JPFIC, JPLA and our broker/dealer conduct operations in Concord, NH in two buildings on approximately 196 acres owned by JPFIC. A portion of one building is available for commercial leasing.
Management's Discussion and Analysis of Financial Condition and Results of Operations for the three years ended December 31, 2001, analyzes the results of operations, consolidated financial condition, liquidity and capital resources of Jefferson-Pilot Corporation and consolidated subsidiaries. The discussion should be read in conjunction with the Consolidated Financial Statements and Notes. All dollar amounts are in millions except per share amounts. All references to Notes are to Notes to the Consolidated Financial Statements. Prior share amounts and earnings per share have been restated to give retroactive effect to the Company's 50% stock dividend, which was effective in April 2001.
We have five reportable segments: Individual Products, Annuity and Investment Products (AIP), Benefit Partners, Communications, and Corporate and Other.
As a result of strategic studies in 1999, we adopted a refined marketing strategy called Premier Partnering. Strategic initiatives include a higher level of marketing support and improved service for more productive agents, tailoring specific products and marketing programs, and implementation of "lean manufacturing" to improve quality and reliability throughout our marketing and service processes. We are experiencing growth in life sales and an increase in the number of agents who qualify as Premier Partners as a result of acceptance in the marketplace of this strategy.
We prepared our consolidated financial statements in accordance with accounting principles generally accepted in the United States. Our significant accounting policies are more fully described in Note 2 to our consolidated financial statements. Certain of our accounting policies are particularly important to the portrayal of our financial position and results of operations and require that we apply significant judgment; as a result they are subject to an inherent degree of uncertainty. In applying those accounting policies, we use our judgment to determine the appropriate assumptions in the determination of certain estimates. On an on-going basis, we evaluate our estimates and judgments based upon historical experience and various other information that we believe to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions.
portfolios. Reportable segment results as described above may not be comparable to similarly titled measures reported by other companies.
The following tables illustrate our results before and after the inclusion of realized investment gains:
We assess profitability by business segment and measure other operating statistics as detailed in the separate segment discussions that follow. Sales are one of the statistics we use to track performance. Because of the nature of our sales, which are primarily long-duration contracts in the Individual Products and AIP segments, sales in a given quarter do not have a material impact on operating results and therefore are not considered to be material
information. However, trends relating to new product sales over a longer period of time may be an indicator of future growth and profitability.
We determine reportable segments in a manner consistent with the way we organize for purposes of making operating decisions and assessing performance. We assign invested assets backing insurance liabilities to segments in relation to policyholder funds and reserves. We assign net DAC and VOBA, reinsurance receivables and communications assets to the respective segments where those assets originate. We also assign invested assets to back capital allocated to each segment in relation to our philosophy for managing business risks, reflecting appropriate conservatism. We assign the remainder of invested and other assets to the Corporate and Other segment.
The Individual Products segment markets individual life insurance policies through independent general agents, independent national account marketing firms, agency building general agents, home service agents, broker/dealers, banks and strategic alliances.
Individual Products include universal life (UL) and variable universal life (VUL), together referred to as UL-type products, as well as traditional life products. The operating cycle for life insurance products is long term in nature; therefore, actuarial assumptions are important to financial reporting for these products. Traditional products require the policyholder to pay scheduled premiums over the life of the coverage. We recognize traditional premium receipts as revenues and profits are expected to emerge in relation thereto. Interest-sensitive product (or UL-type product) premiums may vary over the life of the policy at the discretion of the policyholder so we do not recognize them as revenues when received. Revenues and reportable segment results on these products arise over time from mortality, expense and surrender charges to policyholder fund balances (policy charges). Additionally, we earn interest spreads on all UL-type and traditional products. Policy benefits include interest credited to policyholder fund balances and claim related costs. Reportable segment results for both traditional and UL-type products also include earnings on required capital.
and 13.2% in 2001 and 2000. The significant increases in 2000 were due to the Guarantee acquisition. Average VUL separate account assets declined 3.6% and increased 39.1% in 2001 and 2000. The decline in 2001 is primarily due to the drop in the equity markets. Adjusting for the decrease in fair market value, net of dividends, separate account balances would have increased by approximately 14% in 2001 and total fund balances would have grown by about 5% in 2001.
