UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 2002
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OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transaction period from to
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Commission file number 333-64473
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GWL&A FINANCIAL, INC.
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(Exact name of registrant as specified in its charter)
Colorado 84-1474245
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(State or other jurisdiction of incorporation (I.R.S. Employer Identification
or organization) Number)
8515 East Orchard Road, Greenwood Village, CO 80111
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(Address of principal executive offices) (Zip Code)
[303] 737-4128
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(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (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
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Indicate by check mark whether the registrant is an accelerated filer as defined
in ss.240.12(b)-2 of this chapter.
Yes No X
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Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K (ss.229.405 of this chapter) 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. [ ]
The public may read and copy any of the registrant's reports filed with the SEC
at the SEC's Public Reference Room, 450 Fifth Street NW, Washington DC 20549,
telephone 1-800-SEC-0330 or online at (http://www.sec.gov).
As of June 30, 2002, the aggregate market value of the registrant's voting stock
held by non-affiliates of the registrant was $0.
As of March 1, 2003, 50,025 shares of the registrant's common stock were
outstanding, all of which were owned by the registrant's parent company.
TABLE OF CONTENTS
Page
------
Part I Item 1. Business-----------------------------------------
A. Organization and Corporate Structure---------
B. Business of the Company----------------------
C. Employee Benefits ---------------------------
D. Financial Services---------------------------
E. Investment Operations------------------------
F. Regulation-----------------------------------
G. Ratings--------------------------------------
H. Miscellaneous--------------------------------
Item 2. Properties----------------------------------------
Item 3. Legal Proceedings---------------------------------
Item 4. Submission of Matters to a Vote of Security
Holders-------------------------------------------
Part II Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters------------------------------
A. Equity Security Holders and Market
Information----------------------------------
B. Dividends------------------------------------
Item 6. Selected Financial Data---------------------------
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations---------------
A. Company Results of Operations----------------
B. Employee Benefits Results of Operations------
C. Financial Services Results of Operations-----
D. Investment Operations------------------------
E. Liquidity and Capital Resources--------------
F. Obligations Relating to Debt and Leases------
G. Accounting Pronouncements--------------------
Item 7A. Quantitative and Qualitative Disclosure About
Market Risk---------------------------------------
Item 8. Financial Statements and Supplementary Data-------
Item 9. Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure------------
Part III Item 10. Directors and Executive Officers of the
Registrant----------------------------------------
A. Identification of Directors------------------
B. Identification of Executive Officers---------
Item 11. Executive Compensation----------------------------
A. Summary Compensation Table-------------------
B. Options--------------------------------------
C. Pension Plan Table---------------------------
D. Compensation of Directors--------------------
E. Compensation Committee Interlocks and
Insider Participation------------------------
Item 12. Security Ownership of Certain Beneficial
Owners and Management-----------------------------
A. Security Ownership of Certain Beneficial
Owners-----------------------------------------
B. Security Ownership of Management-------------
Item 13. Certain Relationships and Related
Transactions -------------------------------------
Part IV Item 14. Exhibits, Financial Statement Schedules,
and Reports on Form 8-K---------------------------
A. Index to Financial Statements----------------
B. Index to Exhibits----------------------------
C. Reports on Form 8-K--------------------------
Signatures----------------------------------------
PART I
ITEM 1. BUSINESS
A. ORGANIZATION AND CORPORATE STRUCTURE
GWL&A Financial, Inc. (the Company) was incorporated in the State of
Delaware on September 16, 1998 to act as a holding company for
Great-West Life & Annuity Insurance Company (GWL&A) and its
subsidiaries. GWL&A is a stock life insurance company originally
organized in 1907. The Company is domiciled in Colorado.
The Company is indirectly owned by Great-West Lifeco, Inc. (Great-West
Lifeco), a Canadian holding company. Great-West Lifeco operates in the
U.S. through GWL&A, and in Canada through its wholly owned
subsidiary, The Great-West Life Assurance Company (Great-West Life).
Great-West Lifeco is a subsidiary of Power Financial Corporation
(Power Financial), a Canadian holding company with substantial
interests in the financial services industry.
Power Corporation of Canada (Power Corporation), a Canadian holding and
management company, has voting control of Power Financial. Mr. Paul
Desmarais, through a group of private holding companies that he
controls, has voting control of Power Corporation.
In 1999, a trust subsidiary of the Company, Great-West Life & Annuity
Insurance Capital I, issued $175 million of 7.25% Subordinated Capital
Income Securities of which are listed on the New York Stock Exchange.
Shares of Great-West Lifeco, Power Financial, and Power Corporation are
traded publicly in Canada.
B. BUSINESS OF THE COMPANY
GWL&A is authorized to engage in the sale of life insurance, accident
and health insurance, and annuities. It is qualified to do business in
all states in the United States (except New York) and in the District of
Columbia, Puerto Rico, Guam, and the U.S. Virgin Islands. GWL&A conducts
business in New York through its subsidiary, First Great-West Life &
Annuity Insurance Company. GWL&A is also a licensed reinsurer in the
state of New York. Based on the latest available December 31, 2001 data,
the Company ranks 29th in terms of admitted assets of all U.S. life
insurance companies.
The Company operates, through GWL&A, in the following two business
segments:
Employee Benefits - Life and health products for group clients
Financial - Services - Savings products for public, private
and non-profit employers, corporations and
individuals (including 401, 401(k), 403(b),
408, and 457 plans), and life insurance
products for individuals and businesses.
Prior to 2002, the Employee Benefits segment marketed and administered
the Company's 401(k) product. In 2002, the Financial Services division
assumed responsibility for this product. The 2001 and 2000 segment
information has been reclassified to account for this change.
On February 17, 2003, Great-West Lifeco announced a definitive agreement
to acquire Canada Life Financial Corporation for $7.3 billion
(Canadian). Canada Life is a Canadian based insurance company with
business principally in Canada, the United Kingdom, the United States
and Ireland. In the United States, Canada Life sells individual and
group insurance and annuity products. Subject to required shareholder
and regulatory approvals, the transaction is expected to close on July
10, 2003.
Canada Life's U.S. operations represented approximately $1.6 billion in
annual revenue in 2002 and $7.4 billion in assets as of December 31,
2002. If the transaction proceeds, Canada Life's U.S. operations will be
integrated with the Company's operations. The details of the integration
are still to be determined.
The table that follows summarizes premiums and deposits for the years
indicated. For further consolidated financial information concerning the
Company, see Item 6 (Selected Financial Data), and Item 8 (Financial
Statements and Supplementary Data).
For commentary on the information in the following table, see Item 7
(Management's Discussion and Analysis of Financial Condition and Results
of Operations).
[Millions] (1) 2002 2001 2000
------------------------------------- ------------- ------------- -------------
Premium Income
=====================================
Employee Benefits
=====================================
Group life & health $ 960 $ 1,034 $ 1,143
===================================== ------------- ------------- -------------
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Total Employee Benefits 960 1,034 1,143
===================================== ------------- ------------- -------------
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Financial Services
=====================================
Savings 2 9 7
=====================================
Individual insurance 158 161 183
===================================== ------------- ------------- -------------
=====================================
Total Financial Services 160 170 190
===================================== ------------- ------------- -------------
=====================================
Total premium income $ 1,120 $ 1,204 $ 1,333
===================================== ============= ============= =============
Fee Income
=====================================
Employee Benefits
=====================================
Group life & health $ 660 $ 713 $ 649
===================================== ------------- ------------- -------------
=====================================
Total Employee Benefits 660 713 649
===================================== ------------- ------------- -------------
Financial Services
=====================================
Savings 118 120 111
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Individual insurance 18 18 8
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401(k) 87 96 104
===================================== ------------- ------------- -------------
=====================================
Total Financial Services 223 234 223
===================================== ------------- ------------- -------------
=====================================
Total fee income $ 883 $ 947 $ 872
===================================== ============= ============= =============
Deposits for investment-type
=====================================
contracts -
=====================================
Financial Services (2) $ 691 $ 627 $ 835
===================================== ============= ============= =============
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Deposits to Separate Accounts -
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Financial Services $ 2,461 $ 3,240 $ 3,105
===================================== ============= ============= =============
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Self-funded equivalents -
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Employee Benefits (3) $ 5,228 $ 5,721 $ 5,181
===================================== ============= ============= =============
(1) All information in the following table and other tables herein is
derived from information that has been prepared in conformity with
accounting principles generally accepted in the United States of
America, unless otherwise indicated.
(2) Investment-type contracts are contracts that include significant
cash build-up features, as discussed in FASB Statement No. 97.
(3) Self-funded equivalents generally represent paid claims under
minimum premium and administrative services only contracts, which
amounts approximate the additional premiums that could have been
earned under such contracts if they had been written as traditional
indemnity or HMO programs.
C. EMPLOYEE BENEFITS
1. Principal Products
The Employee Benefits segment of the Company provides a full range of
employee benefits products to more than 5,000 employers across the
United States. The Employee Benefits division is in the process of
reorganizing into two units, one of which deals with employer groups
of more than 2,000 employees (handled through the consultant channel)
and the other which deals with employer groups of less than 2,000
employees (handled through the brokerage channel).
