UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
X ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2004
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from __________ to __________.
Commission File Number 1-7422
AMERICAN GENERAL FINANCE, INC.
(Exact name of registrant as specified in its charter)
Indiana 35-1313922
(State of incorporation) (I.R.S. Employer Identification No.)
601 N.W. Second Street, Evansville, IN 47708
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (812) 424-8031
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months, and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K [ ]. Not applicable.
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Securities Exchange Act of 1934). Yes No X
The registrant meets the conditions set forth in General Instructions I(1)(a)
and (b) of Form 10-K and is therefore filing this Form 10-K with the reduced
disclosure format.
As the registrant is an indirect wholly owned subsidiary of American
International Group, Inc., none of the registrant's common stock is held by
non-affiliates of the registrant.
At March 7, 2005, there were 2,000,000 shares of the registrant's common
stock, $.50 par value, outstanding.
2
TABLE OF CONTENTS
Item Page
Part I 1. Business . . . . . . . . . . . . . . . . . . . . . . 4
2. Properties . . . . . . . . . . . . . . . . . . . . . 17
3. Legal Proceedings . . . . . . . . . . . . . . . . . 17
4. Submission of Matters to a Vote of Security
Holders . . . . . . . . . . . . . . . . . . . . . *
Part II 5. Market for Registrant's Common Equity, Related
Stockholder Matters and Issuer Purchases of
Equity Securities . . . . . . . . . . . . . . . . 18
6. Selected Financial Data . . . . . . . . . . . . . . 18
7. Management's Discussion and Analysis of Financial
Condition and Results of Operations. . . . . . . . 19
7A. Quantitative and Qualitative Disclosures About
Market Risk . . . . . . . . . . . . . . . . . . . 51
8. Financial Statements and Supplementary Data . . . . 51
9. Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure . . . . . . **
9A. Controls and Procedures . . . . . . . . . . . . . . 94
9B. Other Information . . . . . . . . . . . . . . . . ***
Part III 10. Directors and Executive Officers of the Registrant . *
11. Executive Compensation . . . . . . . . . . . . . . . *
12. Security Ownership of Certain Beneficial Owners
and Management and Related Stockholder Matters . . *
13. Certain Relationships and Related Transactions . . . *
14. Principal Accountant Fees and Services . . . . . . . 95
Part IV 15. Exhibits and Financial Statement Schedules . . . . . 96
* Items 4, 10, 11, 12, and 13 are not included, as the registrant
meets the conditions set forth in General Instructions I(1)(a) and
(b) of Form 10-K.
** Item 9 is not included, as no information was required by Item 304
of Regulation S-K.
*** Item 9B is not included because it is inapplicable.
3
AVAILABLE INFORMATION
American General Finance, Inc. (AGFI) files annual, quarterly, and
current reports and other information with the Securities and Exchange
Commission (the SEC). The SEC maintains a website that contains
annual, quarterly, and current reports and other information that
issuers (including AGFI) file electronically with the SEC. The SEC's
website is www.sec.gov.
The following reports are available free of charge on our Internet
website www.agfinance.com as soon as reasonably practicable after we
file them with or furnish them to the SEC:
* our 2004 Current Reports on Form 8-K;
* our 2004 Quarterly Reports on Form 10-Q; and
* this Annual Report on Form 10-K for the year ended December
31, 2004.
The information on our website is not incorporated by reference into
this report. The website addresses listed above are provided for the
information of the reader and are not intended to be active links.
4
PART I
Item 1. Business.
GENERAL
American General Finance, Inc. will be referred to as "AGFI" or
collectively with its subsidiaries, whether directly or indirectly
owned, as the "Company" or "we". AGFI was incorporated in Indiana in
1974 to become the parent holding company of American General Finance
Corporation (AGFC). AGFC was incorporated in Indiana in 1927 as
successor to a business started in 1920. Since August 29, 2001, AGFI
has been an indirect wholly owned subsidiary of American International
Group, Inc. (AIG), a Delaware corporation. AIG is a holding company
which, through its subsidiaries, is engaged in a broad range of
insurance and insurance-related activities, financial services and
asset management in the United States and abroad.
AGFI is a financial services holding company whose principal
subsidiary is AGFC. AGFC is also an SEC registrant. AGFC is a
financial services holding company with subsidiaries engaged primarily
in the consumer finance and credit insurance businesses. We conduct
the credit insurance business to supplement our consumer finance
business through Merit Life Insurance Co. (Merit) and Yosemite
Insurance Company (Yosemite), which are both wholly owned subsidiaries
of AGFC.
Effective January 1, 2003, we acquired 100% of the common stock of
Wilmington Finance, Inc. (WFI) in a purchase business combination.
WFI provides services for the origination of non-conforming
residential real estate loans for sale to investors.
At December 31, 2004, the Company had 1,444 branch offices in 45
states, Puerto Rico, and the U.S. Virgin Islands and approximately
9,100 employees. Our executive offices are located in Evansville,
Indiana.
Selected Financial Information
Selected financial information of the Company was as follows:
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Average net receivables $17,658,922 $14,232,110 $12,409,908
Average borrowings $16,300,928 $13,381,555 $11,471,189
5
Item 1. Continued
At or for the
Years Ended December 31,
2004 2003 2002
Yield - finance charges as a
percentage of average net
receivables 11.20% 12.46% 13.85%
Borrowing cost - interest
expense as a percentage
of average borrowings 3.90% 4.08% 4.88%
Interest spread - yield
less borrowing cost 7.30% 8.38% 8.97%
Operating expenses as a
percentage of average
net receivables 4.43% 4.82% 4.52%
Allowance ratio - allowance for
finance receivable losses as
a percentage of net finance
receivables 2.26% 3.04% 3.34%
Charge-off ratio - net charge-offs
as a percentage of the average
of net finance receivables at
the beginning of each month
during the period 1.60% 2.19% 2.41%
Charge-off coverage - allowance
for finance receivable losses
to net charge-offs 1.63x 1.50x 1.56x
Delinquency ratio - gross finance
receivables 60 days or more
past due as a percentage
of gross finance receivables 2.31% 3.28% 3.67%
Return on average assets 2.46% 2.27% 2.48%
Return on average equity 23.01% 21.33% 24.49%
Ratio of earnings to fixed charges
(refer to Exhibit 12 for
calculations) 2.06x 2.02x 1.85x
Debt to tangible equity ratio -
debt to equity less goodwill
and accumulated other
comprehensive income (loss) 8.98x 8.88x 8.66x
Debt to equity ratio 7.99x 7.86x 8.16x
6
Item 1. Continued
We have three business segments: branch, centralized real estate, and
insurance. We define our segments by type of financial service
product offered, nature of the production process, and method used to
distribute our products and to provide our services, as well as our
management reporting structure.
In prior years, we reported our centralized real estate business and
our branch business in our consumer finance business segment. During
2004, we expanded our segment reporting to reflect our centralized
real estate business as a separate segment. We also restated prior
periods so that these prior periods are shown on a comparable basis to
our new presentation.
Revenues, pretax income, and assets for our three business segments
and consolidated totals were as follows:
At or for the
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Branch:
Revenues $ 1,785,721 $ 1,779,442 $ 1,801,708
Pretax income 494,773 448,817 458,918
Assets 11,305,399 11,016,603 11,614,069
Centralized real estate:
Revenues $ 566,400 $ 309,453 $ 64,579
Pretax income 151,016 89,054 6,341
Assets 8,410,635 3,948,498 1,858,919
Insurance:
Revenues $ 199,160 $ 197,961 $ 202,113
Pretax income 91,323 96,914 84,436
Assets 1,472,399 1,389,527 1,320,844
Consolidated:
Revenues $ 2,459,162 $ 2,190,106 $ 1,999,838
Pretax income 693,671 575,408 492,168
Assets 22,235,772 17,006,164 15,484,286
See Note 22. of the Notes to Consolidated Financial Statements in Item
8. for reconciliations of segment totals to consolidated financial
statement amounts.
BRANCH BUSINESS SEGMENT
The branch business segment is the core of the Company's operations.
Through its 1,444 branch offices and its centralized support
operations, the 6,700 employees of the branch business segment
serviced over 1.8 million real estate loans, non-real estate loans,
and retail sales finance accounts totaling $11.7 billion at December
31, 2004. Many of our customers are described as non-conforming, non-
prime, or subprime.
7
Item 1. Continued
Structure and Responsibilities
Branch personnel are responsible for originating real estate loans and
non-real estate loans, purchasing retail sales finance obligations
from retail merchants, offering credit and non-credit insurance and
ancillary products to the customers, and servicing these receivables.
Branch Managers have numerous responsibilities including hiring and
training the branch staff and supervising their work, establishing
retail merchant relationships, identifying portfolio acquisition
opportunities, maintaining finance receivable credit quality, and
generating branch profitability.
To ensure profitability and growth in our branch operations, we
continuously review the performance of our individual branches and the
markets they serve. During 2004, we opened 45 branch offices and
closed 4 branch offices.
Products and Services
Real estate loans are secured by first or second mortgages on
residential real estate, generally have maximum original terms of 360
months, and are considered non-conforming. These loans may be closed-
end accounts or open-end home equity lines of credit and may be fixed-
rate or adjustable-rate products. The home equity lines of credit
generally have a predetermined period during which the borrower may
take advances. After this draw period, all advances outstanding under
the line of credit convert to a fixed-term repayment period, generally
over an agreed upon period between 15 and 30 years.
Non-real estate loans are secured by consumer goods, automobiles, or
other personal property or are unsecured and generally have maximum
original terms of 60 months.
We purchase retail sales contracts and provide revolving retail
services arising from the retail sale of consumer goods and services
by retail merchants. We also purchase private label receivables
originated by AIG Federal Savings Bank (AIG Bank), a non-subsidiary
affiliate, under a participation agreement. Retail sales contracts
are closed-end accounts that represent a single purchase transaction.
Revolving retail and private label are open-end accounts that can be
used for financing repeated purchases from the same merchant. Retail
sales contracts are secured by the real property or personal property
designated in the contract and generally have maximum original terms
of 60 months. Revolving retail and private label are secured by the
goods purchased and generally require minimum monthly payments based
on outstanding balances. We refer to retail sales contracts,
revolving retail, and private label collectively as "retail sales
finance".
We offer credit life, credit accident and health, credit related
property and casualty, credit involuntary unemployment, and non-credit
insurance and ancillary products to all eligible branch customers.
Affiliated as well as non-affiliated insurance and/or financial
services companies issue these products which are described under
"Insurance Business Segment".
8
Item 1. Continued
Customer Development
The Company solicits customers through a variety of channels including
direct mail, E-commerce and retail sales financing.
We solicit new prospects, as well as current and former customers,
through a variety of direct mail offers. The Company's data warehouse
is a central, proprietary source of information regarding current and
former customers. We use this information to tailor offers to
specific customer segments. In addition to internal data, the Company
purchases prospect lists from major list vendors based on
predetermined selection criteria. Types of direct mail solicitations
include invitations to apply, guaranteed loan offers, and live checks
which, if cashed by the customer, constitute non-real estate loans.
E-commerce has become another source of new customers. The Company's
web site includes a brief, user-friendly credit application that is
automatically routed to the branch office nearest the consumer upon
completion. E-commerce relationships exist with a variety of search
engines to drive prospects to the Company's website. The Company's
web site also has a branch office locator feature so potential
customers can quickly and easily find the branch office nearest to
them and can contact branch personnel directly.
New customer relationships also begin through our alliances with
approximately 20,000 retail merchants across the United States, Puerto
Rico, and the U.S. Virgin Islands. After a customer takes advantage
of the merchant's retail sales financing option, the Company purchases
that retail sales finance obligation. We then contact the customer
using various marketing methods to invite the customer to discuss his
or her overall credit needs with our consumer lending specialists.
Any resulting loan may pay off the customer's retail sales finance
obligation and consolidate his or her debts with other creditors.
Our consumer lending specialists, who, where required, are licensed to
offer insurance and ancillary products, explain our credit and non-
credit insurance and ancillary products to the customer. The customer
then determines whether to purchase any of these products.
The Company's growth strategy is to supplement our solicitation of
customers through direct mail, E-commerce, and retail sales financing
activities with portfolio acquisitions. These acquisitions include
real estate loans, non-real estate loans, and retail sales finance
receivables originated by other lenders whose customers meet our
credit quality standards and profitability objectives. A large amount
of our portfolio acquisitions comes from sellers with whom we have
previously done business. Our branch and field operations management
also seek sources of potential portfolio acquisitions.
9
Item 1. Continued
Account Servicing
Establishing and maintaining customer relationships is very important
to us. Branch personnel are in frequent contact with our real estate
loan and non-real estate loan customers through solicitation phone
calls to assess customers' current financial situations to determine
if they need additional funds. Centralized support operations
personnel are in frequent contact with our retail sales finance
customers through solicitation or collection calls. We view
collection efforts as opportunities to help our customers solve their
temporary financial problems and to maintain our customer
relationships.
We do not modify existing accounts, except in certain bankruptcy
situations. However, we may renew a delinquent account if the
customer has sufficient income and it does not appear that the cause
of past delinquency will affect the customer's ability to repay the
new loan. We subject all renewals, whether the customer's account is
current or delinquent, to the same credit risk underwriting process as
we would a new application for credit.
We may allow a deferment, which is a partial payment that extends the
term of an account. The partial payment amount is usually the greater
of one-half of a regular monthly payment or the amount necessary to
bring the interest on the account current. We limit a customer to two
deferments in a rolling twelve-month period unless we determine that
an exception is warranted and consistent with our credit risk
policies.
To accommodate a customer's preferred monthly payment pattern, we may
agree to a customer's request to change a payment due date on an
account. We will not change an account's due date if the change will
affect the thirty day plus delinquency status of the account at month
end.
When two payments are past due on a real estate loan and it appears
that foreclosure may be necessary, we inspect the property as part of
assessing the costs, risks, and benefits associated with foreclosure.
Generally, we begin foreclosure proceedings when the fourth monthly
payment is past due. When foreclosure is completed and we have
obtained title to the property, we obtain an unrelated party's
valuation of the property, which is either a full appraisal or a real
estate broker's or appraiser's estimate of the property's sale value
without the benefit of a full interior and exterior appraisal and
lacking sales comparisons. We reduce finance receivables by the
amount of the real estate loan, establish a foreclosed real estate
owned asset at lower of loan balance or 85% of the valuation, and
charge off any loan amount in excess of that value to the allowance
for finance receivable losses.
Branch and centralized support operations personnel charge-off non-
real estate loans and retail sales finance obligations according to
our policy. See Note 3. of the Notes to Consolidated Financial
Statements in Item 8. for our charge-off policy. If recovery efforts
are feasible, we transfer charged-off accounts to our centralized
charge-off recovery operation for ultimate disposition.
10
Item 1. Continued
See Note 22. of the Notes to Consolidated Financial Statements in Item
8. for further information on the Company's branch business segment.
CENTRALIZED REAL ESTATE BUSINESS SEGMENT
The centralized real estate business segment performs originating and
servicing activities for real estate loan customers that we obtain
through distribution channels other than our branches. These
distribution channels include mortgage brokers, correspondent
relationships with mortgage lenders, and portfolio acquisitions from
various types of mortgage lenders as well as direct lending to
customers. This segment includes the originating and servicing
operations of our WFI and MorEquity, Inc. (MorEquity) subsidiaries.
At December 31, 2004, the centralized real estate business segment had
approximately 1,600 employees.
Structure and Responsibilities
Our mortgage origination subsidiaries have entered into agreements
with AIG Bank whereby for fees these subsidiaries provide marketing,
certain origination processing services, loan servicing, and related
services for AIG Bank's origination and sale of non-conforming
residential real estate loans. Our mortgage origination subsidiaries
and AIG Bank originated a combined $10.6 billion of real estate loans
during 2004 and $5.0 billion of real estate loans during 2003. We
ultimately retained $4.5 billion of these real estate loans during
2004 and $1.9 billion of these real estate loans during 2003 and sold
the remainder in the secondary mortgage market to third party
investors. For accounting purposes, we report as originations any
real estate loans we purchase from AIG Bank that were originated using
our mortgage origination subsidiaries' services rather than reporting
the transactions as portfolio acquisitions because the Company and AIG
Bank share a common parent.
Products and Services
WFI originates non-conforming residential real estate loans, primarily
through broker relationships (wholesale) and, to lesser extents,
directly to consumers (retail) and through correspondent relationships
and sells these loans to investors with servicing released to the
purchaser. WFI had a national network of 19 wholesale, retail, and
correspondent production and sales offices at December 31, 2004.
During 2004, WFI originated real estate loans through approximately
5,000 brokers and sold them to more than 20 investors. WFI's
investors include money center and regional banks, national finance
companies, investment banks, and our affiliates.
11
Item 1. Continued
MorEquity originates non-conforming residential real estate loans
primarily through refinancings of its existing real estate loan
customers and, to a lesser extent, through direct mail solicitations.
MorEquity also services approximately 52,000 real estate loans
totaling $8.4 billion at December 31, 2004 from a centralized
location. These real estate loans were generated through:
* portfolio acquisitions from third party lenders;
* our mortgage origination subsidiaries;
* refinancing existing mortgages; or
* advances on home equity lines of credit.
See Note 22. of the Notes to Consolidated Financial Statements in Item
8. for further information on the Company's centralized real estate
business segment.
CREDIT RISK MANAGEMENT
A risk in all consumer lending and retail sales financing transactions
is the customer's unwillingness or inability to repay obligations.
Unwillingness to repay is usually evidenced in a consumer's historical
credit repayment record. An inability to repay usually results from
lower income due to unemployment or underemployment, major medical
expenses, or divorce. Occasionally, these types of events can be so
economically severe that the customer files for bankruptcy. Because
we evaluate credit applications with a view toward ability to repay,
our customer's inability to repay occurs after our initial credit
evaluation and funding of an outstanding finance receivable.
In our branch business segment, we use credit risk scoring models at
the time of credit application to assess our risk of the applicant's
unwillingness or inability to repay. We develop these models using
numerous factors, including past customer credit repayment experience,
and periodically revalidate them based on recent portfolio
performance. We use different credit risk scoring models for
different types of loan and retail sales finance products. We extend
credit to those customers who fit our risk guidelines as determined by
these models and, in some cases, manual underwriting. Price and size
of the loan or retail sales finance transaction are in relation to the
estimated credit risk assumed.
In our centralized real estate business segment, AIG Bank originates
real estate loans according to established underwriting criteria and,
for those loans retained by the Company, we individually review the
real estate loans as part of our due diligence.
12
Item 1. Continued
OPERATIONAL CONTROLS
We control and monitor our branch and centralized real estate business
segments through a variety of methods including the following:
* Our operational policies and procedures standardize various
aspects of lending, collections, and business development
processes.
* Our branch finance receivable systems control amounts, rates,
terms, and fees of our customers' accounts; create loan
documents specific to the state in which the branch operates;
and control cash receipts and disbursements.
* Our headquarters accounting personnel reconcile bank accounts,
investigate discrepancies, and resolve differences.
* Our credit risk management system reports are used by various
personnel to compare branch lending and collection activities
with predetermined parameters.
* Our executive information system is available to headquarters
and field operations management to review the status of
activity through the close of business of the prior day.
* Our branch field operations management structure is designed
to control a large, decentralized organization with each
succeeding level staffed with more experienced personnel.
* Our field operations compensation plan aligns the operating
activities and goals with corporate strategies by basing the
incentive portion of field personnel compensation on
profitability and credit quality.
* Our internal audit department audits for operational policy
and procedure and state law and regulation compliance.
Internal audit reports directly to AIG to enhance
independence.
CENTRALIZED SUPPORT
We continually seek to identify functions that could be more cost-
effective if centralized, thereby reducing costs and freeing our
lending specialists to concentrate on providing service to our
customers. Our centralized operational functions include the
following:
* customer solicitations;
* payment processing;
* real estate loan approvals;
* real estate owned processing;
* collateral protection insurance tracking;
* retail sales finance approvals;
* revolving retail and private label collections;
* revolving retail and private label processing;
* merchant services; and
* charge-off recovery operations.
13
Item 1. Continued
SOURCES OF FUNDS
We fund our branch and centralized real estate business segments
principally through cash flows from operations, public and private
capital markets borrowings, and capital contributions from our parent.
Our ability to access capital is dependent upon internal and external
factors including our ability to maintain adequately strong operating
performance and debt credit ratings and the overall condition of the
capital markets. Our principal funding sources through the capital
markets include:
* issuances of long-term debt in domestic and foreign markets;
* short-term borrowings in the commercial paper market;
* borrowings from banks under credit facilities; and
* securitizations.
INSURANCE BUSINESS SEGMENT
The insurance business segment markets its products to all eligible
branch customers. Cash generated from operations is invested in
investment securities, commercial mortgage loans, investment real
estate, and policy loans and is also used to pay dividends. At
December 31, 2004, the insurance business segment had $3.0 billion of
credit life insurance and $2.7 billion of non-credit life insurance in
force covering approximately 892,000 customer accounts and also had
$1.4 billion of investments.
