(1) Includes $71.8 million, $81.9 million and $67.4 million for 1996, 1995 and 1994, respectively, for annuity premiums on contracts converting from the accumulation phase to payout options with life contingencies. (2) Excludes net unrealized capital gains (losses) of $366.4 million, $797.1 million and $(386.4) million at December 31, 1996, 1995 and 1994, respectively. (3) Includes $4,724.8 million, $2,604.2 million and $902.9 million at December 31, 1996, 1995 and 1994, respectively, related to assets held and managed by unaffiliated mutual funds.
(1) Includes $71.8 million, $81.9 million and $67.4 million for 1996, 1995 and 1994, respectively, for annuity premiums on contracts converting from the accumulation phase to payout options with life contingencies. (2) Excludes any effect of the corporate facilities and severance charge recorded in 1996 which is not directly allocable to the segment. (3) Excludes net unrealized capital gains (losses) of $321.1 million, $689.9 million and $(337.7) million at December 31, 1996, 1995 and 1994, respectively. (4) Includes $4,633.2 million, $2,577.7 million and $892.5 million at December 31, 1996, 1995 and 1994, respectively, related to assets held and managed by unaffiliated mutual funds.
Earnings, excluding the after-tax severance and facilities charge of $21.5 million (see Note 7 in the Notes to Consolidated Financial Statements) and net realized capital gains, increased by 16% and 6% in 1996 and 1995, respectively. The increases in 1996 and 1995 earnings reflect increased charges assessed against policyholders due to growth in assets under management. Assets under management increased from continued business growth through deposits and appreciation in the stock market. Such improved earnings in 1996 also reflect increased interest margins, primarily related to experience rated contracts. Partially offsetting the favorable increases in charges assessed against policyholders were increased operating expenses associated with business growth and, in 1996, investments in nontraditional distribution channels such as brokers/dealers and banks.
Deposits relate to annuity contracts not containing life contingencies. Deposits increased 27% in 1996, reflecting continued business growth. The increase in 1995 reflected the acquisition of a $300.1 million variable annuity block of business.
Premiums relate to traditional life insurance. Premiums were level in 1996 as increased premiums related to term insurance products were offset by declining traditional whole life insurance premiums. Premiums decreased by 11% in 1995 which is primarily due to lower traditional whole life insurance premiums.
It is management's objective that the portfolio of debt securities be of high quality and be well-diversified by market sector. The debt securities in the Company's portfolio are generally rated by external rating agencies, and, if not externally rated, are rated by the Company on a basis believed to be similar to that used by the rating agencies. The average quality rating of the Company's debt security portfolio at both December 31, 1996 and 1995 was AA-.
AAA 47.3% AA 10.5 A 23.9 BBB 11.9 BB 4.3 B and Below 2.1 ----------- 100.0% ===========
Debt Securities Investments by Market Sector at December 31, 1995 - -------------------------------------------------------------------------------- U.S. Corporate Securities 44.7% Residential Mortgage-Backed Securities 25.2 Foreign Securities - U.S. Dollar Denominated 11.1 Asset-Backed Securities 7.9 Commercial/Multifamily Mortgage- Backed Securities 6.1 U.S. Treasuries/Agencies 4.6 Other 0.4 ----- 100.0% =====
In 1996, the Company reduced its investments in U.S. Corporate Securities and increased its investments in U.S. dollar denominated foreign securities, U.S. Treasuries/Agencies and commercial/multifamily mortgage-backed securities. Investments in residential mortgage-backed securities and asset-backed securities also decreased (see Note 2 of the Notes to the Consolidated Financial Statements).
The portfolio of debt securities at December 31, 1996 and 1995 included $837.0 million and $662.5 million, respectively, (6% and 5%, respectively, of the debt securities) of investments that are considered "below investment grade". "Below investment grade" securities are defined to be securities that carry a rating below BBB-/Baa3, by Standard & Poors/Moody's Investor Services, respectively. Of these below investment grade assets, $16.5 million and $14.5 million, at December 31, 1996 and 1995, respectively, were investments that were purchased at investment grade, but whose ratings have since been downgraded.