Investment income, net of expenses, increased 4.4% and 14.1% in 2001 and 2000, reflecting the growth in average policyholder funds and changes in investment yields. The average investment spread on UL-type products (calculated as the difference between portfolio yields earned on invested assets less interest credited to policyholder funds, assuming the same level of invested assets) increased 3 basis points to 2.00% in 2001 and increased 5 basis points to 1.97% in 2000. Interest spreads are affected by portfolio yields and crediting rates, and also may vary over time due to our competitive strategies and changes in product design.
Total policy benefits increased 4.6% in 2001 due to an increase in mortality and interest credited, consistent with the growth in business, and 18.0% in 2000 due primarily to the Guarantee acquisition. Policy benefits on UL-type products increased to 7.3% of average policyholder funds and separate accounts in 2001 versus 7.1% and 6.8% in 2000 and 1999. Policy benefits include interest credited to policyholder accounts on UL-type products and death benefits in excess of fund balances.
Total expenses (including the net deferral and amortization of DAC and VOBA) decreased 5.9% and increased 0.9% in 2001 and 2000. The 2001 decline is due primarily to a decrease in amortization of DAC and VOBA resulting from the increase in mortality on UL-type policies. Amortization of DAC and VOBA on UL- type products may decline when mortality increases, provided that longer-term assumptions remain appropriate. Expenses on individual traditional products were 26.0%, 29.7% and 30.0% of premiums in 2001, 2000 and 1999. For UL-type products, expenses as a percentage of policyholder funds and separate accounts were 2.2%, 2.3% and 2.7% in 2001, 2000 and 1999. The improvement over 1999 reflects economies of scale from the Guarantee acquisition.
Average Individual Products assets grew 3.0% in 2001 and 14.9% in 2000. Sales of UL-type products and growth in existing policyholder funds from interest credited, partially offset by VUL separate account declines, contributed to the 2001 increase. 2000's increase was due to the Guarantee acquisition, net receipts on UL-type products, new sales and growth in existing policyholder funds. The return on average Individual Products assets for 2001 and 2000 was 1.9%.
Fixed annuity surrenders as a percentage of beginning fund balances decreased to 12.7% from 21.2% in 2000. The lower lapse rates reflect the combined effects of lower interest rates on competing investments, increased surrender charge protection on our in-force block of business, and internal conservation initiatives. The surrender rate in the AIP segment is influenced by many factors such as: (1) the portion of the business that has low or no remaining surrender charges; (2) competition from annuity products including those which pay upfront interest rate bonuses or higher market rates and (3) rising interest rates that may make returns available on new annuities or investment products more attractive than our older annuities. Fund balances with 5% or more surrender charges, including payout annuities, increased to 43% at year-end 2001 from 38% at year-end 2000.
An inherent risk in the annuity business is that secular declines in investment yields coupled with intense rate competition from competing products could further compress our investment spread. Another risk that we face is rising interest rates or competition from other financial products could lead to lapses particularly in the portion of business subject to low or no surrender charges. When surrenders increased to 21.2% in 2000, the impact on profitability was not material due to offsetting surrender charges. We mitigate these risks by utilizing the asset/liability management practices discussed later.
JPSC earnings included in the segment results were $2.7, $6.3 and $4.4 for 2001, 2000 and 1999. The 2001 decline is directly related to lower equity and mutual fund purchase/sale transactions, which had increased in 2000.
The Benefit Partners segment offers group non-medical products such as term life, disability and dental insurance to the employer marketplace. These products are marketed primarily through a national distribution system of regional group offices. These offices develop business through employee benefit brokers, third party administrators and other employee benefit firms. The Benefit Partners segment was created in January 2000 through the integration of our existing group life and disability operations into Guarantee's life, disability and dental operations acquired in December 1999. Segment results before 2000 include only the Group life and health products sold by JP Life.
Policy benefits increased 12.3% and 283.8% in 2001 and 2000, consistent with the growth of business in force including Guarantee. Our life, disability and dental incurred loss ratio improved to 72.4% in 2001 versus 73.4% in 2000, reflecting continued claims management efforts coupled with favorable morbidity and mortality. The 1999 loss ratio of 85.2% did not include Guarantee and therefore is not comparable to later years.
JPCC operates radio and television broadcast properties and produces syndicated sports and entertainment programming. Reportable segment results were:
Reportable segment results decreased 18.7% in 2001 and increased 9.6% in 2000. The 2001 decline was primarily due to lower demand for advertising, which reflects the general softening of the economy in all markets. Combined revenues for Radio and Television decreased 6.3% in 2001 and grew 5.9% in 2000. Excluding political revenues, Radio and Television declined 4.8% in 2001 and grew 3.8% in 2000. The 2001 decline is primarily due to decreases in national sales, slowing economic conditions, and lost revenues due to the September 11th event.
