The following selected financial data of First SunAmerica Life Insurance Company should be read in conjunction with the financial statements and notes thereto and Management's Discussion and Analysis of Financial Condition and Results of Operations, both of which are included elsewhere herein.
PRETAX INCOME totaled $0.7 million in 1995 and $1.7 million in both 1994 and 1993. The $1.0 million decline in 1995 primarily resulted from net realized investment losses incurred, partially offset by an increase in net investment income.
NET INVESTMENT INCOME, which is the spread between the income earned on invested assets and the interest paid on fixed annuities and other interest- bearing liabilities, increased to $2.8 million in 1995 from $1.9 million in 1994 and $1.2 million in 1993. These amounts represent net investment spreads of 2.70% on average invested assets (computed on a daily basis) of $103.2 million in 1995, 2.24% on average invested assets of $84.5 million in 1994 and 1.40% on average invested assets of $82.7 million in 1993. Net investment spreads include the effect of income earned on the excess of average invested assets over average interest-bearing liabilities. The difference between the Company's yield on average invested assets and the rate paid on average interest-bearing liabilities was 1.69% in 1995, 1.13% in 1994 and 0.02% in 1993. Net investment income has increased over the three years due to both higher levels of average invested assets and an increase in the portfolio yield.
Investment income totaled $7.8 million in 1995, $5.5 million in 1994 and $5.1 million in 1993. Investment income increased in 1995 primarily as a result of an increase in investment yield on a higher level of average invested assets. The modest increase in investment income in 1994 over 1993 primarily resulted from an increase in overall portfolio yield as the Company reduced its average level of lower-yielding short-term investments. The yield on average invested assets increased to 7.59% in 1995 from 6.54% in 1994 and 6.17% in 1993. Over the last three fiscal years, the Company's quarterly investment yields on average invested assets have ranged from 5.85% to 7.81%; however, there can be no assurance that the Company will achieve similar yields in future periods.
The increased investment yield in 1995 reflects the higher interest rates prevailing during the latter half of 1994 and into fiscal 1995. In addition, the net cash provided by the Company's operating and financing activities and the cash flows from redemptions and maturities of securities in the Company's investment portfolio was invested in higher yielding instruments.
VARIABLE ANNUITY FEES are based on the market value of assets supporting variable annuity contracts in separate accounts. Such fees totaled $0.4 million in both 1995 and 1994 and $0.2 million in 1993. Variable annuity fees have increased over the three years principally due to asset growth from the receipt of variable annuity premiums and, during 1995, from increased market values. Variable annuity assets averaged $27.8 million during 1995, $26.1 million during 1994 and $16.5 million during 1993. Variable annuity premiums, which exclude premiums allocated to the fixed accounts of variable annuity products, totaled $5.9 million in 1995, $5.7 million in 1994 and $14.5 million in 1993. The decline in premiums from 1993 to 1994 can be attributed, in part, to a heightened demand for fixed-rate investment options, including the fixed accounts of variable annuities. The Company has encountered increased competition in the variable annuity marketplace during 1995 and 1994 and anticipates that the market will remain highly competitive for the foreseeable future.
SURRENDER CHARGES on fixed and variable annuities totaled $194,000 in 1995, compared with $367,000 in 1994 and $44,000 in 1993. Surrender charges generally are assessed on annuity withdrawals at declining rates during the first five to seven years of the contract. Withdrawal payments, which include surrenders and lump-sum annuity benefits, totaled $17.7 million in 1995, $12.9 million in 1994 and $2.9 million in 1993. These payments represent 16.93%, 15.04% and 3.85%, respectively, of average fixed and variable annuity reserves. Withdrawals include variable annuity payments from the separate accounts totaling $3.6 million in 1995, $2.4 million in 1994 and $0.4 million in 1993. Both fixed and variable annuity surrenders increased from the unusually low rates of prior years to more normal levels during 1994 and 1995, due to anticipated higher surrenders as the annuity block has matured. Management anticipates that withdrawal rates will remain relatively stable for the foreseeable future and the Company's investment portfolio has been structured to provide sufficient liquidity for anticipated withdrawals.
AMORTIZATION OF DEFERRED ACQUISITION COSTS increased during 1995 to $0.3 million primarily due to additional fixed and variable annuity sales and the subsequent amortization of related deferred commissions and other acquisition costs. There was no amortization in 1994 and $0.2 million in 1993. The decrease in amortization of deferred acquisition costs from 1993 to 1994 is primarily due to the decline in net realized investment gains which are included in gross profits for purposes of computing amortization.
INCOME TAX EXPENSE totaled $0.2 million in 1995, $0.7 million in 1994 and $0.8 million in 1993, representing effective tax rates of 26% in 1995, 38% in 1994 and 49% in 1993. The higher tax rate in 1993 reflects the payment of state income taxes relating to net realized investment gains recorded in 1992. The lower tax rate in 1995 reflects a prior period state income tax benefit.
