Company. Furthermore, the Company's interaction with third-party service providers and client companies outside the United States may subject the Company to additional Year 2000 risk as foreign entities have in general not addressed Year 2000 compliance issues as comprehensively as their United States counterparts. The Company will continue to monitor developments relating to the issue, including the development of additional contingency plans to supplement its current contingency plan, which provides for the replacement of existing third-party service providers which are not Year 2000 compliant with comparable third-party service providers which are Year 2000 compliant, and including the development of contingency plans for providing back-up services in the event of a systems failure.
Management of the Company has primary responsibility for preparing the accompanying financial statements and for their integrity and objectivity. The financial statements included in this report were prepared in accordance with generally accepted accounting principles in the United States applied on a consistent basis. The financial statements include amounts that are based on management's best estimates and judgements. Management also prepared the other information presented in the annual report and is responsible for its accuracy and consistency with the financial statements.
Management of the Company has established and maintains a system of internal controls designed to provide reasonable assurance as to the integrity and reliability of the financial statements, the protection of assets from unauthorized use or disposition and the prevention and detection of fraudulent financial reporting.
The Company's financial statements have been audited by independent auditors. The independent auditors had unrestricted access to each member of management in conducting their audit. Management has made available to the independent auditors all of the Company's financial records and related data, as well as the minutes of shareholders' and directors' meetings. Management believes that all representations made to the independent auditors during their audits were valid and appropriate.
The Board of Directors and Shareholders Annuity and Life Re (Holdings), Ltd.
We have audited the consolidated financial statements of Annuity and Life Re (Holdings), Ltd. and subsidiary as listed in the accompanying index. In connection with our audits of the consolidated financial statements, we have also audited the financial statement schedule listed in the accompanying index. These consolidated financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedule based on our audits.
ANNUITY AND LIFE RE (HOLDINGS), LTD. CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME
ANNUITY AND LIFE RE (HOLDINGS), LTD. CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
ANNUITY AND LIFE RE (HOLDINGS), LTD. CONSOLIDATED STATEMENT OF CASH FLOWS
Annuity and Life Re (Holdings), Ltd. ("Holdings") was incorporated on December 2, 1997 under the laws of Bermuda to provide annuity and life reinsurance to insurers and reinsurers. Holdings operates through a wholly-owned subsidiary, Annuity and Life Reassurance, Ltd. ("Annuity Reassurance," and together with Holdings, the "Company"). Annuity Reassurance is licensed under the insurance laws of Bermuda. The Company completed an initial public offering of its equity securities and commenced operations on April 17, 1998.
Reinsurance premiums from traditional life and annuity policies with life contingencies are generally recognized as revenue when due from policyholders. Traditional life policies include those contracts with fixed and guaranteed premiums and benefits, and consist principally of whole life and term insurance policies. Benefits and expenses are matched with such income so as to result in the recognition of profits over the life of the contracts. This is achieved by means of the provision for liabilities for future policy benefits and deferral and subsequent amortization of policy acquisition costs.
The costs of acquiring new business, principally allowances, which vary with and are primarily related to the production of new business, are deferred. Deferred policy acquisition costs are subject to recoverability testing at the time of the policy issuance and loss recognition testing at the end of each accounting period.
to anticipated premiums are estimated at the date of the policy issuance and are consistently applied during the life of the contracts. Deviations from estimated experience are reflected in earnings in the period such deviations occur. For these contracts, the amortization periods generally are for the estimated life of the policy.
For traditional life policies, future policy benefits and dividend liabilities are estimated using a net level premium method on the basis of actuarial assumptions as to mortality, persistency and interest established at policy issue. Assumptions established at policy issue as to mortality and persistency are based on anticipated experience which, together with interest and expense assumptions, provide a margin for adverse deviation. When the liabilities for future policy benefits plus the present value of expected future gross premiums for a product are insufficient to provide for expected future benefits and expenses for that product, deferred policy acquisition costs are written off and thereafter, if required, a premium deficiency reserve is established by a charge to income. Benefit liabilities for traditional annuities during the accumulation period are equal to the accumulated present value of expected future benefit payments.
