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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
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|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2002
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
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Commission file number 1-16725
PRINCIPAL FINANCIAL GROUP, INC.
(Exact name of registrant as specified in its charter)
Delaware 42-1520346
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
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711 High Street, Des Moines, Iowa 50392
(Address of principal executive offices)
(515) 247-5111
(Registrant's telephone number, including area code)
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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 |_|
The total number of shares of the registrant's Common Stock, $0.01 par value,
outstanding as of August 5, 2002, was 346,882,550.
PRINCIPAL FINANCIAL GROUP, INC.
TABLE OF CONTENTS
Page
Part I - FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Statements of Financial Position at June 30, 2002
(Unaudited)and December 31, 2001.................................... 3
Unaudited Consolidated Statements of Operations for the three
months and six months ended June 30, 2002 and 2001.................. 4
Unaudited Consolidated Statements of Stockholders' Equity for
the six months ended June 30, 2002 and 2001......................... 5
Unaudited Consolidated Statements of Cash Flows for the
six months ended June 30, 2002 and 2001............................. 6
Notes to Unaudited Consolidated Financial Statements - June 30, 2002.. 8
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations....................................... 23
Item 3. Quantitative and Qualitative Disclosures about Market Risk...... 74
Part II - OTHER INFORMATION
Item 1. Legal Proceedings............................................... 79
Item 4. Submission of Matters to a Vote of Security Holders............. 80
Item 6. Exhibits and Reports on Form 8-K................................ 81
Signature............................................................... 82
2
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Principal Financial Group, Inc.
Consolidated Statements of Financial Position
JUNE 30, DECEMBER 31,
2002 2001
------------------ ------------------
(Unaudited) (Note 1)
(IN MILLIONS,
EXCEPT PER SHARE DATA)
ASSETS
Fixed maturities, available-for-sale........................................ $31,584.6 $30,012.3
Fixed maturities, trading................................................... 59.6 17.8
Equity securities, available-for-sale....................................... 813.7 833.6
Mortgage loans.............................................................. 10,831.6 11,065.7
Real estate................................................................. 1,194.0 1,181.8
Policy loans................................................................ 824.7 831.9
Other investments........................................................... 862.0 829.8
------------------ ------------------
Total investments........................................................ 46,170.2 44,772.9
Cash and cash equivalents................................................... 1,261.1 623.8
Accrued investment income................................................... 606.7 594.3
Premiums due and other receivables.......................................... 1,092.4 531.3
Deferred policy acquisition costs........................................... 1,427.4 1,372.5
Property and equipment...................................................... 514.9 518.2
Goodwill.................................................................... 170.7 439.3
Other intangibles........................................................... 724.7 789.1
Mortgage loan servicing rights.............................................. 1,978.8 1,779.2
Separate account assets..................................................... 35,132.8 35,864.8
Other assets................................................................ 1,113.7 1,065.1
------------------ ------------------
Total assets............................................................. $90,193.4 $88,350.5
================== ==================
LIABILITIES
Contractholder funds........................................................ $26,013.4 $24,684.4
Future policy benefits and claims........................................... 14,440.6 14,034.6
Other policyholder funds.................................................... 589.6 589.1
Short-term debt............................................................. 400.2 511.6
Long-term debt.............................................................. 1,342.2 1,378.4
Income taxes currently payable.............................................. 165.9 0.5
Deferred income taxes....................................................... 803.7 894.6
Separate account liabilities................................................ 35,132.8 35,864.8
Other liabilities........................................................... 4,634.9 3,572.2
------------------ ------------------
Total liabilities........................................................ 83,523.3 81,530.2
STOCKHOLDERS' EQUITY
Common stock, par value $.01 per share - 2,500 million shares authorized,
376.4 million and 375.8 million shares issued, 351.4 million and
360.1 million shares outstanding, respectively........................... 3.8 3.8
Additional paid-in capital.................................................. 7,088.6 7,072.5
Retained earnings (deficit)................................................. 56.2 (29.1)
Accumulated other comprehensive income...................................... 163.0 147.5
Treasury stock, at cost (25.0 million and 15.7 million shares, respectively) (641.5) (374.4)
------------------ ------------------
Total stockholders' equity............................................... 6,670.1 6,820.3
------------------ ------------------
Total liabilities and stockholders' equity............................... $90,193.4 $88,350.5
================== ==================
See accompanying notes.
3
PRINCIPAL FINANCIAL GROUP, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
FOR THE THREE MONTHS ENDED FOR THE SIX MONTHS
JUNE 30, ENDED JUNE 30,
------------------------------- -------------------------------
2002 2001 2002 2001
--------------- --------------- --------------- ---------------
(IN MILLIONS, EXCEPT PER SHARE DATA)
REVENUES
Premiums and other considerations.............. $1,166.6 $ 891.1 $2,052.3 $1,955.3
Fees and other revenues........................ 479.4 443.3 955.4 856.3
Net investment income.......................... 825.5 846.3 1,638.7 1,686.0
Net realized capital gains (losses)............ (91.5) (96.0) 6.6 (176.9)
--------------- --------------- --------------- ---------------
Total revenues........................... 2,380.0 2,084.7 4,653.0 4,320.7
EXPENSES
Benefits, claims and settlement
expenses.................................... 1,507.9 1,247.3 2,711.1 2,639.2
Dividends to policyholders..................... 79.5 81.1 161.9 162.1
Operating expenses............................. 638.6 605.5 1,269.4 1,228.2
--------------- --------------- --------------- ---------------
Total expenses........................... 2,226.0 1,933.9 4,142.4 4,029.5
--------------- --------------- --------------- ---------------
Income before income taxes and cumulative
effect of accounting changes................ 154.0 150.8 510.6 291.2
Income taxes................................... 33.8 31.7 144.4 56.1
--------------- --------------- --------------- ---------------
Income before cumulative effect of
accounting changes.......................... 120.2 119.1 366.2 235.1
Cumulative effect of accounting changes, net of
related income taxes........................ - - (280.9) (10.7)
--------------- --------------- --------------- ---------------
Net income..................................... $ 120.2 $ 119.1 $ 85.3 $ 224.4
=============== =============== =============== ===============
FOR THE THREE MONTHS FOR THE SIX MONTHS
ENDED JUNE 30, 2002 ENDED JUNE 30, 2002
------------------------------- -------------------------------
EARNINGS PER COMMON SHARE
Basic earnings per common share:
Income before cumulative effect of
accounting change.......................... $ 0.34 $ 1.02
Cumulative effect of accounting change
net of related income taxes................ - (0.78)
------------------------------- -------------------------------
Net income..................................... $ 0.34 $ 0.24
=============================== ===============================
Diluted earnings per common share:
Income before cumulative effect of
accounting change.......................... $ 0.34 $ 1.02
Cumulative effect of accounting change,
net of related income taxes................ - (0.78)
------------------------------- -------------------------------
Net income................................... $ 0.34 $ 0.24
=============================== ===============================
See accompanying notes.
4
PRINCIPAL FINANCIAL GROUP, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(UNAUDITED)
ACCUMULATED
ADDITIONAL RETAINED OTHER TOTAL
COMMON PAID-IN EARNINGS COMPREHENSIVE TREASURY STOCKHOLDERS' OUTSTANDING
STOCK CAPITAL (DEFICIT) INCOME (LOSS) STOCK EQUITY SHARES
------ ---------- --------- ------------- -------- ------------- -----------
(IN MILLIONS) (IN THOUSANDS)
BALANCES AT JANUARY 1, 2001...... $- $ - $6,312.5 $(60.0) $ - $6,252.5 -
Comprehensive income:
Net income...................... - - 224.4 - - 224.4 -
Net unrealized gains............ - - - 227.4 - 227.4 -
Provision for deferred -
income taxes................... - - - (85.6) - (85.6)
Foreign currency translation
adjustment..................... - - - (76.1) - (76.1) -
Cumulative effect of accounting
change, net of related
income taxes................... - - - (14.2) - (14.2) -
-------------
Comprehensive income............. 275.9
------ ---------- --------- ------------- -------- ------------- -----------
BALANCES AT JUNE 30, 2001........ $- $ - $6,536.9 $ (8.5) $ - $6,528.4 -
====== ========== ========= ============= ======== ============= ===========
BALANCES AT JANUARY 1, 2002...... $3.8 $7,072.5 $ (29.1) $147.5 $(374.4) $6,820.3 360,142.2
Stock issued..................... - 14.8 - - - 14.8 569.4
Treasury stock acquired and
reissued, net................... - 1.3 - - (267.1) (265.8) (9,305.9)
Comprehensive income:
Net income...................... - - 85.3 - - 85.3 -
Net unrealized gains............ - - - 12.8 - 12.8 -
Provision for deferred -
income taxes................... - - - (3.1) - (3.1)
Foreign currency translation
adjustment..................... - - - 5.8 - 5.8 -
-------------
Comprehensive income............. 100.8
------ ---------- -------- ------------- -------- ------------- -----------
BALANCES AT JUNE 30, 2002........ $3.8 $7,088.6 $ 56.2 $163.0 $(641.5) $6,670.1 351,405.7
====== ========== ======== ============= ======== ============= ===========
SEE ACCOMPANYING NOTES.
