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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
-----------------
FORM 10-K
(Mark One)
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
[X]
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2001.
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 333-02491*.
KEMPER INVESTORS LIFE INSURANCE COMPANY
(Exact name of registrant as specified in charter)
ILLINOIS 36-3050975
(State of Incorporation) (I.R.S. Employer
Identification Number)
1600 McCONNOR PARKWAY
SCHAUMBURG, ILLINOIS 60196-6801
(Address of Principal (Zip Code)
Executive Offices)
Registrant's telephone number, including area code: (847) 874-4000
1 KEMPER DRIVE
LONG GROVE, ILLINOIS
60049-0001
(Former Address of Principal Executive Offices)
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 _(check mark) No ___.
As of March 1, 2002, 250,000 shares of Common Stock (all held by an
affiliate, Kemper Corporation) were outstanding. There is no market value for
any such shares. See ITEM 5 of this Form 10-K.
* Pursuant to Rule 429 under the Securities Act of 1933, this Form 10-K also
relates to Commission file numbers 333-22389, 333-32632 and 333-54252.
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PART I
Item 1. Business
Corporate structure
Kemper Investors Life Insurance Company, founded in 1947, is incorporated
under the insurance laws of the State of Illinois and is licensed in the
District of Columbia and all states except New York. Zurich Kemper Life
Insurance Company of New York ("ZKLICONY"), a newly formed, wholly-owned
subsidiary, received its license from the state of New York early in 2001 and
began writing business in May of 2001. Kemper Investors Life Insurance Company
and its subsidiaries (collectively, "KILICO", "the Company", "we", "our" or
"us") is a wholly-owned subsidiary of Kemper Corporation ("Kemper"), a
non-operating holding company. Kemper is a wholly-owned subsidiary of Zurich
Group Holding ("ZGH" or "Zurich"), a Swiss holding company. ZGH is wholly-owned
by Zurich Financial Services ("ZFS"), a Swiss holding company.
Strategic initiatives
Our management, operations and strategic directions are integrated with
those of several other Kemper subsidiaries:
. Federal Kemper Life Assurance Company ("FKLA")
. Zurich Life Insurance Company of America ("ZLICA"), and
. Zurich Direct, Inc. ("ZD").
This integration streamlines management, controls costs, improves
profitability, increases operating efficiencies and productivity, and helps to
expand the companies' distribution capabilities. Headquartered in Schaumburg,
Illinois, FKLA markets term and interest-sensitive life insurance, as well as
certain annuity products, primarily through brokerage general agents and other
independent distributors. ZLICA markets term life insurance products primarily
through ZD. ZD is an affiliated direct marketing life insurance agency
currently marketing basic, low-cost term life insurance through various
marketing media. The Company, FKLA, ZLICA and Fidelity Life Association, A
Mutual Legal Reserve Company ("FLA"), collectively operate under the trade name
Zurich Life, formerly Zurich Kemper Life.
Over the last several years, we have increased the competitiveness of our
variable annuity portfolio by adding new products with additional benefit
options, adding multiple variable subaccount investment options and adding
investment managers to existing variable annuity products. In 1997, we
introduced a non-registered individual and group variable business-owned life
insurance contract ("BOLI") and a series of individual variable life insurance
contracts. In 1998, we introduced a new registered individual variable annuity
product with thirty-seven variable subaccount investment options and various
investment managers.
Throughout 2000 and 2001, we introduced a number of new annuity and life
insurance products, all designed to meet the demands of our customers in an
ever-changing marketplace.
In 2000, as part of our plan to sharpen our focus on the group retirement
market, we purchased PMG Securities Corporation, PMG Asset Management, Inc.,
PMG Marketing, Inc., and PMG Life Agency, Inc. (collectively ''PMG''). The
total cost was $8.2 million, resulting in the recording of intangible assets in
the amount of $7.6 million. PMG is a well-respected broker-dealer in the
eastern part of the country. We own 100 percent of the stock of PMG.
Also in 2000, we transferred $63.3 million in fixed maturity securities and
cash to fund the operations of ZKLICONY.
1
Narrative description of business
We offer both individual and group fixed-rate (general account) and variable
(separate account) annuity contracts, as well as individual and group term
life, universal life and individual and group variable (separate account) life
insurance products through various distribution channels. We offer
investment-oriented products, guaranteed returns or a combination of both, to
help policyholders meet multiple insurance and financial objectives. Financial
institutions, securities brokerage firms, insurance agents and financial
planners are important distribution channels for our products. Our sales mainly
consist of deposits received on certain long duration fixed and variable
annuities and variable life insurance contracts.
Our fixed and variable annuities generally have surrender charges that are a
specified percentage of policy values or premiums and decline as the policy
ages. General account annuity and interest-sensitive life policies are
guaranteed to accumulate at specified interest rates but allow for periodic
crediting rate changes.
Over the last several years, in part reflecting the current interest rate
environment, we have increased our emphasis on marketing our existing and new
separate account products. Unlike the fixed-rate annuity business where we
manage spread revenue, we receive administrative fee revenue on variable
products, which compensates us for providing death benefits potentially in
excess of cash surrender values. In addition, on variable life insurance
contracts, cost of insurance charges compensate us for providing death benefit
coverage substantially in excess of surrender values.
As a result of this strategy, our separate account assets and related sales
of our variable annuity products have increased over the last few years. Our
separate account assets and variable product sales were as follows (in
millions):
December 31,
----------------------------
2001 2000 1999
--------- --------- --------
Separate account assets..... $13,108.8 $11,179.6 $9,778.1
========= ========= ========
Year Ended December 31,
----------------------------
2001 2000 1999
--------- --------- --------
Variable annuity sales (1).. $ 2,547.5 $ 1,160.5 $ 758.6
Variable life sales......... 544.9 856.1 1,661.1
--------- --------- --------
Total variable product sales $ 3,092.4 $ 2,016.6 $2,419.7
========= ========= ========
- --------
(1) Includes the fixed account option of the variable contracts totaling $536.8
million, $339.6 million and $289.7 million in 2001, 2000 and 1999,
respectively. The fixed account option has been primarily used for dollar
cost averaging into the separate account investment options. This allows
contractholders the option to allocate amounts to the fixed account option
and authorize pro-rated amounts to be automatically transferred into the
separate account investment options over a specified period of time.
Theoretically, this reduces the effects of significant market fluctuations.
However, this result is not guaranteed.
In 2001, several new products were introduced. We partnered with Discover
Financial Services to create the Discover Bonus Annuity, an individual tax
deferred, fixed annuity product, that offers a one percent cash bonus on all
contributions. We distribute the Discover Bonus Annuity to Discover Card
customers. Zurich Classic II, an individual and group fixed annuity, offers
contractholders a number of guaranteed interest periods from which to choose.
Zurich Preferred Plus, an individual and group variable annuity and market
value adjusted deferred annuity, offers contractholders twenty-seven different
variable subaccount investment options with various investment managers and
offers a four percent bonus on all premiums paid. Also in 2001, our newly
formed subsidiary ZKLICONY introduced two new term life insurance products in
the state of New York.
In 2000, several new products were also introduced. Zurich Preferred, a
registered individual and group variable and market value adjusted deferred
annuity, offers contractholders twenty-seven different variable subaccount
investment options with various investment managers. Zurich Kemper
Lifeinvestor, a registered
2
flexible premium variable universal life product, permits policyholders to
allocate premiums among forty-one different subaccount investment options with
various investment managers. We also introduced a new individual and group
fixed annuity, Zurich Classic.
During mid-1998, we introduced DESTINATIONS/SM, a registered individual and
group variable, fixed and market value adjusted deferred annuity product.
DESTINATIONSSM currently offers forty-two variable subaccount investment
options with various investment managers, ten guarantee periods, a fixed
account option, dollar cost averaging and a guaranteed retirement income
benefit ("GRIB") option. The GRIB is an optional benefit to the DESTINATIONSSM
variable annuity, for an additional asset-based fee. It allows for a proxy
account value, called the GRIB Base, to be applied to the guaranteed annuity
factors (settlement option purchase rates) in the contract. The GRIB Base prior
to attained age 80 is the greatest of: /
. the contract value (account value)
. the greatest anniversary value before the exercise (annuitization) date, or
. purchase payments minus previous withdrawals, accumulated at 5 percent
interest per year to the annuitization date.
In the fourth quarter of 2001, we discontinued offering the GRIB option with
the DESTINATIONS/SM product due to the continued decline in the stock market,
particularly in the wake of the tragedy of September 11th. Future sales of the
DESTINATIONSSM product are expected to be substantially lower because of this
decision. /
During mid-1997, we introduced variable BOLI, a group variable life
insurance contract that is primarily marketed to banks and other large
corporate entities. Also in 1997, we issued a series of non-registered variable
individual universal life insurance contracts that are marketed primarily to
high net worth individuals. Significant fluctuations in our sales of the
variable life products are due mainly to the nature of the BOLI product--high
dollar volume per sale, low frequency of sales--and any potential changes to
BOLI's tax advantaged status as proposed in the release of the federal
government's fiscal budgets.
Investors Brokerage Services, Inc., (''IBS''), our wholly-owned subsidiary,
and our affiliated broker-dealer, BFP Securities, LLC, are the principal
underwriters of our registered variable annuity and variable life products. BFP
Securities, LLC, is also the primary wholesaling distributor of our BOLI and
high net worth products.
Our fixed annuity sales were as follows (in millions):
Year Ended December 31,
-----------------------
2001 2000 1999
------ ------ -----
Fixed annuity sales $142.0 $168.6 $96.3
====== ====== =====
KILICO's fixed annuity sales decreased $26.6 million in 2001, compared with
2000. This decrease is primarily the result of investors seeking a more
competitive return on their investments during a time of declining interest
rates.
NAIC ratios
The National Association of Insurance Commissioners (the ''NAIC'') annually
calculates certain statutory financial ratios for most insurance companies in
the United States. These calculations are known as the Insurance Regulatory
Information System (''IRIS'') ratios. Currently, thirteen IRIS ratios are
calculated. The primary purpose of the ratios is to provide an ''early
warning'' of potential negative developments. The NAIC reports a company's
ratios to state regulators who may then contact the company if three or more
ratios fall outside the NAIC's ''usual ranges''.
Based on statutory financial data as of December 31, 2001, Kemper Investors
Life Insurance Company had five ratios outside the usual ranges; the net change
in capital and surplus ratio, the gross change in capital and surplus ratio,
the net income to total income (including realized capital and losses) ratio,
the change in product mix ratio and the change in reserving ratio.