Broadcast cash flow declined 17.4% in 2001 and grew 5.2% in 2000.
The Corporate and Other segment includes the excess capital of the insurance subsidiaries, other corporate investments including impaired securities, blocks of business from previous acquisitions not conforming to our other reportable segment strategies, benefit plan net assets, goodwill related to previous acquisitions, and corporate debt. The reportable segment results primarily contain the earnings on the invested excess capital, interest expense related to the corporate debt, and operating expenses that are corporate in nature (i.e. advertising, charitable and civic contributions, goodwill amortization, etc.). The net operating results for blocks of acquired business are insignificant. All net capital gains and losses, which reflect all impairments of securities, are reported in this segment.
Reportable segment results excluding realized gains increased $14.0 in 2001 and decreased $26.4 in 2000, for the reasons that follow.
The increase in investment earnings in 2001 is due to an increase in equity investment income and a reclassification of intersegment interest expense. The earnings on investments for this segment include default charge income received from the operating segments for the Corporate and Other segment's assumption of all credit related losses on the invested assets of those segments. Default charges included in this segment's investment income for the last three years amounted to $20, $19 and $17 and are based on invested assets of the operating segments. The drop in investment earnings in 2000 was due to lower invested assets for this segment following the Guarantee acquisition in December 1999. Earnings on investments in this segment can fluctuate based upon opportunistic repurchases of common stock, the amount of excess capital generated by the operating segments and lost investment income on impaired securities.
Interest expense on debt and Exchangeable Securities decreased $7.1 in 2001 primarily due to lower average interest rates, as the average debt outstanding remained relatively constant during the year. Operating expenses vary with the level of corporate activities and strategies. Goodwill amortization of $9, $10 and $6, excluding JPCC, was included in operating expenses for the three years ended 2001. As we adopt a new accounting standard for 2002, we will no longer amortize goodwill, but will test its value for impairment at least annually. We do not expect to record a material loss on goodwill impairment for amounts currently recorded. The provision for income tax expense includes the tax benefit of preferred dividends on Capital Securities, which we record gross of related tax effects. Income taxes decreased $5.7 in 2001 due to the implementation of strategies that reduced federal income taxes on investment earnings and the resolution of tax issues for which we had previously established provisions. Income taxes decreased $16.4 in 2000 due primarily to the tax effect of lower segment pre-tax operating results as compared to 1999.
Realized investment gains and losses for 2001 include a net after tax $52 loss on our bond portfolio, including both writedowns of $36 and actual sales in the normal course of business, which were offset by gains in equities, resulting in a net gain of $44. This loss was driven primarily by recent economic events, including high profile bankruptcies and the continued weak economy. Net after tax losses in our bond portfolio were $14 and $1 for 2001 and 2000.
We also adjust the carrying value of DAC and VOBA to reflect changes in the unrealized gains and losses in Available for Sale securities since this impacts EGP. Note 6 contains roll forwards of DAC and VOBA including the amounts capitalized, amounts amortized and the effect of the unrealized gains, and is incorporated by reference.
At December 31, 2001 and 2000, we had reinsurance receivables of $914 and $947 and policy loans of $153 and $184 which are related to the businesses of JP Financial that are coinsured with Household International (HI) affiliates. HI has provided payment, performance and capital maintenance guarantees with respect to the balances receivable. We regularly evaluate the financial condition of our reinsurers and monitor concentrations of credit risk related to reinsurance activities. We have not suffered any significant credit losses from reinsurance activities in the last three years.
We consider existing capital resources to be more than adequate to support the current level of our business activities. Our business plan places priority on redirecting certain capital resources invested in bonds and stocks into our core businesses, which would be expected to produce higher returns over time.
The Individual Products, AIP and Benefit Partners segments are subject to regulatory constraints. Our insurance subsidiaries have statutory surplus and risk based capital levels well above required levels. These capital levels together with the rating agencies' assessments of our business strategies have enabled the major life insurance affiliates to attain the following claims paying ratings:
These ratings are currently the highest available by the respective rating agencies. All of the ratings were affirmed in the last nine months. In the fall of 2001, Standard & Poor's affirmed our AAA rating, but changed its outlook to negative which is consistent with Standard & Poor's outlook on the entire life insurance industry. The other two agencies mentioned above affirmed their highest ratings. A very significant drop in these ratings, while not anticipated, could potentially impact future sales and/or accelerate surrenders on our business in force.