INVESTED ASSETS at year end totaled $121.2 million in 1995, compared with $78.9 million in 1994. This increase primarily resulted from sales of fixed annuity contracts which totaled $51.7 million in 1995, up from $7.8 million in 1994 and $9.1 million in 1993. The increase in fixed annuity premiums during 1995 reflects generally heightened demand for fixed-rate products in 1995 relative to the comparable 1994 periods. This heightened demand may be attributed, in part, to the increase in prevailing long-term interest rates that began during the latter half of the 1994 fiscal year and continued into the first quarter of fiscal 1995.
BONDS AND NOTES, including those held for investment and the Available for Sale Portfolio (the "Bond Portfolio"), at September 30, 1995, had an aggregate amortized cost that exceeded its fair value by $1.5 million (including net unrealized losses of $1.4 million on the Available for Sale Portfolio). The fair value of the Bond Portfolio was $5.9 million below its amortized cost at September 30, 1994 (including net unrealized losses of $5.7 million on the Available for Sale Portfolio). The decrease in net unrealized losses on the Bond Portfolio since September 30, 1994 principally reflects the lower relative prevailing interest rates at September 30, 1995 and their corresponding effect on the fair value of the Bond Portfolio.
The entire Bond Portfolio at September 30, 1995 was rated by Standard & Poor's Corporation ("S&P"), Moody's Investors Service ("Moody's") or under comparable statutory rating guidelines established by the National Association of Insurance Commissioners ("NAIC") and implemented by either the NAIC or the Company. At September 30, 1995, approximately $101.7 million (at amortized cost) was rated investment grade by one or both of these agencies or under the NAIC guidelines, including $100.5 million of U.S. government/agency securities and MBSs.
The table on the following page summarizes the Company's rated bonds by rating classification as of September 30, 1995.
MORTGAGE LOANS aggregated $4.7 million at September 30, 1995 and consisted of 2 first mortgage loans collateralized by properties located in California. Both of these loans were multifamily residential loans to the same borrower. At the time of their purchase by the Company, these mortgage loans had loan-to-value ratios of 75% or less. At September 30, 1995, neither loan was delinquent. No mortgage loans were foreclosed upon during fiscal years 1995, 1994 or 1993.
The Company designs its fixed-rate products and conducts its investment operations in order to closely match the duration of the assets in its investment portfolio to its annuity obligations. The Company seeks to achieve a predictable spread between what it earns on its assets and what it pays on its liabilities by investing principally in fixed maturities. The Company's fixed-rate products incorporate surrender charges or other limitations on when contracts can be surrendered for cash to encourage persistency. Approximately 92% of the Company's fixed annuity reserves had surrender penalties or other restrictions at September 30, 1995.
The Company also seeks to provide liquidity and enhance its spread income by using reverse repurchase agreements ("Reverse Repos"), and by investing in MBSs. Reverse Repos involve a sale of securities and an agreement to repurchase the same securities at a later date at an agreed upon price and are generally over-collateralized. MBSs are generally investment-grade securities collateralized by large pools of mortgage loans. MBSs generally pay principal and interest monthly. The amount of principal and interest payments may fluctuate as a result of prepayments of the underlying mortgage loans.
DEFAULTED INVESTMENTS, comprising all investments (at amortized cost) that are in default as to the payment of principal or interest, totaled $0.7 million (fair value, $0.5 million) at September 30, 1995. At September 30, 1995, defaulted investments constituted 0.6% of total invested assets at amortized cost. At September 30, 1994, there were no defaulted investments.
SOURCES OF LIQUIDITY are readily available to the Company in the form of existing cash and short-term investments, Reverse Repo capacity on invested assets and, if required, proceeds from invested asset sales. At September 30, 1995, approximately $60.5 million of the Company's Bond Portfolio had an aggregate unrealized gain of $0.6 million, while approximately $51.0 million of the Bond Portfolio had an aggregate unrealized loss of $2.1 million. In addition, the Company's investment portfolio also currently provides approximately $1.5 million of monthly cash flow from scheduled principal and interest payments.
Management is aware that prevailing market interest rates may shift significantly and has strategies in place to manage either an increase or decrease in prevailing rates. In a rising interest rate environment, the Company's average cost of funds would increase over time as it prices its new and renewing annuities to maintain a generally competitive market rate. Management would seek to place new funds in investments that were matched in duration to, and higher yielding than, the liabilities assumed. The Company believes that liquidity to fund withdrawals would be available through incoming cash flow, the sale of short-term or floating-rate instruments or Reverse Repos on the Company's substantial MBS segment of the Bond Portfolio, thereby avoiding the sale of fixed-rate assets in an unfavorable bond market.