The liquidity needs of the Company's businesses have generally been met by cash provided by premiums, deposits, asset maturities and income received on investments. Cash provided from these sources is used primarily for benefit payments, contract withdrawals and operating expenses.
The Company's cash flow requirements for 1996 were met by funds provided from operations, from the maturity and sale of investments and from financing activities.
The Company has no debt. The Company received a capital contribution of $10.4 million in cash from HOLDCO in 1996. The Company received no capital contributions in 1995 or 1994. (See Note 10 of Notes to Consolidated Financial Statements).
Consolidated Statements of Income for the Years Ended December 31, 1996, 1995 and 1994 25
Consolidated Statements of Changes in Shareholder's Equity for the Years Ended December 31, 1996, 1995 and 1994 27
Consolidated Statements of Cash Flows for the Years Ended December 31, 1996, 1995 and 1994 28
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Aetna Life Insurance and Annuity Company and Subsidiaries as of December 31, 1996 and 1995, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1996, in conformity with generally accepted accounting principles.
Revenue: Premiums $133.6 $212.7 $191.6 Charges assessed against policyholders 396.5 318.9 279.0 Net investment income 1,045.6 1,004.3 917.2 Net realized capital gains 19.7 41.3 1.5 Other income 45.4 42.0 10.3 ------- ------- ------- Total revenue 1,640.8 1,619.2 1,399.6 ------- ------- -------
Benefits and expenses: Current and future benefits 968.6 997.2 921.5 Operating expenses 342.2 310.8 225.7 Amortization of deferred policy acquisition costs 69.8 48.0 31.5 Severance and facilities charges 61.3 -- -- ------- ------- ------- Total benefits and expenses 1,441.9 1,356.0 1,178.7 ------- ------- -------
Investments: Debt securities, available for sale: (amortized cost: $12,539.1 and $11,923.7) $12,905.5 $12,720.8 Equity securities, available for sale: Non-redeemable preferred stock (cost: $107.6 and $51.3) 119.0 57.6 Investment in affiliated mutual funds (cost: $77.3 and $173.4) 81.1 191.8 Common stock (cost: $0.0 and $6.9) 0.3 8.2 Short-term investments 34.8 15.1 Mortgage loans 13.0 21.2 Policy loans 399.3 338.6 --------- --------- Total investments 13,553.0 13,353.3
Years Ended December 31, ----------------------------------- 1996 1995 1994 ---- ---- ----
Common stock dividends declared (3.5) (2.9) -- -------- -------- -------- Shareholder's equity, end of year $1,609.5 $1,583.0 $1,088.5 ======== ======== ========
Individual life insurance products include universal life, variable universal life, traditional whole life and term insurance.
All of the Company's debt and equity securities are classified as available for sale and carried at fair value. These securities are written down (as realized capital losses) for other than temporary declines in value. Unrealized capital gains and losses related to available for sale other than amounts allocable to experience rated contractholders, are reflected in shareholder's equity, net of related taxes.
Fair values for debt and equity securities are based on quoted market prices or dealer quotations. Where quoted market prices or dealer quotations are not available, fair values are measured utilizing quoted market prices for similar securities or by using discounted cash flow methods. Cost for mortgage-backed securities is adjusted for unamortized premiums and discounts, which are amortized using the interest method over the estimated remaining term of the securities, adjusted for anticipated prepayments.
The investment in affiliated mutual funds primarily represents an investment in the Aetna Series Fund, Inc., a retail mutual fund which has been seeded by the Company, and is carried at fair value.
Swap agreements which are designated as interest rate risk management instruments at inception are accounted for using the accrual method. Accordingly, the difference between amounts paid and received on such agreements is reported in net investment income. There is no recognition in the Consolidated Balance Sheets for changes in the fair value of the agreement.
Certain costs of acquiring insurance business are deferred. These costs, all of which vary with and are primarily related to the production of new and renewal business, consist principally of commissions, certain expenses of underwriting and issuing contracts, and certain agency expenses. For fixed ordinary life contracts, such costs are amortized over expected premium-paying periods (up to 20 years). For universal life and certain annuity contracts, such costs are amortized in proportion to estimated gross profits and adjusted to reflect actual gross profits over the life of the contracts (up to 20 years).