The Company offers customers a variety of health plan options to help
them maximize the value of their employee benefits package. The
Company's health care business is primarily self-funded, whereby the
employer assumes all or a significant portion of the risk. For
companies with better than average claims experience, this can result
in significant health care savings.
The Company offers employers a strategic benefits solution - an
integrated package of group life and disability insurance,
managed-care programs and flexible spending accounts. Through
integrated pricing, administration, funding, and service, the Company
helps employers provide cost-effective benefits that will attract and
retain quality employees, and at the same time, helps employees reach
their personal goals by offering benefit choices, along with
information needed to make appropriate choices. Many customers also
find this integrated approach appealing because their benefit plans
are administered through a single company with linked systems that
provide on-line administration and account access, for enhanced
efficiency and simplified plan administration.
The Company offers group disability insurance, which is a type of
health insurance designed to compensate insured people for a portion
of the income they lose because of a disabling injury or illness.
Generally, benefits are in the form of monthly payments.
The Company offers a choice of managed care products including Health
Maintenance Organization (HMO) plans, which provide a high degree of
managed care, Point of Service (POS) plans that offer more
flexibility in provider choice than HMO plans, and Preferred Provider
Organization (PPO) plans.
Under HMO plans, health care for the member is coordinated by a
primary care physician who is responsible for managing all aspects of
the member's health care. HMO plans offer a broad scope of benefits
coverage including routine office visits and preventive care, as well
as lower premiums and low co-payments that minimize out-of-pocket
costs. There are no claims for a member to file when services are
received through a primary care physician.
POS plans also require that a member enroll with a primary care
physician who is responsible for coordinating the member's health
care. Similar to an HMO, members receive the highest benefit coverage
and the lowest out-of-pocket costs when they use their primary care
physician to coordinate their health care. In contrast to an HMO,
members can seek care outside of the primary care physician's
direction, at a reduced level of benefits. Some benefits may not be
covered outside the in-network POS plan.
PPO plans offer members a greater choice of physicians and hospitals.
Members do not need to enroll with a primary care physician - they
simply select a contracted PPO provider at the time of the service to
receive the highest level of benefits. If members seek care outside
of the PPO network, they receive a lower level of benefits.
The One Health Plan HMO subsidiary organization administers provider
networks and provides medical management, member services, and
quality assurance for the other managed care products of the Company.
In addition to creating economies of scale, this "pooling" of PPO,
POS, and HMO membership benefits the Company by improving its
position in negotiating provider reimbursement arrangements that lead
to more competitive pricing.
The Company offers Internal Revenue Code Section 125 and 129 plans
that enable participants to set aside pre-tax dollars to pay for
non-reimbursed medical expenses and dependent care expenses. This
creates tax efficiencies for both the employer and its employees.
The Company offers group life insurance. Sales of group life
insurance consist principally of renewable term coverage, the amounts
of which are usually linked to individual employee wage levels. The
following table shows group life insurance in force prior to
reinsurance ceded for the year indicated:
Years Ended December 31,
-------------------------------------------------------------
[Millions] 2002 2001 2000 1999 1998
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In force
end of year $ 58,572(1) $ 66,539(1) $ 96,311(1) $ 83,901(1) $ 84,121(1)
(1) Includes $5,138, $8,445, $18,397, $25,812, and $25,597 of in
force group life insurance obtained from the acquisition of Alta
for the years ended December 31, 2002, 2001, 2000, 1999, and
1998, respectively. Also includes $11,237 and $14,659 for the
years ended December 31, 2002 and 2001, respectively, of in force
group life insurance obtained from the acquisition of General
American. The 2002 figure was influenced by a decline in total
health care membership. The 2001 figure was influenced by a
decline in total health care membership and the Company's
decision to discontinue certain group life insurance business
obtained through acquisitions.
2. Method of Distribution
The Company distributes its products and services through field sales
staff. As of December 31, 2002, the sales staff was located in 39
sales offices throughout the United States. During March 2003, the
Company consolidated the 39 sales offices into 30 sales offices.
Through these consolidations, the Company will realize increased
efficiencies. Each sales office works with insurance brokers, agents,
and consultants in its local market.
3. Competition
The employee benefits industry is highly competitive. The United
States health care industry continues to experience mergers and
consolidations. A number of larger carriers have dropped out of the
group health market entirely. Although there are still many different
carriers in the marketplace, it has become dominated by an
increasingly smaller number of carriers, including the Company.
The highly competitive marketplace creates pricing pressures that
encourage employers to seek competitive bids each year. Although most
employers are looking for affordably priced employee benefits
products, they also want to offer product choices because employee
needs differ. In many cases it is more cost-effective and efficient
for an employer to contract with a carrier such as the Company that
offers multiple product lines and centralized administration.
In addition to price, there are a number of other factors that
influence employer decision-making. These factors include: quality of
services; scope, cost-effectiveness and quality of provider networks;
product responsiveness to customers' needs; cost-containment
services; and effectiveness of marketing and sales.
4. Reserves
For group whole life and term insurance products, policy reserve
liabilities are equal to the present value of future benefits and
expenses less the present value of future net premiums using best
estimate assumptions for interest, mortality, and expenses (including
margins for adverse deviation). For disability waiver of premium and
paid up group whole life contracts (included within the group life
family of products offered by the Company), the policy reserves equal
the present value of future benefits and expenses using best estimate
assumptions for interest, mortality, morbidity, and expenses
(including margins for adverse deviation). For group universal life
(included within the group life family of products offered by the
Company), the policy reserves equal the accumulated fund balance
(that reflects cumulative deposits plus credited interest less
charges thereon). Reserves for long-term disability products are
established for lives currently in payment status, or that are
approved for payment but are in a waiting period, using industry and
Company morbidity factors, and interest rates based on Company
experience. In addition, reserves are held for claims that have been
incurred but not reported and for long term disability claims that
have been reported but not yet adjudicated.
For medical and dental insurance products, reserves reflect the
ultimate cost of claims including, on an estimated basis, (i) claims
that have been reported but not settled, and (ii) claims that have
been incurred but not reported. Claim reserves are based upon factors
derived from past experience. Reserves also reflect retrospective
experience rating that is done on certain types of business.
Assumptions for mortality and morbidity experience are periodically
reviewed against published industry data and company experience.
The above mentioned reserves are computed amounts that, with
additions from premiums and deposits to be received, and with
interest on such reserves, are expected to be sufficient to meet the
Company's policy obligations such as paying expected death or
retirement benefits or surrender requests and to generate profits.
5. Reinsurance
The Company seeks to limit its exposure on any single insured and to
recover a portion of benefits paid by ceding risks to other insurance
enterprises under excess coverage and co-insurance contracts. The
maximum amount of group life insurance retained on any one life is
$1.5 million and $1.0 million for accidental death coverage. The
maximum amount of group monthly disability income benefit at risk on
any one life is $6,000 per month.
The Company has a marketing and administrative services arrangement
with New England. Effective January 1, 2002, the Company renegotiated
this arrangement to assume the full risk on this block of business.
The Company pays a per member fee for New England customers.
D. FINANCIAL SERVICES
1. Principal Products
The Financial Services segment of the Company develops, administers,
and sells retirement savings and life insurance products and services
for individuals, and for employees of state and local governments,
hospitals, non-profit organizations, public school districts and
corporations.
The Company's core retirement savings business is in the
public/non-profit pension market. The Company provides investment
products, and administrative and communication services, to employees
of state and local governments (Internal Revenue Code Section 457
plans), as well as to employees of hospitals, non-profit
organizations, public school districts, and corporations (Internal
Revenue Code Section 401, 401(k), 403(b), 408, and 457 plans). The
Company provides pension plan administrative services through a
subsidiary company, Financial Administrative Services Corporation
(FASCorp). The Company provides marketing and communication services
through another subsidiary company, BenefitsCorp, Inc., and through
BenefitsCorp Equities, Inc., a broker-dealer subsidiary of
BenefitsCorp, Inc. (collectively, BenefitsCorp).
The Company's primary marketing emphasis in the public/non-profit
pension market is group fixed and variable annuity contracts for
defined contribution retirement savings plans. Defined contribution
plans provide for benefits based upon the value of contributions to,
and investment returns on, the individual's account. This has been
the fastest growing portion of the pension marketplace in recent
years.
The Company has a marketing agreement with Charles Schwab & Co., Inc.
to sell individual fixed and variable qualified and non-qualified
deferred annuities. The fixed product is a Guarantee Period Fund that
was established as a non-unitized separate account in which the owner
does not participate in the performance of the assets. The assets
accrue solely to the benefit of the Company and any gain or loss in
the Guarantee Period Fund is borne entirely by the Company. Guarantee
period durations of one to ten years are currently being offered by
the Company. Distributions from the amounts allocated to a Guarantee
Period Fund more than six months prior to the maturity date results
in a market value adjustment (MVA). The MVA reflects the relationship
as of the time of its calculation between the current U.S. Treasury
Strip ask side yield and the U.S. Treasury Strip ask side yield at
the inception of the contract.
The Company's variable annuity products offer several investment
options. The Company's variable annuity products provide the
opportunity for contractholders to assume the risks of, and receive
the benefits from, the investment of retirement assets. The variable
product assets are invested, as designated by the participant, in
separate accounts that in turn invest in shares of underlying funds
managed by a subsidiary of the Company or by selected external fund
managers.