5
PRINCIPAL FINANCIAL GROUP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
FOR THE SIX MONTHS ENDED
JUNE 30,
-----------------------
2002 2001
----------- -----------
(IN MILLIONS)
OPERATING ACTIVITIES
Net income............................................ $ 85.3 $ 224.4
Adjustments to reconcile net income to net cash
provided by operating activities:
Cumulative effect of accounting changes,
net of related income taxes.................... 280.9 10.7
Amortization of deferred policy acquisition
costs.......................................... 67.0 104.3
Additions to deferred policy acquisition costs... (160.0) (132.9)
Accrued investment income........................ (12.4) (49.6)
Premiums due and other receivables............... 75.9 (10.0)
Contractholder and policyholder liabilities
and dividends.................................. 1,029.9 924.9
Current and deferred income taxes................ 326.7 41.7
Net realized capital (gains) losses.............. (6.6) 176.9
Depreciation and amortization expense............ 54.0 74.3
Amortization and impairment/recovery of
mortgage servicing rights..................... 201.5 128.7
Other............................................ 58.2 320.6
----------- -----------
Net adjustments....................................... 1,915.1 1,589.6
----------- -----------
Net cash provided by operating activities............. 2,000.4 1,814.0
INVESTING ACTIVITIES
Available-for-sale securities:
Purchases.......................................... (7,347.0) (7,041.0)
Sales.............................................. 3,712.2 3,035.1
Maturities......................................... 2,107.4 1,404.2
Net cash flows from trading securities................ (41.2) -
Mortgage loans acquired or originated................. (20,757.9) (16,789.4)
Mortgage loans sold or repaid......................... 20,985.0 16,778.4
Purchase of mortgage servicing rights................. (471.4) (392.3)
Proceeds from sale of mortgage servicing rights....... 8.0 26.0
Real estate acquired.................................. (126.5) (180.4)
Real estate sold...................................... 157.7 394.4
Net change in property and equipment.................. (34.7) (42.0)
Net proceeds (disbursements) from sales of
subsidiaries....................................... 1.4 (13.5)
Purchases of interest in subsidiaries, net of cash
acquired........................................... (49.0) (4.2)
Net change in other investments....................... 463.6 (237.2)
----------- -----------
Net cash used in investing activities................. $ (1,392.4) $ (3,061.9)
6
PRINCIPAL FINANCIAL GROUP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
(UNAUDITED)
FOR THE SIX MONTHS ENDED
JUNE 30,
-----------------------
2002 2001
----------- -----------
(IN MILLIONS)
FINANCING ACTIVITIES
Issuance of common stock............................. $ 14.8 $ -
Acquisition and reissuance of treasury stock, net.... (265.8) -
Issuance of long-term debt........................... 10.7 146.4
Principal repayments of long-term debt............... (46.9) (92.3)
Proceeds of short-term borrowings.................... 5,126.0 4,276.5
Repayment of short-term borrowings................... (5,237.4) (4,060.1)
Investment contract deposits......................... 4,088.7 3,302.9
Investment contract withdrawals...................... (3,660.8) (2,880.2)
----------- -----------
Net cash provided by financing activities............ 29.3 693.2
----------- -----------
Net increase (decrease) in cash and
cash equivalents................................. 637.3 (554.7)
Cash and cash equivalents at beginning of period..... 623.8 926.6
----------- -----------
Cash and cash equivalents at end of period........... $ 1,261.1 $ 371.9
=========== ===========
SEE ACCOMPANYING NOTES.
7
PRINCIPAL FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 2002
(UNAUDITED)
1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of Principal
Financial Group, Inc. and its majority-owned subsidiaries ("the Company") have
been prepared in conformity with accounting principles generally accepted in the
U.S. ("U.S. GAAP") for interim financial statements and with the instructions to
Form 10-Q and Article 10 of Regulation S-X. In the opinion of management, all
adjustments (consisting of normal recurring accruals) considered necessary for a
fair presentation have been included. Operating results for the three months and
six months ended June 30, 2002, are not necessarily indicative of the results
that may be expected for the year ended December 31, 2002. These interim
unaudited consolidated financial statements should be read in conjunction with
the Company's annual audited financial statements as of December 31, 2001,
included in the Company's Form 10-K for the year ended December 31, 2001, filed
with the United States Securities and Exchange Commission. The accompanying
consolidated statement of financial position at December 31, 2001, has been
derived from the audited consolidated statement of financial position but does
not include all of the information and footnotes required by U.S. GAAP for
complete financial statements.
Reclassifications have been made to the December 31, 2001 and June 30, 2001,
financial statements to conform to the June 30, 2002, presentation.
SEPARATE ACCOUNTS
At June 30, 2002, the Separate Accounts included a separate account valued at
$1.2 billion which primarily included shares of the Company's stock that were
allocated and issued to eligible participants of qualified employee benefit
plans administered by the Company as part of the policy credits issued under the
Company's demutualization. These shares are included in both basic and diluted
earnings per share calculations. The separate account shares are recorded at
fair value and are reported as separate account assets and separate account
liabilities in the consolidated statement of financial position. Activity of the
separate account shares is reflected in both the separate account assets and
separate account liabilities and does not impact the Company's results of
operations.
ACCOUNTING CHANGES
The Financial Accounting Standards Board ("FASB") Statement of Financial
Accounting Standards ("SFAS") No. 123, ACCOUNTING FOR STOCK-BASED COMPENSATION
("SFAS 123") encourages, but does not require, companies to record compensation
cost for stock-based employee compensation plans based on the fair value of
options granted. The Company has elected to adopt the fair value based method of
accounting prescribed in SFAS 123, retroactive to January 1, 2002, for its
employee stock-based compensation plans and will implement the method during
the third quarter of 2002 for all stock-based awards granted subsequent to
January 1, 2002. Prior to January 1, 2002, the Company elected to account for
its stock-based compensation plans under the provisions of Accounting Principles
Board ("APB") Opinion No. 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES and,
accordingly, employee stock-based compensation costs were excluded from
compensation expense. The Company estimates an after-tax impact of between two
and three cents per diluted share in 2002 as a result of this change in
accounting policy.
In June 2001, the FASB issued SFAS No. 141, BUSINESS COMBINATIONS ("SFAS
141"), and SFAS No. 142, GOODWILL AND OTHER INTANGIBLE ASSETS ("SFAS 142"). SFAS
141 requires that the purchase method of accounting be used for all business
combinations initiated after June 30, 2001, and requires separate recognition of
intangible assets apart from goodwill, if such intangible assets meet certain
criteria. SFAS 142, effective January 1, 2002, prohibits the amortization of
goodwill and intangible assets with indefinite useful lives. Intangible assets
with finite lives will continue to be amortized over their estimated useful
lives. Additionally, SFAS 142 requires that goodwill and indefinite-lived
intangible assets be reviewed for impairment at least annually, which the
Company plans to do in the fourth quarter each year.
Upon adoption of SFAS 142, the transition provisions of SFAS 141 became
effective, which required the Company to reclassify to goodwill the carrying
amount of its intangible assets that do not meet the specified criteria enabling
an intangible asset to be recognized separately from goodwill. As a result, the
Company reclassified its assembled work force intangible asset of $22.3 million,
related to BT Financial Group, to goodwill.
The initial adoption of SFAS 142 required the Company to perform a two-step
fair-value based goodwill impairment test. The first step of the test compared
the estimated fair value of the reporting unit to its carrying value, including
goodwill. If the carrying value exceeded fair value, a second step was
performed, which compared the implied fair value of the applicable reporting
8
PRINCIPAL FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 2002
(UNAUDITED)
1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
unit's goodwill with the carrying amount of that goodwill, to measure the
goodwill impairment, if any. Additionally, the Company was required to perform
an impairment test on its indefinite-lived intangible assets, which consisted of
a comparison of the fair value of an intangible asset with its carrying amount.
The Company's measurements of fair value were based on evaluations of future
discounted cash flows, product level analysis, market performance assumptions
and cash flow assumptions. These evaluations utilized the best information
available in the circumstances, including reasonable and supportable assumptions
and projections. The discounted cash flow evaluations considered earnings
scenarios and the likelihood of possible outcomes. Collectively, these
evaluations were management's best estimate of projected future cash flows.
As a result of performing the two-step impairment test, the Company recorded
goodwill impairments of $196.5 million, $20.9 million and $4.6 million, net of
income taxes, related to its BT Financial Group, Principal International, and
Life and Health operations, respectively. Additionally, as a result of
performing the indefinite-lived intangible asset impairment test, the Company
recognized an after-tax impairment of $58.9 million to its brand name and
management rights intangible asset related to BT Financial Group.
These impairments, recognized January 1, 2002, as a cumulative effect of a
change in accounting principle, were reported in the Company's operating
segments as follows (in millions):
INTERNATIONAL ASSET LIFE
MANAGEMENT AND AND HEALTH
ACCUMULATION SEGMENT SEGMENT CONSOLIDATED
-------------------- ---------- -------------
Goodwill............................... $321.2 $4.6 $325.8
Indefinite-lived intangibles........... 89.8 - 89.8
Income tax impact...................... (134.7) - (134.7)
-------------------- ---------- -------------
Total impairment, net of income taxes.. $276.3 $4.6 $280.9
==================== ========== =============
Net income and earnings per share (basic and diluted) for the three months and
six months ended June 30, 2002 and 2001, adjusted for the effects of SFAS 142
related to non-amortization of goodwill and indefinite-lived intangibles, are as
follows (in millions, except per share data):
FOR THE FOR THE
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------ ----------------
2002 2001(1) 2002 2001(1)
-------- -------- -------- -------
Reported net income.................... $120.2 $119.1 $85.3 $224.4
Adjustment for amortization expense:
Goodwill.............................. - 5.9 - 15.7
Brand name and management rights...... - 4.5 - 9.0
Assembled workforce................... - 0.9 - 1.9
-------- -------- -------- -------
Total amortization expense............. - 11.3 - 26.6
Tax impacts of amortization expense.... - (3.9) - (7.3)
-------- -------- -------- -------
Adjusted net income.................... $120.2 $126.5 $85.3 $243.7
======== ======== ======== =======
Basic earnings per share:
Reported net income.................... $ 0.34 $ 0.33 $ 0.24 $ 0.62
Adjustment for amortization expense:
Goodwill.............................. - 0.02 - 0.05
Brand name and management rights...... - 0.01 - 0.03
Assembled workforce................... - - - -
-------- -------- -------- -------
Total amortization expense............. - 0.03 - 0.08
Tax impacts of amortization expense.... - (0.01) - (0.02)
-------- -------- -------- -------
Adjusted net income.................... $ 0.34 $ 0.35 $ 0.24 $ 0.68
======== ======== ======== =======
9
PRINCIPAL FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 2002
(UNAUDITED)
1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
FOR THE FOR THE
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------ ----------------
2002 2001(1) 2002 2001(1)
-------- -------- -------- -------
Diluted earnings per share:
Reported net income................... $ 0.34 $ 0.33 $ 0.24 $ 0.62
Adjustment for amortization expense:
Goodwill............................ - 0.02 - 0.05
Brand name and management rights.... - 0.01 - 0.03
Assembled workforce................. - - - -
-------- -------- -------- -------
Total amortization expense............ - 0.03 - 0.08
Tax impacts of amortization expense... - (0.01) - (0.02)
-------- -------- -------- -------
Adjusted net income................... $ 0.34 $ 0.35 $ 0.24 $ 0.68
======== ======== ======== =======
- ------------
(1) For purposes of the Company's unaudited basic and diluted pro-forma earnings
per share calculations, the weighted average number of shares outstanding during
the three months and six months ended June 30, 2001, was assumed to be 360.8
million shares. These shares represent 260.8 million shares issued to
policyholders entitled to receive compensation in the demutualization and 100.0
million shares sold to investors in the initial public offering ("IPO"),
effective October 26, 2001.
