UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended DECEMBER 31, 1996 Commission File Number 1-6028
LINCOLN NATIONAL CORPORATION
(Exact name of registrant as specified in its charter)
Indiana 35-1140070
(State of incorporation) (I.R.S. Employer Identification No.)
200 East Berry Street, Fort Wayne, Indiana 46802-2706
(Address of principal executive offices)
Registrant's telephone number (219) 455-2000
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
Name of exchanges on
Title of each class which registered
Common Stock (Without Par Value) New York, Chicago, Pacific,
London and Tokyo
Common Share Purchase Rights New York, Chicago and Pacific
$3.00 Cumulative Convertible Preferred New York and Chicago
Stock, Series A (Without Par Value)
8.75% Cumulative Quarterly Income New York
Preferred Securities, Series A*
8.35% Trust Originated Preferred New York
Securities, Series B*
*Issued by Lincoln National Capital I and Lincoln National Capital II,
respectively. Payments of distributions and payments on liquidation or
redemption are guaranteed by Lincoln National Corporation.
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
None
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of
1934 during the preceding 12 months (or such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes [ x ] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to
this Form 10-K. [ x ]
As of February 28, 1997, 103,181,135 shares of common stock were outstanding.
The aggregate market value of such shares (based upon the closing price of
these shares on the New York Stock Exchange) held by nonaffiliates was
approximately $5,997,400,000.
Select materials from the Proxy statement for the Annual meeting of
Shareholders, scheduled for May 15, 1997, have been incorporated by reference
into Part III of this Form 10-K.
The exhibit index to this report is located on page 83.
Page 1 of 345
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Lincoln National Corporation
Table of Contents
Page
PART I
Item 1. Business
A. General Description ---------------------------------- 3
B. Description of Business Segments:
Life Insurance and Annuities ------------------------- 3
Reinsurance ------------------------------------------ 4
Property-Casualty ------------------------------------ 5
Investment Management -------------------------------- 5
C. Other Matters:
Regulation ------------------------------------------- 5
Miscellaneous ---------------------------------------- 6
Property-Casualty Liability for Claims Information --- 6
Item 2.
Properties -------------------------------------------- 7
Item 3.
Legal Proceedings ------------------------------------- 8
Item 4.
Submission of Matters to a Vote of Security Holders --- 8
PART II
Item 5.
Market for Registrant's Common Equity and Related
Stockholder Matters ----------------------------------- 8
Item 6.
Selected Financial Data ------------------------------- 9
Item 7.
Management's Discussion and Analysis of Financial
Condition and Results of Operations ------------------- 10
Item 8.
Financial Statements and Supplementary Data ----------- 35
Item 9.
Changes in and Disagreements with Accountants on
Accounting and Financial Disclosures ------------------ 68
PART III
Item 10.
Directors and Executive Officers of the Registrant ---- 69
Item 11.
Executive Compensation -------------------------------- 70
Item 12.
Security Ownership of Certain Beneficial Owners and
Management -------------------------------------------- 70
Item 13.
Certain Relationships and Related Transactions -------- 70
PART IV
Item 14.
Exhibits, Financial Statement Schedules and Reports
on Form 8-K ------------------------------------------ 71
Index to Exhibits ---------------------------------------------- 83
Signatures ----------------------------------------------------- 84
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PART I
Item 1. Business
Lincoln National Corporation ("LNC") is a holding company. Through subsidiary
companies, LNC operates multiple insurance and investment management
businesses. LNC is the 42nd largest (based on assets) U.S. corporation (1995
Fortune 500 Rankings, April 1996). Operations are divided into four business
segments, 1) Life Insurance and Annuities, 2) Reinsurance 3) Property-Casualty
and 4) Investment Management. The Investment Management segment was added in
April of 1995 following the acquisition of Delaware Management Holdings, Inc.
(see note 12 to the consolidated financial statements on page 67). Prior to
the sale of 71% of its direct writer of employee life-health coverages in the
first quarter of 1994, LNC operated in a business segment entitled Employee
Life-Health Benefits. After the sale, the earnings from the 29% minority
interest retained were included in "Other Operations" as described below.
Although one of the subsidiaries held by LNC was formed as early as 1905, LNC
itself was formed in 1968. LNC is an Indiana corporation with its principal
office at 200 East Berry Street, Fort Wayne, Indiana 46802-2706. As of
December 31, 1996, there were 230 persons on the staff of LNC. Total
employment of Lincoln National Corporation at December 31, 1996 on a
consolidated basis was 10,320.
Although acquisition and disposition activity has occurred during the past
five years, none of it has involved all or predominately all of a business
segment except as described above.
Numeric presentations showing revenues, pre-tax income, and assets for LNC's
major business segments and other operations in which LNC engages through its
subsidiaries are included in this report as part of the consolidated financial
statements (see note 9 to the consolidated financial statements on page 64).
The LNC "Other Operations" category includes the financial data for an
unconsolidated affiliate (subsequent to the first quarter of 1994 and prior to
the sale of this holding in October of 1995) engaged in the employee life-
health benefits business, certain other operations that are not directly
related to the business segments and unallocated corporate items (i.e.,
corporate investment income, interest expense on short-term and long-term
borrowings and unallocated corporate overhead expenses).
Following is a brief description of the four business segments:
1. Life Insurance and Annuities
The primary companies within this business segment are The Lincoln National
Life Insurance Company ("Lincoln Life"); First Penn-Pacific Life Insurance
Company ("First Penn"); Lincoln Life & Annuity Company of New York ("LLANY");
Lincoln National (UK), plc; and American States Life Insurance Company.
Lincoln Life, an Indiana corporation headquartered in Fort Wayne, Indiana, is
the 4th largest U.S. stockholder-owned life insurance company, based on
revenues, (1995 Fortune Rankings of 50 Largest Life Insurance Companies by
Revenues, April 1996) and the 12th largest, based on assets, (Best's Review
Life-Health Edition, September 1996). A network of 38 life insurance
agencies, independent life insurance brokers, insurance agencies located
within financial institutions and specifically trained employees sells fixed
annuities, variable annuities, pension products, universal life insurance,
variable universal life insurance and other individual insurance coverages in
most states of the United States. The distribution network includes
approximately 1,675 career agents, 16,100 brokers and access to 57,100
stockbrokers and financial planners.
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First Penn is an Indiana Corporation headquartered in Oakbrook Terrace,
Illinois. Its universal life and deferred annuity products are distributed
through stockbrokers, financial planners, banks and personal producing general
agents. It also manufactures universal life, term life and deferred annuity
products for Lincoln Life for distribution through its career agents and
banks. These products are marketed in most states of the United States.
LLANY is a New York company, headquartered in Syracuse, New York. This
company was formed and licensed prior to the completion of the purchase of the
tax-qualified annuity business from UNUM Corporation's affiliates (see note 12
to the consolidated financial statements on page 67). LLANY also offers other
types of annuities, pension and insurance products within the state of New
York.
Lincoln National (UK), headquartered in Gloucester, England, is licensed to do
business throughout the United Kingdom. The principal products produced by
this operation, unit-linked life and pension products, are similar to U.S.
produced variable life products. The distribution network includes
approximately 1,700 sales representatives. Lincoln National (UK) is the
8th largest writer of unit-linked new business premiums in the UK for 1995
(Money Management Magazine-New Business Trends, June 1996).
American States Life is an Indiana Corporation, headquartered in Indianapolis.
Its products, principally universal life and term insurance, are marketed
through independent agencies that also offer property-casualty insurance in
most states of the United States.
Other companies within this segment include various general business
corporations that support the segment's sales, service and administrative
efforts and a 49% ownership in a Mexican partnership known as Aseguradora
InverLincoln.
Approximately 5,000 employees are involved in this business segment.
2. Reinsurance
This segment offers a broad range of risk management products and services to
insurance companies, HMOs, self-funded employers and other primary market risk
accepting organizations throughout the United States and economically
attractive international markets. Marketing efforts are conducted primarily
through the efforts of a reinsurance sales staff. Some business is presented
by reinsurance intermediaries and brokers. The reinsurance organization is
one of the leading life-health reinsurers worldwide measured on gross
premiums, net of ceded (LNC Report and Swiss Re Survey, April 1996).
The primary companies within this business segment are Lincoln National
Reassurance Company ("LNRAC"), Lincoln National Health & Casualty Insurance
Company ("LNH&C"), Lincoln Life, Lincoln National Reinsurance Company Ltd
(Bermuda) and Lincoln National Reinsurance Company Ltd (Barbados). LNRAC and
Lincoln Life offer reinsurance programs for individual life, group life, group
medical, disability income, personal accident and annuity products to U.S. and
international clients. LNH&C offers group medical products and services on
both a direct and reinsurance basis. The insurance companies in Bermuda and
Barbados offer specialized reinsurance programs for life, health and annuity
business. They also offer funded cover programs to property-casualty carriers
in the U.S. and select international markets.
Other companies in this business segment include various general business
corporations that support the segment's sales, service and administration
efforts.
Approximately 680 employees are involved in this business segment.
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3. Property-Casualty
Property-casualty insurance includes both personal lines (auto, homeowners
multi-peril and other) and commercial lines (business owners policies, auto,
multi-peril, workers' compensation, general liability and other).
Most of LNC's property-casualty business is conducted through American States
Financial Corporation and its subsidiaries ("American States"), headquartered
in Indianapolis. These companies operate multi-line property-
casualty insurance businesses in most states of the United States. American
States adopted a realignment plan in October of 1995 (see note 12 to the
consolidated financial statements on page 67). Upon completion American
States will operate through four regional offices rather than through 20
divisional offices. The regional offices have broad authority for
underwriting, agency contracting, marketing and claims settlement for most
lines of business. The distribution network involves approximately 4,800
independent agencies. Following the sale of a 16.7% minority interest of
American States in the second quarter of 1996, the earnings for this segment
have been shown net of amounts attributable to the minority interest
shareholders.
Another company within this business segment, not owned by American States, is
Linsco Reinsurance Company. This company is involved in servicing a closed
block of business.
Approximately 3,370 employees are involved in this business segment.
4. Investment Management
The companies within this business segment include Lincoln National
Investments, Inc. ("LNI"), Lincoln National Investment Companies, Inc.
("LNIC"), Delaware Management Holdings, Inc. ("Delaware"), Lincoln Investment
Management, Inc. ("Lincoln Investment"), Lynch & Mayer, Inc. ("L&M") and
Vantage Global Advisors, Inc. ("Vantage"). LNI and LNIC are intermediate
level holding companies that own the operating companies within this segment.
The operating companies provide a variety of asset management services to
institutional and retail customers including other insurance companies,
pension plans, college endowment funds, individuals and trusts. These
companies serve as investment advisor to approximately 600 pension funds and
other institutional accounts; act as investment manager/national distributor
and shareholder services agent for 49 registered, open-end funds; and serve as
investment manager for four registered, closed-end funds.
Approximately 1,030 employees are involved in this business segment.
LNC's insurance subsidiaries protect themselves against losses greater than
the amount they are willing to retain on any one risk or event by purchasing
reinsurance from unaffiliated insurance companies (see note 7 to the
consolidated financial statements on page 58).
All businesses LNC is involved in are highly competitive due to the market
structure and the large number of competitors.
At the end of 1995, the latest year for which data is available, there were
more than 1,700 life insurance companies in the United States. Lincoln Life
was among the 20 largest stock and mutual life insurance companies in the
United States based on revenues (1995 Fortune Ranking of 50 Largest U.S. Life
Insurance Companies by Revenues, April 1996).
At the end of 1995, the latest year for which data is available, there were
more than 1,100 groups and unaffiliated individual companies selling property
and casualty insurance. LNC's group of companies writing property-casualty
insurance ranked 31st in net written premiums for 1995 (A.M. Best Aggregates
and Averages, August 1996) among all such groups and companies.
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The business of LNC's Life Insurance and Annuities, Reinsurance and Property-
Casualty business segments, in common with those of other insurance companies,
is subject to regulation and supervision by the states, territories and
countries in which they are licensed to do business. The laws of these
jurisdictions generally establish supervisory agencies with broad
administrative powers relative to granting and revoking licenses to transact
business, regulating trade practices, licensing agents, prescribing and
approving policy forms, regulating premium rates for some lines of business,
establishing reserve requirements, regulating competitive matters, prescribing
the form and content of financial statements and reports, regulating the type
and amount of investments permitted and prescribing minimum levels of capital.
The ability to continue an insurance business is dependent upon the
maintenance of the licenses in the various jurisdictions.
LNC's Investment Management segment, in common with other investment
management groups, is subject to regulation and supervision by the Securities
and Exchange Commission, National Association of Securities Dealers and
jurisdictions of the states, territories and foreign countries in which they
are licensed to do business.
Because of the nature of the insurance and investment management businesses,
there is no single customer or group of customers upon whom the business is
dependent. Factors such as backlog, raw materials, patents (including
trademarks, licenses, franchises and any other concessions held) or
environmental impact do not have a material effect upon such businesses.
However, within LNC's Reinsurance segment, Lincoln National Risk Management,
Inc., does hold a patent for "The Method and Apparatus for Evaluating a
Potentially Insurable Risk" and markets multiple knowledge-based underwriting
products that rely on this product. While generally the businesses in which
LNC's subsidiaries operate are not considered seasonal businesses, claims and
expenses for the property-casualty segment tend to be higher for periods of
severe or inclement weather. LNC does not have a separate unit that conducts
market research. Research activities related to new products or services, or
the improvement of existing products or services, are conducted within the
business segments. Expenses related to such activities are not material.
Also, sales are not dependent upon select geographic areas. LNC has foreign
operations that are significant in relationship to the consolidated group (see
note 9 to the consolidated financial statements on page 65).
Liabilities for claims and claim expenses for the Property-Casualty
segment are estimated at the end of each accounting period using case-basis
evaluations and statistical projections. These liabilities include estimates
for the ultimate cost of claims that have been 1) reported but not settled and
2) incurred but not yet reported. A provision for inflation is implicitly
considered in the estimated liability as the development of the estimated
liability is based on historical data which reflects past inflation and on
other factors which are judged to be appropriate modifiers of past experience.
Adjustments to previously established estimates are reflected in current
operating results, along with initial estimates for claims arising within the
current accounting period.
A reconciliation of the beginning-of-year and end-of-year liability for claims
and claim expenses is included in this report as part of the financial
statements (see note 5 to the consolidated financial statements on page 51).
The liability for claims and claim expenses included in this report is shown
on a basis prescribed by generally accepted accounting principles ("GAAP").
Such liabilities differ from that reported to state insurance regulators. A
reconciliation of the GAAP liability and the corresponding liability reported
to state insurance regulators is as follows:
December 31 (in millions) 1996 1995
Liability reported to state insurance regulators --- $2,342.9 $2,443.4
Increase (decrease) related to:
Estimated salvage and subrogation recoveries ------- (37.1) (37.1)
Amount recoverable from reinsurers ----------------- 179.8 189.0
Liability reported on a GAAP basis --------------- $2,485.6 $2,595.3
The table on page 7 shows the development of the estimated liability for claim
and claim expenses for the ten-year period prior to 1996. Each column shows
the liability as originally estimated and cumulative data on payments and re-
estimated liabilities for that accident year and all prior accident years.
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Amounts are reflected net of reinsurance recoverable for all years. The
resulting redundancy (deficiency) is also a cumulative amount for that year
and all prior years. Conditions and trends that have affected the development
of these liabilities in the past may not necessarily recur in the future.
Therefore, it would not be appropriate to use this cumulative history in the
projection of future performance.
Analysis of Combined Property-Casualty Claims and Claim Expense Development.
December 31 (in millions)
1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996
Liability for unpaid claims and claim expenses, net of reinsurance
recoverable:
$1,730 $2,020 $2,372 $2,669 $2,246 $2,502 $2,673 $2,585 $2,499 $2,406 $2,306
Liability re-estimated as of: (First column represents number of years later)
1 1,692 1,984 2,347 2,690 2,258 2,549 2,634 2,506 2,474 2,363 --
2 1,753 1,990 2,382 2,718 2,303 2,571 2,607 2,553 2,483
3 1,790 2,026 2,403 2,767 2,384 2,563 2,686 2,611
4 1,833 2,054 2,443 2,847 2,403 2,673 2,772
5 1,863 2,104 2,538 2,869 2,522 2,774
6 1,910 2,199 2,551 2,986 2,624
7 2,003 2,210 2,604 3,067
8 2,012 2,311 2,670
9 2,113 2,363
10 2,151
Cumulative redundancy (deficiency)
(421) (343) (298) (398) (378) (272) (99) (26) 16 43 --
Change in cumulative amount
-- 78 45 (100) 20 106 173 73 42 27 (43)
Cumulative amount of liability paid through:
(First column represents number of years later)
1 571 649 750 1,430* 809 839 849 728 689 649 --
2 935 1,012 1,650* 1,862 1,253 1,325 1,294 1,156 1,093
3 1,160 1,568* 1,875 2,088 1,542 1,596 1,581 1,434
4 1,508* 1,700 1,996 2,255 1,709 1,796 1,773
5 1,593 1,776 2,095 2,355 1,839 1,934
6 1,647 1,840 2,154 2,439 1,935
7 1,694 1,877 2,157 2,503
8 1,721 1,914 2,202
9 1,751 1,950
10 1,781
*Includes the release of reserves for National Reinsurance Corporation due to
the sale of that company during April 1990. The reserves released for LNC's
period of ownership of National Re were $241 million, $386 million, $526
million and $665 million in 1986, 1987, 1988 and 1989, respectively.
Item 2. Properties
LNC and the various Fort Wayne operating businesses own or lease approximately
1.5 million square feet of office space in the Fort Wayne area. The
businesses operating in Indianapolis, Indiana; suburban Chicago, Illinois;
Philadelphia, Pennsylvania; and areas near London, England own or lease
another 1.0 million square feet of office space. An additional 1.6 million
square feet of office space is owned or leased in other U.S. cities and
foreign countries for branch offices and other smaller operations. The square
feet of office space utilized for this third group is less than prior years
and will be reduced by approximately 500,000 square feet over the next few
years due to the consolidation of offices within the Property-Casualty segment
(see note 12 to the consolidated financial statements on page 67). As shown
in the notes to the consolidated financial statements (see note 7 to the
consolidated financial statements on page 57), the rental expense on operating
leases for office space and equipment for continuing operations totaled $71.6
million for 1996. Office space rent expense accounts for $56.5 million of
this total. This discussion regarding properties does not include information
on investment properties.
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Item 3. Legal Proceedings
LNC and its subsidiaries are involved in various pending or threatened legal
proceedings arising from the conduct of business. In some instances, these
proceedings include claims for unspecified or substantial punitive damages and
similar types of relief in addition to amounts for alleged contractual
liability or requests for equitable relief. After consultation with legal
counsel and a review of available facts, it is management's opinion that these
proceedings ultimately will be resolved without materially affecting the
consolidated financial position of LNC.
Item 4. Submission of Matters to a Vote of Security Holders
During the fourth quarter of 1996, no matters were submitted to security
holders for a vote.
PART II
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters
Stock Market and Dividend Information
Common Stock Data: (per share) 1st Qtr 2nd Qtr 3rd Qtr 4th Qtr
1996
High -------------------------------- $57.000 $52.875 $47.000 $54.625
Low --------------------------------- 48.000 45.875 40.750 44.000
Dividend declared ------------------- $.46 $.46 $.46 $.49
1995
High -------------------------------- $41.375 $46.250 $47.250 $53.750
Low --------------------------------- 34.625 39.875 38.750 42.625
Dividend declared ------------------- $.43 $.43 $.43 $.46
Notes:
(1) At December 31, 1996, the number of shareholders of record of LNC's
common stock was 13,130.
(2) The payment of dividends to shareholders is subject to the restrictions
described in notes 5, Supplemental Financial Data, and 7, Restrictions,
Commitments and Contingencies to the consolidated financial statements (see
pages 52 and 56, respectively) and is discussed in the Management's Discussion
and Analysis of Financial Condition (see page 34).
Exchanges: New York, Chicago, Pacific, London and Tokyo.
Stock Exchange Symbol: LNC
Dividend Guideline:
The dividend on LNC's common stock is determined each quarter by the
Corporation's Board of Directors. The Board takes into consideration the
financial condition of the Corporation, including current and expected
earnings, projected cash flows and anticipated financing needs. The Board
also considers the ability to maintain the dividend through bad times as well
as good. In this way, the dividend would need to be reduced only under
unusual circumstances. One guideline that the Board has found useful is to
consider a dividend approximately equal to five percent of the book value per
share. This book value is computed excluding the impact of marking securities
available-for-sale to fair value.
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Item 6. Selected Financial Data
(Millions of dollars, except per share data)
Year Ended December 31 1996 1995 1994 1993 1992
Total revenue ----------------- 6,721.3 6,633.3 6,179.9 7,392.8 7,267.7
Income before cumulative effect
of accounting change(1) ------ 513.6 482.2 349.9 415.3 359.2
Net income(1) ----------------- 513.6 482.2 349.9 318.9 359.2
Per Share Information:
Income before cumulative
effect of accounting
change(1) ------------------ $4.91 $4.63 $3.37 $4.06 $3.86
Net income(1) --------------- 4.91 4.63 3.37 3.12 3.86
Common stock dividend(1) ---- 1.87 1.75 1.66 1.55 1.475
December 31 1996 1995 1994 1993 1992
Assets(1) --------------------- 71,713.4 63,257.7 48,864.8 47,825.1 39,042.2
Long-term debt ---------------- 626.3 659.3 474.2 422.2 489.8
Minority interest-preferred
securities of subsidiary
companies(2) ----------------- 315.0 -- -- -- --
Shareholders' equity(1) ------- 4,470.0 4,378.1 3,042.1 4,072.3 2,826.9
Market value of
common stock(1) -------------- $52.50 $53.75 $35.00 $43.50 $37.00
(1) Factors affecting the comparability of income before cumulative effect of
accounting change and net income for the 1992-1996 period are shown below (see
"Supplemental Data"). Assets and shareholders' equity as of December 31,
1996, 1995, 1994 and 1993 include the effect of carrying securities
available-for-sale at their fair values. At the end of 1992, the bulk of the
securities owned by LNC were carried at amortized cost. Per share
amounts were affected by the issuance in February 1993 of 9,200,000 shares
of common stock and the retirement of 500,000 and 694,582 shares of common
stock in November 1994 and the fourth quarter of 1996, respectively. For
other factors affecting comparability see the review of operations for
each segment.
(2) Also known as "Company-Obligated Mandatorily Redeemable Preferred
Securities of Subsidiary Trusts Holding Solely Junior Subordinated Deferrable
Interest Debentures of Company."
Supplemental Data
Year Ended December 31 (in millions) 1996 1995 1994 1993 1992
Income from operations(1)---------- $434.1 $306.5 $389.8 $343.5 $240.6
Realized gain (loss) on investments,
net of related amortization,
expenses and taxes --------------- 79.5 136.4 (88.7) 170.3 118.6
Gain (loss) on sale of affiliates/
operating property, net of taxes - -- 39.3 48.8 (98.5) --
Cumulative effect of accounting
change (postretirement benefits) - -- -- -- (96.4) --
Net Income --------------------- $513.6 $482.2 $349.9 $318.9 $359.2
(1) Income from operations is defined as "Net Income" less realized gain
(loss) on investments, gain (loss) on sale of
affiliates/operating property and cumulative effect of accounting
change, all net of taxes.
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Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations
The pages to follow review LNC's results of operations and financial condi-
tion. Historical financial information is presented and analyzed. Where
appropriate, factors that may affect future financial performance are
identified and discussed. Actual results could differ materially from those
indicated in forward-looking statements due to, among other specific changes
currently not known, subsequent significant changes in: the company (e.g.,
acquisitions and divestitures), financial markets (e.g., interest rates and
securities markets), legislation (e.g., taxes and product taxation),
regulations (e.g., insurance and securities regulations), acts of God (e.g.,
hurricanes, earthquakes and storms), other insurance risks (e.g., policyholder
mortality and morbidity) and competition.
On pages 11 through 21, the financial results of LNC's four business segments
and other operations are presented and discussed. Within these business
segment discussions, reference is made to "Income from Operations" (see
definition in Item 6 above). Pages 22 through 34 discuss factors that have
affected specific elements of the consolidated financial statements as well as
information pertaining to LNC as a whole.
This "Management's Discussion and Analysis of Financial Condition and Results
of Operations" should be read in conjunction with the audited financial
statements and accompanying notes presented on pages 36 through 68.
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Review of Operations: Life Insurance and Annuities
Year Ended December 31 (in millions) 1996 1995 1994 1993 1992
Financial Results by Source
Lincoln Life/LLANY/First Penn -
Annuities -------------------------- $165.0 $149.3 $120.0 $ 96.5 $ 73.9
Lincoln Life/LLANY/First Penn -
Insurance -------------------------- 36.4 31.1 34.2 37.8 46.8
Lincoln National (UK) --------------- 66.0 45.9 17.2 11.8 9.2
American States Life ---------------- 12.2 13.0 12.4 12.1 11.1
Lincoln Life/LLANY - Pensions ------- 2.9 22.1 22.4 30.6 15.5
Lincoln Life - Disability Income(1) - -- (18.3) (14.9) 3.5 (19.6)
Other ------------------------------- 8.3 8.5 (5.5) (17.0) 14.0
Income from Operations(2) --------- 290.8 251.6 185.8 175.3 150.9
Realized Gain (Loss) on
Investments/Operating Properties(3)- 39.1 82.5 (91.7) 59.3 --
Net Income(2) --------------------- $329.9 $334.1 $ 94.1 $234.6 $150.9
December 31 (in billions) 1996 1995 1994 1993 1992
Account Values
Lincoln Life/LLANY/First Penn -
Annuities ---------------------- $38.017 $30.316 $24.604 $20.923 $16.327
Reinsurance Ceded - Annuities --- (1.816) (1.778) (1.536) (.690) (.207)
Lincoln Life/LLANY - 401k
Retirement Plans --------------- 2.920 2.428 1.861 1.518 1.186
Lincoln Life/LLANY - Other
Pensions ----------------------- 4.912 5.583 5.548 5.454 5.081
Lincoln Life/LLANY/First Penn -
Universal and Variable Life
Insurance ---------------------- 2.869 2.629 2.392 2.207 1.988
American States Life ------------ .343 .317 .286 .255 .217
Total U.S. Account Values ----- 47.245 39.495 33.155 29.667 24.592
Lincoln National (UK) -
Unit Linked -------- 5.074 4.307 1.320 1.235 .652
Total Account Values ---------- $52.319 $43.802 $34.475 $30.902 $25.244
(1) Lincoln stopped writing disability income coverages on a direct basis
at the end of March 1996. The administration of this business was moved to
the Reinsurance segment at the end of September 1995.
(2) Income from operations and net income of the annuities and pension sub-
segments for 1993 include an increase in the estimate of net investment
income ($26.0 million after-tax) related to a refinement in the method
used to calculate its estimated effective yields on mortgage-backed
securities.
(3) Prior to 1993, all realized gain (loss) on investments was included in
Other Operations. Realized gain (loss) on investments for 1993 includes an
increase in the allowance for losses for mortgage loans ($42.3 million
after-tax) related to a change in accounting for the impairment of
mortgage loans as prescribed by Financial Accounting Standard No. 114.
LNC's Life Insurance and Annuities segment reported its seventh consecutive
year of record earnings in 1996. Income from operations increased 16% to
$290.8 million in 1996 from $251.6 million in 1995. This increase was
produced primarily through the continued growth of annuity business in the
United States and increased unit-linked life insurance and pension business in
the United Kingdom.
Profile
The Life Insurance and Annuities segment is composed of the operations of
Lincoln National Life ("Lincoln Life"), Lincoln National(UK) plc ("Lincoln
(UK)") First Penn-Pacific ("First Penn"), Lincoln Life & Annuity Company of
New York and American States Life. As shown above, this segment has combined
annuity, 401(k) retirement plan, life insurance and pension account values of
$52.3 billion. This segment's family of companies have more than $88 billion
of life insurance in-force.
Based in Fort Wayne, Ind., Lincoln Life is the 12th largest life insurer in
the United States as measured by assets (Best's Review, Life-Health Edition,
September 1996). Lincoln (UK), located in Uxbridge, England, is the 8th
largest unit-linked life insurer in the United Kingdom as measured by 1995
-12-
premiums of companies that write predominantly unit-linked life insurance and
pension business (Money Management, June 1996). Unit-linked policies are
similar to variable life insurance policies in the United States.
First Penn, headquartered in Oakbrook Terrace, Ill., is known for product
innovations such as MoneyGuard, a life insurance policy with long-term care
benefits. Lincoln Life & Annuity Company of New York, based in Syracuse,
N.Y., was established in 1996. American States Life, based in Indianapolis,
serves the income protection needs of individuals who are clients of
independent agencies associated with American States Insurance Company, LNC's
property-casualty affiliate.
Varied Distribution
The five companies in LNC's Life Insurance and Annuities segment reach their
customers through multiple distribution channels that include career agents,
independent agencies, insurance brokers, banks, stockbrokers and financial
planners in the U.S. and, in the U.K., a direct sales force and tied agents.
Lincoln Life's wealth accumulation and wealth protection products are sold in
49 states through the approximately 1,700 career agents and 16,100 insurance
brokers associated with the 38 regional offices of Lincoln Financial Group, as
well as 57,100 stockbrokers and financial planners. The Lincoln Life product
portfolio includes: fixed and variable annuities; term, universal and variable
universal life insurance; and 401(k) retirement plans.
Lincoln Financial Group began a profound evolution in 1996. Its regional
marketing offices are becoming a network of regional financial planning
offices, emphasizing the value of the one-to-one, consultative, needs-based
approach that such a network can offer each of its customers.
First Penn offers annuities through banks, universal life insurance through
independent marketers and life insurance through brokers and Lincoln Financial
Group agents. Lincoln Life & Annuity Company of New York distributes
annuities, 401(k) and insurance products in the state of New York through
brokers. The universal and term life insurance products of American States
Life are offered through 4,800 independent property-casualty agencies.
Lincoln (UK) offers life, investment and income protection and retirement
planning products primarily through approximately 1,700 direct sales
representatives and tied agents.
Lincoln Life Transformation
A major transformation of processes begun in 1995 is designed to create major
improvements in service, products and expense levels at Lincoln Life. As part
of this transformation effort, Lincoln Life is narrowing its focus to four
target markets: small-to medium-sized businesses; not-for-profit
organizations; retirees with investable assets and individuals with high net
worth. Expenses for transformation efforts reduced operating earnings $18.5
million, after-tax, in 1996. The initial phase of these efforts is scheduled
to be completed by the end of 1997, after which the related expenses are
expected to decline.
Annuities
The combined annuity earnings of Lincoln Life, Lincoln Life & Annuity Company
of New York and First Penn grew nearly 11% to a record $165.0 million in 1996.
The engine of this growth was a 25% rise in annuity account values, which
reached $38.0 billion at the end of the year. Business from Lincoln Life
career agents represents half of this total. Business from stockbrokers and
financial planners contributes 39% of annuity account values. The remaining
11% is from financial institutions.
The acquisition of a block of group tax-qualified annuity business from UNUM,
completed in the fourth quarter of 1996, added $2.7 billion to annuity account
values in 1996. With this transaction, Lincoln Life became one of the
nation's four largest writers of tax-qualified annuities for employees of non-
profit organizations (Best's Policy Reports, July 1996).
