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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
[X]ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT
OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998 OR
[ ]TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934 [NO FEE REQUIRED]
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER: 1-9250
CONSECO, INC.
INDIANA NO. 35-1468632
(STATE OF INCORPORATION) (IRS EMPLOYER IDENTIFICATION NO.)
11825 N. PENNSYLVANIA STREET
CARMEL, INDIANA 46032 (317) 817-6100
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (TELEPHONE)
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED
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Common Stock, No Par Value New York Stock Exchange, Inc.
8 1/8% Senior Notes due 2003 New York Stock Exchange, Inc.
10 1/2% Senior Notes due 2004 New York Stock Exchange, Inc.
9.16% Trust Originated Preferred Securities New York Stock Exchange, Inc.
7% FELINE PRIDES New York Stock Exchange, Inc.
8.70% Trust Originated Preferred Securities New York Stock Exchange, Inc.
9% Trust Originated Preferred Securities New York Stock Exchange, Inc.
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
Common Stock, No Par Value
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 (or for such shorter period that the
registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days: Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Aggregate market value of common stock held by nonaffiliates (computed as
of March 19, 1999): $10,442,338,786
Shares of common stock outstanding as of March 19, 1999: 323,330,675
DOCUMENTS INCORPORATED BY REFERENCE: Portions of the Registrant's
definitive proxy statement for the annual meeting of shareholders to be held May
26, 1999 are incorporated by reference into Part III of this Report.
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PART I
ITEM 1. BUSINESS OF CONSECO.
Conseco, Inc. is a financial services holding company. We conduct and
manage our business through two operating segments, reflecting our major lines
of business: (i) insurance and fee-based operations and (ii) finance operations.
Our insurance subsidiaries develop, market and administer supplemental health
insurance, annuity, individual life insurance, individual and group major
medical insurance and other insurance products. Our finance subsidiaries
originate, purchase, sell and service consumer and commercial finance loans
throughout the United States. As used in this report, the terms "we," "Conseco"
or the "Company" refer to Conseco, Inc. and its consolidated subsidiaries,
unless the context requires otherwise. Since 1982, Conseco has acquired 19
insurance groups. In 1998, we acquired Green Tree Financial Corporation ("Green
Tree") which comprises our finance operations. Our operating strategy is to grow
our businesses by focusing our resources on the development and expansion of
profitable products and strong distribution channels, to seek to achieve
superior investment returns through active asset management and to control
expenses. For a discussion concerning results of operations by operating
segment, see "Management's Discussion and Analysis of Consolidated Financial
Condition and Results of Operations."
In 1997, Conseco launched a comprehensive effort to transform its name into
a recognized brand. We believe that in a competitive marketplace like financial
services, companies that can differentiate themselves through a familiar brand
can obtain full value for their products; sell more efficiently and command
greater customer loyalty; recruit and retain talent more easily; better
withstand and weather inevitable business crises; and have better access to the
financial markets and the capital they need in order to grow. Our advertising
campaign is designed to introduce consumers to the Conseco brand, to our product
line and to the benefits of doing business with Conseco.
Conseco was organized in 1979 as an Indiana corporation and commenced
operations in 1982. Our executive offices are located at 11825 N. Pennsylvania
Street, Carmel, Indiana 46032, and our telephone number is (317) 817-6100.
MARKETING AND DISTRIBUTION
INSURANCE
Conseco seeks to retain the loyalty of its agency force by providing
marketing and sales support; electronic and automated access to account and
commission information; and marketing and training tools. We also have
introduced new products like equity-indexed annuities (1996), indexed universal
life (1998) and multi-year-guarantee annuities (1999). We are also seeking to
reduce our agents' administrative burden, increase their productive sales time
and get them the information they need faster and more reliably. In 1997, we
introduced the Conseco Online Information System ("COINS"), which enables agents
to track policy and commission information and order materials at their
convenience. Many of our marketing companies and agents use COINS.
Our insurance subsidiaries collectively hold licenses to market our
insurance products in all fifty states, the District of Columbia, and certain
protectorates of the United States. Sales to residents of the following states
accounted for at least 4.5 percent of our 1998 collected premiums: Florida (9.5
percent), California (9.2 percent), Illinois (8.5 percent), Texas (7.5 percent)
and Michigan (4.5 percent).
We believe that people purchase most types of life insurance, accident and
health insurance and annuity products only after being contacted and solicited
by an insurance agent. Accordingly, the success of our distribution system is
largely dependent on our ability to attract and retain agents who are
experienced and highly motivated. In order to encourage agents to place a high
volume of life, accident and health and annuity business with our subsidiaries,
we offer commission rate bonuses and compensation awards which increase with the
volume of new business written.
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A description of the primary distribution channels follows:
Career Agents. This agency force of approximately 5,000 agents working from
185 branch offices, permits one-on-one contacts with potential policyholders and
promotes strong personal relationships with existing policyholders. The career
agents sell primarily Medicare supplement and long-term care insurance policies.
In 1998, this distribution channel accounted for $1,284.6 million, or 22
percent, of our total collected premiums. Most of these agents sell only Conseco
policies and typically visit the prospective policyholder's home to conduct
personalized "kitchen-table" sales presentations. After the sale of an insurance
policy, the agent serves as a contact person for policyholder questions, claims
assistance and additional insurance needs. The personalized marketing and
service efforts of the career field agents, supported by home office persistency
programs, have contributed to a persistency rate of approximately 84 percent on
Medicare supplement policies sold through this channel during 1998.
Professional Independent Producers. This distribution channel consists of a
general agency and insurance brokerage distribution system comprised of
approximately 150,000 independent licensed agents doing business in all fifty
states. In 1998, this channel accounted for $4,550.5 million, or 76 percent, of
our total collected premiums.
Professional independent producers are a diverse network of independent
agents, insurance brokers and marketing organizations. Marketing companies
typically recruit agents for Conseco by advertising our products and commission
structure through direct mail advertising or through seminars for insurance
agents and brokers. These organizations bear most of the costs incurred in
marketing our products. We compensate the marketing organizations by paying them
a percentage of the commissions earned on new sales generated by the agents
recruited by such organizations. Certain of these marketing organizations are
specialty organizations that have a marketing expertise or a distribution system
relating to a particular product, such as flexible-premium annuities for
educators.
Direct Marketing. This distribution channel is engaged primarily in the
sale of "graded benefit life" insurance policies. In 1998, this channel
accounted for $129.1 million, or 2 percent, of our total collected premiums.
FINANCE
Our finance subsidiaries operate from service centers throughout the United
States serving all 50 states. Originations to customers in the following states
accounted for at least 4.6 percent of our 1998 originations: Texas (7.2
percent), California (6.7 percent), North Carolina (6.6 percent), Florida (6.2
percent) and Michigan (4.6 percent).
During 1998, 74 percent of our finance products were marketed indirectly to
customers through intermediary channels such as dealers, vendors, contractors
and retailers; the remaining products were marketed directly to our customers
through our regional offices and service centers. A description of the primary
distribution channels follows:
Dealers, Vendors, Contractors, Retailers. Manufactured housing, home
improvement, home equity, consumer finance and equipment finance receivables are
purchased from and originated by selected dealers and contractors after
undergoing a proprietary automated credit scoring system at one of our regional
service centers. During 1998, these marketing channels accounted for 86 percent
of manufactured housing, 73 percent of home improvement, 45 percent of home
equity, 92 percent of consumer finance and 65 percent of equipment finance.
Regional Service Centers, Retail Satellite Offices and Telemarketing
Center. We market and originate manufactured housing loans through 51 regional
offices and 2 origination and processing centers. We originate home equity loans
through a system of 114 retail satellite offices and 6 regional centers. We also
market private label retail credit products through selected retailers and
process the contracts through Conseco Bank, Inc., ("Conseco Bank"), a Utah
industrial loan company, and through Green Tree Retail Services Bank ("Retail
Bank"), a South Dakota limited purpose credit card bank. We utilize direct mail
to originate home improvement loans, home equity loans and credit cards. We
provide commercial finance loans to dealers,
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manufacturers and other distributors through 3 regional lending centers. During
1998, these marketing channels accounted for 14 percent of manufactured housing,
27 percent of home improvement, 55 percent of home equity, 8 percent of consumer
finance, 35 percent of equipment finance and 100 percent of retail credit
contracts.
INSURANCE PRODUCTS
SUPPLEMENTAL HEALTH
Supplemental health products include Medicare supplement, long-term care
and specified-disease insurance products distributed through a career agency
force and professional independent producers. During 1998, we collected Medicare
supplement premiums of $916.7 million, long-term care premiums of $728.4 million
and specified disease premiums of $392.3 million.
The following describes the major supplemental health products:
Medicare supplement. Medicare is a two-part federal health insurance
program for disabled persons and senior citizens (age 65 and older). Part A of
the program provides protection against the costs of hospitalization and related
hospital and skilled nursing home care, subject to an initial deductible,
related coinsurance amounts and specified maximum benefit levels. The deductible
and coinsurance amounts are subject to change each year by the federal
government. Part B of Medicare covers doctors bills and a number of other
medical costs not covered by Part A, subject to deductible and coinsurance
amounts for "approved" charges.
Medicare supplement policies provide coverage for many of the medical
expenses which the Medicare program does not cover, such as deductibles,
coinsurance costs (in which the insured and Medicare share the costs of medical
expenses) and specified losses which exceed the federal program's maximum
benefits. Our Medicare supplement plans automatically adjust coverage to reflect
changes in Medicare benefits. In marketing these products, we concentrate on
individuals who have recently become eligible for Medicare by reaching the age
of 65. We offer a higher first-year commission for sales to these policyholders
and competitive premium pricing. Approximately one-half of new sales of Medicare
supplement policies are to individuals who are 65 years old.
Long-term care. Long-term care products provide coverage, within prescribed
limits, for nursing home, home healthcare, or a combination of both nursing home
and home healthcare expenses. The long-term care plans are sold primarily to
retirees, and to a lesser degree, to older self-employed individuals and others
in middle-income levels.
Current nursing home care policies cover incurred and daily fixed-dollar
benefits available with an elimination period (which, similar to a deductible,
requires the insured to pay for a certain number of days of nursing home care
before the insurance coverage begins), subject to a maximum benefit. Home
healthcare policies cover the usual and customary charges after a deductible and
are subject to a daily or weekly maximum dollar amount, and an overall benefit
maximum. We monitor the loss experience on our long-term care products and, when
necessary, apply for rate increases in the states in which we sell such
products.
Specified-disease products. These policies generally provide fixed or
limited benefits. Cancer insurance and heart/stroke products are guaranteed
renewable individual accident and health insurance policies. Payments under
cancer insurance policies are generally made directly to, or at the direction
of, the policyholder following diagnosis of, or treatment for, a covered type of
cancer. Heart/stroke policies provide for payments directly to the policyholder
for treatment of a covered heart disease, heart attack or stroke. The benefits
provided under the specified-disease policies do not necessarily reflect the
actual cost incurred by the insured as a result of the illness; benefits are not
reduced by any other medical insurance payments made to or on behalf of the
insured.