Future Policy Benefits include reserves for universal life, immediate annuities with life contingent payouts and traditional life insurance contracts. Reserves for universal life contracts are equal to cumulative deposits less charges and withdrawals plus credited interest thereon. Reserves for immediate annuities with life contingent payouts and traditional life insurance contracts are computed on the basis of assumed investment yield, mortality, and expenses, including a margin for adverse deviations. Such assumptions generally vary by plan, year of issue and policy duration. Reserve interest rates range from 2.25% to 12.00%. Investment yield is based on the Company's experience. Mortality and withdrawal rate assumptions are based on relevant Aetna experience and are periodically reviewed against both industry standards and experience.
Policyholders' Funds Left With the Company include reserves for deferred annuity investment contracts and immediate annuities without life contingent payouts. Reserves on such contracts are equal to cumulative deposits less charges and withdrawals plus credited interest thereon (rates range from 4.00% to 7.00%), net of adjustments for investment experience that the Company is entitled to reflect in future credited interest. Reserves on contracts subject to experience rating reflect the rights of contractholders, plan participants and the Company.
Assets held under variable universal life and variable annuity contracts are segregated in Separate Accounts and are invested, as designated by the contractholder or participant under a contract, in shares of Aetna Variable Fund, Aetna Income Shares, Aetna Variable Encore Fund, Aetna Investment Advisers Fund, Inc., Aetna GET Fund, the Aetna Series Fund Inc., or the Aetna Generation Funds (collectively, "Funds"), which are managed by the Company, or other selected mutual funds not managed by the Company.
Separate Accounts assets and liabilities are carried at fair value except for those relating to a guaranteed interest option. Since the Company bears the investment risk where the contract is held to maturity, the assets of the Separate Account supporting the guaranteed interest option are carried at an amortized cost of $515.6 million for 1996 (fair value $523.0 million) and $322.2 million for 1995 (fair value $343.9 million). Reserves relating to the guaranteed interest option are maintained at fund value and reflect interest credited at rates ranging from 4.10% to 8.00% in 1996 and 4.50% to 8.38% in 1995.
Debt securities available for sale as of December 31, 1996 were as follows:
The carrying value of non-income producing investments was $0.9 million and $0.1 million at December 31, 1996 and 1995, respectively.
There are various categories of CMOs which are subject to different degrees of risk from changes in interest rates and, for nonagency-backed CMOs, defaults. The principal risks inherent in holding CMOs are prepayment and extension risks related to dramatic decreases and increases in interest rates resulting in the repayment of principal from the underlying mortgages either earlier or later than originally anticipated.
Gross Gross Amortized Unrealized Unrealized Fair Cost Gains Losses Value ---- ---------- ---------- ----- (millions) Equity Securities $ 184.9 $ 16.3 $ 0.8 $ 200.4 ======= ======= ======= ======= Equity Securities $ 231.6 $ 27.2 $ 1.2 $ 257.6 ======= ======= ======= =======
Investment contract liabilities (included in Policyholders' Funds Left With the Company):
Futures contracts represent commitments to either purchase or sell underlying assets at a specified future date. Futures contracts trade on organized exchanges and, therefore, have minimal credit risk. Cash settlements are made daily based on changes in the prices of the underlying assets. There were no futures contracts open as of December 31, 1996 and 1995.
Under interest rate swaps, the Company agrees with other parties to exchange interest amounts calculated by reference to an agreed notional principal amount. Generally, no cash is exchanged at the outset of the contract and no principal payments are made. A single net payment is usually made by one counterparty at each due date or upon termination of the contract. The Company would be exposed to credit-related losses in the event of nonperformance by counterparties to financial instruments, however, the Company controls its exposure to credit risk through credit approvals, credit limits and regular monitoring procedures. The credit exposure of interest rate swaps is represented by the fair value (market value) of contracts with a positive fair value (market value) at the reporting date. There were no interest rate swap agreements open as of December 31, 1996. At December 31, 1995, the Company had an open forward swap agreement with a notional amount of $100.0 million and a fair value of $0.1 million.