3
The results for the net change in capital and surplus ratio, the gross
change in capital and surplus ratio and the net income to total income ratio
was primarily caused by the $71.9 million statutory net loss reported that was
caused by the significant downturn in the stock market during 2001. The result
for the change in the product mix ratio was primarily caused by certain
reclassifications and presentation differences related to variable annuities
and deposit-type funds in the 2001 annual statement, compared to 2000. The
result for the change in the reserving ratio was primarily caused by the
recapture in 2000 of term business assumed from FKLA.
Based on statutory financial data as of December 31, 2001, ZKLICONY had two
ratios outside the usual ranges: adequacy of investment income ratio and the
change in reserving ratio. The result for the adequacy of investment income
ratio was due to ZKLICONY's small amount of reserves relative to its total
invested assets. The result for the change in reserving ratio reflects the fact
that ZKLICONY began writing business in 2001 and had no single premiums for the
year.
Other than certain states requesting routine quarterly financial reporting
and/or explanations of the underlying causes for certain ratios, no state
regulators have taken any action due to our IRIS ratios for 2001 or earlier
years.
Risk-based capital, asset adequacy and codification
Under Illinois' and New York's asset adequacy and risk-based capital rules,
state regulators may mandate remedial action for inadequately reserved or
inadequately capitalized companies. The asset adequacy rules are designed to
assure that assets supporting reserves are adequate to cover liabilities under
a variety of economic scenarios. The focus of risk-based capital rules is a
risk-based formula that applies prescribed factors to various risk elements in
an insurer's business and investments to develop a minimum capital requirement
designed to be proportional to the amount of risk assumed by the insurer. We
have capital levels substantially exceeding any that would mandate action under
the risk-based capital rules and are in compliance with applicable asset
adequacy rules.
As of January 1, 2001, the Company adopted the Codification of Statutory
Accounting Principles (''Codification'') guidance. The NAIC Accounting
Practices and Procedures Manual--version effective January 1, 2001--is the
National Association of Insurance Commissioners' primary guidance on statutory
accounting. The Codification provides guidance for areas where statutory
accounting has been silent and changes current statutory accounting in some
areas. The Illinois Insurance Department adopted the Codification guidance,
effective January 1, 2001. The Company's statutory surplus was positively
impacted by $16.7 million upon adoption as a result of the net effect of
recording a deferred tax asset, of non-admitting non-operating system software,
of non-admitting net affiliated receivables and other changes caused by the
Codification.
Codification has been adopted as a component of prescribed or permitted
practices by the New York Insurance Department. The state has adopted certain
prescribed accounting practices that are at variance from those found in
Codification. Specifically, deferred tax assets and deferred tax liabilities
are not recognized. The New York Commissioner of Insurance has the right to
permit other specific practices that deviate from prescribed practices.
4
Reserves and reinsurance
The following table provides a breakdown of our reserves for future policy
benefits by product type (in millions):
December 31, December 31,
2001 2000
------------ ------------
General account annuities.................. $2,767 $2,635
Interest-sensitive life insurance and other 627 643
Ceded future policy benefits............... 240 310
------ ------
Total............................... $3,634 $3,588
====== ======
Ceded future policy benefits shown above reflect coinsurance (indemnity
reinsurance) transactions where we insured liabilities of approximately $516
million in 1992 and $416 million in 1991 with FLA. FLA shares directors,
management, operations and employees with FKLA pursuant to an administrative
and management services agreement. FLA issues policies not issued by FKLA or
KILICO as well as other policies similar to certain FKLA policies. At December
31, 2001 and 2000, our reinsurance reserve credit from FLA relating to these
coinsurance transactions totaled approximately $230.1 million and $262.1
million, respectively. Utilizing FKLA's employees, we are the servicing company
for this coinsured business and we are reimbursed by FLA for the related
servicing expenses.
In 1996, we assumed, on a yearly renewable term basis, approximately $14.4
billion (face amount) of term life insurance from FKLA. Effective September 30,
2000, this reinsurance agreement with FKLA was terminated. Upon termination, we
returned $7.7 million of premiums to FKLA, representing consideration for the
recaptured reserves. Due to the difference in the generally accepted accounting
principles basis and the statutory accounting basis of the reserves related to
this recaptured business, we recorded a deemed dividend distribution to Kemper
of $16.3 million in 2000. (See the note captioned ''Reinsurance'' in the Notes
to Consolidated Financial Statements.)
In the fourth quarter of 2000, we assumed from FKLA $100.0 million in
premium deposits related to a Funding Agreement. Funding Agreements are
insurance contracts similar to structured settlements, immediate annuities and
guaranteed investment contracts (''GICs''). The contracts qualify as insurance
under state laws and are sold as non-surrenderable immediate annuities to
trusts established by a securities firm. The securities firm sold interests in
these trusts to institutional investors. This Funding Agreement has a variable
rate of interest, is an obligation of our general account and is recorded as
future policy benefits. (See the note captioned ''Reinsurance'' in the Notes to
Consolidated Financial Statements.)
We are party to a funds withheld reinsurance agreement with a ZFS affiliated
company, Zurich Insurance Company, Bermuda Branch (''ZICBB''). Under the terms
of this agreement, we cede, on a yearly renewable term basis, 100 percent of
the net amount at risk (death benefit payable to the insured less the insured's
separate account cash surrender value) related to BOLI. As consideration for
this reinsurance coverage, we cede separate account fees (cost of insurance
charges) to ZICBB and retain a portion of such funds under the terms of the
reinsurance agreement in a funds withheld account ("FWA") which is included as
a component of benefits and funds payable in the accompanying consolidated
balance sheets.
5
The following table contains amounts related to the BOLI funds withheld
reinsurance agreement with ZICBB (in millions):
Business Owned Life Insurance (BOLI)
(in millions)
Year Ended December 31,
----------------------------
2001 2000 1999
-------- -------- --------
Face amount in force........... $ 85,564 $ 85,358 $ 82,021
======== ======== ========
Net amount at risk ceded....... $(76,283) $(78,169) $(75,979)
======== ======== ========
Cost of insurance charges ceded $ 168.1 $ 173.8 $ 166.4
======== ======== ========
Funds withheld account......... $ 236.1 $ 228.8 $ 263.4
======== ======== ========
Our FWA supports reserve credits on reinsurance ceded on the BOLI product.
In 1998, to properly match revenue and expenses, we placed assets supporting
the FWA in a segmented portion of our General Account. This portfolio was
classified as ''trading'' under Statement of Financial Accounting Standards No.
115 (''SFAS 115'') at December 31, 1998 and through November 30, 1999. SFAS 115
mandates that assets held in a trading account be valued at fair value, with
changes in fair value flowing through the income statement as realized capital
gains and losses. We recorded realized capital losses of $7.3 million related
to the changes in fair value of this portfolio during 1999.
Due to a change in the reinsurance strategy related to the BOLI product,
effective December 1, 1999, we no longer marked-to-market a portion of the FWA
liability and therefore no longer designated the related portion of assets as
''trading''. As a result, changes in fair value to the FWA and the assets
supporting the FWA no longer flow through our operating results.
Effective December 31, 2001, we entered into a quota share reinsurance
agreement with ZICBB. Under the terms of this agreement, we cede 100 percent of
the net amount at risk of the guaranteed minimum death benefit and GRIB
portions of a small number of specific variable annuity contracts. As
consideration for this reinsurance coverage, we cede 100 percent of all charges
to policyholders and all revenue sharing income received from fund managers
related to such reinsured policies. The account values related to these
policies are held in our separate account during the accumulation period of the
contracts. The reserve credits under this treaty are secured by a trust
agreement that requires the fair market value of assets therein to at least
equal 102 percent of such reserve credits.
Competition
We are in a highly competitive business. We compete with a large number of
other stock and mutual life insurance companies, many of which are larger
financially, although none is truly dominant in the industry. KILICO, with its
emphasis on annuity products, also competes for savings dollars with securities
brokerage and investment advisory firms as well as other institutions that
manage assets, produce financial products or market other types of investment
products.
Our principal methods of competition continue to be innovative products,
often designed for selected distribution channels and economic conditions, as
well as appropriate product pricing, careful underwriting, expense control and
the quality of services provided to policyholders and agents.
6
To address our competition, we have adopted certain business strategies.
These include:
. customer segmentation and focus
. continued focus on existing and new variable and fixed annuities and
variable life insurance products
. distribution through diversified channels
. systematic review of investment risk and our capital position, and
. ongoing efforts to continue as a low-cost provider of insurance products
and high-quality services to agents and policyholders through the use of
technology.
Rankings and ratings
According to Best's Insurance Reports, 2001, as of December 31, 2000, we
ranked 54th of 1,436 life insurers by admitted assets; 68th of 905 by insurance
in force; and 72nd of 1,336 by net premiums written.
Our December 31, 2001 ratings and their status were as follows:
Rating Status
---------------- --------
A.M. Best Company........ A+ (Superior) Affirmed
Moody's Investors Service Aa3 (Excellent) Affirmed
Standard & Poor's........ AA (Very Strong) Affirmed
Our Standard & Poor's ("S&P") rating was coupled with ZFS through December
31, 2001 due to the perceived financial strength of ZFS and Zurich Life and the
designation of Zurich Life as one of ZFS's core businesses. In September 2001,
S&P announced that it was downgrading several insurance groups based on the
potential catastrophic losses from the September 11, 2001 terrorist attacks on
the United States of America, and the subsequent fall in equity markets. At
that time, ZFS was placed on CreditWatch with negative implications and its
rating, and therefore ours, was downgraded from "AA+" to "AA", S&P's third
highest rating. In February 2002, ZFS received another downgrade to "AA-" and
remained on CreditWatch with negative implications. During 2001, ZFS considered
the divestiture of Zurich Life. Although ZFS made the decision to retain Zurich
Life in December 2001, S&P decided to uncouple Zurich Life's ratings from ZFS
in March 2002, primarily due to ZFS's consideration of the Zurich Life
divestiture and we received a rating of "A+", reflecting the non-supported
strength of Zurich Life and were taken off CreditWatch.
We share our A.M. Best rating with ZFS. In the fall of 2001, A.M. Best
placed ZFS under review with developing implications but did not change its
ratings. In March 2002, ZFS's A.M. Best A+ (Superior) financial strength rating
was affirmed, removed from under review and assigned a negative outlook. Our
non-supported Moody's Investors Service rating remains at Aa3, its fourth
highest rating. In March 2002, Moody's Investors Service placed our rating
under review for possible downgrade.
Employees
At December 31, 2001, we used the services of approximately 1,188 employees
of FKLA, which are also shared with FLA and ZLICA.