Demand for investment diversification by customers and their
participants continued to grow during 2002. The Company continues to
expand the fund options available through Maxim Series Fund, Inc., a
subsidiary of the Company that is an insurance products mutual fund
company and through arrangements with external fund managers. The
array of funds allows customers to diversify their investments across
a range of investment products, including fixed income, stock, and
international equity fund offerings.
On a very limited basis, the Company offers single premium annuities
and guaranteed certificates that provide guarantees of principal and
interest with a fixed maturity date.
Customer retention is a key factor for the profitability of
individual annuity products. To encourage customer retention, annuity
contracts typically impose a surrender charge on policyholder
balances withdrawn for a period of time after the contract's
inception. The period of time and level of the charge vary by
product. Existing federal tax penalties on distributions prior to age
59 1/2 provide an additional disincentive to premature surrenders of
annuity balances but do not impede transfers of those balances to
products of competitors.
Annuity products generate earnings from the investment spreads on the
guaranteed investment options and from the fees collected for
mortality and expense risks associated with the variable options. The
Company also receives fees for providing administrative services to
contractholders. A subsidiary of the Company receives fees for
serving as an investment advisor for underlying funds that are
managed by the subsidiary.
The Company's annuity products are supported by the general account
assets of the Company for guaranteed investment options, and the
separate account assets for the variable investment options.
The amount of annuity products in force is measured by policy
reserves. The following table shows guaranteed investment contract
and group and individual annuity policy reserves for the years
indicated:
Guaranteed
Year ended Investment Fixed Variable
December 31, Contracts Annuities Annuities
-------------------- ----------------- ----------------- ------------------
[millions] [millions] [millions]
1998 $ 275 $ 4,849 $ 4,318
1999 105 4,592 4,935
2000 103 4,394 5,081
2001 89 4,385 5,304
2002 93 4,333 5,011
In addition to providing administrative services to customers of the
Company's annuities, FASCorp also provides comprehensive third party
administrative and recordkeeping services for other financial
institutions and employer-sponsored retirement plans. Assets under
administration with FASCorp from public/non-profit and third party
administration customers totaled $26.5 billion at December 31, 2002
and $28.1 billion at December 31, 2001.
Life insurance products in force include participating and
non-participating term life, whole life, and universal life.
Participating policyholders share in the financial results
(differences in experience of actual financial results versus pricing
expectations) of the participating business in the form of dividends.
Participating products are no longer actively marketed by the Company
but continued to produce renewal premium of $122.6 million, $132.7
million, and $152.3 million in 2002, 2001, and 2000, respectively.
Participating dividends of $78.9 million, $76.5 million, and $74.4
million were paid in 2002, 2001, and 2000, respectively. The
provision for participating policyholder earnings is reflected in
liabilities in undistributed earnings on participating policyholders
in the consolidated balance sheets of the Company. Participating
policyholder earnings are not included in the consolidated net income
of the Company.
Term life provides coverage for a stated period and pays a death
benefit only if the insured dies within the period. Whole life
provides guaranteed death benefits and level premium payments for the
life of the insured. Universal life products include a cash value
component that is credited with interest at regular intervals. The
Company's earnings result from the difference between the investment
income and interest credited on customer cash values and from
differences between charges for mortality and actual death claims.
Universal life cash values are charged for the cost of insurance
coverage and for administrative expenses.
At December 31, 2002 and 2001, the Company had $3.8 billion and $3.9
billion, respectively, of policy reserves on individual insurance
products sold to corporations to provide coverage on the lives of
certain employees, also known as Corporate-Owned Life Insurance
(COLI). Due to legislation enacted during 1996 that phased out the
interest deductions on COLI policy loans over a two-year period
ending 1998, leveraged COLI product sales have ceased.
The Company has shifted its emphasis to the Business-Owned Life
Insurance (BOLI) market. BOLI was not affected by the 1996
legislation. These products are interest-sensitive whole life and
universal life policies that fund post-retirement benefits for
employees. At December 31, 2002, the Company had $1.5 billion of
fixed and $1.4 billion of separate account BOLI policy reserves
compared to $1.7 billion of fixed and $1.2 billion of separate
account reserves at December 31, 2001. The Company has also recently
introduced variable universal life and retail mutual fund product
lines into the Executive Benefits market.
In 2002 the Company continued its efforts to partner with large
financial institutions to deliver life insurance to the mass market.
This strategy allows the Company to offer traditional life insurance
products through established institutional channels at a competitive
price. Some of the institutional partners include Huntington, U.S.
Bank, Fifth Third, Citibank, SunTrust, AmSouth, Affiliated Financial
Services and Bank One.
Sales of life insurance products typically have initial marketing
expenses which are deferred. Therefore, retention is an important
factor in profitability and is encouraged through product features.
For example, the Company's universal and whole life insurance
contracts typically impose a surrender charge on policyholder
balances withdrawn within the first ten years of the contract's
inception. The period of time and level of the charge vary by
product. In addition, more favorable credited rates may be offered
after policies have been in force for a period of time.
Certain of the Company's life insurance and group annuity products
allow policy owners to borrow against their policies. At December 31,
2002, approximately 10% (7% in 2001 and 8% in 2000) of outstanding
policy loans were on individual life policies that had fixed interest
rates ranging from 5.0% to 8.4%. The remaining 90% of outstanding
policy loans had variable interest rates averaging 6.24% at December
31, 2002. Investment income from policy loans was $209.6 million,
$203.8 million, and $191.5 million for the years ended December 31,
2002, 2001, and 2000, respectively.
The following table summarizes individual life insurance in force
prior to reinsurance ceded for the years indicated:
Years Ended December 31,
-------------------------------------------------------------
[Millions] 2002 2001 2000 1999 1998
------------------- --------- --------- --------- --------- ---------
In force
end of year $ 50,605 $ 50,769 $ 46,631 $ 43,831 $ 42,966
The Company's 401(k) product is offered by way of a group fixed and
variable deferred annuity contract. The product provides a variety of
funding and distribution options for employer-approved retirement
plans that qualify under Internal Revenue Code Section 401(k).
The 401(k) product investment options includes guaranteed interest
rate options for various lengths of time, variable investment
options, or a self-directed brokerage option. For the guaranteed
interest rate option, the difference between the income earned on
investments in the Company's general account and the interest
credited to the participant's account balance flows through to
operating income.
Variable investment options utilize separate accounts to provide
participants with a vehicle to assume the investment risks. Assets
held under these options are invested, as designated by the
participant, in separate accounts that in turn invest in shares of
underlying funds managed by a subsidiary of the Company or by
selected external fund managers.
Of the total 401(k) assets under administration in 2002 and 2001, 95%
were allocated to variable investment options.
The Company is compensated by the separate accounts for bearing
expense risks pertaining to the variable annuity contract and for
providing administrative services. For certain funds, a subsidiary of
the Company also receives fees for serving as an investment advisor
for those underlying funds that are managed by the subsidiary.
Customer retention is a key factor for the profitability of the
Company's 401(k) product. The annuity contract imposes a charge for
termination during a designated period of time after the contract's
inception. The charge is determined in accordance with a formula in
the contract. Existing federal tax penalties on distributions prior
to age 59 1/2 provide an additional disincentive to premature
surrenders of account balances, but do not impede rollovers to
products of competitors.
In the following table the amount of 401(k) business in force is
measured by the total of individual account balances:
Year Ended Fixed Variable
December 31, Annuities Annuities
---------------------- ------------------ ------------------
[millions] [millions]
1998 $ 299 $ 5,770
1999 268 7,339
2000 248 6,614
2001 240 5,911
2002 225 4,656
2. Method of Distribution
Financial Services primarily uses BenefitsCorp to distribute pension
products and to provide communication and enrollment services to
employers in the public/non-profit market. Pension products are also
distributed through independent marketing agencies.
The Company distributes universal and joint survivor life and term
insurance, as well as individual fixed and variable qualified and
non-qualified deferred annuities, through Charles Schwab & Co., Inc.
Individual life products are also sold through large banks and
through the internet. BOLI products are currently marketed through
one broker, Clark/Bardes, Inc.
At the end of 2002, the Company established a specialized sales force
to target 401(k) sales.
3. Competition
The life insurance, savings, and investments marketplace is highly
competitive. The Company's competitors include mutual fund companies,
insurance companies, banks, investment advisors, and certain service
and professional organizations. No one competitor or small number of
competitors is dominant. Competition focuses on service, technology,
cost, variety of investment options, investment performance, product
features, price, and financial strength as indicated by ratings
issued by nationally recognized agencies. For more information on the
Company's ratings, see Item 1(G) (Ratings).
4. Reserves
Reserves for universal life policies are equal to cumulative
deposits, less withdrawals and mortality and expense charges, plus
credited interest.
Reserves for all fixed individual life insurance contracts are
computed on the basis of assumed investment yield, mortality,
morbidity, and expenses (including a margin for adverse deviation).
These reserves are calculated as the present value of future benefits
(including dividends) and expenses less the present value of future
net premiums. The assumptions used in calculating the reserves
generally vary by plan, year of issue, and policy duration.
For all life insurance contracts, reserves are established for claims
that have been incurred but not reported based on factors derived
from past experience.