In August 2001, the FASB issued SFAS No. 144, ACCOUNTING FOR THE IMPAIRMENT OR
DISPOSAL OF LONG-LIVED ASSETS ("SFAS 144"). This Statement supersedes SFAS No.
121, ACCOUNTING FOR THE IMPAIRMENT OF LONG-LIVED ASSETS AND FOR LONG-LIVED
ASSETS TO BE DISPOSED OF, and amends APB Opinion No. 30, REPORTING THE RESULTS
OF OPERATIONS - REPORTING THE EFFECTS OF DISPOSAL OF A SEGMENT OF A BUSINESS,
AND EXTRAORDINARY, UNUSUAL AND INFREQUENTLY OCCURRING EVENTS AND TRANSACTIONS
("Opinion 30"), establishing a single accounting model for the disposal of
long-lived assets. SFAS 144 generally retains the basic provisions of existing
guidance, but broadens the presentation of any discontinued operations to
include a component of an entity (rather than a segment of a business as defined
in Opinion 30). The Company adopted SFAS 144 on January 1, 2002, which did not
have a significant impact on the Company's consolidated financial statements.
On January 1, 2001, the Company adopted SFAS No. 133, ACCOUNTING FOR DERIVATIVE
INSTRUMENTS AND HEDGING ACTIVITIES ("SFAS 133"), as amended by SFAS No. 138,
ACCOUNTING FOR CERTAIN DERIVATIVE INSTRUMENTS AND CERTAIN HEDGING ACTIVITIES -
AN AMENDMENT OF FASB STATEMENT NO. 133. As amended, SFAS 133 requires, among
other things, that all derivatives be recognized in the consolidated statement
of financial position as either assets or liabilities that are measured at fair
value. SFAS 133 also established special accounting for qualifying hedges, which
allows for matching the timing of gain or loss recognition on the hedging
instrument with the recognition of the corresponding changes in value of the
hedged item. Changes in the fair value of a derivative qualifying as a hedge are
recognized in earnings or directly in stockholders' equity depending on the
instrument's intended use. For derivatives that are not designated as hedges or
that do not meet the hedge accounting criteria in SFAS 133, changes in fair
value are required to be recognized in earnings in the period of change.
At January 1, 2001, the Company's consolidated financial statements were
adjusted to record a cumulative effect of adopting SFAS 133, as follows (in
millions):
ACCUMULATED OTHER
NET LOSS COMPREHENSIVE LOSS
---------- ------------------
Adjustment to fair value of derivative
contracts (1)............................ $(16.4) $(15.8)
Income tax impact........................ 5.7 1.6
---------- ------------------
Total ................................... $(10.7) $(14.2)
========== ==================
- ------------
(1)Amount presented is net of adjustment to hedged item.
10
PRINCIPAL FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 2002
(UNAUDITED)
2. GOODWILL AND OTHER INTANGIBLE ASSETS
Amortized intangible assets are as follows (in millions):
AS OF JUNE 30, 2002 AS OF DECEMBER 31, 2001
------------------------------ ------------------------------
GROSS NET GROSS NET
CARRYING ACCUMULATED CARRYING CARRYING ACCUMULATED CARRYING
AMOUNT AMORTIZATION AMOUNT AMOUNT AMORTIZATION AMOUNT
-------- ------------ -------- -------- ------------ --------
Value of insurance in
force acquired.......... $77.6 $10.1 $67.5 $83.7 $10.2 $73.5
======== ============ ======== ======== ============ ========
Unamortized intangible assets are as follows (in millions):
AS OF JUNE 30, AS OF DECEMBER 31,
2002 2001
------------ -------------------
NET CARRYING NET CARRYING
AMOUNT AMOUNT
------------ -------------------
Brand name and management rights ...... $645.6 $679.0
Assembled work force .................. - 22.3
Other ................................. 11.6 14.3
------------ -------------------
Total unamortized intangible assets ... $657.2 $715.6
============ ===================
The amortization expense for the value of insurance in force acquired was $0.7
million and $1.6 million for the three months and six months ended June 30,
2002, respectively, and $1.0 million and $2.0 million for the three months and
six months ended June 30, 2001, respectively. At December 31, 2001, the
estimated amortization expense for the next five years is as follows (in
millions):
ESTIMATED
AMORTIZATION
EXPENSE
------------
2002............... $3.1
2003................ 2.9
2004................ 2.7
2005................ 2.5
2006................ 2.5
11
PRINCIPAL FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 2002
(UNAUDITED)
2. GOODWILL AND OTHER INTANGIBLE ASSETS (CONTINUED)
The changes in the carrying amount of goodwill reported in the Company's
operating segments for the six months ended June 30, 2002, are as follows (in
millions):
INTERNATIONAL
U.S. ASSET ASSET
MANAGEMENT MANAGEMENT LIFE AND
AND AND HEALTH MORTGAGE CORPORATE AND
ACCUMULATION ACCUMULATION INSURANCE BANKING OTHER CONSOLIDATED
------------- ------------- --------- -------- ------------- ------------
Balance at January 1, 2002.. $16.1 $380.1 $49.4 $8.4 $(14.7) $ 439.3
Reclassification of
assembled workforce
intangible asset.......... 22.3 22.3
Goodwill from
acquisitions.............. - 21.6 - - - 21.6
Goodwill disposed of
during the period......... - - (0.7) - 14.7 14.0
Cumulative effect of
accounting change......... - (321.2) (4.6) - - (325.8)
Foreign currency
translation............... - (0.7) - - - (0.7)
--------------- ----------- --------- -------- ------------- ------------
Balance at June 30, 2002.... $16.1 $102.1 $44.1 $8.4 $ - $ 170.7
=============== =========== ========= ======== ============= ============
3. MERGERS, ACQUISITIONS, AND DIVESTITURES
On May 31, 2002, the Company purchased a 100% ownership of Zurich Afore S.A. de
C.V. ("Zurich Afore") from Zurich Financial Services for $49.0 million in cash.
The application of purchase accounting resulted in goodwill of approximately
$21.6 million. Zurich Afore contributed $23.9 million of assets and $0.3 million
of revenue to the consolidated statement of financial position and statement of
operations, respectively, as of June 30, 2002.
On February 1, 2002, the Company sold its remaining stake of 15.1 million shares
in Coventry Health Care, Inc. ("Coventry") common stock and a warrant,
exercisable for 3.1 million shares of Coventry common stock. Total proceeds from
the completion of this transaction were $325.4 million and the Company
recognized a net realized capital gain of $183.0 million.
4. CLOSED BLOCK
In connection with its 1998 mutual insurance holding company formation,
Principal Life Insurance Company ("Principal Life") formed and began operating a
closed block ("Closed Block") for the benefit of individual participating
dividend-paying policies in force on that date. As of June 30, 2002, cumulative
actual earnings, including consideration of net unrealized gains, have been less
than cumulative expected earnings. Therefore, no policyholder dividend
obligation has been recognized.
12
PRINCIPAL FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 2002
(UNAUDITED)
4. CLOSED BLOCK (CONTINUED)
Closed Block liabilities and assets designated to the Closed Block are as
follows:
AS OF AS OF
JUNE 30, DECEMBER 31
2002 2001
---------- -----------
(IN MILLIONS)
CLOSED BLOCK LIABILITIES
Future policy benefits and claims.................. $5,270.0 $5,248.7
Other policyholder funds........................... 26.4 20.3
Policyholder dividends payable..................... 383.2 376.6
Other liabilities.................................. 86.8 11.8
--------- ---------
Total Closed Block liabilities................... 5,766.4 5,657.4
ASSETS DESIGNATED TO THE CLOSED BLOCK
Fixed maturities, available-for-sale............... 2,537.8 2,466.3
Equity securities, available-for-sale.............. 23.6 23.4
Mortgage loans..................................... 893.8 880.0
Policy loans....................................... 781.2 792.5
Other investments.................................. 8.3 6.9
--------- ---------
Total investments................................ 4,244.7 4,169.1
Cash and cash equivalents (deficit)................ 12.0 (8.0)
Accrued investment income.......................... 77.2 77.2
Deferred tax asset................................. 90.6 80.8
Premiums due and other receivables................. 73.2 33.3
--------- ---------
Total assets designated to the Closed Block...... 4,497.7 4,352.4
--------- ---------
Excess of Closed Block liabilities over assets
designated to the Closed Block................... 1,268.7 1,305.0
Amounts included in other comprehensive
income........................................ 55.8 43.6
--------- ---------
Maximum future earnings to be recognized from
Closed Block assets and liabilities........... $1,324.5 $1,348.6
========= =========
13
PRINCIPAL FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 2002
(UNAUDITED)
4. CLOSED BLOCK (CONTINUED)
Closed Block revenues and expenses were as follows:
FOR THE FOR THE
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------ ------------------
2002 2001 2002 2001
--------- -------- --------- --------
(IN MILLIONS)
REVENUES
Premiums and other considerations...... $ 181.0 $ 188.9 $ 359.8 $ 376.1
Net investment income.................. 76.8 74.9 156.2 151.8
Net realized capital losses............ (15.3) (2.5) (22.0) (1.8)
--------- -------- --------- --------
Total revenues....................... 242.5 261.3 494.0 526.1
EXPENSES
Benefits, claims, and settlement
expenses............................. 146.3 147.4 291.3 305.1
Dividends to policyholders............. 77.5 80.2 155.2 158.2
Operating expenses..................... 3.2 3.1 6.2 6.2
--------- -------- --------- --------
Total expenses....................... 227.0 230.7 452.7 469.5
--------- -------- --------- --------
Closed Block revenue, net of Closed
Block expenses, before income taxes.. 15.5 30.6 41.3 56.6
Income taxes........................... 4.8 10.0 13.3 18.5
--------- -------- --------- --------
Closed Block revenue, net of Closed
Block expenses and income taxes...... 10.7 20.6 28.0 38.1
Funding adjustment charges............. (2.4) (1.5) (3.9) (3.3)
--------- -------- --------- --------
Closed Block revenue, net of Closed
Block expenses, income taxes
and funding adjustment charges....... $ 8.3 $ 19.1 $ 24.1 $ 34.8
========= ======== ========= ========
The change in maximum future earnings of the Closed Block was as follows:
AS OF OR FOR THE
SIX MONTHS ENDED JUNE 30,
---------------------------------------
2002 2001
--------------- ---------------
(IN MILLIONS)
Beginning of year.................... $ 1,348.6 $1,408.8
End of period........................ 1,324.5 1,374.0
-------------- ---------------
Change in maximum future earnings.... $ (24.1) $ (34.8)
============== ===============
Principal Life charges the Closed Block with federal income taxes, payroll
taxes, state and local premium taxes and other state or local taxes, licenses
and fees as provided in the plan of reorganization.