Regulation
We are generally subject to regulation and supervision by the insurance
departments of Illinois and other jurisdictions where we are licensed to do
business. These departments enforce laws and regulations designed to assure
that insurance companies maintain adequate capital and surplus, manage
investments according to prescribed character, standards and limitations and
comply with a variety of operational standards. The departments also make
periodic examinations of individual companies and review annual and other
reports on
7
the financial condition of each company operating within their respective
jurisdictions. Regulations, which often vary from state to state, cover most
aspects of the life insurance business, including market practices, policy
forms and accounting and financial reporting procedures.
Insurance holding company laws enacted in many states grant additional
powers to state insurance commissioners to regulate acquisition of and by
domestic insurance companies, to require periodic disclosure of relevant
information and to regulate certain transactions with related companies. These
laws also impose prior approval requirements for certain transactions with
affiliates and generally regulate dividend distributions by an insurance
subsidiary to its holding company parent.
In addition, certain of our variable life insurance and variable annuity
products, and the related separate accounts, are subject to regulation by the
Securities and Exchange Commission (the ''SEC'').
We believe we are in compliance in all known material respects with all
applicable regulations. For information on regulatory and other dividend
restrictions, see ITEM 5(c).
Investments
A changing marketplace has affected the life insurance industry. To
accommodate customers' increased preference for safety over higher yields, we
have systematically reduced our investment risk and strengthened our capital
position.
Our cash flow is carefully monitored and our investment program is regularly
and systematically planned to provide funds to meet all obligations and to
optimize investment return. For investment securities, portfolio management is
handled by an affiliated company, Zurich Scudder Investments, Inc. (''ZSI''),
and its subsidiaries and affiliates. On December 4, 2001, Deutsche Bank and ZFS
announced that they had signed a definitive agreement under which Deutsche Bank
will acquire 100 percent of ZSI, with the exception of ZSI's UK operations,
Threadneedle Investments. The transaction is expected to be completed, subject
to regulatory approval and satisfaction of other conditions, in the first half
of 2002. Our real estate-related investments are handled by a minority-owned
Kemper real estate subsidiary. Investment policy is directed by our board of
directors. Our investment strategies take into account the nature of each
annuity and life insurance product, the respective crediting rates and the
estimated future policy benefit maturities.
Forward-looking statements
All statements, trend analyses and other information contained in this
report and elsewhere (such as in other filings by KILICO with the SEC, press
releases, presentations by KILICO or its management or oral statements) about
markets for our products and trends in our operations or financial results, as
well as other statements including words such as ''anticipate,'' ''believe,''
''plan,'' ''estimate,'' ''expect,'' ''intend,'' and other similar expressions,
constitute forward-looking statements under the Private Securities Litigation
Reform Act of 1995. These forward-looking statements are subject to known and
unknown risks, uncertainties and other factors which may cause actual results
to be materially different from those contemplated by the forward-looking
statements. These factors include, among other things:
(i) general economic conditions and other factors, including prevailing
interest rate levels and stock market performance, which may affect the
ability of KILICO to sell its products, the market value of our investments
and the lapse rate and profitability of our contracts
(ii) our ability to achieve anticipated levels of operational
efficiencies through certain cost-saving initiatives
(iii) customer response to new products, distribution channels and
marketing initiatives
(iv) mortality, morbidity, and other factors which may affect the
profitability of our insurance products
8
(v) changes in the federal income tax laws and regulations which may
affect the relative tax advantages of some of our products
(vi) increasing competition which could affect the sale of our products
(vii) regulatory changes or actions, including those relating to
regulation of financial services affecting (among other things) bank sales
and underwriting of insurance products, and regulations relating to the sale
and underwriting and pricing of insurance products, and
(viii) the risk factors or uncertainties listed from time to time in our
other filings with the SEC.
Item 2. Properties
We share 307,804 square feet of office space leased by FKLA from Wells Real
Estate Funds, located in Schaumburg, Illinois.
Item 3. Legal Proceedings
We have been named as defendant in certain lawsuits incidental to our
insurance business. Based upon the advice of legal counsel, our management
believes that the resolution of these various lawsuits will not result in any
material adverse effect on our consolidated financial position.
Item 4. Submission of Matters to a Vote of Security Holders
None.
9
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
(a) There is no established public trading market for KILICO's common stock.
(b) Kemper owns all of the common stock of KILICO as of the date of this filing.
(c) Cash dividends of $20.0 million, $25.0 million and $70.0 million were
declared and paid to Kemper on June 29, 1999, September 29, 1999 and
December 29, 1999, respectively. A cash dividend of $20.0 million was
declared and paid to Kemper on June 29, 2000. During 2000, we also reported
a deemed dividend distribution of $16.3 million to Kemper. Cash dividends
of $10.0 million and $3.0 million were declared and paid to Kemper on June
28, 2001 and September 27, 2001, respectively. No additional dividends have
been declared or paid through the date of filing this Form 10-K.
Restrictions on dividends
Dividend distributions from us to our stockholder are restricted by state
insurance laws. In Illinois, where we are domiciled, if such dividend, together
with other distributions during the 12 preceding months would exceed the
greater of (a) ten percent of the insurer's statutory surplus as regards
policyholders as of the preceding December 31, or (b) the statutorily adjusted
net income for the preceding calendar year, then such proposed dividend must be
reported to the director of insurance at least 30 days prior to the proposed
payment date. The dividend then may be paid only if not disapproved. The
Illinois insurance laws also permit payment of dividends only out of earned
surplus, exclusive of most unrealized capital gains. During 2001, the Company
paid dividends to Kemper in the amount of $13.0 million, which were approved by
the Illinois Department of Insurance. In 2002, the Company cannot pay dividends.
Item 6. Selected Financial Data
The following table sets forth selected financial information for KILICO for
the five years ended December 31, 2001. Such information should be read in
conjunction with our consolidated financial statements and notes thereto
included in ITEM 8 of this Annual Report on Form 10-K. All amounts are shown in
millions.
December 31, December 31, December 31, December 31, December 31,
2001 2000 1999 1998 1997
------------ ------------ ------------ ------------ ------------
Total revenue............................. $ 398.3 $ 360.9 $ 363.4 $ 419.7 $ 425.5
========= ========= ========= ========= =========
Net income excluding realized
investment results...................... $ 38.2 $ 53.7 $ 51.1 $ 31.4 $ 31.9
========= ========= ========= ========= =========
Net income................................ $ 51.6 $ 48.3 $ 44.9 $ 65.1 $ 38.7
========= ========= ========= ========= =========
Financial summary
Total separate account assets............. $13,108.8 $11,179.6 $ 9,778.1 $ 7,099.2 $ 5,122.0
========= ========= ========= ========= =========
Total assets.............................. $18,089.8 $16,006.6 $14,655.7 $12,239.7 $10,589.7
========= ========= ========= ========= =========
Future policy benefits, net of reinsurance $ 3,393.6 $ 3,278.0 $ 3,409.1 $ 3,561.6 $ 3,856.9
========= ========= ========= ========= =========
Stockholder's equity...................... $ 818.0 $ 730.1 $ 630.0 $ 853.9 $ 865.6
========= ========= ========= ========= =========
10
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
RESULTS OF OPERATIONS
We recorded net income of $51.6 million in 2001, compared with net income of
$48.3 million in 2000 and $44.9 million in 1999. The increase in net income in
2001, compared with 2000, was due to an increase in net realized investment
gains somewhat offset by a decrease in operating earnings before amortization
of goodwill and other intangibles.
The following table reflects the components of net income:
Net income
(in millions)
Year Ended December 31,
----------------------
2001 2000 1999
------ ------ ------
Operating earnings before amortization of goodwill and other
intangibles............................................... $ 51.9 $ 66.8 $ 63.8
Amortization of goodwill and other intangibles.............. (13.7) (13.1) (12.7)
Net realized investment gains (losses)...................... 13.4 (5.4) (6.2)
------ ------ ------
Net income........................................... $ 51.6 $ 48.3 $ 44.9
====== ====== ======
Net realized investment results, after tax
(in millions)
Year Ended December 31,
----------------------
2001 2000 1999
------ ------ ------
Real estate-related gains................................... $ 10.4 $ 1.1 $ 2.7
Fixed maturity securities, including write-downs............ 2.8 (7.9) (6.3)
Trading account securities.................................. -- -- (4.7)
Other gains, net............................................ .2 1.4 2.1
------ ------ ------
Total................................................ $ 13.4 $ (5.4) $ (6.2)
====== ====== ======
The real estate-related gains in 2001 are primarily due to the release of
reserve allowances originally recorded against certain mortgage loans. (See
INVESTMENTS section.) The real estate-related gains in 2000 and 1999 reflect
ZFS's strategy to dispose of real estate-related investments. This strategy to
reduce exposure to real estate-related investments, as well as improving real
estate market conditions in most areas of the country, generated the real
estate-related gains during 2000 and 1999.
Net realized investment gains on fixed maturity securities in 2001 were
primarily due to decreasing interest rates that resulted in higher market
values in fixed maturity investments. Significantly offsetting these realized
gains were other-than-temporary declines in value of certain securities due to
credit-related concerns about a small number of issuers and collateralized bond
obligation impairment losses related to Emerging Issues Task Force 99-20,
Recognition of Interest Income and Impairment on Purchased and Retained
Beneficial Interests in Securitized Financial Assets. (See INVESTMENTS
section.) These pre-tax writedowns totaled $15.5 million in 2001. Net realized
investment losses on fixed maturity securities in 2000 were primarily related
to pre-tax writedowns that totaled $11.4 million. Net realized investment
losses on fixed maturity securities in 1999 were primarily the result of rising
interest rates throughout the year, leading to lower market values in fixed
maturity investments.
Trading account securities were used to manage the reinsurance strategy on
the BOLI product. Effective November 1, 1998, the methodology used to determine
the increase to the FWA was changed and a substantial
11
portion of this liability was marked-to-market based predominately upon the
total return of the Government Bond Division of the KILICO Variable Series I
Separate Account. We also placed assets supporting the FWA in a segmented
portfolio and classified this asset segment as ''trading'' under Statement of
Financial Standards No. 115 (''SFAS 115'') at December 31, 1998 and through
November 30, 1999. We recorded realized capital losses of $7.3 million related
to the changes in fair values of this portfolio during 1999. Due to a change in
the reinsurance strategy related to the BOLI product, effective December 1,
1999, we no longer marked-to-market a portion of the FWA liability and
therefore no longer designated the related portion of assets as ''trading''. As
a result, changes in fair value to the FWA and the assets supporting the FWA no
longer flow through operating results.