Reserves for limited payment contracts (immediate annuities) are
computed on the basis of assumed investment yield, mortality (where
payouts are contingent on survivorship) and expenses. These
assumptions generally vary by plan, year of issue, and policy
duration.
Reserves for investment contracts (deferred annuities and 401(k)) are
equal to the participants' account balances. Reserves for immediate
annuities without life contingent payouts are computed on the basis
of assumed investment yield and expenses.
The mentioned reserves are computed amounts that, with additions from
premiums and deposits to be received, and with interest on such
reserves, are expected to be sufficient to meet the Company's policy
obligations (such as paying expected death or retirement benefits or
surrender requests) and to generate profits.
5. Reinsurance
The Company seeks to limit its exposure to loss on any single insured
and to recover a portion of benefits paid by ceding risks to other
insurance enterprises under excess coverage and co-insurance
contracts. The Company retains a maximum of $1.5 million of coverage
per individual life.
The Company has a marketing and administrative services arrangement
with New England. Under reinsurance agreements, New England issues
401(k) products and then immediately reinsures nearly 100% of its
guaranteed 401(k) business with the Company. Effective January 1,
2001, the Company renegotiated this arrangement with New England,
resulting in a shift of responsibility from New England to the
Company for marketing operations. In 2002, the Company renegotiated
this arrangement to assume the full risk on this block of business.
The Company pays an asset fee for New England customer fund balances.
E. INVESTMENT OPERATIONS
The Company's investment division manages or administers the Company's
general and separate accounts in support of cash and liquidity
requirements of the Company's insurance and investment products. Total
investments at December 31, 2002, were $25.9 billion, comprised of
general account assets of $14.6 billion and separate account assets of
$11.3 billion. Total investments at December 31, 2001, were $26.8
billion, comprised of general account assets of $14.2 billion and
separate account assets of $12.6 billion.
The Company's general account investments are in a broad range of asset
classes, primarily domestic and international fixed maturities and
mortgage loans. Fixed maturity investments include public and privately
placed corporate bonds, government bonds, and redeemable preferred
stocks. The Company also invests in mortgage-backed securities and
asset-backed securities.
The Company manages the characteristics of its investment assets, such
as liquidity, currency, yield, and duration, to reflect the underlying
characteristics of related insurance and policyholder liabilities that
vary among the Company's principal product lines. The Company observes
strict asset and liability matching guidelines designed to ensure that
the investment portfolio will appropriately meet the cash flow and
income requirements of its liabilities. In connection with its
investment strategy, the Company makes limited use of derivative
instruments in hedging transactions to manage certain portfolio related
risks. The Company also utilizes derivative instruments to engage in
replicated synthetic asset transactions. Derivative instruments are not
used for speculative purposes. For more information on derivatives see
Notes 1 and 7 to the consolidated financial statements of the Company
(the Consolidated Financial Statements) that are included in Item 8
(Financial Statements and Supplementary Data).
The Company routinely monitors and evaluates the status of its
investments in light of current economic conditions, trends in capital
markets, and other factors. These other factors include investment size,
quality, concentration by issuer and industry and other diversification
considerations relevant to fixed maturity investments.
The Company's fixed maturity investments were at 90% of investment
assets, excluding policy loans, as of December 31, 2002. The Company
reduces credit risk for the portfolio as a whole by investing primarily
in investment-grade fixed maturities. As of December 31, 2002 and 2001,
97% and 98%, respectively, of the bond portfolio carried an investment
grade rating.
The Company's mortgage loan portfolio constituted 3% and 4% of
investment assets as of December 31, 2002 and 2001, respectively. Since
1986, the Company has reduced the overall weighting of its mortgage loan
portfolio, instead placing a greater emphasis in bond investments.
At December 31, 2002, 20% of investment assets were invested in policy
loans, 5% were invested in short-term investments, 1% were invested in
stocks, and less than 1% were invested in real estate compared to 21%,
3%, 1%, and 1%, respectively, in 2001.
The following table sets forth the distribution of invested assets, cash
and accrued investment income for the Company's general account as of
the end of the years indicated:
Carrying Value in
Millions 2002 2001 2000 1999 1998
---------------------- ---------- ---------- ---------- ---------- ---------
Debt Securities:
U.S. government
securities and
obligations of
U.S. government
agencies $ 2,710 $ 3,075 $ 2,315 $ 1,859 $ 1,951
Bonds 7,618 7,013 7,055 7,078 7,117
Foreign
governments 43 28 50 51 69
---------- ---------- ---------- ---------- ---------
Total debt securities 10,371 10,116 9,420 8,988 9,137
Other Investments:
Common stock 90 73 95 69 49
Mortgage loans 417 613 843 975 1,133
Real estate 4 12 107 104 73
Policy loans 2,964 3,001 2,810 2,681 2,859
Short-term
Investments 710 425 415 241 420
---------- ---------- ---------- ---------- ---------
Total investments $ 14,556 $ 14,240 $ 13,690 $ 13,058 $ 13,671
========== ========== ========== ========== =========
Cash $ 155 $ 216 $ 156 $ 268 $ 176
Accrued investment
Income 133 131 139 138 158
The following table summarizes the Company's general account investment
results:
[Millions] Net Earned Net
Investment Investment
For the year: Income Income Rate
-------------------- ------------- --------------
2002 $ 919 6.83 %
2001 935 7.10 %
2000 925 7.34 %
1999 876 6.96 %
1998 897 7.03 %
F. REGULATION
1. Insurance Regulation
The business of the Company is subject to comprehensive state and
federal regulation and supervision throughout the United States that
primarily provides safeguards for policyholders. The laws of the
various state jurisdictions establish supervisory agencies with broad
administrative powers with respect to such matters as admittance of
assets, premium rating methodology, policy forms, establishing
reserve requirements and solvency standards, maximum interest rates
on life insurance policy loans and minimum rates for accumulation of
surrender values, the type, amounts and valuation of investments
permitted, and HMO operations.
The Company's operations and accounts are subject to examination by
the Colorado Division of Insurance and other regulators at specified
intervals. A financial examination by the Colorado Division of
Insurance was completed in 1997 and covered the five-year period
ended December 31, 1995. This examination produced no significant
adverse findings regarding the Company. The latest financial
examination by the Colorado Division of Insurance is in progress and
will cover the five-year period ended December 31, 2000. Field work
has been completed and the Company is awaiting the final report.
The National Association of Insurance Commissioners (NAIC) has
adopted risk-based capital rules and other financial ratios for life
insurance companies. Based on the Company's December 31, 2002
statutory financial reports the Company has risk-based capital well
in excess of that required by regulators.
The NAIC has also adopted the Codification of Statutory Accounting
Principles (Codification). The Codification is intended to
standardize accounting and reporting to state insurance departments
effective January 1, 2001. However, statutory accounting principles
will continue to be established by individual state laws and
permitted practices. The Colorado Division of Insurance required
adoption of Codification with certain modifications for the
preparation of statutory financial statements effective January 1,
2001 (see Note 13 to the consolidated financial statements).
2. Insurance Holding Company Regulations
The Company and certain of its subsidiaries are subject to and comply
with insurance holding company regulations in the applicable states.
These regulations contain certain restrictions and reporting
requirements for transactions between affiliates including the
payments of dividends. They also regulate changes in control of an
insurance company.
3. Securities Laws
The Company is subject to various levels of regulation under federal
securities laws. The Company's broker-dealer subsidiaries are
regulated by the Securities and Exchange Commission (SEC) and the
National Association of Securities Dealers, Inc. The Company's
investment advisor subsidiary and transfer agent subsidiary are
regulated by the SEC. Certain of the Company's separate accounts,
mutual funds, and variable insurance and annuity products are
registered under the Investment Company Act of 1940 and the
Securities Act of 1933.
4. Guaranty Funds
Under insurance guaranty fund laws existing in all states, insurers
doing business in those states can be assessed (up to prescribed
limits) for certain obligations of insolvent insurance companies. The
Company has established a reserve of $1.3 million as of December 31,
2002 to cover future assessments of known insolvencies of other
companies. The Company has historically recovered more than half of
the guaranty fund assessments through statutorily permitted premium
tax offsets. The Company has a prepaid asset associated with guaranty
fund assessments of $1.9 million at December 31, 2002.
5. Potential Legislation
United States legislative developments in various areas including
pension regulation, financial services regulation, and health care
legislation could significantly and adversely affect the Company in
the future. Congress continues to consider legislation relating to
health care reform and managed care issues. Congress is also
considering changes to various features of retirement plans such as
the holding of company stock, diversification rights, imposition of
transaction restrictions, expanded disclosure requirements and
greater access to investment advice for participants.
It is not possible to predict whether future legislation or
regulation adversely affecting the business of the Company will be
enacted and, if enacted, the extent to which such legislation or
regulation will have an effect on the Company and its competitors.
G. CURRENT RATINGS
The Company is rated by a number of nationally recognized rating
agencies. The ratings represent the opinion of the rating agencies
regarding the financial strength of GWL&A and its ability to meet
ongoing obligations to policyholders. In connection with the
announcement by Great-West Lifeco regarding the acquisition of Canada
Life, the Company's ratings are under review with negative implications.
Upon completion of the acquisition of Canada Life by Great-West Lifeco,
Standard & Poor's Corporation has indicated it is likely that the
Company's rating will be lowered one notch and a negative outlook
maintained.