Premiums for universal life and investment-type contracts are reported as deposits to clients' account balances. Revenues from these contracts will consist of amounts assessed during the period against clients' account balances for mortality charges, policy administration and surrender charges. Policy benefits and claims that are charged to expense include benefit claims incurred in the period in excess of related clients' account balances and interest credited to clients' account balances.
Certain equity offering costs incurred in connection with the Company's initial public offering, including certain amounts payable for investment banking and financial advisory services, have been deducted from the gross proceeds of the offering.
Diluted earnings per common share is calculated by dividing the net income attributable to common shareholders by the weighted average number of common shares outstanding during the period, plus dilutive potential common shares. Options and warrants issued by the Company are considered dilutive potential common shares and are included in the calculation using the treasury stock method.
- --------------- (1) Rating as assigned by Standard & Poor's Corporation.
(c) For fixed interest securities held on December 31, 1998 the maturity distribution is as follows:
In April 1998, the Company completed an equity offering of its shares to the public and direct sales of its shares to certain "strategic investors" directors and members of management. The Company issued 25,499,999 common shares, raising total equity of approximately $354,000,000.
At December 31, 1997 the Company's outstanding shares were owned by a purpose trust. These 12,000 shares were repurchased and canceled by the Company upon the completion of the initial public offering.
The exercise price of the Warrants is $15.00, which is equal to the initial public offering price per share of the Company's common shares. The Class A Warrants become exercisable over three years commencing on the first anniversary of the consummation of the Company's initial public offering. The Class A Warrants will expire on January 15, 2008.
In connection with the Direct Sales of equity securities to the "Strategic Investors," the Company issued Class B Warrants that enable the holders to purchase an aggregate of 397,500 common shares of the Company. The exercise price of the Warrants is $15.00 per share, which is equal to the price of the common shares in the initial public offering. The Class B Warrants become exercisable in three equal annual
The following table sets forth the computation of basic and diluted earnings per share. The Company was nominally capitalized with 12,000 common shares of par value of $1.00 each during the period from its incorporation to the date of the initial public offering and did not commence operations until April 17, 1998. For this reason the calculation of earnings per share for the year ended December 31, 1998 is based upon the earnings and number of shares outstanding since the beginning of the second fiscal quarter, as this is the most meaningful presentation in the opinion of management.
As of December 31, 1998 the Company had 1,400,865 options and 3,457,490 warrants outstanding.
The Company reimbursed Inter-Atlantic for expenses incurred in connection with the organization of the Company and the initial public offering of $683,000. Subsequent to the consummation of the initial public offering, a fee of $2.0 million was paid Inter-Atlantic as compensation for financial advisory services provided to the Company.
In connection with the formation of the Company, certain individuals employed by Inter-Atlantic Capital Partners, Inc. and/or Inter-Atlantic Securities Corporation purchased Class A Warrants to purchase up to an aggregate number of 3,059,990 Common Shares of the Company for consideration of $238,000.
The Company also entered into Securities Purchase Agreements with five investors ("the Strategic Investors") whereby the Strategic Investors agreed to purchase an aggregate of 5,638,299 common shares and Class B Warrants to purchase an aggregate of 397,500 common shares for consideration of $79.5 million.
During the year certain of the Company's officers purchased 163,121 shares in the Company as part of the Direct Sales.
The Company made loans to the officers totaling $1,325,000 to partially finance such purchases. The loans bear interest at 7% per annum and must be repaid within five years of the consummation of the Direct Sales, except that $175,000 of the loans must be repaid within 14 months of the consummation of the Direct Sales.
The Board of Directors has adopted a Stock Option Plan (the "Plan") under which it may grant, subject to certain restrictions, Incentive Stock Options ("ISO's") and Non-Qualified Stock Options ("NQSO's"). The aggregate number of common shares for which options may be granted under the plan is limited to 1,552,500 Common Shares. Only eligible employees of the Company are entitled to ISO'S, while NQSO's may be granted to eligible employees, non-employee Directors and consultants.
each non-employee Director shall be granted an option to purchase 2,000 Common Shares at each successive annual general meeting after December 31, 1998. These options shall have an exercise price equal to the fair market value of the optioned common shares on the date the options are granted and shall be immediately exercisable if granted after April 8, 1999. If such options are granted prior to April 8, 1999, such options shall become exercisable on such date.