Operating earnings before the amortization of goodwill and other intangibles
decreased to $51.9 million in 2001, compared with $66.8 million in 2000,
primarily due to:
. a decrease in premium income
. an increase in claims incurred and other policyholder benefits
. an increase in commissions and operating expenses, net of the deferral of
insurance acquisition costs, and
. an increase in income tax expense, offset by
. an increase in separate account fees
. an increase in other income
. an increase in spread revenue (net investment income less interest
credited to policyholders)
. a decrease in taxes, licenses and fees, and
. a decrease in the amortization of insurance acquisition costs and value of
business acquired.
Operating earnings before the amortization of goodwill and other intangibles
increased to $66.8 million in 2000, compared with $63.8 million in 1999,
primarily due to:
. an increase in spread revenue (net investment income less interest
credited to policyholders)
. an increase in other income
. a decrease in claims incurred and other policyholder benefits
. a decrease in taxes, licenses and fees, and
. a decrease in income tax expense, offset by
. a decrease in premium income
. a decrease in separate account fees
. an increase in commissions and operating expenses, net of the deferral of
insurance acquisition costs, and
. an increase in the amortization of insurance acquisition costs and value
of business acquired.
12
The following table reflects our sales and reinsurance assumed:
Sales and reinsurance assumed
(in millions)
Year Ended December 31,
---------------------------
2001 2000 1999
-------- -------- --------
Annuities:
Variable................................. $2,547.4 $1,160.5 $ 758.6
Fixed.................................... 142.0 168.6 96.3
Funding Agreements assumed............... -- 100.0 --
-------- -------- --------
Total annuities...................... 2,689.4 1,429.1 854.9
-------- -------- --------
Life Insurance:
Separate account business-owned variable
universal life (''BOLI'').............. 515.3 819.6 1,622.0
Separate account variable universal life. 29.6 36.5 39.1
Term life................................ 1.6 (8.2) 21.9
Interest-sensitive life.................. 1.3 1.4 1.3
-------- -------- --------
Total life........................... 547.8 849.3 1,684.3
-------- -------- --------
Total sales....................... $3,237.2 $2,278.4 $2,539.2
======== ======== ========
Sales of annuity products consist of total deposits received, which are not
recorded as revenue within the consolidated statements of operations. Variable
annuity deposits, including deposits under the fixed account option, increased
$1.4 billion in 2001, compared with 2000. The increase in the variable annuity
deposits is primarily due to continued strong sales of our DESTINATIONS/SM
product that offers both a variable and a fixed option, including dollar cost
averaging and a guaranteed retirement income benefit ("GRIB") option. Dollar
cost averaging allows contractholders the option to allocate amounts to the
fixed account option and authorize pro-rated amounts to be automatically
transferred into the separate account investment options over a specified
period of time in order to reduce the effects of significant market
fluctuations. The GRIB is an optional benefit to the DESTINATIONSSM variable
annuity, for an additional asset-based fee. It allows for a proxy account
value, called the GRIB Base, to be applied to the guaranteed annuity factors
(settlement option purchase rates) in the contract. The GRIB Base prior to
attained age 80 is the greatest of: /
. the contract value (account value)
. the greatest anniversary value before the exercise (annuitization) date, or
. purchase payments minus previous withdrawals, accumulated at 5 percent
interest per year to the annuitization date.
In the fourth quarter of 2001, we discontinued offering the GRIB option with
the DESTINATIONS/SM product due to the continued decline in the stock market,
particularly in the wake of the tragedy of September 11th. Future sales of the
DESTINATIONSSM product are expected to be substantially lower because of this
decision. /
Fixed annuity deposits decreased $26.6 million in 2001 when compared with
2000, as investors seek out a more competitive return on their investments
during a time of declining interest rates.
The $100.0 million Funding Agreement assumed in 2000 resulted from a new
reinsurance agreement with FKLA. (See the note captioned ''Reinsurance'' in the
Notes to Consolidated Financial Statements.)
Sales of variable annuities increase administrative fees earned. In
addition, they pose less investment risk to us, to the extent that
policyholders allocate net premium to one or more subaccounts that invest in
underlying investment funds that invest in stocks or bonds. The customer bears
the investment risk on these stocks or bonds unless the GRIB option is elected.
Additional fees are charged to cover specific benefit options elected by the
policyholders, such as the GRIB option.
13
Sales of BOLI decreased $304.3 million to $515.3 million in 2001, compared
with $819.6 million in 2000. Sales of individual variable universal life
insurance decreased $6.9 million to $29.6 million in 2001, compared with $36.5
million in 2000. BOLI sales decreased primarily due to the nature of the
product--high dollar volume per sale, low frequency of sales and due to the
uncertainty surrounding the potential sale of Zurich Life. Sales of these
separate account variable products pose minimal investment risk as
policyholders also direct their premium to one or more subaccounts that invest
in underlying investment funds which invest in stocks and bonds. We receive
premium tax and DAC tax expense loads from certain contractholders, as well as
administrative fees and cost of insurance charges. These fees and charges are
compensation for providing life insurance coverage to the contractholders
potentially in excess of their cash surrender values. Face amount of new
variable universal life insurance business issued amounted to $2.2 billion in
2001, compared with $3.8 billion in 2000 and $16.6 billion in 1999. The
decrease in face amount issued in 2001, compared with 2000, is primarily due to
the decrease in BOLI sales.
The following table reflects our assets under management:
Assets under management
(in millions)
2001 2000 1999
--------- --------- ---------
General account........... $ 3,815.8 $ 3,689.5 $ 3,831.0
Separate account--BOLI.... 7,598.9 6,905.9 5,750.5
Separate account--non-BOLI 5,509.8 4,273.7 4,027.6
--------- --------- ---------
Total.............. $16,924.5 $14,869.1 $13,609.1
========= ========= =========
Total assets under management have increased over the last few years
primarily reflecting the volume of sales. The level of policyholder surrenders,
withdrawals and death benefits also directly impacts the level of assets under
management from year to year. Total assets under management were also affected
by equity market and interest rate fluctuations.
Net term life premium, including new and renewal premiums, totaled $486
thousand in 2001 and $371 thousand in 2000. The 2000 amount excludes premiums
assumed under a reinsurance agreement with FKLA. Effective September 30, 2000,
the reinsurance agreement with FKLA was terminated. Prior to the termination,
we assumed $15.4 million of term life insurance premiums from FKLA in 2000.
Upon termination, we returned $7.7 million of premiums to FKLA as consideration
for the recaptured reserves. In the fourth quarter of 2000, the reinsurance
agreement was recaptured by FKLA and resulted in a decrease in premiums of
$13.6 million in 2000, compared with 1999. In 1999 we assumed $21.3 million of
term life insurance premiums from FKLA. Excluding the amounts assumed from
FKLA, total term life sales, including new and renewal premiums, amounted to
$677 thousand in 1999.
Spread revenue increased in 2001, compared with 2000, due to a larger
increase in investment income than in interest credited to policyholders. The
increase in investment income in 2001, compared with 2000, was primarily due to
placing certain mortgage loans on accrual status in the fourth quarter of 2001.
(See INVESTMENTS--Real estate-related investments for further discussion.) This
increase was somewhat offset by the reinvestment of 2000 and 2001 sales
proceeds, maturities and prepayments in lower yielding securities due to the
lower interest rate environment.
The increase in interest credited in 2001, compared with 2000, was due to
higher average policyholder account balances and a slight increase in average
interest crediting rates, primarily due to new business issued.
Spread revenue increased in 2000, compared with 1999, due to a smaller
decrease in investment income than in interest credited to policyholders. The
decrease in investment income in 2000, compared with 1999, was primarily due to
a decrease in cash and invested assets from the 1999 levels, reflecting the
surrender and withdrawal activity during prior years and the dividends paid to
Kemper during 2000 and 1999. Also contributing to this decrease in cash and
invested assets are the ongoing exchanges from the fixed to the variable option
of in
14
force annuity policies, primarily reflecting the dollar cost averaging option
mentioned previously. Net investment income was also negatively impacted in
2000 and 1999 by the placement of a real estate-related investment on
non-accrual status effective January 1, 1999. Somewhat mitigating these factors
was the reinvestment of 1999 and 2000 sales proceeds, maturities and
prepayments at higher yields due to funds being directed to higher yielding
securities, and an overall increasing interest rate environment during 1999 and
the first half of 2000.
The decrease in interest credited in 2000, compared with 1999, was primarily
due to a decrease in policyholder liabilities due to surrender, withdrawal and
exchange activity in 2000 and 1999 and an overall decrease in crediting rates
over the same period.
Investment income was also reduced over the last three years reflecting
purchase accounting adjustments related to the amortization of premiums on
fixed maturity investments. Under purchase accounting, the fair value of the
fixed maturity investments as of January 4, 1996, the date Kemper was acquired
by ZFS, became the new cost basis in the investments. The difference between
the new cost basis and original par is then amortized against investment income
over the remaining effective lives of the fixed maturity investments. As a
result of the interest rate environment as of January 4, 1996, the market value
of the fixed maturity investments was approximately $133.9 million greater than
original par. Premium amortization decreased investment income by approximately
$2.8 million in 2001, compared with $3.5 million in 2000 and $7.8 million in
1999.
Separate account fees and charges
(in millions)
2001 2000 1999
------- ------- -------
Separate account fees on non-BOLI variable life and
annuities........................................ $ 67.6 $ 62.1 $ 47.0
BOLI cost of insurance charges and fees--direct.... 163.5 164.4 168.1
BOLI cost of insurance charges and fees--ceded..... (168.4) (173.8) (166.7)
BOLI premium tax expense loads..................... 8.3 15.6 26.3
------- ------- -------
Total....................................... $ 71.0 $ 68.3 $ 74.7
======= ======= =======
Included in separate account fees and charges are administrative and other
fees received from the separate account products of $66.7 million in 2001,
compared with $61.4 million and $46.1 million in 2000 and 1999, respectively.
Administrative and other fee revenue increased in each of the last three years
due to growth in average separate account assets. Also included in separate
account fees and charges are cost of insurance (''COI'') charges related to
variable universal life insurance, primarily BOLI, of $162.1 million, $164.4
million and $167.9 million in 2001, 2000 and 1999, respectively. Of these COI
charges, $168.1 million, $173.8 million and $166.4 million were ceded,
respectively, to a ZFS affiliated company, Zurich Insurance Company, Bermuda
Branch (''ZICBB''). In 2001 and 2000, COI charges ceded were in excess of 100
percent of the COI charges received due to appreciation of the BOLI funds
withheld account. Separate account fees and charges in 2001, 2000 and 1999 also
include BOLI-related premium tax expense loads of $8.3 million, $15.6 million
and $26.3 million, respectively.