Rating Agency Measurement Current Rating
------------------------------ ------------------------------- ------------------
A.M. Best Company, Inc. Financial strength, operating A++ (1)
performance and
business profile
Fitch, Inc. Financial strength AA+ (2)
Moody's Investors Service Financial strength Aa2 (3)
Standard & Poor's Corporation Financial strength AA+ (4)
(1) Superior (highest rating out of nine categories) (2) Very Strong
(second highest rating out of twelve categories) (3) Excellent (second
highest rating out of nine categories) (4) Very strong (second highest
rating out of nine categories)
H. MISCELLANEOUS
No customer accounted for 10% or more of the Company's consolidated
revenues in 2002, 2001 or 2000. In addition, no segment of the Company's
business is dependent on a single customer or a few customers, the loss
of which would have a significant effect on the Company or any of its
business segments. The loss of business from any one, or a few,
independent brokers or agents would not have a material adverse effect
on the Company or any of its business segments.
The Company had approximately 6,800 employees at December 31, 2002.
ITEM 2. PROPERTIES
The Head Office of the Company consists of a 752,000 square foot complex
located in Greenwood Village, Colorado. The Company leases sales and
claims processing offices throughout the United States.
ITEM 3. LEGAL PROCEEDINGS
There are no material pending legal proceedings to which the Company or
any of its subsidiaries is a party or of which any of their property is
the subject.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted during the fourth quarter of 2002 to a vote of
security holders.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
A. EQUITY SECURITY HOLDERS AND MARKET INFORMATION
There is no established public trading market for the Company's common
equity.
B. DIVIDENDS
In the two most recent fiscal years the Company has paid quarterly
dividends on its common shares. Dividends on common stock totaled $170.6
million in 2002 and $187.6 million in 2001.
Under Colorado law the Company cannot, without the approval of the
Colorado Commissioner of Insurance, pay a dividend if as a result of
such payment, the total of all dividends paid in the preceding twelve
months, would exceed the greater of (i) 10% of the Company's statutory
surplus as regards policyholders as at the preceding December 31; or
(ii) the Company's statutory net gain from operations as at the
preceding December 31.
ITEM 6. SELECTED FINANCIAL DATA
The following is a summary of certain financial data of the Company.
This summary has been derived in part from and should be read in
conjunction with the Company's Consolidated Financial Statements. Note 1
to the financial statements discusses the significant accounting
policies of the Company. Significant estimates are required to account
for policy reserves, allowances for credit losses, deferred policy
acquisition costs, and valuation of privately placed fixed maturities.
Actual results could differ from those estimates.
INCOME STATEMENT Years Ended December 31,
----------------------------------------------------------
DATA 2002 2001 2000 1999 1998
------------------------- --------- --------- --------- --------- ---------
[millions]
Premium income $ 1,120 $ 1,203 $ 1,332 $ 1,163 $ 995
Fee income 884 947 872 635 516
Net investment income 919 935 925 876 897
Net realized investment
gains 42 47 28 1 38
--------- --------- --------- --------- ---------
Total revenues 2,965 3,132 3,157 2,675 2,446
Policyholder benefits 1,593 1,696 1,746 1,582 1,462
Operating expenses 958 1,021 1,018 804 688
--------- --------- --------- --------- ---------
Total benefits and
expenses excluding
special charges 2,551 2,717 2,764 2,386 2,150
Income tax expense 130 141 134 83 99
--------- --------- --------- --------- ---------
Net income before
special charges 284 274 259 206 197
Special charges (net) 81
--------- --------- --------- --------- ---------
Net income $ 284 $ 193 $ 259 $ 206 $ 197
========= ========= ========= ========= =========
Deposits for investment-
type contracts $ 691 $ 627 $ 835 $ 634 $ 1,344
Deposits to separate
accounts 2,461 3,240 3,105 2,583 2,208
Self-funded premium
equivalents 5,228 5,721 5,181 2,979 2,606
BALANCE SHEET Years Ended December 31,
----------------------------------------------------------
DATA 2002 2001 2000 1999 1998
------------------------- --------- --------- --------- --------- ---------
[millions]
Investment assets $ 14,556 $ 14,240 $ 13,689 $ 13,058 $ 13,671
Separate account assets 11,338 12,585 12,381 12,820 10,100
Total assets 27,659 28,814 27,900 27,533 25,123
Total policy benefit
liabilities 13,007 12,931 12,825 12,341 12,583
Due to GWL 34 42 43 35 52
Guaranteed preferred
beneficial interests in
the
Company's junior
subordinated debentures 175 175 175 175
Total shareholder's
equity 1,665 1,471 1,428 1,167 1,199
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This Form 10-K contains forward-looking statements. Forward-looking
statements are statements not based on historical information and that
relate to future operations, strategies, financial results, or other
developments. In particular, statements using verbs such as "expected",
"anticipate", "believe", or words of similar import generally involve
forward-looking statements. Without limiting the foregoing,
forward-looking statements include statements that represent the
Company's beliefs concerning future or projected levels of sales of the
Company's products, investment spreads or yields, or the earnings or
profitability of the Company's activities. Forward-looking statements
are necessarily based upon estimates and assumptions that are inherently
subject to significant business, economic and competitive uncertainties
and contingencies, many of which are beyond the Company's control and
many of which, with respect to future business decisions, are subject to
change. These uncertainties and contingencies can affect actual results
and could cause actual results to differ materially from those expressed
in any forward-looking statements made by, or on behalf of, the Company.
Whether or not actual results differ materially from forward-looking
statements may depend on numerous foreseeable and unforeseeable events
or developments, some of which may be national in scope, such as general
economic conditions and interest rates, some of which may be related to
the insurance industry generally, such as pricing competition,
regulatory developments and industry consolidation, and others of which
may relate to the Company specifically, such as credit, volatility, and
other risks associated with the Company's investment portfolio and other
factors. Readers are also directed to consider other matters, including
any risks and uncertainties, discussed in documents filed by the Company
and certain of its subsidiaries with the Securities and Exchange
Commission.
Management's discussion and analysis of financial conditions and results
of operations of the Company for the three years ended December 31, 2002
follows. This management discussion and analysis should be read in
conjunction with the financial data contained in Item 6 and the
Company's Consolidated Financial Statements.
A. COMPANY RESULTS OF OPERATIONS
1. Consolidated Results
The Company's consolidated net income decreased $9.0 million or 3.0%
in 2002 when compared to 2001 (before one-time charges in 2001 of
$80.9 million and operating losses of $18.7 million, net of tax,
related to the Alta Health & Life Insurance Company (Alta) business).
Alta was acquired by the Company on July 8, 1998. During 2001 and
2000 the Alta business continued to be run as a free-standing unit
but was converted to the Company's systems and accounting processes.
This conversion program resulted in significant issues related to
pricing, underwriting, and administration of the business. The
Company is transitioning Alta business to other Company products. All
Alta sales and administration staff have become employees of the
Company and the underwriting functions are conducted by the
underwriting staff of the Company.
The Employee Benefits segment contributed $136.3 million and the
Financial Services segment contributed $147.2 million to net income.
Of total consolidated net income in 2002 and 2001 (before one-time
charges and operating losses of Alta), the Employee Benefits segment
contributed 48% and 56%, respectively, while the Financial Services
segment contributed 52% and 44%, respectively.
In 2002, total revenues decreased $168.1 million or 5.7% to $3.0
billion when compared to 2001. The decline in revenues in 2002 was
comprised of decreased premium income of $83.5 million, decreased fee
income of $63.7 million, decreased net investment income of $15.6
million, and a $5.2 million decrease in realized investment gains. In
2001, total revenues decreased $24.7 million or 0.8% to $3.1 billion
when compared to 2000. The decline in revenues in 2001 was comprised
of decreased premium income of $128.9 million, increased fee income
of $75.6 million, increased net investment income of $10.1 million
and increased realized gains on investments of $18.5 million.
The decreased premium income in 2002 was comprised of a decline in
Employee Benefits premium income and Financial Services premium
income of $73.7 million and $9.8 million, respectively. The decline
in premium income in the Employee Benefits segment reflected a 15.4%
decline in medical members from 2.6 million in 2001 to 2.2 million in
2002. Financial Services experienced lower sales and higher
terminations in 2002. The decreased premium income in 2001 was
comprised of a decline in Employee Benefits premium income and
Financial Services premium income of $108.1 million and $20.8
million, respectively. The decline in premium income in the Employee
Benefits segment reflected a 18% decline in medical members from 3.2
million in 2000 to 2.6 million in 2001. The decline in premium income
in the Financial Services segment was primarily due to lapses in the
closed block of traditional life business.
Fee income in 2002 was comprised of Employee Benefits fee income and
Financial Services fee income of $660.4 million and $223.1 million,
respectively. The $5.2 million or 7.4% decline in Employee Benefits
fee income is due to the decline in medical members. The $11 million
or 4.7% decline in Financial Services fee income was primarily the
result of weak U.S. equity markets. The increase in fee income in
2001 was comprised of Employee Benefits fee income and Financial
Services fee income of $65.0 million and $10.7 million, respectively.