Lincoln Life, Lincoln Life & Annuity Company of New York and First Penn
amassed $4.0 billion in annuity deposits in 1996, an 8% increase from 1995.
The increase was tempered by increased competition from other insurers in the
bank marketplace. Lincoln Life's career agents produced 50% of this business
segment's annuity deposits in 1996. Stockbrokers and financial planners
generated 46% and distribution through financial institutions accounted for
4%.
-13-
According to the most recent statistics available, Lincoln Life was the
nation's leading writer of individual annuities and the second largest writer
of individual variable annuities in 1995 (Best's Policy Reports, July 1996).
Approximately half of Lincoln Life's annuity business is variable and not
subject to interest rate risk.
U.S. Life Insurance
Operating income from this segment's life insurance operations in the United
States was $48.7 million, a 10% increase from 1995. Combined universal life
and variable universal life account values increased 9% in 1996 to $2.9
billion. Across the industry, life insurance sales have been flat to
declining for several years. Since 1994, however, life insurance sales by
Lincoln Life and First Penn have been compounding in excess of 25%.
Term life and variable universal life insurance represent an increasing
portion of new sales for this segment's U.S. based companies. First Penn
introduced a new term life product in mid-1995 and since then has issued
45,000 of these policies with a total face value of $9 billion. Lincoln Life
re-entered the term life market in 1996 through sales of First Penn's
product. Lincoln Life's variable universal life sales, as measured by first-
year premiums, increased 50% in 1996. These sales, coupled with First Penn's
term life business, account for one-third of the entire segment's life
insurance sales.
Lincoln (UK)
Income from operations for Lincoln (UK) advanced to $66.0 million in 1996, up
from $45.9 million in 1995. Production of new business at LNC's British life
insurance and pension company increased 21% in 1996. Twenty-seven percent of
the Life Insurance and Annuities segment's $88 billion of life insurance in-
force is with this LNC affiliate. Lincoln (UK) grew rapidly in 1995 with the
acquisition of two companies. Efforts to realize expense savings from the
merging of their operations will continue in 1997. Agent recruitment,
training and teleservicing support also are priorities at Lincoln (UK) in
1997.
Pensions
Lincoln Life's pension business is focused on 401(k) retirement plan sales
and service. By targeting companies with fewer than 100 employees, 90% of
which have not yet established 401(k) plans, Lincoln Life's new 401(k)
deposits have averaged annual increases of 30% for 10 years. Total 401(k)
deposits in 1996 increased 6% over 1995, when total deposits rose 37%. The
service capacity demanded by this steep increase in volume has put pressure on
401(k) earnings.
Lincoln Life entered into an alliance in 1996 to transfer regulatory and
reporting aspects of its 401(k) servicing to a third-party administrator for
nearly one-third of its 401(k) plans. The other two-thirds of Lincoln Life's
401(k) plans already obtain regulatory and reporting services through other
administrators. This outsourcing of a selected portion of 401(k) plan
servicing is expected to produce a meaningful reduction in expenses. Lincoln
Life continues to provide fund transfer and statement services to its 401(k)
plan participants.
The remainder of Lincoln Life's pension operations consist primarily of
guaranteed interest contracts (GICs) and group pension annuities (GPAs).
Lincoln Life ceased writing GICs and GPAs in the third quarter of 1995
because neither fit its sharper focus in the small-business retirement
planning market. Lincoln Life's total pension account values, excluding the
401(k) business, declined to $4.9 billion in 1996 from $5.6 billion in 1995.
Outlook
Annuities growth and transformation benefits figure prominently in this
segment's near-term forecast. Annuities grew to 38% of LNC's total operating
earnings in 1996 and are expected to continue to drive earnings over the next
several years. Access to New York's annuity market through a new subsidiary
promises to boost annuity earnings even higher. The initial phase of Lincoln
Life's transformation efforts is expected to conclude by the end of 1997.
This endeavor aims at raising service levels to match the best service
available from Lincoln Life's competitors, including the top mutual fund
companies. Results were evident in the closing months of 1996: Increased life
insurance and annuity business in the fourth quarter was attributable in part
to transformation-related service enhancements.
-14-
Review of Operations: Reinsurance
Year Ended December 31 (in millions) 1996 1995 1994 1993 1992
Financial Results by Source
Individual Markets --------------- $49.9 $43.4 $41.4 $34.6 $33.5
Group Markets -------------------- 19.0 25.2 21.6 19.5 15.4
Financial Reinsurance ------------ 16.4 10.2 14.7 20.5 16.3
Other ---------------------------- (.2) .7 (1.9) (1.7) .4
Income from Operations,
excluding Disability Income --- 85.1 79.5 75.8 72.9 65.6
Disability Income(1) ------------- (11.1) (132.2) (9.2) (54.0) (7.3)
Income from Operations(1) ------ 74.0 (52.7) 66.6 18.9 58.3
Realized Gain (Loss) on
Investments(2) ------------------ 11.7 10.7 .5 (1.6) --
Net Income (Loss)(1)------------ $ 85.7 $(42.0) $67.1 $17.3 $58.3
Sales and In-Force
Individual Life Sales (in billions) $ 26.6 $22.7 $19.9 $17.3 $14.0
December 31 (in billions) 1996 1995 1994 1993 1992
Individual and Group Life
Insurance In-Force -------------- $160.9 $142.8 $125.6 $118.0 $113.6
(1) Income from operations and net income for 1995 and 1993 include the impact
of a change in estimate of the reserve level needed for LNC's
disability income business ($121.6 million and $32.8 million
after-tax, respectively).
(2) Prior to 1993, all realized gain (loss) on investments was included in
Other Operations.
LNC's Reinsurance segment, conducted through the Lincoln National Reinsurance
companies ("LNRC"), reported record income from operations of $74.0 million in
1996. For the year, LNRC's individual and group life business in-force
increased an impressive 13% to $160.9 billion.
Profile
LNRC is one of the leading life-health reinsurers in the world, based on net
premium income (LNC Report and Swiss Re, Economic Studies, June 1996). LNRC
reported to regulatory authorities consolidated, worldwide net premium income
of $2.1 billion in 1996. However, LNRC does not peg its stature solely on its
size. Nor does it compete primarily on the basis of price. LNRC brings value
to the marketplace by expanding the reinsurance concept beyond traditional
risk transfer. LNRC develops mass customized risk management solutions to
share risk, knowledge, capital and strategic alliance capabilities.
Mass Customization
Rather than provide a simple risk-transfer commodity, LNRC packages and
distributes modular pricing, underwriting, systems, alliance resources,
marketing consultation, product development and claims management components
to meet the needs of client companies in a mass customized approach. More
than 600 customized transactions were completed by LNRC in 1996. LNRC has a
current client base of more than 1,700 U.S. and 200 international companies.
Its client retention rate exceeds 95%.
LNRC reorganized in 1996 to apply its mass customization approach on a global
basis. International and domestic operations are now combined in each of
LNRC's three major business categories: individual markets, group markets and
financial reinsurance. Each now offers its customers a global service and
knowledge base and products conceptualized for worldwide application. For
domestic clients, LNRC will be able to offer deeper insights for delivering
products and services in new environments. For international clients, it
means increased access to LNRC's technical services and a faster processing
cycle.
Doing business in more than 50 countries, LNRC seeks to develop an even
greater global presence. LNRC established new offices in London, Tel Aviv and
Singapore in 1996 and plans to have an office in Buenos Aires in 1997.
-15-
Knowledge Management
An underwriting manual introduced by LNRC more than a decade ago quickly set
the industry standard for life and health risk selection. This manual is used
to assist in making underwriting decisions at approximately 500 North American
life and health insurance companies. Lincoln National Risk Management
("LNRM"), an LNRC company, develops proprietary knowledge-based systems that
are used throughout the insurance industry.
LNRM's patented Life Underwriting System ("LUS"), which uses a state-of-the-art
risk management technology, is licensed to more than 50 life insurance
companies in the U.S. and Canada. The companies using LUS wrote approximately
20% of all the individual life insurance applications taken in the United
States and Canada in 1996.
Five other proprietary knowledge-based systems similarly leverage LNRC's
knowledge throughout the industry. A health insurance counterpart to LUS,
Individual Medical Expense Underwriting System, is in production. Lincoln
Mortality System, patent pending, aids the development of preferred term life
products. Life Claim System ("LCS") processes claims for life and disability
income coverage. Remote Data Capture is a laptop-based system for agents and
brokers to collect and analyze the data necessary to complete or take life
insurance applications. Datalliance [registered trademark], an electronic
data interchange switchboard, links agents, insurers, information sources and
reinsurers.
Alliance Management
LNRC develops solutions that call upon the capabilities of nearly 40 alliance
partners. These solutions are delivered seamlessly by LNRC and are provided
through a "virtual organization" of direct marketers, medical equipment
suppliers, electronic information providers and variable life and annuity
administration vendors. For example, LNRC clients can quickly enter the
variable life and annuity market by distributing products from alliance
partners. Another example is LNRC's joint ownership of Reinsurance Marketing
("ReMark"), a direct marketing company based in the Netherlands that seeks out
business opportunities with banks and insurers.
Individual Markets
Superior customer service, particularly the information flow provided by LUS,
differentiates LNRC in the increasingly competitive individual life markets.
Operating income from individual life business has grown at a compound annual
rate of 13% for the past three years. In 1996, operating income grew 15% from
the previous year to $49.9 million. Favorable life mortality was an important
factor. Sales volume, measured by face amount of new business, increased 17%
in 1996 to $26.6 billion. Individual life sales maintained their consistent
growth pattern: They have increased at a compound annual rate of 15% for the
last three years.
Group Markets
LNRC's mass customization approach is well suited to the group life and
health market's wide range of clients, which includes life and health
insurers, financial services companies, HMOs and other managed health care
entities, self-funded employer coverage plans and associations. Operating
earnings from group life and health business in 1996 decreased $6.2 million
from the previous year to $19.0 million. An increase in claims was the
primary factor. Total revenue in the group markets grew 16% to $289.5
million.
Financial Reinsurance
As the financial reinsurance marketplace evolves, regulatory changes have
spurred a move away from using reinsurance as a means of providing capital
for insurance companies. However, LNRC's financial reinsurance operating
earnings grew by more than $6 million in 1996 to $16.4 million, halting a
two-year decline. Trends are emerging that represent growth opportunities in
this business. For example, as the property-casualty insurance industry
consolidates, some companies are seeking financial reinsurance and finite
risk solutions rather than traditional catastrophic reinsurance. LNRC is
well positioned to take advantage of this shift. The use of annuity
reinsurance to cover investment risk is another growth opportunity, as is the
development of blended reinsurance and capital markets instruments.
Disability Income
Lincoln Life, the largest company in LNC's Life Insurance and Annuities
segment, withdrew from the difficult direct disability income market in 1996.
Since the fourth quarter of 1995, LNRC has managed Lincoln Life's block of
-16-
direct disability income business as well as its own block of reinsurance
disability income business. LNRC's challenge is to minimize losses on this
in-force business. Losses were $11.1 million in 1996.
LNC took a charge against earnings of $121.6 million, after-tax, in the
fourth quarter of 1995 to strengthen reserves related to its direct and
reinsurance individual disability income business. The reserves were
established assuming that recent experience would continue. If incidence
levels or claim terminations vary significantly from LNC's assumptions,
further adjustments to reserves may be required.
Outlook
LNRC's organizational shift in 1996 to a global reinsurance consultant that
senses and responds to client needs with mass customized solutions is
expected to significantly enhance revenue growth. LNRC also should benefit
by continuing to build partnerships with financial institutions that are
entering life insurance markets. LNRC's goal is to exceed $100 million in
annual operating earnings by the year 2000.
Review of Operations: Property-Casualty
Year Ended December 31 (in millions) 1996 1995 1994 1993 1992
Financial Results by Source
Underwriting Loss:
Personal Insurance -------------- $(39.8) $(21.2) $(30.2) $(13.5) $(31.8)
Commercial Insurance ------------ (20.8) (26.9) (19.5) (68.2) (133.3)
Investment Income ----------------- 200.6 200.7 208.5 217.0 242.4
Other ----------------------------- 1.2 -- -- (1.4) .3
Minority Interest(1) -------------- (18.1) -- -- -- --
Income from Operations ----------- 123.1 152.6 158.8 133.9 77.6
Realized Gain on Investments(2) --- 21.2 32.1 12.8 91.8 --
Loss on Sale of Affiliates/
Operating Property --------------- -- (18.4) -- -- --
Net Income ---------------------- $144.3 $166.3 $171.6 $225.7 $ 77.6
Catastrophe Losses(3) ------------- $102.6 $ 80.3 $ 71.9 $ 58.3 $106.9
Natural Peril Losses(4) ----------- 165.6 122.1 140.5 122.7 151.6
Combined Loss and Expense Ratios(5)
Personal Insurance ---------------- 109.3% 104.8% 107.8% 103.0% 105.5%
Commercial Insurance -------------- 103.2% 105.0% 104.4% 110.3% 116.5%
Consolidated Combined Ratio ------- 105.8% 104.9% 105.7% 107.5% 112.7%
Consolidated Combined Ratios:
Excluding Catastrophe Losses ---- 99.5% 100.1% 101.5% 104.3% 107.6%
Excluding Natural Peril Losses -- 95.5% 97.6% 97.5% 100.8% 105.5%
(1) Minority interest was recorded following the sale of 16.7% of the
principal subsidiary within the Property-Casualty segment (see note 12 to the
consolidated financial statements on page 67).
(2) Prior to 1993, all realized gain (loss) on investments was included in
Other Operations.
(3) Effective January 1, 1997 an event or series of related events must be in
excess of $25 million in order to be deemed catastrophe losses.
(4) A company-defined term for losses caused by wind, hail, water (including
freezing water) and earthquake, regardless of the size of any individual
event, including the catastrophe losses shown above.
(5) The combined loss and expense ratio is the ratio of losses and loss
expenses incurred to net earned premiums plus the ratio of underwriting
expense to net premiums written.
LNC's Property-Casualty segment reported income from operations of $123.1
million in 1996, compared with previous year's earnings of $152.6 million.
This decline is attributable to LNC's reduced ownership of American States
Financial Corporation ("American States") -- 83% since the initial public
offering in May -- and higher natural peril losses. Natural peril losses in
1996, after minority interest and taxes, were $98.4 million, compared with
-17-
$79.4 million in 1995. Across the industry, there was a greater frequency of
weather-related property-casualty insurance claims in 1996 than in any
previous year (American Insurance Services Group study, Wall Street Journal,
Jan. 15, 1997).
The Property-Casualty segment's net written premium decreased 4.2% in 1996 to
$1.6 billion. Net investment income contributed $200.6 million to 1996 income
from operations, essentially flat compared with 1995.
Profile
LNC's Property-Casualty segment consists primarily of American States and its
consolidated subsidiaries. American States offers a broad spectrum of
personal and commercial lines insurance in most of the United States. The
company's market focus is on providing commercial insurance to small-to
medium-sized businesses and preferred personal lines coverage to individuals.
The greatest concentration of business and market share is in eight "core"
states in the Midwest and Pacific Northwest, where half of American States'
net written premium is produced. Headquartered in Indianapolis, American
States ranks 31st among property-casualty insurers in the United States, as
measured by net written premium (A.M. Best Aggregates & Averages, 1996).
Initial Public Offering
LNC's property-casualty operating earnings were reduced $18.1 million in 1996
as a result of its decreased ownership percentage of American States.
Seventeen percent of American States was sold in an initial public offering in
May. LNC retains the remaining 83%. While proceeds from the offering
remained at American States, a special dividend of $300 million was paid to
LNC before the offering and American States will make $300 million in debt
repayments to LNC over the next few years.
Distribution
American States has strong, long-term relationships with nearly 4,800
independent local agencies. Two-thirds have represented American States for
10 or more years. Nearly 600 of these agencies are associated with banks.
Realignment
In November 1995, American States announced a realignment of its field
structure designed to reduce expenses and enhance growth. By 1998, American
States will have consolidated most of the underwriting and certain
administrative operations of 20 division offices into four regional offices.
American States continues to provide sales, claims and technology support
services for agencies and policyholders from more than 200 locations.
Additionally, the company created 24 field executive positions to build even
stronger working relationships with its agencies. Realignment produced nearly
$9 million in 1996 expense savings, after-tax, compared to 1995. By 1998,
this effort appears on target to produce annual expense savings of
approximately $30 million, after-tax.
Combined Ratio
The Property-Casualty segment's combined ratio increased to 105.8% in 1996,
compared with 104.9% in 1995. Natural perils contributed 10.3 points to the
combined ratio in 1996, compared with 7.3 points in 1995. The Property-
Casualty segment's combined ratio reached a high of 112.7% in 1992, which
marked the beginning of American States' strategy to reduce market share in
underperforming business lines, lower premium volume in targeted areas and
focus on profitable agencies. American States' book of business has been
reduced by approximately 20% since 1992. At the same time, operating income
has nearly doubled. American States' goal is a combined ratio of 100%, which
would result in a return on equity of approximately 15%.
Personal Lines
Personal lines business represented 43% of the Property-Casualty segment's
total net written premium for 1996. The personal lines underwriting loss was
$39.8 million in 1996, compared with a $21.2 million loss in 1995. The
combined ratio in personal lines was 109.3% in 1996, compared with 104.8% in
1995. Natural peril losses contributed 13.9 points to the personal lines
combined ratio in 1996, compared with 10.0 points in 1995. American States'
personal lines business is predominantly private passenger auto and
homeowners' coverage.
Private passenger auto represents 68% of American State's personal lines
business, nearly all of it in the preferred market. American States will
continue to focus on writing more private passenger auto policies, especially
for small-business owners with commercial lines accounts. Homeowners'
insurance earnings deteriorated in 1996 due to higher storm losses. American
-18-
States is reducing its overall homeowners' exposure, which represents 27% of
its net written premium in personal lines. At the same time, American States
is seeking modest growth in homeowners' business in the handful of states
where this coverage is profitable.
Commercial Lines
Commercial lines business represented 57% of the Property-Casualty segment's
total net written premium for 1996. Commercial lines had a $20.8 million
underwriting loss in 1996, compared with a $26.9 million loss in 1995. The
commercial lines combined ratio improved to 103.2% in 1996, compared with
105.0% in 1995. Natural peril losses contributed 7.6 points to the commercial
lines combined ratio in 1996, compared with 5.4 points in 1995.
American States is noted as the nation's second largest writer of commercial
lines insurance for small-to medium-sized businesses with 50 or fewer
employees and the largest operating through the independent agency system
(Conning & Co. Study, 1995). American States targets small-to medium-sized
businesses engaged in retail, wholesale, service, contracting and other
trades. Its commercial clients include relatively few manufacturing and
industrial operations. American States' long-term relationships with
independent agencies are especially important in this market: Independent
agencies dominate the distribution of commercial lines products to small-to
medium-sized businesses.
Automation Edge
American States, through interactive systems available in its agents'
offices, provides fully automated policy production and services in both
personal and commercial lines. The result: It's easier and more economical
for an agency to do business with American States. The company uses
knowledge-based systems in its claims operation and is implementing
knowledge-based underwriting systems in its personal lines business. American
States also is developing knowledge-based applications for selected commercial
lines business. The company's strides in automation are enabling it to
consolidate offices and empower agents at the point of sale.
Outlook
Fourth-quarter net written premium at American States grew slightly from the
same period in 1995. This gives a clear signal that the market impact of
field office realignment is behind the company and may signify the end of a
period of declining premiums. American States is positioned to renew both
unit and premium growth in 1997. A key element of this growth strategy is to
leverage the company's strength in the commercial lines market. Personal
lines products, such as life and private passenger auto insurance, will be
marketed along with commercial lines coverage to owners of small-to medium
- -sized businesses. American States, which operates in more than 40 states,
seeks to increase market share in its eight "core" states. Concurrently, it
is concentrating additional resources to increase both market share and agency
representation in 10 states where the company believes its market position and
favorable regulatory environments offer the potential for profitable growth.
-19-
Review of Operations: Investment Management (1)
Year Ended December 31 (in millions) 1996 1995 1994 1993 1992
Fees and Income
Investment Advisory Fees-Regular -- $ 186.1 $126.6 $ -- $ -- $ --
Investment Advisory Fees-at Cost -- 61.6 42.8 -- -- --
Other Revenue --------------------- 24.7 16.1 -- -- --
Income from Operations ------------ $ 11.7 $14.7 $ -- $ -- $ --
Realized Gain on Investments ------ 5.2 4.3 -- -- --
Net Income ---------------------- $ 16.9 $19.0 $ -- $ -- $ --
Year Ended December 31 (in billions) 1996 1995 1994 1993 1992
Assets Managed
Assets Managed-Regular:
Institutional-Fixed ------------- $11.588 $ 7.720 $ 6.284 $ 3.485 $ 2.657
Institutional-Equity ------------ 23.835 22.537 19.217 19.721 18.300
Retail-Fixed -------------------- 4.609 4.995 4.877 5.309 4.587
Retail-Equity ------------------- 11.507 8.223 6.070 6.220 5.101
Total Assets Under Management
Within the Investment Manage-
ment Segment at Regular Fees - 51.539 43.475 36.448 34.735 30.645
Assets Managed by Lincoln
Investment Management at Cost ---- 30.471 33.084 27.847 28.411 24.777
Assets Managed by Non-LNC
Affiliates ----------------------- 16.209 12.961 9.447 9.875 6.711
Assets Managed by Lincoln
National (UK) -------------------- 6.865 5.375 1.571 1.503 .783
Total Assets Managed ----------$105.084 $94.895 $75.313 $74.524 $62.916
(1) This segment was added in April 1995 following the acquisition of Delaware
Management Holdings, Inc. (see note 12 to the consolidated financial
statements on page 67). Assets managed shown above includes data for Delaware
Management Holdings, Inc. prior to the April 1995 acquisition.
LNC's Investment Management segment, conducted through Lincoln National
Investments Inc. ("LNI"), reported income from operations of $11.7 million in
1996, compared with $14.7 million in 1995. The decrease was primarily caused
by an increase in expenses related to retail mutual fund growth initiatives.
This segment's 1996 operating income, excluding amortization of goodwill and
other intangibles, was $35.4 million.
Profile
LNC began reporting Investment Management as a separate business segment in
April 1995 when LNC completed its strategic acquisition of Delaware
Management Holdings, Inc. ("Delaware"). Although investment management has
long been an area of expertise within LNC, the addition of Delaware signaled
LNC's intention to expand its role as a money manager and meet its objective
to become a top-tier company in the financial services industry. Particular
emphasis is being given to accelerating the growth of Delaware's mutual funds
operation.
The companies that comprise the Investment Management segment are: Delaware;
Lynch & Mayer, Inc.; Vantage Global Advisors, Inc. ("Vantage"); and, through
1996, Lincoln Investment Management, Inc. Delaware is located in
Philadelphia. Lynch & Mayer and Vantage each have separate headquarters in
New York City. Lincoln Investment Management is based in Fort Wayne, Ind.
Complementary Approaches
Delaware, Lynch & Mayer, Vantage and Lincoln Investment Management operate
autonomously and are encouraged to preserve their distinctive cultures and
investment styles. Their breadth of complementary styles and strengths is a
prudent way to diversify risks, especially in today's sometimes uncertain and
volatile investment markets.
Delaware is best known for a conservative, "value" investment style that
focuses on stocks with above-average dividend yields. Delaware also is
recognized for its small-cap and mid-cap growth investment styles and its
expertise in municipal and high-yield bonds. Delaware's London operation
adds to the overall international expertise of Lincoln National.
-20-
Lynch & Mayer pursues a growth investment style and specializes in mid-cap
and large-cap equities, as well as investment partnerships. Vantage invests
in undervalued companies that have strong potential for above-average growth.
It employs a disciplined, systematic, risk-controlled investment approach.
Lincoln Investment Management is the investment advisor for LNC's insurance
operations and is best known as a manager of fixed-income assets for insurance
and pension clients. Effective January 1, 1997, this operation was moved from
the Investment Management segment to Other Operations. This move allows
Lincoln Investment Management to concentrate its resources on its advisory
role to LNC.
Assets Under Management
Of the $105.1 billion in assets managed by LNC as of December 31, 1996, LNI
managed $82.0 billion. The remainder includes $6.9 billion managed by Lincoln
(UK) and $16.2 billion subcontracted to outside investment managers. Domestic
institutional assets represent $61.6 billion of LNI's total assets under
management. Domestic retail assets represent $15.6 billion of the total.
International equity and global bond assets managed by Delaware's London
operations account for $4.8 billion.
Distribution
Multiple distribution channels enable LNI to deliver its broad range of
products to an expanding community of retail and institutional investors.
LNI's retail mutual funds are marketed through: regional and national
broker/dealers; financial planners; insurance agents, including those
associated with the regional marketing offices of Lincoln Life; and banks.
LNI's institutional products are marketed primarily by its sales force in
conjunction with pension consultants. They also are offered to defined benefit
and defined contribution plan sponsors, endowments, foundations and insurance
companies.
Retail Mutual Funds
LNI's retail mutual fund and wrap fee assets totaled $16.1 billion at December
31, 1996. Delaware, which houses LNI's retail mutual fund operations, offers
38 open-end retail mutual funds and two closed-end funds. These funds had
assets under management of $10.2 billion. The remaining $5.9 billion was
wrap-fee business and retail mutual funds managed by Lynch & Mayer and
Vantage. Internal growth initiatives begun in mid-1996 at Delaware are
designed to add wholesalers, broaden retail mutual fund options and upgrade
service. Expenses related to these ongoing initiatives in 1996 were $2.3
million, after-tax.
Delaware is the platform from which LNI has launched a more aggressive retail
mutual fund strategy. As part of this strategy, LNC announced plans in
January 1997 to acquire Voyageur Fund Managers, Inc. ("Voyageur"). Completion
of the acquisition is expected in the spring of 1997. Minneapolis-based
Voyageur manages 23 open-end single-state municipal bond funds, nine other
open-end retail mutual funds, six closed-end funds, four national tax-free
funds and several retail unit investment trusts. The Voyageur acquisition
will add $2.8 billion to LNI's assets under management.
Institutional Investment Management
LNI's institutional investment management business had assets under
management of $65.9 billion at December 31, 1996. The 1995 acquisition of
Delaware enhanced the strong position already held by Lynch & Mayer and
Vantage in this mature but still growing business.
Investment Performance
Delaware's mutual funds experienced several ranking upgrades in 1996. As of
December 31, 1996, seven Delaware Mutual Funds had rankings of four or five
stars from Morningstar, Inc., a service that assigns rankings from one star at
the lowest to five stars at the highest. These funds are: Decatur Income
Fund, Delchester Fund, Decatur Total Return Fund, Tax-Free USA Fund, Tax-Free
USA Intermediate Fund, Tax-Free Pennsylvania Fund and Devon Fund. The Vantage
Social Awareness Fund's return was 27.96% in 1996, well ahead of the 20.27%
return for the top quartile variable annuity in the Morningstar Growth
Universe. This performance earned Vantage a 15th-place ranking among 691
variable annuity funds in that category.
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Among institutional investment managers, Delaware produced strong results in
the value equity category, with a return of 21.1% that qualified as second-
quartile performance as measured by Callan's Yield Universe. In the
international equity category, Delaware's return of 22.4% exceeded the 6.05%
return for its comparative Morgan Stanley Capital International Europe,
Australia, Far East index.
Outlook
The rapid growth of LNI's retail mutual fund business, both through internal
efforts and selective acquisitions, is an essential component of LNC's long-
term strategy. Delaware's marketing initiatives are at the heart of LNC's
commitment to the growth of its retail-mutual fund business.
Review of Other Operations:
Year Ended December 31 (in millions) 1996 1995 1994 1993 1992
Financial Results by Source
Earnings from Unconsolidated
Affiliate-------------------- $ -- $ 13.7 $ 14.8 $ -- $ --
Investment Management(1) --------- -- .3 7.1 6.1 4.7
LNC Financing -------------------- (49.7) (52.7) (31.7) (26.7) (33.8)
LNC Operations ------------------- (14.8) (19.5) (21.8) (22.3) (18.2)
Other Corporate ------------------ (.9) (1.5) (3.9) 4.0 (3.1)
Corporate Equity Investments------ -- -- -- -- (36.6)
Loss from Operations ----------- (65.4) (59.7) (35.5) (38.9) (87.0)
Realized Gain (Loss)
on Investments(2) --------------- 2.2 6.2 (10.6) 19.8 118.6
Gain (Loss) on Sale of Affiliates/
Operating Property -------------- -- 58.3 48.8 (98.5) --
Cumulative Effect of Accounting
Change (Postretirement Benefits) -- -- -- (96.4) --
Net Income (Loss) ------------- $(63.2) $ 4.8 $ 2.7 $(214.0) $ 31.6
(1) Includes results through March 31, 1995. Activity subsequent to that date
was recorded within the "Investment Management" segment of business.
(2) Prior to 1993, all realized gain (loss) on investments was included in
Other Operations.
The loss from operations shown above includes the earnings from LNC's
investment in an unconsolidated affiliate engaged in the employee life-health
benefits business (prior to the sale of this holding in October 1995, as
described in note 12 to the consolidated financial statements on page 67),
certain other operations that are not directly related to the business
segments and unallocated corporate revenues and expenses (i.e., corporate
investment income, interest expense on short-term and long-term borrowings,
and corporate overhead expenses).
Corporate interest expense included within the LNC financing line above was
greater for 1996 and 1995 than years prior to 1995 as the result of additions
to long-term debt and minority interest-preferred securities of subsidiary
companies (see liquidity and cash flow discussion on page 33). The reduction
in LNC financing in 1996 compared to 1995 was the result of increased
investment income following a special dividend from its major company within
the Property-Casualty segment (see page 33).
Net income (loss) shown above for "Other Operations" includes the items
described above under loss from operations plus the cumulative effect of the
1993 accounting change for the consolidated group of companies related to
postretirement benefits, the gain (loss) on sale of affiliates/operating
property (see note 12 to the consolidated financial statements on page 67) and
realized gain (loss) on sale of certain investments.