Net BOLI cost of insurance charges and fees increased $4.5 million in 2001,
compared with 2000, primarily reflecting $2.5 million in fees related to a
group variable life policy sold to FKLA in February 2001, covering all current
FKLA employees as of February 14, 2001. The transaction, as business-owned life
insurance, will permit FKLA to indirectly fund certain of its employee benefit
obligations.
Other income increased $1.7 million in 2001, compared with 2000. The
increase is primarily due to an increase in commission revenue from
broker-dealer operations. The increase was substantially offset by an increase
in broker-dealer commission expense in 2001. Other income increased $23.4
million in 2000, compared with 1999. The increase is primarily due to an
increase in commission revenue from broker-dealer operations of approximately
$20.6 million. This increase was mainly due to the inclusion of PMG's operating
results effective April 1, 2000. (See discussion of the PMG acquisition in the
note captioned ''Related-Party Transactions'' in the Notes to Consolidated
Financial Statements.) The increase in broker-dealer commission revenue was
substantially offset by an increase in broker-dealer commission expense.
15
Other income also includes surrender charge revenue of $6.5 million in 2001,
compared with $6.0 million and $5.0 million in 2000 and 1999, respectively. The
increase in surrender charge revenue over the past three years reflects the
increased policyholder surrender and withdrawal activity during the same period.
Policyholder surrenders, withdrawals and death benefits
(in millions)
2001 2000 1999
------ ------ ------
General account.. $450.9 $579.1 $564.2
Separate account. 523.8 393.3 399.8
------ ------ ------
Total..... $974.7 $972.4 $964.0
====== ====== ======
Reflecting the current interest rate environment and other competitive
market factors, we adjust crediting rates on interest-sensitive products over
time in order to manage spread revenue and policyholder surrender and
withdrawal activity. Spread revenue can also be improved over time by
increasing investment income.
General account surrenders, withdrawals and death benefits decreased $128.2
million in 2001, compared with 2000, reflecting a decrease in death benefits as
well as a decrease in overall surrenders and withdrawals as equity markets
remained volatile.
Separate account surrenders, withdrawals and death benefits increased $130.5
million in 2001, compared with 2000. Excluding surrenders of $92.4 million on
BOLI contracts in 2001, separate account surrenders, withdrawals and death
benefits increased $38.1 million in 2001, compared with 2000. The increase is
primarily due to investors' seeking alternative investments during a period of
market uncertainty.
Claims incurred and other policyholder benefits increased $8.2 million in
2001, compared with 2000, primarily due to an increase in policyholder reserves
for guaranteed minimum death benefits ("GMDB") and GRIB on certain of our
variable annuity contracts. The GMDB reserves increased due to the significant
downturn in the stock market during 2001. GRIB reserves have been established
for policies that have withdrawn a substantial portion of their contract
values, exposing a proportionately large GRIB benefit in relation to the
account value. These policies were deemed to have elected annuitization and a
reserve has been established to cover the present value of future benefits. The
termination of the assumed term life reinsurance agreement with FKLA decreased
claims incurred and other policyholder benefits year over year for 2001, 2000
and 1999.
Taxes, licenses and fees primarily reflect premium taxes on BOLI. Excluding
the taxes due on BOLI, for which we received a corresponding expense load in
separate account fees and other charges, taxes, licenses and fees amounted to
$2.4 million in 2001, compared with $2.3 million in 2000 and $3.4 million in
1999.
Commission expense and the deferral of insurance acquisition costs increased
in 2001, compared with 2000 and 1999, due to the higher level of sales,
excluding BOLI. Commission expense related to broker-dealer operations
increased approximately $17.2 million in 2000, compared with 1999. The increase
is primarily due to the inclusion of PMG's operating results in 2000. The
commission expense related to broker-dealer operations totaled $25.2 million in
2001.
Operating expenses increased in 2001, to $66.0 million, compared with $61.7
million and $45.9 million in 2000 and 1999, respectively. The increase in 2001,
compared with 2000, was primarily due to the inclusion of $3.0 million of
operating expenses of the newly formed New York company. Also contributing to
the increase was an increase in PMG's operating expenses of approximately $1.7
million in 2001, compared to 2000.
The increase in operating expenses in 2000, compared with 1999, was
primarily due to an increase in salaries and related benefits, and data
processing expenses in the continued development of infrastructure to support
various new business initiatives. Also contributing to the increase was the
inclusion of PMG's operating expenses of approximately $2.2 million.
16
Amortization of insurance acquisition costs decreased $5.2 million in 2001,
compared with 2000. This net decrease was attributable to several factors.
During 2000, the amortization of insurance acquisition costs was increased by
$10.5 million due to loss recognition as discussed below. During 2001, realized
capital losses on investments purchased subsequent to the ZFS acquisition
decreased the amortization of insurance acquisition costs by $6.4 million.
These amounts were partially offset by an increase in amortization due to the
higher volume of annuity business in force.
The increase in the amortization of deferred insurance acquisition costs in
2000, compared with 1999, is primarily due to loss recognition resulting from
management's periodic review of the estimated future gross profits on annuity
contracts. The loss recognition increased the amortization by $10.5 million in
2000. The remaining increase in amortization of deferred insurance acquisition
costs is primarily due to the higher volume of variable annuity business.
Deferred insurance acquisition costs, and their related amortization, for
policies sold prior to January 4, 1996 have been replaced under purchase
accounting by the value of business acquired. The value of business acquired
reflects the present value of the right to receive future cash flows from
insurance contracts existing at the date of acquisition. The amortization of
the value of business acquired is calculated assuming an interest rate equal to
the liability or contract rate on the value of the business acquired. Deferred
insurance acquisition costs are established on all new policies sold after
January 4, 1996.
Movements in the stock markets have impacted the amortization of the value
of business acquired in 2001, 2000 and 1999. The percentage changes in the S&P
500 for the years ended December 31, 2001, 2000 and 1999 were -13.0 percent,
- -10.1 percent, and +19.5 percent, respectively. During 2001 and 2000,
depreciation in the stock market resulted in depreciation in the separate
account assets, which decreased future gross profits and accelerated
amortization. During 1999, appreciation in the stock market resulted in
appreciation in the separate account assets, which increased future gross
profits and shifted amortization to later years.
The difference between ZFS's cost of acquiring us and the net fair value of
the assets and liabilities as of January 4, 1996 was recorded as goodwill.
Goodwill is amortized on a straight-line basis over a twenty-year period. Other
intangible assets in the amount of $2.7 million and $4.9 million were recorded
in 2001 and 2000, respectively, in connection with the purchase of PMG. These
intangible assets are being amortized on a straight-line basis over a ten-year
period.
Tax expense increased in 2001, compared with 2000, primarily due to the
release of a $15.2 million valuation allowance in 2000. The valuation allowance
was related to the ultimate realization of losses on real estate assets
disposed of before December 31, 1995. In 2000, an additional $4.6 million
benefit was realized on the termination of the reinsurance agreement with FKLA.
Operations by Business Segment
We, along with FKLA, ZLICA and FLA, operate under the trade name Zurich
Life, formerly Zurich Kemper Life. Zurich Life is segregated by Strategic
Business Unit (''SBU''). The SBU concept employed by ZFS has each SBU
concentrate on a specific customer market. The SBU is the focal point of Zurich
Life, because it is at the SBU level that Zurich Life can clearly identify
customer segments and then work to understand and satisfy the needs of each
customer. For purposes of operating segment disclosure, Zurich Life includes
the operations of Zurich Direct, Inc., an affiliated direct marketing life
insurance agency and excludes FLA, as it is owned by its policyholders.
Zurich Life is segregated into the Life Brokerage, Financial Institutions
(''Financial''), Retirement Solutions Group (''RSG'') and Direct SBUs. The SBUs
are not managed at the legal entity level, but rather at the Zurich Life level.
Since Zurich Life's SBUs cross legal entity lines, as certain similar products
are sold by more than one legal entity, discussion regarding results of
operations in this Form 10-K relate solely to KILICO. The vast majority of our
business is derived from the Financial and RSG SBUs. The contributions of
Zurich Life's SBUs to combined revenues, operating results and certain balance
sheet data pertaining thereto, are shown in the Notes to Consolidated Financial
Statements.
17
The principal products and markets of the Financial and RSG SBUs are as
follows:
Financial: The Financial SBU focuses on a wide range of products that
provide for the accumulation, distribution and transfer of wealth and
primarily includes variable and fixed annuities, variable universal life and
business-owned life insurance. These products are distributed to consumers
through financial intermediaries such as banks, brokerage firms and
independent financial planners. Institutional business includes BOLI and
funding agreements (primarily included in FKLA).
RSG: The RSG SBU has a sharp focus on its target customer. This SBU
markets fixed and variable annuities to K-12 schoolteachers, administrators,
and healthcare workers, along with college professors and certain employees
of selected non-profit organizations. This target market is eligible for
what the IRS designates as retirement-oriented savings or investment plans
that qualify for special tax treatment.
18
INVESTMENTS
Our principal investment strategy is to maintain a balanced,
well-diversified portfolio supporting the insurance contracts written. We make
shifts in our investment portfolio depending on, among other factors:
. our evaluation of risk and return in various markets
. consistency with our business strategy and investment guidelines approved
by the board of directors
. the interest rate environment
. liability durations, and
. changes in market and business conditions.
Invested assets and cash
(in millions)
December 31, December 31,
2001 2000
------------ ------------
Cash and short-term investments....................... $ 216 5.7% $ 50 1.4%
Fixed maturity securities:
Investment-grade:
NAIC(1) Class 1................................ 1,846 48.4 2,080 56.4
NAIC(1) Class 2................................ 1,121 29.4 960 26.1
Below investment-grade (NAIC classes 3 through 6):
Performing..................................... 123 3.2 116 3.2
Non-performing................................. 5 0.1 1 --
Equity securities..................................... 68 1.8 64 1.7
Joint venture mortgage loans.......................... 104 2.7 67 1.8
Third-party mortgage loans............................ 64 1.7 64 1.7
Other real estate-related investments................. 8 0.2 9 0.2
Policy loans.......................................... 240 6.3 256 6.9
Other................................................. 21 0.5 22 0.6
------ ----- ------ -----
Total(2).................................... $3,816 100.0% $3,689 100.0%
====== ===== ====== =====
- --------
(1) National Association of Insurance Commissioners (''NAIC'').
--Class 1 = A- and above
--Class 2 = BBB- through BBB+
(2) See the note captioned ''Financial Instruments--Off-Balance-Sheet Risk'' in
the Notes to Consolidated Financial Statements.
