The following selected financial data should be read in conjunction with the financial statements of GE Financial Assurance Holdings, Inc. and consolidated subsidiaries and the related Notes to the Consolidated Financial Statements.
(1) Comparability of financial information is affected by acquisitions by the Company in the periods presented. See "The Company -- Significant Acquisitions."
GE Financial Assurance is a holding company that, through its subsidiaries, provides consumers financial security solutions by selling a wide variety of insurance, investment and retirement products primarily in North America and Asia. The Company believes that changes in demographics such as the increased number of baby boomers entering middle and late middle age, longer life expectancies due to medical advances, the reduction in government- and employer-sponsored benefit programs and the increased need for estate planning for the most affluent group of retirees in history, have and will continue to increase the demand for innovative products and services to solve individual financial challenges. The Company's strategy is designed to take advantage of these trends by offering a broad array of products and services. The Company's product offerings are divided along two major segments of consumer needs: (1) Wealth Accumulation and Transfer and (2) Wealth and Lifestyle Protection.
The Company effectively began operations in 1993 with the acquisition of GNA Corporation and its principal operating company, Great Northern Insured Annuity Corporation. The Company has continued to broaden its operations through a series of acquisitions since 1993. Certain of these acquisitions have been significant to the Company in terms of their impact on the Company's consolidated results of operations.
The chart that follows summarizes the impact of these acquisitions on operating results in 1998 and 1997. For purposes of this analysis, the column "Amount Due to Acquisitions" for each year includes those acquisitions that occurred during that particular year and the acquisitions that occurred in the immediately prior year (e.g., the "Amount Due to Acquisitions" column for the year ended December 31, 1998 includes acquisitions that were completed during 1998 and the increase in 1998 resulting from the inclusion of a full year of operations with respect to acquisitions consummated in 1997 as compared with the inclusion of a partial year of operations in 1997) and the column "Consolidated Change" includes the total increase in the specified line item as compared with the prior period.
(1) Includes the initiation of operations of GE Edison Life Insurance Company in April, 1998 and inclusion of a full year of operating results in 1998 for Colonial Penn and LTC, Inc. (both acquired in November, 1997) versus one and one-half months in 1997.
PREMIUMS. Premiums, which include premium revenues from traditional life, health insurance, automobile and life contingent annuity contracts, increased $893 million, or 38.6%, to $3,207 million in 1998 from $2,314 million in 1997. This increase was as a result of: (i) a full year of operating results in 1998 relating to the 1997 acquisition of Colonial Penn, (ii) the initial operations of GE Edison Life Insurance Company commencing in April 1998 and (iii) growth in certain of the Company's life, accident and health and structured settlement products. Premiums increased $928 million, or 67.0%, to $2,314 million in 1997 from $1,386 million in 1996. This increase was driven by: (i) the 1997 acquisition of Colonial Penn, (ii) a full year of operating results in 1997 relating to the 1996 acquisitions of Life of Virginia, Union Fidelity and First Colony and (iii) growth in core premiums.
The Company's weighted average crediting rates for annuities decreased to 6.27% in 1998 from 6.46% in 1997, which had increased from 5.68% in 1996. Similarly, the Company's weighted average crediting rates for interest-sensitive life products decreased to 5.32% in 1998 from 5.34% in 1997, which had increased from 4.74% in 1996. The decrease in 1998 was driven by reductions in the Company's base crediting rates due to changes in market conditions. The increase in 1997 reflected the continued issuance of products with bonus crediting rates and redemptions of certain products with lower crediting rates. The Company monitors market conditions closely and resets interest crediting rates as deemed appropriate in accordance with the terms of the underlying contracts.
BENEFITS AND OTHER CHANGES IN POLICY RESERVES. Benefits and other changes in policy reserves includes both activity related to future policy benefits on long-duration life and health insurance products as well as claim costs incurred during the year under such contracts. These amounts increased $737 million, or 29.6%, to $3,229 million in 1998 from $2,492 million in 1997. This increase was as a result of: (i) a full year of operating results in 1998 relating to the 1997 acquisition of Colonial Penn, (ii) the initial operations of GE Edison Life Insurance Company commencing in April 1998 and (iii) growth in certain of the Company's life, accident and health and structured settlement products. Benefits and other changes in policy reserves increased $1,145 million, or 85.0%, to $2,492 million in 1997 from $1,347 million in 1996. This increase resulted from: (i) acquisitions ($935 million, primarily (a) the acquisition of Colonial Penn and (b) inclusion of a full year of operating results in 1997 relating to the 1996 Acquisitions), and (ii) increased benefit payments and other changes in policy reserves of $210 million on existing life insurance policies, annuity contracts and accident and health insurance policies.