14
PRINCIPAL FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 2002
(UNAUDITED)
5. FEDERAL INCOME TAXES
The effective income tax rate on net income for the three months and six months
ended June 30, 2002 and 2001, is lower than the prevailing corporate federal
income tax rate primarily due to income tax deductions allowed for corporate
dividends received.
6. COMPREHENSIVE INCOME
Comprehensive income is as follows:
FOR THE THREE FOR THE SIX
MONTHS ENDED MONTHS ENDED
JUNE 30, JUNE 30,
--------------------- ---------------------
2002 2001 2002 2001
---------- ---------- ---------- ----------
(IN MILLIONS)
COMPREHENSIVE INCOME:
Net income............................................. $ 120.2 $ 119.1 $ 85.3 $ 224.4
Net change in unrealized gains and losses on fixed
maturities, available-for-sale....................... 406.5 (205.7) 46.9 181.4
Net change in unrealized gains and losses on equity
securities, available-for-sale, including seed
money in separate accounts........................... (15.0) 88.0 4.4 74.7
Adjustments for assumed changes in amortization
patterns:
Deferred policy acquisition costs.................... (66.6) 40.3 (25.1) (26.8)
Unearned revenue reserves............................ 3.4 (4.6) 0.6 0.6
Net change in unrealized gains and losses on
derivative instruments............................... (26.6) 8.1 (14.0) (2.5)
Provision for deferred income taxes (benefits)......... (105.4) 22.6 (3.1) (85.6)
Change in net foreign currency translation adjustment.. (5.7) 19.8 5.8 (76.1)
Cumulative effect of accounting change, net of related
income taxes......................................... - - - (14.2)
---------- ---------- ---------- -----------
Comprehensive income................................... $ 310.8 $ 87.6 $ 100.8 $ 275.9
========== ========== ========== ===========
7. COMMITMENTS AND CONTINGENCIES
LITIGATION
The Company is a plaintiff or defendant in actions arising out of its
operations. The Company is, from time to time, also involved in various
governmental and administrative proceedings. While the outcome of any pending or
future litigation cannot be predicted, management does not believe that any
pending litigation will have a material adverse effect on the Company's
business, financial condition or results of operations. However, no assurances
can be given that such litigation would not materially and adversely affect the
Company's business, financial condition or results of operations.
Other companies in the life insurance industry have historically been subject to
substantial litigation resulting from claims disputes and other matters. Most
recently, such companies have faced extensive claims, including class-action
lawsuits, alleging improper life insurance sales practices. Principal Life is
currently a defendant in two class-action lawsuits which allege improper sales
practices.
15
PRINCIPAL FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 2002
(UNAUDITED)
7. COMMITMENTS AND CONTINGENCIES (CONTINUED)
In 2000, the Company reached an agreement in principle to settle these two
class-action lawsuits alleging improper sales practices. In April 2001, the
proposed settlement of the class-action lawsuits received court approval. In
agreeing to the settlement, the Company specifically denied any wrongdoing. The
Company has accrued a loss reserve for its best estimate based on information
available. As uncertainties continue to exist in resolving this matter, it is
reasonably possible that, as the actual cost of the claims subject to
alternative dispute resolution becomes available, the final cost of settlement
could exceed the Company's estimate. The range of any additional cost related to
the settlement cannot be presently estimated; however, the Company believes the
settlement will not have a material impact on its business, financial condition
or results of operations. A number of persons and entities who were eligible to
be class members have excluded themselves from the class (or "opted out"), as
the law permits them to do. The Company has been notified that some of those who
opted out from the class will file lawsuits and make claims similar to those
addressed by the settlement. Some of these lawsuits are presently on file.
8. SEGMENT INFORMATION
The Company provides financial products and services through the following
segments: U.S. Asset Management and Accumulation, International Asset Management
and Accumulation, Life and Health Insurance and Mortgage Banking. In addition,
there is a Corporate and Other segment. The segments are managed and reported
separately because they provide different products and services, have different
strategies or have different markets and distribution channels.
The U.S. Asset Management and Accumulation segment provides retirement and
related financial products and services primarily to businesses, their employees
and other individuals and provides asset management services to the Company's
asset accumulation business, the life and health insurance operations and
third-party clients.
The International Asset Management and Accumulation segment provides asset
management products and services to retail clients in Australia and
institutional clients throughout the world and provides life insurance and
retirement and related financial products and services primarily to businesses,
their employees and other individuals principally in Australia, Chile, Brazil,
New Zealand, Mexico, India, Japan, Argentina and Hong Kong.
The Life and Health insurance segment provides individual life and disability
insurance to the owners and employees of businesses and other individuals in the
U.S. and provides group life and health insurance to businesses in the U.S.
The Mortgage Banking segment originates and services residential mortgage loan
products for customers primarily in the U.S.
The Corporate and Other segment manages the assets representing capital that has
not been allocated to any other segment. Financial results of the Corporate and
Other segment primarily reflect financing activities for the Company, income on
capital not allocated to other segments, intersegment eliminations and
non-recurring or other income or expenses not allocated to the segments based on
review of the nature of such items.
The Corporate and Other segment includes an equity ownership interest in
Coventry. The ownership interest was sold on February 1, 2002, described further
in Note 3. The Corporate and Other segment's equity in earnings of Coventry,
which was included in net investment income, was $2.1 million for the six months
ended June 30, 2002, and $4.8 million and $9.7 million for the three months and
six months ended June 30, 2001, respectively.
16
PRINCIPAL FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 2002
(UNAUDITED)
8. SEGMENT INFORMATION (CONTINUED)
The Company evaluates segment performance on segment operating earnings, which
is determined by adjusting U.S. GAAP net income for net realized capital gains
and losses, as adjusted, and non-recurring items which management believes are
not indicative of overall operating trends. Net realized capital gains and
losses, as adjusted, are net of tax, related changes in the amortization pattern
of deferred policy acquisition costs, recognition of front-end fee revenues for
sales charges on pension products and services, net realized capital gains
credited to customers and certain market value adjustments to fee revenues.
Segment operating revenues exclude net realized capital gains and their impact
on recognition of front-end fee revenues. While these items may be significant
components in understanding and assessing the consolidated financial
performance, management believes the presentation of segment operating earnings
enhances the understanding of the Company's results of operations by
highlighting earnings attributable to the normal, recurring operations of the
business. However, segment operating earnings are not a substitute for net
income determined in accordance with U.S. GAAP.
For the three months ended June 30, 2002, the Company did not exclude any
non-recurring items from net income for its presentation of operating earnings.
For the three months ended June 30, 2001, the Company excluded $10.9 million of
non-recurring items, net of income taxes, related to the negative effects of
expenses related to the demutualization.
For the six months ended June 30, 2002, the Company excluded $282.9 million of
non-recurring items, net of income taxes, including the negative effects of: (1)
a cumulative effect of accounting change related to the implementation of SFAS
142 ($280.9 million); and (2) expenses related to the demutualization ($2.0
million).
For the six months ended June 30, 2001, the Company excluded $31.4 million of
non-recurring items, net of income taxes, including the negative effects of: (1)
expenses related to the demutualization ($14.8 million); (2) a cumulative effect
of change in accounting principle related to the implementation of SFAS 133
($10.7 million); and (3) an increase to a loss contingency reserve established
for sales practices litigation ($5.9 million).
The accounting policies of the segments are similar to those of the Company,
with the exception of capital allocation. The Company allocates capital to its
segments based upon an internal capital model that allows management to more
effectively manage the Company's capital.
