EXHIBIT 13
EXH 13
EXHIBIT 13
The following information is contained in the 1998 Annual Report to
Shareholders. The required information incorporated by reference to the
preceding pages of this 1998 Form 10-K have been reproduced herein as
Exhibit 13 for purposes of electronic filing of this Form 10-K.
PART II
ITEM 5. (a) Market Information:
The Company's common stock is principally traded on the New York Stock
Exchange. The Company is also listed on the Pacific Stock Exchange and the
Tokyo Stock Exchange.
The high, low and closing quarterly sales prices for the Company's
common stock, as published in the U.S. consolidated transaction reporting
system, for the last three fiscal years ended December 31, 1998, are as
follows:
Quarterly Common Stock Prices
1998 High Low Close
--------------------------------------------------------------------
4th Quarter $ 45.31 $ 25.50 $ 43.88
3rd Quarter 38.25 25.13 28.56
2nd Quarter 34.50 29.50 30.31
1st Quarter 33.62 22.69 31.63
1997 High Low Close
--------------------------------------------------------------------
4th Quarter $ 28.16 $ 22.13 $ 25.56
3rd Quarter 28.94 24.25 27.13
2nd Quarter 25.69 19.19 23.63
1st Quarter 21.75 18.75 18.75
1996
---------------------------------------------------------------------
4th Quarter $ 22.00 $ 17.88 $ 21.38
3rd Quarter 18.69 14.13 17.75
2nd Quarter 16.44 14.50 14.94
1st Quarter 16.50 14.42 15.63
EXH 13-1
ITEM 5. (b) Holders:
1998 1997 1996
- ---------------------------------------------------------------------------
Number of common
shares outstanding 265,684,034 266,436,020 275,769,774
Number of registered
common shareholders 62,525 57,788 49,474
Approximate number of
common shareholders 145,500 128,900 113,300
ITEM 5. (c) Quarterly cash dividends:
1998 1997
------ ------
4th Quarter $.065 $.058
3rd Quarter .065 .058
2nd Quarter .065 .058
1st Quarter .058 .05
For information concerning dividend restrictions, see Management's
Discussion and Analysis of Financial Condition, the section concerning
shareholders' equity, presented in this Exhibit 13 on page 13-25, and Note
10, Statutory Accounting and Dividend Restrictions, of the Notes to the
Consolidated Financial Statements, also presented in this Exhibit 13 on page
13-67.
EXH 13-2
ITEM 6. SELECTED FINANCIAL DATA
(In millions, except for per-share amounts):
AFLAC INCORPORATED AND SUBSIDIARIES
For the Year 1998 1997 1996 1995 1994
-------- -------- -------- -------- --------
Revenues:
Premiums, principally supplemental
health insurance $ 5,943 $ 5,874 $ 5,910 $ 6,071 $ 5,181
Net investment income 1,138 1,078 1,022 1,025 839
Realized investment gains (losses) (2) (5) 2 - -
Gain on sale of television business - 267 60 - -
Other income 25 37 106 95 91
-------- -------- -------- -------- --------
Total revenues 7,104 7,251 7,100 7,191 6,111
-------- -------- -------- -------- --------
Benefits and expenses:
Benefits and claims 4,877 4,833 4,896 5,034 4,257
Expenses 1,676 1,553 1,554 1,556 1,350
-------- -------- -------- -------- --------
Total benefits and expenses 6,553 6,386 6,450 6,590 5,607
-------- -------- -------- -------- --------
Pretax earnings 551 865 650 601 504
Income taxes 64 280 256 252 211
-------- -------- -------- -------- --------
Net earnings $ 487(1) $ 585(2) $ 394(3) $ 349 $ 293
======== ======== ======== ======== ========
- ---------------------------------------------------------------------------------------------------------------------------
Per Common Share
- ---------------------------------------------------------------------------------------------------------------------------
Net earnings (basic) $ 1.83(1) $ 2.15(2) $ 1.41(3) $ 1.20 $ .97
Net earnings (diluted) 1.76(1) 2.08(2) 1.36(3) 1.17 .95
Cash dividends .253 .224 .194 .169 .149
Shareholders' equity 14.19 12.88 7.71 7.53 5.86
Price range: High 45.31 28.94 22.00 14.92 12.04
Low 22.69 18.75 14.13 10.63 8.42
Close 43.88 25.56 21.38 14.50 10.67
Price/earnings ratio:* High 29.0x 21.8x 18.3x 12.8x 12.7x
Low 14.5 14.1 11.8 9.1 8.9
Common shares used for basic EPS (In thousands) 266,305 272,110 280,352 291,355 302,891
Common shares used for diluted EPS (In thousands) 275,872 281,596 288,922 298,984 309,297
- ---------------------------------------------------------------------------------------------------------------------------
EXH 13-3
(In millions, except for share and per-share amounts):
AFLAC INCORPORATED AND SUBSIDIARIES
At Year-End 1998 1997 1996 1995 1994
-------- -------- -------- -------- --------
Assets:
Investments and cash $ 26,994 $ 22,880 $ 20,744 $ 20,045 $ 15,994
Other 4,189 6,574 4,276 5,172 4,293
-------- -------- -------- -------- --------
Total assets $ 31,183 $ 29,454 $ 25,020 $ 25,217 $ 20,287
======== ======== ======== ======== ========
Liabilities and shareholders' equity:
Policy liabilities $ 24,034 $ 19,885 $ 20,234 $ 19,514 $ 16,007
Notes payable 596 523 354 327 185
Income taxes 1,865 1,827 1,181 1,398 1,392
Other liabilities 918 3,789 1,125 1,844 951
Shareholders' equity 3,770 3,430 2,126 2,134 1,752
-------- -------- -------- -------- --------
Total liabilities and shareholders' equity $ 31,183 $ 29,454 $ 25,020 $ 25,217 $ 20,287
======== ======== ======== ======== ========
- --------------------------------------------------------------------------------------------------------------------------
Supplemental Data
- --------------------------------------------------------------------------------------------------------------------------
Operating earnings** $ 429 $ 374 $ 347 $ 349 $ 293
Operating earnings per share (basic)** 1.61 1.38 1.24 1.20 .97
Operating earnings per share (diluted)** 1.56 1.33 1.20 1.17 .95
Pretax profit margin*** 9.3% 8.6% 8.4% 8.4% 8.3%
After-tax profit margin*** 6.0% 5.4% 4.9% 4.8% 4.8%
Operating return on equity**** 18.7% 18.8% 19.9% 22.0% 20.4%
Yen/dollar exchange rate at year-end 115.70 130.10 116.10 102.95 99.85
Average yen/dollar exchange rate 130.89 121.07 108.84 94.10 102.26
Notes: (1) Includes gain of $121 ($.46 per basic share, $.44 per diluted share) due to a reduction in deferred income
tax liabilities from a tax rate cut in Japan and a charge of $65 ($.24 per basic and diluted share) for a
mandated policyholder protection fund in Japan in 1998.
(2) Includes gain of $211 ($.77 per basic share, $.75 per diluted share) from the sale of the broadcast business
in 1997.
(3) Includes gain of $48 ($.17 per basic share, $.16 per diluted share) from the sale of the broadcast business
in 1996.
(*) Based on diluted operating earnings per share.
(**) Excludes realized investment gains/losses and in 1996 and 1997, the gains from the sale of the television
business. Excludes the charge for the policyholder protection fund and the benefit of the tax rate
reduction in 1998.
(***) Operating basis.
(****) Based on operating earnings and excluding unrealized gains on investment securities, net.
EXH 13-4
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
AFLAC Incorporated is the parent company of American Family Life
Assurance Company of Columbus, AFLAC. Our principal business is
supplemental health insurance, which is marketed and administered through
AFLAC. Most of AFLAC's policies are individually underwritten and marketed
at worksites, with premiums paid by the employee. Our operations in Japan
(AFLAC Japan) and the United States (AFLAC U.S.) service the two markets for
our insurance operations.
RESULTS OF OPERATIONS
We paid a two-for-one stock split on June 8, 1998. All share and per-
share amounts in this report have been restated for this split.
Three significant items affected our net earnings during the three-year
period ended December 31, 1998.
First, due to a corporate income tax rate reduction in Japan during
1998, the statutory tax rate for AFLAC Japan declined from 45.3% to 41.7%.
This tax rate decline resulted in a reduction in our deferred income tax
liability as of March 31, 1998, which increased net earnings by $121 million
($.46 per basic share and $.44 per diluted share) in 1998. For additional
information on the income tax reduction, see Note 8 of the Notes to the
Consolidated Financial Statements.
The second factor affecting net earnings was a policyholder protection
fund system mandated by the Japanese government during the first quarter of
1998. The pretax charge for our obligation to the new protection fund was
$111 million ($65 million after tax, or $.24 per both basic and diluted
shares). For further information regarding this policyholder protection
fund, see Note 2 of the Notes to the Consolidated Financial Statements.
Also affecting net earnings was the sale of our television business,
which consisted of seven network-affiliated stations. The total pretax gain
from the sale was $327 million. The sale of one station closed on December
31, 1996. The pretax and after-tax gains recognized in 1996 on this sale
were $60 million and $48 million, respectively. The effect of the after-tax
gain on 1996 basic and diluted net earnings per share was $.17 and $.16,
respectively. The pretax and after-tax gains recognized during the second
quarter of 1997 on the closing of the six remaining stations were $267
million and $211 million, respectively. The effect of the after-tax gain on
1997 basic and diluted net earnings per share was $.77 and $.75,
respectively. For further information, see Note 2 of the Notes to the
Consolidated Financial Statements.
EXH 13-5
The results of operations by business segment for the three-year period
ended December 31, 1998, were as follows.
SUMMARY OF OPERATING RESULTS BY BUSINESS SEGMENT
(In millions, except for per-share amounts)
Percentage change Years ended
over previous year December 31,
------------------ ---------------------
1998 1997 1998 1997 1996
------------------ ---------------------
Operating earnings:
AFLAC Japan....................... (.4)% (5.4)% $ 502 $ 504 $ 533
AFLAC U.S......................... 24.9 43.4 230 184 129
Television operations............. - 4 26
All other business segments....... 2 (2) (8)
---- ---- ----
Total business segments........ 6.3 1.4 734 690 680
Interest expense, non-insurance
operations...................... 1.2 16.7 (10) (10) (13)
Corporate and eliminations........ 23.4 4.9 (60) (77) (79)
---- ---- ----
Pretax operating earnings....... 10.1 2.6 664 603 588
Income taxes...................... 2.8 (4.9) 235 229 241
---- ---- ----
Operating earnings.............. 14.6 7.8 429 374 347
Non-operating items:
Deferred tax benefit from
Japanese tax rate reduction..... 121 - -
Provision for the Japanese
mandated policyholder
protection fund, net of tax..... (65) - -
Gain on sale of television
business, net of tax............. - 211 48
Realized investment gains
(losses), net of tax............. 2 - (1)
---- ---- ----
Net earnings.................... (16.8)% 48.3% $ 487 $ 585 $ 394
==== ==== ==== ==== ====
Operating earnings per basic share.. 16.7% 11.3% $1.61 $1.38 $1.24
Operating earnings per diluted share 17.3 10.8 1.56 1.33 1.20
==== ==== ==== ==== ====
Net earnings per basic share........ (14.9)% 52.5% $1.83 $2.15 $1.41
Net earnings per diluted share...... (15.4) 52.9 1.76 2.08 1.36
==== ==== ==== ==== ====
============================================================================
The following discussion of earnings comparisons focuses on pretax
operating earnings and excludes realized investment gains/losses, the charge
for the mandated policyholder protection fund, the benefit of the Japanese
tax rate reduction and the gains from the sale of the television business.
Operating earnings per share referred to in the following discussion are
based on the diluted number of average outstanding shares.
EXH 13-6
FOREIGN CURRENCY TRANSLATION
Due to the relative size of AFLAC Japan, fluctuations in the yen/dollar
exchange rate can have a significant effect on our reported results. In
years when the yen weakens, translating yen into dollars causes fewer
dollars to be reported. When the yen strengthens, translating yen into
dollars causes more dollars to be reported.
Throughout 1996, 1997 and most of 1998, the yen weakened in relation to
the dollar. The average yen-to-dollar exchange rates were 130.89 in 1998,
121.07 in 1997 and 108.84 in 1996. The weakening of the yen during the
three-year period lowered operating earnings by $.05 per share in 1998
compared with 1997, $.09 per share in 1997 compared with 1996 and $.15 per
share in 1996 compared with 1995. Despite the weakening of the yen,
operating earnings per share increased 17.3% to $1.56 in 1998, 10.8% to
$1.33 in 1997 and 2.6% to $1.20 in 1996.
The following table illustrates the effect of foreign currency
translation by comparing our reported results with pro forma results as if
foreign currency rates had remained unchanged from the previous year.
SELECTED PERCENTAGE CHANGES FOR SUPPLEMENTAL CONSOLIDATED DATA*
(YEARS ENDED DECEMBER 31)
Including Foreign Excluding Foreign
Currency Changes Currency Changes**
------------------------ ------------------------
1998 1997 1996 1998 1997 1996
------ ------ ------ ------ ------ ------
Premium income 1.2% (.6)% (2.6)% 7.7% 8.5% 10.1%
Net investment income 5.6 5.5 (.3) 11.1 14.0 11.9
Total revenues 1.7 (.7) (2.1) 8.0 8.2 10.4
Total benefits and
expenses .9 (1.0) (2.1) 7.4 8.0 10.5
Operating earnings 14.6 7.8 (.4) 18.6 15.2 11.5
Operating earnings
per share 17.3 10.8 2.6 21.1 18.3 15.4
- ----------------------------------------------------------------------------
* The amounts in this table are presented on an operating basis.
** Amounts excluding foreign currency changes were determined using the
same yen/dollar exchange rate for the current year as each respective
prior year.
============================================================================
The increases in operating earnings per share reflected earnings
contributions in the functional currencies of our core insurance operations
in Japan and the United States, our share repurchase program and in 1998
lower income tax expense due to the tax rate reduction in Japan.
Our primary financial objective is the growth of operating earnings per
share before the effect of foreign currency translations. In 1996, we set
this objective at an annual growth rate of 15% to 17% through the year 2000.
In early 1998, we increased our goal for 1998 to 20% growth, which we
exceeded. Excluding the effect of currency fluctuations, operating earnings
per share increased 21.1% in 1998, 18.3% in 1997 and 15.4% in 1996.
EXH 13-7
In April 1998, we raised our 1999 objective for growth in operating
earnings per share to 20% excluding the impact of currency translation. If
that objective is achieved, the following table shows the likely results for
operating earnings per share in 1999 when the impact from various foreign
currency translations is included.
Annual Average Yen Annual Operating % Growth Yen Impact
Exchange Rate Diluted EPS Over 1998 on EPS
- ------------------ ---------------- --------- ----------
1999 @ 115.00 $ 1.98 26.9% $ .11
1999 @ 120.00 1.94 24.4 .07
1999 @ 125.00 1.91 22.2 .04
1999 @ 130.89* 1.87 19.9 -
1999 @ 135.00 1.85 18.6 (.02)
1999 @ 140.00 1.82 16.7 (.05)
1999 @ 145.00 1.80 15.4 (.07)
* Actual 1998 average exchange rate
PROFIT REPATRIATION
Repatriated profits represent a portion of the after-tax earnings
reported to the Japanese Financial Supervisory Agency (FSA) as of March 31
each year. Such regulatory basis earnings are determined using accounting
principles that differ materially from U.S. generally accepted accounting
principles. The differences relate primarily to the valuation of
investments, policy benefit and claim reserves, acquisition costs and
deferred income taxes. Japanese regulatory earnings and related profit
repatriations may therefore vary materially from year to year because of
these differences.
AFLAC Japan repatriated profits to AFLAC U.S. of $154 million in 1998,
$347 million in 1997 and $217 million in 1996. The profit transfer in 1997
included $125 million of a non-recurring nature. Since the first
repatriation in 1989, AFLAC Japan has repatriated $1.2 billion, which has
enhanced our flexibility and profitability. We estimate that cumulative
profit transfers from 1992 through 1998 have benefited consolidated net
earnings by $57 million in 1998, $41 million in 1997 and $26 million in
1996.
We expect that the 1999 profit repatriation will be approximately 20
billion yen ($171 million using the December 31, 1998, exchange rate). In
1999, a substantial portion of profit repatriation will be used for debt
service.
SHARE REPURCHASE PROGRAM
The shares purchased under the share repurchase program were financed
with bank borrowings and available cash. Interest expense related to the
share repurchase program was $10 million in 1998, and $9 million in both
1997 and 1996. Consolidated interest expense, including interest expense
from insurance operations, was $13 million in 1998, $14 million in 1997 and
$16 million in 1996.
EXH 13-8
The difference between the percentage changes in net earnings and net
earnings per share primarily reflects the impact of the share repurchase
program. As of December 31, 1998, we had approximately 7.4 million shares
still available for purchase under current repurchase authorizations from
the board of directors.
INCOME TAXES
Effective January 1, 1998, the Japanese government changed the income
tax provisions for foreign companies operating in Japan, increasing income
taxes on investment income and realized gains/losses from securities issued
by entities located in their home country. This change increased Japanese
income taxes on the income from most of AFLAC Japan's dollar-denominated
securities. In addition, in March 1998, the Japanese government enacted a
reduction in the Japanese corporate income tax rate. The statutory rate for
AFLAC Japan declined from 45.3% to 41.7% beginning May 1, 1998. The net
effect of these two Japanese tax changes increased income tax expense on
consolidated operating earnings by approximately $10 million for the year
ended December 31, 1998 (an increase of approximately $22 million from
increased taxes on AFLAC Japan's dollar-denominated investment income, less
approximately $12 million from the benefit of the statutory tax rate
reduction).