Structure and Responsibilities
Merit is a life and health insurance company domiciled in Indiana and
licensed in 46 states, the District of Columbia, and the U.S. Virgin
Islands. Merit principally writes or reinsures credit life, credit
accident and health, and non-credit insurance.
Yosemite is a property and casualty insurance company domiciled in
Indiana and licensed in 45 states. Yosemite principally writes or
reinsures credit-related property and casualty and credit involuntary
unemployment insurance.
The 100 employees of the insurance business segment have numerous
responsibilities relating to the underwriting, compliance, and service
activities for the insurance companies and provide services to the
branch and centralized real estate business segments.
Products and Services
Our credit life insurance policies insure the life of the borrower in
an amount typically equal to the unpaid balance of the finance
receivable and provide for payment in full to the lender of the
finance receivable in the event of the borrower's death. Our credit
accident and health insurance policies provide, to the lender, payment
of the installments on the finance receivable coming due during a
period of the borrower's disability due to illness or injury. Our
credit-related property and casualty insurance policies are written to
protect the lender's interest in property pledged as collateral for
14
Item 1. Continued
the finance receivable. Our credit involuntary unemployment insurance
policies provide, to the lender, payment of the installments on the
finance receivable coming due during a period of the borrower's
involuntary unemployment. The borrower's purchase of credit life,
credit accident and health, credit-related property and casualty, or
credit involuntary unemployment insurance is voluntary with the
exception of lender-placed property damage coverage for property
pledged as collateral. In these instances, our branch or centralized
real estate business segment personnel obtain property damage coverage
through Yosemite either on a direct or reinsured basis under the terms
of the lending agreement if the borrower does not provide evidence of
coverage with another insurance carrier. Non-credit insurance
policies are primarily traditional life level term policies. The
purchase of this coverage is voluntary.
The ancillary products we offer are home security and auto security
membership plans and home warranty service contracts. These products
are generally not considered to be insurance policies. Our insurance
business segment has no risk of loss on these products. The
unaffiliated companies providing these membership plans and service
contracts are responsible for any required reimbursement to the
customer on these products.
Customers usually either finance premiums for insurance products and
contract fees for ancillary products as part of the finance receivable
or pay the premiums monthly with their finance receivable payment, but
they may pay the premiums and contract fees in cash to the insurer.
We do not offer single premium credit insurance products to our real
estate loan customers.
Reinsurance
Merit and Yosemite have entered into reinsurance agreements with other
insurance companies, including certain affiliated companies, for
reinsurance of various non-credit life, individual annuity, group
annuity, credit life, credit accident and health, credit-related
property and casualty, and credit involuntary unemployment insurance
where our insurance subsidiaries reinsure the risk of loss. The
reserves for this business fluctuate over time and in some instances
are subject to recapture by the insurer. At December 31, 2004,
reserves on the books of Merit and Yosemite for these reinsurance
agreements totaled $86.0 million.
Investments
We invest cash generated by our insurance business segment primarily
in bonds. We invest in, but are not limited to, the following:
* bonds;
* commercial mortgage loans;
* short-term investments;
* limited partnerships;
* preferred stock;
* investment real estate;
* policy loans; and
* common stock.
15
Item 1. Continued
AIG subsidiaries manage substantially all of our insurance business
segment's investments on our behalf.
See Note 22. of the Notes to Consolidated Financial Statements in Item
8. for further information on the Company's insurance business
segment.
REGULATION
Branch and Centralized Real Estate
The Company's branch and centralized real estate business segments are
subject to various state and federal laws and regulations. Applicable
federal laws include:
* the Equal Credit Opportunity Act (prohibits discrimination
against credit-worthy applicants);
* the Fair Credit Reporting Act (governs the accuracy and use of
credit bureau reports);
* the Truth in Lending Act (governs disclosure of applicable
charges and other finance receivable terms);
* the Fair Housing Act (prohibits discrimination in housing
lending);
* the Real Estate Settlement Procedures Act (regulates certain
loans secured by real estate);
* the Federal Trade Commission Act; and
* the Federal Reserve Board's Regulations B, C, P, and Z.
In many states, federal law preempts state law restrictions on
interest rates and points and fees for first lien residential mortgage
loans. The federal Alternative Mortgage Transactions Parity Act
preempts certain state law restrictions on variable rate loans in many
states. The Company makes residential mortgage loans under the
provisions of these and other federal laws. The Company is also
subject to federal laws governing practices and disclosures when
dealing with consumer or customer information.
Various state laws also regulate our branch and centralized real
estate segments. The degree and nature of such regulation vary from
state to state. The laws under which a substantial amount of our
business is conducted generally:
* provide for state licensing of lenders;
* impose maximum term, amount, interest rate, and other charge
limitations;
* regulate whether and under what circumstances insurance and
other ancillary products may be offered in connection with a
lending transaction; and
* provide for consumer protection.
The federal government is considering, and a number of states,
counties, and cities have enacted or may be considering, laws or rules
that restrict the credit terms or other aspects of residential
mortgage loans that are typically described as "high cost mortgage
loans". These laws or regulations, if adopted, may impose specific
statutory liabilities in cases of non-compliance and may also limit or
restrict the terms of covered loan transactions. Additionally, some
16
Item 1. Continued
of these laws may restrict other business activities or business
dealings of affiliates of the Company under certain conditions.
Insurance
State authorities regulate and supervise our insurance business
segment. The extent of such regulation varies by product and by
state, but relates primarily to the following:
* licensing;
* conduct of business;
* periodic examination of the affairs of insurers;
* form and content of required financial reports;
* standards of solvency;
* limitations on dividend payments and other related party
transactions;
* types of products offered;
* approval of policy forms and premium rates;
* permissible investments;
* deposits of securities for the benefit of policyholders;
* reserve requirements for unearned premiums, losses, and other
purposes; and
* claims processing.
The states in which we operate regulate credit insurance premium rates
and premium refund calculations.
COMPETITION
Branch and Centralized Real Estate
The consumer finance industry is highly competitive due to the large
number of companies offering financial products and services, the
sophistication of those products, the capital market resources of some
competitors, and the general acceptance and widespread usage of
available credit. We compete with other consumer finance companies as
well as other types of financial institutions that offer similar
products and services.
Insurance
Our insurance business segment supplements our branch business
segment. We believe that our insurance companies' abilities to market
insurance products through our distribution systems provide a
competitive advantage.
17
Item 2. Properties.
We generally conduct branch office operations, branch office
administration, other operations, and operational support in leased
premises. Lease terms generally range from three to five years.
Our investment in real estate and tangible property is not significant
in relation to our total assets due to the nature of our business.
AGFC subsidiaries own two branch offices in Riverside and Barstow,
California, two branch offices in Hato Rey and Isabela, Puerto Rico,
and eight buildings in Evansville, Indiana. These buildings primarily
include certain of our administrative offices, our centralized
services and support operations facilities, and one of our branch
offices. Merit owns an office building in Houston, Texas that is
leased to third parties and affiliates and also owns a consumer
finance branch office in Terre Haute, Indiana that is leased to an
AGFC subsidiary.
Item 3. Legal Proceedings.
Satellite Dish Operations Bankruptcy
In August 1999, a subsidiary of the Company, A.G. Financial Service
Center, Inc. (Financial Service Center) filed a voluntary petition to
reorganize under Chapter 11 of the United States Bankruptcy Code. The
decision to reorganize was necessitated by the judgment rendered
against Financial Service Center by a Mississippi state court in May
1999 in the amount of $167 million. The filing for reorganization
under Chapter 11 was limited to Financial Service Center.
The plan of reorganization was confirmed by the bankruptcy court in
February 2001, distributions under the plan were substantially
completed, and in September 2003 the court closed the case. Certain
creditors appealed the 2001 confirmation of the plan. In January
2005, the United States Court of Appeals for the Seventh Circuit
affirmed the confirmation of the plan of reorganization. We do not
expect any further appeal.
Other
AGFI and certain of its subsidiaries are parties to various lawsuits
and proceedings, including certain purported class action claims,
arising in the ordinary course of business. In addition, many of
these proceedings are pending in jurisdictions that permit damage
awards disproportionate to the actual economic damages alleged to have
been incurred. Based upon information presently available, we believe
that the total amounts, if any, that will ultimately be paid arising
from these lawsuits and proceedings will not have a material adverse
effect on our consolidated results of operations or financial
position. However, the continued occurrences of large damage awards
in general in the United States, including large punitive damage
awards that bear little or no relation to actual economic damages
incurred by plaintiffs in some jurisdictions, create the potential for
an unpredictable judgment in any given suit.
18
PART II
Item 5. Market for Registrant's Common Equity, Related Stockholder
Matters and Issuer Purchases of Equity Securities.
No trading market exists for AGFI's common stock. AGFI is an indirect
wholly owned subsidiary of AIG. AGFI paid the following cash
dividends on its common stock:
Quarter Ended 2004 2003
(dollars in thousands)
March 31 $ 24,000 $ 895
June 30 - 99,322
September 30 29,998 67,002
December 31 - 15,895
Total $ 53,998 $183,114
See Management's Discussion and Analysis in Item 7., and Note 17. of
the Notes to Consolidated Financial Statements in Item 8., regarding
limitations on the ability of AGFI and its subsidiaries to pay
dividends.
Item 6. Selected Financial Data.
You should read the following selected financial data in conjunction
with the consolidated financial statements and related notes in Item
8. and Management's Discussion and Analysis in Item 7.
At or for the Years Ended December 31,
2004 2003 2002 2001 2000
(dollars in thousands)
Total revenues $ 2,459,162 $ 2,190,106 $ 1,999,838 $ 1,998,498 $ 1,909,916
Net income (a) 478,054 366,103 346,826 228,257 207,938
Total assets 22,235,772 17,006,164 15,484,286 13,531,654 13,408,395
Long-term debt 14,679,501 10,862,218 9,566,256 6,301,433 5,670,670
(a) Per share information is not included because all of AGFI's common stock
is indirectly owned by AIG.
19
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations.
You should read Management's Discussion and Analysis of Financial
Condition and Results of Operations in conjunction with the
consolidated financial statements and related notes in Item 8. With
this discussion and analysis, we intend to enhance the reader's
understanding of our consolidated financial statements in general and
more specifically our liquidity and capital resources, our asset
quality, and the results of our operations.
An index to our discussion and analysis follows:
Topic Page
Forward Looking Statements 20
Overview 21
Basis of Reporting 21
2004 Highlights 22
2005 Outlook 22
Critical Accounting Policies 23
Off-Balance Sheet Arrangements 25
Capital Resources 26
Liquidity 27
Finance Receivables 31
Real Estate Owned 34
Investments 35
Asset/Liability Management 35
Net Income 36
Finance Charges 38
Insurance Revenues 40
Other Revenues 41
Interest Expense 42
Operating Expenses 44
Provision for Finance Receivable Losses 45
Insurance Losses and Loss Adjustment Expenses 48
Provision for Income Taxes 49
Regulation 50
Taxation 50
20
Item 7. Continued
FORWARD-LOOKING STATEMENTS
This Annual Report on Form 10-K and our other publicly available
documents may include, and the Company's officers and representatives
may from time to time make, statements which may constitute "forward-
looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995. These statements are not historical
facts but instead represent only our belief regarding future events,
many of which are inherently uncertain and outside of our control.
These statements may address, among other things, the Company's
strategy for growth, product development, regulatory approvals, market
position, financial results and reserves. The Company's actual
results and financial condition may differ from the anticipated
results and financial condition indicated in these forward-looking
statements. The important factors, many of which are outside of our
control, which could cause the Company's actual results to differ,
possibly materially, include, but are not limited to, the following:
* changes in general economic conditions, including the interest
rate environment in which we conduct business and the
financial markets through which we access capital and invest
cash flows from the insurance business segment;
* changes in the competitive environment in which we operate,
including the demand for our products, customer responsiveness
to our distribution channels and the formation of business
combinations among our competitors;
* the effectiveness of our credit risk scoring models in
assessing the risk of customer unwillingness or inability to
repay;
* shifts in collateral values, contractual delinquencies, and
credit losses;
* levels of unemployment and personal bankruptcies;
* our ability to access capital markets and maintain our credit
rating position;
* changes in laws or regulations that affect our ability to
conduct business or the manner in which we conduct business,
such as licensing requirements, pricing limitations or
restrictions on the method of offering products;
* the costs and effects of any litigation or governmental
inquiries or investigations that are determined adversely to
the Company;
* changes in accounting standards or tax policies and practices
and the application of such new policies and practices to the
manner in which we conduct business;
* our ability to integrate the operations of our acquisitions
into our businesses;
* changes in our ability to attract and retain employees or key
executives to support our businesses; and
* natural or accidental events such as fires or floods affecting
our branches or other operating facilities.
We also direct readers to other risks and uncertainties discussed in
other documents we file with the SEC. We are under no obligation to
(and expressly disclaim any such obligation to) update or alter any
forward-looking statement, whether written or oral, that we may make
from time to time, whether as a result of new information, future
events or otherwise.
21
Item 7. Continued
OVERVIEW
Our branch and centralized real estate business segments borrow money
at wholesale prices and lend money at retail prices. Our branch
business segment also offers credit and non-credit insurance and
ancillary products to eligible customers. Our insurance business
segment writes and reinsures credit and non-credit insurance products
for eligible customers of our branch business segment and invests
premiums received in various investments.
BASIS OF REPORTING
We prepared our consolidated financial statements using accounting
principles generally accepted in the United States (GAAP). The
statements include the accounts of AGFI and its subsidiaries, all of
which are wholly owned. We eliminated all intercompany items. We
made estimates and assumptions that affect amounts reported in our
financial statements and disclosures of contingent assets and
liabilities. Ultimate results could differ from our estimates.
At December 31, 2004, 89% of our assets were net finance receivables
less allowance for finance receivable losses. Our finance charge
revenue is a function of the amount of average net receivables and the
yield on those average net receivables. GAAP requires that we
recognize finance charges as revenue on the accrual basis using the
interest method. The only areas of discretion we have are amortizing
unearned points and fees and deferred origination costs over the
lesser of the contractual or the estimated life based on prepayment
experience and determining the point of suspension of the accrual of
finance charge revenue.
At December 31, 2004, 96% of our liabilities were debt issued
primarily to support our net finance receivables. Our interest
expense is a function of the amount of average borrowings and the
borrowing cost on those average borrowings. GAAP requires that we
recognize interest on borrowings as expense on the accrual basis using
the interest method. Interest expense includes the effect of our swap
agreements.
Our insurance revenues consist primarily of insurance premiums
resulting from our branch customers purchasing various credit and non-
credit insurance policies. Insurance premium revenue is a function of
the premium amounts and policy terms. GAAP dictates the methods of
insurance premium revenue recognition.
We invest cash generated by our insurance business segment primarily
in investment securities, which were 6% of our assets at December 31,
2004, and to a lesser extent in commercial mortgage loans, investment
real estate, and policy loans, which we include in other assets. We
report the resulting investment revenue in other revenue. GAAP
requires that we recognize interest on these investments as revenue on
the accrual basis using the interest method. The only areas of
discretion we have are determining the classification of the
investment, the point of suspension of the accrual of this investment
revenue, and when we consider the investment security's decline in
fair value to be other than temporary and reduce it to its fair value.
22
Item 7. Continued
Our other revenue includes service fees we charge for marketing,
certain origination processing services, and loan servicing of real
estate loans under our agreements with AIG Federal Savings Bank (AIG
Bank). As required by GAAP, we recognize these fees as revenue when
we perform the services. Other revenue also includes net gain on sale
of real estate loans held for sale and net interest income on real
estate loans held for sale. GAAP requires that we recognize the
difference between the sales price we receive when we sell a real
estate loan held for sale and our investment in that loan as a gain or
loss at the time of sale. GAAP also requires that we recognize
interest as revenue on the accrual basis using the interest method
during the periods we hold real estate loans held for sale. The only
discretion we have is determining the point of suspension of the
accrual of this interest revenue.
2004 HIGHLIGHTS
During 2004, net finance receivables increased $4.9 billion, or 32%,
to $20.2 billion at December 31, 2004. The historically low interest
rate environment in the first half of the year contributed to
continued significant mortgage refinancing activity. Real estate
loans increased $4.7 billion, or 43%, in 2004. Aided by an improving
economy, we also experienced an improvement in our finance receivable
credit quality. Our charge-off ratio improved to 1.60% for 2004
compared to 2.19% for 2003. Our delinquency ratio improved to 2.31%
at December 31, 2004 from 3.28% at December 31, 2003. AGFC issued
$5.7 billion of long-term debt during 2004 to support finance
receivable growth and replace maturing long-term debt. During second
quarter 2004, we expanded our investor base by completing our first
Euro-denominated debt issuances to European investors. Then in third
quarter 2004, we completed our first Sterling-denominated debt
issuance to United Kingdom investors.
2005 OUTLOOK
We enter 2005 with net charge-offs and delinquency that are below or
within our targeted ranges. The Federal Reserve raised interest rates
five times during 2004 totaling 125 basis points, and we expect
additional increases during 2005. These increases will raise our
finance receivable yield as our adjustable-rate finance receivables
reprice to these market rates over time and as we generate new
business at higher rates. Our borrowing cost on our debt will also
increase as our floating-rate debt reprices to higher market rates and
we issue new fixed-rate long-term debt at rates above our current
long-term debt portfolio rates. We anticipate interest margin
compression along with rising market interest rates, but expect
finance receivable growth at higher rates to mitigate most of the net
income effect. We also anticipate that the higher interest rate
environment will favorably impact our real estate loan liquidations
that had increased during the last several years. Investment revenue
from our investment securities portfolio should also increase.
23
Item 7. Continued
CRITICAL ACCOUNTING POLICIES
We consider our most critical accounting policy to be the
establishment of an adequate allowance for finance receivable losses.
Our finance receivable portfolio consists of $20.2 billion of net
finance receivables due from approximately 1.9 million customer
accounts. These accounts were originated or purchased and are
serviced by our branch or centralized real estate business segments.
To manage our exposure to credit losses, we use credit risk scoring
models for finance receivables that we originate through our branch
business segment. In our centralized real estate business segment,
AIG Bank originates real estate loans according to established
underwriting criteria and we individually review the portion of these
real estate loans that are retained by the Company as part of our due
diligence. We also perform due diligence investigations for finance
receivables that we purchase. We utilize standard collection
procedures supplemented with data processing systems to aid branch,
centralized support operations, and centralized real estate personnel
in their finance receivable collection processes.
Despite our efforts to avoid losses on our finance receivables,
personal circumstances and national, regional, and local economic
situations affect our customers' abilities to repay their obligations.
Personal circumstances include lower income due to unemployment or
underemployment, major medical expenses, and divorce. Occasionally,
these types of events can be so economically severe that the customer
files for bankruptcy.
Our Credit Strategy and Policy Committee evaluates our finance
receivable portfolio monthly. Within our three main finance
receivable types are sub-portfolios, each consisting of a large number
of relatively small, homogenous accounts. We evaluate these sub-
portfolios for impairment as groups. None of our accounts are large
enough to warrant individual evaluation for impairment. Our Credit
Strategy and Policy Committee considers numerous factors in estimating
losses inherent in our finance receivable portfolio, including the
following:
* prior finance receivable loss and delinquency experience;
* the composition of our finance receivable portfolio; and
* current economic conditions, including the levels of
unemployment and personal bankruptcies.
24
Item 7. Continued
Our Credit Strategy and Policy Committee uses several ratios to aid in
the process of evaluating prior finance receivable loss and
delinquency experience. Each ratio is useful, but each has its
limitations. These ratios include:
* Delinquency ratio - gross finance receivables 60 days or more
past due (customer has not made 3 or more contractual
payments) as a percentage of gross finance receivables.
* Allowance ratio - allowance for finance receivable losses as a
percentage of net finance receivables.
* Charge-off ratio - net charge-offs as a percentage of the
average of net finance receivables at the beginning of each
month during the period.
* Charge-off coverage - allowance for finance receivable losses
to net charge-offs.
We use migration analysis as one of the tools to determine the
appropriate amount of allowance for finance receivable losses.
Migration analysis is a statistical technique that attempts to predict
the future amount of losses for existing pools of finance receivables.
This technique applies empirically measured historical movement of
like finance receivables through various levels of repayment,
delinquency, and loss categories to existing finance receivable pools.
We calculate migration analysis using three different scenarios based
on varying assumptions to evaluate a range of possible outcomes. We
aggregate the results of our analysis for all segments of the
Company's portfolio to arrive at an estimate of future finance
receivable losses for the finance receivables existing at the time of
analysis. We adjust the amounts determined by migration analysis for
management's best estimate of the effects of current economic
conditions, including the levels of unemployment and personal
bankruptcies, on the amounts determined from historical loss and
delinquency experience.