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REVIEW OF CONSOLIDATED OPERATIONS AND FINANCIAL CONDITION
Summary Information
Increase
(Decrease)
Year Ended December 31 (in millions) 1996 1995 1994 1996 1995
Insurance premiums:
Life and annuity ---------------- $ 779.7 $ 764.8 $ 908.9 2% (16%)
Health -------------------------- 793.4 810.2 1,005.2 (2%) (19%)
Property-casualty --------------- 1,608.9 1,678.9 1,710.6 (4%) (2%)
Insurance fees ------------------ 628.2 523.2 449.6 20% 16%
Investment advisory fees -------- 180.8 125.6 --
Net investment income ----------- 2,365.9 2,251.2 1,994.6 5% 13%
Equity in earnings of
unconsolidated affiliates ------ 1.4 12.4 14.7 (16%)
Realized gain (loss)
on investments ----------------- 128.1 215.6 (130.8)
Gain (loss) on sale of affiliates/
operating property ------------- -- 54.2 48.8
Other revenue ------------------- 234.9 197.1 178.2 20% 11%
Insurance benefits and expenses:
Life and annuity ---------------- 2,044.0 2,081.7 2,174.0 (2%) (4%)
Health -------------------------- 674.9 822.0 758.7 (18%) 8%
Property-casualty --------------- 1,202.4 1,209.5 1,262.5 (1%) (4%)
Expenses:
Operating expenses -------------- 2,003.0 1,821.0 1,558.8 10% 17%
Interest and debt expenses ------ 84.7 72.5 49.5 17% 47%
Federal income taxes ------------ 179.2 144.4 26.4 24%
Minority interest in
consolidated subsidiaries ------ 19.5 -- --
REVIEW OF CONSOLIDATED OPERATIONS
Insurance Premiums
Life and annuity premiums increased $14.9 million or 2% in 1996 compared to
1995 as the result of increased volumes of business in the Reinsurance segment
being partially offset by a decrease in premium in the Life Insurance and
Annuities segment. Life and annuity premiums decreased $144.1 million or 16%
in 1995 compared with 1994. This decrease is the net result of an increase in
business volume from the Reinsurance segment (9% increase) being more than
offset by a decrease in volume from the U.S. portion of the Life Insurance and
Annuities segment (10% decrease) and a decrease from the United Kingdom
component of the Life Insurance and Annuities segment (51% decrease). This
decrease in the United Kingdom component was the net result of: 1) increases
from the premiums generated by the newly acquired U.K. companies (see note 12
to the consolidated financial statements on page 67) and; 2) decreases due to
modifying, on a prospective basis, the classification of premiums associated
with unit-linked transactions within Lincoln National (UK) to more closely
conform to the classification used for universal life transactions within the
U.S. operations. As noted below, there is a corresponding decrease in life
and annuity benefits. Prior period data was not reclassified because the
amounts involved are not material to consolidated revenue. Barring the
passage of unfavorable tax legislation that would eliminate the tax-advantages
for some of LNC's life and annuity products, LNC expects life and annuity
premium growth in 1997.
Health premiums decreased $16.8 million or 2% in 1996 as a result of increased
volumes of business in the Reinsurance segment being more than offset by
decreases in the Life Insurance and Annuities segment due to the withdrawal
from the disability income business. Excluding the activity of its direct
-23-
writer of employee life-health coverages, which was sold in 1994 (see note 12
to the consolidated financial statements on page 67), LNC's health premiums
increased $97.5 million or 14% in 1995. The increases in both years were the
result of increased volumes of business in the Reinsurance segment.
Property-casualty premiums decreased $70.0 million or 4% in 1996 following
decreases of 2% in 1995 and 7% in 1994. These decreases were the result of a
program initiated in 1992 that involved a re-evaluation of underwriting
actions with a focus on account selection, risk evaluation and pricing. A
special emphasis is being placed on reversing the downward trend of the last
three years and increasing premiums in 1997. However, the volume of premium
that this segment will produce in 1997 is partially dependent upon whether the
property-casualty insurance marketplace allows price increases that are
necessary to maintain and improve profitability.
Insurance Fees
Insurance fees from universal life, other interest-sensitive life insurance
contracts and variable life insurance contracts increased $105.0 million or
20% in 1996 and $73.6 million or 16% in 1995. These increases are the result
of an increase in the volume of transactions and a market-driven increase in
the value of existing customer accounts upon which some of the fees are based
in the Life Insurance and Annuities segment. The growth in fees from this
business is expected to continue in 1997.
Investment Advisory Fees
This line was added to the statements of income in the second quarter of 1995
following LNC's purchase of Delaware Management Holdings, Inc. (see note 12 to
the consolidated financial statements on page 67). On an annualized basis,
investment advisory fees increased 8.0% as the result of increased volumes and
an increase in the fair value of customer accounts.
Net Investment Income
Net investment income increased $114.7 million or 5% in 1996. The impact of a
7% increase in mean invested assets was partially offset by: 1) a decrease in
the yield on investments from 7.75% to 7.61% (all calculations on a cost
basis) and; 2) a charge of $4.1 million in 1996 versus a benefit of $20.3
million in 1995 from the recurring adjustment of discount on mortgage-backed
securities. Net investment income increased $256.6 million or 13% in 1995 as
the result of a 5% increase in mean invested assets, an increase in the yield
on investments from 7.30% to 7.75% and a benefit of $20.3 million in 1995
versus a charge of $13.2 million in 1994 from the recurring adjustments of
discount on mortgaged-backed securities. The increase in mean invested assets
for both years was the result of increased volumes of business in the Life
Insurance and Annuities segment.
Equity in Earnings of Unconsolidated Affiliates
This line was added to the statements of income in 1994 to report the
earnings from the remaining 29% ownership following LNC's sale of 71% of the
ownership of its primary direct writer of employee life-health benefit
coverages. LNC sold its 29% interest in this company in October 1995. See
note 12 to the consolidated financial statements on page 67. Since this
holding represented the bulk of LNC's unconsolidated affiliates, the activity
in this account was minimal in 1996.
Realized Gain (Loss) on Investments
The pre-tax realized gain (loss) on investments, net of related amortization,
was $128.1 million, $215.6 million and $(130.8) million in 1996, 1995 and
1994, respectively. The after-tax gain (loss) in 1996, 1995 and 1994 was
$79.5 million, $136.4 million and $(88.7) million, respectively. These gains
and losses were the result of the sale of investments, write-downs and
provisions for losses. During 1996, LNC completed a bulk sale of performing
and non-performing mortgage loans and real estate holdings through a sealed
bid process. The selling price for these holdings was $6.1 million in excess
of the carrying value, resulting in a gain on sale. The losses in 1994 were
the result of net realized investment gains being more than offset by: 1)
realized investment losses and; 2) writedowns of security investments and
provisions for losses for mortgage loans and real estate. The investment
losses in 1994, primarily in the second and third quarters, were the result of
realizing investment losses to recover capital gains taxes paid in prior
years.
Securities available-for-sale, mortgage loans on real estate and real estate
that were deemed to have declines in fair value that were other than temporary
were written down. The fixed maturity securities to which these write-downs
apply were generally of investment grade quality at the time of purchase but
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were classified as "below-investment-grade" at the time of the write-downs.
Also, write-downs and allowances for losses on select mortgage loans on real
estate, real estate and other investments were established when the underlying
value of the property was deemed to be less than the carrying value. These
write-downs and provisions for losses are disclosed within the notes to the
accompanying financial statements (see note 3 to the consolidated financial
statements on page 46).
Gain on Sale of Affiliates/Operating Property
In 1995, LNC recorded the gain on sale of the remaining 29% of the employee
life-health benefits company. Also in 1995, LNC recorded an allowance for the
expected loss related to its decision to sell certain of its operating
properties used in its Property-Casualty segment. In 1994, LNC recorded a
gain on the sale of 71% of its interest in its primary direct writer of
employee life-health benefits. See note 12 to the consolidated financial
statements on page 67 for additional information.
Other Revenue
Other revenue increased $37.8 million or 20% in 1996 as the result of
increases in the volume of transactions in the Reinsurance and Investment
Management segments. In 1995, other revenue increased $18.9 million or 11% as
the result of increases in the volume of transactions in the Life Insurance
and Annuities segment.
Benefits and Settlement Expenses
Life and annuity benefit and settlement expenses decreased $37.7 million or 2%
in 1996 as compared to 1995. This decrease was the result of decreased
volumes of business and improved mortality in the Life Insurance and Annuities
segment being partially offset by increases in volume in the Reinsurance
segment. Life and annuity benefit and settlement expenses in 1995 decreased
$92.3 million or 4% as compared to 1994. This decrease was the net result of
an increase of 6% from the U.S. portion of the Life Insurance and Annuities
segment and decreases of 2% from the Reinsurance segment and 60% from the
United Kingdom portion of the Life Insurance and Annuities segment. The
decrease in the United Kingdom component relates to the change in
classification of life and annuity premiums noted above. The increase in life
and annuity benefits expense in 1997 is expected to parallel the growth in
life and annuity premiums.
Health benefits increased $39.9 million or 6% in 1996 compared to 1995 health
benefits after excluding the special addition to the disability income reserve
in 1995. Excluding the activity of its primary direct writer of employee
life-health benefits, which was sold in 1994 (see note 12 to the consolidated
financial statements on page 67), and the special addition to the disability
income reserves in 1995, LNC's health benefits increased $92.7 million or 17%
in 1995 as the result of increased volumes of business in the Reinsurance
segment and Life Insurance and Annuities segment. See note 2 to the
consolidated financial statements on page 45 regarding the special addition to
the disability income reserve.
Property-casualty benefits decreased by $7.1 million or 1% in 1996 compared to
1995. This decrease is the net result of a reduction in the volumes of
insurance being partially offset by increases in catastrophe and storm losses.
In 1995, property-casualty benefits decreased by $53.0 million or 4% compared
to 1994. This decrease was the net result of moderate decreases in the volume
of business being partially offset by increases in catastrophe and storm
losses. Assuming average catastrophe and storm loss experience in 1997, the
increase in property-casualty benefits is expected to parallel the change in
property-casualty premiums.
Underwriting, Acquisition, Insurance and Other Expenses
These expenses increased $182.0 million or 10% in 1996 as the result of
increased business volumes in the Reinsurance, Investment Management and Life
Insurance and Annuities segments. Excluding the impact of the subsidiary sold
in 1994 (see note 12 to the consolidated financial statements on page 67),
these expenses increased $349.8 million or 23.5% in 1995. The primary drivers
behind this increase beyond the general inflation rate were: 1) the write-off
of deferred acquisition costs associated with special additions to disability
reserves and; 2) higher expenses related to increased business volumes in the
Reinsurance segment and Life Insurance and Annuities segment. Also, 1995's
Property-Casualty segment results included $21.0 million of expenses,
primarily severance compensation, related to the consolidation of 20
divisional operations into four regional operations. Other than this special
1995 expense item, 1995 and 1996 expenses for the Property-Casualty segment
-25-
were essentially the same as 1994, as staff levels were adjusted to the
current level of business. In 1997, all business segments will continue to
adjust staff levels as appropriate to match business volumes.
During the 1997-1999 period LNC's business units are expected to redirect a
portion of their internal data processing efforts and contract with outside
consultants to ensure that all computer software systems will accommodate
dates that extend into the next century. Expenditures for outside
consultants, that are above normal system enhancements and upgrades, have been
estimated to be $20 million ($13 million after-tax). These expenditures are
not material to the consolidated financial statements of LNC.
Interest and Debt Expense
Interest and debt expense increased $12.2 million or 17% in 1996 and $23.0
million in 1995. These increases were the result of increases in the average
debt outstanding and the impact of changes in the composition of debt
outstanding (see page 33). The higher outstanding debt relates to the
acquisitions of companies during 1995 (see note 12 to the consolidated
financial statements on page 67). During 1996 Standard and Poor's and Moody's
re-affirmed LNC's debt ratings as A ("Excellent") and A2 ("Very Good, Strong
or High"), respectively.
Federal Income Taxes
Federal income taxes increased $34.8 million or 24% in 1996 primarily as the
result of an increase in pre-tax earnings. Federal income taxes increased
$118.0 million in 1995. This increase was the result of: 1) higher pre-tax
earnings in 1995 and; 2) lower 1994 taxes because no tax expense was recorded
on the 1994 gain on sale of 71% of LNC's primary direct writer of employee
life-health benefit coverages (see note 12 to the consolidated financial
statements on page 67). Pre-tax earnings in 1994 were lower than 1993 and
1995 due to: 1) the absence of earnings from subsidiaries sold in 1994 and; 2)
the realization of losses on the sale of investments during 1994 versus the
realization of gains on investments in 1993 and 1995. Tax benefits from 1994
realized losses result from the carryback of such losses to realized gains
recognized in prior years.
Minority Interest in Consolidated Subsidiaries
This represents earnings applicable to minority shareholders following the
sale of 16.7% of LNC's principal subsidiary within its Property-Casualty
segment (see note 12 to the consolidated financial statements on page 67).
Summary
Net income for 1996 was $513.6 million compared with $482.2 million in 1995.
Excluding realized gain (loss) on investments, gain (loss) on sale of
affiliates/operating property and special 1995 additions to the disability
income reserves and the after-tax impact of expenses associated with the 1995
charge for realignment of division offices in the Property-Casualty segment,
all net of taxes, LNC earned $434.1 million for 1996 compared to $441.8
million in 1995. This decrease is the net result of increased earnings in the
Reinsurance and Life Insurance and Annuities segments being more than offset
by the decrease in Property-Casualty segment earnings. Net income for 1995
was $482.2 million compared with $349.9 million in 1994. Excluding realized
gain (loss) on investments and gain on sale of affiliates/operating property,
LNC earned $306.5 million for 1995 compared to $389.8 million in 1994. This
decrease is the net result of increased earnings in the Life Insurance and
Annuities segment and Investment Management segment being more than offset by
decreases within the Reinsurance and Property-Casualty segments.
REVIEW OF CONSOLIDATED FINANCIAL CONDITION
Investments
The investment portfolio, excluding cash and invested cash, is comprised of
fixed maturity securities; equities; mortgage loans on real estate; real
estate, either wholly owned or joint ventures; and other long-term
investments. LNC purchases investments for its segmented portfolios with
yield, duration and other characteristics that take into account the
liabilities of the products being supported. The total investment portfolio
increased $2.1 billion in 1996. This increase was the net result of decreases
in the fair value of securities available-for-sale being more than offset by
the new purchases of investments from cash flow generated by the business
units.
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LNC maintains a high-quality fixed maturity securities portfolio. As of
December 31, 1996, $12.0 billion or 42.8% of its fixed maturity securities
portfolio had ratings of AA or better. Only $1.7 billion or 6.1% had ratings
below-investment-grade (BB or less) (see note 3 to the consolidated financial
statements on page 47). The below-investment-grade fixed maturity securities
represent only 5.0% of LNC's total investment portfolio. The interest rates
available on these below-investment-grade securities are significantly higher
than are available on other corporate debt securities. Also, the risk of loss
due to default by the borrower is significantly greater with respect to such
below investment grade securities because these securities are generally
unsecured, often subordinated to other creditors of the issuer and issued by
companies that usually have high levels of indebtedness. LNC attempts to
minimize the risks associated with these below investment grade securities by
limiting the exposure to any one issuer and by closely monitoring the credit
worthiness of such issuers. For the year ended December 31, 1996, the
aggregate cost of such investments purchased was $1.2 billion. Aggregate
proceeds from such investments sold were $1.1 billion, resulting in a realized
pre-tax gain at the time of sale of $31.5 million.
LNC's entire fixed maturity and equity securities portfolio is classified as
"available-for-sale" and is carried at fair value. Changes in fair values,
net of related deferred acquisition costs, amounts required to satisfy
policyholder commitments and taxes are charged or credited directly to
shareholders' equity. Note 3 to the consolidated financial statements (see
page 46) shows the gross unrealized gains and losses as of December 31, 1996.
LNC's fixed maturity securities available-for-sale include mortgage-backed
securities. The mortgage-backed securities included in LNC's investment
portfolio are subject to risks associated with variable prepayments or delayed
repayments. This may result in these securities having a different actual
cash flow and maturity than planned at the time of purchase. Securities that
have an amortized cost greater than par and backed by mortgages that prepay
faster than expected will incur a reduction in yield or a loss. Those
securities with an amortized cost lower than par that prepay faster than
expected will generate an increase in yield or a gain. Repayments occurring
slower than expected have the opposite impact. The degree to which a security
is susceptible to either gains or losses is influenced by the difference
between its amortized cost and par, the relative sensitivity of the underlying
mortgages backing the assets to prepayment or delayed repayments in a changing
interest rate environment and the repayment priority of the securities in the
overall securitization structure.
LNC limits the extent of its risk on mortgage-backed securities by generally
avoiding the purchase of securities with a cost that significantly exceeds
par, by purchasing securities backed by stable collateral, and by
concentrating on securities with enhanced priority in their trust structure.
Such securities with reduced risk typically have a lower yield (but higher
liquidity) than higher-risk mortgage-backed securities. At selected times,
higher-risk securities may be purchased if they do not compromise the safety
of the general portfolio. At December 31, 1996, LNC did not have a
significant amount of higher-risk mortgage-backed securities. There are
negligible default risks in the mortgage-backed securities portfolio as a
whole as the vast majority of the assets are either guaranteed by U.S.
government-sponsored entities or are supported in the securitization structure
by junior securities enabling the assets to achieve high investment grade
status. See note 3 to the consolidated financial statements on page 47 for
additional detail about the underlying collateral.
As of December 31, 1996, mortgage loans on real estate and investments in real
estate represented 9.6% and 1.9% of the total investment portfolio. As of
December 31, 1996, the underlying properties supporting the mortgage loans on
real estate consisted of 20.5% in commercial office buildings, 27.9% in retail
stores, 22.0% in apartments, 14.9% in industrial buildings, 5.7% in
hotels/motels and 9.0% in other. In addition to the dispersion by type of
property, the mortgage loan portfolio is geographically diversified throughout
the United States.
Investment in Unconsolidated Affiliates
This line was added to the balance sheet in 1994 following LNC's sale of 71%
of the ownership of its primary direct writer of employee life-health
coverages. The minimal balance at December 31, 1996 and 1995 is due to the
October 1995 sale of the remaining 29% ownership in this company. See note 12
to the consolidated financial statements on page 67.
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Cash and Invested Cash
Cash and invested cash decreased by $341.1 million in 1996. This decrease is
the result of investing a portion of the operating cash flow that had
previously been invested in short-term investments pending the placement of
funds in longer term investments.
Deferred Acquisition Costs
Deferred acquisition costs increased $455.3 million in 1996. A portion of
this increase ($215.3 million) was the result of a balance sheet
reclassification between deferred acquisition costs and policy liabilities and
accruals by LNC's United Kingdom subsidiary. This reclassification was made
in order to more closely conform the United Kingdom classifications to those
used by LNC's U.S. life operations. The remainder of the increase is the
result of the growth in business and increases related to the reduction in
unrealized gain on securities available-for-sale during 1996.
Premiums and Fees Receivable
Premiums and fees receivable increased $112.8 million in 1996 as the result of
increased volume of business in the Reinsurance segment.
Assets Held in Separate Accounts
This asset account, as well as the corresponding liability account, increased
by $6.0 billion in 1996 as a result of increases in annuity and pension funds
under management.
Amounts Recoverable from Reinsurers
The increase of $49.0 million in amounts recoverable from reinsurers was the
result of an increased volume of business ceded in the Life Insurance and
Annuities segment.
Goodwill
The decrease of $22.0 million in this balance sheet account in 1996 represents
the amortization for the year.
Other Intangible Assets
The $179.5 million increase in this balance sheet account in 1996 is the net
increase of additional amounts in intangible assets associated with LNC's
purchase of a block of tax-qualified annuity business (see note 12 to the
consolidated financial statements on page 67), and the impact of the change in
foreign currency adjustment less the impact of the amortization of existing
amounts in 1996.
Other Assets
The decrease in other assets of $176.4 million is the result of having a lower
receivable related to investment securities sold in the last few days of 1996
versus the end of 1995.
Total Liabilities
Total liabilities increased by $8.0 billion in 1996. This increase reflects:
1) an increase in business activity as evidenced by an increase in policy
liabilities and accruals of $359.8 million (this increase was partially offset
by the reclassification discussed above under the deferred acquisition cost
heading), an increase of $2.4 billion in contractholder funds and an increase
of $6.0 billion in the liabilities related to separate accounts and; 2) an
increase in minority interest in consolidated subsidiaries of $223.6 million
(see note 12 to the consolidated financial statements on page 67), being
partially offset by decreases in debt of $270.9 million and a net decrease in
all other liabilities of $696.2 million.
The property-casualty liabilities for unpaid claims and claims expense were
$2.5 billion and $2.6 billion at December 31, 1996 and 1995, respectively.
These liabilities include liabilities for environmental claims of $265 million
and $256 million, respectively. At December 31, 1996 and 1995, these amounts
include approximately $153 million and $140 million of reserve for claims that
have been incurred but not reported, and approximately $44 million and $47
million of related claim expenses, respectively. Because of the limited
coverages that have been written by LNC, these environmental claims represent
only 11% of LNC's total property-casualty policy liabilities (2.3% based on
claim counts of direct business) and less than 2% of LNC's total policy
liabilities. Paid environmental claims and claim expenses totaled
approximately $13.8 million in 1996 compared with approximately $15.5 million
in 1995.
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The percentages and amounts referenced above are at these levels due to LNC's
concentration on writing coverages for small to medium-size companies rather
than the larger companies that tend to incur most of the environmental and
product liability claims. LNC's management challenges environmental claims in
cases of questionable liability and reviews the level of the environmental
liabilities on an on-going basis to help ensure that the liability maintained
is adequate. Nonetheless, establishing liabilities for environmental claims
is subject to significant uncertainties because of the long reporting delays,
lack of historical data and the complexity of unresolved legal and regulatory
issues (see note 7 to the consolidated financial statements on page 56).
While it is management's judgment that, based on available information, the
appropriate level of liabilities have been recorded, it is reasonably possible
that a change in the estimate of the liability required could occur in the
near term.
In addition to liabilities for environmental claims, LNC has other areas where
changes in estimates of related liabilities required could occur in the near
term. These areas include claims for disability income coverages, liabilities
and recoveries related to inappropriate selling of pension products in the
United Kingdom, liabilities for marketing and compliance issues and the
reserve for the run-off of group pension annuities (see note 7 to the
consolidated financial statements on page 57).
The increase in other liabilities relates to an increase in the expected
payouts for security investments purchased in the last few days of 1996 versus
a lower volume of such transactions late in 1995.
Minority Interest - Preferred Securities of Subsidiary Companies
This line was added to the balance sheet following the financing activity
described within the Liquidity and Cash Flow section on page 33.
Shareholders' Equity
Total shareholders' equity increased $91.8 million during the year ended
December 31, 1996. Excluding the decrease of $263.5 million related to a
decline in the unrealized gain (loss) on securities available-for-sale,
shareholders' equity increased $358.0 million. This increase in shareholders'
equity was the net result of increases due to $513.6 million of net income,
$15.0 million from the gain on sale of a minority interest in a subsidiary,
$2.8 million from the issuance of common stock related to benefit plans, $53.1
million related to an increase in the accumulated foreign exchange gain and
decreases of $194.2 million related to the declaration of dividends to
shareholders and $35.0 million for the retirement of common stock.
Capital adequacy is a primary measure used by insurance regulators to
determine the financial stability of an insurance company. In the U.S., risk-
based capital guidelines are used by the National Association of Insurance
Commissioners to determine the amount of capital that represents minimum
acceptable operating amounts related to insurance and investment risks.
Regulatory action is triggered when an insurer's statutory-basis capital falls
below the formula-produced capital level. At December 31, 1996, statutory-
basis capital for each of LNC's U.S. life and property-casualty insurance
subsidiaries was substantially in excess of regulatory action levels of risk-
based capital required by the jurisdiction of domicile except for one
property-casualty company. This company is servicing a closed block of
business and therefore operates at minimum capital levels.
As noted above, shareholders' equity includes net unrealized gain (loss) on
securities available-for-sale. At December 31, 1996, the book value of $43.00
per share included $3.97 of unrealized gains on securities and at December 31,
1995, the book value of $41.89 per share included $6.68 of unrealized gains on
securities.
Both realized and unrealized gains or losses on investments that support long-
term life insurance, pension and annuity contracts are expected to be applied
to contract benefits. These realized and unrealized gains or losses are
included in net income and shareholders' equity, respectively. Current
accounting standards do not require or permit adjustment of policyholder
reserves to recognize the full effect of these realized and unrealized gains
or losses on future benefit payments in the absence of a contractual
obligation requiring their attribution to policyholders.
-29-
Market Risk Exposures of Financial Instruments
LNC analyzes and manages the risks arising from market exposures of financial
instruments, as well as other risks, in an integrated asset-liability
management process that takes diversification into account. By aggregating
the potential effect of market and other risks of the entire enterprise, LNC
estimates and manages the risk to its earnings and shareholder value. The
risks of market exposures of financial instruments, and the related risk
management processes, are most important in the Life Insurance and Annuities
segment. This segment is where most of the invested assets support
accumulation and investment oriented insurance products. As an important
element of its integrated asset-liability management process, LNC uses
derivatives to minimize the effects of changes in interest rate levels and the
shape of the yield curve. In this context, derivatives are designated as a
hedge and serve to reduce interest rate risk by mitigating the effect of
interest rate changes on LNC's stream of earnings. Additional market
exposures exist in LNC's other general account insurance products and in its
debt structure and derivatives positions. The primary sources of market risk
are: 1) substantial, relatively rapid and sustained increases or decreases in
interest rates; 2) a period of greater than normal default experience and; 3)
a sharp drop in equity market values, as discussed below. Specific market
risk exposures as they relate to derivatives are included in the Derivatives
section of Management's Discussion and Analysis on page 31.
Accumulation and Investment Oriented Insurance Products. General account
assets supporting accumulation and investment oriented insurance products
total $22.8 billion or 67% of total invested assets. With respect to these
products, LNC seeks to earn a stable and profitable spread between investment
income and interest credited to account values. If LNC has adverse experience
on investments that cannot be passed through to customers, its spreads are
reduced. The interest rate scenarios of concern are those in which there is a
substantial, relatively rapid increase or decrease in interest rates that is
then sustained over a long period.
Assets of $15.6 billion supports the biggest category of accumulation and
investment oriented insurance products, fixed deferred annuities. For these
products, LNC may adjust renewal crediting rates monthly or annually, subject
to guaranteed minimums ranging from 3.0% to 4.5%. The higher minimums apply
to in-force blocks of older products that no longer are sold. LNC has $3.6
billion in assets supporting universal life insurance on which it has the
right to adjust renewal crediting rates subject to guaranteed minimums ranging
from 4% to 5% at December 31, 1996. Annuity and universal life insurance
customers have the right to surrender their policies at account value less a
surrender charge that grades to zero over periods ranging from 5 to 10 years
from policy issue date or, in some cases, the date of each premium received.
LNC also has assets totaling $4.8 billion that support guaranteed interest
contracts, pension buy-out annuities and immediate annuities. Generally, the
cash flows expected on these liabilities do not vary with fluctuations in
market interest rates and are not adjustable by LNC. Accordingly, if
experience on the assets supporting these products is more adverse than the
assumptions used in pricing the products, spreads will tend to be below
expectations. LNC limits exposure to interest rate risk by managing the
duration and maturity structure of each investment portfolio in relation to
the liabilities it supports.
Other General Account Insurance Products. LNC also has $11.2 billion of
assets supporting general account products, including disability income,
property casualty insurance and term life insurance. For these products, the
liability cash flows may have actuarial uncertainty. However, their amounts
and timing do not vary significantly with interest rates. LNC limits interest
rate risk by analyzing the duration of the projected cash flows and
structuring investment portfolios with similar durations.
Debt. LNC has short-term and long-term debt of which $650.1 million is at
fixed rates and $165.2 million is at floating rates. LNC manages the timing
of maturities and the mixture of fixed-rate and floating-rate debt as part of
the process of integrated management of interest rate risk for the entire
enterprise.
Interest Rate Risk--Falling Rates. After rising in 1994, interest rates fell
in 1995 and rose again in 1996. For example, the five-year Treasury yield
rose from 5.2% to 7.8% during 1994 and fell back to 5.4% at the end of 1995
and increased to 6.2% by the end of 1996. Under scenarios in which interest
rates fall and remain at levels significantly lower than those prevailing at
December 31, 1996, minimum guarantees on annuity and universal life insurance
policies could cause spreads to deteriorate. Select contracts that specify
these minimum guarantees can be amended periodically to reflect current
-30-
interest rate conditions. The earned rate on the annuity and universal life
insurance portfolios averaged 7.8% and 7.9%, respectively, for the year ended
December 31, 1996, providing a cushion for further decline before the earned
rates would be insufficient to cover minimum guaranteed rates plus the target
spread. The maturity structure and call provisions of the related portfolios
are structured to afford protection against erosion of this cushion for a
period of time. However, spreads would be at risk if interest rates continued
to fall and remained lower for a long period. LNC manages these exposures by
maintaining a suitable maturity structure and by limiting its exposure to call
risk in each respective investment portfolio.
LNC believes that the portfolios supporting its accumulation and investment
oriented insurance products have a prudent degree of call protection in each
category of liability and on a consolidated basis. The mortgage-backed
securities ("MBS") portion of the portfolio, including collateralized mortgage
obligations ("CMOs"), represents a total of $4.4 billion or 19% of the $22.8
billion of general account assets supporting such products. LNC's MBS
portfolio has better call protection than the MBS pass-through market in
general. This is because of its 45% concentration in protected amortization
class CMOs.
Interest Rate Risk--Rising Rates. For both annuities and universal life
insurance, a rapid and sustained rise in interest rates poses risks of
deteriorating spreads and high surrenders. The portfolios supporting these
products have fixed-rate assets laddered over maturities generally ranging
from one to 10 years or more. Accordingly, the earned rate on each portfolio
lags behind changes in market yields. As rates rise, the lag may be increased
by slowing MBS prepayments. The greater and faster the rise in interest
rates, the more the earned rate will tend to lag behind market rates. If LNC
sets renewal crediting rates to earn the desired spread, the gap between its
renewal crediting rates and competitors' new money rates may be wide enough to
cause increased surrenders. If LNC credits more competitive renewal rates to
limit surrenders, its spreads will narrow. LNC devotes extensive effort to
evaluating these risks by simulating asset and liability cash flows for a wide
range of interest rate scenarios. Such analysis has led to adjustments in the
target maturity structure and to hedging the risk of rising rates by buying
out-of-the-money interest rate cap agreements and swaptions (see Derivatives
section of Management's Discussion and Analysis on page 31). With this hedge,
the potential adverse impact of a sustained rise in rates is kept within
corporate risk tolerances. LNC believes that the risks of rising interest
rates are also mitigated by its emphasis on periodic premium products.
Default Risk. In assessing the risk that the rate of default losses for each
category of asset may be higher than the rates assumed in pricing its
products, LNC considers the entire $34.0 billion portfolio of invested assets,
taking diversification into account. Of this total, $16.5 billion consists of
corporate bonds and $3.3 billion consists of commercial mortgages. LNC
manages the risk of adverse default experience on these investments by
applying disciplined credit evaluation and underwriting standards, prudently
limiting allocations to lower-quality, higher-yielding investments, and
diversifying exposures by issuer, industry, region and property type. For
each counter-party or borrowing entity and its affiliates, LNC's exposures
from all transactions are aggregated and managed in relation to formal limits
set by rating quality and industry group. LNC remains exposed to occasional
adverse cyclical economic downturns during which default rates may be
significantly higher than the long-term historical average used in pricing.
Equity Market Exposures. At December 31, 1996, LNC owned equities consisting
of $992.7 million of common stocks, $655.0 million of real estate and $198.9
million of other equity interests. While LNC invests in these categories with
the expectation of achieving higher returns than would be available in its
core fixed-income investments, the returns on, and values of, these equity
investments are subject to somewhat greater market risk than its fixed income
investments.
The fee revenues of LNC's Investment Management segment and fees earned from
variable annuities are exposed to the risk of a decline in equity market
values. Investment advisory fees are generally a fixed percentage of the
market value of assets under management. In a severe equity market decline,
fee income could be reduced by not only reduced market valuations but also by
customer withdrawals. Such withdrawals from equity funds and accounts might
be partially offset by transfers to LNC's fixed-income accounts and the
transfer of funds to LNC by its competitors' customers.