The 10% growth in Employee Benefits fee income reflects a combination
of an amendment to the New England reinsurance contract, significant
price increases in the overall group health block of business, and
fee increases from service providers. The growth in Financial
Services fee income in 2001 was primarily the result of new sales and
the increase in revenue from additional new participants in FASCorp.
These increases more than offset the decreased fees on variable funds
related to the weakness in the equity markets.
Total benefits decreased $103.8 million or 6.1% in 2002 when compared
to 2001, reflecting lower group life and health claims primarily as a
result of the decline in membership in the Employee Benefits segment.
The decline from 2000 to 2001 was also the result of lower claims as
a result of declining membership.
Total expenses decreased $63.0 million or 6.2% in 2002 when compared
to 2001, before special charges, as the Company remains focused on
reducing administrative costs. During 2002, Employee Benefits'
operating expenses decreased $41 million due primarily to reduced
administrative costs and medical membership. Financial Services'
operating expenses decreased $22 million due primarily to decreased
sales and lower premium income.
Income tax expense before special charges decreased $10.9 million or
7.7% in 2002 when compared to 2001. The decrease reflects a reduction
in the liability for tax contingencies due to the completion of the
1994 - 1996 Internal Revenue Service examination. Income tax expense
increased before special charges $7.1 million or 5% in 2001 when
compared to 2000. The increase reflects higher pre-tax earnings in
2001. See Note 11 to the Consolidated Financial Statements for a
discussion of the Company's effective tax rates.
In evaluating its results of operations, the Company also considers
net changes in deposits received for investment-type contracts,
deposits to separate accounts, and self-funded equivalents.
Self-funded equivalents represent paid claims under minimum premium
and administrative services only contracts. These amounts approximate
the additional premiums which would have been earned under such
contracts if they had been written as traditional indemnity or HMO
programs.
Deposits for investment-type contracts increased $161.2 million or
25.7% in 2002 when compared to 2001. Deposits for investment-type
contracts decreased $208 million or 25% in 2001 when compared to
2000. The increase in 2002 was primarily attributable to one large
case sale in the Financial Services segment. The decrease in 2001 was
primarily attributable to the Financial Services segment, due to a
drop in demand for fixed BOLI contracts due to low interest rates.
This was replaced by the BOLI business moving to the separate account
product (see below).
Deposits for separate accounts decreased $778.8 million or 24.0% in
2002 when compared to 2001. This decrease in 2002 is primarily due to
a combination of lower 401(K) sales and higher 401(K) terminations as
well as a decline in BOLI sales due to the nature of the BOLI
business. Deposits for separate accounts increased $135 million or 4%
in 2001 when compared to 2000. This increase in 2001 is primarily due
to an increase in BOLI single premiums, which was offset somewhat by
lower 401(k) deposits.
Self-funded premium equivalents decreased $492.4 million or 8.6% in
2002 when compared to 2001. This decrease was due to the membership
decline in the Employee Benefits segment. Self-funded premium
equivalents increased $540 million or 10% in 2001 when compared to
2000. This increase was due to the General American business ($307
million), Allmerica business ($166 million) and higher overall claims
volume for the self-funded business.
Historically, the 401(k) business unit had been included with the
Employee Benefits segment. In order to capitalize on administrative
system efficiencies and group pension expertise, the 401(k) business
is now administered by the Financial Services segment. As a result,
prior period segment results have been reclassified to conform with
this change.
2. Other Matters
On February 17, 2003, Great-West Lifeco announced a definitive
agreement to acquire Canada Life Financial Corporation for $7.3
billion (Canadian). Canada Life is a Canadian based insurance company
with business principally in Canada, the United Kingdom, the United
States and Ireland. In the United States, Canada Life sells
individual and group insurance and annuity products. Subject to
required shareholder and regulatory approvals, the transaction is
expected to close on July 10, 2003.
Canada Life's U.S. operations represented approximately $1.6 billion
in annual revenue in 2002 and $7.4 billion in assets as of December
31, 2002. If the transaction proceeds, Canada Life's U.S. operations
will be integrated with the Company's operations. The details of the
integration are still to be determined.
Effective January 1, 2000, the Company co-insured the majority of
General American Life Insurance Company's (General American) group
life and health insurance business of which primarily consists of
administrative services only and stop loss policies. The agreement
converted to an assumption reinsurance agreement January 1, 2001. The
Company assumed approximately $150 million of policy reserves and
miscellaneous liabilities in exchange for $150 million of cash and
miscellaneous assets from General American.
On October 6, 1999, the Company entered into a purchase and sale
agreement with Allmerica Financial Corporation (Allmerica) to acquire
via assumption reinsurance Allmerica's group life and health
insurance business on March 1, 2000. This business primarily consists
of administrative services only and stop loss policies. The in-force
business was immediately co-insured back to Allmerica and then
underwritten and retained by the Company upon each policy renewal
date.
B. EMPLOYEE BENEFITS RESULTS OF OPERATIONS
The following is a summary of certain financial data of the Employee
Benefits segment:
Years Ended December 31,
-----------------------------------------------
INCOME STATEMENT DATA 2002 2001 2000
------------------------------------- ------------- ------------- -------------
[millions]
Premiums $ 960 $ 1,033 $ 1,142
Fee income 661 713 648
Net investment income 68 66 71
Net realized investment gains 9 16 (3)
(losses)
------------- ------------- -------------
Total revenues 1,698 1,828 1,858
Policyholder benefits 762 859 915
Operating expenses 733 774 780
------------- ------------- -------------
Total benefits and expenses
before special charges 1,495 1,633 1,695
Income tax expense 67 68 57
------------- ------------- -------------
Net income excluding special charges 136 127 106
Special charges (net) 81
------------- ------------- -------------
Net income $ 136 $ 46 $ 106
============= ============= =============
Self-funded premium equivalents $ 5,228 $ 5,721 $ 5,181
In the second quarter of 2001, the Company recorded a $127 million
special charge ($80.9 million, net of tax), related to Alta. The
principal components of the charge include a $46 million premium
deficiency reserve related to under-pricing on the block of business, a
$29 million reserve for doubtful premium receivables, a $28 million
reserve for doubtful accident and health plan claim receivables, and a
$24 million decrease in goodwill and other.
The Company established a premium deficiency reserve of $46 million
(included in special charges previously discussed) on the Alta block of
business in 2001. Releases of $18.7 million in 2001, $6.2 million in the
first quarter of 2002, and $2.1 million in the second quarter of 2002
were made to offset the underwriting losses incurred on the under-priced
block of business. During the first quarter of 2002 the reserve was
reduced by $15 million ($9.8 million net of tax) and during the second
quarter of 2002 the reserve was reduced by $4 million ($2.6 million, net
of tax) based on an analysis of emerging experience which was more
favorable than originally estimated. The balance of the premium
deficiency reserve at December 31, 2002 was zero.
Net income, excluding special charges of $80.9 million after tax,
increased 7.1% in 2002 and increased 20% in 2001. The improvement in
earnings in 2002 reflected improved morbidity margins. The improvement
in earnings in 2001 reflected favorable experience in realized
investment gains, expense gains associated with higher fee income
partially offset by a deterioration in morbidity (which negatively
impacted stop-loss coverages), decreases in premiums due to membership
declines, and increased bad debts due to the impact of the economic
slowdown. During 2001, the Employee Benefits segment experienced
increased medical costs and utilization trends which contributed to the
deterioration in morbidity experience.
Equivalent premium revenue and fee income for group life and health
decreased 8.3% from 2001 levels as the result of continued membership
decline. This reduction is partially offset by increased pricing
actions. Equivalent premium revenue and fee income for group life and
health decreased 2.4% in 2001 from 2000 levels as the result of a
decline in membership.
Group Life and Health
In 2002, the sales and administration functions of the Company's 401(k)
product was transferred from the Employee Benefits division to the
Financial Services division. The Company's 40l(k) business and customers
are discussed in the Financial Services Results of Operations which
follows.
The Employee Benefits segment experienced a net decrease of 1,766 group
health care customers (employer groups) during 2002. There was a 14.8%
decrease in total health care membership from 2.6 million at the end of
2001 to 2.2 million at year-end 2002. POS and HMO members decreased
30.7% from 500,600 in 2001 to 346,900 in 2002.
The Employee Benefits segment experienced a net decrease of 1,232 group
health care customers (employer groups) during 2001. There was an 18%
decrease in total health care membership from 3.2 million at the end of
2000 to 2.6 million at year-end 2001. POS and HMO members decreased 30%
from 718,400 in 2000 to 500,600 in 2001.
Much of the health care decline in 2002 and 2001 can be attributed to
terminations resulting from aggressive pricing related to target margins
as well as a decrease in the employee base for existing group health
care customers and the general decline in the economy. In 2001, the
decline in membership was also, in part, due to difficulties with the
implementation of a systems enhancement, which was resolved by the end
of 2001.
Outlook
The Company knows remaining competitive means focusing on the core
disciplines that provide value to our clients, specifically: health care
cost management, underwriting and product design management and sales
force management. The Company also knows administration costs must
remain at levels consistent with industry standards.
Medical service provider contracting efforts are critical to the
Company's value equation in an environment of escalating medical costs.
In 2003, the Company will increase spending to evaluate provider
networks and provider recontracting. The Company will also continue to
expand health care management and disease management programs for
members with diabetes, asthma, coronary heart disease and other chronic
illnesses.