25
Item 7. Continued
If we had chosen to establish the allowance for finance receivable
losses at the highest and lowest levels produced by the various
migration analysis scenarios, our allowance for finance receivable
losses at December 31, 2004 and 2003 and provision for finance
receivable losses and net income for 2004 and 2003 would have changed
as follows:
At or for the
Years Ended December 31,
2004 2003
(dollars in millions)
Highest level:
Increase in allowance for finance
receivable losses $ 13.0 $ 30.1
Increase in provision for finance
receivable losses 13.0 30.1
Decrease in net income (8.4) (19.6)
Lowest level:
Decrease in allowance for finance
receivable losses $(98.8) $(67.4)
Decrease in provision for finance
receivable losses (98.8) (67.4)
Increase in net income 64.2 43.8
The Credit Strategy and Policy Committee exercises its judgment, based
on quantitative analyses, qualitative factors, and each committee
member's experience in the consumer finance industry, when determining
the amount of the allowance for finance receivable losses. If its
review concludes that an adjustment is necessary, we charge or credit
this adjustment to expense through the provision for finance
receivable losses. We consider this estimate to be a critical
accounting estimate that affects the net income of the Company in
total and the pretax operating income of our branch and centralized
real estate business segments. We document the adequacy of the
allowance for finance receivable losses, the analysis of the trends in
credit quality, and the current economic conditions considered by the
Credit Strategy and Policy Committee to support its conclusions. See
Provision for Finance Receivable Losses for further information on the
allowance for finance receivable losses.
OFF-BALANCE SHEET ARRANGEMENTS
We do not have any material off-balance sheet arrangements as defined
by SEC rules.
26
Item 7. Continued
CAPITAL RESOURCES AND LIQUIDITY
Capital Resources
Our capital varies primarily with the amount of net finance
receivables. The mix of debt and equity is based primarily upon
maintaining leverage that supports cost-effective funding.
December 31,
2004 2003
Amount Percent Amount Percent
(dollars in millions)
Long-term debt $14,679.5 69% $10,862.2 67%
Short-term debt 4,299.1 20 3,467.1 22
Total debt 18,978.6 89 14,329.3 89
Equity 2,376.2 11 1,823.8 11
Total capital $21,354.8 100% $16,153.1 100%
Net finance receivables $20,167.9 $15,308.0
Debt to equity ratio 7.99x 7.86x
Debt to tangible equity ratio 8.98x 8.88x
Reconciliations of equity to tangible equity were as follows:
December 31,
2004 2003
(dollars in millions)
Equity $2,376.2 $1,823.8
Goodwill (224.7) (224.7)
Accumulated other comprehensive
(income) loss (37.4) 14.9
Tangible equity $2,114.1 $1,614.0
We issue a combination of fixed-rate debt, principally long-term, and
floating-rate debt, both long-term and short-term. AGFC obtains most
of our fixed-rate funding through public issuances of long-term debt
with maturities generally ranging from three to ten years. AGFC and
AGFI obtain floating-rate funding through sales and refinancing of
commercial paper and through issuances of long-term, floating-rate
debt. We sell commercial paper, with maturities ranging from 1 to 270
days, to banks, insurance companies, corporations, and other
accredited investors. At December 31, 2004, short-term debt included
$3.7 billion of commercial paper. AGFC also sells extendible
commercial notes with initial maturities of up to 90 days, which AGFC
may extend to 390 days. At December 31, 2004, short-term debt
included $552.9 million of extendible commercial notes.
27
Item 7. Continued
We maintain credit facilities to support the issuance of commercial
paper and to provide an additional source of funds for operating
requirements. At December 31, 2004, credit facilities totaled $3.5
billion with remaining availability of $3.4 billion. A total of $3.3
billion of these credit facilities are committed lending agreements
and include $1.8 billion of 364-day facilities and a $1.5 billion
multi-year facility. See Note 11. of the Notes to Consolidated
Financial Statements in Item 8. for additional information on credit
facilities.
Our larger committed credit facilities at December 31, 2004 expire as
follows:
Committed Credit Facilities
(dollars in millions)
July 2005 (a) $1,750.0
July 2007 1,500.0
Total $3,250.0
(a) The agreement includes a provision that allows us to extend the
maturity of any borrowings for one year past facility expiration.
We expect to replace or extend these credit facilities on or prior to
their expiration.
AGFI has historically paid dividends to (or received capital
contributions from) its parent to manage our leverage of debt to
tangible equity to a targeted amount, which is currently 9.0 to 1.
During third quarter 2004, AGFI executed a long-term, prepayable bank
loan that requires AGFI to maintain at least $1.3 billion in tangible
equity. AGFI's ability to pay dividends is substantially dependent on
the receipt of dividends or other funds from its subsidiaries,
primarily AGFC. Certain AGFC financing agreements effectively limit
the amount of dividends AGFC may pay. Under the most restrictive
provision contained in these agreements, $1.3 billion of AGFC's
retained earnings was free from restriction at December 31, 2004.
Liquidity
Our sources of funds include operations, issuances of long-term debt,
short-term borrowings in the commercial paper market, borrowings from
banks under credit facilities, and securitizations. AGFI has also
received capital contributions from its parent to support finance
receivable growth and maintain targeted leverage.
28
Item 7. Continued
We believe that our overall sources of liquidity will continue to be
sufficient to satisfy our foreseeable operational requirements and
financial obligations. The principal factors that could decrease our
sources of liquidity are delinquent payments from our customers and an
inability to access capital markets. The principal factors that could
increase our cash needs are significant increases in net originations
and purchases of finance receivables. We intend to mitigate liquidity
risk by continuing to operate the Company utilizing the following
existing strategies:
* maintain a finance receivable portfolio comprised mostly of
real estate loans, which generally represent a lower risk of
customer non-payment;
* originate and monitor finance receivables with our credit risk
management system;
* maintain an investment securities portfolio of predominantly
investment grade, liquid securities; and
* maintain a capital structure appropriate to our asset base.
Principal sources and uses of cash were as follows:
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Principal sources of cash:
Net issuances of debt $4,445.3 $1,382.2 $1,766.1
Operations 787.4 817.3 568.8
Capital contributions 75.0 - 33.0
Total $5,307.7 $2,199.5 $2,367.9
Principal uses of cash:
Net originations and purchases
of finance receivables $5,128.8 $1,837.4 $1,885.3
Dividends paid 54.0 183.1 147.0
Total $5,182.8 $2,020.5 $2,032.3
Net originations and purchases of finance receivables and net
issuances of debt increased in 2004 primarily due to increases in our
centralized real estate loan production.
Net cash from operations increased in 2003 primarily due to net sales
of real estate loans held for sale, higher finance charges, lower
interest expense, and routine operating activities. Net issuances of
debt decreased in 2003 in response to the increase in net cash from
operations.
Dividends paid, less capital contributions received, reflect net
income retained by AGFI to maintain equity and total debt at our
current leverage target of 9.0 to 1 for debt to tangible equity.
29
Item 7. Continued
At December 31, 2004, material contractual obligations were as
follows:
Less than From 1-3 From 4-5 Over 5
1 year years years years Total
(dollars in millions)
Debt (a):
Long-term debt $ 1,548.8 $ 5,361.2 $ 2,897.8 $ 4,871.7 $14,679.5
Short-term debt 4,299.1 - - - 4,299.1
Operating leases (b) 51.0 70.2 29.2 9.1 159.5
Total $ 5,898.9 $ 5,431.4 $ 2,927.0 $ 4,880.8 $19,138.1
(a) With consistent execution of our business strategies, we expect
to refinance maturities of our debt in the capital markets. Any
adverse changes in our operating performance or credit ratings
could limit our access to capital markets to accomplish these
refinancings.
(b) Operating leases represent annual rental commitments for leased
office space, automobiles, and data processing and related
equipment.
AGFC anticipates issuing approximately $4 billion to $5 billion of
long-term debt during 2005, including refinancings of $1.5 billion of
maturing long-term debt. The actual amount of debt issuances will
depend on economic and market conditions, receivable growth, and
acquisition opportunities. We anticipate that these debt issuances
will occur primarily in the domestic capital markets as public long-
term debt and in the international capital markets we began accessing
in 2004.
To further diversify its funding sources, AGFC completed its first
foreign currency denominated debt issuances during 2004 as follows:
* In second quarter 2004, AGFC completed two concurrent issues
totaling 1.0 billion Euro ($1.2 billion) in principal amount
sold to European investors.
* In third quarter 2004, AGFC issued 350 million pounds Sterling
($622 million) in principal amount sold to United Kingdom
investors.
In each case, we executed financial derivative transactions with a
non-subsidiary affiliate to effectively convert the related foreign
currency exposure into U.S. dollars.
In second quarter 2003, AGFC began issuing long-term debt under a
retail note program. These senior, unsecured notes are sold by
brokers to individual investors for a minimum investment of $1,000 in
increments of $1,000.
Also in second quarter 2003, a consolidated special purpose subsidiary
of AGFI purchased $266.8 million of real estate loans from seven
subsidiaries of AGFC. The AGFI subsidiary securitized $259.0 million
of these real estate loans and recorded $256.4 million of debt issued
30
Item 7. Continued
by the trust that purchased these real estate loans. We recorded this
transaction as an "on balance sheet" secured financing.
Management believes that consistent execution of our business
strategies should result in continued profitability, strong credit
ratings, and investor confidence. These results should allow
continued access to capital markets to issue our commercial paper and
long-term debt. We have implemented programs and operating guidelines
to ensure adequate liquidity, to mitigate the impact of any inability
to access capital markets, and to provide contingent funding sources.
These programs and guidelines include the following:
* We manage our commercial paper as a percentage of total debt.
At December 31, 2004 that percentage was 19% compared to 20%
at December 31, 2003.
* We spread commercial paper maturities throughout upcoming
weeks and months.
* We limit the amount of our commercial paper that can be held
by any one investor.
* We maintain credit facilities to support the issuance of
commercial paper and to provide an additional source of funds
for operating requirements. At December 31, 2004, we had $3.3
billion of committed bank credit facilities.
* To access the domestic long-term debt markets, we had $5.9
billion of long-term debt securities registered under the
Securities Act of 1933 as of December 31, 2004. We could
issue these securities as traditional public term debt, retail
notes, or equity index-linked notes, among other forms.
* We have established AGFC as an issuer in the international
capital markets with our 2004 Euro and Sterling debt offerings
described previously.
* We have the ability to sell, on a whole loan basis, or
securitize a portion of our finance receivables to provide
additional sources of liquidity for needs potentially not met
through other funding sources.
* Collections from our finance receivable portfolio are also a
source of funds. We collected principal payments on our
finance receivables totaling $7.5 billion in 2004, $7.1
billion in 2003, and $6.3 billion during 2002. We chose to
reinvest most of these collections, plus additional amounts
from borrowings, in new finance receivables during these
periods, but such funds could be made available for other
uses, if necessary.
* We have the ability to sell a portion of our insurance
subsidiaries' investment securities and dividend, subject to
certain limits, cash from the securities sales.
31
Item 7. Continued
ANALYSIS OF FINANCIAL CONDITION
Finance Receivables
Amount, number, and average size of net finance receivables originated
and renewed and purchased by type were as follows:
Years Ended December 31,
2004 2003 2002
Amount Percent Amount Percent Amount Percent
Originated and renewed
Amount (in millions):
Real estate loans $ 7,934.1 63% $ 4,829.4 52% $ 2,572.7 37%
Non-real estate loans 3,102.6 24 2,826.4 31 2,742.6 39
Retail sales finance 1,624.3 13 1,611.0 17 1,642.3 24
Total $ 12,661.0 100% $ 9,266.8 100% $ 6,957.6 100%
Number:
Real estate loans 93,141 6% 73,427 5% 59,757 4%
Non-real estate loans 812,339 49 774,464 48 766,582 46
Retail sales finance 739,640 45 764,612 47 824,162 50
Total 1,645,120 100% 1,612,503 100% 1,650,501 100%
Average size (to nearest
dollar):
Real estate loans $85,184 $65,771 $43,053
Non-real estate loans 3,819 3,649 3,578
Retail sales finance 2,196 2,107 1,993
Purchased
Amount (in millions):
Real estate loans $ 1,239.1 96% $ 837.0 96% $ 2,355.2 92%
Non-real estate loans 14.5 1 3.0 - 125.0 5
Retail sales finance 36.3 3 30.5 4 84.0 3
Total $ 1,289.9 100% $ 870.5 100% $ 2,564.2 100%
Number:
Real estate loans 7,372 42% 10,620 44% 39,158 38%
Non-real estate loans 1,999 11 1,735 7 35,222 34
Retail sales finance 8,435 47 11,926 49 28,176 28
Total 17,806 100% 24,281 100% 102,556 100%
Average size (to nearest
dollar):
Real estate loans $168,078 $78,810 $60,146
Non-real estate loans 7,258 1,759 3,548
Retail sales finance 4,301 2,555 2,983
We had no sales in 2004, 2003, or 2002.
32
Item 7. Continued
Amount, number, and average size of total net finance receivables
originated, renewed, and purchased by type were as follows:
Years Ended December 31,
2004 2003 2002
Amount Percent Amount Percent Amount Percent
Originated, renewed,
and purchased
Amount (in millions):
Real estate loans $ 9,173.2 66% $ 5,666.4 56% $ 4,927.9 52%
Non-real estate loans 3,117.1 22 2,829.4 28 2,867.6 30
Retail sales finance 1,660.6 12 1,641.5 16 1,726.3 18
Total $ 13,950.9 100% $ 10,137.3 100% $ 9,521.8 100%
Number:
Real estate loans 100,513 6% 84,047 5% 98,915 6%
Non-real estate loans 814,338 49 776,199 47 801,804 46
Retail sales finance 748,075 45 776,538 48 852,338 48
Total 1,662,926 100% 1,636,784 100% 1,753,057 100%
Average size (to nearest
dollar):
Real estate loans $91,264 $67,419 $49,820
Non-real estate loans 3,828 3,645 3,576
Retail sales finance 2,220 2,114 2,025
Amount of purchased as a percentage of total originated, renewed, and
purchased was as follows:
Years Ended December 31,
2004 2003 2002
Real estate loans 14% 15% 48%
Non-real estate loans - - 4
Retail sales finance 2 2 5
Total 9% 9% 27%
During the first half of 2004, the lowest interest rate environment
since the 1950s contributed to significant increases in originations
and liquidations of our real estate loans. Our centralized real
estate business segment produced $4.5 billion of our real estate loan
originations during the year. These real estate loan originations
increased the average size of our real estate loans originated in
2004. Real estate loan purchases and average size of real estate
loans purchased also increased in 2004 primarily due to correspondent
relationships we have established.
33
Item 7. Continued
In 2003, the low interest rate environment contributed to increases in
both originations and liquidations of our real estate loans. Our
centralized real estate loan production of $1.9 billion also increased
our real estate loan originations as well as the average size of real
estate loans originated in 2003. We reduced real estate loan
acquisitions in 2003 because premiums on portfolios of real estate
loans produced by third party originators and required by sellers
reached levels unacceptable to us.
Amount, number, and average size of net finance receivables by type
were as follows:
December 31,
2004 2003 2002
Amount Percent Amount Percent Amount Percent
Net finance receivables
Amount (in millions):
Real estate loans $ 15,742.3 78% $ 11,038.2 72% $ 9,498.1 69%
Non-real estate loans 3,043.6 15 2,932.1 19 2,958.9 21
Retail sales finance 1,382.0 7 1,337.7 9 1,389.2 10
Total $ 20,167.9 100% $ 15,308.0 100% $ 13,846.2 100%
Number:
Real estate loans 229,882 12% 215,294 12% 218,615 11%
Non-real estate loans 892,117 48 895,879 48 927,604 48
Retail sales finance 729,666 40 743,850 40 805,734 41
Total 1,851,665 100% 1,855,023 100% 1,951,953 100%
Average size (to nearest
dollar):
Real estate loans $68,480 $51,270 $43,446
Non-real estate loans 3,412 3,273 3,190
Retail sales finance 1,894 1,798 1,724
The amount of first mortgage loans was 89% of our real estate loan net
receivables at December 31, 2004, compared to 81% at December 31,
2003, and 74% at December 31, 2002.
34
Item 7. Continued
The largest concentrations of net finance receivables were as follows:
December 31,
2004 2003 2002
Amount Percent Amount Percent Amount Percent
(dollars in millions)
California $ 2,892.1 14% $ 2,276.4 15% $ 2,160.8 16%
Florida 1,233.9 6 936.4 6 840.2 6
Ohio 1,125.9 6 841.4 6 785.5 6
Illinois 992.1 5 835.2 5 786.6 6
Virginia 954.8 5 680.3 4 553.4 4
N. Carolina 904.5 4 883.9 6 887.2 6
Georgia 760.2 4 661.3 4 592.0 4
Indiana 743.4 4 639.2 4 598.8 4
Other 10,561.0 52 7,553.9 50 6,641.7 48
Total $20,167.9 100% $15,308.0 100% $13,846.2 100%
We believe that our geographic diversification reduces the risk
associated with a recession in any one region. In addition, 98% of
our finance receivables at December 31, 2004 were secured by real
property or personal property. While finance receivables have some
exposure to further economic uncertainty, we believe that the
allowance for finance receivable losses is adequate to absorb losses
inherent in our existing portfolio. See Analysis of Operating Results
for further information on allowance ratio, delinquency ratio, and
charge-off ratio and Note 3. of the Notes to Consolidated Financial
Statements in Item 8. for further information on how we estimate
finance receivable losses.
Real Estate Owned
Changes in the amount of real estate owned were as follows:
At or for the
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Balance at beginning of year $ 51.3 $ 49.0 $ 50.0
Properties acquired 74.3 78.0 73.7
Properties sold or disposed of (76.9) (67.3) (65.6)
Monthly writedowns (9.6) (8.4) (9.1)
Balance at end of year $ 39.1 $ 51.3 $ 49.0
Real estate owned as a percentage
of real estate loans 0.25% 0.46% 0.52%
35
Item 7. Continued
Changes in the number of real estate owned properties were as follows:
At or for the
Years Ended December 31,
2004 2003 2002
Balance at beginning of year 987 951 1,006
Properties acquired 1,385 1,451 1,418
Properties sold or disposed of (1,527) (1,415) (1,473)
Balance at end of year 845 987 951
Investments
Insurance investments by type were as follows:
December 31,
2004 2003 2002
Amount Percent Amount Percent Amount Percent
(dollars in millions)
Investment securities $1,378.4 97% $1,307.5 96% $1,227.2 95%
Commercial mortgage
loans 39.7 3 43.8 3 47.0 4
Investment real estate 7.1 - 7.1 1 7.0 1
Policy loans 2.0 - 2.1 - 2.0 -
Total $1,427.2 100% $1,360.5 100% $1,283.2 100%
Investment securities are the majority of our insurance business
segment's investment portfolio. Our investment strategy is to
optimize aftertax returns on invested assets, subject to the
constraints of liquidity, diversification, and regulation.
Asset/Liability Management
In an effort to reduce the risk associated with unfavorable changes in
interest rates not met by favorable changes in finance charge yields
of our finance receivables, we monitor the anticipated cash flows of
our assets and liabilities, principally our finance receivables and
debt. Although finance receivable lives may change in response to
interest rate changes, for the quarter ending December 31, 2004, our
total receivable portfolio was experiencing an average life of 2.2
years. For that same period, real estate loans had an average life of
3.0 years while non-real estate loans had an average life of 1.5 years
and retail sales finance receivables had an average life of 10 months.
The weighted-average life until maturity for our long-term debt was
3.6 years at December 31, 2004.
We fund finance receivables with a combination of fixed-rate and
floating-rate debt and equity. Management determines the mix of
fixed-rate and floating-rate debt based, in part, on the nature of the
finance receivables being supported.
36
Item 7. Continued
The primary means by which we obtain fixed-rate debt is by issuing
fixed-rate, long-term debt. To supplement fixed-rate debt issuances,
AGFC also alters the nature of certain floating-rate funding by using
swap agreements to create synthetic fixed-rate, long-term debt,
thereby limiting our exposure to market interest rate increases.
Additionally, AGFC has swapped fixed-rate, long-term debt to floating-
rate, long-term debt. Including the impact of interest rate swap
agreements that effectively fix floating-rate debt or float fixed-rate
debt, our floating-rate debt represented 41% of our borrowings at
December 31, 2004 compared to 43% at December 31, 2003. Adjustable-
rate net finance receivables represented 19% of our net finance
receivables at December 31, 2004 compared to 25% at December 31, 2003.
ANALYSIS OF OPERATING RESULTS
Net Income
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Net income $478.1 $366.1 $346.8
Amount change $112.0 $ 19.3 $118.5
Percent change 31% 6% 52%
Return on average assets 2.46% 2.27% 2.48%
Return on average equity 23.01% 21.33% 24.49%
Ratio of earnings to fixed charges 2.06x 2.02x 1.85x
Net income for 2004 and 2002 included reductions in the provision for
income taxes resulting from favorable settlements of income tax audit
issues totaling $38.7 million in 2004 and $30.0 million in 2002.
