(3) Statutory data has been derived from the annual statements of our insurance subsidiaries, as filed with insurance regulatory authorities and prepared in accordance with statutory accounting practices.
RESULTS OF OPERATIONS FOR THE THREE YEARS ENDED DECEMBER 31, 1999
Net income applicable to common stock totaled $55.6 million in 1999, $53.8 million in 1998 and $73.7 million in 1997. The increase in net income in 1999 is primarily the result of increased equity income and the impact of realized gains and losses on investments. These items are offset by an increase in operating expenses relating to the closing of an administrative service center and an increase in the level of operations to support our expanding variable alliances. In addition, net investment income decreased in 1999 due partially to a decrease in fee income from mortgage loan prepayments and bond calls. The decrease in net income in 1998 is attributable primarily to the impact of realized gains and losses on investments. Adjusted operating income applicable to common stock, which does not include the impact of realized gains and losses on investments and other items that management believes are not indicative of operating trends, totaled $55.2 million in 1999, $56.0 million in 1998 and $47.0 million in 1997. The following is a reconciliation of net income to adjusted operating income.
AMORTIZATION OF DEFERRED POLICY ACQUISITION COSTS increased 22.2% in 1999 to $12.4 million and 20.0% in 1998 to $10.2 million. The increases are partially attributable to increases in the unamortized acquisition cost asset due to growth in the volume of business in force. During 1999, there was also a shift in product profitability to blocks of business that have a larger acquisition cost remaining to be amortized or that have higher amortization factors. During 1998, amortization also increased due to an increase in the profitability of the underlying business.
OTHER UNDERWRITING, ACQUISITION AND INSURANCE EXPENSES increased 7.4% in 1999 to $48.0 million and 1.4% in 1998 to $44.7 million. The increases are generally attributable to an increase in the level of operations to support the promotion and administration of variable products sold by our variable alliance partners. In addition, included in insurance expenses for 1999 are restructuring charges totaling $1.2 million relating to the closing of an administrative service center. See "Restructuring." Expenses totaling $0.8 million in 1999, $2.2 million in 1998 and $0.7 million in 1997 were incurred to modify our computer systems to prepare for the Year 2000 date conversion. See "Impact of Year 2000." The increases were partially offset by a $0.9 million decrease in 1999 and $2.6 million decrease in 1998 in home office real estate expense due to the exchange of home office properties on March 30, 1998. See "Exchange of Home Office Properties." Changes in the amounts and timing of estimated guaranty fund assessments resulted in a related credit of $1.2 million in 1998, while the adoption of a new accounting pronouncement in 1997 resulted in an increase in guaranty fund expense of $1.6 million in 1997.
Over the last several years, the mix of the our life insurance business has been shifting from traditional and interest sensitive products to variable products. In addition, in an attempt to enhance our persistency rate, we have promoted an exchange program for the rollover of universal life policies to variable universal life policies. We expect the shift to variable products to continue due to this program and the continued popularity of variable products. A majority of premiums received on variable products are typically invested in our separate accounts as opposed to the general account investments. This trend is expected to impact the future growth rate of our investment portfolio and separate account assets.
(1) Private placement securities are generally rated by the Securities Valuation Office of the NAIC. Comparisons between NAIC designations and S & P ratings are published by the NAIC. S & P has not rated some of the fixed maturity securities in our portfolio.
The computer models used to estimate the impact of a 10% change in market interest rates use many assumptions and estimates that materially impact the fair value calculations. Key assumptions used by the models include an immediate and parallel shift in the yield curve and an acceleration of bond calls and principal prepayments on mortgage and other asset-backed securities. Due to the subjectivity of these assumptions, the actual impact of a 10% change in rates on the fair market values would likely be different from that estimated.
We paid common and preferred stock dividends totaling $10.8 million in 1999, $10.2 million in 1998 and $9.4 million in 1997. It is anticipated that dividend requirements for 2000 will be $0.09 per quarter per common share and $0.0075 per quarter per preferred share, or approximately $11.3 million. In addition, interest payments on the Notes are estimated to be $5.0 million for 2000.
FBL Financial Group, Inc. expects to rely on available cash resources and on dividends from Farm Bureau Life to make any dividend payments to its stockholders and interest payments on its Notes. The ability of Farm Bureau Life to pay dividends to FBL Financial Group, Inc. is limited by law to earned profits (statutory unassigned surplus) as of the date the dividend is paid, as determined in accordance with accounting practices prescribed by insurance regulatory authorities of the State of Iowa. In addition, under the Iowa Insurance Holding Company Act, Farm Bureau Life may not pay an "extraordinary" dividend without prior notice to and approval by the Iowa insurance commissioner. An "extraordinary" dividend is defined under the Iowa Insurance Holding Company Act as any dividend or distribution of cash or other property whose fair market value, together with that of other dividends or distributions made within the preceding 12 months, exceeds the greater of (i) 10% of policyholders' surplus (total statutory capital stock and statutory surplus) as of December 31 of the preceding year, or (ii) the statutory net gain from operations of the insurer for the 12-month period ending December 31 of the preceding year. During 2000, the maximum amount legally available for distribution to FBL Financial Group, Inc. without further regulatory approval is $40.6 million.