Our combined U.S. and Japanese effective income tax rates on operating
earnings were 35.4% in 1998, 37.9% in 1997 and 40.9% in 1996. Japanese
income taxes on AFLAC Japan's operating results, which were taxed at Japan's
corporate income tax rate of 45.3% through April 30, 1998, and 41.7%
thereafter, accounted for most of our income tax expense. The decline in
the effective tax rates in 1998 and 1997 resulted primarily from: the
weakening of the yen; increased contributions in earnings from the U.S.
business segment; and, in 1998, the Japanese tax rate reduction less the
effect of increased taxes on AFLAC Japan's dollar-denominated investment
income.
The most recent Japanese economic stimulus package announced in late
1998, but not yet enacted, included proposals to further reduce the Japanese
statutory corporate income tax rate. Under the proposals being discussed,
AFLAC Japan's statutory income tax rate would be reduced to 36.2% effective
April 1, 1999. We expect the proposals to be finalized in early 1999. If
the Japanese income tax rate decreases, we expect our combined effective
income tax rate to remain relatively unchanged in 1999. For further
information on the Japanese corporate income tax rate, see Note 8 of the
Notes to the Consolidated Financial Statements.
EXH 13-9
INSURANCE OPERATIONS, AFLAC JAPAN
AFLAC Japan is a branch of AFLAC and the principal contributor to our
earnings. AFLAC Japan ranks number one in terms of premium income and
profits among all foreign life and non-life insurance companies operating in
Japan. AFLAC Japan ranks second in terms of individual policies in force
and 16th in assets among all life insurance companies operating in Japan.
The transfer of profits from AFLAC Japan to AFLAC U.S. can distort
comparisons of operating results between years. Therefore, the AFLAC Japan
summary of operations table on the following page presents investment
income, total revenues and pretax operating earnings calculated on a pro
forma basis in order to improve comparability between years. The pro forma
adjustment represents cumulative investment income foregone by AFLAC Japan
on funds transferred to AFLAC U.S. during 1992 through 1998.
EXH 13-10
AFLAC JAPAN
SUMMARY OF OPERATING RESULTS
(In millions) 1998 1997 1996
----------------------------------
Premium income........................ $ 4,738 $ 4,803 $ 4,952
Investment income, as adjusted*....... 966 929 920
Other income 1 1 2
------ ------ ------
Total revenues, as adjusted*........ 5,705 5,733 5,874
------ ------ ------
Benefits and claims................... 4,119 4,156 4,294
Operating expenses.................... 1,035 1,037 1,022
------ ------ ------
Total benefits and expenses......... 5,154 5,193 5,316
------ ------ ------
Pretax operating earnings, as
adjusted*......................... 551 540 558
Investment income applicable to
profit repatriations................ (49) (36) (25)
------ ------ ------
Pretax operating earnings........... $ 502 $ 504 $ 533
====== ====== ======
- ----------------------------------------------------------------------------
Percentage changes in dollars
over previous year:
Premium income...................... (1.4)% (3.0)% (4.7)%
Investment income*.................. 4.0 .9 (2.2)
Total revenues*..................... (.5) (2.4) (4.3)
Pretax operating earnings*.......... 2.0 (3.2) (4.2)
Pretax operating earnings........... (.4) (5.4) (5.1)
- ----------------------------------------------------------------------------
Percentage changes in yen
over previous year:
Premium income...................... 6.6% 7.9% 10.2%
Investment income*.................. 12.4 12.3 13.1
Total revenues*..................... 7.6 8.6 10.7
Pretax operating earnings*.......... 10.2 7.8 10.9
Pretax operating earnings........... 7.6 5.4 9.8
- ----------------------------------------------------------------------------
Ratios to total revenues, as adjusted:*
Benefits and claims................. 72.2% 72.5% 73.1%
Operating expenses.................. 18.1 18.1 17.4
Pretax operating earnings........... 9.7 9.4 9.5
Ratio of pretax operating earnings
to total reported revenues.......... 8.9% 8.9% 9.1%
============================================================================
* Adjusted investment income, total revenues and pretax operating earnings
include estimates of additional investment income of $49 million in 1998,
$36 million in 1997 and $25 million in 1996 foregone due to profit
repatriations.
============================================================================
EXH 13-11
JAPANESE ECONOMY
Japan's economy has been weak for several years. The economic downturn
has spread to several Asian countries since mid-1997. The financial
strength of many Japanese financial institutions has deteriorated, and some
have experienced bankruptcy. As we have indicated in the past, the weak
economy in Japan has resulted in a difficult marketing environment for AFLAC
Japan, declining available investment yields for new investments and
decreased consumer confidence.
Although the Japanese government has developed various economic
stimulus packages, the time required for the Japanese economy to recover
remains uncertain.
AFLAC JAPAN SALES
AFLAC Japan produced strong sales results in 1998, despite the weak
Japanese economy. New annualized premiums from sales were: $575 million in
1998, up 11.5%; $515 million in 1997, down 28.5%; and $721 million in 1996,
down 4.8%. New annualized premiums from sales in yen were: 74.9 billion
yen in 1998, up 20.1%; 62.4 billion yen in 1997, down 20.4%; and 78.4
billion yen in 1996, up 10.0%.
AFLAC Japan's new policy sales in yen during 1998 approached their 1996
level. In 1997, new policy sales were adversely affected by a premium rate
increase that AFLAC and the insurance industry implemented in the fourth
quarter of 1996 as well as the decline of consumer confidence in the life
insurance industry following the April 1997 collapse of Nissan Mutual Life
Insurance Company.
We have taken several actions to help mitigate the impact of the weak
sales environment in Japan. Our newest product, Rider MAX, has become one of
our most successful in a very short period of time. This product provides
accident and medical/sickness benefits as a rider to our cancer life policy.
We also introduced a new economy cancer life policy in January 1997. This
plan, which has lower premium rates and benefit levels, was developed to
combat the impact of increased premium rates for new issues. In addition,
AFLAC Japan increased the use of direct-mail marketing for its products as a
supplemental distribution method.
In 1998, we purchased a small Japanese insurance agency. Its main
functions will be policyholder-related services and direct marketing
programs for AFLAC Japan.
We continue to invest in marketing to improve sales. The incentive pay
system for AFLAC Japan's employed sales managers was revised in 1997 to
better reward them for improved sales performance. We made additional
expenditures in late 1997 and during 1998 for expanded sales promotion
efforts in Japan. In addition, we will continue our popular television
advertising program. We have also publicized our financial strength ratings
in Japan and are recruiting more individual agencies. In 1998, we recruited
approximately 2,200 new agencies, most of which are individual agencies,
compared with fewer than 700 in 1997. Our goal is to recruit 3,000 new
agencies in 1999.
EXH 13-12
AFLAC Japan's sales mix is changing, although cancer life still
accounts for the majority of insurance in force. Cancer life sales
accounted for 49.4% of total new sales in yen in 1998, 52.5% in 1997 and
46.7% in 1996. We sold more than 948,000 riders of Rider MAX in 1998, which
was its first year of availability. This product accounted for 33.2% of our
sales for the year, and 39.9% of our cancer life policies were sold with
Rider MAX. The rider we introduced in the fourth quarter of 1995, living
benefit life, accounted for 7.2% of total new sales in 1998, 28.3% in 1997
and 39.5% in 1996. Care product sales represented 3.7% of total new sales
in 1998, 6.8% in 1997 and 10.6% in 1996.
In September 1997, the Japanese government increased the copayments for
the employer-sponsored health care program from 10% to 20% for the primary
insured, thereby increasing the portion of the costs the insured must pay.
Given the increase in copayments, we believe our products and riders that
provide supplemental medical benefits will be especially appealing to
consumers.
Our objectives for 1999 are to increase sales in yen by 10% to 15%
compared with 1998 and to improve the profit margin. We also expect
revenues in yen to increase 6% to 6.5% and our strong policy persistency to
continue.
AFLAC JAPAN INVESTMENTS
Investment income is affected by available cash flow from operations,
investment yields achievable on new investments and foreign currency
exchange rates. Investment income in dollars in 1998 and 1997 was affected
by the weaker yen. Despite a general decline in available investment
yields, investment income in yen increased 11.0% in both 1998 and 1997.
Funds available for investment during the three-year period 1996 through
1998 were reduced by the annual profit repatriations previously discussed.
Rates of return on debt securities in Japan remained low in 1998. For
instance, the yield on 20-year Japanese government bonds, as measured by a
composite index, fluctuated to a low of 1.16% in October 1998 and closed
1998 at a high of 2.97%.
AFLAC Japan's new money rates for investments in debt securities
(including dollar-denominated) were 4.19% for 1998, 5.20% for 1997 and 4.07%
for 1996. The improvement in AFLAC Japan's new money yield in 1997 resulted
from restructuring portions of the existing dollar-denominated investment
portfolio and a greater allocation of cash flow to private placement
securities, which included dual-currency securities (yen-denominated bonds
with a dollar coupon) and perpetual debentures. However, the overall rate
of return (net of investment expenses) on AFLAC Japan's average investments
and cash at amortized cost has declined. These returns, which were 5.26% in
1998, 5.37% in 1997 and 5.55% in 1996, reflect the cumulative effect of
lower investment yields available in Japan since the early 1990's.
By concentrating on selected sectors of the bond market, AFLAC Japan
has secured higher yields than 20-year Japanese government bonds would have
provided while still adhering to conservative standards for credit quality.
We believe that we can invest new money in the near term at an adequate
spread over policy premium pricing assumptions for new business and assumed
interest rates for policy liabilities. The premium rate increases recently
implemented have a positive impact on investment margins and therefore
should contribute to stability in the pretax operating profit margin.
EXH 13-13
INSURANCE DEREGULATION IN JAPAN
In December 1996, the governments of the United States and Japan
reached an agreement on deregulation of the Japanese insurance industry.
The agreement calls for the gradual liberalization of the industry through
the year 2001 and includes provisions to avoid "radical change" in the third
sector of the insurance industry, which includes our supplemental insurance
products. AFLAC and other foreign-owned insurers, as well as some small to
medium-sized Japanese insurers, operate primarily in the third sector. One
of the measures for avoiding radical change in the third sector is the
prohibition of additional Japanese life and non-life insurance companies
from selling cancer or medical insurance until January 1, 2001. AFLAC has
inherent competitive advantages through its distribution, products,
administrative efficiency and financial soundness that should enable it to
grow even in a more competitive environment. However, the ultimate impact
of deregulation isn't known.
AFLAC JAPAN - OTHER
The percentage increases in premium income reflect the growth of
premiums in force. The increases in annualized premiums in force in yen of
7.2% in 1998, 5.2% in 1997 and 12.2% in 1996 reflect the high persistency of
AFLAC Japan's business and the sales of new policies. Annualized premiums
in force were: 640.8 billion yen ($5.5 billion) at December 31, 1998; 597.8
billion yen ($4.6 billion) at December 31, 1997; and 568.1 billion yen ($4.9
billion) at December 31, 1996.
The slight decline of the benefit ratio during the three-year period
ended December 31, 1998, is primarily attributable to newer products that
have somewhat lower loss ratios than the cancer life plan. Annual claims
experience and persistency studies continue to support the current reserving
assumptions.
Even with Japan's depressed economic conditions, we believe the market
for supplemental insurance remains bright. The need for our products in
Japan has continued, and we remain optimistic about increasing penetration
within existing groups, selling new products, opening new accounts and
developing additional supplemental products for the Japanese market.
INSURANCE OPERATIONS, AFLAC U.S.
AFLAC U.S. pretax operating earnings continued to benefit from
additional investment income earned on profit transfers received from AFLAC
Japan. Estimated investment income earned from profits transferred to and
retained by AFLAC U.S. from 1992 through 1998, along with estimated
investment income earned from the sales proceeds of the television business,
have been reclassified in the presentation on the following page in order to
improve comparability between years.
EXH 13-14
AFLAC U.S.
SUMMARY OF OPERATING RESULTS
(In millions) 1998 1997 1996
----------------------------------
Premium income......................... $ 1,198 $ 1,062 $ 946
Investment income, as adjusted*........ 112 104 86
Other income........................... 4 1 2
------ ------ ------
Total revenues, as adjusted*......... 1,314 1,167 1,034
------ ------ ------
Benefits and claims.................... 749 667 591
Operating expenses..................... 439 392 347
------ ------ ------
Total benefits and expenses.......... 1,188 1,059 938
------ ------ ------
Pretax operating earnings, as
adjusted*........................ 126 108 96
Investment income applicable to
profit repatriations and proceeds
from the sale of the television
business............................. 104 76 33
------ ------ ------
Pretax operating earnings.......... $ 230 $ 184 $ 129
====== ====== ======
- ----------------------------------------------------------------------------
Percentage increases over previous year:
Premium income....................... 12.8% 12.2% 10.0%
Investment income* ................. 7.8 20.3 10.2
Total revenues*...................... 12.6 12.9 10.0
Pretax operating earnings*........... 16.1 13.2 15.0
Pretax operating earnings............ 24.9 43.4 23.0
- ----------------------------------------------------------------------------
Ratios to total revenues, as adjusted:*
Benefits and claims.................. 57.0% 57.1% 57.1%
Operating expenses................... 33.4 33.6 33.6
Pretax operating earnings............ 9.6 9.3 9.3
Ratio of pretax operating earnings to
total reported revenues.............. 16.2% 14.8% 12.1%
============================================================================
* Excludes estimated investment income of $104 million in 1998 and $76
million in 1997 related to investment of profit repatriation funds
retained by AFLAC U.S. and investment of the proceeds from the sale of
the television business, and $33 million in 1996 related to investment
of profit repatriation funds retained by AFLAC U.S.
============================================================================
EXH 13-15
AFLAC U.S. SALES
The percentage increases in premium income reflect the growth of
premiums in force. The increases in annualized premiums in force of 14.6%
in 1998, 14.7% in 1997 and 11.1% in 1996 were favorably affected by
increased sales at the worksite primarily through cafeteria plans (Internal
Revenue Code Section 125) and an improvement in the persistency of several
products. Annualized premiums in force were: $1.4 billion at December 31,
1998; $1.2 billion at December 31, 1997; and $1.1 billion at December 31,
1996.
New annualized premiums from sales and policy conversions were: $482
million in 1998, up 20.3%; $401 million in 1997, up 22.7%; and $327 million
in 1996, up 17.0%. Accident/disability coverage was the best-selling
product for the fifth year in a row, accounting for more than 56% of new
sales in 1998, 54% of new sales in 1997 and 48% of new sales in 1996.
Cancer expense insurance accounted for more than 25% of new sales in 1998,
24% of new sales in 1997 and 27% of new sales in 1996.
AFLAC U.S. - OTHER
We expect the operating expense ratio, excluding discretionary
advertising expenses, to decline in the future due to continued improvements
in operating efficiencies. State-of-the-art technology is one way we can
control expense growth, and SmartApp is a good example. SmartApp is a
laptop-based, point-of-sale system we developed in the early 1990s. Our
sales associates use this system to input customer information, capture the
customer's signature and electronically transmit the application to
headquarters. In some cases, the policy can be "jet-issued," which requires
no human intervention. In 1998, we processed approximately 58% of our
business with SmartApp, and about 44% of those policies were jet-issued.
Our goal for 1999 is to produce 70% of our business via SmartApp. By
improving administrative systems and controlling other costs, we have been
able to redirect funds to national advertising programs without
significantly affecting the operating expense ratio.
The aggregate benefit ratio has been relatively stable. The mix of
business has shifted towards accident and hospital indemnity policies, which
have lower benefit ratios than other products. We expect future benefit
ratios for some of our supplemental products to increase slightly due to our
ongoing efforts to improve policy persistency and enhance policyholder
benefits.
We expect the pretax operating profit margin to remain approximately
the same in 1999.
We continue to believe that there are significant opportunities to
market high-quality, affordable supplemental insurance products in the U.S.
marketplace.
EXH 13-16
OTHER OPERATIONS
Corporate operating expenses consist primarily of overhead expenses
such as salary costs, provisions for retirement and litigation expenses and
professional fees. Corporate expenses have fluctuated in recent years
primarily due to changes in the legal environment in certain states and to
enhanced benefits, early retirements and revisions in actuarial assumptions
for retirement accruals.
On December 31, 1998, we sold our insurance operation in Taiwan,
resulting in a nominal gain.
FINANCIAL ACCOUNTING STANDARDS BOARD STATEMENTS
For information regarding new Statements of Financial Accounting
Standards (SFAS), see Note 1 of the Notes to the Consolidated Financial
Statements.
ANALYSIS OF FINANCIAL CONDITION
BALANCE SHEET
During the last two years, our financial condition has remained strong
in the functional currencies of our operations. The investment portfolios
of AFLAC Japan and AFLAC U.S. have continued to grow and consist of
investment-grade securities.
The yen/dollar exchange rate at the end of each period is used to
translate yen-denominated balance sheet items to U.S. dollars for reporting
purposes. The exchange rate at December 31, 1998, was 115.70 yen to one
U.S. dollar, 12.4% stronger than the December 31, 1997, exchange rate of
130.10. The stronger yen rate increased reported investments and cash by
$2.4 billion, total assets by $2.8 billion and total liabilities by $2.7
billion compared with the amounts that would have been reported for 1998 if
the exchange rate had remained unchanged from year-end 1997. For additional
information on exchange rates, see Note 2 of the Notes to the Consolidated
Financial Statements.
MARKET RISKS OF FINANCIAL INSTRUMENTS
Our financial instruments are exposed primarily to three types of
market risks: interest rate, equity price and foreign currency exchange
rate.
INTEREST RATE RISK
Our primary interest rate exposure is a result of the effect of changes
in interest rates on the fair value of our investments in debt securities.
We use modified duration analysis, which provides a measure of price
percentage volatility, to estimate the amount of sensitivity to interest
rate changes in our debt securities. For example, if the current duration
of a debt security is five, then the market value of that security will
increase by approximately 5% if market interest rates decrease by 100 basis
points. Likewise, the value of the debt security will decrease by
approximately 5% if market interest rates increase by 100 basis points.