The historically low interest rate environment during the first half
of 2004 contributed to further reductions in both our yield and
borrowing cost during 2004. This low interest rate environment and
the expanding production capacity of our centralized real estate
services resulted in a significant increase in real estate loan
production during 2004. Real estate loan average net receivables
increased to 76% of total average net receivables in 2004 compared to
71% in 2003. As our centralized real estate business segment used its
production capacity to originate real estate loans for AIG Bank rather
than for itself, most of its revenue during 2004 was from fees charged
to AIG Bank for these services, rather than net gains on sales of real
estate loans held for sale and interest income on real estate loans
held for sale. In addition to rising interest rates, the improving
economy contributed to significant improvements in our charge-off
ratio and delinquency ratio, which allowed us to decrease our
allowance for finance receivable losses. Expansion of our centralized
real estate production capacity caused increases in our operating
expenses but, overall, operating expenses were well controlled.
A continued sluggish economy in the first half of 2003 and the low
interest rate environment contributed to decreases in both our yield
and borrowing cost during 2003. Our acquisition of WFI, effective
January 1, 2003, caused increases in our other revenue and also
37
Item 7. Continued
increased our operating expenses during 2003. Real estate loan
production of $1.9 billion from our centralized real estate business
segment more than offset the decrease in real estate loans acquired
from third party lenders. We also continued to control operating
expenses during 2003. The higher proportion of real estate loans in
our finance receivable portfolio resulted in net charge-offs that were
also well controlled. This, plus the improving economy in the second
half of 2003, resulted in lower additions to the allowance for finance
receivable losses when compared to the prior year.
In 2002, a sluggish economy contributed to the decrease in our
borrowing cost; however, the low interest rate environment had the
anticipated effect of also reducing our yield. We continued to invest
in business development programs, including new branch office openings
and a second customer solicitation center, but still controlled
operating expenses.
See Note 22. of the Notes to Consolidated Financial Statements in Item
8. for information on the results of the Company's business segments.
Our statements of income line items as percentages of each year's
average net receivables were as follows:
Years Ended December 31,
2004 2003 2002
Revenues
Finance charges 11.20% 12.46% 13.85%
Insurance 1.00 1.28 1.54
Other:
Service fee income from a
non-subsidiary affiliate 1.13 0.35 0.02
Miscellaneous 0.60 1.30 0.70
Total revenues 13.93 15.39 16.11
Expenses
Interest expense 3.60 3.84 4.51
Operating expenses:
Salaries and benefits 2.82 2.90 2.55
Other operating expenses 1.62 1.92 1.97
Provision for finance
receivable losses 1.53 2.21 2.45
Insurance losses and loss
adjustment expenses 0.43 0.48 0.67
Total expenses 10.00 11.35 12.15
Income before provision for
income taxes 3.93 4.04 3.96
Provision for income taxes 1.22 1.47 1.17
Net income 2.71% 2.57% 2.79%
38
Item 7. Continued
Factors that affected the Company's operating results were as follows:
Finance Charges
Finance charges by type were as follows:
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Real estate loans $ 1,163.3 $ 970.6 $ 902.9
Non-real estate loans 628.0 612.5 616.1
Retail sales finance 185.9 190.2 199.9
Total $ 1,977.2 $ 1,773.3 $ 1,718.9
Amount change $ 203.9 $ 54.4 $ 6.4
Percent change 11% 3% -%
Average net receivables $17,658.9 $14,232.1 $12,409.9
Yield 11.20% 12.46% 13.85%
Finance charges increased due to the following:
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Increase in average net
receivables $ 381.2 $ 216.4 $ 84.0
Decrease in yield (181.8) (162.0) (77.6)
Increase in number of days 4.5 - -
Total $ 203.9 $ 54.4 $ 6.4
Average net receivables by type were as follows:
December 31,
2004 2003 2002
Amount Percent Amount Percent Amount Percent
(dollars in millions)
Real estate loans $13,396.1 76% $10,033.3 71% $ 8,184.0 66%
Non-real estate loans 2,965.5 17 2,883.2 20 2,858.0 23
Retail sales finance 1,297.3 7 1,315.6 9 1,367.9 11
Total $17,658.9 100% $14,232.1 100% $12,409.9 100%
39
Item 7. Continued
Changes in average net receivables by type were as follows:
Years Ended December 31,
2004 2003 2002
Percent Percent Percent
Amount Change Amount Change Amount Change
(dollars in millions)
Real estate loans $3,362.8 33% $1,849.3 23% $ 827.2 11%
Non-real estate loans 82.3 3 25.2 1 (96.7) (3)
Retail sales finance (18.3) (1) (52.3) (4) (47.0) (3)
Total $3,426.8 24% $1,822.2 15% $ 683.5 6%
The historically low interest rate environment contributed to the
increase in originations of our real estate loans. Real estate loan
production arising from our centralized real estate origination
services also increased real estate loan originations by $4.5 billion
during 2004 and $1.9 billion during 2003.
Yield by type were as follows:
Years Ended December 31,
2004 2003 2002
Real estate loans 8.68% 9.67% 11.03%
Non-real estate loans 21.18 21.24 21.56
Retail sales finance 14.33 14.46 14.61
Total 11.20 12.46 13.85
Changes in yield in basis points (bp) by type were as follows:
Years Ended December 31,
2004 2003 2002
Real estate loans (99) bp (136) bp (84) bp
Non-real estate loans (6) (32) (3)
Retail sales finance (13) (15) 36
Total (126) (139) (75)
Yield decreased in both 2004 and 2003 primarily reflecting a lower
real estate loan yield resulting from the low interest rate
environment and the larger proportion of finance receivables that are
real estate loans. We anticipate that yield will increase in 2005 in
response to the recent market interest rate increases and further
increases we expect in 2005.
40
Item 7. Continued
Insurance Revenues
Insurance revenues were as follows:
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Earned premiums $175.8 $178.5 $189.0
Commissions 1.0 3.1 2.2
Total $176.8 $181.6 $191.2
Amount change $ (4.8) $ (9.6) $ (4.2)
Percent change (3)% (5)% (2)%
Premiums earned by type were as follows:
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Credit insurance:
Life $ 33.5 $ 35.0 $ 37.6
Accident and health 42.9 45.1 47.7
Property and casualty 40.7 42.9 41.0
Involuntary unemployment 16.5 15.5 14.7
Non-credit insurance:
Life 30.6 32.9 38.1
Accident and health 8.6 7.7 7.3
Premiums assumed under
reinsurance agreements 3.0 (0.6) 2.6
Total $175.8 $178.5 $189.0
Premiums written by type were as follows:
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Credit insurance:
Life $ 30.0 $ 26.1 $ 23.3
Accident and health 38.5 39.7 40.5
Property and casualty 37.9 34.3 39.3
Involuntary unemployment 16.0 16.4 15.9
Non-credit insurance:
Life 30.6 32.9 38.1
Accident and health 8.6 7.7 7.3
Premiums assumed under
reinsurance agreements 3.0 (0.6) 2.6
Total $164.6 $156.5 $167.0
Earned premiums decreased for 2004 primarily due to lower credit life
and credit accident and health premium volume in prior years.
41
Item 7. Continued
Earned premiums decreased for 2003 primarily due to lower premium
volume in prior years. Premium volume decreased due to fewer non-real
estate loan customers who historically have purchased the majority of
our insurance products. Also, in April 2003, we terminated a
reinsurance agreement with a non-subsidiary affiliate and reversed
$3.6 million of annuity premiums and annuity reserve expense that we
previously recorded.
Other Revenues
Other revenues were as follows:
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Service fee income from a
non-subsidiary affiliate $199.9 $ 49.5 $ 3.1
Miscellaneous:
Investment revenue 92.0 82.2 85.9
Net gain on sales of real estate
loans held for sale 11.4 84.0 -
Writedowns on real estate owned (9.6) (8.4) (9.1)
Net recovery on sales of real
estate owned 2.5 2.2 2.9
Net interest income on real estate
loans held for sale 0.9 14.8 -
Other 8.0 10.9 6.9
Total $305.1 $235.2 $ 89.7
Amount change $ 69.9 $145.5 $ (0.9)
Percent change 30% 162% (1)%
Other revenues increased for 2004 primarily due to higher service fee
income from a non-subsidiary affiliate and investment revenue,
partially offset by lower revenue on real estate loans held for sale.
In 2003, WFI entered into an agreement with AIG Bank whereby for fees
WFI provides marketing, certain origination processing services, loan
servicing, and related services for AIG Bank's origination and sale of
non-conforming residential real estate loans. In 2004, MorEquity
entered into a similar agreement with AIG Bank.
Other revenues increased for 2003 primarily due to the acquisition of
WFI effective January 1, 2003 which resulted in net gain on sales of
real estate loans held for sale, higher service fee income from a non-
subsidiary affiliate, and net interest income on real estate loans
held for sale.
42
Item 7. Continued
Investment revenue was affected by the following:
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Average invested assets $1,361.4 $1,302.5 $1,252.6
Investment portfolio yield 6.54% 6.56% 6.84%
Net realized losses on
investments $ - $ (8.4) $ (4.4)
Interest Expense
The impact of using swap agreements to fix floating-rate debt or float
fixed-rate debt is included in interest expense and the related
borrowing statistics below. Interest expense by type was as follows:
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Long-term debt $ 531.7 $ 447.9 $ 432.8
Short-term debt 104.6 98.8 126.5
Total $ 636.3 $ 546.7 $ 559.3
Amount change $ 89.6 $ (12.6) $ (76.2)
Percent change 16% (2)% (12)%
Average borrowings $16,300.9 $13,381.6 $11,471.2
Borrowing cost 3.90% 4.08% 4.88%
Interest expense increased (decreased) due to the following:
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Increase in average borrowings $ 119.1 $ 93.2 $ 45.5
Decrease in borrowing cost (29.5) (105.8) (121.7)
Total $ 89.6 $ (12.6) $ (76.2)
Average borrowings by type were as follows:
December 31,
2004 2003 2002
Amount Percent Amount Percent Amount Percent
(dollars in millions)
Long-term debt $12,387.3 76% $ 9,716.4 73% $ 7,344.3 64%
Short-term debt 3,913.6 24 3,665.2 27 4,126.9 36
Total $16,300.9 100% $13,381.6 100% $11,471.2 100%
43
Item 7. Continued
Changes in average borrowings by type were as follows:
Years Ended December 31,
2004 2003 2002
Percent Percent Percent
Amount Change Amount Change Amount Change
(dollars in millions)
Long-term debt $2,670.9 27% $2,372.1 32% $1,320.0 22%
Short-term debt 248.4 7 (461.7) (11) (490.3) (11)
Deposits - - - - (63.1) (100)
Total $2,919.3 22% $1,910.4 17% $ 766.6 7%
AGFC issued $5.7 billion of long-term debt in 2004, compared to $2.7
billion in 2003 and $4.6 billion in 2002. Long-term debt issuances in
2004 were higher than in 2003 primarily due to higher levels of
finance receivable growth and long-term debt refinancings in 2004.
In second quarter 2003, a consolidated special purpose subsidiary of
AGFI recorded $256.4 million of debt issued by a trust that purchased
$259.0 million of real estate loans as part of our securitization. We
recorded the transaction as an "on balance sheet" secured financing.
Borrowing cost by type were as follows:
Years Ended December 31,
2004 2003 2002
Long-term debt 4.28% 4.61% 5.89%
Short-term debt 2.68 2.70 3.06
Total 3.90 4.08 4.88
Changes in borrowing cost in basis points by type were as follows:
Years Ended December 31,
2004 2003 2002
Long-term debt (33) bp (128) bp (77) bp
Short-term debt (2) (36) (193)
Total (18) (80) (105)
Federal Reserve actions from 2001 through June 2003 created the lowest
interest rate environment since the 1950s and resulted in lower long-
term debt rates as new issuances were at substantially lower rates
than long-term debt being refinanced. In 2004, the Federal Reserve
raised the federal funds rate 125 basis points in five actions
beginning in June 2004.
44
Item 7. Continued
Operating Expenses
Operating expenses were as follows:
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Salaries and benefits $498.3 $413.4 $316.3
Other 284.0 272.9 245.2
Total $782.3 $686.3 $561.5
Amount change $ 96.0 $124.8 $ 10.7
Percent change 14% 22% 2%
Operating expenses as a percentage
of average net receivables 4.43% 4.82% 4.52%
Operating expenses increased in both 2004 and 2003 primarily due to
growth in our centralized real estate business segment and higher
salaries and benefits and advertising expenses. The increase in
salaries and benefits for 2004 and 2003 reflected the acquisition of
WFI which resulted in the addition of approximately 500 WFI employees
effective January 1, 2003, 400 centralized real estate employees hired
during 2003, and 500 centralized real estate employees hired during
2004. Competitive compensation and rising benefit costs also
contributed to higher salaries and benefits in 2004 and 2003.
The increase in operating expenses for 2003 also reflected higher
credit and collection and occupancy expenses. The increase in credit
and collection expenses reflected higher credit investigation,
recording and releasing, and mortgage appraisal fees resulting from
higher real estate loan originations and renewals during 2003.
The decrease in operating expenses as a percentage of average net
receivables for 2004 reflected higher average net receivables and
continued emphasis on controlling operating expenses, partially offset
by growth in our centralized real estate business segment. The
increase in operating expenses as a percentage of average net
receivables for 2003 reflected the acquisition of WFI and growth in
its operations.
Approximately $204.7 million of the Company's operating expenses for
2004 and $112.4 million for 2003 were directly related to our
centralized real estate business segment.
45
Item 7. Continued
Provision for Finance Receivable Losses
At or for the
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Provision for finance
receivable losses $270.2 $313.8 $303.6
Amount change $(43.6) $ 10.2 $ 14.3
Percent change (14)% 3% 5%
Net charge-offs $280.2 $310.8 $297.6
Charge-off ratio 1.60% 2.19% 2.41%
Charge-off coverage 1.63x 1.50x 1.56x
60 day+ delinquency $474.2 $515.4 $523.3
Delinquency ratio 2.31% 3.28% 3.67%
Allowance for finance
receivable losses $456.0 $466.0 $463.0
Allowance ratio 2.26% 3.04% 3.34%
Charge-offs, recoveries, net charge-offs, and charge-off ratio by type
were as follows:
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Real estate loans:
Charge-offs $ 71.3 $ 68.7 $ 58.6
Recoveries (5.9) (4.2) (4.5)
Net charge-offs $ 65.4 $ 64.5 $ 54.1
Charge-off ratio .50% .65% .67%
Non-real estate loans:
Charge-offs $206.5 $229.2 $225.3
Recoveries (30.2) (28.2) (27.2)
Net charge-offs $176.3 $201.0 $198.1
Charge-off ratio 5.95% 6.97% 6.94%
Retail sales finance:
Charge-offs $ 49.4 $ 55.3 $ 54.9
Recoveries (10.9) (10.0) (9.5)
Net charge-offs $ 38.5 $ 45.3 $ 45.4
Charge-off ratio 2.97% 3.44% 3.31%
Total:
Charge-offs $327.2 $353.2 $338.8
Recoveries (47.0) (42.4) (41.2)
Net charge-offs $280.2 $310.8 $297.6
Charge-off ratio 1.60% 2.19% 2.41%
46
Item 7. Continued
Changes in net charge-offs by type were as follows:
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Real estate loans $ 0.9 $10.4 $ 4.0
Non-real estate loans (24.7) 2.9 24.3
Retail sales finance (6.8) (0.1) 5.0
Total $(30.6) $13.2 $33.3
The improvement in net charge-offs for 2004 reflected lower non-real
estate loan and retail sales finance net charge-offs primarily due to
the improving economy. Real estate loan net charge-offs increased in
2004 and 2003 primarily due to increases in real estate loan average
net receivables of $3.4 billion, or 33%, in 2004 and $1.8 billion, or
23%, in 2003.
Changes in charge-off ratios in basis points by type were as follows:
Years Ended December 31,
2004 2003 2002
Real estate loans (15) bp (2) bp (1) bp
Non-real estate loans (102) 3 107
Retail sales finance (47) 13 46
Total (59) (22) 15
The improvement in the charge-off ratio for 2004 and 2003 was
primarily due to the improving economy which began in the second half
of 2003 and a higher proportion of average net receivables that were
real estate loans.
47
Item 7. Continued
Delinquency based on contract terms in effect and delinquency ratio by
type were as follows:
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Real estate loans:
Delinquency $286.6 $306.7 $300.0
Delinquency ratio 1.83% 2.79% 3.19%
Non-real estate loans:
Delinquency $152.6 $167.4 $178.7
Delinquency ratio 4.54% 5.16% 5.42%
Retail sales finance:
Delinquency $ 35.0 $ 41.3 $ 44.6
Delinquency ratio 2.32% 2.79% 2.87%
Total:
Delinquency $474.2 $515.4 $523.3
Delinquency ratio 2.31% 3.28% 3.67%
Changes in delinquency from the prior year end by type were as
follows:
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Real estate loans $(20.1) $ 6.7 $48.2
Non-real estate loans (14.8) (11.3) 7.2
Retail sales finance (6.3) (3.3) 2.8
Total $(41.2) $ (7.9) $58.2
Delinquency at December 31, 2004 and 2003 was favorably impacted by
the improving economy which began in the second half of 2003. Real
estate loan delinquency increased in 2003 primarily due to an increase
in real estate loans of $1.5 billion.
Changes in delinquency ratio from the prior year end in basis points
by type were as follows:
Years Ended December 31,
2004 2003 2002
Real estate loans (96) bp (40) bp (12) bp
Non-real estate loans (62) (26) 18
Retail sales finance (47) (8) 31
Total (97) (39) (4)
48
Item 7. Continued
The improvement in the delinquency ratio at December 31, 2004 and 2003
reflected the improving economy and a higher proportion of net finance
receivables that were real estate loans.
Our Credit Strategy and Policy Committee evaluates our finance
receivable portfolio monthly to determine the appropriate level of the
allowance for finance receivable losses. We believe the amount of the
allowance for finance receivable losses is the most significant
estimate we make. In our opinion, the allowance is adequate to absorb
losses inherent in our existing portfolio. The decrease in the
allowance for finance receivable losses at December 31, 2004 when
compared to December 31, 2003 was due to net decreases to the
allowance for finance receivable losses through the provision for
finance receivable losses in 2004 totaling $10.0 million. These
decreases were in response to our lower levels of delinquency and the
lower levels of both unemployment and personal bankruptcies in the
United States.
The allowance as a percentage of net finance receivables decreased
during 2004 and 2003 primarily due to the improving economy and a
higher proportion of net finance receivables that were real estate
loans.
Charge-off coverage, which compares the allowance for finance
receivable losses to net charge-offs, improved in 2004 primarily due
to lower net charge-offs. Charge-off coverage declined slightly in
2003 primarily due to a higher proportion of net finance receivables
that were real estate loans.
Insurance Losses and Loss Adjustment Expenses
Insurance losses and loss adjustment expenses were as follows:
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Claims incurred $80.7 $ 75.3 $85.3
Change in benefit reserves (4.0) (7.5) (2.0)
Total $76.7 $ 67.8 $83.3
Amount change $ 8.9 $(15.5) $(4.8)
Percent change 13% (19)% (5)%
49
Item 7. Continued
Losses incurred by type were as follows:
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Credit insurance:
Life $ 19.7 $ 20.7 $ 21.9
Accident and health 19.2 16.5 26.5
Property and casualty 14.7 11.0 7.0
Involuntary unemployment 2.1 2.9 2.2
Non-credit insurance:
Life 7.7 6.8 12.0
Accident and health 5.3 4.6 4.5
Losses incurred under
reinsurance agreements 8.0 5.3 9.2
Total $ 76.7 $ 67.8 $ 83.3
Insurance losses and loss adjustment expenses increased in 2004
primarily due to higher claims incurred and less benefit reserves
released. The increase in claims incurred in 2004 reflected property
losses in Florida associated with the 2004 hurricanes.
Insurance losses and loss adjustment expenses decreased in 2003
primarily due to lower claims incurred and more benefit reserves
released. Benefit reserves were released due to lower premium volume
in prior years. Also, in April 2003, we terminated a reinsurance
agreement with a non-subsidiary affiliate and reversed $3.6 million of
annuity reserve expense and annuity premiums that we previously
recorded.
Provision for Income Taxes
Years Ended December 31,
2004 2003 2002
(dollars in millions)
Provision for income taxes $215.6 $209.3 $145.3
Amount change $ 6.3 $ 64.0 $ 17.0
Percent change 3% 44% 13%
Pretax income $693.7 $575.4 $492.2
Effective income tax rate 31.08% 36.38% 29.53%
Provision for income taxes increased slightly during 2004 due to
higher pretax income, partially offset by a lower effective income tax
rate. During fourth quarter 2004, we reduced the provision for income
taxes by $38.7 million resulting from a favorable settlement of income
tax audit issues. This decreased the effective income tax rate for
2004.
Provision for income taxes increased during 2003 due to a higher
effective income tax rate and higher taxable income. During fourth
quarter 2002, we reduced the provision for income taxes by $30.0
million resulting from a favorable settlement of income tax audit
issues. This decreased the effective income tax rate for 2002.
50
Item 7. Continued
REGULATION AND OTHER
Regulation
The regulatory environment of the branch, centralized real estate, and
insurance business segments is described in Item 1.