-31-
Derivatives
As indicated in note 7 to the consolidated financial statements (see page 59),
LNC has entered into derivative transactions to reduce its exposure to
interest rate fluctuations, the widening of bond yield spreads over comparable
maturity U.S. Government obligations, foreign exchange risk and fluctuations
in Financial Times Stock Exchange ("FTSE") index. A discussion of LNC's seven
significant programs using derivative agreements and contracts follows. Six
programs are used within the Life Insurance and Annuities segment and the
Reinsurance segment. The seventh program relates to foreign exchange risk on
an investment in a foreign subsidiary is used within Other Operations.
1) LNC uses interest rate cap agreements to hedge against the negative impact
of a significant and sustained rise in interest rates. Interest rate caps are
contracts that require counterparties to pay LNC at specified future dates the
amount, if any, by which a specified market interest rate exceeds the cap rate
stated in the agreements, applied to a notional amount. As of December 31,
1996, LNC had agreements with notional amounts of $5.5 billion with cap rates
ranging from 207 to 419 basis points above prevailing interest rates. These
agreements expire in 1997 - 2003. The cap rates in some contracts increase
over time.
2) LNC also uses swaptions to hedge against the negative impact of a
significant and sustained rise in interest rates. Swaptions are options to
enter into a swap at a specified future date. At expiration, the option is
either settled in cash or exercised into a swap agreement. LNC purchases
swaptions to be settled in cash. At expiration, the counterparty is required
to pay LNC the amount, if any, of the present value of the difference between
the fixed rate on a market rate swap and the strike, applied to a notional
amount. As of December 31, 1996, LNC had agreements with notional amounts of
$672 million with strike rates ranging from 178 to 241 basis points above
prevailing interest rates. These agreements expire in 2002.
For future periods the fair value of LNC's interest rate caps and swaptions
depends on the levels of interest rates on U.S. Treasury securities with
maturities of two, five, seven and 10 years and U.S. dollar swap rates with
five, seven and 10 year maturities. The table below analyzes fair value
levels at December 31, 1996 and for the next five years if the rates were 1%,
2%, 3%, or 4% higher than they were at December 31, 1996. In relation to the
level of these rates at December 31, 1996, the cap and swaption rates were
from 1.78% to 4.19% out of the money, i.e., higher. Fair value levels of
interest rate caps and swaptions under these scenarios are as follows:
Year Ended December 31 (in millions) 1996 1997 1998 1999 2000 2001
No change $ 18.5 $ 11.1 $ 5.6 $ 2.3 $ .7 $ .1
Up 1% 49.8 33.7 20.8 9.4 4.1 .9
Up 2% 107.7 77.0 55.7 35.8 17.4 8.0
Up 3% 202.1 149.6 114.6 95.0 62.5 37.8
Up 4% 334.2 260.2 201.1 172.0 125.7 88.4
3) LNC periodically uses spread-lock agreements to hedge a portion of the
value of its fixed maturity securities against the risk of widening in the
spreads between their yields and the yields of comparable maturity U.S.
Government obligations. The actual risk being hedged by these agreements is
the potential widening of bond spreads that would be caused by widening swap
spreads. Under these agreements, LNC assumed the right and the obligation to
enter into an interest rate swap at a future date in which LNC would pay a
fixed rate equal to a contractually specified spread over the yield of a
specified U.S. Treasury security and receive a floating rate. As of December
31, 1996, LNC did not have any open spread-lock agreements.
4) LNC uses exchange-traded financial futures contracts and options on
financial futures to hedge against interest rate risks and to manage duration
of a portion of its fixed maturity securities. Financial futures contracts
obligate LNC to buy or sell a financial instrument at a specified future date
for a specified price. They may be settled in cash or through delivery of the
financial instrument. Cash settlements on the change in market values of
financial futures contracts are made daily. Put options on a financial
futures contract give LNC the right, but not the obligation, to assume a long
or short position in the underlying futures contract at a specified price
during a specified time period.
At December 31, 1996, LNC had long positions in the March 1997 ten year note
futures with an aggregate face amount of $147.7 million. As the yields on the
underlying Treasury securities rise (fall), the value of these long positions
to LNC will decrease (increase) by approximately $.9 million for each 10 basis
point parallel shift in the yield curve.
-32-
5) LNC uses Over-the-Counter ("OTC") call options to hedge against the
increase of the FTSE index. These call options require the counterparties to
pay LNC at specified future expiration dates the amount, if any, of the
percentage increase in the FTSE index over the strike price defined in the
contract, applied to a notional amount. As of December 31, 1996, LNC had
agreements with notional amounts of $14.7 million. These options expire in
1997 - 2001.
6) LNC uses a combination of foreign exchange forward contracts, foreign
currency options, and foreign currency swaps to hedge some of the foreign
exchange risk related to its investments in fixed maturity securities
denominated in foreign currencies. The foreign currency forward contracts
obligate LNC to deliver a specified amount of currency at a future date at a
specified exchange rate. As of December 31, 1996, LNC had a short position in
foreign exchange forward contracts with a notional amount of $251.6 million.
Foreign currency options give LNC the right, but not the obligation, to buy or
sell a foreign currency at a specific exchange rate during a specified time
period. At December 31, 1996, LNC had long and short positions in foreign
currency options with notional amounts of $24.7 million and $25.5 million,
respectively.
A foreign currency swap is a contractual agreement to exchange the currencies
of two different countries pursuant to an agreement to re-exchange the two
currencies at the same rate of exchange at a specified future date. As of
December 31, 1996, LNC had a foreign currency swap with a notional amount of
$15 million.
The values of the foreign exchange contracts, foreign currency options and
foreign currency swaps, which are used to reduce the risk of reduction of the
value in U.S. dollars of investments denominated in foreign currencies that
might result from an adverse change in currency exchange rates, fluctuate
according to the underlying level of exchange rates. At December 31, 1996,
LNC had notional amounts of contracts in place of $316.8 million. If the U.S.
dollar were to appreciate (depreciate) 1% in relation to each of the
currencies involved in these contracts, the value of these positions would
rise (fall) by $3.2 million.
7) LNC periodically uses foreign exchange forward contracts to hedge against
foreign exchange risk related to LNC's investment in its British subsidiary,
Lincoln National (UK). The foreign exchange forward contracts obligate LNC to
deliver a specified amount of currency at a future date at a specified
exchange rate.
The value of the foreign exchange forward contracts at any given point
fluctuates according to the underlying level of exchange rate and interest
rate differentials. At December 31, 1996, LNC did not have any open foreign
exchange forward contracts related to its investment in subsidiary companies.
The first five programs discussed above are designed to help LNC achieve more
stable margins while providing competitive crediting rates to policyholders
during periods when interest rates are rising, corporate bond spreads are
widening or the FTSE index is rising. Failure to maintain competitive
crediting rates could cause policyholders to withdraw their funds and place
them in more competitive products. The other two programs discussed above are
designed to reduce LNC's risk related to changes in foreign currency exchange
rates.
LNC is depending on the ability of derivative product dealers and their
guarantors to honor their obligations to pay the contract amounts under
interest rate cap agreements and other over-the-counter derivative products
such as swaptions, spread-lock agreements, foreign currency exchange
contracts, foreign currency options, foreign currency swaps and call options.
In order to minimize the risk of default losses, LNC diversifies its exposures
among several dealers and limits the amount of exposure in accordance with the
credit rating of each dealer or its guarantor. LNC generally limits its
selection of counterparties that are obligated under these derivative
contracts to those with an A credit rating or above.
In addition to continuing existing programs, LNC may use derivative products
in other strategies to limit risk and enhance returns, particularly in the
management of investment spread businesses. LNC has established policies,
guidelines and internal control procedures for the use of derivatives as tools
to enhance management of the overall portfolio of risks assumed in LNC's
operations.
-33-
LIQUIDITY AND CASH FLOW
Liquidity refers to the ability of an enterprise to generate adequate amounts
of cash from its normal operations to meet cash requirements with a prudent
margin of safety. Because of the interval of time from receipt of a deposit
or premium until payment of benefits or claims, LNC and other insurers employ
investment portfolios as an integral element of operations. By segmenting its
investment portfolios along product lines, LNC enhances the focus and
discipline it can apply to managing the liquidity as well as the interest rate
and credit risk of each portfolio commensurate with the profile of the
liabilities. For example, portfolios backing products with less certain cash
flows and/or withdrawal provisions are kept more liquid than portfolios
backing products with more predictable cash flows.
The Consolidated Statements of Cash Flows on page 41 indicate that operating
activities provided cash of $1.2 billion, $1.9 billion and $1.2 billion in
1996, 1995 and 1994, respectively. This statement also classifies the other
sources and uses of cash by investing activities and financing activities and
discloses the amount of cash available at the end of the year to meet LNC's
obligations.
Although LNC generates adequate cash flow to meet the needs of its normal
operations, periodically LNC may issue debt or equity securities to fund
internal expansion, acquisitions, investment opportunities and the retirement
of LNC's debt and equity. As of December 31, 1996 LNC has a shelf
registration with an unused balance of $600 million that would allow LNC to
issue debt or equity securities. In 1996, LNC filed another shelf
registration for $500 million which included the right to offer various forms
of hybrid securities. These securities, which have a combination of both debt
and equity characteristics, utilize a series of three newly formed trusts.
All of these trusts' common securities are owned by LNC (Lincoln National
Capital I, II and III). As of December 31, 1996, LNC had an unused balance of
$185 million related to this hybrid security registration. Cash funds also are
available from LNC's revolving credit agreement, which provides for borrowing
up to $750 million (see note 5 to the consolidated financial statements on
page 52).
Recent transactions such as those described in the preceding paragraph include
LNC's purchase and retirement of 694,582 shares of common stock at a cost of
$35.0 million in the fourth quarter of 1996. After deducting these shares,
the current Board authorization would allow the repurchase of an additional
4,305,418 shares of common stock. Also, LNC issued $215 million, 8.75%
Quarterly Income Preferred Securities ("QUIPS") in July of 1996 and $100
million, 8.35% Trust Originated Preferred Securities ("TOPrS") in August of
1996. Both issues mature in 2026 (callable in 2001). These securities are
shown on the accompanying balance sheet between the liability and
shareholders' equity sections. Proceeds from these transactions were used to
pay down short-term debt and for general corporate purposes.
Another transaction which occurred in 1996 was the sale of 16.7% of the
principal subsidiary within the Property-Casualty segment. This transaction
was completed in the form of an initial public offering of common stock. The
net cash proceeds after expenses from the sale of common stock in this
subsidiary of $215.2 million is being used to support the capital base of the
property-casualty operations and to meet working capital needs of the related
holding company. In conjunction with this offering, this subsidiary issued
$200 million of term debt payable to LNC plus $100 million, 7 1/8% debt due in
1999. Also, prior to closing the sale, this subsidiary made a one-time,
special dividend distribution of $300 million to LNC. This dividend
distribution consisted primarily of tax-exempt municipal securities that were
previously in the subsidiary's investment portfolio. Following the completion
of the transaction, this subsidiary adopted a policy of declaring regular
quarterly cash dividends, commencing with $.21 per share in the third quarter
of 1996. As of December 31, 1996, LNC owns 50,000,000 of the 60,050,515
outstanding shares of this subsidiary.
-34-
In order to maximize the use of available cash, the holding company (Lincoln
National Corporation) maintains a facility where subsidiaries can borrow from
the holding company to meet their short-term needs and can invest their
short-term funds with the holding company. Depending on the overall cash
availability or need, the holding company invests excess cash in short-term
investments or borrows funds in the financial markets. In addition to
facilitating the management of cash, the holding company receives dividends
from its subsidiaries, invests in operating companies, maintains an investment
portfolio and pays shareholder dividends and certain corporate expenses.
Holding Company Cash Flow
Year Ended December 31 (in millions) 1996 1995 1994
Dividends from subsidiaries:
Lincoln Life ------------------------------------ $ 135.0 $ 310.0 $ 125.0
American States --------------------------------- 74.7 199.0 215.0
Other ------------------------------------------- 96.4 29.5 4.5
Net investment income ----------------------------- 4.3 2.9 1.2
Operating expenses -------------------------------- (44.6) (41.7) (33.7)
Interest ------------------------------------------ (67.8) (57.3) (44.3)
Net sales (purchases) of investments -------------- 91.2 16.6 (22.1)
Increase (decrease) in cash collateral on
loaned securities -------------------------------- (53.4) (4.5) 14.3
Additional investment in subsidiaries ------------- 217.8 (697.1) (2.7)
(Investment in) sale of unconsolidated affiliates - (16.0) 194.0 (103.5)
Net increase (decrease) in debt ------------------- (178.5) 217.1 15.9
Increase in receivables from subsidiaries --------- (36.0) (.3) (3.9)
Increase (decrease) in loans from subsidiaries ---- 28.2 (42.4) 271.8
Decrease (increase) in loans to subsidiaries ------ (303.5) (107.0) (20.5)
Federal income taxes received (paid) -------------- (143.8) (38.3) 65.6
Net tax receipts from (payments to) subsidiaries -- 122.3 61.5 (61.1)
Dividends paid to shareholders -------------------- (191.2) (178.8) (172.2)
Common stock issued for benefit plans ------------- (0.2) 24.1 30.0
Retirement of common stock ------------------------ (32.7) -- (18.4)
Other --------------------------------------------- (35.2) 56.4 20.5
Cash and invested cash - December 31 -------------- $ 133.8 $ 466.8 $ 523.1
Other investments - December 31 ------------------- 227.2 20.3 28.7
Debt - December 31 -------------------------------- 1,251.9 1,402.1 1,227.5
The table above shows the cash flow activity for the holding company from
1994 through 1996. The line, "net tax receipts from (payments to)
subsidiaries", recognizes that the holding company receives tax payments from
subsidiaries, pays the consolidated tax liability and reimburses subsidiaries
for the tax effect of any taxable operating and capital losses.
LNC's insurance subsidiaries are subject to certain insurance department
regulatory restrictions as to the transfer of funds and payments of dividends
to the holding company (see note 7 to the consolidated financial statements on
page 56). However, these restrictions pose no short-term liquidity concerns
for the holding company. The financial strength and stability of the
subsidiaries permit ready access to short-term or long-term credit sources for
the holding company.
Effect of Inflation
As indicated earlier in this review of consolidated operations, inflation
affects LNC's revenues and expenses. LNC's insurance affiliates, as well as
other companies in the insurance industry, attempt to minimize the effect of
inflation by anticipating inflationary trends in the pricing of their
products. Inflation, except for changes in interest rates, does not have a
significant effect on LNC's balance sheet due to the minimal amount of dollars
invested in property, plant and equipment and the absence of inventories.
-38-
Item 8. Financial Statements and Supplementary Data
Operating Results by Quarter
(in millions, except per share) 1st Qtr 2nd Qtr 3rd Qtr 4th Qtr
1996 Data
Premiums and other considerations --- $1,008.5 $1,041.7 $1,095.2 $1,081.9
Net investment income --------------- 560.7 572.7 587.9 644.6
Realized gain on investments -------- 71.3 29.5 1.8 25.5
Net income -------------------------- 140.0 111.4 119.3 142.9
Net income per share ---------------- $1.34 $1.07 $1.14 $1.37
1995 Data
Premiums and other considerations --- $ 909.6 $1,000.3 $1,032.7 $1,135.2
Net investment income --------------- 530.1 583.6 567.7 604.3
Realized gain on investments -------- 44.1 62.3 68.1 41.1
Gain on sale of affiliates/
operating property ----------------- -- -- -- 54.2
Net income(1) ----------------------- 134.8 117.9 154.3 75.2
Net income per share ---------------- $1.30 $1.13 $1.48 $ .72
(1) The fourth quarter of 1995 includes a change in estimate related to LNC's
disability income business (see note 2 to the consolidated financial
statements on page 45).
Consolidated Financial Statements
The consolidated financial statements of Lincoln National Corporation and
Subsidiaries follow on pages 36 through 68.
-36-
LINCOLN NATIONAL CORPORATION
CONSOLIDATED BALANCE SHEETS
December 31 (000s omitted) 1996 1995
ASSETS
Investments:
Securities available-for-sale, at fair value:
Fixed maturity
(cost: 1996-$26,830,704; 1995-$23,935,527) - $27,906,440 $25,834,476
Equity
(cost: 1996-$797,222; 1995-$936,124) ------- 992,702 1,164,844
Mortgage loans on real estate ---------------- 3,272,980 3,186,872
Real estate ---------------------------------- 655,024 775,912
Policy loans --------------------------------- 758,166 602,573
Other investments ---------------------------- 459,652 371,765
Total Investments -------------------------- 34,044,964 31,936,442
Investment in unconsolidated affiliates -------- 21,223 5,562
Cash and invested cash ------------------------- 1,231,724 1,572,855
Property and equipment ------------------------- 257,821 243,763
Deferred acquisition costs --------------------- 1,891,949 1,436,685
Premiums and fees receivable ------------------- 650,789 537,979
Accrued investment income ---------------------- 483,064 462,737
Assets held in separate accounts --------------- 28,809,137 22,769,068
Amounts recoverable from reinsurers ------------ 2,544,196 2,495,189
Goodwill --------------------------------------- 449,479 471,465
Other intangible assets ------------------------ 708,446 528,934
Other assets ----------------------------------- 620,613 797,054
Total Assets ----------------------------- $71,713,405 $63,257,733
See notes to the consolidated financial statements on pages 42 - 68.
-37-
LINCOLN NATIONAL CORPORATION
CONSOLIDATED BALANCE SHEETS
-CONTINUED-
December 31 (000s omitted) 1996 1995
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Policy liabilities and accruals:
Future policy benefits, claims
and claim expenses ------------------------- $13,331,098 $12,922,547
Unearned premiums --------------------------- 766,050 813,380
Total Policy Liabilities and Accruals ----- 14,097,148 13,735,927
Contractholder funds -------------------------- 21,176,963 18,784,508
Liabilities related to separate accounts ------ 28,809,137 22,769,068
Federal income taxes -------------------------- 33,736 128,426
Short-term debt ------------------------------- 188,960 426,848
Long-term debt -------------------------------- 626,311 659,303
Minority interest in consolidated
subsidiaries --------------------------------- 223,628 --
Other liabilities ----------------------------- 1,772,566 2,375,531
66,928,449 58,879,611
Company-Obligated Mandatorily Redeemable
Preferred Securities of Subsidiary Trusts
Holding Solely Junior Subordinated
Deferrable Interest Debentures of Company ---- 315,000 --
Shareholders' Equity:
Series A preferred stock
(1996 liquidation value - $2,951) ------------ 1,212 1,335
Common stock ---------------------------------- 857,450 889,476
Retained earnings ----------------------------- 3,129,249 2,775,718
Foreign currency translation adjustment ------- 66,454 13,413
Net unrealized gain (loss) on
securities available-for-sale ---------------- 415,591 698,180
Total Shareholders' Equity ---------------- 4,469,956 4,378,122
Total Liabilities and
Shareholders' Equity --------------------- $71,713,405 $63,257,733
See notes to the consolidated financial statements on pages 42 - 68.
-38-
LINCOLN NATIONAL CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
Year Ended December 31 (000s omitted) 1996 1995 1994
Revenue:
Insurance premiums ------------------ $3,181,999 $3,253,833 $3,624,648
Insurance fees ---------------------- 628,181 523,237 449,643
Investment advisory fees ------------ 180,792 125,593 --
Net investment income --------------- 2,365,922 2,251,281 1,994,651
Equity in earnings of
unconsolidated affiliates ---------- 1,428 12,361 14,652
Realized gain (loss) on investments - 128,052 215,623 (130,820)
Gain on sale of affiliates/
operating property ----------------- -- 54,195 48,842
Other ------------------------------- 234,896 197,133 178,234
Total Revenue --------------------- 6,721,270 6,633,256 6,179,850
Benefits and Expenses:
Benefits and settlement expenses ---- 3,921,278 4,113,143 4,195,243
Underwriting, acquisition,
insurance and other expenses ------- 2,003,007 1,821,022 1,558,806
Interest and debt expense ----------- 84,720 72,516 49,520
Total Benefits and Expenses ------- 6,009,005 6,006,681 5,803,569
Income Before Federal Income Taxes
and Minority Interest ------------ 712,265 626,575 376,281
Federal income taxes ------------------ 179,152 144,389 26,383
Income Before Minority Interest --- 533,113 482,186 349,898
Minority interest in consolidated
subsidiaries ------------------------- 19,555 -- --
Net Income ------------------------ $ 513,558 $ 482,186 $ 349,898
Earnings Per Share:
Net Income ---------------------------- $4.91 $4.63 $3.37
See notes to the consolidated financial statements on pages 42 - 68.
-39-
LINCOLN NATIONAL CORPORATION
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Year Ended December 31 (000s omitted) 1996 1995 1994
Preferred Stock:
Series A Preferred Stock:
Balance at beginning-of-year ----------- $ 1,335 $ 1,420 $ 1,553
Conversion into common stock ----------- (123) (85) (133)
Balance at End-of-Year --------------- 1,212 1,335 1,420
Series E and F Preferred Stock:
Balance at beginning-of-year ----------- -- 309,913 309,913
Conversion into common stock ----------- -- (309,913) --
Balance at End-of-Year --------------- -- -- 309,913
Common Stock:
Balance at beginning-of-year ------------ 889,476 555,382 543,659
Conversion of series A preferred stock -- 123 85 133
Conversion of series E and F
preferred stock ------------------------ -- 309,913 --
Issued for benefit plans ---------------- 7,597 26,888 30,616
Shares forfeited under benefit plans ---- (4,771) (2,792) (631)
Retirement of common stock -------------- (34,975) -- (18,395)
Balance at End-of-Year --------------- 857,450 889,476 555,382
Retained Earnings:
Balance at beginning-of-year ------------ 2,775,718 2,479,532 2,303,731
Net income ------------------------------ 513,558 482,186 349,898
Realized gain (loss) on sale of minority
interest in subsidiary ----------------- 34,121 -- --
Dividends declared:
Series A preferred stock -------------- (112) (123) (134)
Series E and F preferred stock -------- -- (8,532) (17,065)
Common stock -------------------------- (194,036) (177,345) (156,898)
Balance at End-of-Year --------------- 3,129,249 2,775,718 2,479,532
Foreign Currency Translation Adjustment:
Accumulated adjustment at
beginning-of-year ---------------------- 13,413 6,890 (1,214)
Change during the year ------------------ 53,041 6,523 8,104
Balance at End-of-Year --------------- 66,454 13,413 6,890
Net Unrealized Gain (Loss) on Securities
Available-for-sale:
Balance at beginning-of-year ----------- 698,180 (311,077) 914,679
Realized gain (loss) on sale of
minority interest in subsidiary ------ (19,101) -- --
Change during the year ----------------- (263,488) 1,009,257 (1,225,756)
Balance at End-of-Year --------------- 415,591 698,180 (311,077)
Total Shareholders' Equity
at End-of-Year ----------------------$4,469,956 $4,378,122 $3,042,060
See notes to the consolidated financial statements on pages 42 - 68.
-40-
LINCOLN NATIONAL CORPORATION
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY - continued
Year Ended December 31 (Number of Shares) 1996 1995 1994
Preferred Stock:
(10,000,000 shares authorized)
Series A Preferred Stock:
Balance at beginning-of-year -------- 40,646 43,218 47,289
Conversion into common stock -------- (3,761) (2,572) (4,071)
Balance Issued and Outstanding
at End-of-Year ------------------- 36,885 40,646 43,218
Series E and F Preferred Stock:
Balance at beginning-of-year ------- -- 4,417,897 4,417,897
Conversion into common stock ------- -- (4,417,897) --
Balance Issued and Outstanding
at End-of-Year ------------------ -- -- 4,417,897
Common Stock:
(800,000,000 shares authorized)
Balance at beginning-of-year ---------- 104,185,117 94,477,942 94,183,190
Conversion of series A preferred stock- 30,088 20,576 32,568
Conversion of series E and F
preferred stock ---------------------- -- 8,835,794 --
Issued for benefit plans -------------- 250,072 905,361 778,587
Shares forfeited under benefit plans -- (112,120) (54,556) (16,403)
Retirement of common stock ------------ (694,582) -- (500,000)
Balance Issued and Outstanding
at End-of-Year --------------------- 103,658,575 104,185,117 94,477,942
Common Stock (assuming conversion of
series A, E and F preferred stock):
End-of-Year -------------------------- 103,953,655 104,510,285 103,659,480
Average for the Year ----------------- 104,560,826 104,115,650 103,863,196
Dividends Per Share:
Series A preferred stock -------------- $3.00 $3.00 $3.00
Series E preferred stock -------------- -- 1.89 3.79
Series F preferred stock -------------- -- 1.97 3.94
Common stock -------------------------- 1.87 1.75 1.66
See notes to the consolidated financial statements on pages 42 - 68.
-41-
LINCOLN NATIONAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended December 31 (000s omitted) 1996 1995 1994
Cash Flows from Operating Activities:
Net income ------------------------------ $ 513,558 $ 482,186 $ 349,898
Adjustments to reconcile net income
to net cash provided by (used in)
operating activities:
Deferred acquisition costs ----------- 34,644 (44,990) (199,419)
Premiums and fees receivable --------- (113,022) (15,087) (7,777)
Accrued investment income ------------ (20,489) (41,268) (44,171)
Policy liabilities and accruals ------ (51,556) 147,989 11,487
Contractholder funds ----------------- 1,281,535 1,631,192 1,674,888
Amounts recoverable from reinsurers -- (110,752) (435,776) (776,408)
Federal income taxes ----------------- 31,335 268,338 (59,611)
Equity in undistributed earnings of
unconsolidated affiliates ----------- (1,428) (11,493) (12,408)
Minority interest in consolidated
subsidiaries ------------------------ 19,555 -- --
Provisions for depreciation ---------- 58,878 59,835 58,689
Amortization of goodwill and other
intangible assets ------------------- 87,442 74,229 9,274
Realized (gain) loss on investments -- (128,052) (300,840) 212,201
(Gain) loss on sale of affiliates/
operating property ------------------ -- (54,195) (48,842)
Other -------------------------------- (364,633) 160,180 14,365
Net Adjustments -------------------- 723,457 1,438,114 832,268
Net Cash Provided by
Operating Activities ------------- 1,237,015 1,920,300 1,182,166
Cash Flows from Investing Activities:
Securities available-for-sale:
Purchases ----------------------------- (14,310,549)(15,327,959)(13,383,236)
Sales --------------------------------- 13,324,606 14,253,858 10,352,938
Maturities ---------------------------- 1,048,306 1,051,471 1,106,687
Purchase of other investments ----------- (2,343,735) (1,770,790) (1,696,570)
Sale or maturity of other investments --- 2,195,664 1,103,380 1,755,113
Sale of affiliates ---------------------- -- 186,900 417,367
Purchase of affiliates/business --------- (71,593) (736,966) --
Increase (decrease) in cash collateral
on loaned securities ------------------- (97,257) (39,223) (149,597)
Other ----------------------------------- (150,972) (148,029) 94,566
Net Cash Used in Investing Activities - (405,530) (1,427,358) (1,502,732)
-42-
LINCOLN NATIONAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
Year Ended December 31 (000s omitted) 1996 1995 1994
Cash Flows from Financing Activities:
Principal payments on long-term debt ---- (35,074) (14,182) (142,065)
Issuance of long-term debt -------------- 2,082 197,785 199,482
Net increase (decrease) in
short-term debt ------------------------ (237,888) 25,785 (59,698)
Company-Obligated Mandatorily Redeemable
Preferred Securities of Subsidiary Trusts
Holding Solely Junior Subordinated
Deferrable Interest Debentures of Company 315,000 -- --
Universal life and investment
contract deposits ---------------------- 1,172,673 2,142,043 2,429,113
Universal life and investment
contract withdrawals ------------------- (2,380,187) (2,158,392) (1,613,780)
Common stock issued for benefit plans --- (565) 24,096 29,985
Retirement of common stock -------------- (32,716) -- (18,395)
Proceeds from sale of minority
interest in subsidiary ----------------- 215,182 -- --
Dividends paid to shareholders ---------- (191,223) (178,805) (172,157)
Net Cash Provided by (Used in)
Financing Activities ----------------- (1,172,616) 38,330 652,485
Net Increase (Decrease) in Cash ------- (341,131) 531,272 331,919
Cash at Beginning-of-Year --------------- 1,572,855 1,041,583 709,664
Cash at End-of-Year ------------------- $1,231,724 $1,572,855 $1,041,583
See notes to the consolidated financial statements on pages 42 - 68.
LINCOLN NATIONAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies
Basis of Presentation. The accompanying consolidated financial statements
include Lincoln National Corporation ("LNC") and its majority-owned
subsidiaries. Through subsidiary companies, LNC operates multiple insurance
and investment management businesses. Operations are divided into four
business segments (see note 9 on page 63). Less than majority-owned entities
in which LNC has at least a 20% interest are reported on the equity basis.
These consolidated financial statements have been prepared in conformity with
generally accepted accounting principles.
Use of Estimates. The nature of the insurance and investment management
businesses requires management to make estimates and assumptions that affect
the amounts reported in the consolidated financial statements and accompanying
notes. Actual results could differ from those estimates.
Investments. LNC classifies its fixed maturity and equity securities (common
and non-redeemable preferred stocks) as available-for-sale and, accordingly,
such securities are carried at fair value. The cost of fixed maturity
securities is adjusted for amortization of premiums and discounts. The cost
of fixed maturity and equity securities is adjusted for declines in value that
are other than temporary.
For the mortgage-backed securities portion of the fixed maturity securities
portfolio, LNC recognizes 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.
Mortgage loans on real estate are carried at the outstanding principal
balances less unaccrued discounts. Investment real estate is carried at cost
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less allowances for depreciation. The cost for both mortgage loans and real
estate and investment real estate is adjusted for declines in value that are
other than temporary. Also, allowances for losses are established, as
appropriate, for real estate holdings that are in the process of being sold.
Real estate acquired through foreclosure proceedings is recorded at fair value
on the settlement date which establishes a new cost basis. If a subsequent
periodic review of a foreclosed property indicates the fair value, less
estimated costs to sell, is lower than the carrying value at the settlement
date, the carrying value is adjusted to the lower amount. Any changes to the
reserves for mortgage loans on real estate and real estate are reported as
realized gain (loss) on investments.
Policy loans are carried at aggregate unpaid balances.
Cash and invested cash are carried at cost and include all highly liquid debt
instruments purchased with a maturity of three months or less.
Realized gain (loss) on investments is recognized in net income, net of
related amortization of deferred acquisition costs and capital gains expenses,
using the specific identification method. Changes in the fair values of
securities carried at fair value are reflected directly in shareholders'
equity, after deductions for related adjustments for deferred acquisition
costs and amounts required to satisfy policyholder commitments that would have
been recorded had these securities been sold at their fair value, and after
deferred taxes or credits to the extent deemed recoverable.
Realized gain (loss) on sale of affiliates/operating property, net of taxes,
is recognized in net income. Realized gain (loss) on sale of minority
interests in subsidiaries is reflected directly in shareholders' equity net of
deferred taxes, if any.