EXH 13-17
The estimated effect of potential increases in interest rates on the
fair values of our debt security investments and notes payable follows:
SENSITIVITY OF FAIR VALUES OF FINANCIAL INSTRUMENTS
TO INTEREST RATE CHANGES
DECEMBER 31
1998 1997
------------------- -------------------
+100 +100
Market Basis Market Basis
(In millions) Value Points Value Points
------------------- -------------------
Debt securities:
Fixed-maturity securities:
Yen-denominated $ 16,748 $ 15,317 $ 14,906 $ 13,634
Dollar-denominated 4,603 4,272 4,101 3,807
Perpetual debentures:
Yen-denominated 4,250 3,816 3,286 2,943
Dollar-denominated 204 192 145 136
------- ------- ------- -------
Total $ 25,805 $ 23,597 $ 22,438 $ 20,520
======= ======= ======= =======
Notes payable* $ 578 $ 587 $ 505 $ 520
======= ======= ======= =======
* Excludes capitalized leases
Should significant amounts of unrealized losses occur because of
increases in market yields, we would not expect to realize significant
losses because we have the ability to hold such securities to maturity.
The unrealized gains and losses on debt securities, less amounts
applicable to policy liabilities and deferred income taxes, are reported in
accumulated other comprehensive income. The portion of unrealized gains
credited to policy liabilities represents gains that would not inure to the
benefit of the shareholders if such gains were actually realized. For
further information, see Note 3 of the Notes to the Consolidated Financial
Statements.
EXH 13-18
The following is a comparison of the actuarially assumed interest rates
for policy reserves and investment yields (after investment expenses) for
the years ended December 31:
COMPARISON OF INTEREST RATES FOR POLICY RESERVES
AND INVESTMENT YIELDS
(Net of investment expenses)
1998 1997 1996
------------ ------------ ------------
U.S. Japan* U.S. Japan* U.S. Japan*
----- ----- ----- ----- ----- -----
Policies issued during year:
Required interest on
policy reserves 6.81% 3.50% 6.80% 3.50% 6.81% 4.28%
New money yield on
investments 7.62 3.76 7.53 4.29 7.31 3.83
Policies in force at end
of year:
Required interest on
policy reserves 6.41 5.38 6.40 5.46 6.38 5.53
Investment yield 7.44 5.17 7.61 5.34 7.31 5.58
* Represents yen-denominated investments for Japan
We attempt to match the duration of our assets with the duration of our
liabilities. For AFLAC Japan, the duration of policy benefit liabilities is
longer than that of the related invested assets due to the unavailability of
acceptable yen-denominated long-duration securities. At December 31, 1998,
the average duration of policy liabilities was approximately 13 years,
unchanged from 1997. The average duration of the yen-denominated debt
securities was approximately nine years in 1998 and 1997. When our debt
securities mature, there is a risk that the proceeds will be reinvested at a
yield below that of the interest required for the accretion of policy
liabilities. Over the next five years, $3.0 billion at amortized cost, or
14.8%, of AFLAC Japan's yen-denominated debt securities are scheduled to
mature.
We have outstanding interest rate swaps on 49.6 billion yen ($428
million) of our variable-interest-rate yen-denominated bank borrowings.
These swaps reduce the impact of fluctuations in interest rates on our
borrowing costs and effectively change our interest rates from variable to
fixed. Therefore, movements in market interest rates should have no material
effect on earnings.
At December 31, 1998, we also had yen-denominated bank borrowings in
the amount of 17.3 billion yen ($150 million) with a variable interest rate
of .87%. The effect on net earnings in 1998 due to changes in market
interest rates was immaterial. For further information on our notes
payable, see Note 7 of the Notes to the Consolidated Financial Statements.
EXH 13-19
EQUITY PRICE RISK
Equity securities at December 31, 1998, totaled $177 million, or .7% of
total investments and cash on a consolidated basis. We use beta analysis to
measure the sensitivity of our equity securities portfolio to fluctuations
in the broad market. The beta of our equity securities portfolio is 1.02.
For example, if the overall stock market value changed by 10%, the value of
AFLAC's equity securities would be expected to change by approximately
10.2%, or $18 million.
CURRENCY RISK
Most of AFLAC Japan's investments and cash are denominated in yen.
When the yen-denominated financial instruments mature or are sold, the
proceeds are generally reinvested in yen-denominated securities and are held
to fund yen-denominated policy obligations rather than converted into
dollars. Therefore, there is no significant foreign currency transaction
risk.
In addition to the yen-denominated financial instruments held by AFLAC
Japan, AFLAC Incorporated has yen-denominated borrowings that have been
designated as a hedge of our investment in AFLAC Japan. The unrealized
foreign currency translation gains and losses related to these borrowings
are reported in accumulated other comprehensive income.
We attempt to match our yen-denominated assets to our yen-denominated
liabilities on a consolidated basis in order to minimize the exposure of our
shareholders' equity to foreign currency translation fluctuations.
EXH 13-20
The following table compares the dollar values of our yen-denominated
assets and liabilities at various exchange rates.
DOLLAR VALUE OF YEN-DENOMINATED ASSETS AND LIABILITIES
AT SELECTED EXCHANGE RATES
DECEMBER 31
1998 1997
(In millions) ----------------------- -----------------------
100.70 115.70* 130.70 115.10 130.10* 145.10
Yen Yen Yen Yen Yen Yen
----------------------- -----------------------
Yen-denominated
financial instruments:
Assets:
Securities available
for sale:
Fixed maturities $15,001 $13,057 $11,558 $16,849 $14,906 $13,365
Perpetual debentures 1,286 1,119 991 3,712 3,286 2,945
Equity securities 26 23 20 9 7 7
Securities held to
maturity:
Fixed maturities 4,534 3,947 3,494 - - -
Perpetual debentures 4,014 3,494 3,093 - - -
Cash and cash
equivalents 351 306 270 185 164 147
Securities held as
collateral** - - - 3,430 3,034 2,721
Other financial
instruments 12 8 8 10 8 8
------ ------ ------ ------ ------ ------
Total 25,224 21,954 19,434 24,195 21,405 19,193
------ ------ ------ ------ ------ ------
Liabilities:
Payables for return
of collateral** - - - 3,430 3,034 2,721
Notes payable 664 578 511 563 498 447
------ ------ ------ ------ ------ ------
Total 664 578 511 3,993 3,532 3,168
------ ------ ------ ------ ------ ------
Net yen-denominated
financial instruments 24,560 21,376 18,923 20,202 17,873 16,025
Other yen-denominated
assets 3,600 3,133 2,774 2,964 2,622 2,351
Other yen-denominated
liabilities (27,767)(24,167)(21,395) (22,614)(20,007)(17,938)
------ ------ ------ ------ ------ ------
Total yen-denominated
net assets subject
to foreign currency
fluctuation $ 393 $ 342 $ 302 $ 552 $ 488 $ 438
====== ====== ====== ====== ====== ======
* Actual year-end rate
** Off-balance sheet financial instruments in 1998
EXH 13-21
For information regarding the effect of foreign currency translation on
operating earnings per share, see Results of Operations on pages 13-5
through 13-16 and Note 2 of the Notes to the Consolidated Financial
Statements.
INVESTMENTS AND CASH
The continued growth in investments and cash reflects the substantial
cash flows from operations. Net unrealized gains of $1.3 billion on
investment securities at December 31, 1998, consisted of $2.4 billion in
gross unrealized gains and $1.1 billion in gross unrealized losses.
AFLAC invests primarily within the Japanese, U.S. and Euroyen fixed-
maturity markets. We use specific criteria to judge the credit quality and
liquidity of our investments and use a variety of credit rating services to
monitor these criteria. Applying those various credit ratings to a
standardized rating system based on the categories of a nationally
recognized rating service, the percentages of our debt securities, at
amortized cost, as of December 31 were as follows:
1998 1997
------ ------
AAA 38.1% 44.9%
AA 17.6 18.1
A 31.2 29.7
BBB 13.1 7.3
----- -----
100.0% 100.0%
===== =====
As of December 31, 1998, we held no debt securities rated below "BBB."
However, in January 1999, the credit ratings of several major Japanese
financial institutions were downgraded. We owned debt securities issued by
a Japanese bank in the amount of $454 million, or 1.8% of total debt
securities at December 31, 1998. Following the downgrade, these securities
were rated "Ba1" by Moody's and "BB+" by Standard & Poor's.
Private placement investments accounted for 43.9% and 36.3% of our
total debt securities as of December 31, 1998 and 1997, respectively. AFLAC
Japan has made investments in the private placement market to secure higher
yields than those available from Japanese government bonds. At the same
time, we have adhered to historically conservative standards for credit
quality. We require that all private placement issuers have an initial
rating of Class 1 or 2 as determined by the Securities Valuation Office of
the National Association of Insurance Commissioners (NAIC). Most of AFLAC's
private placement issues are issued under medium-term note programs and have
standard covenants commensurate with credit rankings, except when internal
credit analysis indicates that additional protective and/or event-risk
covenants are required.
During the fourth quarter of 1998, we revised our investment management
policy regarding the holding-period intent for certain of our private
placement debt securities. Our past practice was to hold these securities
to their contractual or economic maturity dates. We have now made this our
formal policy. Accordingly, debt securities carried at a fair value of $6.4
billion were reclassified as of October 1, 1998, from the
EXH 13-22
category "available for sale" to "held to maturity." The related unrealized
gain of $1.1 billion as of October 1, 1998 on these securities is being
amortized over the remaining term of the securities. Securities that are
available for sale are reported in the balance sheet at fair value and
securities that are held to maturity are reported at amortized cost.
The following table shows an analysis of investment securities (at cost
or amortized cost) at December 31:
AFLAC Japan AFLAC U.S.
------------------- -------------------
(In millions) 1998 1997 1998 1997
------------------- -------------------
Available for sale:
Fixed-maturity securities $12,886 $13,527 $ 2,813 $ 2,546
Perpetual debentures 1,344 3,011 70 37
Equity securities 22 7 79 73
------ ------ ------ ------
Total available for sale 14,252 16,545 2,962 2,656
------ ------ ------ ------
Held to maturity:
Fixed-maturity securities 3,947 - - -
Perpetual debentures 3,494 - - -
------ ------ ------ ------
Total held to maturity 7,441 - - -
------ ------ ------ ------
Total $21,693 $16,545 $ 2,962 $ 2,656
====== ====== ====== ======
Mortgage loans on real estate and other long-term investments remained
immaterial at both December 31, 1998 and 1997. Cash, cash equivalents and
short-term investments totaled $384 million, or 1.4% of total investments
and cash, as of December 31, 1998, compared with $279 million, or 1.2% of
total investments and cash, at December 31, 1997.
For additional information concerning investments and fair values, see
Notes 3 and 4 of the Notes to the Consolidated Financial Statements.
POLICY LIABILITIES
Policy liabilities increased $4.1 billion, or 20.9%, during 1998. AFLAC
Japan policy liabilities increased $4.0 billion, or 22.2%, and AFLAC U.S.
policy liabilities increased $205 million, or 10.9%. Changes in policy
liabilities were primarily due to the addition of new business, the aging of
policies in force, the stronger yen and the effect of the market value
adjustment for securities available for sale (see Note 3 of the Notes to the
Consolidated Financial Statements). The stronger yen at year-end 1998
compared with 1997 increased reported policy liabilities by $2.4 billion.
The weaker yen at year-end 1997 compared with 1996 decreased reported policy
liabilities by $2.2 billion in 1997.
DEBT
AFLAC Incorporated has an unsecured reducing revolving credit agreement
that provides for bank borrowings through July 2001 in either U.S. dollars
or Japanese yen. At December 31, 1998, 38.1 billion yen ($329 million) were
outstanding under this agreement.
EXH 13-23
AFLAC Incorporated also has an unsecured revolving credit agreement
that provides for bank borrowings through November 2002 in either U.S.
dollars or Japanese yen. At December 31, 1998, 28.8 billion yen ($249
million) were outstanding.
The proceeds from these loans were used to fund our share repurchase
program. When any portion of these loans is denominated in yen, the
principal amounts of the loans in dollars will fluctuate due to changes in
the yen/dollar exchange rate.
We have entered into interest rate swaps that effectively change the
interest rates on a portion of these loans from variable to fixed. The
variable rate on the 34.1 billion yen ($294 million) loan is .95%, and the
fixed rate is 2.29% after the effect of the swaps (including loan costs of
25 basis points). The variable rate on the 15.5 billion yen ($134 million)
loan is .90%, and the fixed rate is 1.24% after the effect of the swaps
(including loan costs of 20 basis points). We make interest payments to the
bank based on variable interest rates, and we either pay to or receive from
the swap counterparty an amount necessary to equal the fixed rate. The
variable interest rate at December 31, 1998, was based on the three-month
Tokyo Interbank Offered Rate of .75%, plus loan costs.
We have designated these yen-denominated borrowings as a hedge of our
net investment in AFLAC Japan. Foreign currency translation gains/losses on
the borrowings are included in accumulated other comprehensive income.
Outstanding principal and related accrued interest payable on the yen-
denominated borrowings are translated into dollars at end-of-period exchange
rates.
Our ratio of debt to total capitalization (debt plus shareholders'
equity, excluding the net unrealized gains on investment securities) was
19.6% as of December 31, 1998 and 1997. For further information concerning
notes payable, see Note 7 of the Notes to the Consolidated Financial
Statements.
SECURITY LENDING
AFLAC Japan uses short-term security lending arrangements to increase
investment income with minimal risk. This program increased AFLAC Japan's
investment income by approximately $1 million in both 1998 and 1997. For
further information regarding such arrangements, see Note 4 of the Notes to
the Consolidated Financial Statements.
POLICYHOLDER GUARANTY FUNDS
Under insurance guaranty fund laws in most U.S. states, insurance
companies doing business in those states can be assessed for policyholder
losses up to prescribed limits that are incurred by insolvent companies with
similar lines of business. Such assessments have not been material to us in
the past. We believe that future assessments relating to companies in the
U.S. currently involved in insolvency proceedings will not materially impact
the consolidated financial statements.
The Life Insurance Association of Japan, an industry organization,
implemented a policyholder protection fund in 1996 to provide capital
EXH 13-24
support to insolvent life insurers. AFLAC Japan pledged investment
securities to the Life Insurance Association of Japan under this program.
During the first quarter of 1998, the Japanese government enacted a
mandatory policyholder protection fund system. The life insurance industry
will contribute $6.0 billion over a 10-year period for these two funds. We
have recorded a liability for our share of these obligations. (See Note 2
of the Notes to the Consolidated Financial Statements.)
SHAREHOLDERS' EQUITY
Our insurance operations continue to provide the primary sources of
liquidity. Capital needs can also be supplemented by borrowed funds. The
principal sources of cash from insurance operations are premiums and
investment income. Primary uses of cash in the insurance operations are
policy claims, commissions, operating expenses, income taxes and payments to
AFLAC Incorporated for management fees and dividends. Both the sources and
uses of cash are reasonably predictable. Our investment objectives provide
for liquidity through the ownership of high-quality investment securities.
AFLAC insurance policies are generally not interest-sensitive and therefore
are not subject to unexpected policyholder redemptions due to investment
yield changes. Also, the majority of our policies provide indemnity
benefits rather than reimbursement for actual medical costs and thus are not
subject to the risks of medical-cost inflation.
The achievement of continued long-term growth will require growth in
AFLAC's statutory capital and surplus. We may secure additional statutory
capital through various sources, such as internally generated statutory
earnings or equity contributions by AFLAC Incorporated from funds generated
through debt or equity offerings. The disposition of the television
business increased our capital resources. We believe outside sources for
additional debt and equity capital, if needed, will continue to be available
for capital expenditures, business expansion and the funding of our share
repurchase program.
AFLAC Incorporated capital resources are largely dependent upon the
ability of AFLAC to pay management fees and dividends. The Georgia
Insurance Department imposes certain limitations and restrictions on
payments of dividends, management fees, loans and advances by AFLAC to AFLAC
Incorporated. The Georgia Insurance Statutes require prior approval for
dividend distributions that exceed the greater of statutory earnings for the
previous year or 10% of statutory capital and surplus as of the previous
year-end. In addition, the Georgia Insurance Department must approve
service arrangements and other transactions within the affiliated group.
These regulatory limitations are not expected to affect the level of
management fees or dividends paid by AFLAC to AFLAC Incorporated. A life
insurance company's statutory capital and surplus is computed according to
rules prescribed by the NAIC, as modified by the insurance company's state
of domicile. Statutory accounting rules are different from generally
accepted accounting principles and are intended to emphasize policyholder
protection and company solvency.
Currently, prescribed or permitted statutory accounting principles
(SAP) used by insurers for financial reporting to state insurance regulators
may vary between states and between companies. The NAIC has recodified SAP
to promote standardization throughout the industry. These new accounting
principles are presently planned by the NAIC to be effective for 2001. The
EXH 13-25
most significant change to AFLAC is the requirement that insurance companies
establish a deferred income tax liability for statutory accounting purposes.
We estimate AFLAC's deferred tax liability would be approximately $165
million at December 31, 1998, under the provisions of the recodified SAP.
AFLAC's capital and surplus, as determined on the present U.S. statutory
accounting basis, was $1.6 billion at December 31, 1998.
The NAIC uses a risk-based capital formula relating to insurance risk,
business risk, asset risk and interest rate risk to facilitate
identification by insurance regulators of inadequately capitalized insurance
companies based upon the types and mixtures of risks inherent in the
insurer's operations. AFLAC's NAIC risk-based capital ratio remains high
and reflects a very strong capital and surplus position. Also, there are
various ongoing regulatory initiatives by the NAIC relating to investments,
reinsurance, limited-benefit insurance policies, revisions to the risk-based
capital formula and other related matters.
In addition to restrictions by U.S. insurance regulators, the Japanese
FSA may impose restrictions on transfers of funds from AFLAC Japan.