Taxation
We monitor federal and state tax legislation and respond with
appropriate tax planning.
51
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
The fair values of certain of our assets and liabilities are sensitive
to changes in market interest rates. The impact of changes in
interest rates would be reduced by the fact that increases (decreases)
in fair values of assets would be partially offset by corresponding
changes in fair values of liabilities. In aggregate, the estimated
impact of an immediate and sustained 100 basis point increase or
decrease in interest rates on the fair values of our interest rate-
sensitive financial instruments would not be material to our financial
position.
The estimated increases (decreases) in fair values of interest rate-
sensitive financial instruments were as follows:
December 31, 2004 December 31, 2003
+100 bp -100 bp +100 bp -100 bp
(dollars in thousands)
Assets
Net finance receivables,
less allowance for
finance receivable
losses $(899,688) $1,025,476 $(490,884) $ 542,491
Fixed-maturity investment
securities (85,646) 76,189 (77,750) 82,802
Swap agreements 87,699 (92,989) - -
Liabilities
Long-term debt (371,877) 390,104 (287,934) 298,965
Swap agreements 8,616 (9,180) (1,195) 1,555
At each year end, we derived the changes in fair values by modeling
estimated cash flows of certain of our assets and liabilities. The
assumptions we used adjusted cash flows to reflect changes in
prepayments and calls but did not consider loan originations, debt
issuances, or new investment purchases.
Readers should exercise care in drawing conclusions based on the above
analysis. While these changes in fair values provide a measure of
interest rate sensitivity, they do not represent our expectations
about the impact of interest rate changes on our financial results.
This analysis is also based on our exposure at a particular point in
time and incorporates numerous assumptions and estimates. It also
assumes an immediate change in interest rates, without regard to the
impact of certain business decisions or initiatives that we would
likely undertake to mitigate or eliminate some or all of the adverse
effects of the modeled scenarios.
Item 8. Financial Statements and Supplementary Data.
We present the Report of Management's Responsibility,
PricewaterhouseCoopers LLP Report of Independent Registered Public
Accounting Firm, and the related consolidated financial statements on
the following pages.
52
REPORT OF MANAGEMENT'S RESPONSIBILITY
The Company's management is responsible for the integrity and fair
presentation of our consolidated financial statements and all other
financial information presented in this report. We prepared our
consolidated financial statements using accounting principles
generally accepted in the United States (GAAP). We made estimates and
assumptions that affect amounts recorded in the financial statements
and disclosures of contingent assets and liabilities.
The Company's management is responsible for establishing and
maintaining an internal control structure and procedures for financial
reporting. We designed these systems to provide reasonable assurance
that assets are safeguarded from loss or unauthorized use, that
transactions are recorded according to GAAP under management's
direction and that financial records are reliable to prepare financial
statements. We support the internal control structure with careful
selection, training and development of qualified personnel. The
Company's employees are subject to AIG's Code of Conduct designed to
assure that all employees perform their duties with honesty and
integrity. In second quarter 2004, AIG adopted the AIG Director,
Executive Officer, and Senior Financial Officer Code of Business
Conduct and Ethics, which covers such directors and officers of AIG
and its subsidiaries. We do not allow loans to executive officers.
The aforementioned systems include a documented organizational
structure and policies and procedures that we communicate throughout
the Company. Our internal auditors report directly to AIG to
strengthen independence. They continually monitor the operation of
our internal controls and report their findings to the Company's
management, AIG's management, and AIG's internal audit department. We
take prompt action to correct control deficiencies and improve the
systems. The Company's management assesses any changes to our
internal control structure quarterly. Based on these assessments,
management has concluded that the internal control structure and the
procedures for financial reporting have functioned effectively and
that the consolidated financial statements fairly present our
consolidated financial position and the results of our operations for
the periods presented.
53
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Shareholder and Board of Directors
of American General Finance, Inc.:
In our opinion, the consolidated financial statements listed in the
index appearing under Items 15(a)(1) and (2) on page 96 present
fairly, in all material respects, the financial position of American
General Finance, Inc. and its subsidiaries (the "Company") at December
31, 2004 and 2003, and the results of their operations and their cash
flows for each of the three years in the period ended December 31,
2004 in conformity with accounting principles generally accepted in
the United States of America. In addition, in our opinion, the
financial statement schedule at and for each of the three years in the
period ended December 31, 2004 listed in the index appearing under
Item 15(d) on page 97 presents fairly, in all material respects, the
information set forth therein when read in conjunction with the
related consolidated financial statements. These financial statements
and financial statement schedule are the responsibility of the
Company's management. Our responsibility is to express an opinion on
these financial statements and financial statement schedule based on
our audits. We conducted our audits of these statements in accordance
with the standards of the Public Company Accounting Oversight Board
(United States). Those standards require that we plan and perform the
audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting
principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe
that our audits provide a reasonable basis for our opinion.
/s/ PricewaterhouseCoopers LLP
Chicago, Illinois
March 1, 2005
54
American General Finance, Inc. and Subsidiaries
Consolidated Balance Sheets
December 31,
2004 2003
(dollars in thousands)
Assets
Net finance receivables (Notes 3. and 5.):
Real estate loans $15,742,238 $11,038,140
Non-real estate loans 3,043,602 2,932,120
Retail sales finance 1,382,018 1,337,701
Net finance receivables 20,167,858 15,307,961
Allowance for finance receivable
losses (Note 6.) (456,031) (466,031)
Net finance receivables, less allowance
for finance receivable losses 19,711,827 14,841,930
Investment securities (Note 7.) 1,378,362 1,307,472
Cash and cash equivalents 160,610 145,462
Other assets (Note 8.) 984,973 711,300
Total assets $22,235,772 $17,006,164
Liabilities and Shareholder's Equity
Long-term debt (Notes 9. and 12.) $14,679,501 $10,862,218
Short-term debt (Notes 10. and 12.) 4,299,085 3,467,096
Insurance claims and policyholder
liabilities (Note 13.) 422,957 438,362
Other liabilities (Note 14.) 414,441 376,739
Accrued taxes 43,546 37,952
Total liabilities 19,859,530 15,182,367
Shareholder's equity:
Common stock (Note 15.) 1,000 1,000
Additional paid-in capital 996,305 920,276
Accumulated other comprehensive
income (loss) (Note 16.) 37,413 (14,947)
Retained earnings (Note 17.) 1,341,524 917,468
Total shareholder's equity 2,376,242 1,823,797
Total liabilities and shareholder's equity $22,235,772 $17,006,164
See Notes to Consolidated Financial Statements.
55
American General Finance, Inc. and Subsidiaries
Consolidated Statements of Income
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Revenues
Finance charges $1,977,202 $1,773,277 $1,718,873
Insurance 176,840 181,642 191,230
Other:
Service fee income from a
non-subsidiary affiliate 199,856 49,547 3,094
Miscellaneous 105,264 185,640 86,641
Total revenues 2,459,162 2,190,106 1,999,838
Expenses
Interest expense 636,304 546,716 559,291
Operating expenses:
Salaries and benefits 498,295 413,358 316,262
Other operating expenses 284,053 272,945 245,257
Provision for finance receivable
losses 270,158 313,830 303,585
Insurance losses and loss
adjustment expenses 76,681 67,849 83,275
Total expenses 1,765,491 1,614,698 1,507,670
Income before provision for income
taxes 693,671 575,408 492,168
Provision for Income Taxes
(Note 18.) 215,617 209,305 145,342
Net Income $ 478,054 $ 366,103 $ 346,826
See Notes to Consolidated Financial Statements.
56
American General Finance, Inc. and Subsidiaries
Consolidated Statements of Shareholder's Equity
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Common Stock
Balance at beginning of year $ 1,000 $ 1,000 $ 1,000
Balance at end of year 1,000 1,000 1,000
Additional Paid-in Capital
Balance at beginning of year 920,276 920,276 880,594
Capital contributions from
parent and other 76,029 - 39,682
Balance at end of year 996,305 920,276 920,276
Accumulated Other Comprehensive
Income (Loss)
Balance at beginning of year (14,947) (68,938) (61,687)
Change in net unrealized
gains (losses):
Investment securities 2,876 10,673 23,792
Swap agreements 49,484 43,318 (31,391)
Minimum pension liability - - 348
Balance at end of year 37,413 (14,947) (68,938)
Retained Earnings
Balance at beginning of year 917,468 734,479 534,652
Net income 478,054 366,103 346,826
Common stock dividends (53,998) (183,114) (146,999)
Balance at end of year 1,341,524 917,468 734,479
Total Shareholder's Equity $2,376,242 $1,823,797 $1,586,817
See Notes to Consolidated Financial Statements.
57
American General Finance, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Cash Flows from Operating Activities
Net Income $ 478,054 $ 366,103 $ 346,826
Reconciling adjustments:
Provision for finance receivable losses 270,158 313,830 303,585
Depreciation and amortization 178,392 197,232 153,211
Deferral of finance receivable
origination costs (84,651) (71,401) (60,215)
Deferred income tax benefit (73,047) (2,372) (58,601)
Origination of real estate loans held
for sale (124,398) (1,789,108) -
Sales and principal collections of real
estate loans held for sale 135,825 1,885,122 -
Change in other assets and other liabilities 73,048 (49,944) (59,970)
Change in insurance claims and
policyholder liabilities (15,405) (33,986) (23,240)
Change in taxes receivable and payable (31,017) (4,688) (33,546)
Other, net (19,539) 6,538 756
Net cash provided by operating activities 787,420 817,326 568,806
Cash Flows from Investing Activities
Finance receivables originated or purchased (12,581,889) (8,948,036) (8,184,075)
Principal collections on finance receivables 7,453,077 7,110,628 6,298,802
Acquisition of Wilmington Finance, Inc. - (93,189) -
Acquisition of First Horizon - - (208,666)
Investment securities purchased (582,957) (504,561) (806,989)
Investment securities called and sold 500,474 413,554 713,653
Investment securities matured 15,356 23,335 42,475
Change in premiums on finance receivables
purchased and deferred charges (27,297) (1,008) (88,465)
Other, net (15,376) (25,305) (13,023)
Net cash used for investing activities (5,238,612) (2,024,582) (2,246,288)
Cash Flows from Financing Activities
Proceeds from issuance of long-term debt 5,791,112 2,947,613 4,638,983
Repayment of long-term debt (2,177,763) (1,656,863) (1,394,998)
Change in short-term debt 831,989 91,422 (1,477,846)
Capital contributions from parent 75,000 - 33,000
Dividends paid (53,998) (183,114) (146,999)
Net cash provided by financing activities 4,466,340 1,199,058 1,652,140
Increase (decrease) in cash and cash equivalents 15,148 (8,198) (25,342)
Cash and cash equivalents at beginning of year 145,462 153,660 179,002
Cash and cash equivalents at end of year $ 160,610 $ 145,462 $ 153,660
See Notes to Consolidated Financial Statements.
58
American General Finance, Inc. and Subsidiaries
Consolidated Statements of Comprehensive Income
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Net Income $ 478,054 $ 366,103 $ 346,826
Other comprehensive gain (loss):
Changes in net unrealized gains
(losses):
Investment securities 4,406 8,040 32,220
Swap agreements 23,341 (6,773) (151,142)
Minimum pension liability - - 535
Income tax effect:
Investment securities (1,543) (2,802) (11,288)
Swap agreements (8,170) 2,369 52,900
Minimum pension liability - - (187)
Changes in net unrealized gains
(losses), net of tax 18,034 834 (76,962)
Reclassification adjustments
for realized losses included
in net income:
Investment securities 19 8,361 4,400
Swap agreements 52,789 73,418 102,848
Income tax effect:
Investment securities (6) (2,926) (1,540)
Swap agreements (18,476) (25,696) (35,997)
Realized losses included
in net income, net of tax 34,326 53,157 69,711
Other comprehensive gain (loss),
net of tax 52,360 53,991 (7,251)
Comprehensive income $ 530,414 $ 420,094 $ 339,575
See Notes to Consolidated Financial Statements.
59
American General Finance, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2004
Note 1. Nature of Operations
American General Finance, Inc. will be referred to as "AGFI" or
collectively with its subsidiaries, whether directly or indirectly
owned, as the "Company" or "we". Since August 29, 2001, AGFI has been
an indirect wholly owned subsidiary of American International Group,
Inc. (AIG). AIG is a holding company which, through its subsidiaries,
is engaged in a broad range of insurance and insurance-related
activities, financial services and asset management in the United
States and abroad.
AGFI is a financial services holding company whose principal
subsidiary is American General Finance Corporation (AGFC). AGFC is
also a financial services holding company with subsidiaries engaged
primarily in the consumer finance and credit insurance businesses. At
December 31, 2004, the Company had 1,444 branch offices in 45 states,
Puerto Rico and the U.S. Virgin Islands and approximately 9,100
employees.
We have three business segments: branch, centralized real estate, and
insurance. We define our segments by type of financial service
product offered, nature of the production process, and method used to
distribute our products and to provide our services, as well as our
management reporting structure.
In our branch business segment, we:
* originate real estate loans secured by first or second
mortgages on residential real estate, which may be closed-end
accounts or open-end home equity lines of credit;
* originate secured and unsecured non-real estate loans;
* purchase retail sales contracts and provide revolving retail
services arising from the retail sale of consumer goods and
services by retail merchants; and
* purchase private label receivables originated by AIG Federal
Savings Bank (AIG Bank) under a participation agreement.
To supplement our lending and retail sales financing activities, we
purchase portfolios of real estate loans, non-real estate loans, and
retail sales finance receivables originated by other lenders. We also
offer credit and non-credit insurance and ancillary products to all
eligible branch customers.
60
Notes to Consolidated Financial Statements, Continued
In our centralized real estate business segment, we:
* provide, for fees, marketing, certain origination processing
services, loan servicing, and related services for AIG Bank;
* originate real estate loans for transfer to the centralized
real estate servicing center;
* originate real estate loans for sale to investors with
servicing released to the purchaser; and
* service a portfolio of real estate loans generated through:
* portfolio acquisitions from third party lenders;
* our mortgage origination subsidiaries;
* refinancing existing mortgages; or
* advances on home equity lines of credit.
We fund our branch and centralized real estate business segments
principally through cash flows from operations, public and private
capital markets borrowings, and capital contributions from our parent.
Our ability to access capital is dependent upon internal and external
factors including our ability to maintain adequately strong operating
performance and debt credit ratings and the overall condition of the
capital markets. Our principal funding sources through the capital
markets include:
* issuances of long-term debt in domestic and foreign markets;
* short-term borrowings in the commercial paper market;
* borrowings from banks under credit facilities; and
* securitizations.
In our insurance business segment, we principally write and reinsure
credit life, credit accident and health, credit-related property and
casualty, credit involuntary unemployment, and non-credit insurance
covering our customers and the property pledged as collateral through
products that principally the branch business segment offers to its
customers. We also monitor our finance receivables to determine that
the collateral is adequately protected. See Note 22. for further
information on the Company's business segments.
At December 31, 2004, the Company had $20.2 billion of net finance
receivables due from approximately 1.9 million customer accounts and
$5.7 billion of credit and non-credit life insurance in force covering
approximately 892,000 customer accounts.
Note 2. Acquisitions
Effective January 1, 2003, we acquired 100% of the common stock of
Wilmington Finance, Inc. (WFI), a majority owned subsidiary of WSFS
Financial Corporation, in a purchase business combination. The
purchase price was $120.8 million, consisting of $25.8 million for net
assets and $95.0 million for intangibles. The majority of the
tangible assets acquired were real estate loans held for sale. We
included the results of WFI's operations in our financial statements
beginning January 1, 2003, the effective date of the acquisition. We
finalized an independent valuation of the intangibles in second
quarter 2003 and recorded $54.2 million as goodwill and $40.8 million
as other intangibles. We include goodwill and other intangibles in
other assets. Other intangibles primarily consisted of broker
61
Notes to Consolidated Financial Statements, Continued
relationships and non-compete agreements and had an initial weighted-
average amortization period of 9 years. WFI originates non-conforming
residential real estate loans, primarily through broker relationships
(wholesale) and, to lesser extents, directly to consumers (retail) and
through correspondent relationships, and sells these loans to
investors with servicing released to the purchaser. Effective July 1,
2003, WFI and AIG Bank entered into an agreement whereby for fees, WFI
provides marketing, certain origination processing services, loan
servicing, and related services for AIG Bank's origination and sale of
non-conforming residential real estate loans. WFI provides the
Company with other sources of revenue through its servicing fees and
net gain on sales of real estate loans held for sale. The acquisition
of WFI significantly affected our other revenues, operating expenses,
and pretax income for 2003 and 2004.
On September 16, 2002, we acquired the majority of the assets of First
Horizon Money Centers, a consumer financial services subsidiary of
First Tennessee Bank National Association, in a purchase business
combination. The fair value of the assets acquired totaled $208.7
million, representing real estate loans, non-real estate loans, and
retail sales finance receivables. We also acquired certain branch
office locations by assuming the branch office leases and hired
certain branch office personnel. We included the acquisition of First
Horizon in our consolidated financial statements since the date of
acquisition. The acquisition did not have a significant effect on our
operations.
Note 3. Summary of Significant Accounting Policies
BASIS OF PRESENTATION
We prepared our consolidated financial statements using accounting
principles generally accepted in the United States (GAAP). The
statements include the accounts of AGFI and its subsidiaries, all of
which are wholly owned. We eliminated all intercompany items. We
made estimates and assumptions that affect amounts reported in our
financial statements and disclosures of contingent assets and
liabilities. Ultimate results could differ from our estimates. To
conform to the 2004 presentation, we reclassified certain items in
prior periods.
BRANCH AND CENTRALIZED
REAL ESTATE BUSINESS SEGMENTS
Finance Receivables
We carry finance receivables at amortized cost which includes accrued
finance charges on interest bearing finance receivables, unamortized
deferred origination costs, and unamortized net premiums and discounts
on purchased finance receivables. They are net of unamortized finance
charges on precomputed receivables and unamortized points and fees.
Although a significant portion of insurance claims and policyholder
liabilities originate from the finance receivables, our policy is to
report them as liabilities and not net them against finance
62
Notes to Consolidated Financial Statements, Continued
receivables. Finance receivables relate to the financing activities
of our branch and centralized real estate business segments, and
insurance claims and policyholder liabilities relate to the
underwriting activities of our insurance business segment.
We determine delinquency on finance receivables contractually. We
advance the due date on a customer's account when the customer makes a
partial payment of 90% or more of the scheduled contractual payment.
We do not advance the due date on a customer's account further if the
customer makes an additional partial payment of 90% or more of the
scheduled contractual payment and has not yet paid the deficiency
amount from a prior partial payment.
Revenue Recognition
We recognize finance charges as revenue on the accrual basis using the
interest method. We amortize premiums and discounts on purchased
finance receivables as a revenue adjustment using the interest method.
We defer the costs to originate certain finance receivables and the
revenue from nonrefundable points and fees on loans and amortize them
to revenue using the interest method over the lesser of the
contractual term or the estimated life based upon prepayment
experience. If a finance receivable liquidates before amortization is
completed, we charge or credit any unamortized premiums, discounts,
origination costs, or points and fees to revenue at the date of
liquidation. We recognize late charges, prepayment penalties, and
deferment fees as revenue when received.
We stop accruing finance charges when the fourth contractual payment
becomes past due for loans and retail sales contracts and when the
sixth contractual payment becomes past due for revolving retail and
private label. We reverse amounts previously accrued upon suspension.
After suspension, we recognize revenue for loans and retail sales
contracts only to the extent of any additional payments we receive.
Allowance for Finance Receivable Losses
We establish the allowance for finance receivable losses primarily
through the provision for finance receivable losses charged to
expense. We believe the amount of the allowance for finance
receivable losses is the most significant estimate we make. Our
Credit Strategy and Policy Committee evaluates our finance receivable
portfolio monthly. Within our three main finance receivable types are
sub-portfolios, each consisting of a large number of relatively small,
homogenous accounts. We evaluate these sub-portfolios for impairment
as groups. None of our accounts are large enough to warrant
individual evaluation for impairment. Our Credit Strategy and Policy
Committee considers numerous factors in estimating losses inherent in
our finance receivable portfolio, including the following:
* prior finance receivable loss and delinquency experience;
* the composition of our finance receivable portfolio; and
* current economic conditions including the levels of
unemployment and personal bankruptcies.
63
Notes to Consolidated Financial Statements, Continued
Our policy is to charge off each month to the allowance for finance
receivable losses non-real estate loans on which payments received in
the prior six months have totaled less than 5% of the original loan
amount and retail sales finance that are six installments past due.
Generally, we start foreclosure proceedings on real estate loans when
four monthly installments are past due. When foreclosure is completed
and we have obtained title to the property, we obtain an unrelated
party's valuation of the property, which is either a full appraisal or
a real estate broker's or appraiser's estimate of the property's sale
value without the benefit of a full interior and exterior appraisal
and lacking sales comparisons. We reduce finance receivables by the
amount of the real estate loan, establish a real estate owned asset
valued at lower of loan balance or 85% of the valuation, and charge
off any loan amount in excess of that value to the allowance for
finance receivable losses. We occasionally extend the charge-off
period for individual accounts when, in our opinion, such treatment is
warranted and consistent with our credit risk policies. We increase
the allowance for finance receivable losses for recoveries on accounts
previously charged off.