GENERAL EXPENSES. General expenses increased $229 million, or 33.4%, to $914 million in 1998 from $685 million in 1997. This increase was primarily a result of acquisitions, including Colonial Penn and LTC, Inc., and expenses related to the Company's GE Edison operations. General expenses increased $259 million, or 60.8%, to $685 million in 1997 from $426 million in 1996. This increase resulted from a combination of: (i) the acquisition of Colonial Penn, and (ii) inclusion of a full year of operating results in 1997 relating to the 1996 Acquisitions.
CHANGE IN DEFERRED ACQUISITION COSTS, NET. Acquisition costs include costs and expenses which vary with and are primarily related to the acquisition of insurance and investment contracts, such as first year commissions in excess of renewal commissions, direct advertising and printing costs, and certain support costs such as underwriting and policy issue expenses. For accounting purposes, these costs are deferred and recognized in relation to either the premiums or gross profits from the underlying contracts. The change in net deferred acquisition costs increased $11 million, or 2.5%, to $446 million in 1998 from $435 million in 1997. This increase was primarily due to inclusion of a full
INTEREST EXPENSE. Interest expense increased $72 million to $95 million in 1998 from $23 million in 1997. This increase resulted from the inclusion of a full year of interest costs in 1998 in connection with the 1997 acquisition of Colonial Penn and the commencement of GE Edison operations in April 1998. Interest expense increased $22 million to $23 million in 1997 from $1 million in 1996. This increase resulted from the inclusion of a full year of operating results in 1997 of First Colony (acquired in 1996) and interest costs incurred in connection with the 1997 acquisition of Colonial Penn.
The following table sets forth certain summarized financial data for GE Financial Assurance's Wealth Accumulation and Transfer segment for the years ended December 31, 1998, 1997, and 1996.
Despite these acquisitions, the Company's sales of deferred fixed annuities declined 3.4% in 1998 and 5.8% in 1997. These declines were largely due to the low interest rate environment that existed in 1998 and 1997, the termination of certain exclusive annuity marketing arrangements with banks and the increased demand for variable annuities and other products which allow consumers to participate in the strong capital markets. In 1998 and 1997, the Company experienced significant growth in sales of certain immediate annuities, variable annuities and life products. Sales of single premium immediate annuities increased 33.5% and 159.9% for the year ended December 31, 1998 and 1997, respectively while sales of GICs increased 99.8% and 122.0% for the years ended December 31, 1998 and 1997. These increases were largely due to the demand for variable annuities noted above, the 1996 acquisitions and the introduction of certain new products by the Company.
The Company's principal product lines under the Wealth and Lifestyle Protection segment are (i) long-term care, (ii) supplemental accident and health insurance, (iii) personal lines of automobile insurance and (iv) credit insurance. Wealth and Lifestyle Protection products are used by customers as vehicles to protect their income and assets from the adverse economic impacts of automobile accidents and related liabilities or significant health care costs or other unanticipated events that cause temporary or permanent loss of earnings capabilities (including the ability to repay certain indebtedness).
TOTAL LIABILITIES. Total liabilities increased $5.0 billion, or 11.4%, to $49.1 billion at December 31, 1998 from $44.1 billion at December 31, 1997. The increase resulted primarily from initial operations at GE Edison Life Insurance Company and growth in existing insurance and investment products. The majority of the overall increase in total liabilities occurred in the future annuity and contract benefits, liability for policy and contract claims, short-term borrowings and separate account liability categories that are discussed in more detail below.
FUTURE ANNUITY AND CONTRACT BENEFITS. Future annuity and contract benefits increased $2.0 billion, or 5.9%, to $36.3 billion at December 31, 1998 from $34.3 billion at December 31, 1997. The increase resulted primarily from growth in certain existing insurance and investment products.
LIABILITY FOR POLICY AND CONTRACT CLAIMS. Policy and contract claims increased $0.2 billion, or 11.6%, to $1.7 billion at December 31, 1998 from $1.5 billion at December 31, 1997. Consistent with the increase in total liabilities, the increase resulted primarily from growth in certain existing insurance and investment products.
LONG-TERM DEBT. Long-term debt increased $0.5 billion to $0.7 billion at December 31, 1998 from $0.2 billion at December 31, 1997. The increase resulted primarily from financing the initial operations of GE Edison Life Insurance Company.
SEPARATE ACCOUNT LIABILITIES. The separate account liabilities represent the liability associated with the separate account assets. As discussed above, the $1.5 billion increase in such balances to $5.6 billion at December 31, 1998 relates almost entirely to increased sales and unrealized market value gains.
MINORITY INTEREST. Minority interest increased $120 million at December 31, 1998 to $123 million from $3 million at December 31, 1997 due to the recording of minority interest relating to the capitalization of GE Edison Life Insurance Company.