Our commercial paper is currently rated by two rating agencies, as follows:
These are both the highest ratings that the agencies issue and have been affirmed in the past nine months. A significant drop in these ratings, while not anticipated, could cause us to pay higher rates in commercial paper borrowings or lose access to the commercial paper market.
Our insurance subsidiaries have sold U.S. Treasury obligations and collateralized mortgages under repurchase agreements involving various counterparties, accounted for as financing arrangements. Proceeds normally are used to purchase securities with longer durations as an asset/liability management strategy and to provide acquisition financing. From time to time, we use repurchase agreements in lieu of commercial paper borrowings in order to obtain a lower borrowing cost. At December 31, 2001 and 2000, repurchase agreements were $292 and $397. The maximum amounts outstanding were $457 and $467 during 2001 and 2000, as the portion used to help fund the Guarantee acquisition was repaid in the first half of 2001 followed by increased
asset/liability management activities. The securities involved had a fair value and amortized cost of $306 and $289 at year-end 2001 versus $415 and $404 at the end of 2000.
At December 31, 2001 and 2000, net advances from subsidiaries were $417 and $346, all of which are eliminated in consolidation.
We meet liquidity requirements primarily by positive cash flows from the operations of subsidiaries. We have sufficient overall sources of liquidity to satisfy operating requirements. Primary sources of cash from our insurance operations are premiums, other insurance considerations, receipts for policyholder accounts, investment sales and maturities and investment income. Primary uses of cash for our insurance operations include purchases of investments, payment of insurance benefits, operating expenses, withdrawals from policyholder accounts, costs related to acquiring new business, dividends and income taxes. Primary sources of cash from the Communications operations are revenues from advertising, and primary uses include payments for commissions, compensation (and compensation-related costs), sports rights, interest, income taxes and purchases of fixed assets.
Cash provided by operations in 2001, 2000 and 1999 was $739, $501 and $481. 2001's increase reflects changes in payables and receivables including our receipt of approximately $208 in premiums related primarily to small case BOLI-type products unprocessed at year-end. 2000's increase of $20 reflects changes in payables and receivables related to the timing of investment commitments net of higher policy acquisition costs.
Net cash used in investing activities was $1,363, $611 and $1,111 in 2001, 2000 and 1999. The significant decrease in 2000 reflected additional sales of securities required to fund increased surrenders primarily in the AIP segment and coinsured policies with HI in the Corporate and Other segment.
In order to meet the parent company's dividend payments, debt servicing obligations and other expenses, we received internal dividends from subsidiaries. Total cash dividends paid by subsidiaries were $414 in 2001, $649 in 2000 and $279 in 1999. 2000 included extraordinary dividends of $200 from JP Life representing all its publicly traded equity securities and $100 from JP Financial in connection with the merger of Alexander Hamilton Life Insurance Company of America and Guarantee into JPFIC. JP Life, JPFIC and JPCC were the primary sources of dividends in all three years. Our life insurance subsidiaries are subject to laws in the states of domicile that limit the amount of dividends that can be paid without the prior approval of the respective State's Insurance Commissioner. We have no reason to believe that such approval will be withheld, if required.
In connection with a previous acquisition, we acquired a closed block of business that was financed by a loan program collateralized by pledged mutual fund shares of our policyholders. In late 1997, the acquired company entered into an agreement with an unaffiliated third party that provides for the initial and periodic purchase of the majority of its loans receivable. This agreement is renewable on an annual basis. If the agreement is not renewed, we can issue debt to fund the amounts or terminate the entire program. The amount of loans outstanding at December 31, 2001 was $33. We have no other off balance sheet arrangements of a financing nature.
JPCC has commitments for purchases of syndicated television programming and commitments on other contracts and future sports programming rights of approximately $451 as of December 31, 2001, payable through the year 2011. We have commitments to sell a portion of the sports programming rights to other entities for $300, over the same period. These commitments are not reflected as an asset or liability in the accompanying consolidated balance sheet because the programs are not currently available for use. Advertising revenues that are sold on an annual basis are expected to fund the purchase commitments.