Derivatives. LNC hedges certain portions of its exposure to interest rate
fluctuations, the widening of bond yield spreads over comparable maturity U.S.
Government obligations, fluctuations in the Financial Times Stock Exchange
("FTSE") index and foreign exchange risk by entering into derivative
transactions. A description of LNC's accounting for its hedge of such risks
is discussed in the following two paragraphs.
The premiums paid for interest rate caps and swaptions are deferred and
amortized to net investment income on a straight-line basis over the term of
the respective derivative. Any settlement received in accordance with the
terms of the interest rate caps is also recorded as net investment income.
Settlements received on swaptions are deferred and amortized over the life of
the hedged assets as an adjustment to yield. Swaptions, spread-lock
agreements, interest rate swaps and financial futures that hedge fixed
maturity securities available-for-sale are carried at fair value. The change
in fair value is reflected directly in shareholders' equity. Realized gain
(loss) from the settlement of such derivatives is deferred and amortized over
the life of the hedged assets as an adjustment to the yield. Over-the-counter
call options are carried at fair value. Foreign exchange forward contracts,
which hedge LNC's investment in its British subsidiary, Lincoln National (UK),
are carried at fair value. The change in fair value and realized gain (loss)
on such contracts is reflected directly in the foreign currency translation
adjustment component of shareholders' equity. Foreign exchange forward
contracts, foreign currency options and foreign currency swaps, which hedge
some of the foreign exchange risk of investments in fixed maturity securities
denominated in foreign currencies, are carried at fair value. The change in
fair value is reflected in earnings. Realized gain (loss) from the settlement
of such derivatives is also reflected in earnings.
Hedge accounting is applied as indicated above after LNC determines that the
items to be hedged expose LNC to interest rate fluctuations, the widening of
bond yield spreads over comparable maturity U.S. Government obligations,
fluctuations in the FTSE index and foreign exchange risk. Moreover, the
derivatives used are designated as a hedge and reduce the indicated risk by
having a high correlation of changes in the value of the derivatives and the
items being hedged at both the inception of the hedge and throughout the hedge
period. Should such criteria not be met, the change in value of the
derivatives is included in net income.
Property and Equipment. Property and equipment owned for company use is
carried at cost less allowances for depreciation.
Premiums and Fees. Revenue for universal life and other interest-sensitive
life insurance policies consists of policy charges for the cost of insurance,
policy initiation and administration, and surrender charges that have been
assessed. Traditional individual life-health and annuity premiums are
-44-
recognized as revenue over the premium-paying period of the policies. Group
health and property-casualty premiums are prorated over the contract term of
the policies.
Investment Advisory Fees. As specified in the investment advisory agreements
with the mutual funds, fees are determined and recognized as revenues monthly,
based on the average daily net assets of the mutual funds managed. Investment
advisory contracts generally provide for the determination and payment of
advisory fees based on market values of managed portfolios at the end of a
calendar month or quarter. Investment management and advisory contracts are
renewable annually with cancellation clauses ranging from 30 to 90 days.
Assets Held in Separate Accounts/Liabilities Related to Separate Accounts.
These assets and liabilities represent segregated funds administered and
invested by LNC's insurance subsidiaries for the exclusive benefit of pension
and variable life and annuity contractholders. The fees received by LNC's
insurance subsidiaries for administrative and contractholder maintenance
services performed for these separate accounts are included in LNC's
consolidated statements of income.
Deferred Acquisition Costs. Commissions and other costs of acquiring
universal life insurance, variable universal life insurance, traditional life
insurance, unit-linked products, annuities, group health insurance and
property-casualty insurance which vary with and are primarily related to the
production of new business, have been deferred to the extent recoverable.
Acquisition costs for universal and variable universal life insurance policies
and unit-linked products are being amortized over the lives of the policies in
relation to the incidence of estimated gross profits from surrender charges
and investment, mortality, and expense margins, and actual realized gain
(loss) on investments. That amortization is adjusted retrospectively when
estimates of current or future gross profits to be realized from a group of
products are revised. Traditional life-health and annuity acquisition costs
are being amortized over the premium-paying period of the related policies
using assumptions consistent with those used in computing policy reserves.
Deferred acquisition costs for property-casualty policies are amortized over
the contract term of the policies. Property-casualty acquisition costs that
are not recoverable from future premiums and related investment income are
expensed.
Expenses. Expenses for universal and variable universal life insurance
policies include interest credited to policy account balances and benefit
claims incurred during the period in excess of policy account balances.
Interest crediting rates associated with funds invested in the insurance
company's general account during 1994 through 1996 ranged from 5.9% to 8.0%.
Interest and debt expense includes interest on Company-Obligated Mandatorily
Redeemable Preferred Securities of Subsidiary Trusts Holding Solely Junior
Subordinated Deferrable Interest Debentures of Company ("Minority Interest -
Preferred Securities of Subsidiary Companies").
Goodwill and Other Intangible Assets. The cost of acquired subsidiaries or
blocks of business in excess of the fair value of net assets (goodwill) is
amortized using the straight-line method over periods that generally
correspond with the benefits expected to be derived from the acquisitions.
Goodwill recorded subsequent to 1994 is amortized over 20 to 25 years.
Goodwill arising prior to 1995 is generally amortized over 40 years.
Other intangible assets includes the present value of business in-force that
is recorded in connection with the acquisition of an insurance company or a
block of policies. The initial value is determined actuarially by discounting
estimated future gross profits as a measure of the value of business in-force
purchased. The resulting asset is amortized on a constant yield basis over
the expected revenue recognition period of the business acquired, with the
accrual of interest added to the unamortized balance at rates ranging from 5%
to 9%.
Other intangible assets for the non-insurance subsidiaries (i.e.,
institutional customer relationships, covenants not to compete and mutual fund
customer relationships) have been recorded in connection with the acquisition
of an asset management services company. These assets are amortized on a
straight-line basis over 6 to 15 years.
The carrying value of goodwill and other intangible assets is reviewed
periodically for indicators of impairment in value.
Policy Liabilities and Accruals. The liabilities for future policy benefits
and expenses for universal and variable universal life insurance policies
consist of policy account balances that accrue to the benefit of the
policyholders, excluding surrender charges. The liabilities for future policy
benefits and expenses for traditional life policies and immediate and deferred
-45-
paid-up annuities are computed using a net level premium method and
assumptions for investment yields, mortality and withdrawals based principally
on company experience projected at the time of policy issue, with provision
for possible adverse deviations. Interest assumptions for traditional direct
individual life reserves for all policies range from 2.6% to 8.4% graded to
5.7% after 30 years depending on time of policy issue. Interest rate
assumptions for reinsurance reserves range from 5.0% to 11.0% graded to 8.0%
after 20 years. The interest assumptions for immediate and deferred paid-up
annuities range from 4.5% to 8.0%.
The liability for unpaid property-casualty claims is based on estimates of
payments to be made for individual claims reported and unreported claims,
reduced by estimated recoveries from salvage and subrogation. With respect to
its policy liabilities and accruals, LNC carries on a continuing review of
its: 1) overall reserve position; 2) reserving techniques and; 3) reinsurance
arrangements. As experience develops and new information becomes known,
liabilities are adjusted as deemed necessary. The effects of changes in
estimates are included in the operating results for the period in which such
estimates occur.
Reinsurance. LNC's insurance companies enter into reinsurance agreements with
other companies in the normal course of their business. LNC's insurance
subsidiaries may assume reinsurance from unaffiliated companies and/or cede
reinsurance to such companies. Assets/liabilities and premiums/benefits from
certain reinsurance contracts that grant statutory surplus to other insurance
companies have been netted on the balance sheets and income statements,
respectively, since there is a right of offset. All other reinsurance
agreements are reported on a gross basis.
Depreciation. Provisions for depreciation of investment real estate and
property and equipment owned for company use are computed principally on the
straight-line method over the estimated useful lives of the assets.
Postretirement Medical and Life Insurance Benefits. LNC accounts for its
postretirement medical and life insurance benefits using the full accrual
method.
Stock Options. LNC recognizes compensation expense for its stock option
incentive plans using the intrinsic value method of accounting. Under the
terms of the intrinsic value method, compensation cost is the excess, if any,
of the quoted market price of the stock at the grant date, or other
measurement date, over the amount an employee must pay to acquire the stock.
Foreign Exchange. LNC's foreign subsidiaries' balance sheet accounts and
income statement items are translated at the current exchange and average
exchange rates for the year, respectively. Resulting translation adjustments
are reported as a component of shareholders' equity. Other translation
adjustments for foreign currency transactions that affect cash flows are
reported in earnings.
2. Change in Estimate for Disability Income Reserve.
During the fourth quarter of 1995, LNC completed an in-depth review of the
experience of its disability income business. As a result of this study, and
based on the assumption that recent experience will continue in the future,
net income decreased by $121,600,000 or $1.17 per share ($187,000,000 pre-tax)
as a result of strengthening the disability income reserve by $142,700,000 and
writing-off deferred acquisition costs of $44,300,000 in the Reinsurance
segment.
3. Investments
The major categories of net investment income are as follows:
Year Ended December 31 (in millions) 1996 1995 1994
Fixed maturity securities --------------------- $1,937.6 $1,853.6 $1,614.9
Equity securities ----------------------------- 35.5 30.3 29.9
Mortgage loans on real estate ----------------- 295.8 272.0 277.2
Real estate ----------------------------------- 125.4 117.9 104.4
Policy loans ---------------------------------- 42.1 37.9 34.0
Invested cash --------------------------------- 54.3 49.2 39.1
Other investments ----------------------------- 36.8 43.2 54.5
Investment revenue -------------------------- 2,527.5 2,404.1 2,154.0
Investment expense ---------------------------- 161.6 152.8 159.4
Net investment income ----------------------- $2,365.9 $2,251.3 $1,994.6
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The realized gain (loss) on investments is as follows:
Year Ended December 31 (in millions) 1996 1995 1994
Fixed maturity securities available-for-sale:
Gross gain ----------------------------------- $ 219.5 $ 257.7 $ 87.8
Gross loss ----------------------------------- (214.1) (95.8) (331.2)
Equity securities available-for-sale:
Gross gain ----------------------------------- 206.9 160.6 92.6
Gross loss ----------------------------------- (54.2) (60.0) (80.8)
Other investments ----------------------------- 40.3 61.9 19.6
Related restoration or amortization of deferred
acquisition costs, provision for policyholder
commitments and capital gains expenses ------- (70.3) (108.8) 81.2
Total -------------------------------------- $ 128.1 $ 215.6 $(130.8)
Provisions (credits) for write-downs and net changes in allowances for loss,
which are included in the realized gain (loss) on investments shown above, are
as follows:
Year Ended December 31 (in millions) 1996 1995 1994
Fixed maturity securities --------------------- $ 12.3 $ 19.9 $ 19.5
Equity securities ----------------------------- 4.9 3.7 8.7
Mortgage loans on real estate ----------------- 3.1 14.2 18.2
Real estate ----------------------------------- 4.6 (9.2) 14.9
Other long-term investments ------------------- (0.8) (4.6) 1.7
Guarantees ------------------------------------ 0.2 (2.6) 2.5
Total --------------------------------------- $ 24.3 $ 21.4 $ 65.5
The change in unrealized appreciation (depreciation) on investments in fixed
maturity and equity securities is as follows:
Year Ended December 31 (in millions) 1996 1995 1994
Fixed maturity securities available-for-sale - $ (823.3) $2,448.9 $(2,295.1)
Equity securities available-for-sale --------- (33.2) 138.2 (93.3)
Total -------------------------------------- $ (856.5) $2,587.1 $(2,388.4)
The cost, gross unrealized gain and loss, and fair value of securities
available-for-sale are as follows:
Fair
December 31 (in millions) Cost Gain Loss Value
1996:
Corporate bonds -------------------- $15,934.2 $ 700.0 $ 95.9 $16,538.3
U.S. Government bonds -------------- 1,512.4 52.8 19.5 1,545.7
Foreign governments bonds ---------- 1,671.2 149.6 31.7 1,789.1
Mortgage-backed securities:
Mortgage pass-through securities - 1,331.3 28.8 7.0 1,353.1
Collateralized mortgage
obligations --------------------- 3,931.3 170.8 11.0 4,091.1
Other mortgage-backed securities - .8 .4 -- 1.2
State and municipal bonds ---------- 2,200.5 138.3 5.5 2,333.3
Redeemable preferred stocks -------- 249.0 7.6 2.0 254.6
Total fixed maturity securities -- 26,830.7 1,248.3 172.6 27,906.4
Equity securities ------------------ 797.2 240.2 44.7 992.7
Total ---------------------------- $27,627.9 $1,488.5 $ 217.3 $28,899.1
1995:
Corporate bonds -------------------- $14,011.4 $1,262.3 $ 31.2 $15,242.5
U.S. Government bonds -------------- 1,033.1 115.0 .1 1,148.0
Foreign governments bonds ---------- 1,273.2 98.6 9.7 1,362.1
Mortgage-backed securities:
Mortgage pass-through securities - 1,175.0 45.6 3.4 1,217.2
Collateralized mortgage
obligations --------------------- 4,089.0 266.9 3.8 4,352.1
Other mortgage-backed securities - 2.7 .4 .1 3.0
State and municipal bonds ---------- 2,238.1 154.0 2.0 2,390.1
Redeemable preferred stocks -------- 113.0 7.0 .5 119.5
Total fixed maturity securities -- 23,935.5 1,949.8 50.8 25,834.5
Equity securities ------------------ 936.1 232.4 3.7 1,164.8
Total ---------------------------- $24,871.6 $2,182.2 $ 54.5 $26,999.3
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Future maturities of fixed maturity securities available-for-sale are as
follows:
1996
Fair
December 31 (in millions) Cost Value
Due in one year or less ------------------------------ $ 585.1 $ 588.1
Due after one year through five years ---------------- 5,450.7 5,611.2
Due after five years through ten years --------------- 6,933.6 7,167.2
Due after ten years ---------------------------------- 8,597.9 9,094.5
Subtotal ------------------------------------------- 21,567.3 22,461.0
Mortgage-backed securities --------------------------- 5,263.4 5,445.4
Total ---------------------------------------------- $26,830.7 $27,906.4
The foregoing data is based on stated maturities. Actual maturities will
differ in some cases because borrowers may have the right to call or pre-pay
obligations.
At December 31, 1996, the current par, amortized cost and estimated fair value
of investments in mortgage-backed securities summarized by interest rates of
the underlying collateral are as follows:
Current Fair
December 31 (in millions) Par Cost Value
Below 7% ------------------------------- $ 123.3 $ 117.4 $ 117.2
7% - 8% -------------------------------- 1,881.1 1,840.4 1,855.9
8% - 9% -------------------------------- 1,840.0 1,786.9 1,847.3
Above 9% ------------------------------- 1,573.3 1,518.7 1,625.0
Total -------------------------------- $5,417.7 $5,263.4 $5,445.4
The quality ratings of fixed maturity securities available-for-sale are as
follows:
December 31 1996
Treasuries and AAA ----------------------------------- 32.8%
AA --------------------------------------------------- 10.0
A ---------------------------------------------------- 28.2
BBB -------------------------------------------------- 22.9
BB --------------------------------------------------- 2.7
Less than BB ----------------------------------------- 3.4
100.0%
Mortgage loans on real estate are considered impaired when, based on current
information and events, it is probable that LNC will be unable to collect all
amounts due according to the contractual terms of the loan agreement. When
LNC determines that a loan is impaired, the cost is adjusted or a provision
for loss is established equal to the difference between the initial cost of
the mortgage loan and the estimated value. Estimated value is based on: 1)
the present value of expected future cash flows discounted at the loan's
effective interest rate; 2) the loan's observable market price or; 3) the fair
value of the collateral. The provision for losses is reported as realized
gain (loss) on investments. Mortgage loans deemed to be uncollectible are
charged against the allowance for losses and subsequent recoveries, if any,
are credited to the allowance for losses.
The allowance for losses is maintained at a level believed adequate by
management to absorb estimated probable credit losses. Management's periodic
evaluation of the adequacy of the allowance for losses is based on LNC's past
loan loss experience, known and inherent risks in the portfolio, adverse
situations that may affect the borrower's ability to repay (including the
timing of future payments), the estimated value of the underlying collateral,
composition of the loan portfolio, current economic conditions and other
relevant factors. This evaluation is inherently subjective as it requires
estimating the amounts and timing of future cash flows expected to be received
on impaired loans that may be susceptible to significant change.
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Impaired loans along with the related allowance for losses are as follows:
December 31 (in millions) 1996 1995
Impaired loans with allowance for losses --------- $ 71.9 $150.9
Allowance for losses ----------------------------- (12.4) (29.6)
Impaired loans with no allowance for losses ------ 2.3 2.2
Net impaired loans ----------------------------- $ 61.8 $123.5
Impaired loans with no allowance for losses are a result of: 1) direct
write-downs or; 2) collateral dependent loans where the fair value of the
collateral is greater than the recorded investment in the loan.
A reconciliation of the mortgage loan allowance for losses for these impaired
mortgage loans is as follows:
Year Ended December 31 (in millions) 1996 1995 1994
Balance at beginning-of-year -------------------- $ 29.6 $ 62.7 $226.6
Provisions for losses --------------------------- 3.1 14.2 18.2
Releases due to write-downs --------------------- -- (11.9) --
Releases due to sales --------------------------- (19.9) (20.2) (163.2)
Releases due to foreclosures -------------------- (.4) (15.2) (18.9)
Balance at end-of-year ------------------------ $ 12.4 $ 29.6 $ 62.7
The average recorded investment in impaired loans and the interest income
recognized on impaired loans were as follows:
Year Ended December 31 (in millions) 1996 1995 1994
Average recorded investment in impaired loans --- $139.6 $189.6 $498.1
Interest income recognized on impaired loans ---- 12.7 16.9 38.3
All interest income on impaired loans was recognized on the cash basis of
income recognition.
As of December 31, 1996 and 1995, LNC had restructured loans of $39,600,000
and $62,500,000, respectively. LNC recorded $4,000,000 and $6,300,000 of
interest income on these restructured loans in 1996 and 1995, respectively.
Interest income in the amount of $4,000,000 and $6,600,000 would have been
recorded on these loans according to their original terms in 1996 and 1995,
respectively. As of December 31, 1996 and December 31, 1995, LNC had no
outstanding commitments to lend funds on restructured loans.
An investment in real estate is considered impaired when the projected
undiscounted cash flow from the investment is less than the carrying value.
When LNC determines that an investment in real estate is impaired, it is
written-down to reduce the carrying value to the estimated value.
As of December 31, 1996, LNC's investment commitments for fixed maturity
securities (primarily private placements), mortgage loans on real estate and
real estate were $388,100,000.
For the year ended December 31, 1996, fixed maturity securities available-for-
sale, mortgage loans on real estate and real estate investments which were
non-income producing were not significant.
The cost information for mortgage loans on real estate, real estate and other
long-term investments are net of allowances for losses. The balance sheet
account for other liabilities includes a reserve for guarantees of third-party
debt. The amount of allowances and reserves for such items is as follows:
December 31 (in millions) 1996 1995
Mortgage loans on real estate ------------------------- $12.4 $29.6
Real estate ------------------------------------------- 3.0 58.0
Other long-term investments --------------------------- -- 13.6
Guarantees -------------------------------------------- 1.8 7.1
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4. Federal Income Taxes
The Federal income tax expense (benefit) is as follows:
Year Ended December 31 (in millions) 1996 1995 1994
Current -------------------------------------- $158.9 $206.8 $(93.9)
Deferred ------------------------------------- 20.3 (62.4) 120.3
Total -------------------------------------- $179.2 $144.4 $ 26.4
The effective tax rate on pre-tax income is lower than the prevailing corpo-
rate Federal income tax rate. A reconciliation of this difference is as
follows:
Year Ended December 31 (in millions) 1996 1995 1994
Tax rate times pre-tax income ----------------- $249.3 $219.3 $131.7
Effect of:
Tax-exempt investment income ------------------ (66.5) (70.0) (74.0)
Loss (gain) on sale of affiliates/
operating property --------------------------- -- -- (17.1)
Other items ----------------------------------- (3.6) ( 4.9) (14.2)
Provision for income taxes ------------------ $179.2 $144.4 $ 26.4
Effective tax rate -------------------------- 25% 23% 7%
The Federal income tax recoverable (liability) is as follows:
December 31 (in millions) 1996 1995
Current ----------------------------------------------- $ 16.1 $ (7.2)
Deferred ---------------------------------------------- (49.8) (121.2)
Total ----------------------------------------------- $(33.7)$(128.4)
Significant components of LNC's net deferred tax asset (liability) are as
follows:
December 31 (in millions) 1996 1995
Deferred tax assets:
Policy liabilities and accruals and
contractholder funds --------------------------------- $ 966.1 $1,032.2
Net operating loss ------------------------------------ 90.0 120.7
Loss on investments ----------------------------------- -- 16.3
Postretirement benefits other than pensions ----------- 62.2 56.6
Other ------------------------------------------------- 108.7 91.7
Total deferred tax assets --------------------------- 1,227.0 1,317.5
Deferred tax liabilities:
Deferred acquisition costs ---------------------------- 431.4 415.0
Premiums and fees receivable -------------------------- 55.7 44.6
Gain on investments ----------------------------------- 35.1 --
Net unrealized gain on securities available-for-sale--- 425.4 717.0
Present value of business in-force -------------------- 220.4 148.7
Other ------------------------------------------------- 108.8 113.4
Total deferred tax liabilities ---------------------- 1,276.8 1,438.7
Net deferred tax asset (liability) ------------------ $ (49.8)$ (121.2)
Cash paid for Federal income taxes in 1996, 1995 and 1994 was $143,800,000,
$38,300,000 and $70,900,000, respectively. The cash paid in 1995 is net of a
$147,400,000 cash refund related to the carryback of 1994 capital losses to
prior years.
At December 31, 1996, LNC had net operating loss carryforwards of $149,900,000
for Federal income tax purposes related to its foreign life reinsurance
companies that expire in years 2005 through 2009. Delaware Management
Holdings, Inc. ("Delaware"), acquired in 1995, has net operating loss
carryforwards for Federal income tax purposes of $107,400,000 at December 31,
1996, which expire in the years 2002 through 2010. These carryforwards will
only be available to reduce the respective taxable income of the foreign life
reinsurance companies and Delaware.
Prior to 1984, a portion of the life companies' current income was not subject
to income tax, but was accumulated for income tax purposes in a memorandum
account designated as the "policyholders' surplus account". Due to changes in
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the tax law, the total of the life companies' balances in their respective
"policyholders' surplus accounts" have not increased since December 31, 1983.
However, the portion of current income on which income taxes have been paid
continues to accumulate in a memorandum account designated as the
"shareholders' surplus account", and this balance is available for dividends
to shareholders without additional payment of tax. The December 31, 1996
total of the life companies' account balances for their "shareholders' surplus
accounts" was $1,855,000,000. Should dividends to shareholders for each life
company exceed its respective "shareholders' surplus account", amounts would
be transferred from its respective "policyholders' surplus account" and would
be subject to Federal income tax at that time. Under existing or foreseeable
circumstances, LNC neither expects nor intends that distribution will be made
from the $213,600,000 "policyholders' surplus account" that would result in
any such tax. Accordingly, no provision for deferred income taxes has been
provided by LNC on its "policyholders' surplus account". In the event that
such excess distributions were made, it is estimated that income taxes of
approximately $74,800,000 would be due.
Undistributed earnings of certain LNC foreign subsidiaries that are considered
to be indefinitely reinvested amounted to approximately $135,000,000 at
December 31, 1996. Accordingly, no provisions for U.S. income taxes have been
provided on these undistributed earnings. Upon distribution of those earnings
in the form of dividends or otherwise, LNC would be subject to both U.S.
income taxes (with adjustments for foreign tax credits) and withholding taxes
payable to the applicable foreign countries. Determination of the amount of
unrecognized deferred U.S. income tax liability is not practicable because of
the complexities associated with its hypothetical calculations.
5. Supplemental Financial Data
The balance sheet captions, "Real Estate" and "Property and Equipment," are
shown net of allowances for depreciation and valuation allowances for
operating property held-for-sale as follows:
December 31 (in millions) 1996 1995
Real estate (allowances for depreciation) ----------- $ 44.1 $ 58.7
Property and equipment (allowances for depreciation)- 232.5 228.5
Property and equipment (valuation allowance) -------- 26.9 28.3
Details underlying the balance sheet caption, "Contractholder Funds," are as
follows:
December 31 (in millions) 1996 1995
Premium deposit funds ------------------------------- $20,894.7 $18,489.6
Undistributed earnings on participating business ---- 81.9 91.9
Other ----------------------------------------------- 200.4 203.0
Total --------------------------------------------- $21,177.0 $18,784.5
A reconciliation of the present value of business in-force for LNC's insurance
subsidiaries included in other intangible assets is as follows:
December 31 (in millions) 1996 1995 1994
Balance at beginning-of-year ----------------- $407.4 $ 38.0 $ 67.7
Acquisitions of insurance companies/business - 163.5 388.7 --
Divestitures of insurance companies ---------- -- -- (25.5)
Interest accrued on unamortized balance ------ 37.9 30.7 3.6
Amortization of asset ------------------------ (47.6) (50.0) (7.8)
Foreign Exchange Adjustment ------------------ 41.1 -- --
Balance at end-of-year --------------------- 602.4 407.4 38.0
Other intangible assets (non-insurance) ------ 106.0 121.5 4.8
Total other intangible assets
at end-of-year ---------------------------- $708.4 $528.9 $ 42.8
Future estimated amortization of the present value of business in-force net of
interest on unamortized balance for LNC's insurance subsidiaries is as follows
(in millions):
1997 - $22.7 1999 - $24.2 2001 - $27.9
1998 - 24.4 2000 - 25.0 Thereafter - 478.2
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A reconciliation of the beginning-of-year and end-of-year liability for
property-casualty claims and claim expenses is as follows:
December 31 (in millions) 1996 1995 1994
Total liability reported at beginning-of-year -- $2,595.3 $2,702.5 $2,810.1
Reinsurance recoverable ------------------------ 189.0 203.1 225.5
Liability for claims and claim expenses
at beginning-of-year, net of reinsurance --- 2,406.3 2,499.4 2,584.6
Plus:
Provision for claims and claim expenses arising
in the current year, net of reinsurance ------- 1,245.6 1,234.0 1,340.6
Decrease in estimated claims and claim expenses
arising in prior years, net of reinsurance ---- (43.2) (24.5) (78.2)
Total incurred claims and claim expenses,
net of reinsurance ------------------------- 1,202.4 1,209.5 1,262.4
Less:
Claims and claim expense payments arising
in the current year, net of reinsurance ------- 654.0 613.2 619.4
Payments for claims and claim expenses
arising in prior years, net of reinsurance ---- 648.9 689.4 728.2
Total payments, net of reinsurance ---------- 1,302.9 1,302.6 1,347.6
Total liability for claims and claim expenses
at end-of-year, net of reinsurance --------- 2,305.8 2,406.3 2,499.4
Reinsurance recoverable ------------------------ 179.8 189.0 203.1
Total liability reported at end-of-year ----- $2,485.6 $2,595.3 $2,702.5
The reconciliation shows a decrease of $43,200,000, $24,500,000, and
$78,200,000 to the December 31, 1995, 1994 and 1993 liability for claims and
claim expenses, respectively, arising in prior years. Such reserve
adjustments, which affected current operations during 1996, 1995 and 1994,
respectively, resulted from developed claims for prior years being different
than anticipated when liabilities for claims and claim expenses were
originally estimated. The favorable development trends are reflective of the
changes in underwriting practices adopted during the last few years. These
development trends have been considered in establishing current year reserves.
Details underlying the balance sheet captions, "Short-term and Long-term
Debt," are as follows:
December 31 (in millions) 1996 1995
Short-term debt:
Commercial paper ------------------------------------ $164.5 $301.9
Other short-term notes ------------------------------ .7 123.4
Current portion of long-term debt ------------------- 23.8 1.5
Total short-term debt ----------------------------- $189.0 $426.8
Long-term debt less current portion:
7 1/8% notes payable, due 1999 ---------------------- $ 99.5 $ 99.4
7 5/8% notes payable, due 2002 ---------------------- 99.3 99.2
7 1/4% notes payable, due 2005 ---------------------- 199.1 199.0
9 1/8% notes payable, due 2024 ---------------------- 199.1 199.1
Mortgages and other notes payable ------------------- 29.3 62.6
Total long-term debt ------------------------------ $626.3 $659.3
The commercial paper outstanding at December 31, 1996 and 1995, had a weighted
average interest rate of approximately 5.87% and 6.00%, respectively.
Future maturities of long-term debt are as follows (in millions):
1997 - $ 23.8 1999 - $100.7 2001 - $ 1.1
1998 - 27.3 2000 - .7 Thereafter - 500.4
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LNC maintains a revolving credit agreement with a group of domestic and
foreign banks in the aggregate amount of $750,000,000. This agreement, which
expires in October 2001, provides for interest on borrowings based on various
money market indices. Under the terms of this agreement, debt levels must
remain below 45% of adjusted consolidated net worth if debt ratings fall below
a prescribed level. LNC's current debt ratings are above this prescribed
level. Also, LNC must maintain a prescribed level of adjusted consolidated
net worth. At December 31, 1996, LNC had no outstanding borrowings under this
agreement. During 1996, 1995 and 1994, fees paid for maintaining revolving
credit agreements amounted to $715,000, $649,000, and $1,000,000,
respectively.
Cash paid for interest for 1996, 1995 and 1994 was $79,900,000, $73,200,000,
and $47,900,000, respectively.
Reinsurance transactions included in the income statement caption, "Insurance
Premiums," are as follows:
Year Ended December 31 (in millions) 1996 1995 1994
Insurance assumed --------------------------- $1,374.0 $1,297.6 $1,159.9
Insurance ceded ----------------------------- 376.6 448.7 482.9
Net reinsurance premiums ------------------ $ 997.4 $ 848.9 $ 677.0
The income statement caption, "Benefits and Settlement Expenses," is net of
reinsurance recoveries of $292,900,000, $422,600,000 and $284,000,000 for the
years ended December 31, 1996, 1995 and 1994, respectively.
The income statement caption, "Underwriting, Acquisition, Insurance and Other
Expenses," includes amortization of deferred acquisition costs of
$766,500,000, $687,300,000 and $598,300,000 for the years ended December 31,
1996, 1995 and 1994, respectively. An additional $(65,200,000), $(85,200,000)
and $81,200,000 of deferred acquisition costs was restored (amortized) and
netted against "Realized Gain (Loss) on Investments" for the years ended
December 31, 1996, 1995 and 1994, respectively.
6. Employee Benefit Plans
Pension Plans - U.S. LNC maintains funded defined benefit pension plans for
most of its U.S. employees and, prior to January 1, 1995, full-time agents.
The benefits for employees are based on total years of service and the highest
60 months of compensation during the last 10 years of employment. The
benefits for agents were based on a percentage of each agent's yearly
earnings. The plans are funded by contributions to tax-exempt trusts. LNC's
funding policy is consistent with the funding requirements of Federal law and
regulations. Contributions are intended to provide not only the benefits
attributed to service to date, but also those expected to be earned in the
future. Plan assets consist principally of listed equity securities,
corporate obligations and government bonds.