The principal liquidity requirements for GE Financial Assurance's insurance operations are its contractual obligations to policyholders and annuitants and its payment of dividends to policyholders. Contractual obligations include payments of surrender benefits, contract withdrawals, claims under outstanding insurance policies and annuities, and policy loans. The primary sources for meeting these contractual requirements are investment income and scheduled principal repayments from its total investment portfolio, and a portion of its premium income. To provide for additional liquidity to meet normal variations in contract obligations, GE Financial Assurance maintains cash and short-term investments. GE Financial Assurance places commercial paper in the U.S. market as a vehicle to fund certain of the Company's acquisitions.
In addition, the Company maintains committed back-up credit lines with third-party banks to support its commercial paper program and maintains committed credit lines with General Electric Capital Corporation to provide interim funding for the Company's acquisition activity and to provide liquidity to meet normal variation in contract obligations.
Historically, GE Financial Assurance has, through its operating companies, generated positive cash flows from operating and certain financing activities (including net cash provided by operating activities and cash used by redemptions and benefit payments on investment contracts, net of proceeds from issue of investment contracts). For the years ended December 31, 1998, 1997, and 1996, cash flows from operating and certain financing activities were $2,117 million, $1,028 million and $895 million, respectively. These amounts include net cash used in investing activities relating to investment contract issues and redemptions of $703 million, $923 million and $1,012 million for the years ended December 31, 1998, 1997, and 1996, respectively. These net uses of cash reflect a continued shift in customer preferences away from fixed rate investment products to investment products which include participation in the capital markets.
placement bonds not rated by either rating agency. At December 31, 1998, the Company held $1,861 million of bonds rated below investment grade (excluding split-rated bonds). In addition, the Company held $382 million of "not-rated" bonds which the Company believes are below investment grade. Below investment grade bonds include those bonds originally purchased as investment grade but subsequently downgraded in rating, as well as bonds purchased as below investment grade. The Company holds this small percentage of below investment grade bonds in order to enhance the yield on its investment portfolio.
GE Financial Assurance's ability to pay dividends to its shareholder and meet its obligations, including debt service and operating expenses, primarily depends on receiving sufficient funds from its insurance subsidiaries. Insurance companies are restricted by states as to the aggregate amount of dividends they may pay to their parent in any consecutive twelve-month period without regulatory approval. Generally, dividends may be paid out of earned surplus without approval with thirty days prior written notice within certain limits. The limits are generally based on 10% of the prior year surplus (net of adjustments in some cases) and prior year statutory income (net gain from operations, net income adjusted for realized capital gains, or net investment income). Dividends in excess of the prescribed limits or the company's earned surplus are deemed extraordinary and require formal state insurance commission approval. Based on statutory results as of December 31, 1998, the Company is able to receive $241 in dividends in 1999 without obtaining regulatory approval. See "Insurance Regulation -- General Regulation at State Level."
Year 2000 will test the capability of business processes to function correctly. The Company, with the assistance of its parent, has undertaken an effort to identify and mitigate Year 2000 issues in its information systems, products, facilities and suppliers. The Company has a Year 2000 leader who oversees a multi-functional remediation project team responsible for applying a Six Sigma quality approach in four phases: (1) define/measure- identify and inventory possible sources of Year 2000 issues; (2) analyze- determine the nature and extent of Year 2000 issues and develop project plans to address those issues; (3) improve- execute project plans and perform a majority of the testing; and (4) control complete testing, continue monitoring readiness and complete necessary contingency plans. The progress of this program is monitored and reviews with senior management are conducted monthly. The first three phases of the program have been completed for a substantial majority of mission-critical activities. Management plans to have nearly all significant information systems, products and facilities through the control phase of the program by mid-1999.
The scope of the Year 2000 effort encompasses hundreds of applications and computer programs, as well as products and services, facilities and facilities-related equipment, and suppliers and customers. Business operations are also affected by the Year 2000 readiness of customers, distribution channels and infrastructure suppliers in areas such as utilities, communications and other services. In this environment, there will likely be instances of failure that could cause disruptions in business processes for the Company's businesses. The likelihood and effects of failures in the customer base, infrastructure systems, distribution channels and in the supply chain cannot be estimated. However, with respect to operations under its direct control, management does not expect, in view of its Year 2000 program efforts and the diversity of its products, distribution channels, suppliers and customers, that occurrences of Year 2000 failures will have a material adverse effect on the financial position, results of operations or liquidity of the Company.
Total Year 2000 remediation expenditures to be incurred by the Company are expected to be approximately $47 million, of which approximately 80% was spent by the end of 1998. Substantially all of the remainder is expected to be spent in 1999. Most of these costs are not likely to be incremental costs, but rather will represent the redeployment of existing resources. The activities
The NAIC currently has a project under way to codify statutory accounting principles ("SAP"), as existing SAP does not address all accounting issues and may differ from state to state. Upon completion, the codification is expected to replace prescribed or permitted SAP in each state as the new comprehensive statutory basis of accounting for insurance companies. The final format of the codification is uncertain at this time, yet implementation could be required as early as January 1, 2001. Due to the project's uncertainty, the Company has not yet quantified the impact any such changes would have on the statutory capital and surplus or statutory results of operations of its subsidiaries. While significant uncertainties surrounding the ultimate outcome of the codification remains, management currently believes adoption of such standards would not have a material impact on the statutory capital and surplus or statutory results of operations of its subsidiaries.