We may renew a delinquent account if the customer has sufficient
income and it does not appear that the cause of past delinquency will
affect the customer's ability to repay the new loan. We subject all
renewals, whether the customer's account is current or delinquent, to
the same credit risk underwriting process as we would a new
application for credit.
We may allow a deferment, which is a partial payment that extends the
term of an account. The partial payment amount is usually the greater
of one-half of a regular monthly payment or the amount necessary to
bring the interest on the account current. We limit a customer to two
deferments in a rolling twelve-month period unless we determine that
an exception is warranted and consistent with our credit risk
policies.
Real Estate Owned
We acquire real estate owned through foreclosure on real estate loans.
We record real estate owned in other assets, initially at lower of
loan balance or 85% of the unrelated party's valuation, which
approximates the fair value less the estimated cost to sell. If we do
not sell a property within one year of acquisition, we reduce the
carrying value by five percent of the initial value each month
beginning in the thirteenth month. We continue the writedown until
the property is sold or the carrying value is reduced to ten percent
of the initial value. We charge these writedowns to other revenues.
We record the sale price we receive for a property less the carrying
value and any amounts refunded to the customer as a recovery or loss
in other revenues. We do not profit from foreclosures in accordance
with the American Financial Services Association's Voluntary Standards
for Consumer Mortgage Lending. We only attempt to recover our
investment in the property, including expenses incurred.
64
Notes to Consolidated Financial Statements, Continued
Customer Relationships
Customer relationships, included in other assets, are intangible
assets we acquire by assigning a portion of the purchase price on
certain portfolio acquisitions to the customer relationships. In
those instances, we expect our relationships with the customers to
last beyond the terms of the finance receivables we purchased. We
charge customer relationships to expense in equal amounts generally
over six years. If the required impairment testing suggests that
customer relationships are impaired, we reduce customer relationships
to an amount that results in the carrying value of the customer
relationships approximating fair value.
Real Estate Loans Held for Sale
We carry real estate loans held for sale, included in other assets, at
lower of amortized cost or market value. We include the sales price
we receive less the carrying value of the real estate loan in other
revenues.
We accrue interest income due from the borrower on real estate loans
held for sale from the date of loan funding until the date of sale to
the investor and include it in other revenues. Upon sale, we collect
from the investor any accrued interest income not paid by the
borrower.
We record the fees we receive from AIG Bank for providing services for
its investment in real estate loans held for sale in other revenues
when we provide the services.
INSURANCE BUSINESS SEGMENT
Revenue Recognition
We recognize credit insurance premiums on closed-end real estate loans
and revolving finance receivables as revenue when billed monthly. We
defer credit insurance premiums collected in advance in unearned
premium reserves which we include in insurance claims and policyholder
liabilities. We recognize unearned premiums on credit life insurance
as revenue using the sum-of-the-digits or actuarial methods, except in
the case of level-term contracts, for which we recognize unearned
premiums as revenue using the straight-line method over the terms of
the policies. We recognize unearned premiums on credit accident and
health insurance as revenue using an average of the sum-of-the-digits
and the straight-line methods. We recognize unearned premiums on
credit-related property and casualty and credit involuntary
unemployment insurance as revenue using the straight-line method over
the terms of the policies. We recognize non-credit life insurance
premiums as revenue when collected but not before their due dates. We
recognize commissions on ancillary products as other revenue when
received.
65
Notes to Consolidated Financial Statements, Continued
Policy Reserves
Policy reserves for credit life, credit accident and health, and
credit-related property and casualty and credit involuntary
unemployment insurance equal related unearned premiums. We base claim
reserves on Company experience. We estimate reserves for losses and
loss adjustment expenses for credit-related property and casualty
insurance based upon claims reported plus estimates of incurred but
not reported claims. We accrue liabilities for future life insurance
policy benefits associated with non-credit life contracts when we
recognize premium revenue and base the amounts on assumptions as to
investment yields, mortality, and surrenders. We base annuity
reserves on assumptions as to investment yields and mortality. We
base insurance reserves assumed under reinsurance agreements where we
assume the risk of loss on various tabular and unearned premium
methods.
Acquisition Costs
We defer insurance policy acquisition costs, principally commissions,
reinsurance fees, and premium taxes. We include them in other assets
and charge them to expense over the terms of the related policies or
reinsurance agreements.
INVESTMENT SECURITIES
Valuation
We currently classify all investment securities as available-for-sale
and record them at fair value. We adjust related balance sheet
accounts as if the unrealized gains and losses on investment
securities had been realized, and record the adjustment, net of tax,
in accumulated other comprehensive income (loss) in shareholder's
equity. If the fair value of an investment security classified as
available-for-sale declines below its cost and we consider the decline
to be other than temporary, we reduce the investment security to its
fair value, and recognize a realized loss.
Revenue Recognition
We recognize interest on interest bearing fixed maturity investment
securities as revenue on the accrual basis using the interest method.
We amortize any premiums or discounts as a revenue adjustment using
the interest method. We stop accruing interest revenue when the
collection of interest becomes uncertain. We record dividends as
revenue on ex-dividend dates. We recognize income on mortgage-backed
securities as revenue using a constant effective yield based on
estimated prepayments of the underlying mortgages. If actual
prepayments differ from estimated prepayments, we calculate a new
effective yield and adjust the net investment in the security
accordingly. We record the adjustment, along with all investment
revenue, in other revenues. We recognize the pretax operating income
from our investments in limited partnerships as revenue quarterly.
66
Notes to Consolidated Financial Statements, Continued
Realized Gains and Losses on Investment Securities
We specifically identify realized gains and losses on investment
securities and include them in other revenues.
OTHER
Other Invested Assets
Commercial mortgage loans, investment real estate, and insurance
policy loans are part of our insurance business segment's investment
portfolio and we include them in other assets. We recognize interest
on commercial mortgage loans and insurance policy loans as revenue on
the accrual basis using the interest method. We stop accruing revenue
when collection of interest becomes uncertain. We recognize pretax
operating income from the operation of our investment real estate as
revenue monthly. We include other invested asset revenue in other
revenues.
Cash Equivalents
We consider all short-term investments having a maturity date within
three months of its purchase date to be cash equivalents.
Goodwill
On January 1, 2002, we adopted Statement of Financial Accounting
Standards (SFAS) 142, "Goodwill and Other Intangible Assets." During
the first quarter of each year, we test the branch, centralized real
estate, and insurance business segments for goodwill impairment.
Impairment is the condition that exists when the carrying value of
goodwill exceeds its implied fair value. We assess the fair value of
the underlying business using a projected ten-year earnings stream,
discounted using the Treasury "risk free" rate. The "risk free" rate
is the yield on ten-year U.S. Treasury Bills as of December 31 of the
prior year. If the required impairment testing suggests that goodwill
is impaired, we reduce goodwill to an amount that results in the
carrying value of the underlying business approximating fair value.
Income Taxes
We recognize income taxes using the asset and liability method. We
establish deferred tax assets and liabilities for temporary
differences between the financial reporting basis and the tax basis of
assets and liabilities, using the tax rates expected to be in effect
when the temporary differences reverse.
We provide a valuation allowance for deferred tax assets if it is
likely that we will not realize some portion of the deferred tax
asset. We include an increase or decrease in a valuation allowance
resulting from a change in the realizability of the related deferred
tax asset in income.
67
Notes to Consolidated Financial Statements, Continued
Derivative Financial Instruments
We recognize all derivatives on our consolidated balance sheet at
their fair value. We designate them as either a hedge of the
variability of cash flows that we will receive or pay in connection
with a recognized asset or liability (a "cash flow" hedge), as a hedge
of the fair value of a recognized asset or liability (a "fair value"
hedge), or as derivatives that do not qualify as either a cash flow or
fair value hedge.
We record changes in the fair value of a derivative that is effective
as - and that we designate and qualifies as - a cash flow hedge, to
the extent that the hedge is effective, in other comprehensive income,
until earnings are affected by the variability of cash flows of the
hedged transaction. We record changes in the fair value of a
derivative that is effective as - and that we designate and qualifies
as - a fair value hedge, along with changes in the fair value of the
hedged asset or liability that are attributable to the hedged risk, in
current period earnings. We record changes in the fair value of a
derivative that does not qualify as either a cash flow or fair value
hedge in current period earnings.
We formally document all relationships between derivative hedging
instruments and hedged items, as well as our risk-management
objectives and strategies for undertaking various hedge transactions
and our method to assess ineffectiveness. We link all derivatives
that we designate as cash flow or fair value hedges to assets and
liabilities on the balance sheet. We also formally assess (both at
the hedge's inception and at least quarterly thereafter) whether the
derivatives that we use in hedging transactions have been effective in
offsetting changes in the cash flows or fair value of hedged items and
whether we expect those derivatives to remain effective in future
periods. We typically use regression analyses or other statistical
analyses to assess the effectiveness of our hedges.
We discontinue hedge accounting prospectively when:
* the derivative is no longer effective in offsetting changes in
the cash flows or fair value of a hedged item;
* we sell, terminate, or exercise the derivative and/or the
hedged item or they expire; or
* we change our objectives or strategies and designating the
derivative as a hedging instrument is no longer appropriate.
When we determine that a derivative no longer qualifies as an
effective cash flow hedge of an existing hedged item and discontinue
hedge accounting, we will continue to carry the derivative on the
balance sheet at its fair value and amortize the cumulative other
comprehensive income adjustment to earnings when earnings are affected
by the original forecasted transaction. When we determine that a
derivative no longer qualifies as an effective fair value hedge and
discontinue hedge accounting, we will continue to carry the derivative
on the consolidated balance sheet at its fair value, cease to adjust
the hedged asset or liability for changes in fair value, and begin to
amortize the cumulative basis adjustment on the hedged item into
earnings over the remaining life of the hedged item using the level-
yield method. In all situations in which we discontinue hedge
accounting and the derivative remains outstanding, we will carry the
68
Notes to Consolidated Financial Statements, Continued
derivative at its fair value on the consolidated balance sheet, and
recognize changes in the fair value of the derivative in current
period earnings.
Fair Value of Financial Instruments
We estimate the fair values disclosed in Note 24. using discounted
cash flows when quoted market prices or values obtained from
independent pricing services are not available. The assumptions we
use, including the discount rate and estimates of future cash flows,
significantly affect the valuation techniques employed. In certain
cases, we cannot verify the estimated fair values by comparison to
independent markets or realize the estimated fair values in immediate
settlement of the instruments.
Note 4. Recent Accounting Pronouncements
In December 2003, the Accounting Standards Executive Committee issued
Statement of Position No. 03-3 (SOP 03-3) "Accounting for Certain
Loans or Debt Securities Acquired in a Transfer". SOP 03-3 addresses
accounting for differences between contractual cash flows and cash
flows expected to be collected from an investor's initial investment
in loans acquired in a transfer if those differences are attributable,
at least in part, to credit quality. SOP 03-3 limits the yield that
may be accreted (accretable yield) to the excess of the investor's
estimate of undiscounted expected principal, interest, and other cash
flows (cash flows expected at acquisition to be collected) over the
investor's initial investment in the loan. SOP 03-3 requires that the
excess of contractual cash flows over cash flows expected to be
collected (nonaccretable difference) not be recognized as an
adjustment of yield, loss accrual, or valuation allowance. Subsequent
increases in cash flows expected to be collected generally should be
recognized prospectively through adjustment of the loan's yield over
its remaining life. Decreases in cash flows expected to be collected
should be recognized as impairment. SOP 03-3 is effective for loans
acquired in fiscal years beginning after December 15, 2004. In
addition, SOP 03-3 should be applied prospectively for fiscal years
beginning after December 15, 2004 for decreases in cash flows expected
to be collected on loans acquired in fiscal years beginning on or
before December 15, 2004. The AcSEC has encouraged early adoption of
SOP 03-3 by affected companies. We have determined that adoption of
SOP 03-3 will have no effect on our results of operations or financial
position in future periods due to immateriality.
69
Notes to Consolidated Financial Statements, Continued
Note 5. Finance Receivables
Components of net finance receivables by type were as follows:
December 31, 2004
Real Non-real Retail
Estate Estate Sales
Loans Loans Finance Total
(dollars in thousands)
Gross receivables $15,664,295 $3,359,288 $1,511,684 $20,535,267
Unearned finance charges
and points and fees (128,899) (387,504) (144,521) (660,924)
Accrued finance charges 101,475 39,812 14,942 156,229
Deferred origination costs 30,168 30,047 - 60,215
Premiums, net of discounts 75,199 1,959 (87) 77,071
Total $15,742,238 $3,043,602 $1,382,018 $20,167,858
December 31, 2003
Real Non-real Retail
Estate Estate Sales
Loans Loans Finance Total
(dollars in thousands)
Gross receivables $10,980,168 $3,244,772 $1,480,724 $15,705,664
Unearned finance charges
and points and fees (137,473) (388,009) (154,494) (679,976)
Accrued finance charges 83,356 40,590 11,911 135,857
Deferred origination costs 20,149 28,917 - 49,066
Premiums, net of discounts 91,940 5,850 (440) 97,350
Total $11,038,140 $2,932,120 $1,337,701 $15,307,961
Real estate loans are secured by first or second mortgages on
residential real estate and generally have maximum original terms of
360 months. These loans may be closed-end accounts or open-end home
equity lines of credit and may be fixed-rate or adjustable-rate
products. Non-real estate loans are secured by consumer goods,
automobiles or other personal property, or are unsecured and generally
have maximum original terms of 60 months. Retail sales contracts are
secured principally by consumer goods and automobiles and generally
have maximum original terms of 60 months. Revolving retail and
private label are secured by the goods purchased and generally require
minimum monthly payments based on outstanding balances. At December
31, 2004, 98% of our net finance receivables were secured by the real
and/or personal property of the borrower, compared to 97% at December
31, 2003. At December 31, 2004, real estate loans accounted for 78%
of the amount and 12% of the number of net finance receivables
outstanding, compared to 72% of the amount and 12% of the number of
net finance receivables outstanding at December 31, 2003.
70
Notes to Consolidated Financial Statements, Continued
Contractual maturities of net finance receivables by type at December
31, 2004 were as follows:
Real Non-Real Retail
Estate Estate Sales
Loans Loans Finance Total
(dollars in thousands)
2005 $ 298,343 $ 797,498 $ 362,182 $ 1,458,023
2006 358,805 1,013,257 293,232 1,665,294
2007 379,837 714,403 148,373 1,242,613
2008 400,482 319,066 79,533 799,081
2009 412,325 104,957 43,109 560,391
2010+ 13,892,446 94,421 455,589 14,442,456
Total $15,742,238 $ 3,043,602 $ 1,382,018 $20,167,858
Company experience has shown that customers will renew, convert or pay
in full a substantial portion of finance receivables prior to
maturity. Contractual maturities are not a forecast of future cash
collections.
Principal cash collections and such collections as a percentage of
average net receivables by type were as follows:
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Real estate loans:
Principal cash collections $4,120,397 $3,871,805 $2,953,426
% of average net receivables 30.76% 38.59% 36.09%
Non-real estate loans:
Principal cash collections $1,751,537 $1,595,152 $1,614,216
% of average net receivables 59.01% 55.33% 56.48%
Retail sales finance:
Principal cash collections $1,581,143 $1,643,671 $1,731,160
% of average net receivables 121.88% 124.94% 126.56%
Unused credit limits extended by AIG Bank (whose private label finance
receivables are fully participated to the Company) and the Company to
their customers were $3.5 billion at December 31, 2004 and December
31, 2003. Company experience has shown that the funded amounts have
been substantially less than the credit limits. All unused credit
limits, in part or in total, can be cancelled at the discretion of AIG
Bank and the Company.
71
Notes to Consolidated Financial Statements, Continued
Geographic diversification of finance receivables reduces the
concentration of credit risk associated with a recession in any one
region. The largest concentrations of net finance receivables were as
follows:
December 31, 2004 December 31, 2003
Amount Percent Amount Percent
(dollars in thousands)
California $ 2,892,123 14% $ 2,276,408 15%
Florida 1,233,843 6 936,435 6
Ohio 1,125,911 6 841,380 6
Illinois 992,101 5 835,156 5
Virginia 954,835 5 680,288 4
N. Carolina 904,490 4 883,866 6
Georgia 760,154 4 661,307 4
Indiana 743,377 4 639,201 4
Other 10,561,024 52 7,553,920 50
Total $20,167,858 100% $15,307,961 100%
Finance receivables on which we stopped accruing revenue totaled
$361.3 million at December 31, 2004 and $397.9 million at December 31,
2003. Our accounting policy for revenue recognition on revolving
retail and private label finance receivables provides for the accrual
of revenue up to the date of charge-off at six months past due.
Revolving retail and private label finance receivables more than 90
days contractually delinquent totaled $10.9 million at December 31,
2004 and $12.1 million at December 31, 2003. We accrued $.7 million
of revenue on these finance receivables during 2004 and $.8 million
during 2003.
72
Notes to Consolidated Financial Statements, Continued
Note 6. Allowance for Finance Receivable Losses
Changes in the allowance for finance receivable losses were as
follows:
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Balance at beginning of year $ 466,031 $ 463,031 $ 448,251
Provision for finance receivable
losses 270,158 313,830 303,585
Allowance related to net
acquired receivables - - 8,780
Charge-offs (327,125) (353,273) (338,802)
Recoveries 46,967 42,443 41,217
Balance at end of year $ 456,031 $ 466,031 $ 463,031
We estimated our allowance for finance receivable losses using SFAS 5,
"Accounting for Contingencies." We based our allowance for finance
receivable losses primarily on historical loss experience using
migration analysis applied to sub-portfolios of large numbers of
relatively small homogenous accounts. We adjusted the amounts
determined by migration analysis for management's best estimate about
the effects of current economic conditions, including the levels of
unemployment and personal bankruptcies, on the amounts determined from
historical loss experience.
We used the Company's internal data of net charge-offs and delinquency
by sub-portfolio as the basis to determine the historical loss
experience component of our allowance for finance receivable losses.
We used monthly bankruptcy statistics, monthly unemployment
statistics, and various other monthly or periodic economic statistics
published by departments of the federal government and other economic
statistics providers to determine the economic component of our
allowance for finance receivable losses. There were no significant
changes in the kinds of observable data we used to measure these
components during 2004 or 2003.
See Note 3. for information on the determination of the allowance for
finance receivable losses.
73
Notes to Consolidated Financial Statements, Continued
Note 7. Investment Securities
Fair value and amortized cost of investment securities by type at
December 31 were as follows:
Fair Value Amortized Cost
2004 2003 2004 2003
(dollars in thousands)
Fixed maturity investment
securities:
Bonds:
Corporate securities $ 789,802 $ 583,264 $ 753,949 $ 548,838
Mortgage-backed securities 131,115 158,184 126,773 151,240
State and political
subdivisions 368,264 330,857 346,476 314,111
Other 56,535 208,963 54,555 203,011
Total 1,345,716 1,281,268 1,281,753 1,217,200
Preferred stocks 9,788 9,296 9,177 9,275
Other long-term investments 22,709 16,727 20,398 18,388
Common stocks 149 181 90 90
Total $1,378,362 $1,307,472 $1,311,418 $1,244,953
Unrealized gains and losses on investment securities by type at
December 31 were as follows:
Unrealized Gains Unrealized Losses
2004 2003 2004 2003
(dollars in thousands)
Fixed-maturity investment
securities:
Bonds:
Corporate securities $41,542 $37,591 $ 5,689 $ 3,165
Mortgage-backed securities 4,692 7,129 350 185
State and political
subdivisions 21,918 16,932 130 186
Other 2,032 10,029 52 4,077
Total 70,184 71,681 6,221 7,613
Preferred stocks 639 51 28 30
Other long-term investments 2,547 - 236 1,661
Common stocks 59 91 - -
Total $73,429 $71,823 $ 6,485 $ 9,304
74
Notes to Consolidated Financial Statements, Continued
Our unrealized losses on investment securities and the related
investment securities' fair value by type and length of time in a
continuous unrealized loss position at December 31, 2004 were as
follows:
Less Than 12 Months
12 Months or More Total
Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
(dollars in thousands)
Fixed-maturity
investment securities:
Bonds:
Corporate securities $ 79,228 $1,453 $26,526 $4,236 $105,754 $5,689
Mortgage-backed
securities 44,430 350 - - 44,430 350
State and political
subdivisions 12,903 74 3,807 56 16,710 130
Other 7,052 52 - - 7,052 52
Total 143,613 1,929 30,333 4,292 173,946 6,221
Preferred stocks - - 900 28 900 28
Other long-term
investments 1,367 236 - - 1,367 236
Total $144,980 $2,165 $31,233 $4,320 $176,213 $6,485
The fair values of investment securities sold or redeemed and the
resulting realized gains, realized losses, and net realized losses
were as follows:
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Fair value $515,830 $436,889 $756,128
Realized gains $ 5,443 $ 10,583 $ 9,147
Realized losses 5,462 18,944 13,547
Net realized losses $ (19) $ (8,361) $ (4,400)
Contractual maturities of fixed-maturity investment securities at
December 31, 2004 were as follows:
Fair Amortized
Value Cost
(dollars in thousands)
Fixed maturities, excluding
mortgage-backed securities:
Due in 1 year or less $ 49,811 $ 48,902
Due after 1 year through 5 years 147,331 135,408
Due after 5 years through 10 years 427,164 405,736
Due after 10 years 590,295 564,934
Mortgage-backed securities 131,115 126,773
Total $1,345,716 $1,281,753
75
Notes to Consolidated Financial Statements, Continued
Actual maturities may differ from contractual maturities since
borrowers may have the right to prepay obligations. The Company may
sell investment securities before maturity to achieve corporate
requirements and investment strategies.