All benefits applicable to the funded defined benefit plan for agents were
frozen as of December 31, 1994. The curtailment of this plan did not have a
significant effect on net pension cost for 1994. Effective January 1, 1995,
pension benefits for agents have been provided by a new defined contribution
plan. Contributions to this plan are based on 2.3% of an agent's earnings up
to the social security wage base and 4.6% of any excess.
LNC also sponsors three types of unfunded, nonqualified, defined benefit plans
for certain U.S. employees, agents and directors. A supplemental retirement
plan provides defined benefit pension benefits in excess of limits imposed by
Federal tax law. A salary continuation plan provides certain officers of LNC
defined pension benefits based on years of service and final monthly salary
upon death or retirement. A retirement plan for outside directors provides
benefits based on years of service and the amount of the retainer paid during
the last year of service. Due to the adoption of a value sharing plan in
1996, no additional retainer fees are being added to this retirement plan for
outside directors.
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The status of the funded defined benefit pension plans and the amounts
recognized on the balance sheets are as follows:
December 31 (in millions) 1996 1995
Actuarial present value of benefit obligation:
Vested benefits ---------------------------------------- $(399.2) $(369.7)
Nonvested benefits ------------------------------------- (16.3) (20.8)
Accumulated benefit obligation ----------------------- (415.5) (390.5)
Effect of projected future compensation increases ------ (95.1) (99.4)
Projected benefit obligation ------------------------- (510.6) (489.9)
Plan assets at fair value ------------------------------ 486.8 449.6
Projected benefit obligations in
excess of plan assets ------------------------------- (23.8) (40.3)
Unrecognized net loss ---------------------------------- 21.7 43.2
Unrecognized prior service cost ------------------------ 2.7 3.0
Prepaid (accrued) pension cost included in
other liabilities ----------------------------------- $ 0.6 $ 5.9
The status of the unfunded defined benefit pension plans and the amounts
recognized on the balance sheets are as follows:
December 31 (in millions) 1996 1995
Actuarial present value of benefit obligation:
Vested benefits --------------------------------------- $(27.6) $(25.4)
Nonvested benefits ------------------------------------ (3.1) (3.3)
Accumulated benefit obligation ---------------------- (30.7) (28.7)
Effect of projected future compensation increases ----- (6.9) (7.5)
Projected benefit obligation ------------------------ (37.6) (36.2)
Unrecognized transition obligation -------------------- .1 .2
Unrecognized net loss --------------------------------- 5.5 7.3
Unrecognized prior service cost ----------------------- .4 .4
Accrued pension cost included in other liabilities -- $(31.6) $(28.3)
The determination of the projected benefit obligation for the defined benefit
plans was based on the following assumptions:
December 31 1996 1995 1994
Weighted-average discount rate ---------------------- 7.0% 7.0% 8.0%
Rate of increase in compensation:
Salary continuation plan ---------------------------- 5.5 6.0 6.5
All other plans ------------------------------------- 4.5 5.0 5.0
Expected long-term rate of return on plan assets ---- 9.0 9.0 9.0
The components of net pension cost for the defined benefit pension plans are
as follows:
Year Ended December 31 (in millions) 1996 1995 1994
Service cost-benefits earned during the year -------- $21.0 $17.0 $22.1
Interest cost on projected benefit obligation ------- 35.0 32.0 30.0
Actual return on plan assets ------------------------ (45.6) (82.4) 9.7
Net amortization (deferral) ------------------------- 7.7 52.4 (40.2)
Net pension cost ---------------------------------- $18.1 $19.0 $21.6
Pension Plan - Non U.S. The employees of LNC's primary foreign subsidiary are
covered by a defined benefit pension plan. The plan provides death and
pension benefits based on final pensionable salary. At December 31, 1996 and
1995, plan assets exceeded the projected benefit obligations by $9,076,000 and
$9,020,000, respectively, and were included in other assets in LNC's balance
sheet. Net pension costs for the foreign plan were $1,544,000, $1,727,000 and
$633,000, for 1996, 1995 and 1994, respectively.
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401(k) Plans. LNC also sponsors contributory defined contribution plans for
eligible U.S. employees and agents. LNC's contributions to the plans are
equal to a participant's pre-tax contribution, not to exceed 6% of base pay,
multiplied by a percentage, ranging from 25% to 150%, which varies according
to certain incentive criteria as determined by LNC's Board of Directors.
Expense for these plans amounted to $25,400,000, $20,700,000 and $29,400,000
in 1996, 1995 and 1994, respectively.
Postretirement Medical and Life Insurance Benefit Plans. LNC sponsors unfunded
defined benefit plans that provide postretirement medical and life insurance
benefits to full-time U.S. employees and agents who, depending on the plan,
have worked for LNC 10 to 15 years and attained age 55 to 60. Medical
benefits are also available to spouses and other dependents of employees and
agents. For medical benefits, limited contributions are required from
individuals retired prior to November 1, 1988. Contributions for later
retirees, which can be adjusted annually, are based on such items as years of
service at retirement and age at retirement. Life insurance benefits are
noncontributory, however, participants can elect supplemental contributory
benefits.
The status of the postretirement medical and life insurance benefit plans and
the amount recognized on the balance sheet are as follows:
December 31 (in millions) 1996 1995
Accumulated postretirement benefit obligation:
Retirees -------------------------------------------- $ (73.8) $ (88.7)
Fully eligible active plan participants ------------- (22.9) (24.2)
Other active plan participants ---------------------- (40.1) (40.0)
Accumulated postretirement benefit obligation ----- (136.8) (152.9)
Unrecognized gain ----------------------------------- (25.9) (6.3)
Accrued plan cost included in other liabilities --- $(162.7) $(159.2)
The components of periodic postretirement benefit cost are as follows:
Year Ended December 31 (in millions) 1996 1995 1994
Service cost ------------------------------------------- $ 3.9 $ 3.1 $ 4.3
Interest cost ------------------------------------------ 9.0 9.7 10.4
Amortized cost (credit) -------------------------------- (1.8) (2.0) .3
Net periodic postretirement benefit cost ------------- $11.1 $10.8 $15.0
The calculation of the accumulated postretirement benefit obligation assumes a
weighted-average annual rate of increase in the per capita cost of covered
benefits (i.e. health care cost trend rate) of 8.5% for 1997. It further
assumes the rate will gradually decrease to 5.0% by 2005 and remain at that
level. The health care cost trend rate assumption has a significant effect on
the amounts reported. For example, increasing the assumed health care cost
trend rates by one percentage point each year would increase the accumulated
postretirement benefit obligation as of December 1996 and 1995 by $9,900,000
and $11,100,000, respectively. The aggregate of the estimated service and
interest cost components of net periodic postretirement benefit cost for the
year ended December 31, 1996 would increase by $1,100,000. The calculation
assumes a long-term rate of increase in compensation of 4.5% and 5.0% for
December 31, 1996 and 1995, respectively. The weighted-average discount rate
used in determining the accumulated postretirement benefit obligation was 7.0%
for both December 31, 1996 and 1995.
Incentive Plans. LNC has various incentive plans for key employees, agents
and directors of LNC and its subsidiaries that provide for the issuance of
stock options, stock appreciation rights, restricted stock awards and stock
incentive awards. These plans are comprised primarily of stock option
incentive plans. Stock options granted under the stock option incentive plans
are at the market value at the date of grant and, subject to termination of
employment, expire 10 years from the date of grant. Such options are
transferable only upon death and are exercisable one year from date of grant
for options issued prior to 1992. Options issued subsequent to 1991 are
exercisable in 25% increments on the option issuance anniversary in the four
years following issuance.
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Financial Accounting Standard No. 123 entitled "Accounting for Stock-Based
Compensation" ("FAS 123") issued in October 1995, was adopted by LNC as of
December 31, 1995. Pursuant to the provisions of FAS 123, LNC has elected to
continue its practice of recognizing compensation expense for its stock option
incentive plans using the intrinsic value based method of accounting (see note
1 on page 45) and to provide the required pro forma information for stock
options granted after December 31, 1994. Accordingly, no compensation expense
has been recognized for stock option incentive plans. Had compensation
expense for LNC's stock option incentive plans for options granted after
December 31, 1994 been determined based on the estimated fair value at the
grant dates for awards under those plans, LNC's pro forma net income and
earnings per share for 1996 and 1995 would have been $510,518,000 ($4.88 per
share) and $479,814,000 ($4.61 per share), respectively (a decrease of
$3,040,000 or $.03 per share and $2,372,000 or $.02 per share, respectively).
The effects on 1996 and 1995 pro forma net income and earnings per share of
expensing the estimated fair value of stock options are not necessarily
representative of the effects on reported net income for future years due to
factors such as the vesting period of the stock options and the potential for
issuance of additional stock options in future years.
The fair value of options granted after December 31, 1994, used as a basis for
the above pro forma disclosures, was estimated as of the date of grant using a
Black-Scholes option pricing model. For 1996, the option pricing assumptions
include a dividend yield of 4.1%; an expected volatility of 18%; a risk-free
interest rate of 6.5% and an expected life of 5 years. For 1995, the option
pricing assumptions include a dividend yield of 4.4%; an expected volatility
of 22%; a risk-free interest rate of 6.3% and an expected life of 5 years.
The weighted-average fair values per option granted during 1996 and 1995 were
$7.35 and $7.15, respectively.
Information with respect to the incentive plans involving stock options is as
follows:
Options Outstanding
Weighted-
Shares Average
Available Exercise
for Grant Shares Price
Balance at January 1, 1994 1,332,618 2,441,852 $28.80
Additional authorized ---------- 7,650,000
Granted ------------------------ (442,100) 442,100 39.49
Exercised ---------------------- -- (122,963) 25.43
Expired ------------------------ (7,000) -- --
Forfeited ---------------------- 105,203 (88,800) 33.76
Restricted stock awarded ------- (215,707)
Balance at December 31, 1994 - 8,423,014 2,672,189 30.56
Granted ------------------------ (510,150) 510,150 42.57
Exercised ---------------------- -- (313,612) 25.70
Expired ------------------------ (5,273) (275) 19.97
Forfeited ---------------------- 175,446 (36,172) 34.64
Restricted stock awarded ------- (335,126)
Balance at December 31, 1995 - 7,747,911 2,832,280 33.21
Granted ------------------------ (636,500) 636,500 45.69
Exercised ---------------------- -- (273,967) 26.68
Expired ------------------------ (1,600) (1,000) 27.75
Forfeited ---------------------- 151,818 (38,650) 36.03
Restricted stock awarded ------- (55,538)
Balance at December 31, 1996 - 7,206,091 3,155,163 36.29
Shares under options that were exercisable are as follows:
December 31 1996 1995 1994
Options exercisable
(number of shares) ----------- 1,833,269 1,647,872 1,615,839
Weighted-average exercise
price (per share) ------------ $31.22 $28.56 $26.34
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Information with respect to incentive plan stock options outstanding at
December 31, 1996 is as follows:
Options Outstanding Options Exercisable
Weighted-
Average Weighted- Number Weighted-
Range of Number Out- Remaining Average Exercisable Average
Exercise standing at Contractual Exercise at Exercise
Prices Dec 31, 1996 Life (Years) Price Dec 31, 1996 Price
$10-$20 51,690 .96 $19.25 51,690 $19.25
21- 30 1,080,811 3.64 25.91 1,080,811 25.91
31- 40 899,976 5.96 39.58 565,261 39.63
41- 50 1,095,236 8.78 44.22 135,257 43.04
51- 60 27,450 9.38 52.23 250 52.85
$10-$60 3,155,163 1,833,269
Restricted stock (non-vested stock) awarded from 1994 through 1996 was as
follows:
Year Ended December 31 1996 1995 1994
Restricted stock (number of shares) ------------ 55,538 335,126 215,707
Weighted-average price per share at time
of grant -------------------------------------- $46.16 $41.09 $40.56
7. Restrictions, Commitments and Contingencies
Statutory Information and Restrictions
Net income as determined in accordance with statutory accounting practices for
LNC's insurance subsidiaries was as follows:
Year Ended December 31 (in millions) 1996 1995 1994
Life-health insurance --------------------- $399.7 $314.0 $411.7
Property-casualty insurance --------------- 161.4 182.0 167.9
Life-health insurance statutory net income for 1996, 1995 and 1994, excluding
LNC's foreign life reinsurance companies, was $357,800,000, $350,400,000 and
$411,100,000, respectively.
Shareholders' equity as determined in accordance with statutory accounting
practices for LNC's insurance subsidiaries was as follows:
December 31 (in millions) 1996 1995
Life-health insurance --------------------- $2,080.5 $1,908.5
Property-casualty insurance --------------- 919.7 1,004.2
The National Association of Insurance Commissioners is involved in a multi-year
project to examine and challenge the appropriateness of current statutory
accounting principles. This project could result in changes to statutory
accounting practices that could cause changes to the statutory net income and
shareholders' equity data shown above.
LNC's insurance subsidiaries are subject to certain insurance department
regulatory restrictions as to the transfer of funds and payments of dividends
to LNC. In 1997, LNC's insurance subsidiaries can transfer up to $584,000,000
without seeking prior approval from the insurance regulators.
Environmental Losses
Total property-casualty liabilities for unpaid claims and claim expenses were
$2,486,000,000 and $2,595,000,000 at December 31, 1996 and 1995, respectively.
These liabilities include amounts for environmental losses of $265,000,000 and
$256,000,000, respectively. In establishing liabilities for claims and claim
expenses related to environmental matters, management considers facts
currently known and the current state of the law and coverage litigation.
Liabilities are recognized for known claims (including the cost of related
litigation) when sufficient information has been developed to indicate the
involvement of a specific insurance policy and management can reasonably
estimate its liability. Liabilities also have been established to cover
additional exposures on both known and unasserted claims. Estimates of the
liabilities are reviewed and updated continually. Developed case law and
adequate claim history do not exist for a portion of LNC's environmental
exposure, especially because significant uncertainty exists about the outcome
of coverage litigation and whether past claims experience will be
representative of future claims experience. Accordingly, although management
believes the estimated reserve provided for environmental losses is adequate,
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it is reasonably possible that a change in estimate of required reserve levels
could occur in the near term. It is not possible to provide a meaningful
estimate of a range of possible outcomes at this time.
Disability Income Claims
The liability for disability income claims net of the related asset for
amounts recoverable from reinsurers at December 31, 1996 and 1995 is a net
liability of $1,561,000,000 and $1,541,000,000, respectively, excluding
deferred acquisition costs. This liability is based on the assumption that
recent experience will continue in the future. If incidence levels or claim
termination rates vary significantly from this assumption, adjustments to
reserves may be required in the future. Accordingly, this liability may prove
to be deficient or excessive. However, it is management's opinion that such
future development will not materially affect the consolidated financial
position of LNC. LNC reviews and updates the level of these reserves on an
ongoing basis (see note 2 on page 45).
United Kingdom Pension Products
Operations in the U.K. include the sale of pension products to individuals.
Regulatory agencies have raised questions as to what constitutes appropriate
advice to individuals who bought pension products as an alternative to
participation in an employer sponsored plan. In cases of inappropriate
advice, LNC may have to do extensive investigation and put the individual in a
position similar to what would have been attained if the individual had
remained in the employer sponsored plan. Liabilities of $86,700,000, which
are net of expected recoveries, have been established for the estimated cost
of this issue following regulatory guidance as to activities to be undertaken.
These liabilities were booked net of expected recoveries of $31,400,000 from
previous owners of companies acquired over the last few years as specified in
the indemnification clauses of the purchase agreements. These liabilities and
recoveries are based on various estimates that are subject to considerable
uncertainty. Accordingly, these liabilities may prove to be deficient or
excessive. However, it is management's opinion that such future development
will not materially affect the consolidated financial position of LNC.
Marketing and Compliance Issues
Regulators continue to focus on market conduct and compliance issues. Under
certain circumstances companies operating in the insurance and financial
services markets have been held responsible for providing incomplete or
misleading sales materials and for replacing existing policies with policies
that were less advantageous to the policyholder. LNC's management continues
to monitor the company's sales materials and compliance procedures and is
making an extensive effort to minimize any potential liability. However, due
to the uncertainty surrounding such matters, it is not possible to provide a
meaningful estimate of the range of potential outcomes at this time.
Group Pension Annuities
The liabilities for guaranteed interest and group pension annuity contracts,
which are no longer sold by LNC, are supported by a single portfolio of assets
that attempts to match the duration of these liabilities. Due to the long-term
nature of group pension annuities and the resulting inability to exactly
match cash flows, a risk exists that future cash flows from investments will
not be reinvested at rates as high as currently earned by the portfolio.
Accordingly, these liabilities may prove to be deficient or excessive.
However, it is management's opinion that such future development will not
materially affect the consolidated financial position of LNC.
Leases
Certain of LNC's subsidiaries lease their home office properties through
sale-leaseback agreements. The agreements provide for a 25 year lease period
with options to renew for six additional terms of five years each. The
agreements also provide LNC with the right of first refusal to purchase the
properties during the term of the lease, including renewal periods, at a price
defined in the agreements. LNC also has the option to purchase the leased
properties at fair market value as defined in the agreements on the last day
of the initial 25-year lease period ending in 2009 or the last day of any of
the renewal periods.
Total rental expense on operating leases in 1996, 1995 and 1994 was
$71,600,000, $65,600,000 and $51,400,000, respectively. Future minimum rental
commitments are as follows (in millions):
1997 - $53.4 1999 - $48.0 2001 - $ 43.6
1998 - 49.3 2000 - 46.2 Thereafter - 328.8
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Insurance Ceded and Assumed
LNC's insurance companies cede insurance to other companies. The portion of
risks exceeding each company's retention limit is reinsured with other
insurers. LNC seeks reinsurance coverage within the business segments that
sell life insurance to limit its liabilities. Industry regulations prescribe
the maximum coverage that LNC can retain on an individual insured. As of
December 31, 1996, LNC's maximum retention on a single insured was $3,000,000.
Portions of LNC's deferred annuity business have also been co-insured with
other companies to limit its exposure to interest rate risks. At December 31,
1996, the reserves associated with these reinsurance arrangements totaled
$1,817,100,000. Effective January 1, 1997, catastrophe reinsurance
arrangements for property-casualty coverages provided for a recovery of an
average of approximately 90% of losses in excess of $30,000,000 up to
$180,000,000 per occurrence. To cover products other than life and property-
casualty insurance, LNC acquires other insurance coverages with retentions and
limits that management believes are appropriate for the circumstances. The
accompanying financial statements reflect premiums, benefits and settlement
expenses and deferred acquisition costs, net of insurance ceded (see note 5 on
page 52). LNC's insurance companies remain liable if their reinsurers are
unable to meet contractual obligations under applicable reinsurance
agreements.
Certain LNC insurance companies assume insurance from other companies. At
December 31, 1996, LNC's insurance companies have provided $828,300,000 of
statutory surplus relief to other insurance companies under reinsurance
transactions. Generally, such amounts are offset by corresponding receivables
from the ceding company, which are secured by future profits on the reinsured
business. However, LNC's insurance companies are subject to the risk that the
ceding company may become insolvent and the right of offset would not be
permitted.
Associated with these transactions, LNC's foreign insurance companies have
obtained letters of credit in favor of various unaffiliated insurance
companies from which LNC assumes business. This allows the ceding companies
to take statutory reserve credit. The letters of credit issued by the banks
represent a guarantee of performance under the reinsurance agreements. At
December 31, 1996, there was a total of $453,000,000 in outstanding bank
letters of credit. In exchange for the letters of credit, LNC paid the banks
approximately $758,000 in fees in 1996.
Vulnerability from Concentrations
At December 31, 1996, LNC did not have a material concentration of financial
instruments in a single investee, industry or geographic location. Also at
December 31, 1996, LNC did not have a concentration of: 1) business
transactions with a particular customer, lender or distributor; 2) revenues
from a particular product or service; 3) sources of supply of labor or
services used in the business or; 4) a market or geographic area in which
business is conducted that makes it vulnerable to an event that is at least
reasonably possible to occur in the near term and which could cause a severe
impact to LNC's financial condition, except for the market and geographic
concentration described in the following paragraph.
LNC writes personal and commercial lines of property and casualty insurance
throughout the United States. As a result, LNC is always at risk that there
could be significant losses arising in certain geographic areas from
catastrophes such as earthquakes and hurricanes. LNC seeks to protect itself
from such events by purchasing catastrophe insurance. LNC's policies in-force
providing earthquake, hurricane and related coverage in the Midwest, Western
and Southeastern coastal areas of the United States could expose LNC to losses
exceeding its reinsurance limits. Although the exposure exists, LNC has not
encountered losses in excess of its reinsurance limits during any year.
Other Contingency Matters
LNC and its subsidiaries are involved in various pending or threatened legal
proceedings arising from the conduct of business. In some instances, these
proceedings include claims for unspecified or substantial punitive damages and
similar types of relief in addition to amounts for alleged contractual
liability or requests for equitable relief. After consultation with legal
counsel and a review of available facts, it is management's opinion that these
proceedings ultimately will be resolved without materially affecting the
consolidated financial position of LNC.
The number of insurance companies that are under regulatory supervision has
resulted, and is expected to continue to result, in assessments by state
guaranty funds to cover losses to policyholders of insolvent or rehabilitated
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companies. Mandatory assessments may be partially recovered through a
reduction in future premium taxes in some states. LNC has accrued
for expected assessments net of estimated future premium tax deductions.
Guarantees
LNC has guarantees with off-balance-sheet risks whose contractual amounts
represent credit exposure. Outstanding guarantees with off-balance-sheet
risks, shown in notional or contract amounts along with their carrying value
and estimated fair values, are as follows:
Assets (Liabilities)
Notional or Carrying Fair Carrying Fair
Contract Amounts Value Value Value Value
December 31 (in millions) 1996 1995 1996 1996 1995 1995
Industrial revenue bonds ------ $ 36.4 $ 63.5 $(1.8) -- $ (7.1) $ --
Real estate partnerships ------ 3.5 6.4 -- -- -- --
Mortgage loan pass-through
certificates ----------------- 50.3 63.6 -- -- -- --
Total guarantees ----------- $ 90.2 $133.5 $(1.8) -- $ (7.1) $ --
Certain subsidiaries of LNC have invested in real estate partnerships which
use industrial revenue bonds to finance their projects. LNC has guaranteed
the repayment of principal and interest on these bonds. Certain subsidiaries
of LNC are also involved in other real estate partnerships that use
conventional mortgage loans. In some cases, the terms of these arrangements
involve guarantees by each of the partners to indemnify the mortgagor in the
event a partner is unable to pay its principal and interest payments. In
addition, certain subsidiaries of LNC have sold commercial mortgage loans
through grantor trusts which issued pass-through certificates. These
subsidiaries have agreed to repurchase any mortgage loans which remain
delinquent for 90 days at a repurchase price substantially equal to the
outstanding principal balance plus accrued interest thereon to the date of
repurchase. It is management's opinion that the value of the properties
underlying these commitments is sufficient that in the event of default the
impact would not be material to LNC.
Derivatives
LNC has derivatives with off-balance-sheet risks whose notional or contract
amounts exceed the credit exposure. LNC has entered into derivative
transactions to reduce its exposure to fluctuations in interest rates, the
widening of bond yield spreads over comparable maturity U.S. Government
obligations, fluctuations in the FTSE index and foreign exchange risks. In
addition, LNC is subject to the risks associated with changes in the value of
its derivatives; however, such changes in the value generally are offset by
changes in the value of the items being hedged by such contracts. Outstanding
derivatives with off-balance-sheet risks, shown in notional or contract
amounts along with their carrying value and estimated fair values, are as
follows:
Assets (Liabilities)
Notional or Carrying Fair Carrying Fair
Contract Amounts Value Value Value Value
December 31 (in millions) 1996 1995 1996 1996 1995 1995
Interest rate derivatives:
Interest rate cap agreements -- $5,500.0 $5,110.0 $20.8 $8.2 $22.7 $ 5.3
Swaptions --------------------- 672.0 -- 10.6 10.6 -- --
Spread-lock agreements -------- -- 600.0 -- -- (.9) (.9)
Financial futures ------------- 147.7 106.7 (2.4) (2.4) 5.1 5.1
Interest rate swaps ----------- -- 5.0 -- -- .2 .2
Total interest rate
derivatives ---------------- 6,319.7 5,821.7 29.0 16.4 27.1 9.7
Equity indexed derivatives:
Call options ------------------ 14.7 13.3 10.5 10.5 8.0 8.0
Foreign currency derivatives:
Forward exchange forward contracts:
Foreign subsidiary ----------- -- 398.8 -- -- (5.4) (5.4)
Foreign investments ---------- 251.6 15.7 (.2) (.2) (.6) (.6)
Foreign currency options ------ 50.2 99.2 (.3) (.3) 1.9 1.4
Foreign currency swaps -------- 15.0 15.0 (2.1) (2.1) .4 .4
Total foreign currency
derivatives --------------- 316.8 528.7 (2.6) (2.6) (3.7) (4.2)
Total derivatives ---------- $6,651.2 $6,363.7 $36.9 $24.3 $31.4 $13.5
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A reconciliation and discussion of the notional or contract amounts for the
significant programs using derivative agreements and contracts is as follows:
Interest Spread-Lock
Rate Caps Swaptions Agreements
December 31
(in millions) 1996 1995 1996 1995 1996 1995
Balance at beginning
- -of-year -------------- $5,110.0 $4,400.0 $ -- $ -- $ 600.0 $1,300.0
New contracts --------- 1,183.0 710.0 1,161.1 -- 15.0 800.0
Terminations and
maturities ----------- (793.0) -- (489.1) -- (615.0) (1,500.0)
Balance at end-
of-year -------------- $5,500.0 $5,110.0 $ 672.0 $ -- $ -- $ 600.0
Financial Futures
Contracts Options Call Options
December 31
(in millions) 1996 1995 1996 1995 1996 1995
Balance at beginning
- -of-year ------------ $ 106.7 $ 382.5 $ -- $ -- $ 13.3 $ --
New contracts ------- 7,578.9 1,328.2 -- 181.6 -- 13.8
Terminations and
maturities ---------- (7,537.9) (1,604.0) -- (181.6) -- --
Foreign Exchange
Adjustment ---------- -- -- -- -- 1.4 (.5)
Balance at end-
of-year ------------- $ 147.7 $ 106.7 $ -- $ -- $ 14.7 $ 13.3
Foreign Currency Derivatives (Foreign Investments)
Forward Exchange Foreign Foreign
Forward Currency Currency
Contracts Options Swaps
December 31
(in millions) 1996 1995 1996 1995 1996 1995
Balance at beginning
- -of-year ---------- $ 15.7 $ 21.2 $ 99.2 $ -- $15.0 $ --
New contracts ----- 406.7 131.1 1,168.6 356.6 -- 15.0
Terminations and
maturities ------- (170.8) (136.6) (1,217.6) (257.4) -- --
Balance at end-
of-year ---------- $251.6 $ 15.7 $ 50.2 $ 99.2 $15.0 $15.0
Foreign Exchange Forward
Contracts (Foreign Subsidiary)
December 31 (in millions) 1996 1995
Balance at beginning-of-year ------------------ $ 398.8 $ 138.3
New contracts --------------------------------- 255.5 709.2
Terminations and maturities ------------------- (654.3) (448.7)
Balance at end-of-year ---------------------- $ -- $ 398.8
Interest Rate Caps. The interest rate cap agreements, which expire in 1997
through 2003, entitle LNC to receive payments from the counterparties on
specified future reset dates, contingent on future interest rates. For each
cap, the amount of such quarterly payments, if any, is determined by the
excess of a market interest rate over a specified cap rate multiplied by the
notional amount divided by four. The purpose of LNC's interest rate cap
agreement program is to protect its annuity line of business from the effect
of fluctuating interest rates. The premium paid for the interest rate caps is
included in other assets ($20,800,000 as of December 31, 1996) and is being
amortized over the terms of the agreements. This amortization is included in
net investment income.
Swaptions. Swaptions, which expire in 2002, entitle LNC to receive settlement
payments from the counterparties on specified expiration dates, contingent on
future interest rates. For each swaption, the amount of such settlement
payments, if any, is determined by the present value of the difference between
the fixed rate on a market rate swap and the strike rate multiplied by the
notional amount. The purpose of LNC's swaption program is to protect the
assets supporting its annuity line of business from the effect of fluctuating
interest rates. The premium paid for the swaptions is included in other
assets ($11,000,000 as of December 31, 1996) and is being amortized over the
terms of the agreements. This amortization is included in net investment
income.
Spread-Lock Agreements. Spread-lock agreements provide for a lump sum payment
to or by LNC, depending on whether the spread between the swap rate and a
specified U.S. Treasury note is larger or smaller than a contractually
specified spread. Cash payments are based on the product of the notional
amount, the spread between the swap rate and the yield of an equivalent
maturity U.S. Treasury security, and the price sensitivity of the swap at that
time. It is expressed in dollars-per-basis point. The purpose of LNC's
spread-lock program is to protect a portion of its fixed maturity securities
against widening spreads.
Financial Futures. LNC uses exchange-traded financial futures contracts and
options on those financial futures to hedge against interest rate risks and to
manage duration of a portion of its fixed maturity securities. Financial
futures contracts obligate LNC to buy or sell a financial instrument at a
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specified future date for a specified price. They may be settled in cash or
through delivery of the financial instrument. Cash settlements on the change
in market values of financial futures contracts are made daily. Options on
financial futures give LNC the right, but not the obligation, to assume a long
or short position in the underlying futures at a specified price during a
specified time period.
Call Options. Call options which expire in 1997 through 2001, provide LNC
with settlement payments from the counterparties on specified expiration
dates. The payment, if any, is the percentage increase in the FTSE index over
the strike price defined in the contract, applied to a notional amount. The
purpose of LNC's call option program is to offset the cost of increases in the
liabilities of certain single premium investment contracts which are tied to
the FTSE index.
Foreign Currency Derivatives (Foreign Investments). LNC uses a combination of
foreign exchange forward contracts, foreign currency options and foreign
currency swaps, all of which are traded over-the-counter, to hedge some of the
foreign exchange risk of investments in fixed maturity securities denominated
in foreign currencies. The foreign currency forward contracts obligate LNC to
deliver a specified amount of currency at a future date at a specified
exchange rate. Foreign currency options give LNC the right, but not the
obligation, to buy or sell a foreign currency at a specified exchange rate
during a specified time period. A foreign currency swap is a contractual
agreement to exchange the currencies of two different countries pursuant to an
agreement to re-exchange the two currencies at the same rate of exchange at a
specified future date.
Foreign Exchange Forward Contracts (Foreign Subsidiary). LNC historically has
used foreign exchange forward contracts, which were traded over-the-counter,
to hedge the foreign exchange risk assumed with its investment in its U.K.
subsidiary, Lincoln National (UK). LNC hedged its exposure to sterling in
excess of $100,000,000 of its investment in Lincoln National (UK). The
foreign exchange forward contracts obligated LNC to deliver a specified amount
of currency at a future date at a specified exchange rate. LNC terminated
these contracts in the third quarter of 1996.
Additional Derivative Information. Expenses for the agreements and contracts
described above amounted to $8,000,000 and $9,100,000 in 1996 and 1995,
respectively. Deferred losses of $33,500,000 as of December 31, 1996, were
the result of: 1) terminated and expired spread-lock agreements and; 2)
financial futures contracts. These losses are included with the related fixed
maturity securities to which the hedge applied and are being amortized over
the life of such securities.