Total debt and equity securities Available for Sale at December 31, 2001 and 2000 were $14,639 and $13,529.
Our strategy for managing the insurance investment portfolio is to consistently meet pricing assumptions while achieving the highest possible after-tax yields over the long term. We invest cash flows primarily in fixed income securities. The nature and quality of investments held by insurance subsidiaries must comply with state regulatory requirements. We have established a formal investment policy that we use to achieve overall quality and diversification objectives.
Certain amounts reported in the prior year's schedule of privately-placed and publicly-issued assets have been reclassified to conform to the presentation adopted in the current year.
Our internal guidelines require an average quality fixed income portfolio (excluding mortgage loans) of "A" or higher. Currently, the average quality is "A1". Our guidelines also limit the amount of lower quality investments and require diversification by issuer and asset type. Due to deteriorating general economic conditions during 2001, several bonds were downgraded to "below-investment grade". We monitor "higher risk" investments in order to determine if the securities have experienced an other than temporary decline in value. Securities that experience other than temporary declines in value are adjusted to fair values through a charge to earnings. Impairment losses totaling $55, $15 and $1 were recognized in the years ending December 31, 2001, 2000 and 1999. The increase in impairment losses in 2001 reflected several high profile bankruptcies and the continued declining economy.
We state mortgage loans on real property net of an allowance for credit losses. We determine this allowance for specific impaired loans by calculating the fair value of each loan, utilizing estimated future cash flows of the impaired loan, discounted at the loan's effective interest rate. We also set aside an additional allowance based on aggregate loans with similar risk characteristics utilizing historical statistics. At December 31, our allowance for mortgage loan credit losses was $29 for 2001 and 2000.
A weak economy or a more pronounced downturn, or events which affect one or more companies or industries, could lead to further credit related portfolio losses in "higher risk" and other investments.
Effective January 1, 2001, we adopted SFAS 133, "Accounting for Derivative Instruments and for Hedging Activities", and the discussion in Note 5 is incorporated by reference.
We adopted, EITF 99-20: Recognition of Interest Income and Impairment on Purchased and Retained Beneficial Interests in Securitized Financial Assets, effective for fiscal quarters beginning after March 15, 2001. Given the nature of the investments held, this pronouncement did not have a material impact on our financial statements.
In a falling interest rate environment, the risk of prepayment on some fixed income securities increases and funds prepaid are then reinvested at lower yields. We limit this risk by concentrating the fixed income portfolio mainly on non-callable securities, by carefully selecting MBS's that are structured to minimize cash flow
As is typical in the industry, our life and annuity products contain minimum rate guarantees regarding interest we credit. For interest-sensitive life products, our minimum rates range from approximately 2.5% to 6.0%, with an approximate weighted average of 4.2%. For annuity products, our minimum rates range from 3.0% to 6.0%, with the greatest concentration in the 3.5% to 4.0% range.
Changes in interest rates illustrated above assume parallel shifts in the yield curve, graded pro-rata over four quarters. We believe that a 200 basis point increase or decrease, experienced gradually over four quarters, reflects reasonably possible near term changes in interest rates as of December 31, 2001. The incremental income (loss) for shifts larger than 200 basis points or that occurs more quickly than quarterly grading does not have a linear relationship to the values shown above. The incremental loss resulting from a larger increase in interest rates would be proportionally greater due to the optionality of our interest-sensitive assets and liabilities. In contrast, the incremental income resulting from a larger decrease in interest rates would be proportionally less due to the effect of minimum rate guarantees in our interest-sensitive liabilities. A significant change in the slope of the
yield curve could also affect our results. For example, competing products such as bank CDs could become relatively more attractive than our longer duration annuities under an inverted yield curve, resulting in higher policyholder withdrawals.
We operate within the United States financial services and communications markets, which are both subject to general economic conditions. After increasing in 1999 and much of 2000, interest rates on longer maturity instruments began trending down later in 2000 as economic growth slowed and dropped dramatically in 2001. Changes in rates may affect our businesses in many ways as discussed earlier. Our operations are also affected over the longer term by demographic shifts, global markets, technological innovation and overall capital market volatility. These forces impact us in various ways such as demand for our insurance products and advertising revenues, competition from other financial services providers, competition from emerging technologies for television and radio advertising, competition for new investments, debt costs, mergers and consolidations within the financial services and communications sectors, and costs inherent in administering complex financial products.