Other long-term investments consist of six limited partnerships.
These limited partnerships provide diversification and have high
yielding, long-term financial objectives. These limited partnerships
invest primarily in private equity investments, high yielding
securities, and mezzanine investments within a variety of industries.
At December 31, 2004, our total commitments for these six limited
partnerships were $34.3 million, consisting of $22.1 million funded
and $12.2 million unfunded.
Bonds on deposit with insurance regulatory authorities had carrying
values of $11.0 million at December 31, 2004 and $11.1 million at
December 31, 2003.
Note 8. Other Assets
Components of other assets were as follows:
December 31,
2004 2003
(dollars in thousands)
Goodwill $224,721 $224,721
Swap agreements fair values 217,014 -
Income tax assets (a) 208,401 126,939
Fixed assets 84,609 90,634
Prepaid expenses and deferred
charges 61,804 84,114
Other insurance investments 60,541 73,809
Real estate owned 39,130 51,255
Other 88,753 59,828
Total $984,973 $711,300
(a) The components of net deferred tax assets are detailed in Note
18.
Changes in goodwill by business segment were as follows:
Centralized
Branch Real Estate Insurance Total
(dollars in thousands)
Balance at December 31, 2002 $149,781 $ - $ 12,104 $161,885
Acquisitions - 62,836 - 62,836
Balance at December 31, 2003 $149,781 62,836 $ 12,104 $224,721
Balance at December 31, 2004 $149,781 $ 62,836 $ 12,104 $224,721
76
Notes to Consolidated Financial Statements, Continued
During first quarter 2003, 2004, and 2005, we determined that the
required impairment testing for the Company's goodwill and other
intangible assets did not require a write-down of any such assets.
Note 9. Long-term Debt
Carrying value and fair value of long-term debt at December 31 were as
follows:
Carrying Value Fair Value
2004 2003 2004 2003
(dollars in thousands)
Long-term debt $14,679,501 $10,862,218 $14,793,704 $11,152,447
Weighted average interest rates on long-term debt were as follows:
Years Ended December 31, December 31,
2004 2003 2002 2004 2003
Long-term debt 4.28% 4.61% 5.89% 4.47% 4.35%
Contractual maturities of long-term debt at December 31, 2004 were as
follows:
Carrying Value
(dollars in thousands)
2005 $ 1,548,786
2006 2,989,896
2007 2,371,264
2008 1,260,317
2009 1,637,513
2010-2014 4,871,725
Total $14,679,501
In second quarter 2003, a consolidated special purpose subsidiary of
AGFI recorded $256.4 million of debt issued by a trust that purchased
$259.0 million of real estate loans as part of our securitization. We
recorded the transaction as an "on balance sheet" secured financing.
The remaining balance of this secured debt at December 31, 2004 was
$98.4 million.
At December 31, 2004, we had $5.9 billion of long-term debt securities
registered under the Securities Act of 1933 that had not yet been
issued.
An AGFI debt agreement contains restrictions on consolidated retained
earnings for certain purposes (see Note 17.).
77
Notes to Consolidated Financial Statements, Continued
Note 10. Short-term Debt
AGFI and AGFC issue commercial paper with terms ranging from 1 to 270
days. The weighted average maturity of our commercial paper at
December 31, 2004 was 32 days.
Included in short-term debt are extendible commercial notes that AGFC
sells with initial maturities of up to 90 days which AGFC may extend
to 390 days. At December 31, 2004, extendible commercial notes
totaled $552.9 million.
Information concerning short-term debt was as follows:
At or for the
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Average borrowings $3,913,604 $3,665,145 $4,126,866
Weighted average interest
rate, at year end:
Money market yield 2.30% 1.06% 1.45%
Semi-annual bond
equivalent yield 2.31% 1.07% 1.45%
Note 11. Liquidity Facilities
We maintain credit facilities to support the issuance of commercial
paper and to provide an additional source of funds for operating
requirements. At December 31, 2004, AGFC had committed credit
facilities totaling $3.3 billion consisting of $1.8 billion of 364-day
facilities and a $1.5 billion multi-year facility, including
facilities under which AGFI is an eligible borrower for up to $460
million. The annual commitment fees for the facilities are based upon
AGFC's long-term credit ratings and averaged 0.07% at December 31,
2004.
At December 31, 2004, AGFI and certain of its subsidiaries also had
uncommitted credit facilities totaling $170.0 million which could be
increased depending upon lender ability to participate its loans under
the facilities.
Outstanding borrowings under all facilities totaled $60.0 million at
December 31, 2004 and December 31, 2003. AGFC does not guarantee any
borrowings of AGFI.
78
Notes to Consolidated Financial Statements, Continued
Note 12. Derivative Financial Instruments
Our principal borrowing subsidiary is AGFC. AGFC uses derivative
financial instruments in managing the cost of its debt and is neither
a dealer nor a trader in derivative financial instruments. AGFC's
derivative financial instruments consist of interest rate, foreign
currency, and equity-indexed swap agreements.
We design our interest rate and foreign currency swap agreements to
qualify as cash flow hedges or fair value hedges. While our equity-
indexed swap agreements mitigate economic exposure of related equity-
indexed debt, these swap agreements do not qualify as cash flow or
fair value hedges under GAAP. At December 31, 2004, equity-indexed
debt was immaterial.
AGFC uses interest rate, foreign currency, and equity-indexed swap
agreements in conjunction with specific debt issuances in order to
achieve net U.S. dollar, fixed or floating interest exposure at costs
not materially different from costs we would have incurred by issuing
debt for the same net exposure without using derivatives.
Accordingly, AGFC's swap agreements did not have a material effect on
the Company's net income in any of the three years ended December 31,
2004.
Notional amounts of our swap agreements and weighted average receive
and pay rates were as follows:
At or for the
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Notional amount $3,656,186 $2,495,000 $2,940,000
Weighted average receive rate 3.72% 2.19% 2.28%
Weighted average pay rate 4.45% 4.70% 5.24%
Notional amount maturities of our swap agreements and the respective
weighted average interest rates at December 31, 2004 were as follows:
Notional Weighted Average
Amount Interest Rate
(dollars in
thousands)
2005 $ 525,000 5.25%
2006 350,000 3.32
2007 750,000 3.23
2008 801,000 4.96
2010 622,300 4.29
2011 607,886 5.40
Total $3,656,186 4.45%
79
Notes to Consolidated Financial Statements, Continued
Changes in the notional amounts of our swap agreements were as
follows:
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Balance at beginning of year $2,495,000 $2,940,000 $2,500,000
New contracts 2,081,186 - 1,050,000
Expired contracts (920,000) (445,000) (610,000)
Balance at end of year $3,656,186 $2,495,000 $2,940,000
New contracts in 2004 include in notional amounts interest rate swap
agreements of $256.9 million and foreign currency swap agreements
totaling 1.0 billion Euro ($1.2 billion) and 350 million pounds
Sterling ($622 million).
AGFC is exposed to credit risk if counterparties to derivative
financial instruments do not perform. AGFC limits this exposure by
entering into agreements with counterparties having high credit
ratings and by basing the amounts and terms of these agreements on
their credit ratings. AGFC regularly monitors counterparty credit
ratings throughout the term of the agreements. At December 31, 2004,
AGFC had notional amounts of $3.1 billion in swap agreements with a
non-subsidiary affiliate that is highly rated due to credit support
from its parent.
AGFC's credit exposure on derivative financial instruments is limited
to the fair value of the agreements that are favorable to the Company.
At December 31, 2004, the swap agreements were recorded at fair values
of $217.0 million in other assets and $25.7 million in other
liabilities. AGFC does not expect any counterparty to fail to meet
its obligation; however, non-performance would not have a material
impact on the Company's consolidated results of operations or
financial position.
AGFC's exposure to market risk is mitigated by the offsetting effects
of changes in the value of the agreements and of the related debt
being hedged. At December 31, 2004, we expect to reclassify $15.5
million of net realized losses on swap agreements from accumulated
other comprehensive income (loss) to income during the next twelve
months.
80
Notes to Consolidated Financial Statements, Continued
Note 13. Insurance
Components of insurance claims and policyholder liabilities were as
follows:
December 31,
2004 2003
(dollars in thousands)
Finance receivable related:
Unearned premium reserves $154,461 $165,627
Benefit reserves 23,504 18,788
Claim reserves 30,052 30,264
Subtotal 208,017 214,679
Non-finance receivable related:
Benefit reserves 192,315 200,992
Claim reserves 22,625 22,691
Subtotal 214,940 223,683
Total $422,957 $438,362
Our insurance subsidiaries enter into reinsurance agreements both
between themselves and with other insurers, including affiliated
insurance companies. Insurance claims and policyholder liabilities
included the following amounts assumed from other insurers:
December 31,
2004 2003
(dollars in thousands)
Affiliated insurance companies $ 53,688 $ 55,184
Non-affiliated insurance companies 32,289 38,352
Total $ 85,977 $ 93,536
Our insurance subsidiaries' business reinsured to others was not
significant during any of the last three years.
Our insurance subsidiaries file financial statements prepared using
statutory accounting practices prescribed or permitted by each
insurance company's state of domicile. These are comprehensive bases
of accounting other than GAAP.
81
Notes to Consolidated Financial Statements, Continued
Reconciliations of statutory net income to GAAP net income were as
follows:
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Statutory net income $90,110 $88,607 $78,149
Change in deferred policy
acquisition costs (5,179) (8,550) (8,678)
Reserve changes (3,765) (6,758) 2,919
Amortization of interest
maintenance reserve (1,130) (1,262) (1,456)
Deferred income tax benefit 58 6,537 8,299
Other, net 1,000 (1,612) (5,623)
GAAP net income $81,094 $76,962 $73,610
Reconciliations of statutory equity to GAAP equity were as follows:
December 31,
2004 2003
(dollars in thousands)
Statutory equity $ 962,287 $ 861,589
Reserve changes 64,622 69,550
Net unrealized gains 64,634 64,181
Deferred policy acquisition costs 51,616 56,924
Decrease in carrying value
of affiliates (34,501) (28,603)
Deferred income taxes (29,675) (31,015)
Goodwill 12,104 12,104
Asset valuation reserve 8,228 6,178
Interest maintenance reserve (670) 453
Other, net (2,025) 1,286
GAAP equity $1,096,620 $1,012,647
82
Notes to Consolidated Financial Statements, Continued
Note 14. Other Liabilities
Components of other liabilities were as follows:
December 31,
2004 2003
(dollars in thousands)
Accrued interest $ 158,872 $114,590
Uncashed checks, reclassified from
cash 119,879 101,122
Salary and benefit liabilities 37,828 26,206
Swap agreements fair values 25,689 75,679
Other 72,173 59,142
Total $ 414,441 $376,739
Note 15. Capital Stock
AGFI has two classes of authorized capital stock: special shares and
common shares. AGFI may issue special shares in series. The board of
directors determines the dividend, liquidation, redemption,
conversion, voting and other rights prior to issuance. Par value,
shares authorized, and shares issued and outstanding at December 31,
2004 and 2003 were as follows:
Shares
Issued and Outstanding
Par Shares December 31,
Value Authorized 2004 2003
Special Shares - 25,000,000 - -
Common Shares $0.50 25,000,000 2,000,000 2,000,000
Note 16. Accumulated Other Comprehensive Income (Loss)
Components of accumulated other comprehensive income (loss) were as
follows:
December 31,
2004 2003
(dollars in thousands)
Net unrealized gains on investment
securities $43,515 $ 40,639
Net unrealized losses on swap
agreements (6,102) (55,586)
Accumulated other comprehensive
income (loss) $37,413 $(14,947)
83
Notes to Consolidated Financial Statements, Continued
Note 17. Retained Earnings
AGFI's ability to pay dividends is substantially dependent on the
receipt of dividends or other funds from its subsidiaries. State law
restricts the amounts our insurance subsidiaries may pay as dividends
without prior notice to, or in some cases prior approval from, the
Indiana Department of Insurance. At December 31, 2004, the maximum
amount of dividends which our insurance subsidiaries may pay in 2005
without prior approval was $96.2 million. At December 31, 2004, our
insurance subsidiaries had statutory capital and surplus of $962.3
million. Merit Life Insurance Co. (Merit), a wholly owned subsidiary
of AGFC, had $52.7 million of accumulated earnings at December 31,
2004 for which no federal income tax provisions have been required.
Merit would be liable for federal income taxes on such earnings if
they were distributed as dividends or exceeded limits prescribed by
tax laws. If such earnings were to become taxable at December 31,
2004, the federal income tax would approximate $18.4 million. During
2004, the federal government enacted a tax law change that provides a
temporary opportunity to reduce or eliminate this potential federal
income tax liability. For U.S. life insurance companies that have
these accumulated earnings for which no federal income tax has been
provided, dividends paid during 2005 and 2006 will first be applied to
reduce these accumulated earnings balances. Merit has the capability
and expects to pay a dividend of at least $52.7 million during 2005
that would eliminate this accumulated earnings balance and, therefore,
this potential $18.4 million federal income tax liability.
Certain AGFI financing agreements effectively limit the amount of
dividends AGFI may pay. Under the most restrictive provision
contained in these agreements, $1.0 billion of the retained earnings
of AGFI was free from restriction at December 31, 2004.
Note 18. Income Taxes
The life insurance subsidiaries of AGFC file separate federal income
tax returns. AGFI and all other AGFI subsidiaries file a consolidated
federal income tax return with AIG. We provide federal income taxes
as if AGFI and the other AGFI subsidiaries file separate tax returns
and pay AIG accordingly under a tax sharing agreement.
Components of provision for income taxes were as follows:
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Federal:
Current $284,729 $197,903 $197,226
Deferred (73,047) (2,324) (60,601)
Total federal 211,682 195,579 136,625
State 3,935 13,726 8,717
Total $215,617 $209,305 $145,342
84
Notes to Consolidated Financial Statements, Continued
Reconciliations of the statutory federal income tax rate to the
effective tax rate were as follows:
Years Ended December 31,
2004 2003 2002
Statutory federal income tax rate 35.00% 35.00% 35.00%
Contingency reduction (5.57) - (6.10)
State income taxes 2.05 2.39 1.11
Nontaxable investment income (.71) (2.53) (.64)
Amortization of other intangibles .36 1.33 -
Other, net (.05) .19 .16
Effective income tax rate 31.08% 36.38% 29.53%
We reduced the provision for income taxes by $38.7 million in 2004 and
$30.0 million in 2002 resulting from favorable settlements of income
tax audit issues. These reductions decreased the effective income tax
rates for 2004 and 2002.
The Internal Revenue Service (IRS) has completed examinations of AIG's
tax returns through 1990. The IRS has also completed examinations of
our previous parent company's tax returns through 1999.
Components of deferred tax assets and liabilities were as follows:
December 31,
2004 2003
(dollars in thousands)
Deferred tax assets:
Allowance for finance receivable
losses $154,821 $149,472
Deferred intercompany revenue 67,871 -
Goodwill 4,801 5,356
Deferred insurance commissions 4,279 4,275
Insurance reserves 3,407 3,100
Swap agreements 3,285 8,049
Other 26,953 18,108
Total 265,417 188,360
Deferred tax liabilities:
Loan origination costs 21,127 16,684
Fixed assets 5,961 8,342
Other 29,928 36,680
Total 57,016 61,706
Net deferred tax assets $208,401 $126,654
During second quarter 2004, we reclassified $36.5 million of our
deferred tax liability to accrued taxes.
No valuation allowance was considered necessary at December 31, 2004
and 2003.
85
Notes to Consolidated Financial Statements, Continued
Note 19. Lease Commitments, Rent Expense, and Contingent Liabilities
Annual rental commitments for leased office space, automobiles and
data processing equipment accounted for as operating leases, excluding
leases on a month-to-month basis, were as follows:
Lease Commitments
(dollars in thousands)
2005 $ 51,015
2006 40,244
2007 29,941
2008 20,585
2009 8,666
subsequent to 2009 9,054
Total $159,505
Taxes, insurance and maintenance expenses are obligations of the
Company under certain leases. In the normal course of business,
leases that expire will be renewed or replaced by leases on other
properties. Future minimum annual rental commitments will probably
not be less than the amount of rental expense incurred in 2004.
Rental expense totaled $54.1 million in 2004, $53.7 million in 2003,
and $51.5 million in 2002.
AGFI and certain of its subsidiaries are parties to various lawsuits
and proceedings, including certain purported class action claims,
arising in the ordinary course of business. In addition, many of
these proceedings are pending in jurisdictions that permit damage
awards disproportionate to the actual economic damages alleged to have
been incurred. Based upon information presently available, we believe
that the total amounts, if any, that will ultimately be paid arising
from these lawsuits and proceedings will not have a material adverse
effect on our consolidated results of operations or financial
position. However, the continued occurrences of large damage awards
in general in the United States, including large punitive damage
awards that bear little or no relation to actual economic damages
incurred by plaintiffs in some jurisdictions, create the potential for
an unpredictable judgment in any given suit.
Note 20. Consolidated Statements of Cash Flows
Supplemental disclosure of certain cash flow information was as
follows:
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Interest paid $575,106 $547,647 $547,676
Income taxes paid 320,356 213,848 238,632
86
Notes to Consolidated Financial Statements, Continued
In third quarter 2004, AGFI received a non-cash capital contribution
from its parent of $1.0 million reflecting certain computer equipment
that we previously leased from a non-subsidiary affiliate. In fourth
quarter 2002, AGFI received a non-cash capital contribution from its
parent of $7.3 million reflecting AIG's assumption of certain benefit
obligations effective January 1, 2002.
Note 21. Benefit Plans
The Company's employees participate in various benefit plans sponsored
by AIG, including a noncontributory qualified defined benefit
retirement plan, various stock option, incentive and purchase plans,
and a 401(k) plan.
AIG's U.S. plans do not separately identify projected benefit
obligations and plan assets attributable to employees of participating
affiliates. AIG's projected benefit obligations exceeded the plan
assets at December 31, 2004 by $502.7 million.
Note 22. Segment Information
We have three business segments: branch, centralized real estate, and
insurance. We define our segments by type of financial service
product offered, nature of the production process, and method used to
distribute our products and to provide our services, as well as our
management reporting structure.
In prior years, we reported our centralized real estate business and
our branch business in our consumer finance business segment. During
2004, we expanded our segment reporting to reflect our centralized
real estate business as a separate segment. We also restated prior
periods so that these prior periods are shown on a comparable basis to
our new presentation.
In our branch business segment, we:
* originate real estate loans secured by first or second
mortgages on residential real estate, which may be closed-end
accounts or open-end home equity lines of credit;
* originate secured and unsecured non-real estate loans;
* purchase retail sales contracts and provide revolving retail
services arising from the retail sale of consumer goods and
services by retail merchants; and
* purchase private label receivables originated by AIG Bank
under a participation agreement.
To supplement our lending and retail sales financing activities, we
purchase portfolios of real estate loans, non-real estate loans, and
retail sales finance receivables originated by other lenders. We also
offer credit and non-credit insurance and ancillary products to all
eligible branch customers.
87
Notes to Consolidated Financial Statements, Continued
In our centralized real estate business segment, we:
* provide, for fees, marketing, certain origination processing
services, and loan servicing and related services for AIG
Bank;
* originate real estate loans for transfer to the centralized
real estate servicing center;
* originate real estate loans for sale to investors with
servicing released to the purchaser; and
* service a portfolio of real estate loans generated through:
* portfolio acquisitions from third party lenders;
* our mortgage origination subsidiaries;
* refinancing existing mortgages; or
* advances on home equity lines of credit.
In our insurance business segment, we principally write and reinsure
credit life, credit accident and health, credit-related property and
casualty, credit involuntary unemployment, and non-credit insurance
covering our customers and the property pledged as collateral through
products that principally the branch business segment offers its
customers. We also monitor our finance receivables to determine that
the collateral is adequately protected.
We evaluate the performance of the segments based on pretax operating
earnings. The accounting policies of the segments are the same as
those disclosed in Note 3., except for the following:
* segment finance charge revenues are not reduced for the
amortization of the deferred origination costs;
* segment operating expenses are not reduced for the deferral of
origination costs;
* segment finance receivables exclude deferred origination
costs; and
* segment investment revenues exclude realized gains and losses
and certain investment expenses.