Approximately 73 percent of our specified-disease policies in force (based
on a count of policies) are sold with return of premium or cash value riders.
The return of premium rider generally provides that after a policy has been in
force for a specified number of years or upon the policyholder reaching a
specified age, the
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Company will pay to the policyholder, or a beneficiary under the policy, the
aggregate amount of all premiums paid under the policy, without interest, less
the aggregate amount of all claims incurred under the policy.
ANNUITIES
Annuity products include equity-indexed annuity, variable annuity,
traditional fixed rate annuity and market value-adjusted annuity products sold
through both career agents and professional independent producers. During 1998,
we collected annuity premiums of $1,999.1 million.
The following describes the major annuity products:
Equity-indexed annuity products. These products accounted for $798.2
million, or 13 percent, of our total premiums collected in 1998. The
accumulation value of these annuities is credited with interest at an annual
minimum guaranteed rate of 3 percent (or, including the effect of applicable
sales loads, a 1.5 percent compound average interest rate over the term of the
contracts), but the annuities provide for higher returns based on a percentage
(the "participation rate") of the change in the Standard & Poor's Corporation
("S&P") 500 Index during each year of their term. The Company has the
discretionary ability to annually change the participation rate which currently
ranges from 50 percent to 75 percent plus a first-year "bonus", similar to the
bonus interest described below for traditional fixed rate annuity products, of
25 percent. The minimum guaranteed values are equal to: (i) 90 percent of
premiums collected for annuities for which premiums are received in a single
payment (single premium deferred annuities "SPDAs"), or 75 percent of first year
and 87.5 percent of renewal premiums collected for annuities which allow for
more than one payment (flexible premium deferred annuities "FPDAs"); plus (ii)
interest credited at an annual rate of 3 percent. The annuity provides for
penalty-free withdrawals of up to 10 percent of premium in each year after the
first year of the annuity's term. Other withdrawals from SPDA products are
generally subject to a surrender charge of 9 percent over the eight year
contract term at which time the contract must be renewed or withdrawn. Other
withdrawals from FPDA products are subject to a surrender charge of 12 percent
to 20 percent in the first year, declining 1.2 percent to 1.3 percent each year,
to zero over a 10 to 15 year period, depending on issue age. We purchase S&P 500
Index Call Options ("S&P 500 Call Options") in an effort to hedge potential
increases to policyholder benefits resulting from increases in the S&P 500 Index
to which the product's return is linked.
Variable annuity products. Variable annuities accounted for $332.6 million,
or 5.6 percent, of our total premiums collected in 1998. Variable annuities,
sold on a single-premium or flexible-premium basis, differ from fixed annuities
in that the original principal value may fluctuate, depending on the performance
of assets allocated pursuant to various investment options chosen by the
contract owner. Variable annuities offer contract owners a fixed or variable
rate of return based upon the specific investment portfolios into which premiums
may be directed.
Traditional fixed rate annuity products. These products include: (1) SPDAs
and FPDAs (excluding the equity-indexed and market value-adjusted products) and
single-premium immediate annuities ("SPIAs"). SPDAs and FPDAs accounted for
$601.4 million, or 10.1 percent, of our total collected premiums in 1998. Our
SPDAs and FPDAs typically have an interest rate (the "crediting rate") that is
guaranteed by the Company for the first policy year, after which, we have the
discretionary ability to change the crediting rate to any rate not below a
guaranteed minimum rate. The guaranteed rate recently written on annuities is
3.0 percent, and the rate on all policies in force ranges from 3 percent to 6
percent. The initial crediting rate is largely a function of: (i) the interest
rate we can earn on invested assets acquired with the new annuity fund deposits;
and (ii) the rates offered on similar products by our competitors. For
subsequent adjustments to crediting rates, we take into account the yield on our
investment portfolio, annuity surrender assumptions, competitive industry
pricing and the crediting rate history for particular groups of annuity policies
with similar characteristics.
Approximately 83 percent of our new annuity sales have been "bonus"
products. The initial crediting rate on these products specifies a bonus
crediting rate ranging from 1 percent to 9 percent of the annuity deposit for
the first policy year only. After the first year, the bonus interest portion of
the initial crediting rate is automatically discontinued, and the renewal
crediting rate is established. Generally, there is a compensating
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adjustment in commissions paid to the agent to offset the first year bonus. As
of December 31, 1998, crediting rates on our outstanding traditional annuities
were at an average rate, excluding bonuses, of 4.6 percent.
The policyholder is typically permitted to withdraw all or part of the
premium paid plus the accumulated interest credited to his account (the
"accumulation value"), subject in virtually all cases to the assessment of a
surrender charge for withdrawals in excess of specified limits. Most of our
traditional annuities provide for penalty-free withdrawals of up to 10 percent
of the accumulation value each year, subject to limitations. Withdrawals in
excess of allowable penalty-free amounts are assessed a surrender charge during
a penalty period which generally ranges from five to 12 years after the date a
policy is issued. The initial surrender charge is generally 6 percent to 12
percent of the accumulation value and generally decreases by approximately 1 to
2 percentage points per year during the penalty period. Surrender charges are
set at levels to protect the Company from loss on early terminations and to
reduce the likelihood of policyholders terminating their policies during periods
of increasing interest rates. This practice lengthens the effective duration of
policy liabilities and enables the Company to maintain profitability on such
policies.
SPIAs accounted for $172.2 million, or 2.9 percent, of our total collected
premiums in 1998. SPIAs are designed to provide a series of periodic payments
for a fixed period of time or for life, according to the policyholder's choice
at the time of issue. Once the payments begin, the amount, frequency and length
of time for which they are payable are fixed. SPIAs often are purchased by
persons at or near retirement age who desire a steady stream of payments over a
future period of years. The single premium is often the payout from a terminated
annuity contract. The implicit interest rate on SPIAs is based on market
conditions when the policy is issued. The implicit interest rate on the
Company's outstanding SPIAs averaged 7.3 percent at December 31, 1998.
Market value-adjusted annuity products. This product has a "market value
adjustment" feature designed to provide the Company with additional protection
from early terminations during a period of rising interest rates by reducing the
surrender value payable upon a full or partial surrender of the policy in excess
of the allowable penalty-free withdrawal amount. Conversely, during a period of
declining interest rates, the feature would increase the surrender value payable
to the policyholder. In 1998, we collected premiums of $94.7 million from SPDAs
and FPDAs with this feature.
LIFE
Life products include traditional, universal life and other life insurance
products. These products are currently sold through career agents, professional
independent producers and direct response marketing. During 1998, we collected
total life premiums of $928.8 million.
Interest-sensitive life products. These products include universal life
products that provide whole life insurance with adjustable rates of return
related to current interest rates. They accounted for $511.9 million, or 8.6
percent, of our total collected premiums in 1998 and are marketed through
professional independent producers and to a lesser extent, career agents. The
principal differences between universal life products and other
interest-sensitive life insurance products are policy provisions affecting the
amount and timing of premium payments. Universal life policyholders may vary the
frequency and size of their premium payments, and policy benefits may also
fluctuate according to such payments. Premium payments under other interest-
sensitive policies may not be varied by the policyholders, and as a result, are
designed to reduce the administrative costs typically associated with monitoring
universal life premium payments and policy benefits.
Traditional life. These products accounted for $416.9 million, or 7.0
percent, of our total collected premiums in 1998. Traditional life policies,
including whole life, graded benefit life and term life products, are marketed
through professional independent producers, career agents and direct response
marketing. Under whole life policies, the policyholder generally pays a level
premium over the policyholder's expected lifetime. The annual premium in a whole
life policy is generally higher than the premium for comparable term insurance
coverage in the early years of the policy's life, but is generally lower than
the premium for comparable term insurance coverage in the later years of the
policy's life. These policies, which continue to be marketed by the Company on a
limited basis, combine insurance protection with a savings component that
increases in amount gradually over the life of the policy. The policyholder may
borrow against the savings
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generally at a rate of interest lower than that available from other lending
sources. The policyholder may also choose to surrender the policy and receive
the accumulated cash value rather than continuing the insurance protection. Term
life products offer pure insurance protection for a specified period of
time -- typically 5, 10 or 20 years.
Traditional life products also include graded benefit life insurance
products. Graded benefit life products accounted for $129.1 million, or 2.2
percent, of our total collected premiums in 1998. Graded benefit life insurance
products are offered on an individual basis primarily to persons age 50 to 80,
principally in face amounts of $350 to $10,000, without medical examination or
evidence of insurability. Premiums are paid as frequently as monthly. Benefits
paid are less than the face amount of the policy during the first two years,
except in cases of accidental death. Graded benefit life policies are marketed
using direct response marketing techniques. New policyholder leads are generated
primarily from television and print advertisements.
INDIVIDUAL AND GROUP MAJOR MEDICAL
Current sales of our individual and group major medical health insurance
products are targeted primarily to self-employed individuals, small business
owners and early retirees. In addition, we insure several large groups but do
not actively market new business of this type. Several deductible and
coinsurance options are available, and most policies require certain utilization
review procedures. The profitability of this business depends largely on the
overall persistency of the business in force, claim experience and expense
management. During 1998, we collected total premiums of $878.2 million from
these products.
FINANCE PRODUCTS
CONSUMER FINANCING
Manufactured Housing. Our finance subsidiaries provide financing for
consumer purchases of manufactured housing. During 1998, we originated $6.1
billion of contracts for manufactured housing purchases, or 28 percent of our
total originations. At December 31, 1998, our managed receivables include $21.1
billion of contracts for manufactured housing purchases, or 57 percent of total
managed receivables. Manufactured housing or a manufactured home is a structure,
transportable in one or more sections, which is designed to be a dwelling with
or without a permanent foundation. Manufactured housing does not include either
modular housing (which typically involves more sections, greater assembly and a
separate means of transporting the sections), or recreational vehicles.
The majority of sales contracts for manufactured home purchases are
financed on a conventional basis. Federal Housing Administration and Veterans's
Administration contracts represent less than 1 percent of our manufactured
housing originations and 2 percent of our total servicing portfolio.
Manufactured housing contracts are generally subject to minimum down payments of
at least 5 percent of the amount financed and have terms of up to 30 years.
Through our regional service centers, we purchase manufactured housing
contracts from dealers located throughout the United States. Our regional
service center personnel solicit dealers in their region. If the dealer wishes
to utilize our financing, the dealer completes an application. Upon approval, a
dealer agreement is executed. We also originate manufactured housing installment
loan agreements directly with customers. For the year ended December 31, 1998,
86 percent of our manufactured housing contract originations were purchased from
dealers and 14 percent were originated directly by us.