17
PRINCIPAL FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 2002
(UNAUDITED)
8. SEGMENT INFORMATION (CONTINUED)
The following tables summarize selected financial information by segment as of
or for the three months ended, June 30, 2002 and 2001, and reconciles segment
totals to those reported in the consolidated financial statements (in millions):
INTERNATIONAL
U.S. ASSET ASSET
MANAGEMENT MANAGEMENT LIFE AND
AND AND HEALTH MORTGAGE CORPORATE AND
ACCUMULATION ACCUMULATION INSURANCE BANKING OTHER CONSOLIDATED
------------- ------------- --------- -------- ------------- ------------
2002
Revenues:
Operating revenues...... $ 1,135.7 $ 138.1 $ 984.5 $ 209.7 $ 6.7 $ 2,474.7
Net realized capital
gains (losses)........ (89.7) 29.3 (33.6) - 2.5 (91.5)
Plus recognition of
front-end fee
revenues.............. 1.4 - - - - 1.4
Less capital gains
distributed as
market value
adjustment............ (4.6) - - - - (4.6)
------------- ------------- --------- -------- ------------- ------------
Revenues.................. $ 1,042.8 $ 167.4 $ 950.9 $ 209.7 $ 9.2 $ 2,380.0
============= ============= ========= ======== ============= ============
Net income:
Operating earnings
(loss).................. $ 102.1 $ 7.6 $ 61.7 $ 24.8 $ (6.0) $ 190.2
Net realized capital
gains (losses), as
adjusted................ (60.4) 5.6 (20.8) - 5.6 (70.0)
------------- ------------- --------- -------- ------------- ------------
Net income (loss)........ $ 41.7 $ 13.2 $ 40.9 $ 24.8 $ (0.4) $ 120.2
============= ============= ========= ======== ============= ============
Assets................... $ 69,752.1 $4,794.6 $11,132.5 $2,965.3 $1,548.9 $90,193.4
============= ============= ========= ======== ============= ============
Other segment data:
Revenues from external
customers............ $ 1,029.4 $ 167.0 $ 952.5 $ 209.7 $ 21.4 $ 2,380.0
Intersegment revenues.. 13.4 0.4 (1.6) - (12.2) -
Interest expense....... 0.8 0.1 - - 22.4 23.3
Income tax expense
(benefit)............ (3.9) 7.0 21.7 14.8 (5.8) 33.8
Amortization of
intangibles.......... 0.1 0.7 - - - 0.8
18
PRINCIPAL FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 2002
(UNAUDITED)
8. SEGMENT INFORMATION (CONTINUED)
INTERNATIONAL
U.S. ASSET ASSET
MANAGEMENT MANAGEMENT LIFE AND
AND AND HEALTH MORTGAGE CORPORATE AND
ACCUMULATION ACCUMULATION INSURANCE BANKING OTHER CONSOLIDATED
------------- ------------- --------- -------- ------------- ------------
2001
Revenues:
Operating revenues..... $ 842.5 $ 165.7 $ 975.8 $ 173.5 $ 22.5 $ 2,180.0
Net realized capital
losses............... (53.5) (1.0) (7.8) - (33.7) (96.0)
Plus recognition of
front-end fee
revenues............. 0.7 - - - - 0.7
------------- ------------- --------- -------- ------------- ------------
Revenues................. $ 789.7 $ 164.7 $ 968.0 $ 173.5 $ (11.2) $ 2,084.7
============= ============= ========= ======== ============= ============
Net income:
Operating earnings..... $ 88.1 $ 0.6 $ 48.4 $ 44.9 $ 8.3 $ 190.3
Net realized capital
losses, as adjusted.. (33.4) (0.9) (4.1) - (21.9) (60.3)
Non-recurring items.... - - - - (10.9) (10.9)
------------- ------------- --------- -------- ------------- ------------
Net income (loss)........ $ 54.7 $ (0.3) $ 44.3 $ 44.9 $ (24.5) $ 119.1
============= ============= ========= ======== ============= ============
Assets................... $ 66,182.4 $ 4,919.6 $10,637.2 $2,168.9 $1,321.6 $ 85,229.7
============= ============= ========= ======== ============= ============
Other segment data:
Revenues from external
customers............ $ 777.8 $ 164.4 $ 969.0 $ 175.3 $ (1.8) $ 2,084.7
Intersegment revenues.. 11.9 0.3 (1.0) (1.8) (9.4) -
Interest expense....... 0.8 0.1 (0.1) - 19.0 19.8
Income tax expense
(benefit)............ 0.4 (1.0) 22.3 24.2 (14.2) 31.7
Amortization of
goodwill and other
intangibles.......... 0.3 10.9 1.1 0.2 (0.3) 12.2
19
PRINCIPAL FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 2002
(UNAUDITED)
8. SEGMENT INFORMATION (CONTINUED)
The following tables summarize selected financial information by segment as of
or for the six months ended, June 30, 2002 and 2001, and reconciles segment
totals to those reported in the consolidated financial statements (in millions):
INTERNATIONAL
U.S. ASSET ASSET
MANAGEMENT MANAGEMENT LIFE AND
AND AND HEALTH MORTGAGE CORPORATE AND
ACCUMULATION ACCUMULATION INSURANCE BANKING OTHER CONSOLIDATED
------------- ------------- --------- -------- ------------- ------------
2002
Revenues:
Operating revenues........ $ 1,997.8 $ 259.2 $ 1,963.0 $ 418.4 $ 17.2 $ 4,655.6
Net realized capital
gains (losses).......... (162.9) 36.6 (50.4) - 183.3 6.6
Plus recognition of
front-end fee revenues.. 4.0 - - - - 4.0
Less capital gains
distributed as market
value adjustment........ (13.2) - - - - (13.2)
------------- ------------- --------- -------- ------------- ------------
Revenues.................... $ 1,825.7 $ 295.8 $ 1,912.6 $ 418.4 $ 200.5 $ 4,653.0
============= ============= ========= ======== ============= ============
Net income:
Operating earnings
(loss).................. $ 202.3 $ 12.8 $ 116.0 $ 51.3 $ (5.7) $ 376.7
Net realized capital
gains (losses), as
adjusted................ (105.2) 9.4 (31.3) - 118.6 (8.5)
Non-recurring items....... - (276.3) (4.6) - (2.0) (282.9)
------------- ------------- --------- -------- ------------- ------------
Net income (loss)........... $ 97.1 $ (254.1) $ 80.1 $ 51.3 $ 110.9 $ 85.3
============= ============= ========= ======== ============= ============
Assets...................... $ 69,752.1 $4,794.6 $11,132.5 $2,965.3 $1,548.9 $ 90,193.4
============= ============= ========= ======== ============= ============
Other segment data:
Revenues from external
customers............... $ 1,797.8 $ 295.0 $ 1,915.7 $ 418.4 $ 226.1 $ 4,653.0
Intersegment revenues..... 27.9 0.8 (3.1) - (25.6) -
Interest expense.......... 2.1 0.3 0.2 - 43.2 45.8
Income tax expense
(benefit)............... (1.2) 12.3 44.3 30.4 58.6 144.4
Amortization of
intangibles............. 0.1 1.6 - - - 1.7
20
PRINCIPAL FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 2002
(UNAUDITED)
8. SEGMENT INFORMATION (CONTINUED)
INTERNATIONAL
U.S. ASSET ASSET
MANAGEMENT MANAGEMENT LIFE AND
AND AND HEALTH MORTGAGE CORPORATE AND
ACCUMULATION ACCUMULATION INSURANCE BANKING OTHER CONSOLIDATED
------------- ------------- --------- -------- ------------- ------------
2001
Revenues:
Operating revenues....... $ 1,858.2 $ 310.1 $ 1,978.2 $ 293.1 $ 57.5 $ 4,497.1
Net realized capital
losses................. (65.4) (38.7) (9.1) - (63.7) (176.9)
Plus recognition of
front-end fee
revenues............... 0.5 - - - - 0.5
------------- ------------- --------- -------- ------------- ------------
Revenues................. $ 1,793.3 $ 271.4 $ 1,969.1 $ 293.1 $ (6.2) $ 4,320.7
============= ============= ========= ======== ============= ============
Net income:
Operating earnings
(loss)................. $ 176.9 $ (4.7) $ 90.9 $ 68.8 $ 32.1 $ 364.0
Net realized capital
losses, as adjusted.... (40.8) (21.2) (4.7) - (41.5) (108.2)
Non-recurring items...... (10.8) - 0.1 - (20.7) (31.4)
------------- ------------- --------- -------- ------------- ------------
Net income (loss)........ $ 125.3 $ (25.9) $ 86.3 $ 68.8 $ (30.1) $ 224.4
============= ============= ========= ======== ============= ============
Assets................... $ 66,182.4 $ 4,919.6 $10,637.2 $2,168.9 $ 1,321.6 $ 85,229.7
============= ============= ========= ======== ============= ============
Other segment data:
Revenues from external
customers............ $ 1,767.2 $ 270.8 $ 1,970.8 $ 293.1 $ 18.8 $ 4,320.7
Intersegment revenues.. 26.1 0.6 (1.7) - (25.0) -
Interest expense....... 2.1 0.1 2.2 - 36.1 40.5
Income tax expense
(benefit)............ 16.8 (19.8) 43.5 37.0 (21.4) 56.1
Amortization of
goodwill and other
intangibles.......... 0.5 26.2 2.0 0.4 (0.5) 28.6
The Company operates in the U.S. and in selected markets internationally
(including Australia, Chile, Brazil, New Zealand, Mexico, India, Japan,
Argentina and Hong Kong). The following table summarizes selected financial
information by geographic location as of or for the three months and six months
ended June 30, 2002 and 2001 (in millions):
FOR THE THREE MONTHS FOR THE SIX MONTHS
AS OF JUNE 30, ENDED JUNE 30, ENDED JUNE 30,
------------------------ -------------------- -------------------
NET NET
LONG-LIVED INCOME INCOME
ASSETS ASSETS REVENUES (LOSS) REVENUES (LOSS)
---------- ------------ ---------- -------- ---------- --------
2002
United States..... $ 561.1 $85,398.8 $ 2,212.6 $107.0 $4,357.2 $339.4
International..... 849.2 4,794.6 167.4 13.2 295.8 (254.1)
---------- ------------ ---------- -------- ---------- --------
Total............. $ 1,410.3 $90,193.4 $ 2,380.0 $120.2 $4,653.0 $ 85.3
========== ============ ========== ======== ========== ========
2001
United States..... $ 547.9 $80,310.1 $ 1,920.0 $119.4 $4,049.3 $250.3
International..... 1,218.4 4,919.6 164.7 (0.3) 271.4 (25.9)
---------- ------------ ---------- -------- ---------- --------
Total............. $ 1,766.3 $85,229.7 $ 2,084.7 $119.1 $4,320.7 $224.4
========== ============ ========== ======== ========== ========
Long-lived assets include property and equipment, goodwill and other
intangibles.
21
PRINCIPAL FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 2002
(UNAUDITED)
8. SEGMENT INFORMATION (CONTINUED)
The Company's operations are not materially dependent on one or a few customers,
brokers or agents, and revenues, assets and operating earnings are attributed to
geographic location based on the country of domicile the sales originate from.
9. STOCKHOLDERS' EQUITY
COMMON STOCK
On February 26, 2002, the Company's board of directors authorized the repurchase
of up to $450.0 million of the Company's common stock. The repurchases will be
made in the open market or through privately negotiated transactions from time
to time, depending on market conditions. As part of the repurchase program, the
Company sold "put options" for a premium of $3.6 million, which obligated the
Company to repurchase a total of 3.0 million shares at an aggregate cost of
$76.9 million three months after the issuance of the contracts, if the fixed
price was higher than the market price. The fixed price was lower than the
market price on those dates, therefore the options expired in June 2002 and the
Company was no longer obligated to repurchase its common stock. The proceeds
from the put transactions were reported as additional paid-in capital. During
the six months ended June 30, 2002, the Company purchased 9.7 million shares in
the open market at an aggregate cost of $273.4 million.
In February 2002, the Company reissued treasury stock held in the rabbi trust,
which generated proceeds of $8.0 million, with a cost of $6.7 million.
10. EARNINGS PER SHARE
After the Company's IPO, effective October 26, 2001, SFAS No. 128, EARNINGS PER
SHARE, was adopted, which requires disclosure of basic and diluted earnings per
share.