Payments are made from AFLAC Japan to AFLAC Incorporated for management fees
and to AFLAC U.S. for allocated expenses and remittances of earnings. Total
funds received from AFLAC Japan were $192 million in 1998, $386 million in
1997 and $254 million in 1996. The FSA may not allow transfers of funds if
the payment would cause AFLAC Japan to lack sufficient financial strength
for the protection of policyholders. The FSA maintains solvency standards,
a version of risk-based capital requirements. AFLAC Japan's solvency margin
remains high and reflects a strong capital and surplus position. For
additional information on regulatory restrictions on dividends, profit
transfers and other remittances, see Note 10 of the Notes to the
Consolidated Financial Statements.
RATING AGENCIES
AFLAC is rated "AA" by Standard & Poor's and "Aa3" by Moody's for
financial strength. Duff & Phelps rates AFLAC "AA" in claims-paying
ability. A.M. Best, an independent rating service that analyzes the
financial condition and operating performance of insurance companies, gives
AFLAC an "A+" or superior rating.
OTHER
For information regarding pending litigation, see Note 12 of the Notes
to the Consolidated Financial Statements.
CASH FLOW
Operating cash flows for AFLAC Japan are translated using average
monthly exchange rates for the year. In years when the yen weakens,
translating yen into dollars causes fewer dollars to be reported. When the
yen strengthens, translating yen into dollars causes more dollars to be
reported.
For additional information, see the Consolidated Statements of Cash
Flows on pages 13-35 and 13-36.
EXH 13-26
OPERATING ACTIVITIES
In 1998, consolidated cash flow from operations decreased 4.2% to $2.5
billion, compared with $2.6 billion in 1997 and $2.7 billion in 1996. Net
cash flow from operations for AFLAC Japan decreased 5.8% (increased .3% in
yen) to $2.2 billion in 1998, compared with $2.3 billion in 1997 and $2.5
billion in 1996. AFLAC Japan represented 89% of the consolidated net cash
flow from operations in 1998 and 91% in both 1997 and 1996. The decrease in
cash flow from operations in 1998 and 1997 was due to the weaker yen.
INVESTING ACTIVITIES
Consolidated cash flow used by investing activities decreased 7.8% to
$2.2 billion in 1998, compared with $2.4 billion in 1997 and $2.5 billion in
1996. The sale of the television business generated cash flow of $351
million in 1997 and $99 million in 1996. AFLAC Japan accounted for 86% of
the consolidated net cash used by investing activities in 1998, compared
with 81% in 1997 and 93% in 1996.
Operating cash flow is primarily used to purchase debt securities.
When market opportunities arise, we dispose of selected debt securities
available for sale to improve future investment yields or lengthen
maturities. Therefore, dispositions before maturity can vary significantly
from year to year. Dispositions before maturity ranged between 4% and 9% of
the annual average investment portfolio of debt securities available for
sale during the three years ended December 31, 1998.
FINANCING ACTIVITIES
In 1998, net cash used by financing activities was $141 million,
compared with $121 million in 1997 and $157 million in 1996. Treasury stock
purchases of $125 million in 1998 and $314 million in 1997 were funded by
proceeds from new borrowings. In 1996, treasury stock purchases of $204
million were funded by proceeds from new borrowings of $136 million and
available cash. Debt repayments of $108 million in 1998, $55 million in
1997 and $36 million in 1996 on yen-denominated loans were made from annual
profit repatriations from Japan. In addition to issuing treasury shares for
AFLAC Japan stock options, we have sold treasury shares to our dividend
reinvestment plan and to the AFLAC Associate Stock Bonus Plan. These
dispositions generated proceeds in the amounts of $44 million, $40 million
and $35 million for the years 1998, 1997 and 1996, respectively. Cash
dividends paid to shareholders amounted to $67 million in 1998, an increase
of 10.7% over 1997. Cash dividends paid to shareholders in 1997 were $61
million, an increase of 11.7% over the 1996 cash dividends of $54 million.
The 1998 cash dividend of $.253 per share increased 12.9% over 1997. The
1997 cash dividend of $.224 per share represented an increase of 15.5% over
the 1996 cash dividend of $.194 per share.
YEAR 2000
The term "year 2000 issue" generally refers to incorrect date
calculations that might occur in computer software and hardware as the year
2000 approaches. The use of computer programs that rely on two-digit date
fields to perform computations and decision-making functions may cause
EXH 13-27
systems to malfunction when processing information involving dates after
1999. For example, any computer software that has date-sensitive coding
might recognize a code of "00" as the year 1900 rather than the year 2000.
Our efforts to address year 2000 issues began in 1997. We established
a Year 2000 Executive Steering Committee, made up of senior management and
representatives of our information technology, financial, legal, internal
audit and various operational areas to identify and address year 2000 issues
throughout our U.S. and Japanese operations. We also established a Year
2000 Project Office consisting of department coordinators from Information
Technology, Worldwide Headquarters business operations and AFLAC Japan. The
Project Office established both domestic and Japanese plans to address year
2000 readiness and minimize the risk of business disruption caused by year
2000 issues. We also engaged third party consultants to assist AFLAC U.S.
and AFLAC Japan with their year 2000 efforts.
The plans contain five phases: (1) the assessment phase, which
includes creating awareness of the issue throughout the company and
assessment of all systems, significant business processes, facilities and
third party dependencies; (2) the remediation phase, which includes updating
or modifying systems which are identified as critical to our efforts to
become year 2000 ready; (3) the testing phase, which includes the testing of
systems that have been updated or modified; (4) the implementation phase,
which includes placing systems into the production environment, as well as
additional comprehensive testing to identify and resolve any remaining year
2000 issues; and (5) contingency planning.
We have remediated substantially all of our critical production systems
in both the United States and Japan. Verification that the critical
production systems have been correctly remediated will continue through the
third quarter of 1999 in a year 2000 test environment. The additional
testing may raise new issues that require further remediation and
implementation activities, all of which are scheduled to be completed in the
third quarter of 1999. We intend to develop contingency plans for any
critical systems that we determine may not be fully remediated during the
second and third quarters of 1999 as testing is finalized. Testing and any
further remediation and implementation activities required for non-critical
systems will continue through the end of 1999.
We rely on a widely distributed customer base in the United States and
Japan for continued payment of premiums. Many of the systems utilized by
our group accounts are automated and date dependent. We randomly surveyed
group accounts in the United States to determine their year 2000 readiness.
AFLAC Japan depends heavily on substantial premium payments that are
electronically transmitted by third party payment agents from employers of
the insured. We have surveyed our more significant customers in Japan to
determine whether such customers expect their ability to pay premiums or
transmit policy and claims data in this fashion to be impacted by year 2000
issues. We have not yet conducted any tests with those customers in a year
2000 test environment and have no assurance that they will achieve year 2000
compliance. We intend to contact certain significant Japanese customers
during the first quarter of 1999 to recommend data transmission testing. If
a large number of customers (in the U.S. and/or Japan) are unable to submit
premium payments in a timely or accurate manner due to year 2000 issues, the
resulting delays could have a material adverse effect on our financial
condition or results of operations. It is not currently possible to predict
the probability of any delays occurring or the extent of such delays.
EXH 13-28
AFLAC owns publicly traded and privately placed fixed-maturity and
equity securities in the U.S. and Japan, and other foreign countries. If a
material portion of such securities are adversely impacted by year 2000
issues, our investment portfolio may also be adversely impacted.
Since the inception of the year 2000 project, we had incurred costs of
approximately $18 million for system upgrades or modifications through
December 31, 1998. Of this amount, approximately $6 million was
capitalized. The remaining cost to complete the various projects is
currently estimated to be $14 million, of which $7 million is expected to be
capitalized. We may determine that additional expenditures are necessary as
testing continues. Company personnel have spent considerable time and
effort on the project, and we intend to continue to devote additional
internal resources and personnel to work on the project. However, we
believe that any deferral of information technology projects due to the year
2000 effort will not have a material adverse effect on our operations or
financial condition.
Due to the uncertainty inherent in year 2000 issues, particularly with
regard to Japanese customers' year 2000 readiness and the various
governmental functions, public utilities, financial infrastructures and
similar outside facilities on which we depend in both the United States and
Japan, we are unable to determine at this time whether the consequences of
external year 2000 failures will have a material impact on our financial
condition or results of operations. Although a year 2000 failure with
respect to any single internal or external system may not have a material
adverse effect on AFLAC, the failure of multiple systems may cause a
material disruption to its business.
All statements made herein regarding our year 2000 efforts are "Year
2000 Readiness Disclosures" made pursuant to the Year 2000 Information and
Readiness Disclosure Act, and to the extent applicable, are entitled to the
protections of such act.
FORWARD-LOOKING INFORMATION
The Private Securities Litigation Reform Act of 1995 provides a "safe
harbor" to encourage companies to provide prospective information, so long
as those informational statements are identified as forward-looking and are
accompanied by meaningful, cautionary statements identifying important
factors that could cause actual results to differ materially from those
discussed. We desire to take advantage of these provisions. This report
contains cautionary statements identifying important factors that could
cause actual results to differ materially from those projected in this
discussion and analysis, and in any other statements made by company
officers in oral discussions with analysts and contained in documents filed
with the Securities and Exchange Commission (SEC). Forward-looking
statements are not based on historical information and relate to future
operations, strategies, financial results or other developments. In
particular, statements containing words such as "expect," "anticipate,"
"believe," "goal," "objective" or similar words as well as specific
projections of future results generally qualify as forward-looking. AFLAC
undertakes no obligation to update such forward-looking statements.
We caution readers that the following factors, in addition to other
factors mentioned from time to time in our reports filed with the SEC, could
EXH 13-29
cause actual results to differ materially: regulatory developments,
assessments for insurance company insolvencies, competitive conditions, new
products, ability to repatriate profits from Japan, general economic
conditions in the United States and Japan, changes in U.S. and/or Japanese
tax laws, adequacy of reserves, credit and other risks associated with
AFLAC's investment activities, significant changes in interest rates,
fluctuations in foreign currency exchange rates, and the ability of AFLAC,
and third parties with whom it does business, to achieve year 2000 readiness
for significant systems on a timely basis.
EXH 13-30
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
AFLAC INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
Years Ended December 31,
(In millions, except for share 1998 1997 1996
and per-share amounts) -------- -------- --------
Revenues:
Premiums, principally supplemental
health insurance $ 5,943 $ 5,874 $ 5,910
Net investment income 1,138 1,078 1,022
Realized investment gains (losses) (2) (5) 2
Gain on sale of television business - 267 60
Other income 25 37 106
------- ------- -------
Total revenues 7,104 7,251 7,100
------- ------- -------
Benefits and expenses:
Benefits and claims 4,877 4,833 4,896
Acquisition and operating expenses:
Amortization of deferred policy
acquisition costs 201 180 162
Insurance commissions 773 773 778
Insurance expenses 504 479 437
Provision for mandated policyholder
protection fund 111 - -
Interest expense 13 14 16
Other operating expenses 74 107 161
------- ------- -------
Total acquisition and
operating expenses 1,676 1,553 1,554
------- ------- -------
Total benefits and expenses 6,553 6,386 6,450
------- ------- -------
Earnings before income taxes 551 865 650
Income tax expense (benefit):
Current 277 292 240
Deferred -- operations (92) (12) 16
Deferred tax benefit from
Japanese tax rate reduction (121) - -
------- ------- -------
Total income taxes 64 280 256
------- ------- -------
Net earnings $ 487 $ 585 $ 394
======= ======= =======
Net earnings per share:
Basic $ 1.83 $ 2.15 $ 1.41
Diluted 1.76 2.08 1.36
======= ======= =======
Common shares used in computing
earnings per share (In thousands):
Basic 266,305 272,110 280,352
Diluted 275,872 281,596 288,922
======= ======= =======
Share and per-share amounts reflect the 2-for-1 stock split paid on June 8,
1998. See the accompanying Notes to the Consolidated Financial Statements.
EXH 13-31
AFLAC INCORPORATED AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31,
(In millions) 1998 1997
-------- --------
ASSETS:
Investments and cash:
Securities available for sale, at fair value:
Fixed maturities (amortized cost
$15,699 in 1998 and $16,073 in 1997) $ 17,660 $ 19,007
Perpetual debentures (amortized cost
$1,414 in 1998 and $3,048 in 1997) 1,323 3,431
Equity securities (cost $101 in 1998
and $80 in 1997) 177 146
Securities held to maturity, at amortized cost:
Fixed maturities (fair value $3,691) 3,947 -
Perpetual debentures (fair value $3,131) 3,494 -
Mortgage loans and other 9 17
Short-term investments 10 43
Cash and cash equivalents 374 236
-------- --------
Total investments and cash 26,994 22,880
Receivables, primarily premiums 229 213
Receivables for security transactions 43 3
Accrued investment income 316 265
Deferred policy acquisition costs 3,067 2,582
Property and equipment, at cost less
accumulated depreciation 427 386
Securities held as collateral for
loaned securities - 3,034
Other 107 91
-------- --------
Total assets $ 31,183 $ 29,454
======== ========
See the accompanying Notes to the Consolidated Financial Statements.
(continued)
EXH 13-32
AFLAC INCORPORATED AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (continued)
December 31,
(In millions, except for share amounts) 1998 1997
-------- --------
LIABILITIES AND SHAREHOLDERS' EQUITY:
Liabilities:
Policy liabilities:
Future policy benefits $ 22,218 $ 18,399
Unpaid policy claims 1,263 1,011
Unearned premiums 309 277
Other policyholders' funds 244 198
-------- --------
Total policy liabilities 24,034 19,885
Notes payable 596 523
Income taxes 1,865 1,827
Payables for return of collateral
on loaned securities - 3,034
Payables for security transactions 173 216
Other 745 539
Commitments and contingencies
(Notes 11 and 12)
-------- --------
Total liabilities 27,413 26,024
-------- --------
Shareholders' equity:
Common stock of $.10 par value. In thousands:
authorized 400,000 shares; issued 317,971
shares in 1998 and 316,380 shares in 1997 32 16
Additional paid-in capital 235 227
Retained earnings 2,862 2,442
Accumulated other comprehensive income:
Unrealized foreign currency translation gains 219 274
Unrealized gains on investment securities 1,332 1,285
Treasury stock, at average cost (910) (813)
Notes receivable for stock purchases - (1)
-------- --------
Total shareholders' equity 3,770 3,430
-------- --------
Total liabilities and
shareholders' equity $ 31,183 $ 29,454
======== ========
Share and per-share amounts reflect the 2-for-1 stock split paid on
June 8, 1998.
See the accompanying Notes to the Consolidated Financial Statements.
EXH 13-33
AFLAC INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Years Ended December 31,
(In millions, except for 1998 1997 1996
per-share amounts) -------- -------- --------
Common stock:
Balance at beginning of year $ 16 $ 16 $ 16
Two-for-one stock split 16 - -
------- ------- -------
Balance at end of year 32 16 16
------- ------- -------
Additional paid-in capital:
Balance at beginning of year 227 209 197
Exercise of stock options 8 6 6
Gain on treasury stock reissued 16 12 6
Two-for-one stock split (16) - -
------- ------- -------
Balance at end of year 235 227 209
------- ------- -------
Retained earnings:
Balance at beginning of year 2,442 1,918 1,578
Net earnings 487 585 394
Cash dividends ($.253 per share
in 1998, $.224 in 1997 and
$.194 in 1996) (67) (61) (54)
------- ------- -------
Balance at end of year 2,862 2,442 1,918
------- ------- -------
Accumulated other comprehensive income:
Balance at beginning of year 1,559 510 696
Change in unrealized foreign
currency translation gains during
year, net of income taxes (55) 44 16
Unrealized gains (losses) on
investment securities during year,
net of income taxes and
reclassification adjustments 47 1,005 (202)
------- ------- -------
Balance at end of year 1,551 1,559 510
------- ------- -------
Treasury stock:
Balance at beginning of year (813) (527) (352)
Purchases of treasury stock (125) (314) (204)
Cost of shares issued 28 28 29
------- ------- -------
Balance at end of year (910) (813) (527)
------- ------- -------
Notes receivable for stock purchases - (1) -
------- ------- -------
Total shareholders' equity $ 3,770 $ 3,430 $ 2,126
======= ======= =======
Per-share amounts reflect the 2-for-1 stock split paid on June 8, 1998.
See the accompanying Notes to the Consolidated Financial Statements.
EXH 13-34
AFLAC INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31,
(In millions) 1998 1997 1996
-------- -------- --------
Cash flows from operating activities:
Net earnings $ 487 $ 585 $ 394
Adjustments to reconcile net
earnings to net cash provided
by operating activities:
Increase in policy liabilities 2,173 2,310 2,483
Deferred income taxes (213) (12) 16
Change in income taxes payable 16 68 15
Increase in deferred policy
acquisition costs (226) (227) (265)
Change in receivables and
advance premiums 4 8 (32)
Depreciation and amortization expense 43 45 48
Gain on sale of television business - (267) (60)
Provision for mandated policyholder
protection fund 111 - -
Other, net 95 88 95
-------- -------- --------
Net cash provided by
operating activities 2,490 2,598 2,694
-------- -------- --------
Cash flows from investing activities:
Proceeds from investments sold
or matured:
Securities available for sale:
Fixed-maturity securities sold 941 1,722 1,708
Fixed-maturity securities
matured 698 422 560
Equity securities 57 64 17
Securities held to maturity:
Fixed-maturity securities matured 8 - -
Mortgage loans and other
investments, net 8 4 4
Short-term investments, net 34 6 (6)
Proceeds from sale of television business - 351 99
Costs of investments acquired:
Securities available for sale:
Fixed-maturity securities (2,966) (4,141) (3,942)
Perpetual debentures (917) (798) (912)
Equity securities (60) (55) (23)
Additions to property and
equipment, net (40) (9) (10)
Purchase of subsidiary (8) - -
-------- -------- --------
Net cash used by investing
activities $ (2,245) $ (2,434) $ (2,505)
-------- -------- --------
(continued)
EXH 13-35
AFLAC INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
Years Ended December 31,
(In millions) 1998 1997 1996
-------- -------- --------
Cash flows from financing activities:
Proceeds from borrowings $ 124 $ 409 $ 136
Principal payments under debt
obligations (125) (203) (76)
Dividends paid to shareholders (67) (61) (54)
Purchases of treasury stock (125) (314) (204)
Treasury stock reissued 44 40 35
Other, net 8 8 6
-------- -------- --------
Net cash used by
financing activities (141) (121) (157)
-------- -------- --------
Effect of exchange rate changes
on cash and cash equivalents 34 (16) (13)
-------- -------- --------
Net change in cash and
cash equivalents 138 27 19
Cash and cash equivalents,
beginning of year 236 209 190
-------- -------- --------
Cash and cash equivalents,
end of year $ 374 $ 236 $ 209
======== ======== ========
Supplemental disclosures of cash
flow information:
Cash payments during the year for:
Interest on debt obligations $ 12 $ 12 $ 14
Income taxes 210 222 224
Non-cash financing activities included capital lease obligations incurred
for computer equipment totaling $7 in 1998, $6 in 1997 and $9 in 1996.