Fixed maturity securities
We carry our fixed maturity investment portfolio, which is considered
available for sale, at estimated fair value. The aggregate unrealized
appreciation or depreciation is recorded as a component of accumulated other
comprehensive income, net of any applicable income tax expense on unrealized
appreciation. The aggregate unrealized appreciation on fixed maturity
securities at December 31, 2001 was $24.3 million. The aggregate unrealized
depreciation on fixed maturity securities at December 31, 2000 was $32.6
million. We do not record tax benefits related to aggregate unrealized
depreciation on investments. Fair values are sensitive to movements in interest
rates and other economic developments and can be expected to fluctuate, at
times significantly, from period to period.
19
At December 31, 2001, investment-grade fixed maturity securities, cash and
short-term investments accounted for 83.5 percent of invested assets and cash,
compared with 83.9 percent at December 31, 2000. Approximately 53.3 percent of
our NAIC Class 1 bonds were rated AAA or equivalent at year-end 2001, compared
with 43.4 percent at December 31, 2000.
Approximately 22.0 percent of the investment-grade fixed maturity securities
at December 31, 2001 were mortgage-backed securities, up from 18.9 percent at
December 31, 2000. These investments consist primarily of marketable mortgage
pass-through securities issued by the Government National Mortgage Association,
the Federal National Mortgage Association or the Federal Home Loan Mortgage
Corporation and other investment-grade securities collateralized by mortgage
pass-through securities issued by these entities. We have not made any
investments in interest-only or other similarly volatile tranches of
mortgage-backed securities. Our mortgage-backed investments are generally of
AAA credit quality, and the markets for these investments have been and are
expected to remain liquid.
Approximately 15.3 percent and 15.1 percent of the investment-grade fixed
maturity securities at December 31, 2001 and 2000, respectively, consisted of
corporate asset-backed securities. The majority of investments in asset-backed
securities were backed by commercial mortgage-backed securities (36.5%), home
equity loans (22.9%), collateralized loan and bond obligations (12.1%),
manufactured housing loans (11.7%), and other commercial assets (5.5%).
Future investment income from mortgage-backed securities and other
asset-backed securities may be affected by the timing of principal payments and
the yields on reinvestment alternatives available at the time of such payments.
Prepayment activity resulting from a decline in interest rates on such
securities purchased at a premium would accelerate the amortization of the
premiums. Accelerated amortization would result in reductions of investment
income related to such securities.
At December 31, 2001 and 2000, unamortized premiums and discounts related to
mortgage-backed and asset-backed securities were as follows (in millions):
December 31,
------------
2001 2000
----- ----
Unamortized premiums. $12.2 $9.0
===== ====
Unamortized discounts $ 9.0 $5.2
===== ====
Amortization of the discount or premium from mortgage-backed and
asset-backed securities is recognized using a level effective yield method.
This method considers the estimated timing and amount of prepayments of the
underlying loans and is adjusted to reflect differences between the prepayments
originally anticipated and the actual prepayments received and currently
anticipated. To the extent that the estimated lives of these securities change
as a result of changes in prepayment rates, the adjustment is also included in
net investment income.
The table below provides information about the mortgage-backed and
asset-backed securities that are sensitive to changes in interest rates. The
expected maturity dates have been calculated on a security by security basis
using prepayment assumptions obtained from a survey conducted by a securities
information service. These assumptions are consistent with the current interest
rate and economic environment.
20
Expected Maturity Date
----------------------------------------------
Carrying
Value at Fair Value at
December 31, December 31,
(in millions) 2001 2002 2003 2004 2005 2006 Thereafter 2001
------------- ------------ ----- ----- ------ ------ ----- ---------- -------------
Fixed Maturity Securities:
Mortgage-backed bonds.. $ 726.5 $62.9 $87.8 $ 72.8 $ 85.6 $86.4 $331.0 $ 726.5
Average yield....... 6.39% 6.39% 6.36% 6.36% 6.47% 6.29% 6.27% 6.39%
Asset-backed bonds..... $ 291.3 $31.4 $44.7 $ 45.8 $ 37.5 $18.5 $113.4 $ 291.3
Average yield....... 7.12% 7.12% 7.10% 7.34% 7.47% 7.57% 7.54% 7.12%
CMBs................... $ 92.4 $ 8.8 $ 7.4 $ 3.9 $ 17.4 $11.9 $ 43.0 $ 92.4
Average yield....... 6.52% 6.52% 6.52% 6.52% 6.45% 6.45% 6.67% 6.52%
-------- --------
$1,110.2 $1,110.2
======== ========
Expected Maturity Date
----------------------------------------------
Carrying
Value at Fair Value at
December 31, December 31,
(in millions) 2000 2001 2002 2003 2004 2005 Thereafter 2000
------------- ------------ ----- ----- ------ ------ ----- ---------- -------------
Fixed Maturity Securities:
Mortgage-backed bonds.. $ 575.7 $ 6.5 $39.5 $152.0 $131.9 $77.1 $168.7 $ 575.7
Average yield....... 6.61% 6.61% 6.60% 6.62% 7.18% 7.60% 8.15% 6.61%
Asset-backed bonds..... $ 339.3 $22.5 $37.6 $ 34.2 $ 39.9 $48.0 $157.1 $ 339.3
Average yield....... 7.27% 7.32% 7.30% 7.21% 7.35% 7.57% 7.83% 7.27%
CMBs................... $ 123.9 $ -- $ -- $ -- $ -- $ 5.4 $118.5 $ 123.9
Average yield....... 6.84% 6.84% 6.84% 6.84% 6.84% 6.82% 6.82% 6.84%
-------- --------
$1,038.9 $1,038.9
======== ========
The current weighted average maturity of the mortgage-backed and
asset-backed securities at December 31, 2001, is 4.55 years. A 200 basis point
increase in interest rates would extend the weighted average maturity by
approximately .55 of a year, while a 200 basis point decrease in interest rates
would decrease the weighted average maturity by approximately 2.27 of a year.
The weighted average maturity of the mortgage-backed and asset-backed
securities at December 31, 2000, was 3.95 years. A 200 basis point increase in
interest rates would have extended the weighted average maturity by
approximately .26 of a year, while a 200 basis point decrease in interest rates
would have decreased the weighted average maturity by approximately 1.15 of a
year.
Below investment-grade securities holdings (NAIC classes 3 through 6),
representing securities of 46 issuers at December 31, 2001, totaled 3.3 percent
of cash and invested assets at December 31, 2001 and 3.2 percent at December
31, 2000. Below investment-grade securities are generally unsecured and often
subordinated to other creditors of the issuers. These issuers may have
relatively higher levels of indebtedness and be more sensitive to adverse
economic conditions than investment-grade issuers. Our strategy of limiting
exposure to below investment-grade securities takes into account the more
conservative nature of today's consumer and the resulting demand for
higher-quality investments in the life insurance and annuity marketplace.
Real estate-related investments
The $176.4 million real estate-related portfolio consists of joint venture
and third-party mortgage loans and other real estate-related investments. The
real estate-related portfolio constituted 4.6 percent of cash and invested
assets at December 31, 2001, compared with $140.4 million, or 3.7 percent, at
December 31, 2000.
During 2001, a change in circumstances surrounding a water development
project located in California's Sacramento River Valley led to a decision to
reclassify the related mortgage loans to accrual status and release the general
reserve allowance originally set up for these loans. These changes included the
State of California's State Water Resources Control Board ("SWRCB") approval of
the project's water right permit as well as the completion of a third-party
appraisal of the project, subsequent to the SWRCB's approval of the permit.
21
Taken together, these facts support, in our best judgment, not only the
level of existing debt on the project but also the accrual of interest as
specified in the terms of the loans. As a result, interest income was recorded
in the fourth quarter of 2001 in the amount of $24.9 million, representing
interest earned in 2001 as well as recaptured interest from 2000 and 1999, the
years in which these loans were on non-accrual status. The release of the
general reserve allowance generated a realized gain of $16.4 million in 2001.
As reflected in the ''Real estate portfolio'' table below, we have continued
to fund both existing projects and legal commitments. The future legal
commitments were $29.9 million and $29.8 million at December 31, 2001 and
December 31, 2000, respectively. As of December 31, 2001, we expect to fund
approximately $0.2 million of these legal commitments, along with providing
capital to existing projects. The disparity between total legal commitments and
the amount expected to be funded relates principally to standby financing
arrangements that provide credit enhancements to certain tax-exempt bonds. We
do not currently expect to fund these commitments. The total legal commitments,
along with estimated working capital requirements, are considered in
management's evaluation of reserves and write-downs.
Excluding the $0.9 million of net equity investments in joint ventures, real
estate loans totaled $175.5 million at December 31, 2001, after reserves and
write-downs. Of this amount, $168.1 million are on accrual status with a
weighted average interest rate of approximately 9.04 percent. Of these accrual
loans:
. 7.0 percent have terms requiring current periodic payments of their full
contractual interest
. 38.0 percent require only partial payments or payments to the extent of
borrowers' cash flow, and
. 55.0 percent require that payments are deferred until maturity.
The equity investments in real estate at December 31, 2001 consisted of
other equity investments in joint ventures. These equity investments include
our share of periodic operating results. As an equity owner or affiliate of an
equity owner, we have the ability to fund, and historically have elected to
fund, operating requirements of certain joint ventures.
Real estate portfolio
(in millions)
Other Real Estate-
Mortgage Loans Related Investments
------------- -------------------
Joint Third- Other Equity
Venture Party Loans(2) Investments Total
------- ------ -------- ----------- ------
Balance at December 31, 2000........... $ 67.5 $63.5 $ 8.4 $ 1.0 $140.4(1)
Additions (deductions):
Fundings............................... 0.3 -- -- -- 0.3
Interest added to principal............ 20.1 2.1 -- -- 22.2
Sales/paydowns/distributions........... -- (1.1) (1.1) (0.1) (2.3)
Net realized investments gains (losses) 16.4 (0.6) 0.2 -- 16.0
Other transactions, net................ -- -- (0.2) -- (0.2)
------ ----- ----- ----- ------
Balance at December 31, 2001........... $104.3 $63.9 $ 7.3 $ 0.9 $176.4(3)
====== ===== ===== ===== ======
- --------
(1) Net of $22.4 million reserve and write-downs. Excludes $0.6 million of real
estate-related accrued interest.
(2) The other real estate loans were notes receivable evidencing financing,
primarily to joint ventures. These loans were issued generally to provide
financing for Kemper's or our joint ventures for various purposes.
(3) Net of $6.6 million reserve and write-downs. Excludes $5.4 million of real
estate-related accrued interest.