Debt securities $ 945.3 $ 891.5 $ 823.9 Preferred stock 5.9 4.2 3.9 Investment in affiliated mutual funds 14.3 14.9 5.2 Mortgage loans 2.2 1.4 1.4 Policy loans 18.4 13.7 11.5 Reinsurance loan to affiliate 44.1 46.5 51.5 Cash equivalents 29.4 38.9 29.5 Other 2.1 8.4 6.7 -------- -------- -------- Gross investment income 1,061.7 1,019.5 933.6 Less investment expenses (16.1) (15.2) (16.4) -------- -------- -------- Net investment income $1,045.6 $1,004.3 $ 917.2 ======== ======== ========
Net investment income includes amounts allocable to experience rated contractholders of $787.6 million, $744.2 million and $677.1 million for the years ended December 31, 1996, 1995 and 1994, respectively. Interest credited to contractholders is included in Current and Future Benefits.
As of December 31, 1996 the Company does not utilize any statutory accounting practices which are not prescribed by state regulatory authorities that, individually or in the aggregate, materially affect statutory capital and surplus.
Changes to the mortgage loan valuation reserve and writedowns on debt securities for other than temporary declines in value are included in net realized capital gains (losses) and amounted to $(3.3) million, $3.1 million and $1.1 million, of which $(3.2) million, $2.2 million and $0.8 million were allocable to experience rated contractholders, for the years ended December 31, 1996, 1995 and 1994, respectively. There was no valuation reserve for mortgage loans at December 31, 1996 or at December 31, 1995.
Proceeds on Sales $5,182.2 $4,207.2 $3,593.8 Gross gains 24.3 44.6 26.6 Gross losses 13.2 11.8 25.6
Debt securities $ (100.1) $ 255.9 $ (242.1) Equity securities (10.5) 27.3 (13.3) Limited partnership -- 1.8 (1.8) -------- -------- -------- (110.6) 285.0 (257.2)
Deferred income taxes (See Note 8) (38.6) (36.5) 46.3 -------- -------- -------- Net change in unrealized capital gains (losses) $ (72.0) $ 321.5 $ (303.5) ======== ======== ========
1996 1995 1994 ---- ---- ---- (millions) Debt securities Gross unrealized capital gains $101.7 $179.3 $ 27.4 Gross unrealized capital losses (23.8) (1.3) (105.2) ------ ------ -------- 77.9 178.0 (77.8) Equity securities Gross unrealized capital gains 16.3 27.2 6.5 Gross unrealized capital losses (0.8) (1.2) (7.9) ------ ------ -------- 15.5 26.0 (1.4) Limited Partnership -- -- -- Gross unrealized capital gains -- -- -- Gross unrealized capital losses -- -- (1.8) ------ ------ -------- -- -- (1.8)
Net unrealized capital gains (losses) $ 60.5 $132.5 $(189.0) ====== ====== ========
Reserve Positions --------------------------------------------------------------------------- Beginning of year $ -- -- Severance and facilities charges 47.3 702 Corporate Allocation 14.0 -- Actions taken (1) (13.4) (178) ------------------------------- End of year $ 47.9 524 ---------------------------------------------------------------------------
The Company is included in the consolidated federal income tax return and combined Connecticut and New York state income tax returns of Aetna. Aetna allocates to each member an amount approximating the tax it would have incurred were it not a member of the consolidated group, and credits the member for the use of its tax saving attributes used in the consolidated returns.
Income before income taxes $198.9 $263.2 $220.9 Tax rate 35% 35% 35% ------ ------ ------ Application of the tax rate 69.6 92.1 77.3 ------ ------ ------ Tax effect of: State income tax, net of federal benefit 2.4 2.1 2.9 Excludable dividends (8.7) (9.3) (8.6) Other, net (5.5) 2.4 4.0 ------ ------ ------ Income taxes $ 57.8 $ 87.3 $ 75.6 ====== ====== ======
Employee Postretirement Benefits - In addition to providing pension benefits, Aetna currently provides health care and life insurance benefits, subject to certain caps, for retired employees. A comprehensive medical and dental plan is offered to all full-time employees retiring at age 50 with 15 years of service or at age 65 with 10 years of service. Retirees are generally required to contribute to the plans based on their years of service with Aetna. The costs to the Company associated with the Aetna postretirement plans for 1996, 1995 and 1994 were $1.8 million, $1.4 million and $1.0 million, respectively.