See the accompanying Notes to the Consolidated Financial Statements.
EXH 13-36
AFLAC INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Years Ended December 31,
(In millions) 1998 1997 1996
-------- -------- --------
Net Earnings $ 487 $ 585 $ 394
-------- -------- --------
Other comprehensive income, before
income taxes:
Foreign currency translation
adjustments:
Change in unrealized foreign
currency translation gains
during year (84) 43 16
Reclassification adjustment for
realized currency loss on sale
of subsidiary included in
net earnings - 1 -
Unrealized gains (losses) on
investment securities:
Unrealized holding gains (losses)
arising during year 171 1,693 (314)
Reclassification adjustment for
realized (gains) losses included
in net earnings 3 4 (5)
-------- -------- --------
Total other comprehensive
income, before income taxes 90 1,741 (303)
Income tax expense (benefit)
related to items of other
comprehensive income 98 692 (117)
-------- -------- --------
Other comprehensive income,
net of income taxes (8) 1,049 (186)
-------- -------- --------
Total comprehensive income $ 479 $ 1,634 $ 208
======== ======== ========
See the accompanying Notes to the Consolidated Financial Statements.
EXH 13-37
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
DESCRIPTION OF BUSINESS: AFLAC Incorporated (the Parent Company) and
its subsidiaries (the Company) primarily sell supplemental health insurance
in Japan and the United States. The Company's insurance operations are
conducted through American Family Life Assurance Company of Columbus
(AFLAC), which operates in the United States (AFLAC U.S.) and as a branch in
Japan (AFLAC Japan). Most of our insurance policies are individually
underwritten and marketed through independent agents at the worksite, with
premiums paid by the employee. AFLAC Japan, which conducts its insurance
operations in Japanese yen, accounted for 80%, 79% and 82% of the Company's
total revenues for 1998, 1997 and 1996, respectively, and 86% and 87% of
total assets at December 31, 1998 and 1997, respectively.
BASIS OF PRESENTATION: We prepare our financial statements in
accordance with generally accepted accounting principles (GAAP). These
principles are established primarily by the Financial Accounting Standards
Board (FASB) and the American Institute of Certified Public Accountants.
The preparation of financial statements in conformity with GAAP requires us
to make estimates when recording transactions resulting from business
operations, based on information currently available. The most significant
items on our balance sheet that involve a greater extent of accounting
estimates and actuarial determinations subject to changes in the future are:
deferred policy acquisition costs, liabilities for future policy benefits
and unpaid policy claims, accrued liabilities for unfunded retirement plans
and contingent liabilities. As additional information becomes available (or
actual amounts are determinable), the recorded estimates may be revised and
reflected in operating results. Although some variability is inherent in
these estimates, we believe the amounts provided are adequate.
TRANSLATION OF FOREIGN CURRENCIES: The functional currency of AFLAC
Japan's insurance operations is the Japanese yen. We translate financial
statement accounts that are maintained in foreign currencies into U.S.
dollars as follows. Assets and liabilities denominated in foreign
currencies are translated at end-of-period exchange rates. Realized gains
and losses on security transactions are translated at the exchange rate on
the trade dates of the transactions. Other revenues, expenses and cash
flows are translated from foreign currencies into U.S. dollars using average
exchange rates for the year. The resulting currency translation adjustments
are reported in accumulated other comprehensive income. We include realized
currency exchange gains and losses resulting from foreign currency
transactions in earnings. Realized currency exchange gains and losses were
immaterial during the three-year period 1996 through 1998.
AFLAC Japan maintains an investment portfolio of dollar-denominated
securities on behalf of AFLAC U.S. The functional currency is the dollar
for these investments, the related investment income and realized/unrealized
investment gains and losses.
We have designated the yen-denominated notes payable (Note 7) held by
the Parent Company as a hedge of our net investment in AFLAC Japan.
Outstanding principal and related accrued interest payable on the yen-
denominated borrowings are translated into dollars at end-of-period exchange
rates. Currency translation adjustments are reported in accumulated other
comprehensive income.
EXH 13-38
INSURANCE REVENUE AND EXPENSE RECOGNITION: The supplemental health
insurance policies we issue are classified as long-duration contracts. The
contract provisions generally cannot be changed or canceled during the
contract period; however, we may adjust premiums for policies issued in the
United States within prescribed guidelines and with the approval of state
insurance regulatory authorities.
Insurance premiums for health policies are recognized as earned income
ratably over the terms of the policies. When revenues are recorded, the
related amounts of benefits and expenses are charged against such revenues,
so as to result in recognition of profits in proportion to premium revenues
during the period the policies are expected to remain in force. This
association is accomplished by means of annual additions to the liability
for future policy benefits and the deferral and subsequent amortization of
policy acquisition costs.
The calculation of deferred policy acquisition costs and the liability
for future policy benefits requires the use of estimates consistent with
sound actuarial valuation techniques. For new policy issues, we review our
actuarial assumptions and deferrable acquisition costs each year and revise
them when necessary to more closely reflect recent experience and studies of
actual acquisition costs. For policies in force, we evaluate deferred
policy acquisition costs to determine that they are recoverable from future
revenues and charge against earnings costs that are not recoverable.
CASH AND CASH EQUIVALENTS: Cash and cash equivalents include cash on
hand, money market instruments and other debt instruments with a maturity of
90 days or less when purchased.
INVESTMENTS: Our fixed-maturity securities and perpetual debentures
(debt securities) are classified as either held to maturity or available for
sale. Securities classified as held to maturity are securities that we have
the ability and intent to hold to maturity or redemption and are carried at
amortized cost. All other debt securities and our equity securities are
classified as available for sale and are carried at fair value. If the fair
value is higher than the amortized cost for debt securities or the purchase
cost for equity securities, the excess is an unrealized gain; and if lower
than cost, the difference is an unrealized loss.
In 1998, we reclassified certain debt securities from "available for
sale" to "held to maturity." The related unrealized gains and losses at the
date of transfer on these securities are being amortized over the remaining
term of the securities. These unamortized unrealized gains and losses, plus
the net unrealized gains and losses on securities available for sale, less
amounts applicable to policy liabilities and deferred income taxes, are
reported in accumulated other comprehensive income. The portion of
unrealized gains credited to policy liabilities represents gains that would
not inure to the benefit of shareholders if such gains were actually
realized. These amounts relate to policy reserve interest requirements and
reflect the difference between market investment yields and estimated
minimum required interest rates.
Amortized cost of debt securities is based on the purchase price
adjusted for accrual of discount or amortization of premium. The amortized
cost of debt securities purchased at a discount will equal the face or par
value at maturity. Debt securities purchased at a premium will have an
amortized cost equal to face or par value at the earlier of a call date or
maturity.
EXH 13-39
Interest is recorded as income when earned and is adjusted for
amortization of any premium or discount. Dividends on equity securities are
recorded as income on the ex-dividend dates.
For the collateralized mortgage obligations portion of the fixed-
maturity securities portfolio, we recognize income using a constant
effective yield based on anticipated prepayments and the estimated economic
life of the securities. When estimates of prepayments change, the effective
yield is recalculated to reflect actual payments to date and anticipated
future payments. The net investment in the securities is adjusted to the
amount that would have existed had the new effective yield been applied at
the time of acquisition. This adjustment is reflected in net investment
income.
We identify the cost of each individual investment so that when we sell
any of them, we are able to record the gain or loss on that transaction in
our Consolidated Statements of Earnings. Effective January 1, 1997, we
changed our method of determining the costs of investment securities sold
from the first-in, first-out (FIFO) method to the specific identification
method. This accounting change had no material effect on net earnings for
the years ended December 31, 1997 and 1998.
We continually monitor the difference between the cost and estimated
fair value of our investments. If any of our investments experience a
decline in value that is other than temporary, we establish a valuation
allowance for the decline and record a realized loss in the Consolidated
Statements of Earnings.
We loan fixed-maturity securities to financial institutions in short-
term security lending transactions. These securities continue to be carried
as investment assets on our balance sheet during the term of the loans and
are not recorded as sales. We receive other securities as collateral for
such loans. Beginning in 1998, the collateral was not recorded as either an
asset or liability on our balance sheet due to a required change in
accounting standards. In prior years, the collateral was carried as an
asset, and a liability was recorded for the return of the collateral.
DEFERRED POLICY ACQUISITION COSTS: The costs of acquiring new business
and converting existing policies are deferred and amortized, with interest,
over the premium payment periods in proportion to the ratio of annual
premium income to total anticipated premium income. Anticipated premium
income is estimated by using the same mortality and withdrawal assumptions
used in computing liabilities for future policy benefits. In this manner,
the related acquisition expenses are matched with revenues. Costs deferred
include first-year commissions in excess of renewal commissions and certain
direct and allocated policy issue, underwriting and marketing expenses, all
of which vary with and are primarily related to the production of new
business. Policy acquisition costs deferred were $436 million in 1998, $408
million in 1997 and $427 million in 1996. Of the policy acquisition costs
deferred, commissions represented 69% in 1998, 70% in 1997 and 67% in 1996.
INSURANCE LIABILITIES: The liabilities for future policy benefits are
computed by a net level premium method using estimated future investment
yields, withdrawals and recognized morbidity and mortality tables modified
to reflect our experience, with reasonable provision for possible future
adverse deviations in experience.
EXH 13-40
Unpaid policy claims are estimates computed on an undiscounted basis
using statistical analyses of historical claim experience adjusted for
current trends and changed conditions. The ultimate liability may vary
significantly from such estimates. We regularly adjust these estimates as
new experience data emerges and reflect the changes in operating results in
the year such adjustments are made.
INCOME TAXES: Different rules are used in computing the U.S. and
Japanese income tax expenses presented in the accompanying financial
statements from those used in preparing the Company's income tax returns.
Deferred income taxes are recognized for temporary differences between the
financial reporting basis and income tax basis of assets and liabilities,
based on enacted tax laws and statutory tax rates applicable to the periods
in which the temporary differences are expected to reverse.
DERIVATIVES: We have only limited activity with derivative financial
instruments. We do not use them for trading purposes nor do we engage in
leveraged derivative transactions. In addition, we do not use derivatives
to hedge the foreign-currency-denominated net assets of our foreign
insurance operations, except for short-term hedges of our annual profit
repatriations. We currently use two types of derivatives -- interest rate
swaps and foreign currency forward contracts.
We use the accrual method to account for the interest rate swaps in
connection with our bank borrowings. The difference between amounts paid
and received under such agreements is reported in interest expense in the
Consolidated Statements of Earnings. Changes in the fair value of the swap
agreements are not recognized in the financial statements. These swaps
reduce the impact of changes in interest rates on our borrowing costs and
effectively change our related interest exposure from variable to fixed.
We use short-term foreign currency forward contracts (usually five
months or less) in connection with annual profit transfers from AFLAC Japan.
These contracts are designated at inception as hedges of our investment in
AFLAC Japan and are accounted for using the deferral method. We record the
gains and losses during the period that the contracts are outstanding and at
termination of the contracts as unrealized foreign currency translation
gains in accumulated other comprehensive income.
EMPLOYEE STOCK OPTIONS: We use the intrinsic value method to value
employee stock options. Under this method, compensation cost is recognized
only for the excess, if any, of the market price of the stock at the grant
date over the amount an employee must pay upon exercise to acquire the
stock. Our stock option plan requires that the exercise price be equal to
100% of the fair market value at the date of grant; therefore, no
compensation expense is recognized.
TREASURY SHARES: We record treasury shares purchased at cost, which is
the market value at the time of the transaction, and as a reduction of
shareholders' equity. We use the weighted-average purchase cost to
determine the cost of treasury shares that are reissued. We record realized
gains or losses in additional paid-in capital when treasury shares are
reissued.
STOCK SPLIT: We paid a two-for-one stock split on June 8, 1998. All
share and per-share amounts in the accompanying financial statements have
been restated for this split.
EXH 13-41
EARNINGS PER SHARE: We are required to present two earnings per share
(EPS) calculations -- basic EPS and diluted EPS -- in the Consolidated
Statements of Earnings. Basic EPS is computed by dividing net earnings by
the weighted-average number of shares outstanding for the period. Diluted
EPS is computed by dividing net earnings by the weighted-average number of
shares outstanding for the period plus the shares representing the dilutive
effect of stock options and other common stock equivalents.
The components of the weighted-average shares used in the EPS
calculations are as follows:
(In thousands of shares) 1998 1997 1996
---------- ---------- ----------
Average outstanding shares used
for calculating basic EPS 266,305 272,110 280,352
Effect of stock options 9,567 9,486 8,570
---------- ---------- ----------
Average outstanding shares used
for calculating diluted EPS 275,872 281,596 288,922
========== ========== ==========
ACCOUNTING CHANGES ADOPTED: We adopted Statement of Financial
Accounting Standards (SFAS) No. 125, Accounting for Transfers and Servicing
of Financial Assets and Extinguishments of Liabilities, on January 1, 1997.
This Statement established criteria for determining whether transfers of
financial assets are sales or secured borrowings and established reporting
requirements for those transactions involving secured obligations and
collateral. Beginning in 1998, as required by this standard, we no longer
recognize securities held as collateral as an asset, nor the related
liability for the return of such collateral for security lending agreements
entered into after December 31, 1997. The adoption of SFAS No. 125 had no
effect on our net earnings or shareholders' equity.
As required, we adopted SFAS No. 131, Disclosures about Segments of an
Enterprise and Related Information, in 1998. This Statement requires that
companies disclose business segment data on the basis that is used
internally by management for evaluating segment performance and allocating
resources to segments. This Statement requires that a company report a
measure of segment profit or loss, certain specific revenue and expense
items, and segment assets. It also requires various reconciliations of
total segment information to amounts in the consolidated financial
statements. This information is presented in Note 2.
We also adopted SFAS No. 132, Employer's Disclosures about Pensions and
Other Postretirement Benefits, in 1998. This Statement revises disclosures
about pension and other postretirement benefit plans, but does not change
the measurement or financial statement recognition of these plans. This
information is presented in Note 11.
As required, we adopted SFAS No. 128, Earnings per Share, in 1997 as
described above in this Note under the caption, "Earnings Per Share."
ACCOUNTING PRONOUNCEMENTS NOT YET ADOPTED: SFAS No. 133, Accounting
for Derivative Instruments and Hedging Activities, was issued in June 1998.
This Statement establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in
EXH 13-42
investment securities and other contracts, and for hedging activities. It
requires that an entity recognize all derivatives as either assets or
liabilities in the balance sheet and measure those instruments at fair
value. The accounting for changes in the fair value of a derivative will be
included in either earnings or other comprehensive income depending on the
intended use of the derivative instrument. We are currently evaluating this
standard, which is effective January 1, 2000.
The Accounting Standards Executive Committee issued Statement of
Position (SOP) 97-3, Accounting by Insurance and Other Enterprises for
Insurance-Related Assessments, in December 1997. This SOP provides guidance
for determining when an entity should recognize a liability for guaranty
fund and other insurance-related assessments. It also provides guidance on
how to measure the liability. This SOP is effective for 1999. Our present
accounting method for guaranty fund and other insurance-related assessments
substantially conforms to the requirements of this SOP.
In March 1998, SOP 98-1, Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use, was issued. This SOP provides
guidance for determining whether costs of software developed or obtained for
internal use should be capitalized or expensed as incurred. In the past, we
have expensed all such costs when incurred. This SOP is effective beginning
in 1999.
RECLASSIFICATIONS: Certain prior-year amounts have been reclassified
to conform to the current year presentation.
(2) FOREIGN INFORMATION AND BUSINESS SEGMENT INFORMATION
The Company consists of three reportable business segments: AFLAC Japan
insurance; AFLAC U.S. insurance; and prior to April 15, 1997, AFLAC
Broadcast Division (the Company's television business in the United States).
We primarily sell supplemental health insurance through the AFLAC Japan and
AFLAC U.S. operations. Most of our policies are individually underwritten
and marketed through independent agents at the worksite, with premiums paid
by the employee. These operations also offer various life insurance
policies. We completed the sale of our television operations in early 1997,
as discussed in this Note.
Operating business segments that are not individually reportable are
included in the "All other" category, which includes minor insurance
operations in foreign countries other than Japan and our printing
subsidiary.
We evaluate our business segments based on GAAP pretax operating
earnings. We do not allocate corporate overhead expenses to business
segments.