LNC is exposed to credit loss in the event of nonperformance by counterparties
on interest rate cap agreements, swaptions, spread-lock agreements, interest
rate swaps, call options, foreign exchange forward contracts, foreign currency
options and foreign currency swaps. However, LNC does not anticipate
nonperformance by any of the counterparties. The credit risk associated with
such agreements is minimized by purchasing such agreements from financial
institutions with long-standing, superior performance records. The amount of
such exposure is essentially the net replacement cost or market value for such
agreements with each counterparty if the net market value is in LNC's favor.
At December 31, 1996, the exposure was $28,000,000.
8. Fair Value of Financial Instruments
The following discussion outlines the methodologies and assumptions used to
determine the estimated fair value of LNC's financial instruments.
Considerable judgment is required to develop these fair values. Accordingly,
the estimates shown are not necessarily indicative of the amounts that would
be realized in a one-time, current market exchange of all of LNC's financial
instruments.
Fixed Maturity and Equity Securities. Fair values for fixed maturity
securities are based on quoted market prices, where available. For fixed
maturity securities not actively traded, fair values are estimated using
values obtained from independent pricing services. In the case of private
placements, fair values are estimated by discounting expected future cash
flows using a current market rate applicable to the coupon rate, credit
quality and maturity of the investments. The fair values for equity
securities are based on quoted market prices.
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Mortgage Loans on Real Estate. The estimated fair value of mortgage loans on
real estate was established using a discounted cash flow method based on
credit rating, maturity and future income when compared to the expected yield
for mortgages having similar characteristics. The ratings for mortgages in
good standing are based on property type, location, market conditions,
occupancy, debt service coverage, loan to value, caliber of tenancy, borrower
and payment record. Fair values for impaired mortgage loans are based on: 1)
the present value of expected future cash flows discounted at the loan's
effective interest rate; 2) the loan's market price or; 3) the fair value of
the collateral if the loan is collateral dependent.
Policy Loans. The estimated fair value of investments in policy loans was
calculated on a composite discounted cash flow basis using Treasury interest
rates consistent with the maturity durations assumed. These durations were
based on historical experience.
Other Investments, and Cash and Invested Cash. The carrying value for assets
classified as other investments, and cash and invested cash in the
accompanying balance sheets approximates their fair value.
Investment Type Insurance Contracts. The balance sheet captions, "Future
Policy Benefits, Claims and Claim Expenses" and "Contractholder Funds,"
include investment type insurance contracts (i.e. deposit contracts and
guaranteed interest contracts). The fair values for the deposit contracts and
certain guaranteed interest contracts are based on their approximate surrender
values. The fair values for the remaining guaranteed interest and similar
contracts are estimated using discounted cash flow calculations. These
calculations are based on interest rates currently offered on similar
contracts with maturities that are consistent with those remaining for the
contracts being valued.
The remainder of the balance sheet captions "Future Policy Benefits, Claims
and Claim Expenses" and "Contractholder Funds" that do not fit the definition
of "investment type insurance contracts" are considered insurance contracts.
Fair value disclosures are not required for these insurance contracts and have
not been determined by LNC. It is LNC's position that the disclosure of the
fair value of these insurance contracts is important because readers of these
financial statements could draw inappropriate conclusions about LNC's
shareholders' equity determined on a fair value basis. It could be misleading
if only the fair value of assets and liabilities defined as financial
instruments are disclosed. LNC and other companies in the insurance industry
are monitoring the related actions of the various rule-making bodies and
attempting to determine an appropriate methodology for estimating and
disclosing the "fair value" of their insurance contract liabilities.
Short-term and Long-term Debt. Fair values for long-term debt issues are
estimated using discounted cash flow analysis based on LNC's current
incremental borrowing rate for similar types of borrowing arrangements. For
short-term debt, the carrying value approximates fair value.
Minority Interest - Preferred Securities of Subsidiary Companies. Fair values
for minority interest-preferred securities of subsidiary companies are based
on quoted market prices less the unamortized cost of issue.
Guarantees. LNC's guarantees include guarantees related to industrial revenue
bonds, real estate partnerships and mortgage loan pass-through certificates.
Based on historical performance where repurchases have been negligible and the
current status, which indicates none of the loans are delinquent, the fair
value liability for the guarantees related to the mortgage loan pass-through
certificates is insignificant.
Derivatives. LNC's derivatives include interest rate cap agreements,
swaptions, spread-lock agreements, foreign currency exchange contracts,
financial futures contracts, options on financial futures, interest rate
swaps, call options, foreign currency options and foreign currency swaps.
Fair values for these contracts are based on current settlement values. These
values are based on: 1) quoted market prices for the foreign currency exchange
contracts, financial futures contracts and options on financial futures and;
2) brokerage quotes that utilized pricing models or formulas using current
assumptions for all other swaps and agreements.
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Investment Commitments. Fair values for commitments to make investments in
fixed maturity securities (primarily private placements), mortgage loans on
real estate and real estate are based on the difference between the value of
the committed investments as of the date of the accompanying balance sheets
and the commitment date. These estimates would take into account changes in
interest rates, the counterparties' credit standing and the remaining terms of
the commitments.
The carrying values and estimated fair values of LNC's financial instruments
are as follows:
Carrying Fair Carrying Fair
Value Value Value Value
December 31 (in millions) 1996 1996 1995 1995
Assets (liabilities/minority interests):
Fixed maturities securities -------- $27,906.4 $27,906.4 $25,834.5 $25,834.5
Equity securities ------------------ 992.7 992.7 1,164.8 1,164.8
Mortgage loans on real estate ------ 3,273.0 3,386.3 3,186.9 3,371.9
Policy loans ----------------------- 758.2 747.1 602.6 594.7
Other investments ------------------ 459.7 459.7 371.8 371.8
Cash and invested cash ------------- 1,231.7 1,231.7 1,572.9 1,572.9
Investment type insurance contracts:
Deposit contracts and certain
guaranteed interest contracts --- (18,710.5)(18,328.5)(15,620.2)(15,410.2)
Remaining guaranteed interest
and similar contracts ----------- (2,539.0) (2,508.7) (3,024.0) (3,125.1)
Short-term debt -------------------- (189.0) (189.0) (426.8) (426.8)
Long-term debt --------------------- (626.3) (622.7) (659.3) (713.4)
Minority interest-preferred
securities of subsidiary companies- (315.0) (315.7) -- --
Guarantees ------------------------- (1.8) -- (7.1) --
Derivatives ------------------------ 36.9 24.0 31.4 13.5
Investment commitments ------------- -- .3 -- .8
As of December 31, 1996 and 1995, the carrying value of the deposit contracts
and certain guaranteed contracts is net of deferred acquisition costs of
$176,000,000 and $336,000,000, respectively, excluding adjustments for
deferred acquisition costs applicable to changes in fair value of securities.
The carrying values of these contracts are stated net of deferred acquisition
costs so that they are comparable with the fair value basis.
9. Segment Information
LNC has four business segments: Life Insurance and Annuities, Reinsurance,
Property-Casualty and Investment Management. The Life Insurance and Annuities
segment offers annuities, universal life, pension products and other
individual coverages through a network of career agents, independent general
agencies, and insurance agencies located within a variety of financial
institutions. These products are sold throughout the United States. Similar
products are offered within the United Kingdom through sales representatives.
Reinsurance sells reinsurance products and services to insurance companies,
HMOs, self-funded employers and other primary risk accepting organizations in
the U.S. and economically attractive international markets. Effective in the
fourth quarter of 1995, operating results of the direct disability income
business previously included in the Life Insurance and Annuities segment, were
included in the Reinsurance segment. This direct disability income business,
which is no longer being sold, is now managed by the Reinsurance segment along
with its own disability income business. The Property-Casualty segment writes
both commercial and personal coverages throughout most of the United States
through a network of independent agencies. The Investment Management segment
offers a variety of asset management services to institutional and retail
customers primarily throughout the United States. Activity which is not
included in the major business segments is shown as "Other Operations."
"Other Operations" includes operations not directly related to the business
segments and unallocated corporate items (i.e., corporate investment income,
interest expense on corporate debt and unallocated overhead expenses). LNC's
other operations also included: 1) the equity in the earnings of a 29% owned
unconsolidated affiliate engaged in the life-health benefit business prior to
the sale of this interest in 1995 and, 2) the earnings of its investment
management companies prior to the formation of the Investment Management
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segment in April 1995 with the acquisition of Delaware Management Holdings,
Inc. (see note 12 on page 67).
Financial data by segment for 1994 through 1996 is as follows:
Year Ended December 31 (in millions) 1996 1995 1994
Revenue, excluding net investment income
and realized gain (loss) on investments/
affiliates/operating property:
Life Insurance and Annuities ----------- $1,124.2 $1,074.8 $1,133.4
Reinsurance ---------------------------- 1,279.2 1,181.9 1,070.9
Property-Casualty ---------------------- 1,617.2 1,688.7 1,710.6
Investment Management (Regular) -------- 210.7 142.8 --
Investment Management (at Cost --------- 61.6 42.8 --
Employee Life-Health Benefits ---------- -- -- 303.7
Other Operations (includes
consolidating adjustments) ------------ (65.6) (18.8) 48.5
Total -------------------------------- $4,227.3 $4,112.2 $4,267.1
Net Investment Income:
Life Insurance and Annuities ----------- $1,857.7 $1,859.5 $1,619.2
Reinsurance ---------------------------- 263.7 164.1 125.5
Property-Casualty ---------------------- 244.0 238.8 241.1
Investment Management ------------------ .9 .5 --
Employee Life-Health Benefits ---------- -- -- 10.8
Other Operations ----------------------- (.4) (11.6) (1.8)
Total -------------------------------- $2,365.9 $2,251.3 $1,994.8
Realized gain (loss) on investments/
affiliates/operating property:
Life Insurance and Annuities ----------- $ 66.4 $124.4 $(137.2)
Reinsurance ---------------------------- 18.1 16.4 1.0
Property-Casualty ---------------------- 34.4 27.4 19.7
Investment Management ------------------ 8.1 6.6 --
Employee Life-Health Benefits ---------- -- -- .4
Other Operations ----------------------- 1.1 95.0 34.1
Total -------------------------------- $128.1 $269.8 $ (82.0)
Income (loss) before income taxes and
minority interest:
Life Insurance and Annuities ----------- $470.3 $472.4 $106.7
Reinsurance ---------------------------- 131.1 (65.6) 102.9
Property-Casualty ---------------------- 187.6 190.4 177.2
Investment Management ------------------ 34.6 36.0 --
Employee Life-Health Benefits ---------- -- -- 22.9
Other Operations (includes interest
expense) ------------------------------ (111.3) (6.6) (33.4)
Total -------------------------------- $712.3 $626.6 $376.3
Income taxes (credits):
Life Insurance and Annuities ----------- $138.8 $138.3 $12.6
Reinsurance ---------------------------- 45.4 (23.6) 35.9
Property-Casualty ---------------------- 23.9 24.1 5.6
Investment Management ------------------ 17.7 17.0 --
Employee Life-Health Benefits ---------- -- -- 8.5
Other Operations ----------------------- (46.6) (11.4) (36.2)
Total -------------------------------- $179.2 $144.4 $26.4
Net income (loss):
Life Insurance and Annuities ----------- $329.9 $334.1 $ 94.1
Reinsurance ---------------------------- 85.7 (42.0) 67.1
Property-Casualty ---------------------- 144.3 166.3 171.6
Investment Management ------------------ 16.9 19.0 --
Employee Life-Health Benefits ---------- -- -- 14.4
Other Operations (includes interest
expense) ------------------------------ (63.2) 4.8 2.7
Total -------------------------------- $513.6 $482.2 $349.9
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December 31 (in millions) 1996 1995 1994
Assets:
Life Insurance and Annuities ----------- $61,002.4 $52,465.8 $40,758.4
Reinsurance ---------------------------- 5,196.1 5,220.3 2,653.5
Property-Casualty ---------------------- 4,901.4 5,126.0 4,966.6
Investment Management ------------------ 640.0 632.4 --
Other Operations ----------------------- (26.5) (186.8) 486.3
Total -------------------------------- $71,713.4 $63,257.7 $48,864.8
Liabilities:
Life Insurance and Annuities ----------- $58,075.6 $49,485.4 $38,823.2
Reinsurance ---------------------------- 4,454.8 4,673.3 2,259.8
Property-Casualty ---------------------- 3,622.8 3,516.2 3,552.3
Investment Management ------------------ 106.6 59.4 --
Other Operations ----------------------- 668.6 1,145.3 1,187.4
Total -------------------------------- $66,928.4 $58,879.6 $45,822.7
Provisions for depreciation and capital additions were not material.
Acquisitions and dispositions of affiliated companies in 1994 and 1995 (see
note 12 on page 67) resulted in LNC's foreign operations being more
significant relative to LNC's consolidated totals. Substantially all of LNC's
foreign operations are conducted by Lincoln National (UK) plc, a United
Kingdom company. The data for this company included within the Life Insurance
and Annuities segment above is as follows:
Year Ended December 31 (in millions) 1996 1995 1994
Revenue -------------------------------- $393.2 $351.5 $409.1
Income before income taxes-------------- 101.5 72.5 29.1
Income taxes --------------------------- 35.5 26.8 10.6
Net income ----------------------------- 66.0 45.7 18.5
Year Ended December 31 (in millions) 1996 1995 1994
Assets --------------------------------- $7,331.8 $6,114.4 $1,788.4
Liabilities ---------------------------- 6,653.2 5,466.7 1,532.2
Foreign intracompany revenue is not significant. All earnings from LNC's U.K.
operations have been retained in the U.K.
10. Minority Interest - Preferred Securities of Subsidiary Companies
In May 1996, LNC filed a shelf registration with the Securities and Exchange
Commission that would allow LNC to offer and sell up to $500 million of
various forms of hybrid securities. These securities, which combine debt and
equity characteristics, utilize a series of three trusts (Lincoln National
Capital I, II and III). These trusts were formed solely for the purpose of
issuing preferred securities and lending the proceeds to LNC. The common
securities of these trusts are owned by LNC. The only assets of Lincoln
National Capital I, II and III are the notes receivable from LNC for such
loans. Distributions are paid by these trusts to the preferred
securityholders on a quarterly basis. The principal obligations of these
trusts are irrevocably guaranteed by LNC. Upon liquidation of these trusts
the holders of the preferred securities would be entitled to a fixed amount
per share plus accumulated and unpaid distributions. LNC reserves the right
to: 1) redeem the preferred securities at a fixed price plus accumulated and
unpaid distributions and; 2) extend the stated redemption date up to 19 years
if certain conditions are met.
In July 1996, Lincoln National Capital I issued 8,600,000 shares or
$215,000,000, 8.75% Quarterly Interest Preferred Securities ("QUIPS"). In
August 1996, Lincoln National Capital II issued 4,000,000 shares or
$100,000,000, 8.35% Trust Originated Preferred Securities ("TOPrS"). Both
issues mature in 2026 at $25 per share and are redeemable in whole or in part
at LNC's option any time after 2001. LNC may offer and sell up to an
additional $185,000,000 of securities under this shelf registration.
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11. Shareholders' Equity
LNC's common and preferred stock is without par value.
All of the issued and outstanding series A preferred stock is $3 Cumulative
Convertible and is convertible at any time into shares of common stock. The
conversion rate is eight shares of common stock for each share of series A
preferred stock, subject to adjustment for certain events. The series A
preferred stock is redeemable at the option of LNC at $80 per share plus
accrued and unpaid dividends.
Outstanding series A preferred stock has full voting rights, subject to
adjustment if LNC is in default as to the payment of dividends. If LNC is
liquidated or dissolved, holders of series A preferred stock will be entitled
to payments of $80.00 per share. The difference between the aggregate
preference on liquidation value and the financial statement balance for the
series A preferred stock was $1,700,000 at December 31, 1996.
On June 30, 1995, Mutual Life Insurance Company, Dai-ichi the owner of LNC's
series E and F preferred stock which was 5 1/2% cumulative convertible
exchangeable, converted its entire holdings to LNC common stock. Based on a
conversion rate of two shares of common stock for each share of series E and F
preferred stock, 2,201,443 shares of series E and 2,216,454 shares of series F
were converted into 8,835,794 shares of common stock.
LNC has outstanding one common share purchase right ("Right") on each
outstanding share of LNC's common stock. A Right will also be issued with
each share of LNC's common stock that is issued before the Rights become
exercisable or expire. If a person or group announces an offer that would
result in beneficial ownership of 15% or more of LNC's common stock, the
Rights will become exercisable and each Right will entitle its holder to
purchase one share of LNC's common stock for $200. Upon the acquisition of
15% or more of LNC's common stock, each holder of a Right (other than the
person acquiring the 15% or more) will have the right to acquire the number of
shares of LNC common stock that have a market value of two times the exercise
price of the Right. If LNC is acquired in a business combination transaction
in which LNC does not survive, each holder of a Right (other than the
acquiring person) will have the right to acquire common stock of the acquiring
person having a market value of two times the exercise price of the Right.
LNC can redeem each Right for one cent at any time prior to the tenth day
after a person or group has acquired 15% or more of LNC's common stock. The
Rights expire on November 14, 2006. As of December 31, 1996, there were
103,658,575 Rights outstanding.
During November 1994 and the fourth quarter of 1996, LNC purchased and retired
500,000 and 694,582 shares, respectively, of its common stock at a total cost
of $18,400,000 and $35,000,000.
Earnings per share are computed based on the average number of common shares
outstanding during each year (1996 - 104,560,826; 1995 - 104,115,650; 1994 -
103,863,196) after assuming conversion of any outstanding series A, E and F
preferred stock. The dilutive effect of stock options is not material to the
computation of earnings per share.
Details underlying the balance sheet caption "Net Unrealized Gain (Loss) on
Securities Available-for-Sale," are as follows:
December 31 (in millions) 1996 1995
Fair value of securities available-for-sale ------------- $28,899.1 $26,999.3
Cost of securities available-for-sale ------------------- 27,627.9 24,871.6
Unrealized Gain (Loss) -------------------------------- 1,271.2 2,127.7
Adjustments to deferred acquisition costs --------------- (286.9) (515.3)
Amounts required to satisfy policyholder commitments ---- (339.0) (555.0)
Deferred income credits (taxes) ------------------------- (229.7) (359.2)
Net unrealized gain (loss) on securities
available-for-sale ----------------------------------- $ 415.6 $ 698.2
Adjustments to deferred acquisition costs and amounts required to satisfy
policyholder commitments are netted against the Deferred Acquisition Costs
asset account and included with the Future Policy Benefits, Claims and Claim
Expenses liability account on the balance sheet, respectively.
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12. Acquisitions and Sales of Affiliates/Operating Property
In 1994, LNC completed the sale of 71% of EMPHESYS (parent company of
Employers Health Insurance Company, which comprised LNC's Employee Life-Health
Benefit segment) for $244,700,000 of cash, net of related expenses, and a
$50,000,000 promissory note. A gain on sale of $48,800,000 (also $48,800,000
after-tax) was recognized in 1994 in "Other Operations". EMPHESYS had revenue
and net income of $314,900,000 and $14,400,000, respectively, during the three
months of ownership in 1994. In October 1995, LNC completed the sale of its
remaining 29% ownership in EMPHESYS. As a result of this transaction, LNC
received cash of $186,900,000 and recorded pre-tax gain on sale of $89,700,000
($58,300,000 after-tax) in the "Other Operations" segment.
In January and April 1995, LNC completed the acquisitions of Liberty Life
Assurance Company and Laurentian Financial Group plc, respectively. These
companies provide unit-linked life and pension products in the United Kingdom.
The combined purchase price was $274,500,000 including the assumption of
$44,000,000 in debt. These acquisitions, which were accounted for using
purchase accounting, resulted in other intangible assets of $388,700,000. The
results of these operations are included in LNC's consolidated financial
statements from their respective purchase dates.
In April 1995, LNC completed the acquisition of Delaware Management Holdings,
Inc. ("Delaware"). Delaware provides a variety of asset management services
through its operating companies. The purchase price, including LNC's expenses
associated with the acquisition, was $305,000,000. This acquisition also
involved the assumption of $25,000,000 in short-term debt and $180,000,000
(face amount) in long-term debt. In May 1995, this debt was repaid from the
proceeds of an LNC debt offering of $200,000,000 plus available cash. This
acquisition, which was accounted for using purchase accounting, resulted in
goodwill of $339,900,000 and other intangible assets of $131,500,000. The
results of Delaware's operations are included in LNC's consolidated financial
statements from April 3, 1995. The Delaware acquisition agreement included a
provision for contingent payments of $22,500,000 based on the levels of future
investment management revenues. Any such additional payments would be
accounted for as goodwill. Based on a reassessment as of December 31, 1996,
these contingent payments are expected to be approximately one-half of the
$22,500,000.
In October 1995, LNC approved a realignment plan for its Property-Casualty
segment, that included the consolidation of field operations from 20
divisional offices to four regional offices. Certain of the locations were to
remain service offices. Those office buildings owned by LNC that were not to
be used as regional offices were to be sold. Management estimated that the
pre-tax costs of realignment and the loss on sale of office buildings would
approximate $21,000,000 and $28,400,000, respectively ($13,700,000 and
$18,500,000 after-tax, respectively). Accordingly, net income decreased by
$32,200,000 during the fourth quarter of 1995. The cost of the realignment
and the loss on sale of office buildings that occurred in 1996 did not differ
materially from the 1995 estimates.
In May 1996, 16.7% of American States Financial Corporation ("ASFC"), the
holding company of LNC's principal property-casualty subsidiary, was sold to
the public in the form of an initial public offering of its common stock.
ASFC received net proceeds of $215,200,000 from the sale of this 16.7%
minority interest and LNC recorded a non-taxable realized gain, net of
expenses directly in shareholders' equity of $15,000,000. LNC continues to
fully consolidate this operation within its financial statements and tax
reporting.
In October 1996, LNC purchased a block of group tax-qualified annuity business
from UNUM Corporation's affiliates. The bulk of the transaction was completed
in the form of a reinsurance transaction, which resulted in a ceding
commission of $71,800,000. The ceding commission, along with other expenses
of $67,000,000, represents the present value of business in-force and
accordingly has been classified as an intangible asset. LNC's assets and
policy liabilities and accruals increased $3.2 billion as a result of this
transaction.
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13.Subsequent Event
In January 1997, LNC announced that it signed a definitive agreement to
acquire Voyageur Fund Managers, Inc. ("Voyageur"). The purchase will be
completed by issuing approximately $70,000,000 of LNC common stock to the
current owners of Voyageur. This transaction, which is expected to close in
the second quarter of 1997, will be accounted for using purchase accounting
and, accordingly, the results of Voyageur's operations will be included in
LNC's consolidated financial statements from the closing date.
Report of Ernst & Young LLP, Independent Auditors
Board of Directors
Lincoln National Corporation
We have audited the accompanying consolidated balance sheets of Lincoln
National Corporation as of December 31, 1996 and 1995, and the related
consolidated statements of income, shareholders' equity, and cash flows for
each of the three years in the period ended December 31, 1996. Our audits
also included the financial statement schedules listed in the Index at Item
14(a). These financial statements and schedules are the responsibility of the
Corporation's management. Our responsibility is to express an opinion on
these financial statements and schedules 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 the 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 financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Lincoln National
Corporation at December 31, 1996 and 1995, and the consolidated results of its
operations and its cash flows for each of the three years in the period ended
December 31, 1996, in conformity with generally accepted accounting
principles. Also, in our opinion, the related financial statement schedules,
when considered in relation to the basic financial statements taken as a
whole, present fairly in all material respects the information set forth
therein.
Ernst & Young LLP
Fort Wayne, Indiana
February 6, 1997
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosures
There have been no disagreements with LNC's independent auditors which are
reportable pursuant to Item 304 of Regulation S-K.
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PART III
Item 10. Directors and Executive Officers of the Registrant
Information for this item relating to directors of LNC is incorporated by
reference to the sections captioned "NOMINEES FOR DIRECTOR", "DIRECTORS
CONTINUING IN OFFICE" and "COMPLIANCE WITH SECTION 16(a) OF THE SECURITIES AND
EXCHANGE ACT OF 1934", of LNC's Proxy Statement for the Annual Meeting
scheduled for May 15, 1997.
Executive Officers of the Registrant as of March 1, 1997 were as follows:
Name Position with LNC and Business Experience
(Age)** During the Past Five Years
Ian M. Rolland Chairman and Director, LNC (since 1992).
(64) President and Director, LNC (1975-1991).
Chief Executive Officer, LNC (since 1977).
Robert A. Anker Chairman and Chief Executive Officer,American
(55) States* (effective January 1, 1997).
President, Chief Operating Officer and
Director, LNC (1992-1996). President and
Chief Executive Officer, American States*
(1990-1991).
Jon A. Boscia Chief Executive Officer, Lincoln Life*(effective
(45) October 1996). President, Chief Operating
Officer, Lincoln Life* (1994-October
1996). Executive Vice President, LNC
(1991-1994). President, Lincoln National
Investments ("LNI")* (1991-1994).
George E. Davis Senior Vice President, LNC (since 1993).
(54) Vice President, Eastman Kodak Co. (1985-1993).
June E. Drewry Senior Vice President, LNC (since May 1996).
(47) President, Systematized Benefit
Administrators, Inc. (1995-May 1996).
Vice President, Aetna Life Insurance and
Annuity Co. (1991-May 1996).
Jack D. Hunter Executive Vice President, LNC (since 1986).
(60) General Counsel (since 1971).
Barbara S. Kowalczyk Senior Vice President, LNC (since 1994). Senior
(46) Vice President, LNI* (1992-1994). Vice
President LNI* (1985-1992).
F. Cedric McCurley Chairman and Chief Executive officer, American
(62) States*, (1995 until retirement January 1, 1997).
President and Chief Executive Officer, American
States* (1992-1995). Executive Vice President,
American States* (1986-1991).
H. Thomas McMeekin Executive Vice President, LNC (since
(44) 1994). President LNI* (1994-October 1996).
Senior Vice President, LNC (1992-1994).
Executive Vice President, LNIC*
February 1992-November 1992). Senior
Vice President, LNIC* (1987-1992).
Jeffrey J. Nick Chief Executive Officer, LNI* (effective
(44) October 1996). Managing Director, Lincoln
National (UK) plc* (1992-October 1996).
Senior Vice President, LNC (1990-1992).
Richard S. Robertson Executive Vice President, LNC (since
(55) 1986).
Lawrence T. Rowland President and Chief Executive Officer,
(45) Lincoln National Reinsurance companies*
("LNRC") (effective October 1996). Senior
Vice President, LNRC* (1995- October
1996). Vice President, LNRC* (1991-1994).
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Gabriel L. Shaheen Managing Director, Lincoln National (UK) plc*
(43) (effective October 1996). President and Chief
Executive Officer, LNRC* (1994-October 1996).
Senior Vice President, Lincoln Life* (1991-1994).
Donald L. Van Wyngarden Second Vice President & Controller, LNC (since
(57) 1975).
Richard C. Vaughan Executive Vice President and Chief Financial
(47) Officer, LNC (since 1995). Senior Vice President
and Chief Financial Officer, LNC (1992-1994).
Senior Vice President, Lincoln Life* (1990-1992).
* Denotes a subsidiary of LNC
** Age shown is based on nearest birthdate to March 1, 1997.
There is no family relationship between any of the foregoing executive
officers, all of whom are elected annually.
Item 11. Executive Compensation
Information for this item is incorporated by reference to the section cap-
tioned "EXECUTIVE COMPENSATION" of LNC's Proxy Statement for the Annual
Meeting scheduled for May 15, 1997.
Item 12. Security Ownership of Certain Beneficial Owners and
Management
Information for this item is incorporated by reference to the sections
captioned "SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS" and "SECURITY
OWNERSHIP OF DIRECTORS, NOMINEES AND EXECUTIVE OFFICERS" of LNC's Proxy
Statement for the Annual Meeting scheduled for May 15, 1997.
Item 13. Certain Relationships and Related Transactions
Information for this item is incorporated by reference to the section cap-
tioned "TERMINATION OF EMPLOYMENT ARRANGEMENT" of LNC's Proxy Statement for
the Annual Meeting scheduled for May 15, 1997.
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PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports
on Form 8-K
Item 14(a)(1) Financial Statements
The following consolidated financial statements of Lincoln National Corpora-
tion are included in Item 8:
Consolidated Balance Sheets - December 31, 1996 and 1995
Consolidated Statements of Income - Years ended December 31, 1996, 1995 and
1994
Consolidated Statements of Shareholders' Equity - Years ended December 31,
1996, 1995 and 1994
Consolidated Statements of Cash Flows - Years ended December 31, 1996, 1995
and 1994
Notes to Consolidated Financial Statements
Report of Ernst & Young LLP, Independent Auditors
Item 14(a)(2) Financial Statement Schedules
The following consolidated financial statement schedules of Lincoln National
Corporation are included in Item 14(d):
I - Summary of Investments - Other than Investments in Related Parties
II - Condensed Financial Information of Registrant
III - Supplementary Insurance Information
IV - Reinsurance
V - Valuation and Qualifying Accounts
VI - Supplementary Information Concerning Property-Casualty Insurance
Operations
All other schedules for which provision is made in the applicable accounting
regulation of the Securities and Exchange Commission are not required under
the related instructions, are inapplicable, or the required information is
included in the consolidated financial statements, and therefore omitted.
-72-
Item 14(a)(3) Listing of Exhibits
The following exhibits of Lincoln National Corporation are included in Item
14(c) - Note: The numbers preceding the exhibits correspond to the specific
numbers within Item 601 of Regulation S-K.):
3(a) The Articles of Incorporation of LNC as last amended
effective May 12, 1994 are incorporated by reference to
LNC's Form S-3/A (File No. 33-55379) filed with the
Commission on September 15, 1994.
3(b) The Bylaws of LNC as last amended January 15, 1997.
4(a) Indenture of LNC dated as of January 15, 1987 (Commission
File No. 33-22658) is incorporated by references to
Exhibit 4(a) of LNC's Form 10-K for the year ended
December 31, 1994, filed with the Commission on March 27,
1995.
4(b) First Supplemental Indenture dated as of July 1, 1992, to
Indenture of LNC dated as of January 15, 1987.
4(c) Specimen Notes for 7 1/8% Notes due July 15, 1999
(Commission File No. 33-22658) and for 7 5/8% Notes due
July 15, 2002 (Commission File No. 33-22658).
4(d) Rights Agreement of LNC as last amended November 14, 1996
is incorporated by reference to LNC's Form 8-K filed with
the Commission on November 22, 1996.
4(e) Indenture of LNC dated as of September 15, 1994, between
LNC and The Bank of New York, as Trustee, is incorporated
by reference to Exhibit No. 4(c) LNC's S-3/A (Commission
File No. 33-55379), filed with the Commission on
September 15, 1994.
4(f) Form of Note is incorporated by reference to Exhibit No.
4(d) to LNC's Registration Statement on Form S-3/A
(Commission File No. 33-55379), filed with the
Commission on September 15, 1994.
4(g) Form of Zero Coupon Security is incorporated by reference
to Exhibit No. 4(f) of LNC's Registration Statement on Form
S-3/A (Commission File No. 33-55379), filed with the
Commission on September 15, 1994.