The Company primarily purchases investment-grade (BBB-/Baa3 or above) bonds. At December 31, 1998, $32.6 billion, or 88.5%, of the fixed maturity securities held by the Company were bonds rated by a rating agency (S&P or Moody's), or were government/agency bonds. The remaining $4.3 billion, or 11.5%, was comprised primarily of private placement bonds not rated by either rating agency. At December 31, 1998, the Company held $1,861 million of bonds rated below investment grade (excluding split-rated bonds). In addition, the Company held $382 million of "not-rated" bonds which the Company believes are below investment grade. Below investment grade bonds include those bonds originally purchased as investment grade but subsequently downgraded in rating, as well as bonds purchased as below investment grade. The Company holds this small percentage of below investment grade bonds in order to enhance the yield on its investment portfolio.
Investments in mortgage-backed securities include $6,965 million in collateralized mortgage obligations (CMOs) and asset-backed securities and $938 million of pass-through securities. These securities are secured primarily by pools of residential mortgages and generally carry high credit ratings. Approximately 32% of the mortgage-backed securities are backed by securities issued by Government National Mortgage Association, Federal Home Loan Mortgage Corporation, or Federal National Mortgage Association. In the aggregate, the mortgage-backed securities had an average rating of AAA/Aaa at December 31, 1998. Most CMO and pass-through securities are subject to prepayment and extension risk (i.e., principal can be received earlier or later than anticipated, based on the rate of mortgage prepayments in the underlying residential mortgage pools).
The Company has classified all of its fixed maturity and equity securities as available-for-sale. Therefore, these securities are carried on the balance sheet at current fair values and marked to market quarterly. Changes in market value, net of the effect on present value of future profits, deferred policy acquisition costs and deferred income taxes, are recorded as unrealized appreciation or depreciation directly in shareholder's interest and, accordingly, have no effect on net income, but is shown as a separate component of accumulated non-owner changes in equity. At December 31, 1998, the amortized cost basis of the Company's fixed maturity securities was $35,568 million, representing net unrealized gains of $1,330 million, while the cost basis of equity securities was $340 million, representing net unrealized gains of $21 million.
Other invested assets of $748 million at December 31, 1998 were comprised of several types of assets. The Company has made investments in mutual funds offered by the Company's mutual fund and variable annuity distribution channels of ($151 million) in order to provide seed money for these funds. Pursuant to a periodic review of its asset allocation strategy, the Company has also made investments in limited partnerships ($444 million) and real estate and other properties ($24 million) in order to achieve higher investment returns on an incremental portion of the portfolio.
Equity Securities -- Available-For-Sale(3) Common Stock........................................... 47 .1 Preferred Stock, Non-Redeemable ....................... 314 .7 ---------------------
(2) Mortgage-backed securities are comprised of CMOs ($6,965 million) and pass-throughs securities ($938 million).
Total Average Invested Assets (1) .............. $39,544 $36,641 $24,144 Net Investment Income (2) (4) .................. $2,896 $2,755 $1,773 Effective Yield (3) ............................ 7.6% 7.8% 7.6% Net Realized Investment Gains (4)............... $116 $77 $15
The following table sets forth scheduled maturities for the Company's investments in fixed maturities at December 31, 1998.
DECEMBER 31, 1998 FAIR MARKET PERCENTAGE VALUE OF TOTAL (DOLLARS IN MILLIONS)
Expected maturities may differ from scheduled maturities because issuers of securities may have the right to call or prepay obligations with or without call or prepayment penalties. At December 31, 1998, $8,756 million of the Company's investments (excluding mortgage-backed securities) were subject to certain call provisions.
PAGE ---- Independent Auditors' Report......................................... 45 Consolidated Balance Sheets.......................................... 46 Consolidated Statements of Income ................................... 47 Consolidated Statements of Shareholder's Interest.................... 48 Consolidated Statements of Cash Flows................................ 49 Notes to Consolidated Financial Statements........................... 50 Independent Auditors' Report on Financial Statement Schedules........ 79 Schedule II, Condensed Financial Information (Parent Company)........ 80 Schedule III, Supplemental Insurance Information..................... 84
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of GE Financial Assurance Holdings, Inc. and subsidiaries as of December 31, 1998 and 1997, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1998 in conformity with generally accepted accounting principles.