Customers' credit applications for new manufactured homes are reviewed in
our service centers. If the application meets our guidelines, we generally
purchase the contract after the customer has moved into the manufactured home.
We use a proprietary automated credit scoring system to evaluate manufactured
housing contracts. The scoring system is statistically based, quantifying
information using variables obtained from customer credit applications and
credit reports.
Mortgage Services. These products include home equity and home improvement
loans. During 1998, we originated $5.2 billion of contracts for these products,
or 24 percent of our total originations. At December 31,
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1998, our managed receivables include $8.3 billion of contracts for home equity
and home improvement loans, or 22 percent of total managed receivables.
We originate home equity loans through 114 retail satellite offices and six
regional centers and through a network of correspondent lenders throughout the
United States. The satellite offices are responsible for originating,
processing, underwriting and funding the loan transaction. Subsequently, loans
are re-underwritten in the regional service center and on a test basis by a
third party to ensure compliance with our credit policy. After the loan has
closed, the loan documents are forwarded to our loan servicing center. The
servicing center is responsible for handling customer service and performing
document handling, custodial and quality control functions.
During 1998, approximately 55 percent of our home equity finance loans were
originated directly with the borrower. The remaining finance volume was
originated through approximately 250 correspondent lenders. We re-underwrite all
of the loan documents originated with our correspondents to ensure compliance
with our policies.
Typically, home equity loans are secured by first or second liens. Homes
used for collateral in securing home equity loans may be either residential or
investor owned, one-to-four-family properties having a minimum appraised value
of $25,000. During 1998, approximately 79 percent of the loans originated were
secured by first liens. The average loan to value for loans originated in 1998
was approximately 85 percent. The majority of our home equity loans are fixed
rate closed-end loans. We periodically purchase adjustable rate loans from our
correspondent network. Adjustable rate loans accounted for 24 percent of our
home equity finance volume during 1998.
We originate the majority of our home improvement loan contracts indirectly
through a network of home improvement contractors located throughout the United
States. We review the financial condition, business experience and
qualifications of all contractors through which we obtain loans.
We finance both conventional home improvement contracts and contracts
insured through the Federal Housing Administration Title I program. Such
contracts are generally secured by first, second or, to a lesser extent, third
liens on the improved real estate. We also implemented an unsecured conventional
home improvement lending program for certain customers which generally allows
for loans of $2,500 to $15,000. Unsecured loans account for less than 5 percent
of our home improvement servicing portfolio.
Typically, an approved contractor submits the customer's credit application
and construction contract to our centralized service center where an analysis of
the creditworthiness of the customer is made using a proprietary credit scoring
system. If it is determined that the application meets the Company's
underwriting guidelines, the Company typically purchases the contract from the
contractor when the customer verifies satisfactory completion of the work.
We also originate home improvement loans directly with borrowers. After
receiving a mail solicitation, the customer calls our telemarketing center and
our sales representative explains the available financing plans, terms and rates
depending on the customer's needs. The majority of the loans are secured by a
second or third lien on the real estate of the customer. Direct distribution
accounted for approximately 27 percent of the home improvement finance
originations during 1998.
The types of home improvements we finance include exterior renovations
(such as windows, siding and roofing); pools and spas; kitchen and bath
remodeling; and room additions and garages. We may also extend additional credit
beyond the purchase price of the home improvement for the purpose of debt
consolidation.
Consumer/Credit Card. These products include financing for consumer
products and our private label credit card programs. During 1998, we originated
$2.7 billion of contracts for these products, or 13 percent of our total
originations. At December 31, 1998, our managed receivables include $3.0 billion
of contracts for consumer product and credit card loans, or 8 percent of total
managed receivables.
We also provide financing for the purchase of certain consumer products
such as marine products (boats, boat trailers and outboard motors); motorcycles;
recreational vehicles; sport vehicles (snowmobiles, personal watercraft and
all-terrain vehicles); pianos and organs; and horse and utility trailers.
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These financing contracts are typically originated by dealers throughout
the United States. Approved dealers submit the customer's credit application and
purchase order to our central service center where an analysis of the
creditworthiness of the proposed buyer is made. If the application is approved,
we purchase the contract when the customer completes the purchase transaction.
We also offer private label retail credit card programs with select
retailers. We review the credit of individual customers seeking credit cards
utilizing a credit scoring system.
COMMERCIAL FINANCING
Commercial. Through our three regional lending centers, we extend credit
under revolving credit agreements with dealers, manufacturers and distributors
of various consumer and commercial products. During 1998, we originated $7.4
billion of contracts for commercial financing, or 35 percent of our total
originations. At December 31, 1998, our managed receivables include $4.8 billion
of contracts for commercial financing, or 13 percent of total managed
receivables. "Floorplan receivables" represent the financing of product
inventory for retail dealers of a variety of consumer products. The products
securing the floorplan receivables include manufactured housing, recreational
vehicles and marine products. "Asset-based receivables" generally represent the
financing of production and inventory by manufacturers secured by finished goods
inventory, accounts receivable arising from the sale of such inventory, certain
work-in-process, raw materials and components parts, as well as other assets of
the borrower.
We generally provide floorplan financing for products only if we have also
entered into an agreement with the manufacturer, distributor or other vendor of
such product to allow us to provide the consumer financing in connection with
the sale of products that are the subject of the floorplan financing. Advances
made for the purchase of inventory are most commonly arranged in the following
manner: the dealer will contact the manufacturer and place a purchase order for
a shipment of inventory. The manufacturer will then contact us to obtain
approval for the loan. Upon such request, we will analyze whether: (i) the
manufacturer is in compliance with its floor plan agreement; (ii) the dealer is
in compliance with our program; and (iii) such purchase order is within the
dealer's credit limit. If these requirements are met, we will approve the loan.
The manufacturer will then ship the inventory and directly submit the invoice
for such purchase order to us for payment. Interest or finance charges normally
begin as of the invoice date. The proceeds of the loan being made are paid
directly to the manufacturer and are often funded a number of days subsequent to
the invoice date depending upon specific arrangements with the manufacturer.
Inventory inspections are frequently performed to physically verify the
collateral securing the dealer's loan, check the condition of the inventory,
account for any missing inventory and collect any funds due. Approximately
two-thirds of our manufactured housing dealers are participants in this program.
Asset-based receivables are credit facilities provided to certain
manufacturers and distributors involving a revolving line of credit for a
contractually committed period of time. Under these arrangements, the borrower
may draw the lesser of the maximum amount of the line of credit or a
specifically negotiated loan amount, subject to the availability of adequate
collateral. In these facilities, we will most typically lend against finished
inventory and eligible accounts receivable which are free and clear of other
liens and in compliance with specified standards.
Equipment. Our equipment finance operations provide financing programs for
commercial borrowers, including truck and trailer financing for over the road
new and used trucks/tractors and trailers. In addition, financing is provided on
various types of aircraft. Financing or lease agreements for office equipment
(telecommunication systems, facsimile machines, or copiers) and other equipment
types, and fixed rate financing for the land, building or equipment of franchise
operations are also available.
Upon receipt of a customer's credit application and purchase order from the
dealer or vendor, we analyze the creditworthiness of the applicant. If the
application meets our guidelines, we purchase the sales contract or lease
equipment at the time the customer accepts delivery of the product. Customer
service, collection and other administrative and support functions are handled
from centralized servicing offices.
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ACQUISITIONS
Since 1982, Conseco has acquired 19 insurance groups and related businesses
and two finance companies. We continue to regularly investigate acquisition
opportunities in the industries in which we operate. We evaluate potential
acquisitions based on a variety of factors, including the operating results and
financial condition of the business to be acquired, its growth potential,
management and personnel and the potential return on such acquisition in
relation to other acquisition opportunities and the internal development of our
existing business operations. No assurances can be given as to when, if at all,
or upon what terms Conseco will make any such acquisition.
INVESTMENTS
Conseco Capital Management, Inc. ("CCM"), a registered investment adviser
wholly owned by Conseco, manages the investment portfolios of Conseco's
subsidiaries. CCM had approximately $40.4 billion of assets (at fair value)
under management at December 31, 1998, of which $29.2 billion were assets of
Conseco's subsidiaries and $11.2 billion were assets of unaffiliated parties.
Our investment philosophy is to maintain a largely investment-grade fixed-income
portfolio, provide adequate liquidity for expected liability durations and other
requirements and maximize total return through active investment management.
Investment activities are an integral part of our business; investment
income is a significant component of our total revenues. Profitability of many
of our insurance products is significantly affected by spreads between interest
yields on investments and rates credited on insurance liabilities. Although
substantially all credited rates on SPDAs and FPDAs may be changed annually,
changes in crediting rates may not be sufficient to maintain targeted investment
spreads in all economic and market environments. In addition, competition and
other factors, including the impact of the level of surrenders and withdrawals,
may limit our ability to adjust or to maintain crediting rates at levels
necessary to avoid narrowing of spreads under certain market conditions. As of
December 31, 1998, the average yield, computed on the cost basis of our
investment portfolio, was 7.3 percent, and the average interest rate credited or
accruing to our total insurance liabilities, excluding interest bonuses
guaranteed for the first year of the annuity contract only, was 5.1 percent.
We manage the equity-based risk component of our equity-indexed annuity
products by: (i) purchasing S&P 500 call options in an effort to hedge such
risk; and (ii) adjusting the participation rate to reflect the change in the
cost of such options (such cost varies based on market conditions). Accordingly,
we are able to focus on managing the interest rate spread component of these
products.
We seek to balance the duration of our invested assets with the expected
duration of benefit payments arising from our insurance liabilities. At December
31, 1998, the adjusted modified duration of fixed maturities and short-term
investments was approximately 5.8 years and the duration of our insurance
liabilities was approximately 6.7 years.
For information regarding the composition and diversification of the
investment portfolio of our subsidiaries, see "Management's Discussion and
Analysis of Consolidated Financial Condition and Results of Operations --
Investments" and the notes to our consolidated financial statements.
COMPETITION
Our businesses operate in a highly competitive environment. The financial
services industry consists of a large number of companies, some of which are
larger and have greater financial resources, broader and more diversified
product lines and larger staffs than those of Conseco. An expanding number of
banks, securities brokerage firms and other financial intermediaries also market
insurance products or offer competing products, such as mutual fund products,
traditional bank investments and other investment and retirement funding
alternatives. We also compete with many of these companies and others in
providing services for fees. In most areas, competition is based on a number of
factors, including pricing, service provided to distributors and policyholders
and ratings. Conseco's subsidiaries must also compete with its competitors to
attract and retain the allegiance of dealers, vendors, contractors,
manufacturers, retailers and agents.
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In the finance industry, operations are affected by consumer demand which
is influenced by regional trends, economic conditions and personal preferences.
Competition in the finance industry is primarily between banks, finance
companies (or finance divisions of manufacturers), savings and loan associations
and credit unions. Competition is based on a number of factors, including
service, the credit review process, the integration of financing programs and
the ability to manage the servicing portfolio in changing economic environments.