EXH 13-43
Information regarding components of operations and lines of business
for the years ended December 31 follows:
(In millions) 1998 1997 1996
-------- -------- --------
Total revenues:
AFLAC Japan:
Earned premiums:
Cancer life $ 3,839 $ 4,011 $ 4,315
Other accident and health 413 336 318
Life insurance 486 456 319
Net investment income 917 893 896
Other income 2 1 1
------- ------- -------
Total AFLAC Japan revenues 5,657 5,697 5,849
------- ------- -------
AFLAC U.S.:
Earned premiums:
Cancer 489 456 429
Other accident and health 686 586 501
Life insurance 23 20 16
Net investment income 216 180 119
Other income 4 1 1
------- ------- -------
Total AFLAC U.S. revenues 1,418 1,243 1,066
------- ------- -------
Television operations - U.S. - 16 92
All other business segments 39 34 36
------- ------- -------
Total business segments 7,114 6,990 7,043
Realized investment
gains (losses) (2) (5) 2
Gain on sale of television
business - 267 60
Corporate 30 40 34
Intercompany eliminations (38) (41) (39)
------- ------- -------
Total $ 7,104 $ 7,251 $ 7,100
======= ======= =======
EXH 13-44
(In millions) 1998 1997 1996
-------- -------- --------
Earnings before income taxes:
AFLAC Japan $ 502 $ 504 $ 533
AFLAC U.S. 230 184 129
Television operations - U.S. - 4 26
All other business segments 2 (2) (8)
------- ------- -------
Total business segments 734 690 680
Provision for the Japanese mandated
policyholder protection fund (111) - -
Realized investment
gains (losses) (2) (5) 2
Gain on sale of television
business - 267 60
Interest expense, non-insurance
operations (10) (10) (13)
Corporate (60) (77) (79)
------- ------- -------
Total $ 551 $ 865 $ 650
======= ======= =======
Advertising expense:
AFLAC Japan $ 22 $ 24 $ 14
AFLAC U.S. 34 23 22
------- ------- -------
Total $ 56 $ 47 $ 36
======= ======= =======
Total assets at December 31 were as follows:
(In millions) 1998 1997
-------- --------
Total assets:
AFLAC Japan $ 26,912 $ 25,589
AFLAC U.S. 4,212 3,763
All other business segments 59 75
-------- --------
Total business segments 31,183 29,427
Corporate 4,674 4,249
Intercompany eliminations (4,674) (4,222)
-------- --------
Total $ 31,183 $ 29,454
======== ========
EXH 13-45
Total depreciation and amortization expense was $45 million in 1998,
$41 million in 1997 and $50 million in 1996. AFLAC Japan accounted for $33
million in 1998, $28 million in 1997 and $26 million in 1996.
Total expenditures for long-lived assets were $47 million in 1998, $11
million in 1997 and $18 million in 1996. The increase in 1998 primarily
relates to the construction of an administrative office building for AFLAC
U.S.
Receivables consisted primarily of monthly insurance premiums due from
individual policyholders or their employers for payroll deduction of
premiums. At December 31, 1998, $139 million, or 60.5% of total receivables
were related to AFLAC Japan's operations ($120 million at December 31,
1997).
SALE OF TELEVISION BUSINESS: In 1997, we completed the sale of our
television business, which consisted of seven network-affiliated television
stations. The total pretax gain from the sale of our television business
was $327 million. Cash sales proceeds received, after applicable selling
expenses, were $449 million. Total sales proceeds also included advertising
credits to be used by the Company over a five-year period with a fair value
of $6 million. We also received cash for various current assets and
liabilities.
The sale of one station closed on December 31, 1996. The pretax and
after-tax gains recognized on this sale in the fourth quarter of 1996 were
$60 million and $48 million, respectively. The after-tax gain was $.17 per
basic share and $.16 per diluted share in 1996. The sale of the remaining
six stations closed on April 15, 1997. The pretax and after-tax gains
recognized in the second quarter of 1997 were $267 million and $211 million,
respectively. The 1997 after-tax gain was $.77 per basic share and $.75 per
diluted share.
POLICYHOLDER PROTECTION FUND: During the first quarter of 1998, the
Japanese government enacted a mandatory policyholder protection fund system.
The life insurance industry is required to contribute $4.2 billion to this
fund over a 10-year period. The total charge for our share of the
contribution obligation was recognized in the first quarter of 1998 and
decreased pretax earnings by $111 million for the year ended December 31,
1998. The after-tax charge was $65 million, or $.24 per basic and diluted
share.
During the second quarter of 1997, Nissan Mutual Life Insurance
Company, a Japanese insurer, was declared insolvent. All life insurers
doing business in Japan had previously agreed to contribute to a voluntary
policyholder protection fund that would be used to help offset insurer
insolvencies. During the second quarter of 1997, AFLAC Japan recognized a
pretax charge of 3.0 billion yen ($25 million) for its obligation to this
policyholder protection fund. The after-tax charge was $14 million ($.05
per basic and diluted share). This assessment is payable semiannually over
10 years beginning in 1998.
EXH 13-46
YEN-TRANSLATION EFFECTS: AFLAC Japan owns U.S. dollar-denominated
securities, which we have designated as an economic currency hedge of a
portion of our investment in AFLAC Japan. In addition, we have designated
the Parent Company's yen-denominated bank borrowings (Note 7) as a hedge of
our net investment in AFLAC Japan. The dollar values of our yen-denominated
net assets subject to foreign currency translation fluctuations for
financial reporting purposes were as follows at December 31 (translated at
end-of-year exchange rates):
(In millions) 1998 1997
-------- --------
AFLAC Japan net assets $ 2,726 $ 2,541
Less:
AFLAC Japan dollar-denominated
net assets 1,805 1,555
Parent Company yen-denominated
net liabilities 579 498
------- -------
Total yen-denominated net assets
subject to foreign currency
translation fluctuations $ 342 $ 488
======= =======
The following table shows the yen/dollar exchange rates used for the
three-year period ended December 31, 1998, and their effect on selected
financial data.
1998 1997 1996
------ ------ ------
Balance Sheets:
Yen/dollar exchange rate at
December 31 115.70 130.10 116.10
Yen percent weakening (strengthening) (12.4)% 10.8% 11.3%
Exchange effect on total assets (billions) $ 2.8 $ (2.9) $ (2.6)
Exchange effect on total
liabilities (billions) $ 2.7 $ (2.8) $ (2.6)
Statements of Earnings:
Average exchange rate for the year 130.89 121.07 108.84
Yen percent weakening 7.5% 10.1% 13.5%
Exchange effect on net earnings (millions) $ (20) $ (24) $ (43)
Exchange effect on diluted EPS $ (.07) $ (.08) $ (.15)
OTHER: Payments are made from AFLAC Japan to the Parent Company for
management fees and to AFLAC U.S. for allocated expenses and remittances of
earnings. These payments totaled $192 million in 1998, $386 million in 1997
and $254 million in 1996. See Note 10 for information concerning
restrictions on remittances from AFLAC Japan.
EXH 13-47
(3) INVESTMENTS
During the fourth quarter of 1998, we revised our investment management
policy regarding the holding-period intent for certain of our private
placement debt securities. Our past practice was to hold these securities
to their contractual or economic maturity dates. We have now made this our
formal policy. Accordingly, debt securities carried at a fair value of $6.4
billion were reclassified as of October 1, 1998, from the category
"available for sale" to "held to maturity." The related unrealized gain of
$1.1 billion as of October 1, 1998, on these securities is being amortized
over the remaining term of the securities.
The amortized cost for debt securities, cost for equity securities and
the fair values of these investments at December 31 are shown in the
following tables:
December 31, 1998
--------------------------------------------
Cost or Gross Gross
Amortized Unrealized Unrealized Fair
(In millions) Cost Gains Losses Value
--------- ---------- ---------- ---------
Available for sale carried
at fair value:
Fixed-maturity securities:
Yen-denominated:
Government and guaranteed $ 6,018 $ 1,515 $ 17 $ 7,516
Municipalities 541 55 - 596
Public utilities 2,884 336 104 3,116
Banks/financial institutions 1,447 30 140 1,337
Other corporate 518 11 37 492
------- ------- ------- ------
Total yen-denominated 11,408 1,947 298 13,057
------- ------- ------- ------
U.S. dollar-denominated:
U.S. government 221 14 - 235
Municipalities 10 1 - 11
Mortgage-backed securities 95 4 - 99
Sovereign and Supranational 161 14 - 175
Banks/financial institutions 1,922 159 3 2,078
Other corporate 1,882 145 22 2,005
------- ------- ------- -------
Total dollar-denominated 4,291 337 25 4,603
------- ------- ------- -------
Total fixed-maturity
securities 15,699 2,284 323 17,660
------- ------- ------- -------
Perpetual debentures:
Yen-denominated:
Banks/financial institutions 1,216 1 98 1,119
Dollar-denominated:
Banks/financial institutions 198 6 - 204
------- ------- ------- -------
Total perpetual debentures 1,414 7 98 1,323
Equity securities 101 82 6 177
------- ------- ------- -------
Total securities
available for sale $ 17,214 $ 2,373 $ 427 $ 19,160
======= ======= ======= =======
EXH 13-48
December 31, 1998
--------------------------------------------
Cost or Gross Gross
Amortized Unrealized Unrealized Fair
(In millions) Cost Gains Losses Value
--------- ---------- ---------- ---------
Held to maturity, carried
at amortized cost:
Fixed-maturity securities:
Yen-denominated:
Government $ 769 $ - $ 51 $ 718
Municipalities 334 - 24 310
Public utilities 598 - 62 536
Banks/financial institutions 1,148 2 66 1,084
Other corporate 1,098 7 62 1,043
------- ------- ------- -------
Total fixed-maturity
securities 3,947 9 265 3,691
------- ------- ------- -------
Perpetual debentures:
Yen-denominated:
Banks/financial institutions 3,494 12 375 3,131
------- ------- ------- -------
Total perpetual debentures 3,494 12 375 3,131
------- ------- ------- -------
Total securities held
to maturity $ 7,441 $ 21 $ 640 $ 6,822
======= ======= ======= =======
EXH 13-49
December 31, 1997
-------------------------------------------
Cost or Gross Gross
Amortized Unrealized Unrealized Fair
(In millions) Cost Gains Losses Value
--------- ---------- ---------- ---------
Available for sale carried
at fair value:
Fixed-maturity securities:
Yen-denominated:
Government and guaranteed $ 6,031 $ 1,696 $ 3 $ 7,724
Municipalities 759 124 - 883
Public utilities 2,538 469 - 3,007
Banks/financial institutions 1,941 248 5 2,184
Other corporate 962 146 - 1,108
------- ------- ------- ------
Total yen-denominated 12,231 2,683 8 14,906
------- ------- ------- ------
U.S. dollar-denominated:
U.S. government 314 16 - 330
Municipalities 13 1 - 14
Mortgage-backed securities 312 11 - 323
Sovereign and Supranational 150 11 - 161
Banks/financial institutions 1,505 115 - 1,620
Other corporate 1,548 112 7 1,653
------- ------- ------- -------
Total dollar-denominated 3,842 266 7 4,101
------- ------- ------- -------
Total fixed-maturity
securities 16,073 2,949 15 19,007
------- ------- ------- -------
Perpetual debentures:
Yen-denominated:
Banks/financial institutions 2,911 376 1 3,286
Dollar-denominated:
Banks/financial institutions 137 8 - 145
------- ------- ------- -------
Total perpetual debentures 3,048 384 1 3,431
Equity securities 80 68 2 146
------- ------- ------- -------
Total securities
available for sale $ 19,201 $ 3,401 $ 18 $ 22,584
======= ======= ======= =======
Fair values for debt securities were provided by outside securities
consultants using market quotations, prices provided by market makers or
estimates of fair values obtained from yield data relating to investment
securities with similar characteristics. The fair values for equity
securities were determined using market quotations on the principal public
exchange markets.
EXH 13-50
The amortized cost and fair values of our investments in fixed-maturity
securities at December 31, 1998, by contractual maturity are shown below:
(In millions) AFLAC Japan AFLAC U.S.
-------------------- ---------------------
Amortized Fair Amortized Fair
Cost Value Cost Value
--------- --------- --------- ---------
Available for sale:
Due in one year or less $ 197 $ 202 $ 63 $ 63
Due after one year through
five years 2,265 2,578 221 234
Due after five years through
10 years 1,532 1,761 238 256
Due after 10 years 8,824 10,043 2,264 2,424
U.S. mortgage-backed
securities 69 73 26 26
--------- --------- --------- ---------
Total fixed-maturity
securities available
for sale $ 12,887 $ 14,657 $ 2,812 $ 3,003
========= ========= ========= =========
Held to maturity:
Due in one year or less $ 23 $ 23 - -
Due after one year through
five years 417 413 - -
Due after five years through
10 years 399 385 - -
Due after 10 years 3,108 2,870 - -
--------- --------- --------- ---------
Total fixed-maturity
securities held
to maturity $ 3,947 $ 3,691 $ - $ -
========= ========= ========= =========
Expected maturities may differ from contractual maturities because some
issuers have the right to call or prepay obligations with or without call or
prepayment penalties.
EXH 13-51
In recent years, AFLAC Japan has purchased subordinated perpetual
debenture securities issued primarily by European and Japanese banks. These
securities are subordinated to other debt obligations of the issuer, but
rank higher than equity securities. Although these securities have no
contractual maturity, the issue-date fixed-rate interest coupons
subsequently increase to a market-interest rate plus 150 to 300 basis points
and change to a variable-interest rate basis, generally by the 25th year
after issuance, creating an economic maturity date. The economic maturities
of the perpetual debentures owned at December 31, 1998, were as follows:
AFLAC Japan AFLAC U.S.
(In millions) ---------------------- ----------------------
Amortized Fair Amortized Fair
Cost Value Cost Value
--------- --------- --------- ---------
Available for sale:
Due after five years
through 10 years $ 160 $ 162 $ 70 $ 73
Due after 15 years 1,184 1,088 - -
-------- -------- -------- --------
Total perpetual
debentures available
for sale $ 1,344 $ 1,250 $ 70 $ 73
======== ======== ======== ========
Held to maturity:
Due after one year
through five years $ 160 $ 155 $ - $ -
Due after five years
through 10 years 578 548 - -
Due after 10 years
through 15 years 1,117 1,033 - -
Due after 15 years 1,639 1,395 - -
-------- -------- -------- --------
Total perpetual
debentures held
to maturity $ 3,494 $ 3,131 $ - $ -
======== ======== ======== ========
For AFLAC Japan, the duration of policy benefit liabilities is longer
than that of the related investment assets. Therefore, there is a risk that
the reinvestment of the proceeds at the maturity of such investments will be
at a yield below that of the interest required for the accretion of policy
liabilities. At December 31, 1998, the average duration of the yen-
denominated policy liabilities was approximately 13 years, unchanged from
1997. The average duration of the yen-denominated debt securities was
approximately nine years at both December 31, 1998 and 1997. The weighted-
average period to maturity of debt securities of AFLAC Japan at December 31,
1998, was 13.9 years, compared with 13.5 years at December 31, 1997.
EXH 13-52
Realized and unrealized gains and losses from investments for the years
ended December 31 were as follows:
(In millions) 1998 1997 1996
-------- -------- --------
Realized gains (losses) on sale
or redemption of securities
available for sale:
Debt securities:
Gross gains from sales $ 16 $ 24 $ 21
Gross losses from sales (35) (32) (17)
Net gains from redemptions 1 - -
------ ------ ------
(18) (8) 4
Equity securities:
Gross gains from sales 20 16 2
Gross losses from sales (5) (12) (1)
Other long-term assets, net 1 (1) (3)
------ ------ ------
Net realized gains (losses) $ (2) $ (5) $ 2
====== ====== ======
Changes in unrealized gains (losses):
Debt securities:
Available for sale $(1,447) $ 930 $ (184)
Unamortized unrealized gains
on securities transferred
to held to maturity 1,224 - -
Equity securities 10 16 23
------ ------ ------
Net unrealized gains (losses) $ (213) $ 946 $ (161)
====== ====== ======
The net effect on shareholders' equity of unrealized gains and losses
from investment securities at December 31 was:
(In millions) 1998 1997
-------- --------
Unrealized gains on securities available
for sale $ 1,946 $ 3,383
Unamortized unrealized gains on securities
transferred to held to maturity 1,224 -
Less:
Policy liabilities 885 1,272
Deferred income taxes 953 826
-------- --------
Shareholders' equity, net unrealized gains
on investment securities $ 1,332 $ 1,285
======== ========
EXH 13-53
The following debt securities individually exceeded 10% of
shareholders' equity at December 31:
1998 1997
------------------- -------------------
Amortized Fair Amortized Fair
(In millions) Cost Value Cost Value
------------------- -------------------
Japan National Government $ 5,675 $ 7,157 $ 5,178 $ 6,715
The Tokyo Electric Power Co., Inc. 811 927 742 885
Chubu Electric Power Co., Inc. 698 714 444 518
Dai-Ichi Kangyo Bank 454 420 * *
Sumitomo Bank 404 348 * *
Credit Suisse First Boston 393 394 * *
* Less than 10%
AFLAC Japan's investments in Japanese government bonds (at amortized
cost) constituted 23.9% and 28.3% of total debt securities at December 31,
1998 and 1997, respectively. Private placement investments held by AFLAC
Japan at amortized cost accounted for 41.2% and 34.2% of total debt
securities at December 31, 1998 and 1997, respectively. Most of the
securities classified as held to maturity and perpetual debentures
classified as available for sale constitute private placement investments.
In January 1999, the credit ratings of several major Japanese financial
institutions were downgraded. We owned debt securities issued by a Japanese
bank in the amount of $454 million, 1.8% of total debt securities at
December 31, 1998. Following the downgrade, these securities were rated
"Ba1" by Moody's and "BB+" by Standard & Poor's.
The components of net investment income for the years ended December 31
were as follows:
(In millions) 1998 1997 1996
-------- -------- --------
Fixed-maturity securities $ 985 $ 942 $ 918
Perpetual debentures 158 134 109
Equity securities 2 2 2
Mortgage loans and other 1 2 2
Short-term investments and
cash equivalents 8 15 9
------- ------- -------
Gross investment income 1,154 1,095 1,040
Less investment expenses 16 17 18
------- ------- -------
Net investment income $ 1,138 $ 1,078 $ 1,022
======= ======= =======
At December 31, 1998, debt securities with a fair value of $12 million
were on deposit with regulatory authorities. As of December 31, 1998, $54
million, at fair value, of AFLAC Japan's investment securities had been
pledged to the Japan policyholder protection fund. The Company retains
ownership of all securities on deposit and receives the related investment
income.