During the year the Company granted 1,250,865 options to members of senior management and 150,000 options to non-employee Directors. The exercise price of the options is $15.00 per share which is equal to the fair value of the Company's Common Shares at the date of the grant. The options are exercisable in three equal annual installments commencing on the first anniversary of the grant date.
It should be noted that such retrocession agreements do not relieve the Company from its obligations to its reinsureds and failure of reinsurers to honor their obligations could result in losses to the Company. The Company evaluates the financial condition of its reinsurers and monitors any concentrations of credit risk that may develop to minimize its exposure. The other party to this retrocession agreement has a current credit rating of AA+, as assigned by A. M. Best.
During the period the Company entered into a significant life reinsurance contract and a significant deferred annuity contract. Due to the size of these contracts, there is a material concentration of net premiums, funds withheld at interest, deferred policy acquisition costs and balances related to interest- sensitive contract liabilities with the underlying parties to these two significant contracts. The underlying parties to these contracts are large insurance companies based in the United States.
Fair values for fixed maturity securities are based on quoted market prices, where available. For fixed maturity securities not actively traded, fair values are estimated using values obtained from independent pricing services.
The balance sheet captions "Funds Withheld at Interest" and "Interest Sensitive Contracts Liabilities" relate to Deferred Annuity contracts reinsured on a modified coinsurance basis. Taking into consideration the structure of the reinsurance agreement, the carrying value of the liabilities and related assets approximate their fair value.
Fair value disclosures are not required for liabilities arising from insurance contracts and, therefore, they have not been determined by the Company.
In June 1997, the Financial Accounting Standards Board (FASB) issued SFAS No. 131, "Disclosure about Segments of an Enterprise and Related Information," which is effective for the years beginning after December 15, 1997. SFAS No. 131 requires that a public company report financial and descriptive information about its reportable operating segments. Operating segments, as defined, are components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision-maker in deciding how to allocate resources and in assessing performance.
To date the Company has written a small number of life reinsurance and deferred annuity contracts. The Company views life and annuity reinsurance as one business segment and accumulates financial data for this segment when assessing performance and allocating resources. As the Company only has one business segment at the current time, management feels that the information presented in the balance sheet and statement of income is sufficient to understand the business segments of the Company.
As discussed in Note 9, the Company has entered into two significant reinsurance contracts during the period. One contract, a life reinsurance contract represents 71% of premium revenue, while another, a deferred annuity contract, represents 33% of net investment income for the period.
The Year 2000 Issue faced by the Company revolves around the extent to which the Company's computer system and third parties' computer systems that are material to the Company's operations (such as the computer systems of services providers, business partners and cedents) are capable of correctly processing information relating to dates in and after the Year 2000.
The effects of the Year 2000 Issue may be experienced before, on, or after January 1, 2000, and, if not addressed, the impact on operations and financial reporting may range from minor errors to systems failure which could affect a Company's ability to conduct normal business operations.
Under current Bermuda law neither the Company nor Annuity Reassurance is required to pay any taxes in Bermuda on either income or capital gains. The Company and Annuity Reassurance have each received an assurance from the Minister of Finance in Bermuda that in the event of any such taxes being imposed the Company will be exempted from taxation until the year 2016. The Company intends to operate in a manner such that it will owe no United States tax other than premium excise taxes and withholding taxes on certain investments.
Under The Bermuda Insurance Act, 1978, and related regulations, Annuity Reassurance is required to maintain certain levels of solvency and liquidity. The minimum statutory capital and surplus requirement of $250,000 was met at the balance sheet date.
ANNUITY AND LIFE RE (HOLDINGS), LTD. CONDENSED FINANCIAL INFORMATION OF REGISTRANT SCHEDULE II