In the individual health insurance business, insurance companies compete
primarily on the basis of marketing, service and price. The provisions of the
Omnibus Budget Reconciliation Act of 1984 and the work of the National
Association of Insurance Commissioners ("NAIC") (an association of state
regulators and their staffs) have resulted in standardized policy features for
Medicare supplement products. This increases the comparability of such policies
and may intensify competition based on factors other than product features. See
"Underwriting" and "Governmental Regulation." In addition to the products of
other insurance companies, our health insurance products compete with health
maintenance organizations, preferred provider organizations and other health
care-related institutions which provide medical benefits based on contractual
agreements.
Marketing companies, agents who market insurance products, school
districts, financial institutions and policyholders use the financial strength
ratings assigned to an insurer by independent rating agencies as one factor in
determining which insurer's products to market or purchase. Substantially all of
our primary life insurance companies have received: (i) an "A" (Excellent)
insurance company rating by A.M. Best Company ("A.M. Best"); (ii) an "AA-"
claims-paying ability rating from Duff & Phelps' Credit Rating Company ("Duff &
Phelps"); and (iii) an "A+" claims-paying ability rating from S&P. A.M. Best
insurance company ratings for the industry currently range from "A++ (Superior)"
to "F (In Liquidation)". Publications of A.M. Best indicate that the "A" and
"A-" ratings are assigned to those companies that, in A.M. Best's opinion, have
demonstrated excellent overall performance when compared to the standards
established by A.M. Best and have demonstrated a strong ability to meet their
obligations to policyholders over a long period of time. Duff & Phelps'
claims-paying ability ratings range from "AAA (Highest claims-paying ability)"
to "DD (Company is under an order of liquidation)." An "AA-" rating represents
"Very high claims-paying ability." S&P claims-paying ability ratings range from
"AAA (Superior)" to "R (Regulatory Action)". An "A" is assigned by S&P to those
companies which, in its opinion, have a secure claims-paying ability and whose
financial capacity to meet policyholder obligations is viewed on balance as
sound, but their capacity to meet such policyholder obligations is somewhat more
susceptible to adverse changes in economic or underwriting conditions than more
highly rated insurers. A plus or minus sign attached to a S&P or Duff & Phelps
claims-paying rating shows relative standing within a ratings category. These
A.M. Best, Duff & Phelps and S&P ratings consider the claims paying ability of
the rated company and are not a rating of the investment worthiness of the rated
company.
We believe that we are able to compete effectively because: (i) we
emphasize a number of specialized distribution channels, where the ability to
respond rapidly to changing customer needs yields a competitive edge; (ii) we
are experienced in establishing and cultivating relationships with the unique
distribution networks and the independent marketing companies operating in these
specialized markets; (iii) we can offer competitive rates as a result of our
lower-than-average operating costs and higher-than-average investment yields
achieved by applying active investment portfolio management techniques; and (iv)
we have reliable policyholder administrative services, supported by customized
information technology systems.
INSURANCE UNDERWRITING
Under regulations promulgated by the NAIC and adopted as a result of the
Omnibus Budget Reconciliation Act of 1990, we are prohibited from underwriting
our Medicare supplement policies for certain first-time purchasers. If a person
applies for insurance within six months after becoming eligible by reason of
age, or disability in certain limited circumstances, the application may not be
rejected due to medical conditions. Some states prohibit underwriting of all
Medicare supplement policies. For other prospective Medicare supplement
policyholders, such as senior citizens who are transferring to Conseco's
products, the underwriting procedures are relatively limited, except for
policies providing prescription drug coverage.
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Before issuing long-term care or comprehensive major medical products to
individuals and groups, we generally apply detailed underwriting procedures
designed to assess and quantify the insurance risks. We require medical
examinations of applicants (including blood and urine tests, where permitted)
for certain health insurance products and for life insurance products which
exceed prescribed policy amounts. These requirements are graduated according to
the applicant's age and may vary by type of policy or product. We also rely on
medical records and the potential policyholder's written application. In recent
years, there have been significant regulatory changes with respect to
underwriting individual and group major medical plans. An increasing number of
states prohibit underwriting and/or charging higher premiums for substandard
risks. We monitor changes in state regulation that affect our products, and
consider these regulatory developments in determining where we market our
products.
Most of our life insurance policies are underwritten individually, although
standardized underwriting procedures have been adopted for certain low
face-amount life insurance coverages. After initial processing, insurance
underwriters review each file and obtain the information needed to make an
underwriting decision (such as medical examinations, doctors' statements and
special medical tests). After collecting and reviewing the information, the
underwriter either: (i) approves the policy as applied for, or with an extra
premium charge because of unfavorable factors; or (ii) rejects the application.
We underwrite group insurance policies based on the characteristics of the group
and its past claim experience. Graded benefit life insurance policies are issued
without medical examination or evidence of insurability. There is minimal
underwriting on annuities.
REINSURANCE
Consistent with the general practice of the life insurance industry, our
subsidiaries enter into both facultative and treaty agreements of indemnity
reinsurance with other insurance companies in order to reinsure portions of the
coverage provided by our insurance products. Indemnity reinsurance agreements
are intended to limit a life insurer's maximum loss on a large or unusually
hazardous risk or to diversify its risk. Indemnity reinsurance does not
discharge the original insurer's primary liability to the insured. The Company's
reinsured business is ceded to numerous reinsurers. We believe the assuming
companies are able to honor all contractual commitments, based on our periodic
review of their financial statements, insurance industry reports and reports
filed with state insurance departments.
As of December 31, 1998, the policy risk retention limit was generally $.8
million or less on the policies of our subsidiaries. Reinsurance ceded by
Conseco represented 23 percent of gross combined life insurance in force and
reinsurance assumed represented 1.9 percent of net combined life insurance in
force. At December 31, 1998, the total ceded business in force of $30.8 billion
was primarily ceded to insurance companies rated "A- (Excellent)" or better by
A.M. Best. Our principal reinsurers at December 31, 1998 were American Equity
Investment Life Insurance Company, Cologne Life, Connecticut General Life
Insurance Company, Employers Re, Life Reassurance Corporation of America,
Lincoln National Life Insurance Company, RGA Reinsurance Company, Security Life
of Denver and Swiss Re Life and Health America. No other single reinsurer
assumes greater than 4 percent of the total ceded business in force.
EMPLOYEES
At December 31, 1998, Conseco, Inc. and its subsidiaries had approximately
14,000 employees, including: (i) 3,300 home office employees; (ii) 1,400
employees in our Chicago office (primarily involved with our supplemental health
operations); (iii) 1,600 employees in various locations serving as
administrative centers for our insurance operations; (iv) 200 employees in
branch offices (primarily supporting our career agency force); and (v) 7,500
employees supporting our finance operations. None of our employees is covered by
a collective bargaining agreement. We believe that we have excellent relations
with our employees.
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GOVERNMENTAL REGULATION
INSURANCE
Our insurance subsidiaries are subject to regulation and supervision by the
insurance regulatory agencies of the states in which they transact business.
State laws generally establish supervisory agencies with broad regulatory
authority, including the power to: (i) grant and revoke business licenses; (ii)
regulate and supervise trade practices and market conduct; (iii) establish
guaranty associations; (iv) license agents; (v) approve policy forms; (vi)
approve premium rates for some lines of business; (vii) establish reserve
requirements; (viii) prescribe the form and content of required financial
statements and reports; (ix) determine the reasonableness and adequacy of
statutory capital and surplus; (x) perform financial, market conduct and other
examinations; (xi) define acceptable accounting principles; (xii) regulate the
type and amount of permitted investments; and (xiii) limit the amount of
dividends and surplus debenture payments that can be paid without obtaining
regulatory approval. Our insurance subsidiaries are subject to periodic
examinations by state regulatory authorities. We do not expect the results of
any ongoing examinations to have a material effect on the Company's financial
condition.
Most states have also enacted regulations on the activities of insurance
holding company systems, including acquisitions, extraordinary dividends, the
terms of surplus debentures, the terms of affiliate transactions and other
related matters. Currently, the Company and its insurance subsidiaries have
registered as holding company systems pursuant to such legislation in the
domiciliary states of the insurance subsidiaries (Arizona, Arkansas, California,
Illinois, Indiana, Missouri, New York, Ohio, Pennsylvania, Tennessee and Texas),
and they routinely report to other jurisdictions. Recently, a number of state
legislatures have considered or have enacted legislative proposals that alter,
and in many cases increase, the authority of state agencies to regulate
insurance companies and holding company systems.
Most states have either enacted legislation or adopted administrative
regulations which affect the acquisition of control of insurance companies as
well as transactions between insurance companies and persons controlling them.
The nature and extent of such legislation and regulations vary from state to
state. Most states, however, require administrative approval of: (i) the
acquisition of 10 percent or more of the outstanding shares of an insurance
company domiciled in the state; or (ii) the acquisition of 10 percent or more of
the outstanding stock of an insurance holding company whose insurance subsidiary
is domiciled in the state. The acquisition of 10 percent of such shares is
generally deemed to be the acquisition of control for the purpose of the holding
company statutes. These regulations require the acquirer to file detailed
information concerning the acquiring parties and the plan of acquisition, and to
obtain administrative approval prior to the acquisition. In many states,
however, an insurance authority may determine that control does not exist, even
in circumstances in which a person owns or controls 10 percent or a greater
amount of securities.
The federal government does not directly regulate the insurance business.
However, federal legislation and administrative policies in several areas,
including pension regulation, age and sex discrimination, financial services
regulation, securities regulation and federal taxation, do affect the insurance
business. Legislation has been introduced from time to time in Congress that
could result in the federal government assuming some role in regulating the
companies or allowing combinations between insurance companies, banks and other
entities.
The Securities and Exchange Commission has requested comments as to whether
equity-indexed annuities, such as those sold by the Company, should be treated
as securities under the Federal securities laws rather than as insurance
products. Treatment of these products as securities would likely require
additional registration and licensing of these products and the agents selling
them, as well as cause the Company to seek additional marketing relationships
for these products.
On the basis of statutory statements filed with state regulators annually,
the NAIC calculates certain financial ratios to assist state regulators in
monitoring the financial condition of insurance companies. A "usual range" of
results for each ratio is used as a benchmark. In the past, variances in certain
ratios of our insurance subsidiaries have resulted in inquiries from insurance
departments to which we have responded. Such inquiries did not lead to any
restrictions affecting our operations.
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In recent years, the NAIC has developed several model laws and regulations
including: (i) investment reserve requirements; (ii) risk-based capital ("RBC")
standards; (iii) codification of insurance accounting principles; (iii)
additional investment restrictions; and (iv) restrictions on an insurance
company's ability to pay dividends. The NAIC is currently developing new model
laws or regulations, including: (i) product design standards; (ii) reserve
requirements; and (iii) product illustrations.