We intend intersegment sales and transfers to approximate the amounts
segments would earn if dealing with independent third parties.
The following tables display information about the Company's segments
as well as reconciliations of the segment totals to the consolidated
financial statement amounts. The adjustments in the reconciliations
include the following:
* amortization of deferred origination costs, realized gains
(losses) on investments, and certain investment expenses for
revenues;
* deferral of origination costs for operating expenses;
* realized gains (losses) and certain other investment revenue
for pretax income; and
* goodwill, deferred origination costs, other assets, and
corporate assets that are not considered pertinent to
determining segment performance for assets. Corporate assets
include cash, prepaid expenses, deferred charges, and fixed
assets.
Adjustments for operating expenses and pretax income in 2003 and 2002
also included pension expense.
88
Notes to Consolidated Financial Statements, Continued
At or for the year ended December 31, 2004:
Centralized Total
Branch Real Estate Insurance Segments
(dollars in thousands)
Revenues:
External:
Finance charges $ 1,713,536 $ 358,536 $ - $ 2,072,072
Insurance 763 - 176,077 176,840
Other (9,142) 206,845 93,562 291,265
Intercompany 80,564 1,019 (70,479) 11,104
Interest expense 382,545 196,737 - 579,282
Operating expenses 650,942 204,676 29,802 885,420
Provision for finance
receivable losses 257,461 13,971 - 271,432
Pretax income 494,773 151,016 91,323 737,112
Assets 11,305,399 8,410,635 1,472,399 21,188,433
At or for the year ended December 31, 2003:
Centralized Total
Branch Real Estate Insurance Segments
(dollars in thousands)
Revenues:
External:
Finance charges $ 1,709,762 $ 163,167 $ - $ 1,872,929
Insurance 881 - 180,761 181,642
Other (10,920) 133,773 88,633 211,486
Intercompany 79,719 12,513 (71,433) 20,799
Interest expense 400,716 99,488 - 500,204
Operating expenses 623,479 112,376 31,811 767,666
Provision for finance
receivable losses 306,430 8,535 - 314,965
Pretax income 448,817 89,054 96,914 634,785
Assets 11,016,603 3,948,498 1,389,527 16,354,628
At or for the year ended December 31, 2002:
Centralized Total
Branch Real Estate Insurance Segments
(dollars in thousands)
Revenues:
External:
Finance charges $ 1,738,868 $ 64,604 $ - $ 1,803,472
Insurance 994 - 190,236 191,230
Other (16,678) (379) 87,746 70,689
Intercompany 78,524 354 (75,869) 3,009
Interest expense 477,578 36,107 - 513,685
Operating expenses 572,658 9,841 33,681 616,180
Provision for finance
receivable losses 292,554 12,290 - 304,844
Pretax income 458,918 6,341 84,436 549,695
Assets 11,614,069 1,858,919 1,320,844 14,793,832
89
Notes to Consolidated Financial Statements, Continued
Reconciliations of segment totals to consolidated financial statement
amounts were as follows:
At or for the
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Revenues
Segments $ 2,551,281 $ 2,286,856 $ 2,068,400
Corporate (20,292) (18,862) (7,197)
Adjustments (71,827) (77,888) (61,365)
Consolidated revenue $ 2,459,162 $ 2,190,106 $ 1,999,838
Interest Expense
Segments $ 579,282 $ 500,204 $ 513,685
Corporate 57,022 46,512 45,606
Consolidated interest
expense $ 636,304 $ 546,716 $ 559,291
Operating Expenses
Segments $ 885,420 $ 767,666 $ 616,180
Corporate (29,570) (14,772) 2,227
Adjustments (73,502) (66,591) (56,888)
Consolidated operating
expenses $ 782,348 $ 686,303 $ 561,519
Provision for Finance
Receivable Losses
Segments $ 271,432 $ 314,965 $ 304,844
Corporate (1,274) (1,135) (1,259)
Consolidated provision for
finance receivable losses $ 270,158 $ 313,830 $ 303,585
Pretax Income
Segments $ 737,112 $ 634,785 $ 549,695
Corporate (45,118) (48,081) (53,050)
Adjustments 1,677 (11,296) (4,477)
Consolidated pretax income $ 693,671 $ 575,408 $ 492,168
Assets
Segments $21,188,433 $16,354,628 $14,793,832
Corporate 811,761 405,238 516,853
Adjustments 235,578 246,298 173,601
Consolidated assets $22,235,772 $17,006,164 $15,484,286
90
Notes to Consolidated Financial Statements, Continued
Note 23. Interim Financial Information (Unaudited)
Our quarterly statements of income for 2004 were as follows:
2004 Quarter Ended
Dec. 31, Sep. 30, June 30, Mar. 31,
(dollars in thousands)
Revenues
Finance charges $522,811 $507,232 $483,501 $463,658
Insurance 43,471 43,989 43,679 45,701
Other:
Service fee income from a
non-subsidiary affiliate 61,410 62,113 40,716 35,617
Miscellaneous 25,151 23,069 28,962 28,082
Total revenues 652,843 636,403 596,858 573,058
Expenses
Interest expense 184,225 167,518 146,900 137,661
Operating expenses:
Salaries and benefits 131,551 120,509 126,355 119,880
Other operating expenses 65,625 75,909 71,690 70,829
Provision for finance
receivable losses 76,512 69,126 65,267 59,253
Insurance losses and loss
adjustment expenses 16,287 21,267 18,000 21,127
Total expenses 474,200 454,329 428,212 408,750
Income before provision for
income taxes 178,643 182,074 168,646 164,308
Provision for Income Taxes 27,400 67,151 61,396 59,670
Net Income $151,243 $114,923 $107,250 $104,638
91
Notes to Consolidated Financial Statements, Continued
Our quarterly statements of income for 2003 were as follows:
2003 Quarter Ended
Dec. 31, Sep. 30, June 30, Mar. 31,
(dollars in thousands)
Revenues
Finance charges $446,266 $445,241 $441,424 $440,346
Insurance 46,955 46,307 42,672 45,708
Other:
Service fee income from a
non-subsidiary affiliate 36,082 12,406 491 568
Miscellaneous 33,170 49,336 62,551 40,583
Total revenues 562,473 553,290 547,138 527,205
Expenses
Interest expense 134,612 132,263 136,965 142,876
Operating expenses:
Salaries and benefits 109,465 103,187 101,900 98,806
Other operating expenses 72,819 66,332 69,530 64,264
Provision for finance
receivable losses 84,047 82,362 76,305 71,116
Insurance losses and loss
adjustment expenses 14,862 17,438 15,160 20,389
Total expenses 415,805 401,582 399,860 397,451
Income before provision for
income taxes 146,668 151,708 147,278 129,754
Provision for Income Taxes 53,236 56,969 53,389 45,711
Net Income $ 93,432 $ 94,739 $ 93,889 $ 84,043
92
Notes to Consolidated Financial Statements, Continued
Note 24. Fair Value of Financial Instruments
We present the carrying values and estimated fair values of certain of
the Company's financial instruments below. Readers should exercise
care in drawing conclusions based on fair value, since the fair values
presented below can be misinterpreted and do not include the value
associated with all of the Company's assets and liabilities.
December 31, 2004 December 31, 2003
Carrying Fair Carrying Fair
Value Value Value Value
(dollars in thousands)
Assets
Net finance receivables,
less allowance for
finance receivable
losses $19,711,827 $20,194,750 $14,841,930 $15,345,079
Investment securities 1,378,362 1,378,362 1,307,472 1,307,472
Cash and cash equivalents 160,610 160,610 145,462 145,462
Swap agreements 217,014 217,014 - -
Liabilities
Long-term debt 14,679,501 14,793,704 10,862,218 11,152,447
Short-term debt 4,299,085 4,299,085 3,467,096 3,467,096
Swap agreements 25,689 25,689 75,679 75,679
Off-Balance Sheet Financial
Instruments
Unused customer credit
limits - - - -
Limited partnership commitments - 12,238 - 14,520
VALUATION METHODOLOGIES AND ASSUMPTIONS
We used the following methods and assumptions to estimate the fair
value of our financial instruments.
Finance Receivables
We estimated fair values of net finance receivables, less allowance
for finance receivable losses using projected cash flows, computed by
category of finance receivable, discounted at the weighted-average
interest rates offered for similar finance receivables at December 31
of each year. We based cash flows on contractual payment terms
adjusted for delinquencies and finance receivable losses. The fair
value estimates do not reflect the value of the underlying customer
relationships or the related distribution systems.
93
Notes to Consolidated Financial Statements, Continued
Investment Securities
When available, we used quoted market prices as fair values of
investment securities. For investment securities not actively traded,
we estimated fair values using values obtained from independent
pricing services or, in the case of some private placements, by
discounting expected future cash flows using each year's December 31
market rate applicable to yield, credit quality, and average life of
the investments.
Cash and Cash Equivalents
The fair values of cash and cash equivalents approximated the carrying
values.
Swap Agreements
We estimated the fair values of interest rate, foreign currency, and
equity-indexed swap agreements using counterparty quotes and market
recognized valuation systems at each year's December 31 market rates.
Long-term Debt
We estimated the fair values of long-term debt using cash flows
discounted at each year's December 31 borrowing rates and adjusted for
the fair value hedge swap agreement.
Short-term Debt
The fair values of short-term debt approximated the carrying values.
Unused Customer Credit Limits
The unused credit limits available to the customers of AIG Bank, which
sells private label receivables to the Company under a participation
agreement, and to the Company's customers have no fair value. The
interest rates charged on these facilities can be changed at AIG
Bank's discretion for private label, or are adjustable and reprice
frequently for loan and retail revolving lines of credit. These
amounts, in part or in total, can be cancelled at the discretion of
AIG Bank and the Company.
Limited Partnership Commitments
The fair values of limited partnership commitments equal the
commitment amounts due to the partnership's ability to call these
commitments on demand.
94
Item 9A. Controls and Procedures.
(a) Evaluation of disclosure controls and procedures
The conclusions of our principal executive officer and principal
financial officer about the effectiveness of the Company's
disclosure controls and procedures based on their evaluation of
these controls and procedures as of December 31, 2004 are as
follows:
The Company's disclosure controls and procedures are designed to
ensure that information required to be disclosed by the Company
is recorded, processed, summarized and reported within required
timeframes. The Company's disclosure controls and procedures
include controls and procedures designed to ensure that
information required to be disclosed is accumulated and
communicated to the Company's management, including its principal
executive officer and principal financial officer, as appropriate
to allow timely decisions regarding required disclosure.
The Company's management, including its principal executive
officer and principal financial officer, evaluates the
effectiveness of our disclosure controls and procedures as of the
end of each quarter. Based on an evaluation of the disclosure
controls and procedures as of December 31, 2004, the Company's
principal executive officer and principal financial officer have
concluded that the disclosure controls and procedures have
functioned effectively and that the consolidated financial
statements fairly present our consolidated financial position and
the results of our operations for the periods presented.
(b) Changes in internal control over financial reporting
There was no change in the Company's internal control over
financial reporting during the three months ended December 31,
2004, that has materially affected, or is reasonably likely to
materially affect, the Company's internal control over financial
reporting.
95
PART III
Item 14. Principal Accountant Fees and Services.
One of AIG's Audit Committee's duties is to oversee our independent
accountants, PricewaterhouseCoopers LLP. AGFI does not have its own
Audit Committee. AIG's Audit Committee has adopted pre-approval
policies and procedures regarding audit and non-audit services
provided by PricewaterhouseCoopers LLP for AIG and its consolidated
subsidiaries, including AGFI.
Independent accountant fees and services were as follows:
Years Ended December 31,
2004 2003
(dollars in thousands)
Audit fees $1,027 $850
Audit-related fees 112 90
Tax fees - -
All other fees 2 2
Total $1,141 $942
Audit fees in 2004 and 2003 were primarily for the audit of the AGFI
and AGFC Annual Reports on Form 10-K, quarterly review procedures in
relation to the AGFI and AGFC Quarterly Reports on Form 10-Q, and
statutory audits of insurance subsidiaries of AGFC. AGFC is a
separate SEC registrant and its fees are part of the total AGFI fee,
representing approximately 99% of the total audit fees for AGFI.
Audit-related fees were primarily for the audit of a subsidiary of
AGFC in 2004 and 2003. All other fees in 2004 and 2003 were primarily
for accounting research licensing.
96
PART IV
Item 15. Exhibits and Financial Statement Schedules.
(a) (1) and (2) The following consolidated financial statements of
American General Finance, Inc. and subsidiaries are included in
Item 8:
Consolidated Balance Sheets, December 31, 2004 and 2003
Consolidated Statements of Income, years ended December 31,
2004, 2003, and 2002
Consolidated Statements of Shareholder's Equity, years ended
December 31, 2004, 2003, and 2002
Consolidated Statements of Cash Flows, years ended December
31, 2004, 2003, and 2002
Consolidated Statements of Comprehensive Income, years ended
December 31, 2004, 2003, and 2002
Notes to Consolidated Financial Statements
Schedule I--Condensed Financial Information of Registrant is
included in Item 15(d).
All other financial statement schedules have been omitted because
they are inapplicable.
(3) Exhibits:
Exhibits are listed in the Exhibit Index beginning on page
103 herein.
(b) Exhibits
The exhibits required to be included in this portion of Item 15.
are submitted as a separate section of this report.
97
Item 15(d).
Schedule I - Condensed Financial Information of Registrant
American General Finance, Inc.
Condensed Balance Sheets
December 31,
2004 2003
(dollars in thousands)
Assets
Cash and cash equivalents $ 345 $ 115
Investment in subsidiaries 2,736,460 2,051,337
Notes receivable from subsidiaries 298,448 264,854
Other assets 51,460 71,821
Total assets $3,086,713 $2,388,127
Liabilities and Shareholder's Equity
Long-term debt, 2.80% - 3.00%
due 2009 $ 100,000 $ -
Short-term debt 605,622 559,320
Other liabilities 4,849 5,010
Total liabilities 710,471 564,330
Shareholder's equity:
Common stock 1,000 1,000
Additional paid-in capital 996,305 920,276
Other equity 37,413 (14,947)
Retained earnings 1,341,524 917,468
Total shareholder's equity 2,376,242 1,823,797
Total liabilities and shareholder's equity $3,086,713 $2,388,127
See Notes to Condensed Financial Statements.
98
Schedule I, Continued
American General Finance, Inc.
Condensed Statements of Income
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Revenues
Dividends received from subsidiaries $ 15,827 $176,065 $154,692
Interest and other 19,053 24,310 20,389
Total revenues 34,880 200,375 175,081
Expenses
Interest expense 20,604 17,532 21,254
Operating expenses 1,564 3,127 2,713
Total expenses 22,168 20,659 23,967
Income before income taxes and equity
in undistributed net income of
subsidiaries 12,712 179,716 151,114
(Credit) Provision for Income Taxes (1,090) 1,278 (1,252)
Income before equity in undistributed
net income of subsidiaries 13,802 178,438 152,366
Equity in Undistributed Net Income of
Subsidiaries 464,252 187,665 194,460
Net Income $478,054 $366,103 $346,826
See Notes to Condensed Financial Statements.
99
Schedule I, Continued
American General Finance, Inc.
Condensed Statements of Cash Flows
Years Ended December 31,
2004 2003 2002
(dollars in thousands)
Cash Flows from Operating Activities
Net Income $ 478,054 $ 366,103 $ 346,826
Reconciling adjustments:
Equity in undistributed net income
of subsidiaries (464,252) (187,665) (194,460)
Change in other assets and other liabilities 3,236 (13,024) (38,695)
Other, net 5,868 10,194 7,657
Net cash provided by operating activities 22,906 175,608 121,328
Cash Flows from Investing Activities
Capital contributions to subsidiaries (156,200) - (66,737)
Change in notes receivable from subsidiaries (33,594) 32,616 28,092
Other, net (186) (743) (1,200)
Net cash (used for) provided by
investing activities (189,980) 31,873 (39,845)
Cash Flows from Financing Activities
Proceeds from issuance of long-term debt 100,000 - -
Repayment of long-term debt - - (1,284)
Change in short-term debt 46,302 (24,541) 34,028
Capital contributions from parent 75,000 - 33,000
Dividends paid (53,998) (183,114) (146,999)
Net cash provided by (used for)
financing activities 167,304 (207,655) (81,255)
Increase (decrease) in cash and cash equivalents 230 (174) 228
Cash and cash equivalents at beginning of year 115 289 61
Cash and cash equivalents at end of year $ 345 $ 115 $ 289
See Notes to Condensed Financial Statements.
100
Schedule I, Continued
American General Finance, Inc.
Notes to Condensed Financial Statements
December 31, 2004
Note 1. Accounting Policies
AGFI records its investments in subsidiaries at cost plus the equity
in undistributed (overdistributed) net income of subsidiaries since
the date of the acquisition. You should read the condensed financial
statements of the registrant in conjunction with AGFI's consolidated
financial statements.
Note 2. Long-term Debt
The long-term debt at December 31, 2004 matures in 2009.
Note 3. Short-term Debt
Components of short-term debt were as follows:
December 31,
2004 2003
(dollars in thousands)
Notes payable to subsidiaries $309,009 $276,753
Commercial paper 236,613 222,567
Notes payable to banks 60,000 60,000
Total $605,622 $559,320
101
Signatures
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized, on
March 7, 2005.
AMERICAN GENERAL FINANCE, INC.
By: /s/ Donald R. Breivogel, Jr.
Donald R. Breivogel, Jr.
(Senior Vice President, Chief
Financial Officer, and Director)
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf
of the registrant and in the capacities indicated on March 7, 2005.
Frederick W. Geissinger* Robert A. Cole*
Frederick W. Geissinger Robert A. Cole
(Chairman, President, Chief (Director)
Executive Officer, and
Director - Principal Executive
Officer) William N. Dooley*
William N. Dooley
(Director)
/s/ Donald R. Breivogel, Jr.
Donald R. Breivogel, Jr.
(Senior Vice President, Chief Jerry L. Gilpin*
Financial Officer, and Jerry L. Gilpin
Director - Principal Financial (Director)
Officer
Stephen H. Loewenkamp*
George W. Schmidt* Stephen H. Loewenkamp
George W. Schmidt (Director)
(Vice President, Controller,
and Assistant Secretary -
Principal Accounting Officer) George D. Roach*
George D. Roach
(Director)
Stephen L. Blake*
Stephen L. Blake
(Director) *By: /s/ Donald R. Breivogel, Jr.
Donald R. Breivogel, Jr.
(Attorney-in-fact)
102
SUPPLEMENTAL INFORMATION TO BE FURNISHED WITH REPORTS FILED PURSUANT
TO SECTION 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 BY REGISTRANTS
WHICH HAVE NOT REGISTERED SECURITIES PURSUANT TO SECTION 12 OF THE
SECURITIES EXCHANGE ACT OF 1934.
No annual report to security-holders or proxy material has been sent
to security-holders.
103
Exhibit Index
Exhibit
Number
(3) a. Restated Articles of Incorporation of American General
Finance, Inc. (formerly Credithrift Financial, Inc.) dated May
27, 1988 and amendments thereto dated September 7, 1988 and
March 20, 1989. Incorporated by reference to Exhibit (3)a.
filed as a part of the Company's Annual Report on Form 10-K
for the year ended December 31, 1988 (File No. 1-7422).
b. By-laws of American General Finance, Inc. Incorporated by
reference to Exhibit (3)b. filed as a part of the Company's
Annual Report on Form 10-K for the year ended December 31,
1992 (File No. 1-7422).
(4) a. The following instruments are filed pursuant to Item
601(b)(4)(ii) of Regulation S-K, which requires with certain
exceptions that all instruments be filed which define the
rights of holders of the Company's long-term debt and of our
consolidated subsidiaries. In the aggregate, the outstanding
issuances of debt at December 31, 2004 under the following
Indenture exceeds 10% of the Company's total assets on a
consolidated basis:
Indenture dated as of May 1, 1999 from American General
Finance Corporation to Citibank, N.A. Incorporated by
reference to Exhibit (4)a.(1) filed as a part of our
Quarterly Report on Form 10-Q for the quarter ended
September 30, 2000 (File No. 1-7422).
b. In accordance with Item 601(b)(4)(iii) of Regulation S-K,
certain other instruments defining the rights of holders of
the Company's long-term debt and of our consolidated
subsidiaries have not been filed as exhibits to this Annual
Report on Form 10-K because the total amount of securities
authorized and outstanding under each instrument does not
exceed 10% of the total assets of the Company on a
consolidated basis. We hereby agree to furnish a copy of each
instrument to the Securities and Exchange Commission upon
request.
(12) Computation of ratio of earnings to fixed charges
(23) Consent of PricewaterhouseCoopers LLP, Independent Registered
Accounting Firm
(24) Power of Attorney
(31.1) Rule 13a-14(a)/15d-14(a) Certifications
(31.2) Rule 13a-14(a)/15d-14(a) Certifications
(32) Section 1350 Certifications