The accompanying consolidated financial statements include the historical operations and accounts of GE Financial Assurance Holdings, Inc. and its subsidiaries (collectively the "Company"). Significant subsidiaries of the Company include General Electric Capital Assurance Company (whose significant subsidiaries include Great Northern Insured Annuity Corporation, GE Capital Life Assurance Company of New York, Federal Home Life Insurance Company and subsidiaries, The Life Insurance Company of Virginia and subsidiary, and First Colony Life Insurance Company and subsidiaries), GNA Corporation, Union Fidelity Life Insurance Company, GE Edison Life Insurance Company and Colonial Penn Insurance Company. All significant intercompany accounts and transactions have been eliminated in consolidation.
These consolidated financial statements have been prepared on the basis of generally accepted accounting principles (GAAP) for insurance companies, which vary in several respects from accounting practices prescribed or permitted by the Insurance Commissioners of the states where the Company's insurance subsidiaries are domiciled. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts and related disclosures. Actual results could differ from those estimates. Certain prior year amounts have been reclassified to conform to the current year presentation.
GE Capital completed the acquisition of 100% of GNA Corporation's capital stock effective April 1993 for a purchase price of $577 and subsequently acquired 100% of the capital stock of the following companies. Concurrent with each acquisition, GE Capital contributed its ownership to the Company.
The results of the acquired companies are included in the accompanying consolidated financial statements from each respective date of acquisition.
Effective December 1996, the Company completed the acquisition of 100% of the capital stock of First Colony Life Insurance Company (First Colony) for a purchase price of $1,897. GE Capital contributed the purchase price for this acquisition. The results of First Colony are included in the accompanying consolidated financial statements effective December 1, 1996.
The pro-forma information has been prepared based upon assumptions management deems appropriate and the results are not necessarily indicative of those that might have occurred had the transactions become effective at the beginning of each respective year.
On March 30, 1998, the Company and Toho Mutual Life Insurance Company ("Toho"), a Japanese insurer jointly capitalized a new insurance company ("GE Edison Life Insurance Company") that sells life, health and annuity products in the Japanese market. In connection with this agreement, the Company paid Toho $547 million to acquire the operating infrastructure and $13 million to purchase certain tangible assets. GE Edison Life Insurance Company will originate and underwrite all of the new business activity. Existing Toho business remains with Toho with the exception of certain term life insurance business ceded to GE Edison Life Insurance Company as described below. The Company's investment in GE Edison Life Insurance Company includes 90% of the entity's voting interest. Additionally, the Company paid Toho a ceding commission of $400 million in exchange for Toho transferring 50% of certain term life insurance reserves and certain other liquid assets approximating $391 million. GE Edison Life Insurance Company also entered into an agreement with Toho, which contains certain modified coinsurance arrangements. These blocks of existing term life insurance provided an initial operations base for GE Edison Life Insurance Company.
Wealth and Lifestyle Protection products are products intended to protect accumulated wealth and income from the financial drain of unforeseen events. The Company's principal product lines under the Wealth and Lifestyle Protection segment are long-term care, supplementary accident and health insurance, personal lines of automobile insurance and credit insurance (life and health).
Certificates and other time deposits are classified as short-term investments on the consolidated balance sheets and considered cash equivalents in the consolidated statements of cash flows.
Changes in the market values of investments available-for-sale, net of the effect on deferred policy acquisition costs, present value of future profits and deferred federal income taxes are reflected as unrealized investment gains or losses in a separate component of shareholder's interest and, accordingly, have no effect on net income, but are shown as a component of accumulated non-owner changes in equity. Unrealized losses that are considered other than temporary are recognized in earnings through an adjustment to the amortized cost basis of the underlying securities. The Company engages in certain securities lending transactions, which require the borrower to provide collateral, primarily consisting of cash and government securities, on a daily basis, in amounts equal to or exceeding 102% of the market value of the applicable securities loaned.
Acquisition costs include costs and expenses that vary with and are primarily related to the acquisition of insurance and investment contracts. Such costs are deferred and amortized as follows:
Long-duration contracts -- Acquisition costs include first-year commissions in excess of recurring renewal commissions, certain solicitation and printing costs, and certain support costs such as underwriting and policy issue expenses. For investment and universal life type contracts, amortization is based on the present value of anticipated gross profits from investments, interest credited, surrender and other policy charges, and mortality and maintenance expenses. Amortization is adjusted retroactively when current or estimates of future gross profits to be realized are revised. For other long-duration insurance contracts, the acquisition costs are amortized in relation to the estimated benefit payments or the present value of expected future premiums.
Deferred taxes are allocated to individual subsidiaries by applying the asset and liability method of accounting for deferred income taxes. Intercompany balances are settled annually.
The separate account assets and liabilities represent funds held for the exclusive benefit of the variable annuity and variable life contract owners. The Company receives mortality risk fees and administration charges from the variable mutual fund portfolios. The separate account assets are carried at fair value and are equal to the liabilities that represent the policyholders' equity in those assets.
Minority interest relates to a certain ownership interest in a reinsurance subsidiary of the Company, acquired in 1996 and certain ownership interest in the Company's operations in Japan initiated in 1998.