We have a $12.0 million line of credit with Farm Bureau Mutual in the form of a revolving demand note. Borrowings on the note, which totaled $11.7 million at December 31, 1999 and $8.6 million at December 31, 1998, are being used to acquire assets that will be leased to certain affiliates, including Farm Bureau Mutual. Interest is payable at a rate equal to the prime rate of a national bank (8.50% at December 31, 1999).
Consolidated Balance Sheets................................................ 32 Consolidated Statements of Income.......................................... 34 Consolidated Statements of Changes in Stockholders' Equity................. 35 Consolidated Statements of Cash Flows...................................... 36 Notes to Consolidated Financial Statements................................. 38
We have audited the accompanying consolidated balance sheets of FBL Financial Group, Inc. as of December 31, 1999 and 1998, and the related consolidated statements of income, changes in stockholders' equity, and cash flows for each of the three years in the period ended December 31, 1999. 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.
To the extent recoverable from future policy revenues and gross profits, certain costs of acquiring new insurance business, principally commissions and other expenses related to the production of new business, have been deferred. The value of insurance in force acquired represents the cost assigned to insurance contracts when an insurance company is acquired. The initial value is determined by an actuarial study using expected future gross profits as a measurement of the net present value of the insurance acquired. Interest accrues on the unamortized balance at a weighted average rate of 5.72%.
Unrealized gains and losses on our available-for-sale securities are included in other comprehensive income (loss) in stockholders' equity. Other comprehensive income (loss) excludes net investment gains (losses) included in net income which merely represent transfers from unrealized to realized gains and losses. These amounts totaled ($0.1) million in 1999, ($0.9) million in 1998 and $26.5 million in 1997. These amounts, which have been measured through the date of sale, are net of income taxes and adjustments to deferred policy acquisition costs, value of insurance in force acquired and unearned revenue reserve totaling $0.2 million in 1999, $0.5 million in 1998 and ($15.3) million in 1997.
Realized losses on fixed maturities totaling $5.2 million in 1999 and $2.8 million in 1998 were incurred as a result of writedowns for other than temporary impairment of fixed maturity securities. No such writedowns were recorded during 1997.
At December 31, 1999, affidavits of deposits covering investments with a carrying value totaling $2,605.0 million were on deposit with state agencies to meet regulatory requirements.
CASH AND SHORT-TERM INVESTMENTS: The carrying amounts reported in the consolidated balance sheets for these instruments approximate their fair values.
In addition to the cession of risks in excess of specific retention limits, we also have reinsurance agreements with five variable alliance partners to cede a specified percentage of risks associated with variable universal life and variable annuity contracts. Under these agreements, we pay the alliance partners their reinsurance percentage of charges and deductions collected on the reinsured polices. The alliance partners in return pay us their reinsurance percentage of benefits in excess of related account balances. In addition, the alliance partners pay us an expense allowance for certain new business, development and maintenance costs on the reinsured contracts.
We file a consolidated federal income tax return with Farm Bureau Life and FBL Financial Services, Inc. and certain of their subsidiaries. The companies included in the consolidated federal income tax return each report current income tax expense as allocated under a consolidated tax allocation agreement. Generally, this allocation
Prior to 1984, a portion of Farm Bureau Life's current income was not subject to current income taxation, but was accumulated, for tax purposes, in a memorandum account designated as "policyholders' surplus account." The aggregate accumulation in this account at December 31, 1999 was $11.9 million. Should the policyholders' surplus account exceed the limitation prescribed by federal income tax law, or should distributions be made to the parent company in excess of $519.7 million, such excess would be subject to federal income taxes at rates then effective. Deferred income taxes of $4.2 million have not been provided on amounts included in this memorandum account.
We have a note payable to the Federal Home Loan Bank (FHLB) totaling $40.0 million at December 31, 1999. Proceeds from the note, which was issued during 1999, were used to fund the maturity of our $24.5 million short-term debt. The note is due September 17, 2003, and interest on the note is charged at a variable rate equal to the London Interbank Offered Rate less 0.0475% (5.77% at December 31, 1999). Fixed maturity securities with a carrying value of $41.7 million are on deposit with the FHLB as collateral for the note. As an investor in the FHLB, the Company has the ability to borrow an additional $15.8 million from the FHLB at December 31, 1999. No debt was outstanding under this credit agreement as of December 31, 1998.