22
Real estate concentrations and outlook
The real estate portfolio is distributed by geographic location and property
type. However, concentration exposures in certain states and in certain types
of properties do exist. In addition to these exposures, exposures also exist as
to certain real estate developers and partnerships.
As a result of our ongoing strategy to reduce exposure to real
estate-related investments, we had investments in four projects that accounted
for approximately 99.5 percent of the $176.4 million real estate-related
portfolio as of December 31, 2001.
The largest of these investments were loans to a master limited partnership
(the ''MLP'') between subsidiaries of Kemper and subsidiaries of Lumbermens
Mutual Casualty Company, which amounted to $92.5 million at December 31, 2001.
The MLP's underlying investment primarily consists of the water development
project, as discussed earlier. Although the SWRCB has approved the water right
permit, additional permits must be obtained before development on this project
can proceed. These additional permits are expected to be received during 2002.
The final resolution of this permit process will impact the long-term economic
viability of the project. Loans to the MLP were placed on non-accrual status at
the beginning of 1999 to ensure that book value of the MLP did not increase
over net realizable value. In 2001, these loans were placed on accrual status,
as previously discussed.
The second largest of these investments at December 31, 2001 amounted to
$63.9 million and consisted of second mortgages on nine hotel properties, one
office building, and one retail property. Patrick M. Nesbitt or his affiliates,
a third-party real estate developer, have ownership interests in these
properties. These properties are geographically dispersed and the current
market values of the underlying properties substantially exceed the balances
due on all but one of the mortgages. These loans are on accrual status. In the
fourth quarter of 2001, a valuation reserve of $600 thousand was recorded for
one of these properties as its estimated fair value decreased below the debt
supported by the property.
At December 31, 2001, a loan to a joint venture amounted to $11.8 million.
This affiliated mortgage loan was on an office property located in Illinois.
The remaining real estate-related investment amounted to $7.4 million at
December 31, 2001 and consisted of various unzoned residential and commercial
lots located in Hawaii. Due to certain negative zoning restriction developments
in January 1997 and a continuing economic slump in Hawaii, these real
estate-related investments were placed on nonaccrual status. All zoned
properties were sold by March of 2001. We are currently pursuing an out of
court settlement against the city of Honolulu for the downzoning of certain
unzoned properties. If a settlement is not reached, trial will begin this year.
We are holding the unzoned properties for future zoning and sales. However, due
to the state of Hawaii's economy, which has lagged behind the economic
expansion of most of the rest of the United States, it is anticipated that it
could be several additional years until we completely dispose of all
investments in Hawaii.
We evaluate our real estate-related investments (including accrued interest)
using an estimate of the investments' observable market price, net of estimated
selling costs. Because the real estate review process includes estimates
involving changing economic conditions and other factors, there can be no
assurance that current estimates will prove accurate over time. Real
estate-related investments are expected to continue to decline further through
future sales and paydowns. Net income could be reduced in future periods if:
. real estate market conditions worsen in areas where our portfolio is
located
. Kemper's and our plans with respect to certain projects change, or
. necessary construction or zoning permits are not obtained.
Troubled real estate-related investments consisted of loans on nonaccrual
status, before reserves and write-downs, totaling $13.0 million and $86.3
million at December 31, 2001 and 2000, respectively. Interest does not
23
accrue on real estate-related investments when it is judged that the likelihood
of interest collection is doubtful. Loans on nonaccrual status after reserves
and write-downs amounted to $7.4 million and $64.3 million at December 31, 2001
and 2000, respectively. The decrease in nonaccrual loans in 2001, compared with
2000, is due primarily to the reclassification of certain mortgage loans to
accrual status, as previously discussed.
Net investment income
Pre-tax net investment income totaled $269.4 million in 2001, compared with
$257.5 million in 2000 and $264.6 million in 1999. This includes our share of
the operating results from equity investments in real estate consisting of
other income less other expenses. Investment income was positively impacted in
2001 by the inclusion of three years of interest on loans previously carried on
non-accrual status and negatively impacted in 2001, 2000 and 1999 by purchase
accounting adjustments, as previously discussed.
Total foregone investment income before tax on both nonperforming fixed
maturity investments and nonaccrual real estate-related investments was as
follows:
Foregone investment income
(in millions)
Year Ended
December 31,
--------------
2001 2000 1999
---- ---- ----
Real estate-related investments $1.1 $9.1 $9.9
Fixed maturity securities...... 1.3 -- --
---- ---- ----
Total................... $2.4 $9.1 $9.9
==== ==== ====
Foregone investment income is the result of bonds that are in default and
certain real estate-related investments that have been placed on nonaccrual
status. Any increase in nonperforming securities, and either worsening or
stagnant real estate conditions, would increase the expected adverse effect on
future investment income and realized investment results. During 2001, $15.7
million of foregone investment income was recaptured from prior years due to
the previously mentioned reclassification of certain mortgage loans to accrual
status.
Realized investment results
Net income reflects after-tax realized investment gains of $13.4 million in
2001 and after-tax realized investment losses of $5.4 million and $6.2 million
in 2000 and 1999, respectively. Included in the 1999 after-tax realized
investment losses are trading account security losses of $4.7 million. As
previously discussed, we segregated a portion of the General Account investment
portfolio in the first eleven months of 1999 into a ''trading'' account under
SFAS 115. SFAS 115 mandates that assets held in a trading account be valued at
fair value, with changes in fair value flowing through the income statement as
realized capital gains and losses. Also, as previously discussed, effective
December 1, 1999, we no longer designated a portion of the General Account
investment portfolio as ''trading''. As a result, all investments previously
designated as ''trading'' are currently classified as available for sale and
changes in fair value to the FWA and the assets supporting the FWA no longer
flow through operating results.
Unrealized gains and losses on fixed maturity investments that are available
for sale are not reflected in net income. These changes in unrealized value are
recorded as a component of accumulated other comprehensive income, net of any
applicable income taxes. If, and to the extent, a fixed maturity investment
suffers an other-than-temporary decline in value, however, the security is
written down to net realizable value, and the write-down adversely impacts net
income. Pre-tax write-downs due to other-than-temporary decline in value
amounted to $15.5 million, $11.4 million and $0.1 million for the years ended
December 31, 2001, 2000 and 1999, respectively.
24
We regularly monitor our investment portfolio and as part of this process
review the assets for possible impairments of carrying value. Because the
review process includes estimates involving changing economic conditions and
other factors, there can be no assurance that current estimates will prove
accurate over time.
See Note 1, ''Summary of Significant Accounting Policies'', in the Notes to
Consolidated Financial Statements for information regarding derivative
investments.
Interest rates
During 2000 and 1999 the Federal Open Market Committee (''FOMC'') raised
interest rates six times in total, resulting in a flatter yield curve due to
higher short-term interest rates. With signs of economic weakness becoming more
prevalent, the FOMC began lowering interest rates in January 2001 after raising
them 100 basis points and 75 basis points in 2000 and 1999, respectively. The
FOMC lowered rates 11 times in 2001, totaling 475 basis points, in an attempt
to stimulate the economy. The yield curve steepening that had begun at the end
of 2000 accelerated during 2001, leaving the treasury yield curve at its
steepest levels since 1993. The events of September 11 led to further interest
rate declines by the FOMC to help mitigate economic weakness and liquidity
concerns. The steepening curve and lower rates resulted in a decrease in
unrealized fixed maturity investment losses during 2000 and unrealized fixed
maturity investment gains during 2001.
When maturing or sold investments are reinvested at lower yields in a low
interest rate environment, we can adjust crediting rates on fixed annuities and
other interest-bearing liabilities. However, competitive conditions and
contractual commitments do not always permit the reduction in crediting rates
to fully or immediately reflect reductions in investment yield. This can result
in narrower spreads.
A rising interest rate environment can increase net investment income as
well as contribute to both realized and unrealized fixed maturity investment
losses. A declining interest rate environment can decrease net investment
income as well as contribute to both realized and unrealized fixed maturity
investment gains. Also, lower renewal crediting rates on annuities, compared
with competitors' higher new money crediting rates, have influenced certain
annuity holders to seek alternative products. We mitigate this risk somewhat by
charging surrender fees, which decrease over time, when annuity holders
withdraw funds prior to maturity on certain annuity products. Approximately 23
percent of the fixed and variable annuity liabilities as of December 31, 2001,
however, were no longer subject to significant surrender fees.
25
LIQUIDITY AND CAPITAL RESOURCES
We carefully monitor cash and short-term investments to maintain adequate
balances for timely payment of policyholder benefits, expenses, taxes and
policyholder's account balances. In addition, regulatory authorities establish
minimum liquidity and capital standards. The major ongoing sources of liquidity
are deposits for fixed annuities, premium income, investment income, separate
account fees, other operating revenue and cash provided from maturing or sold
investments.
Ratings
Ratings are an important factor in establishing the competitive position of
life insurance companies. Rating organizations continue to review the financial
performance and condition of life insurers and their investment portfolios. Any
reductions in our claims-paying ability or financial strength ratings could
result in our products being less attractive to consumers. Any reductions in
our parent's ratings could also adversely impact our financial flexibility.
Ratings reductions for Kemper or its subsidiaries and other financial events
can also trigger obligations to fund certain real estate-related commitments to
take out other lenders. In such events, those lenders can be expected to
renegotiate their loan terms, although they are not contractually obligated to
do so.
Each rating is subject to revision or withdrawal at any time by the
assigning organization and should be evaluated independently of any other
rating.
Our Standard & Poor's ("S&P") rating was coupled with ZFS through December
31, 2001 due to the perceived financial strength of ZFS and Zurich Life and the
designation of Zurich Life as one of ZFS's core businesses. In September 2001,
S&P announced that it was downgrading several insurance groups based on the
potential catastrophic losses from the September 11, 2001 terrorist attacks on
the United States of America, and the subsequent fall in equity markets. At
that time, ZFS was placed on CreditWatch with negative implications and its
rating, and therefore ours, was downgraded from "AA+" to "AA", S&P's third
highest rating. In February 2002, ZFS received another downgrade to "AA-" and
remained on CreditWatch with negative implications. During 2001, ZFS considered
the divestiture of Zurich Life. Although ZFS made the decision to retain Zurich
Life in December 2001, S&P decided to uncouple Zurich Life's ratings from ZFS
in March 2002, primarily due to ZFS's consideration of the Zurich Life
divestiture and we received a rating of "A+", reflecting the non-supported
strength of Zurich Life and were taken off CreditWatch.