4(h) Specimen of LNC's 9 1/8% Debentures due October 1, 2024
(Commission File No. 33-55379) is incorporated by
reference to Schedule I of LNC's Form 8-K filed with the
Commission on September 29, 1994.
4(i) Specimen of LNC's 7 1/4% Debenture due May 15, 2005
(Commission File Nos. 33-55379 and 33-59785) is
incorporated by reference to Schedule III of LNC's Form
8-K filed with the Commission on May 17, 1995.
4(j) Junior Subordinated Indenture dated as of May 1, 1996
between Lincoln National Corporation and The First
National Bank of Chicago.
4(k) Guarantee Agreement for Lincoln National Capital I.
4(l) Guarantee Agreement for Lincoln National Capital II.
4(m) Form of Lincoln National Capital I 8.75% Cumulative
Quarterly Income Preferred Securities, Series A
(Commission File No. 333-04133).
4(n) Form of Lincoln National Capital II 8.35% Trust
Originated Preferred Securities, Series B (Commission
File No. 333-04133).
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10(a)* The Lincoln National Corporation 1986 Stock Option
Incentive Plan (Commission File No. 33-13445 and
(33-62315) as last amended effective May 12, 1994 is
incorporated by reference to Exhibit No. 1 of LNC's
Proxy filed with the Commission on March 31, 1994.
10(b)* The Lincoln National Corporation 1982 Stock Option
Incentive Plan (Commission File No. 2-77599) as last
amended effective May 7, 1987 is incorporated by
reference to Exhibit 10(b) of LNC's Form 10-K for
the year ended December 31, 1993, filed with the
Commission on March 30, 1994.
10(c)* The Lincoln National Corporation Executives' Salary
Continuation Plan as last amended January 1, 1992 is
incorporated by reference to Exhibit 10(c) LNC's Form
10-K for the year ended December 31, 1992, filed with the
Commission on March 30, 1993.
10(d)* The Lincoln National Corporation Executive Value Sharing
Plan as Amended and Restated effective January 1, 1994
is incorporated by reference to Exhibit No. 4 of LNC's
Proxy filed with the Commission on March 31, 1994.
10(e)* Lincoln National Corporation Executives' Severance
Benefit Plan as Amended and Restated effective November
9, 1995 is incorporated by reference to Exhibit 10(e) of
LNC's Form 10-K for the year ended December 31, 1995,
filed with the Commission on March 27, 1996.
10(f)* The Lincoln National Corporation Outside Directors
Retirement Plan as last amended effective March 15, 1990
is incorporated by reference to Exhibit 10(f) of LNC's
Form 10-K for the year ended December 31, 1995, filed
with the Commission on March 27, 1996.
10(g)* The Lincoln National Corporation Outside Directors
Benefits Plan is incorporated by reference to Exhibit
10(h) of LNC's Form 10-K for the year ended December 31,
1992, filed with the Commission on March 30, 1993.
10(h)* Lincoln National Corporation Directors' Value Sharing
Plan as last amended effective November 14, 1996.
10(i)* Lincoln National Corporation Executive Deferred
Compensation Plan for Employees (Commission File No. 33-51721)
as last amended effective May 1, 1996.
10(j)* Lincoln National Corporation 1993 Stock Plan for Non-Employee
Directors (Commission File No. 33-58113) as last
amended effective November 14, 1996.
10(k)* Lincoln National Corporation Executives' Excess
Compensation Benefit Plan is incorporated by reference to
Exhibit 10(r) of LNC's Form 10-K for the year ended
December 31, 1993, filed with the Commission on March 30,
1994.
10(l)* American States Executives Salary Continuation Plan as
Amended and Restated effective May 2, 1995 is
incorporated by reference to Exhibit 10(k) of LNC's Form
10-K for the year ended December 31, 1995, filed with the
Commission on March 27, 1996.
10(m)* American States Financial Corporation Executive
Performance Incentive Compensation Plan.
10(n)* American States Financial Corporation Stock Option Plan.
10(o)* Descriptions of compensation arrangements with
Executive Officers.
10(p) Lease and Agreement dated August 1, 1984, with respect to
the American States' Home Office property are
incorporated by reference to Exhibit 10(l) of LNC's Form
10-K for the year ended December 31, 1995, filed with the
Commission on March 27, 1996.
10(q) Lease and Agreement dated August 1, 1984, with respect to
LNL's Home Office property located at Magnavox Way, Fort
Wayne, Indiana are incorporated by reference to Exhibit
10(m) of LNC's Form 10-K for the year ended December 31,
1995, filed with the Commission on March 27, 1996.
10(r) Lease and Agreement dated August 1, 1984, with respect to
LNL's Home Office properties located at Clinton Street
and Harrison Street, Fort Wayne, Indiana are incorporated
by reference to Exhibit 10(n) of LNC's Form 10-K for the
year ended December 31, 1995, filed with the Commission
on March 27, 1996.
10(s) Lease and Agreement dated December 1, 1994, with respect
to LNC's Corporate Office located at 200 East Berry
Street, Fort Wayne, Indiana, are incorporated by
reference to Exhibit 10(p) of LNC's Form 10-K for the
year ended December 31, 1994, filed with the Commission
on March 27, 1995.
*This exhibit is a management contract or compensatory plan or
arrangement required to be filed as an exhibit to this form
pursuant to Item 14(c) of this report.
11 Computation of Per Share Earnings.
12 Historical Ratio of Earnings to Fixed Charges.
21 List of Subsidiaries of LNC.
23 Consent of Ernst & Young LLP, Independent Auditors.
27 Financial Data Schedule.
28 Information from Reports Furnished to State Insurance
Regulatory Authorities. (Data shown on this report is on
a "Combined" basis and does not include data for
subsidiaries sold.)
Item 14(b)
During the fourth quarter of 1996, a Form 8-K regarding an amendment to LNC's
Shareholder Rights Plan was filed with the Commission. This filing received a
filing date of November 22, 1996.
Item 14(c)
The exhibits of Lincoln National Corporation are listed in Item 14(a)(3)
above.
Item 14(d)
The financial statement schedules for Lincoln National Corporation follow on
pages 75 through 82.
-75-
LINCOLN NATIONAL CORPORATION
SCHEDULE I - SUMMARY OF INVESTMENTS - OTHER THAN INVESTMENTS
IN RELATED PARTIES
December 31, 1996 (000's omitted)
Column A Column B Column C Column D
Amount at
Which Shown
in the
Type of Investment Cost Value Balance Sheet
Fixed maturity securities
available-for-sale:
Bonds:
United States Government
and government agencies
and authorities ------------- $ 1,512,342 $ 1,545,726 $ 1,545,726
States, municipalities and
political subdivisions ------ 2,200,526 2,333,278 2,333,278
Mortgage-backed securities --- 5,263,362 5,445,431 5,445,431
Foreign governments ---------- 1,671,242 1,789,080 1,789,080
Public utilities ------------- 2,770,413 2,854,640 2,854,640
Convertibles and bonds
with warrants attached ------ 215,264 229,399 229,399
All other corporate bonds ---- 12,948,547 13,454,236 13,454,236
Redeemable preferred stocks ---- 249 008 254,650 254,650
Total ----------------------- 26,830,704 27,906,440 27,906,440
Equity securities available-for-sale:
Common stocks:
Public utilities ------------- 18,460 22,045 22,045
Banks, trusts and
insurance companies --------- 44,075 65,325 65,325
Industrial, miscellaneous
and all other --------------- 489,630 642,084 642,084
Nonredeemable preferred stocks - 245,057 263,248 263,248
Total Equity Securities ----- 797,222 992,702 992,702
Mortgage loans on real estate ---- 3,285,365 3,272,980(A)
Real estate:
Investment properties ---------- 598,449 598,449
Acquired in
satisfaction of debt ---------- 56,575 56,575
Policy loans --------------------- 758,166 758,166
Other investments ---------------- 459,652 459,652
Total Investments ----------- $32,786,133 $34,044,964
(A) Investments deemed to have declines in value that are other than
temporary are written down or reserved for to reduce their
carrying value to their estimated realizable value.
-76-
LINCOLN NATIONAL CORPORATION
SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT
BALANCE SHEETS
Lincoln National Corporation (Parent Company Only)
December 31 (000's omitted) 1996 1995
Assets:
Investments in subsidiaries* ------------------ $ 5,055,185 $ 5,086,708
Investments ----------------------------------- 227,234 20,344
Investment in unconsolidated affiliate -------- 16,041 --
Cash and invested cash ------------------------ 133,833 466,776
Property and equipment ------------------------ 10,543 11,464
Accrued investment income --------------------- 26,078 7,866
Receivable from subsidiaries* ----------------- 103,024 67,024
Dividends receivable from subsidiaries* ------- 285 --
Loans to subsidiaries* ------------------------ 446,968 143,462
Goodwill -------------------------------------- 5,747 338,346
Other intangible assets ----------------------- -- 76,052
Other assets ---------------------------------- 25,281 12,419
Total Assets -------------------------------- $ 6,050,219 $ 6,230,461
Liabilities and Shareholders' Equity
Liabilities:
Cash collateral on loaned securities ---------- $ 145,594 $ 199,000
Dividends payable ----------------------------- 50,651 47,726
Short-term debt ------------------------------- 69,711 248,744
Long-term debt -------------------------------- 596,052 595,490
Loans from subsidiaries* ---------------------- 586,120 557,896
Federal income taxes payable (recoverable) ---- (1,398) 69,328
Accrued expenses and other liabilities -------- 133,533 134,155
Total Liabilities --------------------------- 1,580,263 1,852,339
Shareholders' Equity
Series A preferred stock ---------------------- 1,212 1,335
Common stock ---------------------------------- 857,450 889,476
Retained earnings ----------------------------- 3,129,249 2,775,718
Foreign currency translation adjustment ------- 66,454 13,413
Net unrealized gain (loss) on
securities available-for-sale [including
unrealized gain (loss) of subsidiaries:
1996 - $397,154 1995 - $687,904] ------------ 415,591 698,180
Total Shareholders' Equity ----------------- 4,469,956 4,378,122
Total Liabilities and Shareholders' Equity - $ 6,050,219 $ 6,230,461
*Eliminated in consolidation.
These condensed financial statements should be read in conjunction with the
consolidated financial statements and accompanying footnotes of Lincoln
National Corporation (see pages 36 through 68).
-77-
LINCOLN NATIONAL CORPORATION
SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT
(Continued)
STATEMENTS OF INCOME
Lincoln National Corporation (Parent Company Only)
Year Ended December 31 (000's omitted) 1996 1995 1994
Revenue:
Dividends from subsidiaries* --------------- $601,701 $538,515 $309,460
Interest from subsidiaries* ---------------- 1,347 2,018 1,080
Equity in earnings of
unconsolidated affiliate ------------------ 1,428 5,075 13,119
Net investment income ---------------------- 39,388 29,260 20,376
Realized gain (loss) on investments -------- (432) 30,189 (20,016)
Gain on sale of affiliate/operating
property to subsidiary* ------------------- -- 74,284 --
Other -------------------------------------- 1,127 1,292 1,373
Total Revenue ---------------------------- 644,559 680,633 325,392
Expenses:
Operating and administrative --------------- 33,808 41,884 40,919
Interest-subsidiaries* --------------------- 23,529 32,864 23,815
Interest-other ----------------------------- 74,553 63,624 45,976
Total Expenses --------------------------- 131,890 138,372 110,710
Income before Federal Income Tax Expense
(Benefit), Equity in Income of
Subsidiaries, Less Dividends -------------- 512,669 542,261 214,682
Federal income tax expense (benefits) -------- (34,157) 37,780 (36,574)
Income Before Equity in
Income of Subsidiaries, Less Dividends -- 546,826 504,481 251,256
Equity in income of subsidiaries, less
dividends ----------------------------------- (33,268) (22,295) 98,642
Net Income ------------------------------- $513,558 $482,186 $349,898
*Eliminated in consolidation.
These condensed financial statements should be read in conjunction with the
consolidated financial statements and accompanying footnotes of Lincoln
National Corporation (see pages 36 through 68).
-78-
LINCOLN NATIONAL CORPORATION
SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT
(Continued)
STATEMENTS OF CASH FLOWS
Lincoln National Corporation (Parent Company Only)
Year Ended December 31 (000's omitted) 1996 1995 1994
Cash Flows from Operating Activities:
Net income ----------------------------------- $513,558 $482,186 $349,898
Adjustments to reconcile net income to net
cash provided by (used in) operating
activities:
Equity in income of subsidiaries
less than (greater than) distributions* -- (262,268) 86,889 (63,642)
Equity in undistributed earnings of
unconsolidated affiliate ----------------- (1,428) (5,075) (13,119)
Realized (gain) loss on investments ------- 432 (30,189) 20,016
Gain on sale of affiliate/
operating property ----------------------- -- (74,284) --
Other ------------------------------------- (81,276) 47,967 (32,757)
Net Adjustments ------------------------- (344,540) 25,308 (89,502)
Net Cash Provided by
Operating Activities ------------------- 169,018 507,494 260,396
Cash Flows from Investing Activities:
Net sales (purchases) of investments ------- 91,161 16,614 (22,106)
Cash collateral on loaned securities ------- (53,406) (4,531) 14,275
Net investment in subsidiaries* ------------ 217,844 (697,106) (2,744)
Sale of (investment in) unconsolidated
affiliate --------------------------------- (16,041) 193,975 (103,470)
Net (purchase) sale of property
and equipment ----------------------------- (790) (3,158) (5,109)
Other -------------------------------------- (26,883) 17,675 7,379
Net Cash Provided by (Used in)
Investing Activities -------------------- 211,885 (476,531) (111,775)
Cash Flows from Financing Activities:
Principal payments on long-term debt ------- -- -- (100,717)
Issuance of long-term debt ----------------- 561 197,785 200,000
Net increase (decrease) in short-term debt - (179,033) 19,300 (83,423)
Increase (decrease) in loans from
subsidiaries* ----------------------------- 28,224 (42,413) 271,841
Decrease (increase) in loans to
subsidiaries* ----------------------------- (303,506) (106,982) (20,455)
Increase in receivables from subsidiaries* - (36,000) (300) (3,889)
Common stock issued for benefit plans ------ (153) 24,096 29,985
Retirement of common stock ----------------- (32,716) -- (18,395)
Dividends paid to shareholders ------------- (191,223) (178,805) (172,157)
Net Cash Provided by (Used in)
Financing Activities -------------------- (713,846) (87,319) 102,790
Net Increase (Decrease) in Cash ---------- (332,943) (56,356) 251,411
Cash at beginning-of-year -------------------- 466,776 523,132 271,721
Cash at End-of-Year ---------------------- $133,833 $466,776 $523,132
*Eliminated in consolidation.
These condensed financial statements should be read in conjunction with the
consolidated financial statements and accompanying footnotes of Lincoln
National Corporation (see pages 36 through 68).
-79-
LINCOLN NATIONAL CORPORATION
SCHEDULE III - SUPPLEMENTARY INSURANCE INFORMATION
Column A Column B Column C Column D
Future Policy
Deferred Benefits, Claims
Acquisition and Claim Unearned
Segment Costs Expenses Premiums
------------(000's Omitted)-------------
Year Ended December 31, 1996
Life Insurance and Annuities - $1,432,347 $ 7,873,148 $ 1,374
Reinsurance ------------------ 322,709 3,092,064 52,721
Property-Casualty ------------ 136,893 2,485,596 712,380
Investment Management --------
Other (incl. consol. adj's.) - (119,710) (425)
Total ---------------------- $1,891,949 $13,331,098 $766,050
Year Ended December 31, 1995
Life Insurance and Annuities - $ 901,825 $ 7,408,160 $ 1,187
Reinsurance ------------------ 396,588 3,009,057 93,189
Property-Casualty ------------ 138,272 2,595,328 720,262
Investment Management (C) ----
Other (incl. consol. adj's.) - (89,998) (1,258)
Total ---------------------- $1,436,685 $12,922,547 $813,380
Year Ended December 31, 1994
Life Insurance and Annuities - $1,600,811 $ 6,357,449 $ 11,201
Reinsurance ------------------ 329,042 1,542,857 63,202
Property-Casualty ------------ 140,122 2,702,537 732,101
Employee Life-Health Benefits(D) -- -- --
Other (incl. consol. adj's.) - (66,331) (1,517)
Total ---------------------- $2,069,975 $10,536,512 $804,987
Column A Column E Column F Column G
Other Policy
Claims and Net
Benefits Premium Investment
Segment Payable Revenue (A) Income (B)
-------------(0's Omitted)---------------
Year Ended December 31, 1996
Life Insurance and Annuities - $ $ 950,916 $1,857,579
Reinsurance ------------------ 1,250,403 263,870
Property-Casualty------------- 1,608,861 244,001
Investment Management--------- 792
Other (incl. consol. adj's.)-- (320)
Total----------------------- -- $3,810,180 $2,365,922
Year Ended December 31, 1995
Life Insurance and Annuities - $ $ 926,995 $1,859,359
Reinsurance ------------------ 1,171,165 164,105
Property-Casualty ------------ 1,678,910 238,808
Investment Management (C)----- 584
Other (incl. consol. adj's.)-- (11,575)
Total----------------------- -- $3,777,070 $2,251,281
Year Ended December 31, 1994
Life Insurance and Annuities- $ $1,030,010 $1,619,191
Reinsurance ----------------- 1,034,380 125,447
Property-Casualty ----------- 1,710,563 241,096
Employee Life-Health Benefits(D) 299,338 10,838
Other (incl. consol. adj's.)-- (1,921)
Total----------------------- -- $4,074,291 $1,994,651
Column A Column H Column I Column J Column K
Benefits, Amortization of
Claims, Deferred Policy Other
and Claim Acquisition Operating Premiums
Segment Expenses Costs Expenses (B) Written
-------------------(000's Omitted)--------------
Year Ended December 31, 1996
Life Insurance and Annuities - $1,705,018 $274,634 $ 598,486
Reinsurance ------------------ 1,013,867 162,150 253,880
Property-Casualty ------------ 1,202,393 329,721 175,955 $1,600,887
Investment Management -------- 246,662
Other (incl. consol. adj's.) - 46,239
Total ---------------------- $3,921,278 $766,505 $1,321,222 $1,600,887
Year Ended December 31, 1995
Life Insurance and Annuities - $1,815,242 $274,886 $ 499,897
Reinsurance ------------------ 1,088,438 59,910 279,724
Property-Casualty ------------ 1,209,463 352,503 198,758 $1,671,889
Investment Management (C) ---- 156,665
Other (incl. consol. adj's.) - 71,195
Total ---------------------- $4,113,143 $687,299 $1,206,239 $1,671,889
Year Ended December 31, 1994
Life Insurance and Annuities - $1,904,352 $ 89,916 $ 514,384
Reinsurance ------------------ 809,819 147,226 138,988
Property-Casualty ------------ 1,262,400 361,195 169,049 $1,664,483
Employee Life-Health Benefits(D) 218,672 73,355
Other (incl. consol. adj's.) - 114,213
Total ---------------------- $4,195,243 $598,337 $1,009,989 $1,664,483
<FN>
<F1>
(A) Includes insurance fees on universal life and other interest sensitive
products.
<F2>
(B)The allocation of expenses between investments and other operations are
based on a number of assumptions and estimates. Results would change if
different methods were applied.
<F3>
(C) Includes data from the April 1, 1995 date when Investment Management
segment was initiated because of the purchase of Delaware Management
Holdings, Inc.
<F4>
(D) Includes data through the March 21, 1994 date of sale of the direct
writer of employee life-health coverages.
</FN>
-80-
LINCOLN NATIONAL CORPORATION
SCHEDULE IV - REINSURANCE (A)
Column A Column B Column C Column D
Ceded Assumed
Gross to Other from Other
Amount Companies Companies
-------------------(000's Omitted)---------
Year Ended December 31, 1996
Individual life insurance in force - $127,900,000 $39,400,000 $130,400,000
Premiums:
Life insurance (B) -------------- $1,001,966 $113,645 $ 519,536
Health insurance ---------------- 169,038 214,374 838,798
Property-casualty insurance ----- 1,641,822 48,603 15,642
Total ------------------------- $2,812,826 $376,622 $1,373,976
Year Ended December 31, 1995
Individual life insurance in force - $109,817,000 $34,292,000 $118,875,000
Premiums:
Life insurance (B) -------------- $ 934,121 $182,519 $ 536,400
Health insurance ---------------- 308,189 212,472 714,441
Property-casualty insurance ----- 1,685,815 53,695 46,790
Total ------------------------- $2,928,125 $448,686 $1,297,631
Year Ended December 31, 1994
Individual life insurance in force - $93,505,000 $35,366,000 $106,161,000
Premiums:
Life insurance (B) -------------- $1,040,134 $ 47,022 $ 365,364
Health insurance ---------------- 668,091 357,536 694,697
Property-casualty insurance ----- 1,689,070 78,381 99,874
Total ------------------------- $3,397,295 $482,939 $1,159,935
Column A Column E Column F
Percentage of
Net Amount Assumed
Amount to Net
------------(0's Omitted)-------------
Year Ended December 31, 1996
Individual life insurance in force- $218,900,000 59.6%
Premiums:
Life insurance (B)--------------- $1,407,857 36.9%
Health insurance ---------------- 793,462 105.7
Property-casualty insurance ----- 1,608,861 1.0
Total ------------------------- $3,810,180
Year Ended December 31, 1995
Individual life insurance in force-$194,400,000 61.1%
Premiums:
Life insurance (B)-------------- $1,288,002 41.6%
Health insurance --------------- 810,158 88.2
Property-casualty insurance ---- 1,678,910 2.8
Total ------------------------ 3,777,070
Year Ended December 31, 1994
Individual life insurance in force-$164,300,000 64.7%
Premiums:
Life insurance (B)-------------- $1,358,476 26.9%
Health insurance --------------- 1,005,252 69.1
Property-casualty insurance ---- 1,710,563 5.8
Total ------------------------ $4,074,291
*
<FN>
<F1>
(A) Special-purpose bulk reinsurance transactions have been excluded.
<F2>
(B) Includes insurance fees on universal life and other interest
sensitive products.
</FN>
-81-
LINCOLN NATIONAL CORPORATION
SCHEDULE V - VALUATION AND QUALIFYING ACCOUNTS
Column A Column Column Column Column
B C D E
Balance (1) (2) Balance at
Additions
at Charged Charged Deductions- End of
Beginning to Costs to Other Describe(C) Period
of Period Expenses Accounts-
(A) Describe(B)
------------------(0's Omitted)----------------------
Year Ended December 31, 1996
Deducted from Asset Accounts:
Reserve for Mortgage Loans
on Real Estate ------------- $29,592 $3,136 $(20,343) $12,385
Reserve for Real Estate ----- 58,029 3,000 $(51,517) (6,512) 3,000
Reserve for Other Long-term,
Investments ----------------- 13,644 (388) (12,971) (285) --
Reserve for Property and
Equipment Held-for-Sale----- 28,350 (1,434) 26,916
Included in Other Liabilities:
Investment Guarantees ------- 7,099 (886) (4,438) 1,775
Year Ended December 31, 1995
Deducted from Asset Accounts:
Reserve for Mortgage Loans
on Real Estate ------------- $ 62,675 $ 2,288 $(35,371) $29,592
Reserve for Real Estate ----- 78,638 (9,203) (11,406) 58,029
Reserve for Other Long-term
Investments ---------------- 23,776 (2,415) (7,717) 13,644
Reserve for Property and
Equipment Held-for-Sale----- -- 28,350 28,350
Included in Other Liabilities:
Investment Guarantees ------- 13,076 (2,617) (3,360) 7,099
Year Ended December 31, 1994
Deducted from Asset Accounts:
Reserve for Mortgage Loans
on Real Estate ------------- $226,639 $18,232 $(182,196) $62,675
Reserve for Real Estate ----- 121,427 14,861 (57,650) 78,638
Reserve for Other Long-term
Investments --------------- 27,196 1,726 (5,146) 23,776
Included in Other Liabilities:
Investment Guarantees ------- 18,535 2,480 (7,939) 13,076
<FN>
<F1>
(A) Excludes charges for the direct write-offs of assets.
The negative amounts shown in the additions columns represent
improvements in the underlying assets and guarantees for which valuation
accounts had previously been established.
<F2>
(B) Amounts previously shown as reserves have been reclassified as
direct write-downs of the related assets.
<F3>
(C) Deductions reflect sales or foreclosures of the underlying holdings.
</FN>
-82-
LINCOLN NATIONAL CORPORATION
SCHEDULE VI - SUPPLEMENTARY INFORMATION CONCERNING PROPERTY-CASUALTY
INSURANCE OPERATIONS
Column A Column B Column C Column D
Deferred Reserves for Discount,
Affiliation Policy Unpaid Claims if any
with Acquisition and Claim Deducted in
Registrant Costs Expenses Column C
----------(000's Omitted)------------------
Consolidated subsidiaries:
Year Ended December 31, 1996 $136,893 $2,485,596 $ --
Year Ended December 31, 1995 $138,272 $2,595,328 $ --
Year Ended December 31, 1994 $140,122 $2,702,537 $ --
Column A Column E Column F Column G
Affiliation Net
with Unearned Earned Investment
Registrant Premiums Premium Income
------------(0's Omitted)--------------
Consolidated subsidiaries:
Year Ended December 31, 1996 $712,380 $1,608,861 $244,001
Year Ended December 31, 1995 $720,262 $2,678,910 $238,808
Year Ended December 31, 1994 $732,101 $1,710,563 $241,096
Column A Column H Column I
Claims and Claim
Expenses (Credits) Amortization
Incurred Related to of Deferred
Affiliation (1) (2) Policy
with Current Prior Acquisition
Registrant Year Years Costs
------------------(000's omitted)----
Consolidated subsidiaries:
Year Ended December 31, 1996 $1,245,593 $(43,200) $329,721
Year Ended December 31, 1995 $1,234,000 $(24,500) $352,503
Year Ended December 31, 1994 $1,340,600 $(78,200) $361,195
Column A Column J Column K
Affiliation Paid
with Claims
Registrant and Claim Premium
Expenses Written
___________(0's Omitted)-----
Consolidated Subsidiaries:
Year Ended December 31, 1996 $1,302,900 $1,600,887
Year Ended December 31, 1995 $1,302,600 $1,671,889
Year Ended December 31, 1994 $1,347,600 $1,664,483
-83-
LINCOLN NATIONAL CORPORATION
EXHIBIT INDEX FOR THE ANNUAL REPORT ON FORM 10-K
For the Year Ended December 31, 1996
Exhibit
Number Page
3(a) Articles of Incorporation dated as of May 12, 1994.*
3(b) Bylaws of LNC as last amended January 15, 1997. 85
4(a) Indenture of LNC dated as of January 15, 1987.*
4(b) LNC First Supplemental Indenture dated July 1, 1992, to
Indenture of LNC dated as of January 15, 1987. 95
4(c) Specimen Notes for 7 1/8% Notes due July 15, 1999 and
7 5/8% Notes due July 15, 2002. 98
4(d) Rights Agreement dated November 14, 1996.*
4(e) Indenture of LNC dated as of September 15, 1994.*
4(f) Form of Note dated as of September 15, 1994.*
4(g) Form of Zero Coupon Security dated as of September 15, 1994.*
4(h) Specimen Debenture for 9 1/8% Notes due October 1, 2024.*
4(i) Specimen of 7 1/4% Debenture due May 15, 2005.*
4(j) Junior Subordinated Indenture of LNC as of May 1, 1996. 111
4(k) Guarantee Agreement for Lincoln National Capital I. 175
4(l) Guarantee Agreement for Lincoln National Capital II. 189
4(m) Form of Lincoln National Capital I Preferred Securities,
Series A. 203
4(n) Form of Lincoln National Capital II Preferred Securities,
Series B. 205
10(a) LNC 1986 Stock Option Incentive Plan.*
10(b) LNC 1982 Stock Option Incentive Plan.*
10(c) The LNC Executives' Salary Continuation Plan.*
10(d) The LNC Executive Value Sharing Plan.*
10(e) LNC Executives' Severance Benefit Plan.*
10(f) The LNC Outside Directors Retirement Plan.*
10(g) The LNC Outside Directors Benefits Plan.*
10(h) LNC Directors' Value Sharing Plan. 207
10(i) The LNC Executive Deferred Compensation Plan for Employees. 213
10(j) LNC 1993 Stock Plan for Non-Employee Directors. 226
10(k) LNC Executives' Excess Compensation Benefit Plan.*
10(l) American States Executives' Salary Continuation Plan.*
10(m) American States Financial Corporation Executive Performance
Incentive Compensation Plan. 232
10(n) American States Financial Corporation Stock Option Plan. 238
10(o) Description of compensation arrangements with Executive Officers. 253
10(p) Lease and Agreement dated August 1, 1984, with respect
to the American States' home office property.*
10(q) Lease and Agreement dated August 1, 1984, with respect
to LNL's home office property.*
10(r) Lease and Agreement dated August 1, 1984, with respect
to additional LNL home office property.*
10(s) Lease dated December 1, 1994, with respect to LNC's
Corporate Offices.*
11 Computation of Per Share Earnings. 272
12 Historical Ratio of Earnings to Fixed Charges 273
21 List of Subsidiaries of LNC. 274
23 Consent of Ernst & Young LLP, Independent Auditors. 285
27 Financial Data Schedule. 286
28 Information from Reports Furnished to State Insurance
Regulatory Authorities. [Data shown on this report is on 287
a "Combined" basis and does not include data for
subsidiaries sold.]
*Incorporated by Reference
-85-
Signature Page
LINCOLN NATIONAL CORPORATION
Pursuant to the requirements
of Section 13 or 15(d) of
the Securities Exchange Act By /s/ Ian M. Rolland March 13, 1997
of 1934, LNC has duly caused Ian M. Rolland,
this report to be signed on (Chairman, Chief Executive Officer and
its behalf by the under- Director)
signed, thereunto duly
authorized. By /s/ Richard C. Vaughan March 13, 1997
Richard C. Vaughan,
(Executive Vice President and Chief
Financial Officer)
By /s/ Donald L. Van Wyngarden March 13, 1997
Donald L. Van Wyngarden
(Second Vice President and Controller)
Pursuant to the requirements By /s/ J. Patrick Barrett March 13, 1997
of the Securities Exchange J. Patrick Barrett
Act of 1934, this report
has been signed below by By /s/ Thomas D. Bell, Jr. March 13, 1997
the following Directors Thomas D. Bell, Jr
of LNC on the date indicated.
By /s/ Daniel R. Efroymson March 13, 1997
Daniel R. Efroymson
By /s/ Harry L. Kavetas March 13, 1997
Harry L. Kavetas
By /s/ M. Leanne Lachman March 13, 1997
M. Leanne Lachman
By /s/ Earl L. Neal March 13, 1997
Earl L. Neal
By /s/ Roel Pieper March 13, 1997
Roel Pieper
By /s/ John M. Pietruski March 13, 1997
John M. Pietruski
By /s/ Jill S. Ruckelshaus March 13, 1997
Jill S. Ruckelshaus
By /s/ Gordon A. Walker March 13, 1997
Gordon A. Walker
By /s/ Gilbert R. Whitaker,Jr. March 13, 1997
Gilbert R. Whitaker,Jr.