EXH 13-54
(4) FINANCIAL INSTRUMENTS
NONDERIVATIVES: The carrying amounts for cash and cash equivalents,
receivables, accrued investment income, accounts payable and payables for
security transactions approximated their fair values due to the short-term
nature of these instruments. Consequently, such instruments are not
included in the table presented in this note.
The methods of determining the fair values of our investments in debt
and equity securities are described in Note 3. The fair values for mortgage
loans and notes payable with fixed interest rates were estimated using
discounted cash flow analyses based on current rates for similar loans and
borrowings.
We use short-term security lending arrangements in AFLAC Japan to
increase investment income with minimal risk. At December 31, 1998 and
1997, AFLAC Japan had security loans outstanding of $3.0 billion at fair
value. At December 31, 1998 and 1997, we held Japanese government bonds as
collateral for these loaned securities. Prior to 1998, securities received
as collateral for such loans were reported separately in assets, at fair
value, with a corresponding liability of the same amount for the return of
such collateral at termination of the loans. Beginning in 1998, such
collateral assets and the related liability are no longer included on the
balance sheet under the accounting provisions of SFAS No. 125 (Note 1). The
Company's security lending policy requires that the fair value of the
securities received as collateral be 105% or more of the fair value of the
loaned securities as of the date the securities are loaned and not less than
100% thereafter.
DERIVATIVES: We have only limited activity with derivative financial
instruments and do not use them for trading purposes nor engage in leveraged
derivative transactions. In addition, we do not use derivatives to hedge
the foreign-currency-denominated net assets of our foreign insurance
operations, except for short-term hedges of annual profit repatriations
(none were outstanding at December 31, 1998 or 1997). See Note 1 for a
description of our accounting policies for derivative financial instruments.
See Note 2 for additional information on our yen-denominated net assets.
We have outstanding interest rate swaps on 49.6 billion yen ($428
million) of our variable-interest-rate yen-denominated borrowings (Note 7).
These swaps reduce the impact of changes in interest rates on our borrowing
costs and effectively change our interest rate from variable to fixed. The
interest rate swaps have notional principal amounts that equal the
anticipated unpaid principal amounts on a portion of these loans. Under
these agreements, the Company makes fixed-rate payments at 2.29% on one loan
and 1.24% on another loan and receives floating-rate payments (.75% at
December 31, 1998, plus loan costs of 25 or 20 basis points, respectively)
based on the three-month Tokyo Interbank Offered Rate.
EXH 13-55
The fair value of interest rate swaps is the estimated amount that we
would receive or pay to terminate the swap agreements at the reporting date.
We are exposed to nominal credit risk in the event of nonperformance by
counterparties to these interest rate swap agreements. The counterparties
are primarily Japanese banks with the following credit ratings as of
December 31, 1998.
Counterparty Notional Amount
Credit Rating (In millions)
------------------- ---------------------
AA $ 39
A 106
BBB 283
--------
Total $ 428
========
The carrying values and estimated fair values of the Company's
financial instruments as of December 31 were as follows:
1998 1997
------------------------ -----------------------
Carrying Fair Carrying Fair
(In millions) Amount Value Amount Value
------------------------ -----------------------
Assets:
Fixed-maturity
securities $ 21,607 $ 21,351 $ 19,007 $ 19,007
Perpetual debentures 4,817 4,454 3,431 3,431
Equity securities 177 177 146 146
Mortgage loans 6 8 14 17
Policy loans 1 1 1 1
Securities held as
collateral for
loaned securities * 3,101 3,034 3,034
Liabilities:
Notes payable (excluding
capitalized leases) 578 578 505 505
Derivatives - interest
rate swaps * 7 * 8
Payables for return of
collateral on loaned
securities * 3,101 3,034 3,034
* Off-balance sheet financial instrument
EXH 13-56
(5) PROPERTY AND EQUIPMENT
Property and equipment consisted of the following at December 31:
(In millions) 1998 1997
------ ------
Land $ 131 $ 111
Buildings 335 290
Equipment 159 147
----- -----
625 548
Less accumulated depreciation 198 162
----- -----
Net property and equipment $ 427 $ 386
===== =====
EXH 13-57
6) POLICY LIABILITIES
The liability for future policy benefits at December 31 consisted of
the following:
(In millions) Liability Amounts Interest Rates
------------------- -------------------
Policy Year
Issue of In 20
Year 1998 1997 Issue Years
------ -------- -------- -------- ---------
Health insurance:
Japan: 1997-98 $ 409 $ 97 3.5% 3.5%
1995-96 111 67 4.0 4.0
1994-96 1,763 1,226 4.5 4.5
1990-94 9,392 7,595 5.5 5.5
1988-91 711 597 5.25 5.25
1987-88 1,238 1,043 5.5 5.5
1985-86 1,051 893 6.75 5.5
1978-84 2,757 2,391 6.5 5.5
1974-79 698 616 7.0 5.0
U.S.: 1988-98 705 590 8.0 6.0
1986-98 542 489 6.0 6.0
1985-86 26 26 6.5 6.5
1981-86 258 261 7.0 5.5
Other 156 158
Other foreign: - 41
Life insurance:
Japan: 1997-98 114 28 3.5 3.5
1994-96 373 215 4.0 4.0
1988-93 652 489 5.25 5.25
1987-88 136 104 5.5 5.5
1985-87 210 172 5.65 5.65
U.S.: 1956-98 31 29 4.0-6.0 4.0-6.0
Adjustment for
unrealized gains on
investments (Note 3) 885 1,272
------ ------
Total $22,218 $18,399
====== ======
EXH 13-58
The weighted-average interest rates reflected in the Consolidated
Statements of Earnings for future policy benefits for Japanese policies were
5.4% in 1998, and 5.5% in both 1997 and 1996; and for U.S. policies, 6.4%
for each year in the three-year period ended December 31, 1998.
Changes in the liability for unpaid policy claims are summarized as
follows for the years ended December 31:
(In millions) 1998 1997 1996
-------- -------- --------
Unpaid supplemental health claims -
beginning of year $ 987 $ 1,025 $ 1,011
------- ------- -------
Add claims incurred during the year
related to:
Current year 2,460 2,346 2,366
Prior years (136) (159) (156)
------- ------- -------
Total incurred 2,324 2,187 2,210
------- ------- -------
Less claims paid during the year:
On claims incurred during
current year 1,579 1,507 1,471
On claims incurred during
prior years 617 626 617
------- ------- -------
Total paid 2,196 2,133 2,088
------- ------- -------
Effect of foreign exchange rate
changes on unpaid claims 107 (92) (108)
------- ------- -------
Unpaid supplemental health claims -
end of year 1,222 987 1,025
Unpaid life claims - end of year 41 24 14
------- ------- -------
Total liability for
unpaid policy claims $ 1,263 $ 1,011 $ 1,039
======= ======= =======
Amounts shown for prior-year claims incurred during the year primarily
result from actual claim settlements at less than the original estimates.
EXH 13-59
(7) NOTES PAYABLE
A summary of notes payable at December 31 follows:
(In millions) 1998 1997
-------- --------
Unsecured, yen-denominated notes payable to banks:
Reducing, revolving credit agreement, due
annually through July 2001:
2.29% fixed interest rate $ 294 $ 349
Variable interest rate (.95% at
December 31, 1998) 35 -
Revolving credit agreement due November 2002:
1.24% fixed interest rate 134 149
Variable interest rate (.90% at
December 31, 1998) 115 -
Obligations under capitalized leases, due
monthly through 2003, secured by computer
equipment in Japan 18 18
Other - 7
------- -------
Total notes payable $ 596 $ 523
======= =======
The Company has a reducing, revolving credit agreement that provides
for bank borrowings through July 2001 in either U.S. dollars or Japanese
yen. The current borrowing limit is $325 million. Under the terms of the
agreement, the borrowing limit will reduce to $250 million on July 15, 1999,
and $125 million on July 15, 2000. At December 31, 1998, 34.1 billion yen
($294 million) was outstanding at a fixed interest rate and 4.0 billion yen
($35 million) was outstanding at a variable interest rate under this
agreement.
We also have an unsecured revolving credit agreement that provides for
bank borrowings through November 2002 with a borrowing limit of $250
million, payable in either Japanese yen or U.S. dollars. At December 31,
1998, 15.5 billion yen ($134 million) was outstanding at a fixed interest
rate and 13.3 billion yen ($115 million) was outstanding at a variable
interest rate under this agreement.
The principal amount of the loans at any date will fluctuate due to
changes in the yen-to-dollar foreign currency exchange rate.
Since most of these loans are with Japanese banks, we also incur the
premium that Japanese banks are charged for short-term money, commonly
referred to as the "Japan premium." Interest rate swaps related to the
2.29% and 1.24% (fixed rates after swaps) loans are described in Note 4.
The aggregate contractual maturities of notes payable during each of
the years after December 31, 1998, are: 1999, $86 million; 2000, $130
million; 2001, $128 million; and 2002, $252 million.
We were in compliance with all of the covenants of the credit
agreements at December 31, 1998.
EXH 13-60
(8) INCOME TAXES
The income tax effects of the temporary differences that give rise to
deferred income tax assets and liabilities as of December 31 were as
follows:
(In millions) 1998 1997
-------- --------
Deferred income tax liabilities:
Deferred acquisition costs $ 1,023 $ 975
Unrealized gains on investment securities 461 1,332
Other basis differences in investment securities 792 -
Difference in tax basis of investment in AFLAC Japan - 86
Premiums receivable 67 73
------ ------
Total deferred income tax liabilities 2,343 2,466
------ ------
Deferred income tax assets:
Other basis differences in investment securities - 153
Difference in tax basis of investment in AFLAC Japan 61 -
Foreign tax credit carryforwards - 64
Policy benefit reserves 440 498
Policyholder protection fund 49 18
Unfunded retirement benefits 71 72
Other accrued expenses 33 63
Other 223 119
------ ------
Total gross deferred tax assets 877 987
Less valuation allowance 79 123
------ ------
Total deferred income tax assets 798 864
------ ------
Net deferred income tax liability 1,545 1,602
Current income tax liability 320 225
------ ------
Total income tax liability $ 1,865 $ 1,827
====== ======
A valuation allowance is provided when it is more likely than not that
deferred tax assets will not be realized. We have established valuation
allowances primarily for foreign tax credit and non-insurance loss
carryforwards that exceed projected future offsets. Only 35% of non-
insurance losses can be offset against life insurance taxable income each
year. During 1998, the valuation allowance for deferred tax assets
decreased by $44 million (decreased by $40 million in 1997) due to changes
in carryforwards of foreign tax credits and non-insurance losses for U.S.
federal income tax purposes. No foreign tax credit carryforwards remained
at December 31, 1998. Alternative minimum tax credit carryforwards of
approximately $10 million are available at December 31, 1998.
EXH 13-61
The components of income tax expense (benefit) applicable to pretax
earnings for the years ended December 31 were as follows:
(In millions) Japan U.S. Total
------- ------- -------
1998:
Current $ 252 $ 25 $ 277
Deferred - operations (88) (4) (92)
Deferred tax benefit from
Japanese tax rate reduction (121) - (121)
------- ------- -------
Total $ 43 $ 21 $ 64
======= ======= =======
1997:
Current $ 203 $ 89 $ 292
Deferred - operations (6) (6) (12)
------- ------- -------
Total $ 197 $ 83 $ 280
======= ======= =======
1996:
Current $ 207 $ 33 $ 240
Deferred - operations 14 2 16
------- ------- -------
Total $ 221 $ 35 $ 256
======= ======= =======
Income tax expense in the accompanying consolidated financial
statements varies from the amount computed by applying the expected U.S. tax
rate of 35% to pretax earnings. The principal reasons for the differences
and the related tax effects for the years ended December 31 are summarized
as follows:
(In millions) 1998 1997 1996
-------- -------- --------
Income taxes based on U.S.
statutory rates $ 193 $ 303 $ 228
Deferred tax benefit from Japanese
tax rate reduction (121) - -
U.S. alternative minimum tax 12 50 26
Utilization of foreign tax credits (47) (91) (11)
Non-insurance losses generating
no current tax benefit 9 - 12
Other, net 18 18 1
------ ------ ------
Income tax expense $ 64 $ 280 $ 256
====== ====== ======
EXH 13-62
Income taxes are recorded in the Statements of Earnings and directly in
certain shareholders' equity accounts. Income tax expense (benefit) for the
years ended December 31 was allocated as follows:
(In millions) 1998 1997 1996
-------- -------- --------
Statements of Earnings $ 64 $ 280 $ 256
------ ------ ------
Other comprehensive income:
Change in unrealized foreign currency
translation gains on AFLAC Japan's
dollar-denominated securities (29) - -
Unrealized gains on investment securities:
Unrealized holding gains (losses)
arising during the year 129 688 (113)
Reclassification adjustment
for realized (gains) losses
included in net earnings (2) 4 (4)
------ ------ ------
Total income taxes allocated to
other comprehensive income 98 692 (117)
------ ------ ------
Additional paid-in capital(exercise
of stock options) (1) (1) -
------ ------ ------
Total income taxes $ 161 $ 971 $ 139
====== ====== ======
Effective January 1, 1998, the Japanese government changed the income
tax provisions for foreign companies operating in Japan, increasing income
taxes on investment income and realized gains/losses from securities issued
by entities located in their home country. This change increases Japanese
income taxes on the income from most of AFLAC Japan's dollar-denominated
securities. In addition, in March 1998, the Japanese government enacted a
reduction in the Japanese corporate income tax rate. The statutory rate for
AFLAC Japan declined from 45.3% to 41.7% beginning May 1, 1998. The net
effect of these two Japanese tax changes increased income tax expense on
consolidated operating earnings by approximately $10 million for the year
ended December 31, 1998 (an increase of approximately $22 million from
increased taxes on AFLAC Japan's dollar-denominated investment income, less
approximately $12 million from the benefit of the statutory tax rate
reduction).
The Japanese tax rate reduction also increased 1998 net earnings by
$121 million ($.46 per basic share, $.44 per diluted share) from the
reduction of AFLAC Japan's deferred tax liability as of March 31, 1998, the
date of enactment of the reduced tax rate. The deferred tax reduction
represented the effect of recalculating Japanese deferred income taxes at
the new 41.7% rate on the temporary differences between the financial
reporting basis and the Japanese income tax basis of AFLAC Japan's assets
and liabilities.
The Japanese income tax change in 1998, relating to the income on AFLAC
Japan's dollar-denominated securities issued by U.S. entities, also impacted
income tax expense for the two other-comprehensive-income components for the
year ended December 31, 1998. Deferred income tax
EXH 13-63
expense on unrealized gains (losses) for 1998 on debt securities includes
$76 million for AFLAC Japan's dollar-denominated securities, of which $59
million related to accumulated unrealized gains existing as of January 1,
1998, the effective date of the tax law change. The deferred income tax
benefits of $29 million on changes in unrealized foreign currency
translation gains for 1998 represents Japanese income taxes on currency
translation gains that arise for Japanese tax purposes from conversion of
AFLAC Japan's dollar-denominated investments into yen. This tax benefit is
net of a deferred income tax expense of $51 million on accumulated currency
translation gains existing as of January 1, 1998.
In late 1998, the Japanese government proposed a further reduction in
the Japanese income tax rate. The proposal would reduce AFLAC Japan's
income tax rate from 41.7% to 36.2% effective April 1, 1999. The proposal
is expected to be finalized in early 1999. Such tax rate reduction is not
expected to reduce AFLAC's future consolidated income tax expense. Instead,
it will largely result in a shift of income tax expense from Japan to the
United States as a result of the U.S. foreign tax credit provisions.
(9) SHAREHOLDERS' EQUITY
On May 4, 1998, the board of directors declared a two-for-one stock
split. This split was payable to shareholders of record as of May 22, 1998,
and the additional shares were issued on June 8, 1998. All share and per-
share amounts in the accompanying financial statements have been restated
for this split.
The following is a reconciliation of the number of shares of the
Company's common stock for the years ended December 31:
(In thousands of shares) 1998 1997 1996
-------- -------- --------
Common stock - issued:
Balance at beginning of year 316,380 314,478 312,716
Exercise of stock options 1,591 1,902 1,762
-------- -------- --------
Balance at end of year 317,971 316,380 314,478
-------- -------- --------
Treasury stock:
Balance at beginning of year 49,944 38,708 28,767
Purchases of treasury stock:
Open market 3,806 12,737 11,849
Received from employees for
taxes on stock option exercises 212 390 280
Shares issued to sales associates
stock bonus plan and dividend
reinvestment plan (1,218) (1,526) (1,874)
Exercise of stock options (457) (365) (314)
-------- -------- --------
Balance at end of year 52,287 49,944 38,708
-------- -------- --------
Shares outstanding at end of year 265,684 266,436 275,770
======== ======== ========
EXH 13-64
SHARE REPURCHASE PROGRAM: Since the inception of the share repurchase
program in February 1994, we have purchased 57.4 million shares.
Approximately 7.4 million shares are still available for purchase under
current authorizations.
STOCK OPTIONS: The Company's stock option plan allows grants for both
incentive stock options (ISO) and non-qualifying stock options (NQSO) to
employees and NQSO to members of the board of directors. The option period
runs for a maximum of 10 years. The exercise price must be equal to 100% of
the fair market value at the date of grant; therefore, no compensation
expense is recognized. The options are exercisable immediately unless they
are placed under a vesting schedule that is determined by the compensation
committee of the board of directors at the time of the grant. At December
31, 1998, 10.6 million shares were available for future grants.