As of December 31, 1996, Aetna transferred to the Company approximately $77.7 million of accrued liabilities, primarily related to the pension and postretirement benefit plans described above, that had been previously recorded by Aetna. The after tax amount of this transfer (approximately $50.5 million) is reported as a reduction in retained earnings.
The Company is compensated by the Separate Accounts for bearing mortality and expense risks pertaining to variable life and annuity contracts. Under the insurance contracts, the Separate Accounts pay the Company a daily fee which, on an annual basis, ranges, depending on the product, from .10% to 1.90% of their average daily net assets. The Company also receives fees from the variable life and annuity mutual funds and The Aetna Series Fund for serving as investment adviser. Under the advisory agreements, the Funds pay the Company a daily fee which, on an annual basis, ranges, depending on the fund, from .25% to .85% of their average daily net assets. The Company also receives fees (expressed as a percentage of the average daily net assets) from the variable life and annuity mutual funds and The Aetna Series Fund for providing administration services, and from The Aetna Series Fund for providing shareholder services and promoting sales. The amount of compensation and fees received from the Separate Accounts and Funds, included in Charges Assessed Against Policyholders, amounted to $185.4 million, $128.1 million and $104.6 million in 1996, 1995 and 1994, respectively. The Company may waive advisory fees at its discretion.
The Company acts as an investment adviser for its affiliated mutual funds. Since August 1996, Aeltus Investment Management, Inc. ("Aeltus"), a wholly owned subsidiary of HOLDCO and an affiliate of the Company, has been acting as Subadvisor of all affiliated mutual funds and of most of the General Account assets. Fees paid by the Company to Aeltus, included in both Charges Assessed Against Policyholders and Net Investment Income, on an annual basis, range from .06% to .55% of the average daily net assets under management. For the year ended December 31, 1996, the Company paid $16.0 million in such fees.
Since 1981, all domestic individual non-participating life insurance of Aetna and its subsidiaries has been issued by the Company. Effective December 31, 1988, the Company entered into a reinsurance agreement with Aetna Life Insurance Company ("Aetna Life") in which substantially all of the non-participating individual life and annuity business written by Aetna Life prior to 1981 was assumed by the Company. A $108.0 million commission, paid by the Company to Aetna Life in 1988, was capitalized as deferred policy acquisition costs. An additional $6.1 million commission, paid by the Company to Aetna Life in 1996, was capitalized as deferred policy acquisition costs. The Company maintained insurance reserves of $628.3 million and $655.5 million as of December 31, 1996 and 1995, respectively, relating to the business assumed. In consideration for the assumption of this business, a loan was established relating to the assets held by Aetna Life which support the insurance reserves. The loan is being reduced in accordance with the decrease in the reserves. The fair value of this loan was $625.3 million and $663.5 million as of December 31, 1996 and 1995, respectively, and is based upon the fair value of the underlying assets. Premiums of $25.3 million, $28.0 million and $32.8 million and current and future benefits of $39.5 million, $43.0 million and $43.8 million were assumed in 1996, 1995 and 1994, respectively.
On December 16, 1988, the Company assumed $25.0 million of premium revenue from Aetna Life for the purchase and administration of a life contingent single premium variable payout annuity contract. In addition, the Company also is responsible for administering fixed annuity payments that are made to annuitants receiving variable payments. Reserves of $28.9 million and $28.0 million were maintained for this contract as of December 31, 1996 and 1995, respectively.
(1) The 1996 results include severance and facilities charges of $30.7 million, after tax. Of this charge $21.5 million related to the Financial Services segment and $9.2 million related to the Individual Life Insurance segment. (2) Excludes any effect of the corporate facilities and severance charge recorded in 1996 which is not directly allocable to the Financial Services and Individual Life Insurance segments. (Refer to Note 7). (3) Excludes net unrealized capital gains (losses) of $366.4 million, $797.1 million and $(386.4) million at December 31, 1996, 1995 and 1994, respectively.