The industry's individual life insurance sales in the U.S. decreased 3% for 2001, reflecting a continued weakness in the overall economy, changes in federal estate and income tax laws and competition from financial products other than life insurance. As discussed previously, our individual life sales growth has been better than the overall industry.
Prescribed or permitted Statutory Accounting Principles (SAP) may vary between states and between companies. The NAIC has completed the process of codifying SAP to promote standardization of methods. Our statutory surplus increased $41.6 as we implemented SAP effective January 1, 2001.
Certain information in our SEC filings and in any other written or oral statements made by us or on our behalf, involves forward looking statements. We have used appropriate care in developing this information, but any forward looking statements may turn out to be wrong. They can be affected by inaccurate assumptions or by known or unknown risks and uncertainties that could significantly affect our actual results. These risks and uncertainties include among others, the risk that we might fail to successfully complete our strategy for substantially increasing life insurance sales; general economic conditions (including the uncertainty as to the depth and duration of the current economic slowdown and the rate at which the economy recovers), the impact on the economy from any further terrorist activities, and interest rate changes and fluctuations, all of which can impact our sales, investment portfolios, and earnings; competitive factors, including pricing pressures, technological developments, new product offerings and the emergence of new competitors; changes in federal and state taxes (including estate taxes); changes in the regulation of the financial services industry; or changes in other laws and regulations and their impact.
- --------------- (1) Effective January 1, 2001, the Company adopted SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities", as amended.
We have audited the accompanying consolidated balance sheets of Jefferson-Pilot Corporation and subsidiaries as of December 31, 2001 and 2000, and the related consolidated statements of income, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 2001. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (DOLLAR AMOUNTS IN MILLIONS, EXCEPT SHARE INFORMATION) DECEMBER 31, 2001
Pro forma financial information for this acquisition has not been presented, as the pro forma impact on consolidated operations is not significant.
fair value of certain invested assets, asset valuation allowances, deferred policy acquisition costs, goodwill, value of business acquired, policy liabilities, and the potential effects of resolving litigated matters.
Debt and equity securities are classified as either securities held to maturity, stated at amortized cost, or securities available for sale, stated at fair value with net unrealized gains and losses included in accumulated other comprehensive income, net of deferred income taxes and adjustments to deferred policy acquisition costs and value of business acquired.
Amortization of premiums and accrual of discounts on investments in debt securities are reflected in earnings over the contractual terms of the investments in a manner that produces a constant effective yield. Investment securities are regularly reviewed for impairment based on criteria that include the extent to which cost exceeds market value, the duration of the market decline, and the financial health of and specific prospect for the issuer. Unrealized losses that are considered to be other than temporary are recognized in realized gains and losses. Realized gains and losses on dispositions of securities are determined by the specific-identification method.
Through December 31, 2001, goodwill was amortized on a straight-line basis over periods of 25 to 40 years. Accumulated amortization was $41 and $39 at December 31, 2001 and 2000. Carrying amounts are regularly reviewed for indications of value impairment, with consideration given to financial performance and other relevant factors. In addition, certain events including a significant adverse change in legal factors or the business climate, an adverse action or assessment by a regulator, or unanticipated competition would cause the Company to review carrying amounts of goodwill for impairment. When considered impaired, the carrying amounts are written down using a combination of fair value and discounted cash flows. Effective January 1, 2002, the Company will adopt Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets", which primarily addresses the accounting for goodwill and intangible assets subsequent to their acquisition. See further discussion under New Accounting Pronouncements below.
Premiums on traditional life insurance products are reported as revenue when received unless received in advance of the due date.
In June 2001, the FASB issued Statement of Financial Accounting Standards No. 141, "Business Combinations" (SFAS 141) and Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets" (SFAS 142). SFAS 141 requires that all business combinations initiated after June 30, 2001, be accounted for under the purchase method of accounting and establishes specific criteria for the recognition of intangible assets separately from goodwill. SFAS 142 primarily addresses the accounting for goodwill and intangible assets subsequent to their acquisition. Upon adoption, goodwill and certain other intangible assets will no longer be amortized. The Company will also be required to evaluate all existing goodwill and intangible assets with indefinite lives for impairment at least annually at the reporting unit level. The Company does not expect to incur significant impairment losses upon adoption of this accounting standard.
will adopt SFAS 143 on January 1, 2003, and does not believe that the impact of adoption will have a significant impact on the Company's financial position or results of operations.