The following table summarizes stock option activity:
Weighted-Average
Option Exercise Price
(In thousands of shares) Shares per Share
---------- ----------------
Outstanding at December 31, 1995 16,403 $ 7.31
Granted 3,660 16.40
Canceled (128) 12.60
Exercised (2,333) 5.28
-------
Outstanding at December 31, 1996 17,602 9.43
Granted 1,451 26.73
Canceled (40) 15.44
Exercised (2,542) 5.78
-------
Outstanding at December 31, 1997 16,471 11.50
Granted 1,953 30.18
Canceled (31) 23.74
Exercised (2,148) 6.92
-------
Outstanding at December 31, 1998 16,245 $ 14.33
=======
(In thousands of shares) 1998 1997 1996
---------- ---------- ----------
Shares exercisable at
end of year 12,946 13,256 13,551
======= ======= =======
EXH 13-65
The following table summarizes information about stock options
outstanding at December 31, 1998:
(In thousands Options Outstanding Options Exercisable
of shares) ----------------------------------- ----------------------
Weighted-
Average Weighted- Weighted-
Remaining Average Average
Range of Number Contractual Exercise Number Exercise
Exercise Prices Outstanding Life (Yrs) Price Exercisable Price
- --------------- ----------- ------------ ---------- ----------- ----------
$ 1.87 - $ 3.67 912 1.3 $ 2.21 912 $ 2.21
3.73 - 8.07 1,823 2.1 5.34 1,823 5.34
9.42 5,188 4.5 9.42 5,188 9.42
9.60 - 14.10 1,518 5.9 12.57 1,512 12.56
15.83 2,586 7.1 15.83 1,691 15.83
16.97 - 27.69 2,280 8.3 23.54 1,532 23.53
30.09 - 38.00 1,938 9.5 30.18 288 30.12
------ ------
$ 1.87 - $38.00 16,245 5.7 $ 14.33 12,946 $ 11.67
====== ======
As permitted by SFAS No. 123, we do not recognize compensation cost in
the Consolidated Statements of Earnings for employee stock options. Had
compensation cost for stock options granted after 1994 been determined using
the fair-value-based method, as described in SFAS No. 123, the effect on our
net earnings and net earnings per share would approximate the following pro
forma amounts:
1998 1997 1996
-------- -------- --------
Decrease to:
Net earnings (in millions) $ 13 $ 12 $ 8
Net earnings per share - basic .05 .04 .03
Net earnings per share - diluted .05 .04 .03
The fair value of each option granted after 1994 was estimated on the
date of grant using the Black-Scholes multiple option approach with the
following assumptions for options granted during the three-year period ended
December 31, 1998:
1998 1997 1996
--------- --------- ---------
Expected life from vesting
date (years) 3.5-4.4 3.4-6.1 3.7-6.1
Dividend yield .6% 1.0% 1.0%
Expected volatility 27.3% 20.2% 19.3%
Risk-free interest rate 5.5% 6.0% 7.0%
EXH 13-66
The pro forma information presented above is not indicative of future
amounts. The provisions of SFAS No. 123 were applicable prospectively, and
the above pro forma disclosures therefore do not include amortization of the
fair value of awards prior to 1995. Also, we expect that additional options
will be granted in future years.
VOTING RIGHTS: In accordance with the Parent Company's Articles of
Incorporation, shares of common stock are generally entitled to one vote per
share until they have been held by the same beneficial owner for a
continuous period of 48 months, at which time they become entitled to 10
votes per share.
(10) STATUTORY ACCOUNTING AND DIVIDEND RESTRICTIONS
Net assets of the insurance subsidiaries aggregated $4.6 billion at
December 31, 1998, on a GAAP basis. AFLAC Japan accounted for $2.7 billion,
or 59.4%, of these net assets.
Our insurance subsidiaries are required to report their results of
operations and financial position to state insurance regulatory authorities,
and in the case of AFLAC Japan, to the Japanese Financial Supervisory
Agency, on the basis of statutory accounting practices prescribed or
permitted by such authorities. As determined on a U.S. statutory accounting
basis, AFLAC's net income was $231 million in 1998, $335 million in 1997 and
$257 million in 1996, and capital and surplus was $1.6 billion and $1.8
billion at December 31, 1998 and 1997, respectively.
Reconciliations of AFLAC's net assets on a GAAP basis to net assets
determined on a U.S. statutory accounting basis as of December 31 were as
follows:
(In millions) 1998 1997
-------- --------
Net assets on GAAP basis $ 4,591 $ 4,175
Adjustment of debt securities from fair value
to amortized cost (3,094) (3,316)
Elimination of deferred policy acquisition costs (3,059) (2,577)
Adjustment to policy liabilities 1,788 2,111
Elimination of deferred income taxes 1,578 1,642
Reduction in premiums receivable (77) (84)
Establishment of asset valuation reserve (147) (117)
Elimination of statutory non-admitted assets (110) (84)
Difference in foreign currency translation adjustment (73) 68
Difference in accrued expenses 139 24
Other, net 112 (71)
------- -------
Net assets on U.S. statutory
accounting basis $ 1,648 $ 1,771
======= =======
The Parent Company depends on its subsidiaries for cash flow, primarily
in the form of dividends and management fees. Consolidated retained
earnings in the accompanying financial statements largely represent
undistributed earnings of the insurance subsidiaries. Dividends, management
fees (see Note 2) and other payments to the Parent Company by its insurance
EXH 13-67
subsidiary are subject to various regulatory restrictions and approvals
related to safeguarding the interests of insurance policyholders. One of
the primary considerations is that the insurance subsidiary must maintain
adequate risk-based capital. Also, the maximum amount of dividends that can
be paid to shareholders by insurance companies domiciled in the State of
Georgia without prior approval of the Commissioner of Insurance is the
greater of the net gain from operations for the previous year determined
under statutory accounting principles or 10% of statutory equity as of the
previous year-end. Dividend payments by AFLAC during 1999 in excess of $213
million would require such approval. Dividends paid by AFLAC during 1998
were $172 million.
A portion of AFLAC Japan annual earnings, as determined on a Japanese
statutory accounting basis, can be remitted each year to AFLAC U.S. after
complying with risk-based capital provisions and satisfying various
conditions imposed by Japanese regulatory authorities for protecting
policyholders. Profit remittances to the United States can fluctuate due to
changes in the amounts of Japanese regulatory earnings. Among other items,
factors affecting regulatory earnings include Japanese regulatory accounting
practices and fluctuations in currency translations of AFLAC Japan's U.S.
dollar-denominated investments into yen. Earnings were remitted from AFLAC
Japan to AFLAC U.S. in the amount of $154 million in 1998, $347 million in
1997 and $217 million in 1996.
Net assets (unaudited) of AFLAC Japan, based on Japanese statutory
accounting practices, aggregated $397 million and $400 million at December
31, 1998 and 1997, respectively. Japanese statutory accounting practices
differ in many respects from U.S. GAAP. Under Japanese statutory accounting
practices, policy acquisition costs are charged off immediately, policy
benefit and claim reserving methods are different, deferred income tax
liabilities are not recognized, and investment securities are carried at
cost less certain market value adjustments.
EXH 13-68
(11) BENEFIT PLANS
Reconciliations of the funded status of the basic employee defined
benefit pension plans with amounts recognized in the accompanying
consolidated balance sheets as of December 31 were as follows:
1998 1997
---------------- ----------------
(In thousands) Japan U.S. Japan U.S.
------- ------- ------- -------
Projected benefit obligation:
Benefit obligation at
beginning of year $25,627 $50,465 $24,651 $45,492
Service cost 2,188 2,362 2,224 2,450
Interest cost 973 3,491 982 3,132
Actuarial loss 10,190 5,559 1,233 3,652
Benefits paid (439) (1,457) (540) (800)
Effect of foreign exchange
rate changes 4,884 - (2,923) -
Other: termination of
subsidiary plan - - - (3,461)
------ ------ ------ ------
Benefit obligation at
end of year 43,423 60,420 25,627 50,465
------ ------ ------ ------
Plan assets:
Fair value of plan assets at
beginning of year 18,547 45,530 18,445 37,574
Actual return on plan assets 465 2,878 301 7,166
Employer contribution 2,260 1,590 2,480 1,590
Benefits paid (439) (1,457) (540) (800)
Effect of foreign exchange
rate changes 2,608 - (2,139) -
------ ------ ------ ------
Fair value of plan assets at
end of year 23,441 48,541 18,547 45,530
------ ------ ------ ------
Funded status (19,982) (11,879) (7,080) (4,935)
Unrecognized net actuarial loss 12,144 10,308 1,160 3,539
Unrecognized transition
obligation (asset) 502 (840) 523 (961)
Unrecognized prior service cost 972 165 932 182
------ ------ ------ ------
(Accrued) prepaid benefit cost $(6,364) $(2,246) $(4,465) $(2,175)
====== ====== ====== ======
EXH 13-69
The components of retirement expense and actuarial assumptions for the
years ended December 31 are as follows:
1998 1997 1996
-------------- -------------- --------------
(In thousands) Japan U.S. Japan U.S. Japan U.S.
------ ------ ------ ------ ------ ------
Components of net periodic
benefit cost:
Service cost $2,188 $2,362 $2,224 $2,450 $2,169 $2,591
Interest cost 973 3,491 982 3,132 1,031 3,142
Expected return on plan
assets (450) (4,086) (429) (3,366) (587) (2,911)
Recognized net actuarial
loss - - - 405 - 491
Amortization of transition
obligation (asset) 77 (122) 83 (122) 92 (122)
Amortization of prior
service cost 67 16 72 (26) 80 (26)
Net curtailment gain - - - (377) - -
----- ----- ----- ----- ----- -----
Net periodic benefit cost $2,855 $1,661 $2,932 $2,096 $2,785 $3,165
===== ===== ===== ===== ===== =====
Weighted-average actuarial
assumptions as of fiscal
year-end:
Discount rate-net periodic
benefit cost 4.0% 7.0% 4.0% 7.0% 4.0% 7.0%
Discount rate-benefit
obligations 3.0 6.5 4.0 7.0 4.0 7.0
Expected return on plan
assets 2.5 9.0 2.5 9.0 2.5 9.0
Rate of compensation
increase 3.5 4.0 3.5 4.0 3.5 5.0
In addition to the benefit obligations for funded employee plans, we
also maintain unfunded supplemental retirement plans for certain officers
and beneficiaries. The expense recognized for these plans was $31 million
in 1998, $29 million in 1997 and $37 million in 1996. The accrued
retirement liability for the unfunded supplemental retirement plans at
December 31, 1998 and 1997, was $223 million and $195 million, respectively.
The actuarial present value of projected benefit obligations was $226
million and $199 million at December 31, 1998 and 1997, respectively. The
discount rates used were the same as for the funded plans. Such
supplemental retirement plans include a lifetime obligation to the surviving
spouse of the Company's former chairman of the board. Benefits are payable
at .5% of the Company's pretax earnings, as defined in the agreement, for
the previous year.
EXH 13-70
Reconciliation of the benefit obligation of the unfunded retiree
medical program and other postretirement benefits with amounts recognized in
the accompanying consolidated balance sheets as of December 31 were as
follows:
(In thousands) 1998 1997
-------- --------
Benefit obligation:
Benefit obligation at beginning of year $ 10,062 $ 9,353
Service cost 320 313
Interest cost 684 674
Actuarial loss 95 275
Benefits paid (339) (553)
------- -------
Unfunded benefit obligation at end of year 10,822 10,062
Unrecognized net actuarial gain 1,032 1,157
------- -------
Accrued (prepaid) benefit cost $ 11,854 $ 11,219
======= =======
The components of expenses for the retiree medical program and
actuarial assumptions are as follows:
(In thousands) 1998 1997 1996
-------- -------- --------
Service cost $ 320 $ 313 $ 296
Interest cost 684 674 630
Recognized net actuarial loss (gain) (30) (34) (41)
------- ------- -------
Net periodic benefit cost $ 974 $ 953 $ 885
======= ======= =======
Discount rate:
Net periodic cost 7.0% 7.0% 7.0%
Benefit obligations 6.5 7.0 7.0
Effect of 1-percentage point increase
in health care cost trend rate:
On total of service and interest
cost components $ 102 $ 93 $ 86
On postretirement benefit obligation 791 704 466
Effect of 1-percentage point decrease
in health care cost trend rate:
On total of service and interest
cost components (97) (80) (75)
On postretirement benefit obligation (743) (650) (425)
The projected health care cost trend rate used in 1998 was 10%, graded
to 7% over three years.
EXH 13-71
STOCK BONUS PLAN: AFLAC U.S. maintains a stock bonus plan for eligible
U.S. sales associates. Contributions to the plan, which are determined
based on sales of insurance policies, are made by AFLAC U.S. to a trust and
are used to purchase the Parent Company's common stock for later
distribution to the participants. The vesting requirements are based on
years of service. Any shares forfeited reduce future contributions of AFLAC
U.S. The net costs of this plan, which are included in deferred policy
acquisition costs, amounted to $10 million in both 1998 and 1997, and $9
million in 1996.
(12) COMMITMENTS AND CONTINGENCIES
LITIGATION: We are a defendant in various litigation considered to be
in the normal course of business. Some of this litigation is pending in
Alabama, where large punitive damages bearing little relation to the actual
damages sustained by plaintiffs have been awarded against other companies,
including insurers, in recent years. Although the final results of any
litigation cannot be predicted with certainty, we believe the outcome of the
litigation still pending will not have a material adverse effect on our
financial position.
EXH 13-72
MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL STATEMENTS
Management is responsible for the consolidated financial statements of
AFLAC Incorporated and subsidiaries. The statements have been prepared in
accordance with generally accepted accounting principles and include amounts
based upon management's best estimates and judgments. Informed judgments
and estimates are used for those transactions not yet complete or for which
the ultimate effects cannot be measured precisely. Financial information
elsewhere in this annual report is consistent with the information in the
financial statements.
The Company's internal controls are designed to reasonably assure that
AFLAC Incorporated's books and records reflect the transactions of the
Company, that assets are safeguarded, and that the Company's established
policies and procedures are followed. The effectiveness of the controls
system is supported by the selection and training of qualified personnel, an
organizational structure that provides an appropriate division of
responsibility, and a comprehensive internal audit program.
The Company engages KPMG LLP as independent auditors to audit its
financial statements and express their opinion thereon. Their audits
include reviews and tests of the Company's internal controls to the extent
they believe necessary to determine the audit procedures to be performed
that support their opinion. Members of that firm also have the right of
full access to each member of management in conducting their audits. The
report of KPMG LLP appears on the following page.
The audit committee of the board of directors, which is composed of
outside directors, serves in an oversight role to assure the integrity and
objectivity of the Company's financial reporting process. The committee
meets periodically with representatives of management, as well as the
independent and internal auditors, to review matters of a material nature
related to financial reporting and the planning, results and recommendations
of audits. The independent and internal auditors have free access to the
audit committee, without management present, to discuss any matter they
believe should be brought to the attention of the committee. The committee
is also responsible for making recommendations to the board of directors
concerning the selection of the independent auditors.
/s/ Daniel P. Amos
- ---------------------------------
Daniel P. Amos
President and Chief Executive Officer
/s/ Kriss Cloninger III
- ---------------------------------
Kriss Cloninger III
Executive Vice President and Chief Financial Officer
EXH 13-73
INDEPENDENT AUDITORS' REPORT
The Shareholders and Board of Directors
AFLAC Incorporated:
We have audited the accompanying consolidated balance sheets of AFLAC
Incorporated and subsidiaries as of December 31, 1998 and 1997, and the
related consolidated statements of earnings, shareholders' equity, cash
flows and comprehensive income for each of the years in the three-year
period ended December 31, 1998. These consolidated financial statements are
the responsibility of the company's management. Our responsibility is to
express an opinion on these consolidated financial statements based on our
audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable
basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of AFLAC
Incorporated and subsidiaries at December 31, 1998 and 1997, and the results
of their operations and their cash flows for each of the years in the three-
year period ended December 31, 1998, in conformity with generally accepted
accounting principles.
KPMG LLP
Atlanta, Georgia
January 28, 1999
EXH 13-74
Unaudited Consolidated Quarterly Financial Data
(In millions, except for per-share amounts)
Three Months ended, March 31, 1998 June 30, 1998 September 30, 1998 December 31, 1998
- ----------------------------------------------------------------------------------------------------------------------------
Amount % Change Amount % Change Amount % Change Amount % Change
- ----------------------------------------------------------------------------------------------------------------------------
Total revenues $ 1,757 2.9% $ 1,704 (15.2)% $ 1,700 (5.0)% $ 1,944 11.4%
Net earnings 160 77.9 103 (66.1) 108 12.0 116 21.0
- ----------------------------------------------------------------------------------------------------------------------------
Per common share:
Net earnings (basic) $ .60 81.8% $ .38 (65.8)% $ .40 14.3% $ .44 22.2%
Net earnings (diluted) .58 81.3 .37 (65.4) .39 14.7 .42 20.0
Cash dividends .058 .065 .065 .065
- ----------------------------------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------------------------------
Three Months ended, March 31, 1997 June 30, 1997 September 30, 1997 December 31, 1997
- ----------------------------------------------------------------------------------------------------------------------------
Amount % Change Amount % Change Amount % Change Amount % Change
- ----------------------------------------------------------------------------------------------------------------------------
Total revenues $ 1,708 (1.3)% $ 2,009 15.3% $ 1,790 .8% $ 1,745 (5.8)%
Net earnings 90 4.2 303 253.1 96 8.8 96 (28.2)
- ----------------------------------------------------------------------------------------------------------------------------
Per common share:
Net earnings (basic) $ .33 10.0% $ 1.11 270.0% $ .35 9.4% $ .36 (25.0)%
Net earnings (diluted) .32 6.7 1.07 256.7 .34 9.7 .35 (25.5)
Cash dividends .05 .058 .058 .058
- ----------------------------------------------------------------------------------------------------------------------------
EXH 13-75
77