The RBC standards establish capital requirements for insurance companies
based on the ratio of the company's total adjusted capital (defined as the total
of its statutory capital, surplus, asset valuation reserve and certain other
adjustments) to its RBC. The standards are designed to help identify companies
which are under capitalized and require specific regulatory actions in the event
an insurer's RBC falls below specified levels. Each of our life insurance
subsidiaries has more than enough statutory capital to meet the standards as of
December 31, 1998.
The NAIC has adopted model long-term care policy language providing
nonforfeiture benefits and has proposed a rate stabilization standard for
long-term care policies. Various bills are proposed from time to time in the
U.S. Congress which would provide for the implementation of certain minimum
consumer protection standards for inclusion in all long-term care policies,
including guaranteed renewability, protection against inflation and limitations
on waiting periods for pre-existing conditions. Federal legislation permits
premiums paid for qualified long-term care insurance to be treated as
tax-deductible medical expenses and for benefits received on such policies to be
excluded from taxable income.
In addition, our insurance subsidiaries are required under guaranty fund
laws of most states in which we transact business, to pay assessments up to
prescribed limits to fund policyholder losses or liabilities of insolvent
insurance companies.
Most states mandate minimum benefit standards and loss ratios for accident
and health insurance policies. We are generally required to maintain, with
respect to our individual long-term care policies, minimum anticipated loss
ratios over the entire period of coverage of not less than 60 percent. With
respect to our Medicare supplement policies, we are generally required to attain
and maintain an actual loss ratio, after three years, of not less than 65
percent. We provide, to the insurance departments of all states in which we
conduct business, annual calculations that demonstrate compliance with required
minimum loss ratios for both long-term care and Medicare supplement insurance.
These calculations are prepared utilizing statutory lapse and interest rate
assumptions. In the event we have failed to maintain minimum mandated loss
ratios, our insurance subsidiaries could be required to provide retrospective
refunds and/or prospective rate reductions. We believe that our insurance
subsidiaries currently comply with all applicable mandated minimum loss ratios.
NAIC model regulations, adopted in substantially all states, created 10
standard Medicare supplement plans (Plans A through J). Plan A provides the
least extensive coverage, while Plan J provides the most extensive coverage.
Under NAIC regulations, Medicare insurers must offer Plan A, but may offer any
of the other plans at their option. Conseco currently offers nine of the model
plans. We have declined to offer Plan J, due in part to its high benefit levels
and, consequently, high costs to the consumer.
Numerous proposals to reform the current health care system (including
Medicare) have been introduced in Congress and in various state legislatures.
Proposals have included, among other things, modifications to the existing
employer-based insurance system, a quasi-regulated system of "managed
competition" among health plans, and a single-payer, public program. Changes in
health care policy could significantly affect our business. For example, Federal
comprehensive major medical or long-term care programs, if proposed and
implemented, could partially or fully replace some of Conseco's current
products.
A number of states have passed or are considering legislation that would
limit the differentials in rates that insurers could charge for health care
coverages between new business and renewal business for similar demographic
groups. State legislation has also been adopted or is being considered that
would make health insurance available to all small groups by requiring coverage
of all employees and their dependents, by limiting the applicability of
pre-existing conditions exclusions, by requiring insurers to offer a basic plan
exempt from certain benefits as well as a standard plan, or by establishing a
mechanism to spread the risk of high risk
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employees to all small group insurers. Congress and various state legislators
have from time to time proposed changes to the health care system that could
affect the relationship between health insurers and their customers, including
external review.
We cannot predict with certainty the effect that any proposals, if adopted,
or legislative developments could have on our insurance businesses and
operations.
FINANCE
The Company's finance operations are subject to regulation by certain
federal and state regulatory authorities. A substantial portion of the Company's
consumer loans and assigned sales contracts are originated or purchased by
finance subsidiaries licensed under applicable state law. The licensed entities
are subject to examination by and reporting requirements of the state
administrative agencies issuing such licenses. The finance subsidiaries are
subject to state laws and regulations which in certain states: limit the amount,
duration and charges for such loans and contracts; require disclosure of certain
loan terms and regulate the content of documentation; place limitations on
collection practices; and govern creditor remedies. The licenses granted are
renewable and may be subject to revocation by the respective issuing authority
for violation of such state's laws and regulations.
In addition to the finance companies licensed under state law, both Conseco
Bank and Retail Bank are under the supervision of, and subject to examination
by, the Federal Deposit Insurance Corporation. Conseco Bank is also supervised
and examined by the Utah Department of Financial Institutions. Retail Bank is
supervised and examined by the South Dakota Department of Banking. The ownership
of these entities does not subject the Company to regulation by the Federal
Reserve Board as a bank holding company. Conseco Bank has the authority to
engage generally in the banking business and may accept all types of deposits,
other than demand deposits. Retail Bank is limited by its charter to engage in
the credit card business and may issue only certificates of deposit in
denominations of $100,000 or greater. Conseco Bank and Retail Bank are subject
to regulation relating to capital adequacy, leverage, loans, deposits, consumer
protection, community reinvestment, payment of dividends, and transactions with
affiliates.
A number of states have usury and other consumer protection laws which may
place limitations on the amount of interest charged on loans originated in such
state. Generally, state law has been preempted by federal law under the
Depositary Institutions Deregulation and Monetary Control Act of 1980 ("DIDA")
which deregulates the rate of interest, discount points and finance charges with
respect to first lien residential loans, including manufactured home loans and
real estate secured mortgage loans. As permitted under DIDA, a number of states
enacted legislation timely opting out of coverage of either or both of the
interest rate and/or finance charge provisions of the Act. States may no longer
opt out of the interest rate provisions of the Act, but could in the future opt
out of the finance charge provisions. To be eligible for federal preemption for
manufactured home loans, the Company's licensed finance companies must comply
with certain restrictions providing protection to consumers. In addition,
another provision of DIDA applicable to state-chartered insured depository
institutions, permits both Conseco Bank and Retail Bank to export interest rate,
finance charges and certain fees from the states where they are located to all
other states, with the exception of Iowa which opted out of the Act during the
permitted time period. Interest rates, finance charges and fees in Utah and
South Dakota are, for the most part, deregulated.
The Company's operations are subject to federal regulation under other
applicable federal laws and regulations, the more significant of which include:
the Truth in Lending Act ("TILA"); the Equal Credit Opportunity Act ("ECOA");
the Fair Credit Reporting Act ("FCRA"); the Real Estate Settlement and
Procedures Act ("RESPA"); the Home Mortgage Disclosure Act ("HMDA"); the Home
Owner Equity Protection Act ("HOEPA"); and certain rules and regulations of the
Federal Trade Commission ("FTC Rules").
TILA and Regulation Z promulgated thereunder contain certain disclosure
requirements designed to provide consumers with uniform, understandable
information with respect to the terms and conditions of extensions of credit and
the ability to compare credit terms. TILA also provides consumers with a three
day right to cancel certain credit transactions, including certain of the loans
originated by the Company.
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ECOA requires certain disclosures to applicants for credit concerning
information that is used as a basis for denial of credit and prohibits
discrimination against applicants with respect to any aspect of a credit
transaction on the basis of sex, race, color, religion, national origin, age,
marital status, derivation of income from a public assistance program or the
good faith exercise of a right under TILA. ECOA also requires that adverse
action notices be given to applicants who are denied credit.
FCRA regulates the process of obtaining, using and reporting of credit
information on consumers. This Act also regulates the use of credit information
among affiliates.
RESPA regulates the disclosure of information for consumers in loans
involving a mortgage on real estate. The Act and related regulations also govern
payment for and disclosure of payments for settlement services in connection
with mortgage loans and prohibits the payment of referral fees for the referral
of a loan or related services.
HMDA requires reporting of certain information to the Department of Housing
and Urban Development, including the race and sex of applicants in connection
with mortgage loan applications. A lender is required to obtain and report such
information if the application is made in person, but is not required to obtain
such information if the application is taken over the telephone.
HOEPA provides for additional disclosure and regulation of certain consumer
mortgage loans which are defined by the Act as "Covered Loans." A Covered Loan
is a mortgage loan (other than a mortgage loan to finance the initial purchase
of a dwelling) which (1) has total origination fees in excess of the greater of
eight percent of the loan amount, or $441, or (2) has an annual percentage rate
of more than ten percent higher than comparably maturing United States treasury
obligations. A number of the Company's home equity and home improvement loans
are Covered Loans under the Act.
The FTC Rules provide, among other things, that in connection with the
purchase of consumer sales finance contracts from dealers, the holder of the
contract is subject to all claims and defenses which the consumer could assert
against the dealer, but the consumer's recovery under such provisions cannot
exceed the amount paid under the sales contract.
In the judgment of the Company, existing federal and state law and
regulations have not had a material adverse effect on the finance operations of
the Company. There can, however, be no assurance that future law and regulatory
changes will not occur and will not place additional burdens on the Company's
finance operations.
The Company's commercial lending operations are not subject to material
regulation in most states, although certain states do require licensing. In
addition, certain provisions of ECOA apply to commercial loans to small
businesses.
FEDERAL INCOME TAXATION
The annuity and life insurance products marketed and issued by our
insurance subsidiaries generally provide the policyholder with an income tax
advantage, as compared to other savings investments such as certificates of
deposit and bonds, in that income taxation on the increase in value of the
product is deferred until it is received by the policyholder. With other savings
investments, the increase in value is taxed as earned. Annuity benefits and life
insurance benefits, which accrue prior to the death of the policyholder, are
generally not taxable until paid. Life insurance death benefits are generally
exempt from income tax. Also, benefits received on immediate annuities (other
than structured settlements) are recognized as taxable income ratably, as
opposed to the methods used for some other investments which tend to accelerate
taxable income into earlier years. The tax advantage for annuities and life
insurance is provided in the Internal Revenue Code (the "Code"), and is
generally followed in all states and other United States taxing jurisdictions.
From time to time, various tax law changes have been proposed that could
have an adverse effect on our business, including elimination of all or a
portion of the income tax advantage of certain insurance products.
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The Clinton administration, in its Revenue Proposal as released in February
1999, has proposed changes in how life insurance companies are taxed; such
changes could increase the Company's current tax liability.
Our insurance company subsidiaries are taxed under the life insurance
company provisions of the Code. Provisions in the Code require a portion of the
expenses incurred in selling insurance products to be deducted over a period of
years, as opposed to immediate deduction in the year incurred. This provision
increases the tax for statutory accounting purposes, which reduces statutory
surplus and, accordingly, decreases the amount of cash dividends that may be
paid by the life insurance subsidiaries. As of December 31, 1998, the cumulative
taxes paid by our insurance subsidiaries as a result of this provision were
approximately $350 million.