The Company has expanded medical underwriting to ensure pricing is
consistent with health care risk; an item that is difficult to estimate
on smaller cases. Therefore, the Company is reducing its focus on cases
with fewer than 50 members in 2003.
The Company continues to evaluate product design. The three-tier
prescription drug program launched in 2001 proved very attractive to its
clients and will continue in 2003. The Company reaffirmed its commitment
to traditional, self-funded health plans.
The sales force reorganization will continue in 2003. The Company has
discontinued new sales under the Alta, GenAm and New England names and
has combined these teams with its own sales force to create a unified
sales force organized along distribution channels. Resources will also
be invested to enhance a unified brand identity.
The Company remains focused on reducing administrative costs. In 2002,
the Employee Benefits segment achieved three main productivity
improvements: 1) reduced the number of employees from approximately
6,600 in 2001 to fewer than 4,900 in 2002; 2) enhanced efficiencies
through online billing and other internet-enabled functions; and 3)
significant claims payment efficiencies. The Company anticipates similar
productivity strides in 2003 as a result of ongoing investments in
process improvement and continued sales and claims payment offices
consolidation.
In 2003, along with all other carriers in the industry, the Company will
incur significant implementation and administrative cost associated with
Administrative Simplification compliance federally mandated in HIPAA
(the Health Insurance Portability and Accountability Act of 1996).
C. FINANCIAL SERVICES RESULTS OF OPERATIONS
The following is a summary of certain financial data of the Financial
Services segment:
Years Ended December 31,
-----------------------------------------------
INCOME STATEMENT DATA 2002 2001 2000
------------------------------------- ------------- ------------- -------------
[millions]
Premiums $ 160 $ 170 $ 190
Fee income 223 234 224
Net investment income 851 869 854
Net realized investment gains 33 31 31
------------- ------------- -------------
Total revenues 1,267 1,304 1,299
Policyholder benefits 831 837 831
Operating expenses 225 247 238
------------- ------------- -------------
Total benefits and expenses 1,056 1,084 1,069
------------- ------------- -------------
Income from operations 211 220 230
Income tax expense 63 73 77
------------- ------------- -------------
Net income $ 148 $ 147 $ 153
============= ============= =============
Deposits for investment-type
contracts $ 691 $ 627 $ 835
Deposits to separate accounts 2,461 3,240 3,105
Net income for Financial Services remained stable in 2002 but decreased
4% in 2001. The decrease in earnings from $153 million in 2000 to $147
million in 2001 reflects the reduction in earnings on the 401(k) product
due to weak U.S. equity markets and higher terminations offset by
increased investment income and improved mortality in the other product
areas.
During 2002, the Company experienced lower sales in most of its product
areas and higher termination rates. The Company was also negatively
impacted by the weak U.S. equity markets. Offsetting these challenges
was a decrease in operating expenses and effective management of
investment margins on products which resulted in a relatively flat net
income for the year.
Prior to 2002, the Employee Benefits segment marketed and administered
corporate savings products (401(k) plans). In 2002, the Financial
Services segment assumed responsibility for these products. The segment
information above has been adjusted for this change.
1. Savings
The Financial Services segment's savings business is focused on group
and individual fixed and variable annuities with a marketing emphasis
on the public/non-profit pension market.
Premiums and deposits for investment-type contracts and separate
accounts have increased $227.6 million or 17% from 2001 to 2002. The
in-year growth was attributable primarily to a $115.3 million
increase in deposits for investment-type contracts and a $121.2
million increase in deposits to separate accounts. The growth was
primarily related to one large case sale.
Fee income decreased $1.8 million or 1.5% from $119.8 million in 2001
to $118.0 million in 2002. The decline in fee income in 2002 was the
result of lower asset values in the separate accounts due to weak
U.S. equity markets and higher terminations of participants in
FASCorp. Fee income increased $8.6 million or 8% from $111.2 million
in 2000 to $119.8 million in 2001. The growth in fee income in 2001
was the result of new sales and the increase in revenue from
additional new participants in FASCorp. These increases more than
offset the decreased fees on variable funds related to weak equity
markets.
The Financial Services segment's core savings business is in the
public/non-profit pension market. The assets of the public/non-profit
business, including separate accounts but excluding Guaranteed
Investment Contracts (GIC), decreased $92.5 million or 1.1% from $8.2
billion in 2001 to $8.1 billion in 2002. The decline was primarily
the result of customers choosing alternative fixed income investment
products.
The Financial Services segment's public/non-profit pension business
experienced lower growth in 2002. The number of new participants in
2002 was 163,000 compared to 339,000 in 2001 and 233,000 in 2000.
Terminations increased in 2002 to 101,000 compared to 72,000 and
63,000 in 2001 and 2000, respectively. This brings the total lives
under administration to 1,331,100 in 2002 and 1,268,500 in 2001.
Customer demand for investment diversification continued during 2002
in spite of weak U.S. equity markets. New contributions to separate
account business represented 62% of the total premium equivalents in
2002 versus 63% in 2001. The Company continues to expand the fund
options available through its subsidiary Maxim Series Fund and
through arrangements with external fund managers. Externally-managed
funds offered to participants in 2002 included AIM, American Century,
Ariel, Fidelity, Founders, INVESCO, Janus, Loomis Sayles, Templeton,
and T. Rowe Price.
Customer participation in guaranteed separate accounts increased, as
many customers prefer the security of fixed income securities and
separate account assets. Assets under management for guaranteed
separate account funds were $1,649.6 million in 2002 compared to
$1,214.4 million in 2001 and $755.7 million in 2000.
FASCorp administered records for approximately 2,159,900 participants
in 2002 versus 2,191,000 in 2001. FASCorp's fee income (including fee
income from related parties) was $89.8 million, $72.4 million, and
$63.8 million for the years ended, December 31, 2002, 2001, and 2000,
respectively.
2. Life Insurance
The Company continued its approach to the design and distribution of
traditional life insurance products, focusing on customer retention
and expense management. At the same time, the Company continues to
evaluate new individual markets. In 2002, the Company continued its
efforts to partner with large financial institutions to deliver term
life insurance to the mass market.
Individual life insurance revenue premiums and deposits for
investment-type contract and separate accounts of $434.3 million in
2002 reflected a decrease of 55% or $527.6 million from 2001 levels.
The decrease was primarily due to decreased BOLI separate account
deposits.
In 1996, the U.S. Congress enacted legislation to phase out the tax
deductibility of interest on policy loans on COLI products. Since
then, renewal premiums and deposits for COLI products have decreased
to $82.2 million in 2002 from $83.1 million in 2001 and $84.1 million
in 2000 and the Company expects this decline to continue. The Company
continues working closely with existing COLI customers to determine
the options available to them.
As a result of these legislative changes, the Company has shifted its
sales emphasis from COLI to the BOLI market. This product provides
long-term benefits for employees and was not affected by the 1996
legislative changes. BOLI premiums and deposits were $170.9 million
during 2002 compared to $547.9 million in 2001 and $581.9 million in
2000. The decrease in BOLI premiums and deposits in 2002 was the
result of the lower fixed interest rates and recent negative
publicity regarding this type of insurance product.
The term life insurance product marketed through banks and other
financial institutions has experienced significant growth over the
past several years. Policies sold totaled 53,400, 37,500 and 17,400
in the years 2002, 2001 and 2000, respectively. Although the sales of
term life insurance were improved in 2002 and 2001, the premiums on
these policies are smaller and, therefore, were not a significant
offset to the large decrease in BOLI premiums.
Fee income for the individual lines in 2002 was $18.1 million
compared to $17.9 million in 2001 and $8.2 million in 2000. The
increase relates to strong sales of BOLI separate accounts in prior
years.
3. 401(k)
401(k) premiums and deposits for investment-type contracts and
separate accounts decreased 23% in 2002 to $1.4 billion compared to a
7% decrease in 2001 as a result of lower sales and higher
terminations in both years.
The 401(k) block of business under administration totaled 6,012
employer groups and 477,300 individual participants in 2002, compared
to 6,447 employer groups and 545,800 individual participants in 2001
and 6,514 employer groups and 551,000 individual participants in
2000.
In addition to the Company's affiliate-managed funds, the Company
offers externally-managed funds from recognized mutual funds
companies such as AIM, Fidelity, Putnam, American Century, Founders,
and T. Rowe Price. Assets under administration in 401(k) decreased
15% in 2002 to $6.4 billion and decreased 7% from 2000 to 2001. The
decrease in both years was due to the impact of lower U.S. equity
markets and the reduction in the number of participants.
To promote long-term asset retention, the Company in 2002 enhanced a
number of products and services including prepackaged "lifestyle"
funds (the Profile Series), expense reductions for high-balance
accounts, a rollover IRA product, more effective enrollment
communications and one-on-one retirement planning assistance.
4. Outlook
Market pressures have led the government agencies to introduce
employer-matching plans that should also increase the number of
potential government employees who will be contributing to retirement
plans.
Continued management emphasis on the reduction of unit costs in the
FASCorp administration is designed to allow the Company to remain
competitive in the recordkeeping market.
Individual insurance policy sales through banks are expected to
increase in the year 2003. Distribution channels are presently
established and management plans to expand with additional bank
partners in 2003.
