Management's discussion and analysis of financial conditions and results of operations of the Company for the three years ended December 31, 2002 follows. This management discussion and analysis should be read in conjunction with the financial data contained in Item 6 and the Company's consolidated Financial Statements.
The Company's consolidated net income of $3.6 million decreased $1.9 million or 34.2% in 2002 when compared to 2001. The Employee Benefits segment contributed $3.2 million to the consolidated results, and the Financial Services segment contributed $404 thousand. Of total consolidated net income for 2002, 2001, and 2000, the Employee Benefits segment contributed 89%, 82%, and 67%, respectively, while the Financial Services segment contributed 11%, 18%, and 33%, respectively.
The Financial Services net income decreased $598 thousand in 2002 primarily due to a reduction in realized gains on fixed maturities. The Financial Services net income increased in 2001 from 2000 due to realized gains on fixed maturities in 2001 of $679 thousand compared to realized gains in 2000 of $67 thousand.
In 2002 total Company revenues decreased $5.9 million or 18% to $27.2 million when compared to 2001. The decline in revenues in 2002 was comprised of decreased premium and fee income of $6.7 million, decreased realized gain on investments of $279 thousand, partially offset by increased net investment income of $1.1 million.
Net investment income grew to $12.8 million and $11.8 million in 2002 and 2001, respectively, from $10.3 million in 2000, primarily as a result of growth in policyholder reserves on BOLI business and increased shareholder's equity.
Total benefits and expenses decreased $2.4 million or 9.7% in 2002 when compared to 2001. The Employee Benefits segment contributed $4 million of the decrease in 2002 while the Financial Services segment contributed an increase of $1.6 million. The decrease in total benefits and expenses in the Employee Benefits segment in 2002 resulted primarily from loss of membership due to higher terminations and reduced operating expenses. The increase in Financial Services related to additional interest credits on BOLI account balances and increased operating expenses associated with growth in the Company's business. Total benefits and expenses decreased $2.8 million in 2001 when compared to 2000. This decrease was primarily due to a decrease in the Employee Benefits segment.
Income tax expense decreased $1.7 million or 51% in 2002 when compared to 2001. Income tax expense increased $1.9 million in 2001 when compared to 2000. The changes in income tax expense reflect the impact of the fluctuations in pre-tax earnings.
In evaluating its results of operations, the Company also considers net changes in deposits received for investment-type contracts, deposits to separate accounts, and self-funded equivalents. Self-funded equivalents generally represent paid claims under minimum premium and administrative services only contracts that amounts approximate the additional premiums which would have been earned under such contracts if they had been written as traditional indemnity programs.
Self-funded premium equivalents decreased $18.5 million or 48% in 2002 when compared to 2001 primarily due to membership decline in the Employee Benefits segment.
Canada Life's U.S. operations represented approximately $1.6 billion in annual revenue in 2002 and $7.4 billion in assets as of December 31, 2002. If the transaction proceeds, Canada Life's U.S. operations will be integrated with GWL&A's operations. The details of the integration are still to be determined.
On October 6, 1999, GWL&A entered into a purchase and sales agreement (the Agreement) with Allmerica Financial Corporation (Allmerica) to acquire, via assumption reinsurance, Allmerica's group life and health business on March 1, 2000. The policies resident in the state of New York have been assigned to the Company as part of the Agreement. This business primarily consists of administrative services only, and stop loss policies. The in-force business was immediately co-insured back to Allmerica and then underwritten and retained by the Company upon each policy renewal date. The purchase price, as defined in the Agreement, was based on a percentage of the amount in force at March 1, 2000, contingent on the persistency of the block of business through March 2001.
In order to remain competitive, a focused effort on provider contracting is essential to ensure strong morbidity results. Sales efforts will be streamlined and concentrated on self-funded products. Business development strategies will emphasize greater penetration in the New York market. Continued emphasis will be placed on expense economies and synergies to ensure competitive administrative costs. Efficiency will be improved through implementation of various system initiatives and through process redesign.
Deposits for investment-type contracts decreased $6.3 million or 62% and decreased $27 million or 73% in 2002 and 2001, respectively. In both years the decreases were a result of reductions in BOLI sales. BOLI premiums and deposits were $0 in 2002 compared to $5 million in 2001 and $35 million in 2000 The reduction in BOLI premiums and deposits was impacted by lower U.S. equity markets, lower fixed interest rates and recent negative publicity regarding this type of insurance product.
Net investment income increased $568 thousand in 2002 compared to 2001 and $1.1 million in 2001 compared to 2000. The increase is the result of interest income associated with BOLI business.
Total benefits and expenses increased $1.6 million in 2002 compared to an increase of $1.2 million in 2001, primarily due to additional interest credits on BOLI balances and increased operating expenses.