The Company had tax loss carryforwards at December 31, 1998, of
approximately $1.0 billion, portions of which begin expiring in 2002. However,
the amount of such loss that may be offset against current taxable income is
subject to the following limitations: (i) losses may be offset against income of
other corporate entities only if such entities are included in the same
consolidated tax return (insurance companies are currently not eligible for
inclusion in Conseco's consolidated tax return until five years after they are
acquired); (ii) losses incurred in non-life companies (which comprise most of
the loss carryforwards) may offset only a portion of income from life companies
in the same consolidated tax return; and (iii) some loss carryforwards may not
be used to offset taxable income of entities acquired after the loss was
incurred. We, however, believe we will be able to utilize all current loss
carryforwards before they expire.
ITEM 2. PROPERTIES.
Headquarters. Our headquarters is located on a 170-acre corporate campus in
Carmel, Indiana, immediately north of Indianapolis. The 11 buildings on the
campus (all but one of which are owned) contain approximately 810,000 square
feet of space and house Conseco's executive offices and certain administrative
operations of its subsidiaries. The campus has ample room for additional
buildings to support future growth.
Insurance operations. Our supplemental health products are primarily
administered from a single facility of 300,000 square feet in downtown Chicago,
Illinois, leased under an agreement having a remaining life of nine years. We
also lease approximately 130,000 square feet of warehouse space in a second
Chicago facility; this lease has a remaining life of four years. Conseco owns an
office building in Kokomo, Indiana (100,000 square feet), and two office
buildings in Rockford, Illinois (total of 169,000 square feet), which serve as
administrative centers for portions of our insurance operations. Conseco owns
one office building in Philadelphia, Pennsylvania (127,000 square feet), which
serves as the administrative center for our direct response life insurance
operations; approximately 60 percent of this space is occupied by the Company,
with the remainder leased to tenants. Conseco leases 24,000 square feet of
office space in Bensalem, Pennsylvania, with a remaining lease term of one year.
Conseco leases 22,000 square feet of office space in Schaumburg, Illinois, for
use by our major medical marketing and certain information technology
operations. Conseco also leases 220 sales offices in various states totaling
approximately 375,000 square feet; these leases are short-term in length, with
remaining lease terms ranging from one to five years.
Finance operations. Certain corporate servicing operations are housed in
Saint Paul, Minnesota, in 110,000 square feet of a building owned by the
Company. The finance segment operates 51 manufactured housing regional service
centers and three commercial finance business centers. Such offices are leased,
typically for a term of three to five years, and range in size from 1,700 to
22,000 square feet. We also operate a central servicing center in Rapid City,
South Dakota. The lease on this facility is for a term of five years, with an
option to purchase, and consists of 137,000 square feet. The home improvement
and consumer product divisions lease their main office in Saint Paul, Minnesota.
The lease is for a term of five years and consists of 125,000 square feet. The
home equity business has operations in six regional locations and 114 regional
satellite offices, plus a service center in Tempe, Arizona, which opened in
February 1997. The equipment and leasing business is housed in leased facilities
in Bloomington, Minnesota (22,000 square feet) and Paramus, New Jersey (44,000
square feet). The finance division's insurance business and certain corporate
functions are housed in a leased facility in Eagan, Minnesota. This facility
provides 83,000 square feet with a lease commitment of two years.
17
18
ITEM 3. LEGAL PROCEEDINGS.
Green Tree has been served with various related lawsuits which were filed
in the United States District Court for the District of Minnesota. These
lawsuits were filed as purported class actions on behalf of persons or entities
who purchased common stock or options of Green Tree during the alleged class
periods that generally run from February 1995 to January 1998. One such action
did not include class action claims. In addition to Green Tree, certain current
and former officers and directors of Green Tree are named as defendants in one
or more of the lawsuits. Green Tree and other defendants have obtained an order
from the United States District Court for the District of Minnesota
consolidating the lawsuits seeking class action status into two actions: one
which pertains to a purported class of common stockholders and the other which
pertains to a purported class of stock option traders. Plaintiffs in the
lawsuits assert claims under Sections 10(b) and 20(a) of the Securities Exchange
Act of 1934. In each case, plaintiffs allege that Green Tree and the other
defendants violated federal securities laws by, among other things, making false
and misleading statements about the current state and future prospects of Green
Tree (particularly with respect to prepayment assumptions and performance of
certain loan portfolios of Green Tree) which allegedly rendered Green Tree's
financial statements false and misleading. The Company believes that the
lawsuits are without merit and intends to defend such lawsuits vigorously.
However, the ultimate outcome of these lawsuits cannot be predicted with
certainty. Green Tree has filed motions, which are pending, to dismiss these
lawsuits.
In addition, the Company and its subsidiaries are involved on an ongoing
basis in lawsuits related to its operations. Although the ultimate outcome of
certain of such matters cannot be predicted, none of such lawsuits currently
pending against the Company or its subsidiaries is expected, individually or in
the aggregate, to have a material adverse effect on the Company's consolidated
financial condition, cash flows or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
18
19
OPTIONAL ITEM. EXECUTIVE OFFICERS OF THE REGISTRANT.
POSITIONS WITH CONSECO, PRINCIPAL
OFFICER NAME AND AGE(A) SINCE OCCUPATION AND BUSINESS EXPERIENCE(B)
----------------------- ----- -------------------------------------
Stephen C. Hilbert, 53............... 1979 Since 1979, Chairman of the Board and Chief Executive
Officer and, since 1988, President of Conseco.
Ngaire E. Cuneo, 48.................. 1992 Since 1992, Executive Vice President, Corporate
Development and, since 1994, Director of Conseco.
Rollin M. Dick, 67................... 1986 Since 1986, Executive Vice President, Chief Financial
Officer and Director of Conseco.
John J. Sabl, 47..................... 1997 Since 1997, Executive Vice President, General Counsel
and Secretary of Conseco; from 1983 to 1997 Partner in
the law firm of Sidley & Austin.
Thomas J. Kilian, 48................. 1998 Since 1998, Executive Vice President and Chief
Operations Officer of Conseco and President of Conseco
Marketing, LLC; since 1996, President of Conseco
Services, LLC (responsible for insurance operations,
data processing, human resources and administrative
services for various Conseco subsidiaries); from 1989
to 1996, Senior Vice President of data processing for
various Conseco subsidiaries.
James S. Adams, 39................... 1997 Since 1997, Senior Vice President, Chief Accounting
Officer and Treasurer of Conseco; from 1989 to
present, Senior Vice President and Treasurer of
various Conseco subsidiaries.
Maxwell E. Bublitz, 43............... 1998 Since 1998, Senior Vice President, Investments of
Conseco; from 1994 to present, President and Chief
Executive Officer of Conseco Capital Management, Inc.,
a subsidiary of Conseco.
Bruce A. Crittenden, 47.............. 1999 Since 1999, Senior Vice President and
President-Finance Group of Conseco; from 1996 to
present, Executive Vice President, from 1997 to
present, President, Retail/Mortgage Services and Home
Improvement Divisions, from 1995 to 1996, Senior Vice
President of Green Tree Financial Corporation, a
subsidiary of Conseco; from 1972 to 1995, various
officer positions with Household International, Inc.,
including Managing Director (1993-1995), Senior Vice
President (1991-1993) and Chief Operating Officer
(1988-1991).
- -------------------------
(a) The executive officers serve as such at the discretion of the Board of
Directors and are elected annually.
(b) Business experience is given for at least the last five years.
19
20
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS.
MARKET INFORMATION
The common stock of Conseco (trading symbol "CNC") has been listed for
trading on the New York Stock Exchange (the "NYSE") since 1986. The following
table sets forth the quarterly dividends paid per share and the ranges of high
and low sales prices per share on the NYSE for the last two fiscal years, based
upon information supplied by the NYSE. All applicable per share data have been
adjusted for the two-for-one stock split distributed February 11, 1997.
MARKET PRICE
------------------------------- DIVIDEND
PERIOD HIGH LOW PAID
------ ---- --- --------
1997:
First Quarter............................................. $43 7/8 $30 3/4 $.03125
Second Quarter............................................ 42 7/8 34 1/4 .03125
Third Quarter............................................. 50 35 1/8 .03125
Fourth Quarter............................................ 50 1/16 39 7/8 .12500
1998:
First Quarter............................................. $57 7/8 $38 1/2 $.12500
Second Quarter............................................ 58 1/8 43 3/8 .12500
Third Quarter............................................. 51 3/4 26 5/8 .12500
Fourth Quarter............................................ 38 1/4 22 .14000
As of March 13, 1999, there were approximately 160,000 holders of the
outstanding shares of common stock, including individual participants in
securities position listings.
DIVIDENDS
Cash dividends are paid quarterly at an amount determined by our Board of
Directors. Our general policy is to retain most of our earnings. Retained
earnings have been used: (i) to finance the growth and development of the
Company's business through acquisitions or otherwise; (ii) to pay preferred
stock dividends; (iii) to pay distributions on the Company-obligated mandatorily
redeemable preferred securities of subsidiary trusts; (iv) to repurchase common
stock on those occasions when we have determined that our shares were
undervalued in the market and that the use of funds for stock repurchases would
not interfere with other cash needs; and (v) to pay dividends on common stock.
We have paid all cumulative dividends on our preferred stock and
distributions on our Company-obligated mandatorily redeemable preferred
securities of subsidiary trusts when due. We are prohibited from paying common
stock dividends if such payments are not current. Certain Conseco financing
agreements require the Company to maintain financial ratios which could also
limit our ability to pay dividends.
Our ability to pay dividends depends primarily on the receipt of cash
dividends and other cash payments from our finance and life insurance company
subsidiaries. Our life insurance companies are organized under state laws and
subject to regulation by state insurance departments. These laws and regulations
limit the ability of insurance subsidiaries to make cash dividends, loans or
advances to a holding company such as Conseco. However, these laws generally
permit the payment out of the subsidiary's earned surplus, without prior
approval, of annual dividends which in the aggregate do not exceed the greater
of (or in a few states, the lesser of): (i) the subsidiary's prior year net gain
from operations; or (ii) 10 percent of surplus attributable to policyholders at
the prior year-end, both computed on the statutory basis of accounting
prescribed for insurance companies. See "Management's Discussion and Analysis of
Consolidated Financial Condition and Results of Operations -- Liquidity of
Conseco (parent company)."
20
21
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA (A).