In August 2001, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets" (SFAS 144) which addresses financial accounting and reporting for the impairment or disposal of long-lived assets and supercedes SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of", and APB Opinion No. 30, "Reporting the Results of Operations" for a disposal of a segment of a business. SFAS 144 is effective for fiscal years beginning after December 15, 2001. The Company will adopt the Statement as of January 1, 2002 and it does not believe adoption of the Statement will have a significant impact on the Company's financial position or results of operations.
Aggregate amortized cost and aggregate fair value of debt securities as of December 31, 2001, according to contractual maturity date, are as indicated below. Actual future maturities will differ from the contractual maturities shown because the issuers of certain debt securities have the right to call or prepay the amounts due the Company, with or without penalty.
At December 31, 2001 and 2000, the recorded investment in mortgage loans that are considered to be impaired was $81 and $52. Delinquent loans outstanding as of December 31, 2001 and 2000 totaled $0 and $0.6. The related allowance for credit losses on all mortgage loans was $29 at December 31, 2001 and December 31, 2000. The average recorded investment in impaired loans was $67, $57 and $64 during the years ended December 31, 2001, 2000 and 1999, on which interest income of $7, $3 and $6 was recognized on a cash basis.
In its securities lending program, the Company generally receives cash collateral in an amount that is in excess of the market value of the securities loaned. Market values of securities loaned and collateral are monitored daily, and additional collateral is obtained as necessary. The market value of securities loaned and collateral received amounted to $248 and $258 at December 31, 2001 and $294 and $303 at December 31, 2000.
Information about gross realized gains and losses on available for sale securities transactions follows:
(i.e., gains or losses) of a derivative instrument depends on whether it has been designated and qualifies as part of a hedging relationship and further, on the type of hedging relationship. For those derivative instruments that are designated and qualify as hedging instruments, a company must designate the hedging instrument, based upon the exposure being hedged, as a fair value hedge, cash flow hedge or a hedge of a net investment in a foreign operation. The Company accounts for changes in fair values of derivatives that have no hedge designation or do not qualify for hedge accounting through current earnings during the period of the change. For derivatives that are designated and qualify as cash flow hedges, the effective portion of the gain or loss on the derivative instrument is reported as a component of other comprehensive income and reclassified into earnings in the same period during which the hedged transaction impacts earnings. The remaining gain or loss on these derivative instruments is recognized in current earnings during the period of the change. Effectiveness of the Company's hedge relationships is assessed and measured on a quarterly basis. The Company has no fair value hedges or hedges of net investments in foreign operations.
For the year ended December 31, 2001, the Company recognized other comprehensive income related to cash flow hedges of $3.
The Company acquired a $30 block of equity-indexed annuities as the result of its purchase of Guarantee. These contracts have an equity market component, where interest credited to the contracts is linked to the performance of the S&P 500(R) index. The Company has historically managed this risk by purchasing call options that mirrored the interest credited to the contracts. These call options act as an economic hedge, as changes in their fair values are recognized in net investment income. For the year ended December 31, 2001, activity reflected in net investment income related to these options was not significant.
Certain swaps serve as economic hedges but do not qualify for hedge accounting under SFAS 133. These swaps are marked to market through realized gains. For the year ended December 31, 2001, the Company recognized realized investment gains of $1 related to these swaps.
The Company also invests in debt securities with embedded options, which are considered to be derivative instruments under SFAS 133. These derivatives are marked to market through realized investment gains, but had an insignificant effect for the year ended December 31, 2001.
Expected approximate amortization percentages relating to the value of business acquired for the next five years are as follows:
The Company has entered into a bank credit agreement for unsecured revolving credit, under which the Company has the option to borrow at various interest rates. The agreement is for $375 and expires in May 2002 and principally supports the issuance of commercial paper. The Company intends to replace the expiring bank credit agreement with a new agreement in May 2002. As of December 31, 2001, outstanding commercial paper had various maturities, with none in excess of 90 days. The Company can issue commercial paper with maturities of up to 270 days. In the event the Company is not able to remarket commercial paper at maturity, the Company has sufficient liquidity, consisting of the bank credit agreement, liquid assets, such as equity securities, and other resources to retire these obligations. The weighted-average interest rates for commercial paper borrowings outstanding of $297 and $405 at December 31, 2001 and 2000 were 3.72% and 6.51%.