For the years ended December 31, the sources of investment income of the Company were as follows: 1998 1997 1996 ---- ---- ----
Sales proceeds $4,668 $2,680 $2,144 ------------------------- Gross realized investment: Gains $211 $114 $53 Losses (95) (37) (38) ------------------------- Net realized investment gains $116 $77 $15 =========================
AMORTIZED FAIR COST VALUE ---- ----- Due in one year or less $1,192 $1,204 Due one year through five years 6,412 6,599 Due five years through ten years 5,114 5,220 Due after ten years 15,186 15,972 ---------------------- Subtotals 27,904 28,995 Mortgage-backed securities 7,664 7,903 ---------------------- Totals $35,568 $36,898 ======================
As required by law, the Company has investments on deposit with governmental authorities and banks for the protection of policyholders of $80 and $74 at December 31, 1998 and 1997, respectively.
At December 31, 1998, approximately 26.1%, 15.2% and 12.0% of the Company's investment portfolio is comprised of securities issued by the manufacturing, utility and financial industries, respectively, the vast majority of which are rated investment grade, and which are senior secured bonds. No other industry group comprises more than 10% of the Company's investment portfolio. This portfolio is widely diversified among various geographic regions in the United States, and is not dependent on the economic stability of one particular region.
At December 31, 1998, the Company did not hold any fixed maturity securities, other than securities issued or guaranteed by the U.S. government, which exceeded 10% of shareholder's interest.
At December 31, 1998 and 1997, the Company's mortgage loan portfolio consisted of 1,878 and 1,898, respectively, first mortgage loans on commercial real estate properties. The loans, which are originated by the Company through a network of mortgage bankers, are made only on completed, leased properties and generally have a maximum loan-to-value ratio of 75% at the date of origination.
At December 31, 1998 and 1997, respectively, the Company held $773 and $678 in mortgages secured by real estate in California, comprising 26% and 25% of the respective total mortgage portfolio. For the years ended December 31, 1998, 1997 and 1996, respectively, the Company originated $222, $160 and $103 of mortgages secured by real estate in California, which represent 29%, 29% and 21% of the respective total originations for those years.
Under these principles, the Company has two types of "impaired" loans: loans requiring allowances for losses ($0 as of December 31, 1998 and 1997) and loans expected to be fully recoverable because the carrying amount has been reduced previously through charge-offs or deferral of income recognition ($21 and $30, as of December 31, 1998 and 1997, respectively). The Company had no allowance for losses on these loans as of December 31, 1998 and 1997. Average investment in impaired loans during 1998, 1997 and 1996 was $26, $29 and $34, respectively and interest income earned on these loans while they were considered impaired was $2, $3 and $1, respectively.
Unamortized balance at January 1 $945 $498 $216 Acquisition of Colonial Penn --- 12 --- Impact of foreign currency translation 9 --- --- Costs deferred 637 549 341 Amortization, net (191) (114) (59) ------------------------
At December 31, 1998 and 1997, total unamortized goodwill was $1,803 and $1,738, respectively, which is shown net of accumulated amortization of $162 and $94, respectively. Goodwill amortization was $68, $44 and $25 for the years ended December 31, 1998, 1997 and 1996, respectively. Goodwill in excess of associated expected operating cash flows is considered to be impaired and is written down to fair value (no such write-downs have been made).
In order to limit the amount of loss retention, certain policy risks are reinsured with other insurance companies. The maximum amount of individual ordinary life insurance normally retained by the Company on any one life policy is $1. Reinsurance contracts do not relieve the Company from its obligations to policyholders. In the event that the reinsurers would be unable to meet their obligations, the Company is liable for the reinsured claims. The Company monitors both the financial condition of individual reinsurers and risk concentrations arising from similar geographic regions, activities and economic characteristics of reinsurers to lessen the risk of default by such reinsurers. The Company does not have significant reinsurance contracts with any one reinsurer that could have a material impact on its results of operations.
Direct life insurance in force $306,566 $292,825 $262,576 Amounts ceded to other companies (96,931) (79,656) (77,143) Amounts assumed from other companies 40,290 38,301 29,974 ------------------------------------- Net life insurance in force $249,925 $251,470 $215,407 ===================================== Percentage of amount assumed to net 16% 15% 14% =====================================
(d) The 1983 Individual Annuitant Mortality Table or 1980 Commissioner's Standard Ordinary Table and the 1985 National Nursing Home Study or Company experience.
Additional financing for the GE Edison Life Insurance Company transaction was obtained by the issuance of a long-term note of the Company to GE Capital. The long-term note in the amount of (Y)57.25 billion ($440 at December 31, 1998), matures in March 2008 and pays interest at a floating rate based on a spread above the three month Japanese Yen London Inter-Bank Offered Rate ("JPY LIBOR"), or a total of 0.93% at December 31, 1998.