YEARS ENDED DECEMBER 31,
-------------------------------------------------------------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
(AMOUNTS IN MILLIONS, EXCEPT PER SHARE DATA)
STATEMENT OF OPERATIONS DATA
Insurance policy income......................... $ 3,948.8 $ 3,410.8 $ 1,654.2 $ 1,465.0 $ 1,285.6
Gain on sale of finance receivables............. 745.0 779.0 400.6 443.3 318.6
Net investment income:
Assets held by insurance subsidiaries......... 2,078.1 1,825.3 1,302.5 1,142.6 385.7
Finance receivables and other................. 251.3 194.6 125.6 124.7 78.1
Interest-only securities...................... 132.9 125.8 77.2 51.3 33.3
Net investment gains (losses)................... 208.2 266.5 60.8 204.1 (30.5)
Total revenues.................................. 7,716.0 6,846.4 3,789.8 3,561.2 2,357.6
Interest expense:
Corporate..................................... 165.4 109.4 108.1 119.4 59.3
Finance and investment borrowings............. 275.1 202.9 92.1 79.5 49.3
Total benefits and expenses..................... 6,670.3 5,360.7 2,974.0 2,738.5 1,732.9
Income before income taxes, minority interest
and extraordinary charge...................... 1,045.7 1,485.7 815.8 822.7 624.7
Extraordinary charge on extinguishment of debt,
net of tax.................................... 42.6 6.9 26.5 2.1 4.0
Net income(b)................................... 467.1 866.4 452.2 470.9 330.5
Preferred stock dividends and charge related to
induced conversions of convertible preferred
stock......................................... 7.8 21.9 27.4 18.4 18.6
Net income applicable to common stock........... 459.3 844.5 424.8 452.5 311.9
PER SHARE DATA(c)
Net income, basic............................... $ 1.47 $ 2.72 $ 1.85 $ 2.19 $ 1.39
Net income, diluted(b).......................... 1.40 2.52 1.69 2.03 1.32
Dividends declared per common share............. .530 .313 .083 .046 .125
Book value per common share outstanding......... 16.37 16.45 13.47 8.52 5.58
Shares outstanding at year-end.................. 315.8 310.0 293.4 205.2 212.7
Weighted average shares outstanding for diluted
earnings...................................... 332.7 338.7 267.7 232.3 250.5
BALANCE SHEET DATA -- PERIOD END
Total assets.................................... $43,599.9 $40,679.8 $28,724.0 $19,517.7 $12,302.3
Notes payable and commercial paper:
Corporate..................................... 2,932.2 2,354.9 1,094.9 871.4 191.8
Finance....................................... 2,389.3 1,863.0 762.5 383.6 309.3
Notes payable of affiliates, not direct
obligations of Conseco...................... -- -- -- 584.7 611.1
Total liabilities............................... 36,229.4 34,082.0 23,810.2 17,082.7 10,509.2
Minority interests in consolidated subsidiaries:
Company-obligated mandatorily redeemable
preferred securities of subsidiary trusts... 2,096.9 1,383.9 600.0 -- --
Preferred stock............................... -- -- 97.0 110.7 130.1
Common stock.................................. -- -- -- 292.6 191.6
Shareholders' equity............................ 5,273.6 5,213.9 4,216.8 2,031,7 1,471.4
OTHER FINANCIAL DATA(c)(d)
Premiums and deposits collected (e)............. $ 6,081.3 $ 5,075.6 $ 3,280.2 $ 3,106.5 $ 1,879.1
Operating earnings(f)........................... 1,046.3 991.8 467.5 381.8 331.8
Operating earnings per diluted common
share(f)...................................... 3.15 2.93 1.75 1.64 1.33
Managed finance receivables..................... 37,199.8 27,957.1 20,072.7 13,887.6 9,821.1
Total managed assets (at fair value)(g)......... 87,247.4 70,259.8 59,084.8 42,711.4 32,806.9
Shareholders' equity excluding unrealized
appreciation (depreciation) of fixed maturity
securities(h)................................. 5,285.5 5,036.7 4,177.0 1,919.1 1,609.1
Book value per common share outstanding,
excluding unrealized appreciation
(depreciation) of fixed maturity
securities(h)................................. 16.40 15.88 13.33 7.97 6.23
Finance originations............................ $21,422.0 $15,647.8 $10,544.3 $ 6,891.0 $ 4,065.6
Delinquencies greater than 60 days as a
percentage of managed finance receivables..... 1.19% 1.08% 1.08% .93% .70%
Net credit losses as a percentage of average
managed finance receivables................... 1.03% 1.05% .74% .56% .63%
21
22
- -------------------------
(a) Comparison of selected supplemental consolidated financial data in the
table above is significantly affected by the following business
combinations accounted for as purchases: Washington National Corporation
(effective December 1, 1997); Colonial Penn Life Insurance Company and
Providential Life Insurance Company (September 30, 1997); Pioneer Financial
Services, Inc. (April 1, 1997); Capitol American Financial Corporation
(January 1, 1997); Transport Holdings Inc. (December 31, 1996); American
Travellers Corporation (December 31, 1996); FINOVA Acquisition I, Inc.
(December 1, 1996); Life Partners Group, Inc. (July 1, 1996); and American
Life Holdings, Inc. (September 29, 1994). All financial data have been
restated to give retroactive effect to the merger with Green Tree accounted
for as a pooling of interests.
(b) Net income of $467.1 million for the year ended December 31, 1998, or $1.40
per diluted share, included nonrecurring and impairment charges totaling
$503.8 million (net of taxes), or $1.52 per share. Such amounts were
comprised of (i) $148.0 million of merger-related costs; (ii) $549.4
million to write down the carrying value of Green Tree's interest-only
securities and servicing rights; and (iii) income taxes of $193.6 million.
(c) All share and per-share amounts have been restated to reflect the
two-for-one stock splits paid on February 11, 1997 and April 1, 1996.
(d) Amounts under this heading are included to assist the reader in analyzing
the Company's financial position and results of operations. Such amounts
are not intended to, and do not, represent insurance policy income, net
income, net income per share, shareholders' equity or book value per share
prepared in accordance with generally accepted accounting principles
("GAAP").
(e) Includes premiums received from universal life products and products
without mortality or morbidity risk. Such premiums are not reported as
revenues under GAAP and were $2,585.7 million in 1998; $2,099.4 million in
1997; $1,881.3 million in 1996; $1,757.5 million in 1995; and $634.6
million in 1994. Also includes deposits in mutual funds and certificates of
deposits totaling $117.1 million in 1998 and $19.9 million in 1997.
(f) Represents income before extraordinary charge, net investment gains
(losses) of our life insurance and corporate segments (less that portion of
amortization of cost of policies purchased and cost of policies produced
and income taxes relating to such gains (losses)), and nonrecurring and
impairment charges (net of income taxes).
(g) Represents: (i) our assets, excluding finance receivables, interest-only
securities and servicing assets, of $38.9 billion, $37.2 billion, $26.4
billion, $17.9 billion, and $11.3 billion at December 31, 1998, 1997, 1996,
1995 and 1994, respectively; (ii) the total fixed and revolving credit
receivables that Green Tree manages, including receivables on its balance
sheet and receivables applicable to the holders of asset-backed securities
sold by Green Tree of $37.2 billion, $28.0 billion, $20.1 billion, $13.9
billion, and $9.8 billion at December 31, 1998, 1997, 1996, 1995 and 1994,
respectively; and (iii) the total market value of the investment portfolios
managed by CCM, excluding assets of Conseco's subsidiaries, of $11.2
billion, $5.1 billion, $12.6 billion, $10.9 billion and $11.7 billion at
December 31, 1998, 1997, 1996, 1995 and 1994, respectively.
(h) Excludes the effects of reporting fixed maturities at fair value and
recording the unrealized gain or loss on such securities as a component of
shareholders' equity, net of tax and other adjustments.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF CONSOLIDATED FINANCIAL CONDITION
AND RESULTS OF OPERATIONS.
In this section, we review the consolidated financial condition of Conseco
at December 31, 1998 and 1997, the consolidated results of operations for the
three years ended December 31, 1998, and where appropriate, factors that may
affect future financial performance. We have prepared all financial information
to give retroactive effect to the merger with Green Tree (the "Green Tree
Merger") accounted for as a pooling of interests. Please read this discussion in
conjunction with the accompanying consolidated financial statements, notes and
selected consolidated financial data.
22
23
All statements, trend analyses and other information contained in this
report and elsewhere (such as in filings by the Company with the Securities and
Exchange Commission, press releases, presentations by the Company or its
management or oral statements) relative to markets for the Company's products
and trends in the Company's 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. Such factors include,
among other things: (i) general economic conditions and other factors, including
prevailing interest rate levels, stock and credit market performance and health
care inflation, which may affect (among other things) the Company's ability to
sell its products, its ability to make loans and access capital resources and
the costs associated therewith, the market value of the Company's investments,
the lapse rate and profitability of policies, and the level of defaults and
prepayments of loans made by the Company; (ii) the Company's ability to achieve
anticipated synergies and levels of operational efficiencies; (iii) customer
response to new products, distribution channels and marketing initiatives; (iv)
mortality, morbidity, usage of health care services and other factors which may
affect the profitability of the Company's insurance products; (v) changes in the
Federal income tax laws and regulations which may affect the relative tax
advantages of some of the Company's products; (vi) increasing competition in the
sale of insurance and annuities and in the finance business; (vii) regulatory
changes or actions, including those relating to regulation of financial services
affecting (among other things) bank sales and underwriting of insurance
products, regulation of the sale, underwriting and pricing of products, and
health care regulation affecting health insurance products; (viii) the ability
to achieve Year 2000 readiness for significant systems and operations on a
timely basis; (ix) the availability and terms of future acquisitions; and (x)
the risk factors or uncertainties listed from time to time in the Company's
filings with the Securities and Exchange Commission.
CONSOLIDATED RESULTS AND ANALYSIS
Net income of $467.1 million in 1998, or $1.40 per diluted share, included
(i) net investment losses (net of related costs, amortization and taxes) of
$32.8 million, or 10 cents per share; (ii) an extraordinary charge (net of
taxes) of $42.6 million, or 13 cents per share, related to early retirement of
debt; (iii) the impairment loss (net of taxes) of $355.8 million, or $1.08 per
share, to reduce the value of interest-only securities and servicing rights; and
(iv) a nonrecurring charge (net of taxes) of $148.0 million, or $.44 per share,
related primarily to merger costs incurred in conjunction with the Green Tree
Merger.
Net income of $866.4 million in 1997, or $2.52 per diluted share, included:
(i) net investment gains (net of related costs, amortization and taxes) of $44.1
million, or 13 cents per diluted share; (ii) an extraordinary charge of $6.9
million, or 2 cents per share, related to early retirement of debt; (iii) a
charge of 4 cents per share related to the induced conversion of preferred stock
(treated as a preferred stock dividend); (iv) an impairment loss totaling $117.8
million or 35 cents per share and (v) nonrecurring charges totaling $44.8
million, or 13 cents per share. Nonrecurring charges included: (i) $40.5 million
related to premium deficiencies on our Medicare supplement business in the state
of Massachusetts; and (ii) $4.3 million related to the death of an executive
officer. The impairment loss represents a charge to reduce the value of
interest-only securities and servicing rights generally due to adverse
prepayments.