Under a shareholders' rights plan, one common share purchase right is attached to each share of the Company's common stock. The plan becomes operative in certain events involving an offer for or the acquisition of 15% or more of the Company's common stock by any person or group. Following such an event, each right, unless redeemed by the Company's Board, entitles the holder (other than the acquiring person or group) to purchase for an exercise price of $156.67 an amount of common stock of the Company (or in the discretion of the Board, preferred stock, debt securities, or cash), or in certain circumstances stock of the acquiring company, having a market value of twice the exercise price. Approximately 155 million shares of common stock are currently reserved for the amended rights plan. The rights expire on February 8, 2009 unless extended by the Board, and are redeemable by the Board at a price of 0.30 cents per right at any time before they become exercisable.
Under the Long Term Stock Incentive Plan, a Committee of disinterested directors may award nonqualified or incentive stock options and stock appreciation rights, and make grants of the Company's stock, to employees of the Company and to life insurance agents. Stock grants may be either restricted stock or unrestricted stock distributed upon the achievement of performance goals established by the Committee.
A total of 14,304,849 shares are available for issuance pursuant to outstanding or future awards as of December 31, 2001. The option price may not be less than the market value of the Company's common stock on the award date. Options are exercisable for periods determined by the Committee, not to exceed ten years from the award date, and vest immediately or over periods as determined by the Committee. Restricted and unrestricted stock grants are limited to 10% of the total shares reserved for the Plan. This plan will terminate as to further awards on May 3, 2009, unless earlier terminated by the Board.
The following table summarizes certain stock option information at December 31, 2001:
SFAS 123 requires the presentation of pro forma information as if the Company had accounted for its employee and director stock options granted after December 31, 1994 under the fair value method of that Statement. The fair value was estimated at grant date using a Black-Scholes option pricing model with the following weighted-average assumptions for 2001, 2000 and 1999: risk-free interest rates of 5.2%, 6.7% and 5.2%; volatility factors of the expected market price of the Company's common stock of 0.22, 0.20 and 0.19; and a weighted-average expected life of the options of 8.1 years for 2001, 8.6 years for 2000 and 8.2 years for 1999. Dividends were assumed to increase by 10% annually.
The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options, which have no vesting restrictions and are fully transferable. In addition, option valuation models require
the input of highly subjective assumptions including the expected stock price volatility. Because the Company's stock options have characteristics significantly different from those of traded options, and changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not provide a reliable single measure of the fair value of the options.
The principal differences between SAP and GAAP are (1) policy acquisition costs are expensed as incurred under SAP, but are deferred and amortized under GAAP, (2) the value of business acquired is not capitalized under SAP but is under GAAP, (3) amounts collected from holders of universal life-type and annuity products are recognized as premiums when collected under SAP, but are initially recorded as contract deposits under GAAP, with cost of insurance recognized as revenue when assessed and other contract charges recognized over the periods for which services are provided, (4) the classification and carrying amounts of investments in certain securities are different under SAP than under GAAP, (5) the criteria for providing asset valuation allowances, and the methodologies used to determine the amounts thereof, are different under SAP than under GAAP, (6) the timing of establishing certain reserves, and the methodologies used to determine the amounts thereof, are different under SAP than under GAAP, and (7) certain assets are not admitted for purposes of determining surplus under SAP.
As of December 31, 2001 and 2000, JPFIC had reinsurance recoverable of $81 and $84 from a single reinsurer, pursuant to a 50% coinsurance agreement. JPFIC and the reinsurer are joint and equal owners in $162 and $172 of securities and short-term investments as of December 31, 2001 and 2000, 50% of which is included in investments in the accompanying consolidated balance sheets.
The Company routinely enters into commitments to extend credit in the form of mortgage loans and to purchase certain debt instruments for its investment portfolio in private placement transactions. The fair value of outstanding commitments to fund mortgage loans and to acquire debt securities in private placement transactions, which are not reflected in the consolidated balance sheet, approximates $51 at December 31, 2001.
These commitments are not reflected as an asset or liability in the accompanying consolidated balance sheet because the programs are not currently available for use.
In the normal course of business, the Company and its subsidiaries are involved in various lawsuits, including several proposed class action suits in addition to those noted above. Because of the considerable uncertainties that exist, the Company cannot predict the outcome of pending or future litigation. However, management believes that the resolution of pending legal proceedings will not have a material adverse effect on the Company's financial position or liquidity, although it could have a material adverse effect on the results of operations for a specific period.