One of the Company's primary objectives is to ensure that its fixed maturity portfolio is maintained at a high average quality so as to limit credit risk. If not externally rated, the securities are rated by GWL&A for the Company on a basis intended to be similar to that of the rating agencies.
Generally, the Company has met its operating requirements by maintaining appropriate levels of liquidity in its investment portfolio. Liquidity for the Company has remained strong, as evidenced by significant amounts of short-term investments and cash that totaled $15.6 million and $11.7 million as of December 31, 2002 and 2001, respectively.
First Great-West Life & Annuity Insurance Company (A wholly-owned subsidiary of Great-West Life & Annuity Insurance Company)
Financial Statements for the Years Ended December 31, 2002, 2001, and 2000 and Independent Auditors' Report
In our opinion, such financial statements present fairly, in all material respects, the financial position of First Great-West Life & Annuity Insurance Company as of December 31, 2002 and 2001, and the results of its operations and its cash flows for the each of the three years in the period ended December 31, 2002, in conformity with accounting principles generally accepted in the United States of America.
STATEMENTS OF INCOME FOR THE YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
Life Insurance and Annuity Reserves - Life insurance and annuity policy reserves with life contingencies of $154,348 and $145,593 at December 31, 2002 and 2001, respectively, are computed on the basis of estimated mortality, investment yield, withdrawals, future maintenance and settlement expenses, and retrospective experience rating premium refunds. Annuity contract reserves without life contingencies of $14,379 and $5,995 at December 31, 2002 and 2001, respectively, are established at contractholders' account value.
Reinsurance - Policy reserves ceded to other insurance companies are carried as a reinsurance receivable on the balance sheet. The cost of reinsurance related to long-duration contracts is accounted for over the life of the underlying reinsured policies using assumptions consistent with those used to account for the underlying policies (See Note 6).
Regulatory Requirements - In accordance with the requirements of the State of New York, the Company must demonstrate adequate capital, as defined. At December 31, 2002, the Company was in compliance with the requirement.
Amount receivable for accident and health plan claims and premiums in the course of collection are generally uncollateralized. The Company maintains an allowance for credit losses at a level that, in management's opinion, is sufficient to absorb credit losses on its amounts receivable related to uninsured accident and health plan claims and premiums in course of collection. Management's judgement is based on past loss experience and current and projected economic conditions.
Reinsurance contracts do not relieve the Company from its obligations to policyholders. Failure of reinsurers to honor their obligations could result in losses to the Company; consequently, allowances are established for amounts deemed uncollectible. The Company evaluates the financial condition of its reinsurers and monitors concentrations of credit risk arising from similar geographic regions, activities, or economic characteristics of the reinsurers to minimize its exposure to significant losses from reinsurer insolvencies. At December 31, 2002 and 2001, the reinsurance receivable had a carrying value of $2,870 and $2,346, respectively.
Proceeds from sales of securities available-for-sale were $18,719 , $54,832, and $44,237 during 2002, 2001, and 2000, respectively. The realized gains on such sales totaled $433, $950, and $296 for 2002, 2001, and 2000, respectively. The realized losses totaled $70, $308, and $229, for 2002, 2001, and 2000, respectively.
The estimated fair-value of policyholders' funds is the same as the carrying amount as the Company can change the crediting rates with 30 days notice.
Temporary differences, which give rise to the deferred tax assets and liabilities as of December 31, 2002 and 2001, are as follows:
Amounts included for investment assets above include $3,426 and $666 related to the unrealized gains on the Company's fixed maturities available-for-sale at December 31, 2002, and 2001, respectively. Although realization is not assured, management believes it is more likely than not that all of the deferred tax asset will be realized.
The Company and the Parent Corporation have entered into an income tax allocation agreement whereby the Parent Corporation could file a consolidated federal income tax return. Under the agreement the Company is responsible for and will receive the benefits of any income tax liability or benefit computed on a separate basis. In 2002, the Company will file on a consolidated basis with its Parent Corporation.
In March 1998, the National Association of Insurance Commissioners adopted the Codification of Statutory Accounting Principles (Codification). The Codification, which is intended to standardize accounting and reporting to state insurance departments, was effective January 1, 2001. However, statutory accounting principles will continue to be established by individual state laws and permitted practices. The New York Division of Insurance required adoption of Codification with certain modifications for the preparation of statutory financial statements effective January 1, 2001. The adoption of Codification as modified by the New York Division of Insurance decreased statutory net worth as of January 1, 2001, by approximately $106. (The modifications adopted by the New York Division of Insurance had the effect of decreasing statutory net worth by approximately $2,901).