Net income of $452.2 million in 1996, or $1.69 per diluted share, included:
(i) net investment gains (net of related costs, amortization and taxes) of $11.2
million, or 4 cents per diluted share; and (ii) an extraordinary charge of $26.5
million, or 10 cents per share, related to early retirement of debt.
Total revenues included net investment gains of $208.2 million in 1998,
$266.5 million in 1997 and $60.8 million in 1996. Excluding net investment
gains, total revenues were $7.5 billion in 1998, up 14 percent over 1997. Total
revenues, excluding net investment gains, were up 76 percent in 1997 over 1996.
Increases in total revenues in all three years reflect the impact and timing of
acquisitions, as well as growth in both segments.
23
24
RESULTS OF OPERATIONS BY SEGMENT FOR THE THREE YEARS ENDED DECEMBER 31,
1998:
The following tables and narratives summarize our operating results by
business segment.
1998 1997 1996
---- ---- ----
(DOLLARS IN MILLIONS)
Operating earnings:
Operating income of segments before income taxes and
minority interest of segments:
Insurance and fee-based operations (see page 25)..... $1,367.8 $1,116.3 $581.2
Finance operations (see page 28)..................... 584.0 672.6 322.2
Corporate interest and other expenses (see page 31).. (180.4) (126.8) (112.4)
-------- -------- ------
Operating income before income taxes and minority
interest........................................ 1,771.4 1,662.1 791.0
Income tax related to operating income................. 634.7 618.0 288.6
-------- -------- ------
Operating income before minority interest......... 1,136.7 1,044.1 502.4
Minority interest in consolidated subsidiaries......... 90.4 52.3 34.9
-------- -------- ------
Operating earnings..................................... 1,046.3 991.8 467.5
Nonoperating items:
Impairment charge, net of tax............................. (355.8) (117.8) --
Nonrecurring charge, net of tax........................... (148.0) (44.8) --
Net investment gains (losses), net of tax and other
items.................................................. (32.8) 44.1 11.2
-------- -------- ------
Income before extraordinary charge................... 509.7 873.3 478.7
Extraordinary charge, net of tax............................ 42.6 6.9 26.5
-------- -------- ------
Net income........................................... $ 467.1 $ 866.4 $452.2
======== ======== ======
24
25
INSURANCE AND FEE-BASED OPERATIONS
1998 1997 1996
---- ---- ----
(DOLLARS IN MILLIONS)
Premiums and deposits collected:
Annuities................................................. $ 1,999.1 $ 1,689.7 $ 1,670.3
Supplemental health....................................... 2,037.4 1,843.5 810.8
Life...................................................... 928.8 709.2 403.6
Individual and group major medical........................ 878.2 744.0 341.0
Other..................................................... 120.7 69.3 54.5
Mutual funds.............................................. 87.1 19.9 --
Certificates of deposit................................... 30.0 -- --
--------- --------- ---------
Total premiums and deposits collected............. $ 6,081.3 $ 5,075.6 $ 3,280.2
========= ========= =========
Average insurance liabilities:
Annuities:
Mortality based........................................ $ 689.5 $ 617.4 $ 568.4
Equity-linked.......................................... 902.5 254.0 --
Deposit based.......................................... 11,649.6 11,336.4 10,483.0
Health.................................................... 4,452.0 3,626.5 1,083.3
Life:
Interest sensitive..................................... 4,131.4 3,256.2 1,963.2
Non-interest sensitive................................. 2,762.9 2,284.7 1,478.8
--------- --------- ---------
Total average insurance liabilities, net of
reinsurance receivables......................... $24,587.9 $21,375.2 $15,576.7
========= ========= =========
Insurance policy income..................................... $ 3,948.8 $ 3,410.8 $ 1,654.2
Net investment income:
General account invested assets........................... 1,927.0 1,715.6 1,254.1
Equity-indexed products based on S&P 500 Index............ 103.9 39.4 --
Separate account assets................................... 51.0 70.3 48.4
Fee revenue and other income................................ 91.3 65.8 49.8
--------- --------- ---------
Total revenues(a)................................. 6,122.0 5,301.9 3,006.5
--------- --------- ---------
Insurance policy benefits................................... 2,704.8 2,368.3 1,195.0
Amounts added to policyholder account balances:
Annuity and universal life products other than those
listed below........................................... 728.6 697.1 620.2
Equity-indexed products based on S&P 500 Index............ 96.1 39.3 --
Variable annuity products................................. 51.0 70.3 48.4
Amortization related to operations.......................... 493.6 408.8 240.0
Interest expense on investment borrowings................... 65.3 42.0 22.0
Other operating costs and expenses.......................... 614.8 559.8 299.7
--------- --------- ---------
Total benefits and expenses (a)................... 4,754.2 4,185.6 2,425.3
--------- --------- ---------
Operating income before income taxes, minority
interest and extraordinary charge............... 1,367.8 1,116.3 581.2
Net investment gains (losses), net of related costs and
amortization.............................................. (28.3) 85.3 24.8
Nonrecurring charges........................................ -- (62.4) --
--------- --------- ---------
Income before income taxes, minority interest and
extraordinary charge............................ $ 1,339.5 $ 1,139.2 $ 606.0
========= ========= =========
25
26
1998 1997 1996
---- ---- ----
(DOLLARS IN MILLIONS)
Ratios:
Investment income, net of interest credited on annuities
and universal life products and interest expense on
borrowings, as a percentage of insurance liabilities... 4.45% 4.35% 3.73%
Operating costs and expenses as a percentage of average
insurance liabilities, net of reinsurance.............. 4.51% 4.53% 3.46%
Health loss ratios:
All health lines:
Insurance policy benefits and in reserves.............. $ 2,020.5 $ 1,837.5 $ 857.7
Loss ratio............................................. 67.35% 68.86% 70.90%
Medicare supplement:
Insurance policy benefits and in reserves.............. $ 604.2 $ 544.5 $ 422.9
Loss ratio............................................. 68.30% 69.13% 68.19%
Long-term care:
Insurance policy benefits and in reserves.............. $ 477.1 $ 433.4 $ 109.0
Loss ratio............................................. 66.88% 63.56% 58.67%
Specified disease:
Insurance policy benefits and in reserves.............. $ 212.7 $ 239.6 --
Loss ratio............................................. 55.57% 61.64% --
Major medical:
Insurance policy benefits and in reserves.............. $ 633.1 $ 579.6 $ 300.0
Loss ratio............................................. 72.52% 77.99% 85.74%
Other:
Insurance policy benefits and in reserves.............. $ 93.4 $ 40.4 $ 25.8
Loss ratio............................................. 68.78% 60.11% 48.50%
- -------------------------
(a) Revenues exclude net investment gains (losses); benefits and expenses
exclude amortization related to realized gains.
General: Conseco's life insurance subsidiaries develop, market and
administer annuity, supplemental health, individual life insurance, individual
and group major medical and other insurance products. We distribute these
products through a career agency force, professional independent producers and
direct response marketing. The segment's 1998 results were affected by several
recent acquisitions, including: Pioneer Financial Services, Inc. (acquired April
1, 1997); Colonial Penn Life Insurance Company and Providential Life Insurance
Company (September 30, 1997); and Washington National Corporation (December 1,
1997).
Premiums and deposits collected in 1998 were $6.1 billion, up 20 percent
over 1997. Premiums and deposits collected in 1997 were $5.1 billion, up 55
percent over 1996. These increases were primarily due to recent acquisitions and
premium rate increases. On a pro forma basis, including in all periods premiums
and deposits collected by companies owned at year end 1998 (excluding
discontinued health products) collected premiums and deposits increased by 8.4
percent in 1998 and 2.6 percent in 1997.
See "Sales by Insurance Subsidiaries" for further analysis.
Average insurance liabilities, net of reinsurance receivables, were $24.6
billion in 1998, up 15 percent over 1997, and $21.4 billion in 1997, up 37
percent over 1996.
Insurance policy income is comprised of: (i) premiums earned on policies
which provide mortality or morbidity coverage; and (ii) fees and other charges
made against other policies. See "Sales by Insurance Subsidiaries" for further
analysis.
Net investment income on general account invested assets (which excludes
income on separate account assets related to variable annuities and the income
and change in the fair value of S&P 500 Call Options
26
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related to equity-indexed products) increased by 12 percent, to $1,927.0
million, in 1998, and by 37 percent, to $1,715.6 million, in 1997. The average
balance of general account invested assets increased by 17 percent in 1998 to
$26 billion and by 42 percent in 1997 to $22 billion. General account invested
assets increased primarily due to the recent acquisitions. The yield on these
assets decreased by .1 percentage point to 7.5 percent in 1998 and increased by
.1 percentage point to 7.6 percent in 1997. Such fluctuations reflect the
general decreases in investment interest rates over the last three years, offset
by the fluctuations in income from limited partnerships and other investments.
Net investment income related to equity-indexed products based on the S&P
500 Index is substantially offset by a corresponding charge to amounts added to
policyholder account balances for equity-indexed products. Such income and
related charge fluctuated based on the performance of the S&P 500 Index to which
the returns on such products are linked. During 1998, we recorded income from
the S&P 500 Options of $103.9 million and added amounts to policyholders'
account balances of the equity-indexed products of $96.1 million.
Net investment income from separate account assets is offset by a
corresponding charge to amounts added to policyholder account balances for
variable annuity products. Such income and related charge fluctuated in
relationship to total separate account assets and the return earned on such
assets.
Insurance policy benefits increased in 1998 and in 1997 as a result of an
increase in the amount of business in force on which benefits are incurred. The
amount of business increased primarily as a result of recent acquisitions.
The loss ratios for Medicare supplement products have been relatively
stable and within our expectations for the last three years. Governmental
regulations generally require us to attain and maintain a loss ratio, after
three years, of not less than 65 percent.
The net cash flows from our long-term care products generally result in the
accumulation of amounts in the early policy years of a policy (accounted for as
reserve increases) which will be paid out as benefits in later policy years
(accounted for as reserve decreases). Accordingly, during the asset accumulation
phase of these policies, the loss ratio will increase, but the increase in the
change in reserve will be partially offset by investment income earned on the
assets which have accumulated. The increase in the loss ratio during 1998
reflects such an occurrence; the 1998 and 1997 loss ratios also reflect the
different characteristics of long-term care policies sold by recently acquired
companies.
The 1998 loss ratio for specified disease products benefited from favorable
claim developments. These reduced insurance policy benefits and change in
reserves by approximately $10.0 million.
The 1998 and 1997 loss ratios for major medical products reflect recent
premium rate increases and claim management activities. The 1998 loss ratio also
benefited from favorable claim developments.
The loss ratios on our other products have fluctuated over the last three
years primarily because of the different characteristics of policies included in
this category sold by recently acquired companies.
Amounts added to policyholder account balances for interest expense on
annuity products increased by 4.5 percent, to $728.6 million, in 1998, and by 12
percent, to $697.1 million, in 1997. The incre