Reconciliations of weighted-average shares outstanding and income before
cumulative effect of accounting change for basic and diluted earnings per share
for the three months and six months ended June 30, 2002, are presented below (in
millions, except per share data):
FOR THE THREE MONTHS ENDED FOR THE SIX MONTHS ENDED
JUNE 30, 2002 JUNE 30, 2002
-------------------------- ---------------------------
WEIGHTED WEIGHTED
AVERAGE PER SHARE AVERAGE PER SHARE
INCOME SHARES AMOUNT INCOME SHARES AMOUNT
------ -------- --------- ------ -------- ---------
Basic earnings per share:
Income before cumulative
effect of accounting
change................ $120.2 356.8 $0.34 $366.2 358.6 $1.02
Dilutive effects:
Stock options........... - 0.5 - - 0.4 -
Restricted stock
units(1).............. - - - - - -
------ -------- --------- ------ -------- ---------
Diluted earnings
per share................. $120.2 357.3 $0.34 $366.2 359.0 $1.02
====== ======== ========= ====== ======== =========
- ------------
(1) The dilutive effect of the restricted stock units did not meet specified
reporting thresholds.
The calculation of diluted earnings per share for the three months ended June
30, 2002, excludes the incremental effect related to certain outstanding stock
options and certain restricted stock units. The exercise price and fair market
value of these stock options and stock units, respectively, were in excess of
the average market price of the Company's stock during the period, resulting in
an anti-dilutive effect.
The calculation of diluted earnings per share for the six months ended June 30,
2002, excludes the incremental effect related to certain outstanding stock
options and restricted stock units. The exercise price and fair market value of
these stock options and stock units, respectively, were in excess of the average
market price of the Company's stock during the period, resulting in an
anti-dilutive effect.
22
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following analysis discusses our financial condition as of June 30, 2002,
compared with December 31, 2001, and our consolidated results of operations for
the three months and six months ended June 30, 2002 and 2001, prepared in
conformity with accounting principles generally accepted in the U.S. ("U.S.
GAAP"). The discussion and analysis includes, where appropriate, factors that
may affect our future financial performance. The discussion should be read in
conjunction with our Form 10-K, for the year ended December 31, 2001, filed with
the United States Securities and Exchange Commission, the unaudited consolidated
financial statements and the related notes to the financial statements and the
other financial information included elsewhere in this Form 10-Q.
FORWARD-LOOKING INFORMATION
Our narrative analysis below contains forward-looking statements intended to
enhance the reader's ability to assess our future financial performance.
Forward-looking statements include, but are not limited to, statements that
represent our beliefs concerning future operations, strategies, financial
results or other developments, and contain words and phrases such as
"anticipate," "believe," "plan," "estimate," "expect," "intend," and similar
expressions. Forward-looking statements are made based upon management's current
expectations and beliefs concerning future developments and their potential
effects. Such forward-looking statements are not guarantees of future
performance.
Actual results may differ materially from those included in the forward-looking
statements as a result of risks and uncertainties including, but not limited to
the following: (1) a decline or increased volatility in the securities markets
could result in investors withdrawing from the markets or decreasing their rates
of investment, either of which could reduce our net income, revenues and assets
under management; (2) our investment portfolio is subject to several risks which
may diminish the value of our invested assets and affect our sales,
profitability and the investment returns credited to our customers; (3) a
decline in Australian equity values may reduce the profitability of BT Financial
Group; (4) fluctuations in foreign currency exchange rates could reduce our
profitability; (5) competition from companies that may have greater financial
resources, broader arrays of products, higher ratings and stronger financial
performance may impair our ability to retain existing customers, attract new
customers and maintain our profitability; (6) a downgrade in Principal Life
Insurance Company's ("Principal Life") financial strength ratings may increase
policy surrenders and withdrawals, reduce new sales and terminate relationships
with distributors and cause some of our existing liabilities to be subject to
acceleration, additional collateral support, changes in terms, or creation of
additional financial obligations; (7) our efforts to reduce the impact of
interest rate changes on our profitability and surplus may not be effective; (8)
if we are unable to attract and retain sales representatives and develop new
distribution sources, sales of our products and services may be reduced; (9) our
international businesses face political, legal, operational and other risks that
could reduce our profitability in those businesses; (10) our reserves
established for future policy benefits and claims may prove inadequate,
requiring us to increase liabilities; (11) our ability to pay stockholder
dividends and meet our obligations may be constrained by the limitations on
dividends Iowa insurance laws impose on Principal Life; (12) we may need to fund
deficiencies in our closed block ("Closed Block") assets allocated to the Closed
Block which benefit only the holders of Closed Block policies; (13) changes in
regulations or accounting standards may reduce our profitability; (14)
litigation and regulatory investigations may harm our financial strength and
reduce our profitability; (15) a challenge to the Insurance Commissioner of the
State of Iowa's approval of the plan of conversion could put the terms of our
demutualization in question and reduce the market price of our common stock;
(16) applicable laws and our stockholder rights plan, certificate of
incorporation and by-laws may discourage takeovers and business combinations
that our stockholders might consider in their best interests; and (17) a
downgrade in our debt ratings may adversely affect our ability to secure funds
and cause some of our existing liabilities to be subject to acceleration,
additional collateral support, changes in terms, or creation of additional
financial obligations.
OVERVIEW
We are a leading provider of retirement savings, investment and insurance
products and services. We have four operating segments:
o U.S. Asset Management and Accumulation, which consists of our asset
accumulation operations providing retirement savings and related investment
products and services, and our asset management operations which are
conducted through Principal Capital Management, our U.S.-based asset
manager. We provide a comprehensive portfolio of asset accumulation
products and services to businesses and individuals in the U.S., with a
concentration on small and medium-sized businesses, which we define as
businesses with fewer than 1,000 employees. We offer to businesses products
23
and services for defined contribution pension plans, including 401(k) and
403(b) plans, defined benefit pension plans and non-qualified executive
benefit plans. We also offer annuities, mutual funds and bank products and
services to the employees of our business customers and other individuals.
o International Asset Management and Accumulation, which consists of BT
Financial Group, our Australia-based asset manager, and Principal
International, which offers retirement products and services, annuities,
mutual funds and life insurance through subsidiaries in Argentina, Chile,
Mexico and Hong Kong and joint ventures in Brazil, Japan and India.
o Life and Health Insurance, which provides individual life and disability
insurance as well as group life and health insurance throughout the U.S.
Our individual insurance products include interest-sensitive life,
traditional life and disability insurance. Our group insurance products
include life, disability, medical, dental and vision insurance, and
administrative services.
o Mortgage Banking, which engages in originating, purchasing, selling and
servicing residential mortgage loans in the U.S.
We also have a Corporate and Other segment, which consists of the assets and
activities that have not been allocated to any other segment.
RECENT EVENTS AND TRENDS
DECLINES IN THE U.S. AND AUSTRALIAN EQUITY MARKETS
Declines in the equity markets in the U.S. and Australia during the six months
ended June 30, 2002 have reduced our assets under management. Our assets under
management at June 30, 2002 were $119.6 billion, compared to $120.2 billion at
December 31, 2001. Continued declines could further reduce the amount of
asset-based fee revenue in our International Asset Management and Accumulation
segment and could reduce the amount of asset-based fee revenue in our U.S. Asset
Management and Accumulation segment. In addition to market declines, during the
six months ended June 30, 2002, BT Financial Group has experienced net cash
outflows from assets under management. We expect that BT Financial Group will
continue to experience negative fund flows through year-end and into early 2003.
These declines could lead to additional impairments of goodwill and other
indefinite-lived intangibles when we test for impairment during our annual
impairment testing procedures during the fourth quarter of 2002.
DECLINES IN THE VALUES OF OUR U.S. FIXED MATURITY INVESTMENTS
During the three months ended June 30, 2002, our investments in fixed maturity
securities were negatively impacted by credit problems of certain investments.
Accordingly, we recognized other than temporary impairments of $126.9 million,
before taxes. The largest impairment related to our holdings in WorldCom Inc.
for which we recognized an other than temporary impairment of $46.4 million
before taxes, and an additional $18.0 million, before taxes, related to the
sales of WorldCom, Inc., investments. The credit market continues to be
volatile.
USE OF REINSURANCE
We have entered into reinsurance contracts to reduce volatility in our Life and
Health insurance segment. Future reinsurance agreements are possible.
INTEREST RATE DECLINES
During the six months ended June 30, 2002, interest rates have remained
relatively low. Low interest rates impact our Mortgage Banking segment by
reducing the value of our mortgage loan servicing rights but can lead to higher
mortgage loan production. Interest rate declines also have a negative impact on
the investment yields of our fixed income securities.
TRANSACTIONS AFFECTING COMPARABILITY OF RESULTS OF OPERATIONS
ACQUISITIONS
We acquired the following businesses, among others, during 2002 and 2001:
24
ZURICH AFORE S.A. DE C.V. On May 31, 2002, we purchased a 100% ownership of
Zurich Afore S.A. de C.V. ("Zurich Afore") from Zurich Financial Services for
$49.0 million in cash. The application of purchase accounting resulted in
goodwill of approximately $21.6 million. Zurich Afore contributed $23.9 million
of assets and $0.3 million of revenue to the consolidated statement of financial
position and the statement of operations respectively as of June 30, 2002.
Zurich Afore is merged with our Mexican pension company and is reported in our
International Asset Management and Accumulation segment.
SPECTRUM ASSET MANAGEMENT. On October 1, 2001, Spectrum Asset Management became
an affiliate of Principal Capital Management, LLC. The acquisition was accounted
for using the purchase method and the results of operations of the acquired
business have been included in our financial statements from the date of
acquisition. We included revenues of $1.1 million and $1.9 million for the three
months and six months ended June 30, 2002, respectively, in our consolidated
results of operations.
DISPOSITIONS
We entered into dispositions or disposed of the following businesses, among
others, during 2002 and 2001:
COVENTRY HEALTH CARE. On February 1, 2002, we sold our remaining stake of 15.1
million shares of Coventry Health Care, Inc. ("Coventry") common stock and a
warrant, exercisable for 3.1 million shares of Coventry common stock. We
received proceeds of $325.4 million, resulting in a net realized capital gain of
$183.0 million, or $114.5 million net of income taxes.