EFFECTIVE BORROWINGS (including swaps) 1998 1997 ---- ---- Short-term $ 622 $454 Long-term (including current portion) - fixed rate (a) 1,406 883
- ---------- (a) Includes the notional amount of long-term interest rate swaps that effectively convert the floating-rate nature of short-term borrowings to fixed rates of interest.
Statutory U.S. federal income tax rate 35.0% 35.0% 35.0% State income tax 0.4 0.3 0.4 Non-deductible goodwill amortization 1.6 1.9 2.2 Other, net 1.0 0.8 0.2 ---------------------- Effective rate 38.0% 38.0% 37.8% ======================
There are currently several unrelated insurance companies which had substantial amounts of annuity business in the process of liquidation or rehabilitation. The Company's insurance subsidiaries paid assessments of $12, $14 and $9 to various state guaranty associations during the years 1998, 1997 and 1996, respectively. At December 31, 1998 and 1997, accounts payable and accrued expenses include $90 and $102, respectively, related to estimated future assessments.
The Company leases a portion of the office space and certain equipment used in its operations under operating lease arrangements. Lease expense for the years ended December 31, 1998, 1997 and 1996 amounted to $44, $20 and $13, respectively.
Future minimum commitments under operating leases as of December 31, 1998 are summarized as follows:
In conjunction with the agreement to purchase the infrastructure and capitalize GE Edison Life Insurance Company in March 1998, a subsidiary of the Company has agreed to issue certain subsidiary preferred stock to the sellers in an amount up to (Y)56.0 billion ($478.6 at December 31, 1998) for a period from 1999 till 2004. These payments are contingent upon certain performance measurements. The contingent consideration, if any, will be accounted for prospectively, as additional purchase price, which will result in amortization over the remaining goodwill life.
The fair values of financial instruments presented in the applicable notes to the Company's consolidated financial statements are estimates of the fair values at a specific point in time using available market information and valuation methodologies considered appropriate by management. These estimates are subjective in nature and involve uncertainties and significant judgment in the interpretation of current market data. Therefore, the fair values presented are not necessarily indicative of amounts the Company could realize or settle currently. The Company does not necessarily intend to dispose of or liquidate such instruments prior to maturity.
Financial instruments that, as a matter of accounting policy, are reflected in the accompanying consolidated financial statements at fair value are not included in the following disclosures. Such items include fixed maturities, equity securities and certain other invested assets. The carrying value of policy loans, short-term investments, certain other invested assets, short-term borrowings and long-term debt approximates fair value at December 31, 1998 and 1997, respectively.
1998 1997 ---- ---- FINANCIAL INSTRUMENTS CARRYING FAIR CARRYING FAIR - --------------------- AMOUNT VALUE AMOUNT VALUE -------- ------- --------- ------ Mortgage loans $2,960 $3,172 $2,667 $2,736 Investment contracts 19,256 19,176 18,861 18,714 European style call options 71 71 25 25 Interest rate floors 46 46 --- --- Swap options 12 4 --- ---
The fair value of mortgage loans is estimated by discounting the estimated future cash flows using interest rates applicable to current loan originations, adjusted for credit risks.
During 1998, the Company received $120 of cash dividends from one of its subsidiaries and paid $120 of cash dividends to its parent, GE Capital.
Combined statutory net income for the Company's insurance subsidiaries for the years ended December 31, 1998, 1997 and 1996 was $431, $412 and $255, respectively. The combined statutory capital and surplus as of December 31, 1998 and 1997 was $3,268 and $3,130, respectively.
The NAIC has adopted Risk-Based Capital (RBC) requirements to evaluate the adequacy of statutory capital and surplus in relation to risks associated with: (i) asset quality, (ii) insurance risk, (iii) interest rate risk, and (iv) other business factors. The RBC formula is designated as an early warning tool for the states to identify possible under-capitalized companies for the purpose of initiating regulatory action. In the course of operations, the Company periodically monitors the RBC level of each of its insurance subsidiaries. At December 31, 1998 and 1997, each of the Company's insurance subsidiaries exceeded the minimum required RBC levels.
At year-end 1998, the Company adopted Statement of Financial Accounting Standards ("SFAS") No. 131, DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION, which requires segment data to be measured and analyzed on a basis that is consistent with how business activities are reported internally to management.
The Company conducts its operations through two business segments: (1) Wealth Accumulation and Transfer, comprised of products intended to increase the policyholder's wealth, transfer wealth to beneficiaries or provide a means for replacing the income of the insured in the event of premature death, and (2) Wealth and Lifestyle Protection, comprised of products intended to protect accumulated wealth and income from the financial drain of unforeseen events. See Note (1)(d) for further discussion of the Company's principal product lines within these two segments.