We share our A.M. Best rating with ZFS. In the fall of 2001, A.M. Best
placed ZFS under review with developing implications but did not change its
ratings. In March 2002, ZFS's A.M. Best A+ (Superior) financial strength rating
was affirmed, removed from under review and assigned a negative outlook. Our
non-supported Moody's Investors Service rating remains at Aa3, its fourth
highest rating. In March 2002, Moody's Investors Service placed our rating
under review for possible downgrade.
Stockholder's equity
Stockholder's equity totaled $818.0 million at December 31, 2001, compared
with $730.1 million at December 31, 2000 and $630.0 million at December 31,
1999. The increase in stockholder's equity in 2001 was primarily due to an
increase in accumulated other comprehensive income of $49.3 million and net
income of $51.6 million, offset by dividends of $13.0 million paid to Kemper.
The increase in accumulated other comprehensive income was primarily related to
unrealized appreciation of the fixed maturity investment portfolio due to
declining interest rates during 2001.
The increase in stockholder's equity in 2000 was primarily due to an
increase in accumulated other comprehensive income of $88.1 million and net
income of $48.3 million, offset by dividends of $36.3 million paid to Kemper.
The increase in accumulated other comprehensive income was primarily related to
unrealized appreciation of the fixed maturity investment portfolio due to the
anticipation of declining interest rates at the end of 2000.
26
Emerging issues
In July 2001, the Financial Accounting Standards Board (''FASB'') issued
Statement of Financial Accounting Standard 141 (''SFAS 141''), Business
Combinations. SFAS 141 supercedes Accounting Principles Board Opinion No. 16
("APB 16"). SFAS 141 requires that the purchase method of accounting must be
used for all business combinations initiated after June 30, 2001. It also
requires that unrecognized negative goodwill must be written off immediately as
an extraordinary gain and provides more specific guidance on how to determine
the accounting acquirer, recognizing intangible assets apart from goodwill, as
well as additional financial statement disclosures. We intend to adopt SFAS 141
in the first quarter of 2002. However, the implementation of SFAS 141 is not
expected to have a material impact on our 2002 financial results.
Also in July 2001, the FASB issued Statement of Financial Accounting
Standard 142 ("SFAS 142"), Goodwill and Other Intangible Assets. SFAS 142
primarily addresses the accounting that must be applied to goodwill and
intangible assets subsequent to their acquisition. Effective January 1, 2002,
SFAS 142 requires that goodwill and indefinite-lived intangible assets will no
longer be amortized, but will be tested for impairment at the reporting unit
level. Goodwill and indefinite-lived intangible assets will be tested for
impairment at least annually and the amortization period for finite-lived
intangible assets will no longer be limited to forty years. SFAS 142 also
requires additional financial statement disclosure about goodwill and
intangible assets. We intend to adopt SFAS 142 in the first quarter of 2002. We
are currently evaluating the impact of implementing SFAS 142, however, it is
not expected to have a material impact on our 2002 financial results.
In June 2001, the FASB issued Statement of Financial Accounting Standard 143
("SFAS 143"), Accounting for Asset Retirement Obligations. SFAS 143 amends FASB
Statement of Financial Accounting Standard 19 and is effective for financial
statements issued for fiscal years beginning after June 15, 2002, although
earlier application is encouraged. SFAS 143 clarifies and revises existing
guidance on financial accounting and reporting for obligations associated with
the retirement of tangible long-lived assets and the associated asset
retirement costs. We intend to adopt SFAS 143 in 2002. We are currently
evaluating the impact of implementing SFAS 143, however, it is not expected to
have a material impact on our 2002 financial results.
In October 2001, the FASB issued Statement of Financial Accounting Standard
144 ("SFAS 144"), Accounting for Impairment or Disposal of Long-lived Assets.
This Standard will generally be effective on a prospective basis, beginning
January 1, 2002. SFAS 144 clarifies and revises existing guidance on accounting
for impairment of plant, property, and equipment, amortized intangibles, and
other long-lived assets not specifically addressed in other accounting
literature. Significant changes include (1) establishing criteria beyond those
previously specified in existing literature for determining when a long-lived
is held for sale, and (2) requiring that the depreciable life of a long-lived
asset to be abandoned is revised. These provisions could be expected to have
the general effect of reducing or delaying recognition of future impairment
losses on assets to be disposed, offset by higher depreciation during the
remaining holding period. However, we do not expect the adoption of this
Standard to have a significant impact on our 2002 financial results. SFAS 144
also broadens the presentation of discontinued operations to include a
component of an entity (rather than only a segment of a business).
27
Item 8. Financial Statements and Supplementary Data
Page(s)
-------
Report of Independent Accountants................................................................... 28
Consolidated Balance Sheets, December 31, 2001 and 2000............................................. 29
Consolidated Statements of Operations, three years ended December 31, 2001.......................... 30
Consolidated Statements of Comprehensive Income, each of the three years in the period ended
December 31, 2001................................................................................. 31
Consolidated Statements of Stockholder's Equity, each of the three years in the period ended
December 31, 2001................................................................................. 32
Consolidated Statements of Cash Flows, each of the three years in the period ended December 31, 2001 33
Notes to Consolidated Financial Statements.......................................................... 34-56
Financial Statement Schedules:
Supplementary Insurance Information.............................................................. 64
Reinsurance...................................................................................... 65
Valuation and Qualifying Accounts................................................................ 66
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholder of
Kemper Investors Life Insurance Company:
In our opinion, the consolidated financial statements listed in the
accompanying index present fairly, in all material respects, the financial
position of Kemper Investors Life Insurance Company and its subsidiaries (the
''Company'') at December 31, 2001 and 2000, and the results of their operations
and their cash flows for each of the three years in the period ended December
31, 2001 in conformity with accounting principles generally accepted in the
United States of America. In addition, in our opinion, the financial statement
schedules listed in the accompanying index present 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 schedules are the responsibility of the Company's
management; our responsibility is to express an opinion on these financial
statements and financial statement schedules based on our audits. We conducted
our audits of these statements in accordance with auditing standards generally
accepted in the United States of America, which 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.
PRICEWATERHOUSECOOPERS LLP
Chicago, Illinois
March 22, 2002
28
KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
December 31, December 31,
2001 2000
------------ ------------
Assets
Fixed maturity securities available for sale, at fair value (amortized cost:
December 31, 2001, $3,057,139; December 31, 2000, $3,189,719).............. $ 3,094,560 $ 3,157,169
Equity securities, at fair value (cost: December 31, 2001 and
December 31, 2000, $65,473)................................................ 67,731 63,879
Short-term investments....................................................... 159,105 15,900
Joint venture mortgage loans................................................. 104,303 67,473
Third-party mortgage loans................................................... 63,897 63,476
Other real estate-related investments........................................ 8,240 9,468
Policy loans................................................................. 239,787 256,226
Other invested assets........................................................ 20,799 21,792
----------- -----------
Total investments........................................................ 3,758,422 3,655,383
Cash......................................................................... 57,374 34,101
Accrued investment income.................................................... 140,762 134,585
Reinsurance recoverable...................................................... 240,536 310,183
Deferred insurance acquisition costs......................................... 381,506 240,801
Value of business acquired................................................... 75,806 95,621
Goodwill..................................................................... 178,418 191,163
Other intangible assets...................................................... 6,261 4,531
Deferred income taxes........................................................ 95,688 120,781
Federal income tax receivable................................................ 13,866 8,803
Receivable on sales of securities............................................ 2,100 8,286
Other assets and receivables................................................. 30,336 22,766
Assets held in separate accounts............................................. 13,108,753 11,179,639
----------- -----------
Total assets............................................................. $18,089,828 $16,006,643
=========== ===========
Liabilities
Future policy benefits....................................................... $ 3,634,161 $ 3,588,140
Other policyholder benefits and funds payable................................ 436,449 399,585
Other accounts payable and liabilities....................................... 92,472 109,152
Liabilities related to separate accounts..................................... 13,108,753 11,179,639
----------- -----------
Total liabilities........................................................ 17,271,835 15,276,516
----------- -----------
Commitments and contingent liabilities
Stockholder's equity
Capital stock--$10 par value, authorized 300,000 shares; outstanding 250,000
shares..................................................................... 2,500 2,500
Additional paid-in capital................................................... 804,347 804,347
Accumulated other comprehensive income (loss)................................ 16,551 (32,718)
Retained deficit............................................................. (5,405) (44,002)
----------- -----------
Total stockholder's equity............................................... 817,993 730,127
----------- -----------
Total liabilities and stockholder's equity............................... $18,089,828 $16,006,643
=========== ===========
See accompanying notes to consolidated financial statements.
29
KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands)
Year Ended December 31,
------------------------------
2001 2000 1999
--------- --------- --------
Revenue
Net investment income........................... $ 269,419 $ 257,470 $264,640
Realized investment gains (losses).............. 20,660 (8,277) (9,549)
Premium income.................................. 486 8,394 21,990
Separate account fees and charges............... 70,993 68,293 74,715
Other income.................................... 36,739 35,030 11,623
--------- --------- --------
Total revenue............................... 398,297 360,910 363,419
--------- --------- --------
Benefits and Expenses
Interest credited to policyholders.............. 159,127 152,289 162,243
Claims incurred and other policyholder benefits. 21,933 13,718 18,185
Taxes, licenses and fees........................ 10,714 17,861 30,234
Commissions..................................... 179,585 114,162 67,555
Operating expenses.............................. 66,026 61,671 45,989
Deferral of insurance acquisition costs......... (166,202) (104,608) (69,814)
Amortization of insurance acquisition costs..... 18,052 23,231 5,524
Amortization of value of business acquired...... 15,606 19,926 12,955
Amortization of goodwill........................ 12,744 12,744 12,744
Amortization of other intangible assets......... 961 368 --
--------- --------- --------
Total benefits and expenses................. 318,546 311,362 285,615
--------- --------- --------
Income before income tax expense................ 79,751 49,548 77,804
Income tax expense.............................. 28,154 1,247 32,864
--------- --------- --------
Net income.................................. $ 51,597 $ 48,301 $ 44,940
========= ========= ========
See accompanying notes to consolidated financial statements.
30
KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(in thousands)
Year Ended December 31,
-----------------------------
2001 2000 1999
-------- -------- ---------
Net income.................................................................... $ 51,597 $ 48,301 $ 44,940
-------- -------- ---------
Other comprehensive income (loss), before tax:
Unrealized holding gains (losses) on investments arising during period:....
Unrealized holding gains (losses) on investments........................... 54,155 61,487 (180,267)
Adjustment to value of business acquired................................... (5,914) (3,400) 12,811
Adjustment to deferred insurance acquisition costs......................... (1,050) (230) 5,726
-------- -------- ---------
Total unrealized holding gains (losses) on investments arising
during period........................................................ 47,191 57,857 (161,730)