We reported our investment in Coventry in our Corporate and Other segment and
accounted for it using the equity method prior to its sale. Our share of
Coventry's net income was $2.1 million for the six months ended June 30, 2002
and $4.8 million and $9.7 million for the three months and six months ended June
30, 2001, respectively.
PT ASURANSI JIWA PRINCIPAL INDONESIA. On September 25, 2001, we disposed of all
the stock of PT Asuransi Jiwa Principal Indonesia, our subsidiary in Indonesia.
We currently have no business operations in Indonesia. We received nominal
proceeds, which resulted in a realized capital loss of $6.7 million. We included
nominal revenues and net loss from our operations in Indonesia in our
consolidated results of operations for the three months and six months ended
June 30, 2001.
PRINCIPAL INTERNATIONAL ESPANA, S.A. DE SEGUROS DE VIDA. On February 15, 2001,
we disposed of all of the stock of Principal International Espana, S.A. de
Seguros de Vida, our subsidiary in Spain, for nominal proceeds, resulting in a
realized capital loss of $38.4 million, or $21.0 million net of income taxes,
ceasing our business operations in Spain.
We did not include revenues or net income from our operations in Spain in our
consolidated results of operations for the three months and six months ended
June 30, 2002 and 2001.
OTHER TRANSACTIONS
KEYCORP. On June 12, 2002, we announced we had entered into an agreement with
KeyCorp (through affiliates Victory Capital Management and KeyBank National
Association ) to offer transition of servicing of KeyCorp's 1,400 employer
defined contribution clients with up to $8.0 billion in assets under management.
Effective immediately, KeyCorp transitioned out of the bundled defined
contribution business and will recommend our servicing to its full-service
defined contribution clients nationwide.
REINSURANCE TRANSACTIONS. Effective January 1, 2002, we entered into a
reinsurance agreement to reinsure group medical insurance contracts, which
should result in reduced volatility of our group medical insurance earnings. The
reinsurance agreement resulted in $11.3 million and $22.5 million of ceded
premiums for the three months and six months ended June 30, 2002, respectively.
In addition, the reinsurance agreement resulted in $8.9 million and $18.5
million of ceded claims for the three months and six months ended June 30, 2002,
respectively.
FLUCTUATIONS IN FOREIGN CURRENCY TO U.S. DOLLAR EXCHANGE RATES
Fluctuations in foreign currency to U.S. dollar exchange rates for countries in
which we have operations can affect reported financial results. In years when
foreign currencies weaken against the U.S. dollar, translating foreign
25
currencies into U.S. dollars results in fewer U.S. dollars to be reported. When
foreign currencies strengthen, translating foreign currencies into U.S. dollars
results in more U.S. dollars to be reported.
In January 2002, the Argentine government ended its tie of the Argentine peso to
the U.S. dollar, creating a dual currency system with an official fixed exchange
rate of 1.4 pesos to 1.0 U.S. dollar for import and export transactions and
free-floating exchange rate for other transactions, subsequently floating the
Argentine peso in February. The devaluation did not materially impact our
consolidated results of operations.
Foreign currency exchange rate fluctuations create variances in our financial
statement line items but have not had a material impact on our consolidated
operating earnings and net income. Our consolidated operating earnings were not
materially impacted for the three months ended June 30, 2002 and were negatively
impacted $0.6 million for the three months ended June 30, 2001, as a result of
fluctuations in foreign currency to U.S. dollar exchange rates. Our consolidated
operating earnings were positively impacted $0.2 million and negatively impacted
$0.8 million for the six months ended June 30, 2002 and 2001, respectively, as a
result of fluctuations in foreign currency to U.S. dollar exchange rates. For a
discussion of our approaches to foreign currency exchange rate risk, see Item 3,
"Quantitative and Qualitative Disclosures about Market Risk."
CHANGES TO OUR CRITICAL ACCOUNTING POLICIES
Changes in the business environment and applicable authoritative accounting
guidance require us to closely monitor our accounting policies. During the six
months ended June 30, 2002, we adopted newly issued guidance from the Financial
Accounting Standards Board ("FASB") and changed our critical accounting policy
for business combinations.
ACCOUNTING FOR BUSINESS COMBINATIONS, GOODWILL AND OTHER INTANGIBLE ASSETS
In June 2001, the FASB issued Statement of Financial Accounting Standards
("SFAS") No. 141, BUSINESS COMBINATIONS ("SFAS 141"), and SFAS No. 142, GOODWILL
AND OTHER INTANGIBLE ASSETS ("SFAS 142"). SFAS 141 requires that the purchase
method of accounting be used for all business combinations initiated after June
30, 2001, and requires separate recognition of intangible assets apart from
goodwill, if such intangible assets meet certain criteria. SFAS 142, effective
January 1, 2002, prohibits the amortization of goodwill and intangible assets
with indefinite useful lives. Intangible assets with finite lives will continue
to be amortized over their estimated useful lives. Additionally, SFAS 142
requires that goodwill and indefinite-lived intangible assets be reviewed for
impairment at least annually, which we plan to do in the fourth quarter each
year.
Upon adoption of SFAS 142, the transition provisions of SFAS 141 became
effective, which required us to reclassify to goodwill the carrying amount of
our intangible assets that do not meet the specified criteria enabling an
intangible asset to be recognized separately from goodwill. As a result, we
reclassified our assembled work force intangible asset of $22.3 million, related
to BT Financial Group, to goodwill.
The initial adoption of SFAS 142 required us to perform a two-step fair-value
based goodwill impairment test. The first step of the test compared the
estimated fair value of the reporting unit to its carrying value, including
goodwill. If the carrying value exceeded fair value, a second step was
performed, which compared the implied fair value of the applicable reporting
unit's goodwill with the carrying amount of that goodwill, to measure the
goodwill impairment, if any. Additionally, we were required to perform an
impairment test on our indefinite-lived intangible assets, which consisted of a
comparison of the fair value of an intangible asset with its carrying amount.
Our measurements of fair value were based on evaluations of future discounted
cash flows, product level analysis, market performance assumptions and cash flow
assumptions. These evaluations utilized the best information available in the
circumstances, including reasonable and supportable assumptions and projections.
The discounted cash flow evaluations considered earnings scenarios and the
likelihood of possible outcomes. Collectively, these evaluations were
management's best estimate of projected future cash flows.
As a result of performing the two-step impairment test, we recorded goodwill
impairments of $196.5 million, $20.9 million and $4.6 million, net of income
taxes, related to our BT Financial Group, Principal International, and Life and
Health operations, respectively. Additionally, as a result of performing the
indefinite-lived intangible asset impairment test, we recognized an after-tax
impairment of $58.9 million to its brand name and management rights intangible
asset related to BT Financial Group.
26
These impairments, recognized January 1, 2002, as a cumulative effect of a
change in accounting principle, were reported in our operating segments as
follows (in millions):
INTERNATIONAL
ASSET
MANAGEMENT AND LIFE
ACCUMULATION AND HEALTH
SEGMENT SEGMENT CONSOLIDATED
-------------- ---------- ------------
Goodwill................................. $321.2 $4.6 $325.8
Other intangibles........................ 89.8 - 89.8
Income tax impact........................ (134.7) - (134.7)
-------------- ---------- ------------
Total impairment, net of income taxes.... $276.3 $4.6 $280.9
============== ========== ============
Net income for the three months and six months ended June 30, 2002 and 2001,
adjusted for the effects of SFAS 142 related to non-amortization of goodwill and
indefinite-lived intangibles, is as follows (in millions):
FOR THE FOR THE
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------- -------------------
2002 2001 2002 2001
-------- --------- -------- ---------
Reported net income.................... $120.2 $119.1 $85.3 $224.4
Adjustment for amortization expense:
Goodwill............................. - 5.9 - 15.7
Brand name and management rights - 4.5 - 9.0
Assembled workforce ................. - 0.9 - 1.9
-------- --------- -------- ---------
Total amortization expense ............ - 11.3 - 26.6
Tax impacts of amortization expense ... - (3.9) - (7.3)
-------- --------- -------- ---------
Adjusted net income.................... $120.2 $126.5 $85.3 $243.7
========= ========= ======== =========
OTHER ACCOUNTING CHANGES
The FASB Statement No. 123, ACCOUNTING FOR STOCK-BASED COMPENSATION ("SFAS 123")
encourages, but does not require, companies to record compensation cost for
stock-based employee compensation plans based on the fair value of options
granted. We have elected to adopt the fair value based method of accounting
prescribed in SFAS 123, retroactive to January 1, 2002, for our employee
stock-based compensation plans and will implement the method during the third
quarter of 2002 for all stock-based awards granted subsequent to January 1,
2002. Prior to January 1, 2002, we elected to account for our stock-based
compensation plans under the provisions of Accounting Principles Board ("APB")
Opinion No. 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES and, accordingly,
employee stock-based compensation costs were excluded from compensation expense.
We estimate an after-tax impact of between two and three cents per diluted share
in 2002 as a result of this change in accounting policy.