NORTH AMERICA ASIA CONSOLIDATED -------------- ---- -------------- Total revenues $6,437 $235 $6,672 Income before income taxes 802 (9) 793 Total assets 54,776 1,951 56,727
During 1998, The Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 133, ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES. This Statement requires that, upon adoption, all derivative instruments (including certain derivative instruments embedded in other contracts) be recognized in the balance sheet at fair value, and that changes in such fair values be recognized in earnings unless specific hedging criteria are met. Changes in the values of derivatives that meet these hedging criteria will ultimately offset related earnings effects of the hedged items; effects of certain changes in fair value are recorded in equity pending recognition in earnings. The Company will adopt the Statement on January 1, 2000. The impact of adoption will be determined by several factors, including the specific hedging instruments in place and their relationships to hedged items, as well as market conditions. Management has not estimated the effects of adoption, as it believes that such determination will not be meaningful until closer to the adoption date.
In December 1997, the American Institute of Certified Public Accountants issued a new Statement of Position (SOP) 97-3, ACCOUNTING BY INSURANCE AND OTHER ENTERPRISES FOR INSURANCE-RELATED ASSESSMENTS. This SOP provides guidance on accounting by insurance and other enterprises for guaranty-fund and certain other insurance related assessments. The SOP requires enterprises to recognize (1) a liability for assessments when (a) an assessment has been asserted or information available prior to issuance of the financial statements indicates it is probable that an assessment will be asserted, (b) the underlying cause of the asserted or probable assessment has occurred on or before the date of the financial statements, and (c) the amount of the loss can be reasonably estimated and (2) an asset for an amount when it is probable that a paid or accrued assessment will result in an amount that is recoverable from premium tax offsets or policy surcharges from in-force policies. This SOP is effective for financial statements for fiscal years beginning after December 15, 1998 and will be reported in a manner similar to a cumulative effect of a change in accounting principle in the initial year of adoption. As a result of the adoption of this SOP, the Company expects to record an asset of approximately $25, net of tax.
On December 31, 1998, the Company reached an agreement to acquire Professional Insurance Company from Pacific Life and Accident Insurance Company during the first quarter of 1999 for approximately $48. Professional Insurance Company is a worksite insurance provider based in Raleigh, N.C.
On January 1, 1999, Great Northern Insured Annuity Corporation (previously a wholly owned subsidiary of General Electric Capital Assurance Company) merged into General Electric Capital Assurance Company and The Harvest Life Insurance Company (previously a subsidiary of Federal Home Life Insurance Company) merged into The Life Insurance Company of Virginia. Also, PHF Life Insurance Company (previously a subsidiary of Federal Home Life Insurance Company) merged into UFLIC. Simultaneously with the aforementioned mergers, The Life Insurance Company of Virginia was renamed GE Life and Annuity Assurance Company. These mergers and name change were approved by all applicable state insurance regulatory departments.
Under date of January 22, 1999, we reported on the consolidated balance sheets of GE Financial Assurance Holdings, Inc. and subsidiaries as of December 31, 1998 and 1997, and the related consolidated statements of income, shareholder's interest, and cash flows for each of the years in the three-year period ended December 31, 1998, which are included herein. In connection with our audits of the aforementioned consolidated financial statements, we also audited the related consolidated financial statement schedules included herein. These financial statement schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statement schedules based on our audits.
December 31, ASSETS: 1998 1997 ---- ---- Investment in subsidiaries $ 8,705 $ 8,056 Other assets 472 116 ------- ------- Total assets $ 9,177 $ 8,172 ======= ======= LIABILITIES AND SHAREHOLDER'S INTEREST: Liabilities: Short-term borrowings $ 1,330 $ 1,162 Accounts payable and accrued expenses 392 52 ------- ------- Total liabilities 1,722 1,214 ------- ------- Shareholder's interest: Net unrealized investment gains 713 661 Foreign currency translation adjustments 73 - ------- ------- Accumulated non-owner changes in equity 786 661 Common stock ($1 par value, 1,000 authorized, 1,000 shares issued and outstanding) - - Additional paid-in capital 5,435 5,435 Retained earnings 1,234 862 ------- ------- Total shareholder's interest 7,455 6,958 ------- ------- Total liabilities and shareholder's interest $ 9,177 $ 8,172 ======= =======
All of the outstanding common stock of GE Financial Assurance Holdings, Inc. (GE Financial Assurance) is owned by General Electric Capital Corporation (GE Capital), a wholly-owned subsidiary of General Electric Capital Services, Inc., which in turn is a wholly-owned subsidiary of General Electric Company. GE Financial Assurance was formed by GE Capital in October 1996. GE Capital subsequently contributed its wholly-owned subsidiary, GNA Corporation, to GE Financial Assurance. These parent company financial statements reflect the combination of GE Financial Assurance and GNA Corporation at historical cost on an as-if-pooled basis; accordingly, the accompanying parent company financial statements include the accounts and operations of GNA Corporation for all periods presented.