In 2002, the Financial Services division assumed responsibility for
the development and administration of the Company's 401(k) product.
At the end of 2002, the division established a new, focused marketing
strategy for the 401(k) product. A new customer relationship
management group has also been established with the goal of
establishing stronger relationships with existing 401(k) customers
and improving persistency.
D. INVESTMENT OPERATIONS
The Company's primary investment objective is to acquire assets with
duration and cash flow characteristics reflective of the Company's
liabilities, while meeting industry, size, issuer, and geographic
diversification standards. Formal liquidity and credit quality
parameters have also been established.
The Company follows rigorous procedures to control interest rate risk
and observes strict asset and liability matching guidelines. These
guidelines ensure that even under changing market conditions, the
Company's assets will meet the cash flow and income requirements of its
liabilities. Using dynamic modeling to analyze the effects of a range of
possible market changes upon investments and policyholder benefits, the
Company ensures that its investment portfolio is appropriately
structured to fulfill financial obligations to its policyholders.
A summary of the Company's general account invested assets follows:
[Millions] 2002 2001
----------------------------------------------------- -------------- -------------
Fixed maturities, available-for-sale, at fair value $ 10,371 $ 10,116
Mortgage loans 417 613
Real estate and common stock 94 85
Short-term investments 710 425
Policy loans 2,964 3,001
-------------- -------------
Total invested assets $ 14,556 $ 14,240
============== =============
1. Fixed Maturities
Fixed maturity investments include public and privately placed
corporate bonds, government bonds, and mortgage-backed and
asset-backed securities. The Company's strategy related to
mortgage-backed and asset-backed securities is to focus on those with
lower volatility and minimal credit risk. The Company does not invest
in higher risk collateralized mortgage obligations such as
interest-only and principal-only strips, and currently has no plans
to invest in such securities.
Private placement investments are generally less marketable than
publicly traded assets, yet they typically offer enhanced covenant
protection that allows the Company, if necessary, to take appropriate
action to protect its investment. The Company believes that the cost
of the additional monitoring and analysis required by private
placements is more than offset by their enhanced yield.
One of the Company's primary objectives is to ensure that its fixed
maturity portfolio is maintained at a high average quality, so as to
limit credit risk. If not externally rated, the securities are rated
by the Company on a basis intended to be similar to that of the
rating agencies.
During the fourth quarter of 2000, the Company transferred all
securities classified as held-to-maturity into the available-for-sale
category. See Item 8 (Financial Statements and Supplementary Data),
Note 7 for further discussion related to this transfer.
At December 31, 2002, the Company had four bonds in default
representing a carrying value of $24.3 million (0.2% of the total
fixed maturity investment portfolio), compared to nine bonds
representing $71.1 million (0.7% of the total fixed maturity
investment portfolio), for 2001.
The distribution of the fixed maturity portfolio by credit rating is
summarized as follows:
Credit Rating 2002 2001
-------------------------------------------------- -------------- -------------
AAA 58.9% 57.9%
AA 8.9 9.2
A 15.2 14.2
BBB 14.4 16.4
BB and below (non-investment grade) 2.6 2.3
-------------- -------------
TOTAL 100.0% 100.0%
============== =============
2. Mortgage Loans
During 2002, the mortgage loan portfolio declined 32% to $417
million, net of impairment reserves. The Company has not actively
sought new mortgage loan opportunities since 1989 and, as such, has
experienced an ongoing reduction in this portfolio's balance.
The Company follows a comprehensive approach to the management of
mortgage loans that includes ongoing analysis of key mortgage
characteristics such as debt service coverage, net collateral cash
flow, property condition, loan-to-value ratios, and market
conditions. Collateral valuations are performed for those mortgages
that after review are determined by management to present possible
risks and exposures. These valuations are then incorporated into the
determination of the Company's allowance for credit losses.
The average balance of impaired loans decreased to $31.2 million in
2002 compared with $31.6 million in 2001, and there were no
foreclosures in 2002, compared to $10.6 million in 2001. The low
levels of problematic mortgage loans relative to the Company's
overall balance sheet are due to the ongoing decrease in the size of
the mortgage loan portfolio, the Company's active loan management
program and overall strength in market conditions.
Occasionally, the Company elects to restructure certain mortgage
loans if the economic benefits to the Company are believed to be more
advantageous than those achieved by acquiring the collateral through
foreclosure. At December 31, 2002 and 2001, the Company's loan
portfolio included $40.3 million and $56.3 million, respectively, of
non-impaired restructured loans.
3. Derivatives
The Company uses certain derivatives, such as futures, options, and
swaps, for purposes of hedging interest rate, market and foreign
exchange risks. These derivatives, when taken alone, may subject the
Company to varying degrees of market and credit risk; however, when
used for hedging, these instruments typically reduce risk. The
Company controls the credit risk of its financial contracts through
established credit approvals, limits, and monitoring procedures. The
Company has also developed controls within its operations to ensure
that only Board authorized derivative transactions are executed. In
addition, the Company uses derivatives to synthetically create
investments that are either more expensive to acquire, or otherwise
unavailable, in the cash markets. Note 1 to the Consolidated
Financial Statements contains a discussion of the Company's
outstanding derivatives.
4. Outlook
The U.S. economic recovery is proving to be sluggish and uneven. The
Company expects growth to be below trend for the next few quarters,
gaining momentum through the second half of 2003. Currently,
economic indicators are mixed. Expectations are for domestic real
GDP growth in 2002 and 2003 of approximately 2.5%. Globally,
economies remain weak with the exception of China.
The Federal Reserve Board responded aggressively to weaker than
expected economic data with a 50 basis point cut in the Fed Funds
rate to 1.25% at the November 2002 meeting. While stimulative policy
and strong underlying productivity growth were expected to restore
the economy to a sustainable trend rate of growth, persistent stock
market weakness has undercut monetary policy stimulus and economic
risks are biased to a below potential growth scenario.
Interest rates across the curve bottomed in early October after
declining to levels not experienced since the 1960's, rising
modestly since then. It is likely that inflation and yields will
stay relatively low over the intermediate term, providing the
Federal Reserve Board significant latitude to allow the economy to
gain some momentum before they begin to resume an upward bias.
The Company's investment portfolio is well positioned for the
current interest rate environment. The portfolio is well diversified
and comprised of high quality, relatively stable assets. The Company
opportunistically added exposure in investment grade corporate
securities at historically wide spreads in 2002 in addition to
investing in structured securities with moderate interest rate
sensitivity. It is the Company's philosophy and intent to maintain
its proactive portfolio management policies in an ongoing effort to
ensure the quality and performance of its investments.
E. LIQUIDITY AND CAPITAL RESOURCES
The Company's operations have liquidity requirements that vary among its
principal product lines. Life insurance and pension plan reserves are
primarily long-term liabilities. Accident and health reserves, including
long-term disability, consist of both short-term and long-term
liabilities. Life insurance and pension plan reserve requirements are
usually stable and predictable, and are supported primarily by
long-term, fixed income investments. Accident and health claim demands
are stable and predictable but generally shorter term, requiring greater
liquidity.
Generally, the Company has met its operating requirements by maintaining
appropriate levels of liquidity in its investment portfolio and
utilizing positive cash flows from operations. Liquidity for the Company
has remained strong, as evidenced by significant amounts of short-term
investments and cash that totaled $864.9 million and $641.4 million as
of December 31, 2002 and 2001, respectively. In addition, as of December
31, 2002 and 2001, 97% and 98%, respectively, of the bond portfolio
carried an investment grade rating, thereby providing significant
liquidity to the Company's overall investment portfolio.
Funds provided by premiums and fees, investment income and maturities of
investment assets are reasonably predictable and normally exceed
liquidity requirements for payment of claims, benefits, and expenses.
However, since the timing of available funds cannot always be matched
precisely to commitments, imbalances may arise when demands for funds
exceed those on hand. Also, a demand for funds may arise as a result of
the Company taking advantage of current investment opportunities. The
sources of the funds that may be required in such situations include the
issuance of commercial paper and equity securities.
Capital resources provide protection for policyholders and financial
strength to support the underwriting of insurance risks, and allow for
continued business growth. The amount of capital resources that may be
needed is determined by the Company's senior management and Board of
Directors, as well as by regulatory requirements. The allocation of
resources to new long-term business commitments is designed to achieve
an attractive return, tempered by considerations of risk and the need to
support the Company's existing business.
The Company's financial strength provides the capacity and flexibility
to enable it to raise funds in the capital markets through the issuance
of commercial paper. The Company continues to be well capitalized, with
sufficient borrowing capacity to meet the anticipated needs of its
business. The Company had $96.6 million of commercial paper outstanding
at December 31, 2002 compared with $97.0 million at December 31, 2001.
The commercial paper has been given a rating of A-1+ by Standard &
Poors' Corporation and a rating of P-1 by Moody's Investors Services,
each being the highest rating available. In addition, the Company issued
a surplus note to GWL&A Financial in 1999. The surplus note bears
interest at 7.25% and is due June 30, 2048.
F. OBLIGATIONS RELATING TO DEBT AND LEASES
The Company's obligations relating to debt and leases at December 31,
2002 were as follows:
2003 2004 2005 2006 2007 Thereafter
-------- -------- -------- -------- -------- -----------
Related party $ $ $ $ 25.0 $