27
RESULTS OF OPERATIONS
The following table presents summary consolidated financial information for the
periods indicated:
FOR THE THREE FOR THE SIX
MONTHS ENDED MONTHS ENDED
JUNE 30, JUNE 30,
----------------------- -----------------------
2002 2001 2002 2001
---------- ---------- ---------- ----------
(IN MILLIONS)
INCOME STATEMENT DATA:
Revenues:
Premiums and other considerations................. $ 1,166.6 $ 891.1 $ 2,052.3 $ 1,955.3
Fees and other revenues........................... 479.4 443.3 955.4 856.3
Net investment income............................. 825.5 846.3 1,638.7 1,686.0
Net realized capital gains (losses)............... (91.5) (96.0) 6.6 (176.9)
---------- ---------- ---------- ----------
Total revenues.................................. 2,380.0 2,084.7 4,653.0 4,320.7
Expenses:
Benefits, claims and settlement expenses.......... 1,507.9 1,247.3 2,711.1 2,639.2
Dividends to policyholders........................ 79.5 81.1 161.9 162.1
Operating expenses................................ 638.6 605.5 1,269.4 1,228.2
---------- ---------- ---------- ----------
Total expenses.................................. 2,226.0 1,933.9 4,142.4 4,029.5
---------- ---------- ---------- ----------
Income before income taxes and cumulative
effect of accounting changes...................... 154.0 150.8 510.6 291.2
Income taxes........................................ 33.8 31.7 144.4 56.1
---------- ---------- ---------- ----------
Income before cumulative effect of accounting
changes............................................. 120.2 119.1 366.2 235.1
Cumulative effect of accounting changes,
net of related income taxes....................... - - (280.9) (10.7)
---------- ---------- ---------- ----------
Net income...................................... $ 120.2 $ 119.1 $ 85.3 $ 224.4
========== ========== ========== ==========
OTHER DATA:
Net income.......................................... $ 120.2 $ 119.1 $ 85.3 $ 224.4
Less:
Net realized capital gains (losses), as adjusted. (70.0) (60.3) (8.5) (108.2)
Non-recurring items............................... - (10.9) (282.9) (31.4)
---------- ---------- ---------- ----------
Operating earnings.................................. $ 190.2 $ 190.3 $ 376.7 $ 364.0
========== ========== ========== ==========
THREE MONTHS ENDED JUNE 30, 2002 COMPARED TO THREE MONTHS ENDED JUNE 30, 2001
Premiums and other considerations increased $275.5 million, or 31%, to $1,166.6
million for the three months ended June 30, 2002, from $891.1 million for the
three months ended June 30, 2001. The increase reflected a $298.8 million
increase from the U.S. Asset Management and Accumulation segment, primarily a
result of an increase in premiums from single premium group annuities with life
contingencies, which are typically used to fund defined benefit pension plan
terminations. The premium income we receive from these contracts fluctuates due
to the variability in the number and size of pension plan terminations in the
market, the interest rate environment and our ability to attract new sales. The
increase was partially offset by a $19.0 million, or 30%, decrease in the
International Asset Management and Accumulation segment, primarily resulting
from reduced sales of single premium annuities with life contingencies due to
market contraction in Chile, prolonged government retention of potential
annuitants in Mexico, and weaker currencies in Chile, Mexico, and Argentina. The
increase was also partially offset by a $4.3 million, or 1%, decrease from the
Life and Health Insurance segment, primarily due to the shift in customer
preference from individual traditional life insurance products to individual
interest-sensitive life insurance, the classification of revenues from our group
universal life insurance product from premiums to fee revenues, and due to ceded
premiums under a new group medical reinsurance contract effective January 1,
2002.
Fees and other revenues increased $36.1 million, or 8%, to $479.4 million for
the three months ended June 30, 2002, from $443.3 million for the three months
ended June 30, 2001. The increase was primarily due to a $22.5 million, or 13%,
increase from the Mortgage Banking segment, which reflects the growth in the
residential mortgage loan servicing portfolio. The increase was also due to a
$15.2 million, or 10% increase from the U.S. Asset Management and Accumulation
28
segment, primarily due to an increase in Principal Capital Management investment
management and transaction fees and reclassification of market value and hedging
activities from net investment income to fees and other revenue. In addition,
the increase was due to a $14.0 million, or 22%, increase from the Life and
Health Insurance segment, primarily related to growth in our individual
interest-sensitive life insurance business and the classification of revenues
from our group universal life insurance product to fee revenues from premiums.
The increases were partially offset by an $11.5 million, or 17%, decrease from
the International Asset Management and Accumulation segment, primarily a result
of declining assets under management in Australia for the three months ended
June 30, 2002, and divestiture of a non-core business in Australia during the
latter part of 2001.
Net investment income decreased $20.8 million, or 2%, to $825.5 million for the
three months ended June 30, 2002, from $846.3 million for the three months ended
June 30, 2001. The decrease was primarily a result of a decrease in investment
yields. The yield on average invested assets and cash was 7.1% for the three
months ended June 30, 2002, compared to 7.6% for the three months ended June 30,
2001. The decrease reflects lower yields on fixed maturity securities due to a
decrease in prepayment fee income and to a lesser extent, due to a lower
interest rate environment. The decrease in investment yields was partially
offset by a $2,068.3 million, or 5%, increase in average invested assets and
cash.
Net realized capital losses decreased $4.5 million, or 5%, to $91.5 million for
the three months ended June 30, 2002, from $96.0 million for the three months
ended June 30, 2001. Net realized capital gains on real estate and fixed
maturity securities sales during the three months ended June 30, 2002, were
partially offset by the write downs of other than temporary declines in value of
certain fixed maturity securities.
Benefits, claims and settlement expenses increased $260.6 million, or 21%, to
$1,507.9 million for the three months ended June 30, 2002, from $1,247.3 million
for the three months ended June 30, 2001. The increase was primarily due to a
$270.2 million, or 49%, increase from the U.S. Asset Management and Accumulation
segment, primarily reflecting an increase in sales of single premium group
annuities with life contingencies. The increase was partially offset by a $14.7
million, or 2%, decrease from the Life and Health Insurance segment, primarily
due to ceded claims under a new group medical reinsurance agreement and a
reduction in group medical insurance business.
Dividends to policyholders decreased $1.6 million, or 2%, to $79.5 million for
the three months ended June 30, 2002, from $81.1 million for the three months
ended June 30, 2001. The decrease was attributable to a $2.2 million, or 3%,
decrease from the Life and Health Insurance segment due to a change in the
individual life insurance dividend scale. The decrease was partially offset by a
$0.6 million, or 60% increase in the U.S. Asset Management and Accumulation
segment, resulting from an increase in dividends for our pension full-service
accumulation products.
Operating expenses increased $33.1 million, or 5%, to $638.6 million for the
three months ended June 30, 2002, from $605.5 million for the three months ended
June 30, 2001. The increase was primarily due to an $65.7 million, or 63%,
increase from the Mortgage Banking segment resulting from an increase in
impairment of capitalized mortgage servicing rights net of servicing hedge
activity and from increased expenses related to growth in the servicing
portfolio. The increase was partially offset by a $25.0 million, or 30%,
decrease from the International Asset Management and Accumulation segment, in
part related to the discontinuation of amortization expense in 2002 as a result
of the adoption of SFAS 142. In addition, staff restructuring efforts undertaken
by BT Financial Group to reduce ongoing operating expenses resulted in a 27%
decrease of staff levels, resulting in a decrease in salary and incentive costs
within this segment. In addition, Corporate and Other's operating expenses
decreased $11.0 million, or 40%, primarily due to expenses recognized in 2001
related to our demutualization.
Income taxes increased $2.1 million, or 7%, to $33.8 million for the three
months ended June 30, 2002, from $31.7 million for the three months ended June
30, 2001. The effective income tax rate was 22% for the three months ended June
30, 2002, and 21% for the three months ended June 30, 2001. The effective income
tax rates for the three months ended June 30, 2002 and 2001, were lower than the
corporate income tax rate of 35% primarily due to income tax deductions allowed
for corporate dividends received.
As a result of the foregoing factors, net income increased $1.1 million, or 1%,
to $120.2 million for the three months ended June 30, 2002, from $119.1 million
for the three months ended June 30, 2001.
For the three months ended June 30, 2002, no non-recurring items were excluded
from net income for our presentation of consolidated operating earnings. For the
three months ended June 30, 2001, non-recurring items of $10.9 million, net of
income taxes, resulted from the negative effects of expenses related to our
demutualization.
29
As a result of the foregoing factors and the exclusion of net realized capital
gains (losses), as adjusted and nonrecurring items, operating earnings decreased
$0.1 million to $190.2 million for the three months ended June 30, 2002, from
$190.3 million for the three months ended June 30, 2001. The decrease resulted
from a $20.1 million, or 45%, decrease from the Mortgage Banking segment
primarily due to a decrease in earnings from residential mortgage loan
production. The decrease was also due to a $14.3 million decrease from the
Corporate and Other segment, primarily related to a decrease in average
investment yields for the segment. The decreases were partially offset by a
$14.0 million, or 16%, increase from the U.S. Asset Management and Accumulation
segment, primarily related to improved earnings of our pension operations and
from Principal Capital Management. In addition, the decreases were partially
offset by a $13.3 million, or 27%, increase from the Life and Health Insurance
segment, primarily a result of improved medical and dental loss ratios. An
increase of $7.0 million from the International Asset Management and
Accumulation segment resulted mostly from improved earnings of Principal
International. In addition, BT Financial Group operating earnings increased as a
result of reduced operating expenses, in part related to the discontinuation of
amortization expense in 2002 as a result of the adoption of SFAS 142.
SIX MONTHS ENDED JUNE 30, 2002 COMPARED TO SIX MONTHS ENDED JUNE 30, 2001
Premiums and other considerations increased $97.0 million, or 5%, to $2,052.3
million for the six months ended June 30, 2002, from $1,955.3 million for the
six months ended June 30, 2001. The increase reflected a $158.9 million, or 48%,
increase from the U.S. Asset Management and Accumulation segment, primarily a
result of an increase in premiums from single premium group annuities with life
contingencies, which are typically used to fund defined benefit pension plan
terminations. The premium income we receive from these contracts fluctuates due
to the variability in the number and size of pension plan terminations in the
market, the interest rate environment and our ability to attract new sales. The
increase was partially offset by a $37.7 million, or 2%, decrease from the Life
and Health Insurance segment, primarily due to the classification of revenues
from our group universal life insurance product from premiums to fee revenues,
ceded premiums from the new group medical reinsurance contract effective January
1, 2002, and the shift in customer preference from individual traditional life
insurance products to individual interest-sensitive life insurance products. The
increase was also partially offset by a $24.2 million, or 22%, decrease from the
International Asset Management and Accumulation segment, primarily resulting
from the weakening of the Chilean and Argentine pesos versus the U.S. dollar and
to a lesser extent decreased sales of single premium annuities with life
contingencies due to market contraction in Chile and prolonged government
retention of potential annuitants in Mexico.
Fees and other revenues increased $99.1 million, or 12%, to $955.4 million for
the six months ended June 30, 2002, from $856.3 million for the six months ended
June 30, 2001. The increase was primarily due to an $88.8 million, or 31%,
increase from the Mortgage Banking segment, primarily resulting from an increase
in the residential mortgage loan servicing portfolio. The increase was also due
to a $26.1 million, or 20%, increase from the Life and Health Insurance segment,
primarily related to growth in our individual interest-sensitive life insurance
business and the classification of revenues from our group universal life
insurance product to fee revenues from premiums. In addition, the increase was
related to a $14.6 million, or 5% i