EXHIBIT 13 CONSOLIDATED STATEMENTS OF INCOME YEAR ENDED DECEMBER 31 (DOLLARS IN THOUSANDS EXCEPT PER SHARE AMOUNTS) 1993 1992 1991 REVENUES Premiums and policy fees (net of premiums ceded: 1993 - $126,912; 1992 - $109,355; 1991 - $89,927) $370,758 $323,136 $273,975 Net investment income 362,130 284,069 233,502 Realized investment gains (losses) 5,054 (14) (3,085) Other income 21,695 18,835 11,556 Total revenues 759,637 626,026 515,948 BENEFITS AND Benefits and settlement expenses (net of reinsurance: EXPENSES 1993 - $95,708; 1992 - $74,904; 1991 - $68,070) 473,884 409,557 346,591 Amortization of deferred policy acquisition costs 73,605 48,951 40,264 Other operating expenses 127,104 107,571 77,390 Total benefits and expenses 674,593 566,079 464,245 INCOME BEFORE INCOME TAX 85,044 59,947 51,703 INCOME TAX EXPENSE Current 33,748 18,720 11,120 Deferred (5,273) (1,336) 3,357 Total income tax expense 28,475 17,384 14,477 INCOME BEFORE MINORITY INTEREST 56,569 42,563 37,226 MINORITY INTEREST IN INCOME OF CONSOLIDATED SUBSIDIARIES 19 90 1,437 INCOME BEFORE CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING PRINCIPLE 56,550 42,473 35,789 CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING PRINCIPLE (NET OF INCOME TAX: $542) (1,053) NET INCOME $ 56,550 $ 41,420 $ 35,789 INCOME PER SHARE BEFORE CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING PRINCIPLE $ 4.13 $ 3.11 $ 2.62 CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING PRINCIPLE PER SHARE (.08) NET INCOME PER SHARE $ 4.13 $ 3.03 $ 2.62 DIVIDENDS PAID PER SHARE $ 1.01 $ .90 $ .82 SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. CONSOLIDATED BALANCE SHEETS DECEMBER 31 (DOLLARS IN THOUSANDS) 1993 1992 ASSETS INVESTMENTS: Fixed maturities,1993 at market (amortized cost: $2,985,670); 1992 at amortized cost (market: $2,247,828) $3,051,292 $2,185,015 Equity securities, at market (cost: 1993 - $33,331; 1992 - $21,804) 40,596 26,588 Mortgage loans on real estate 1,407,744 1,178,164 Investment real estate, net of accumulated depreciation (1993 - $4,483; 1992 - $2,497) 22,061 17,020 Policy loans 141,135 117,873 Other long-term investments 20,191 19,618 Short-term investments 83,692 52,792 Total investments 4,766,711 3,597,070 Cash 27,119 14,959 Accrued investment income 51,337 41,045 Accounts and premiums receivable, net of allowance for uncollectible amounts (1993 - $5,024; 1992 - $1,108) 26,315 28,345 Reinsurance receivables 102,559 4,406 Deferred policy acquisition costs 299,584 275,212 Property and equipment, net 35,664 34,746 Other assets 3,316 7,478 Assets held in separate accounts 3,400 3,406 TOTAL ASSETS $5,316,005 $4,006,667 SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. 1993 1992 LIABILITIES Policy liabilities and accruals Future policy benefits and claims $1,380,845 $ 929,592 Unearned premiums 88,785 75,177 Total policy liabilities and accruals 1,469,630 1,004,769 Guaranteed investment contract deposits 2,015,075 1,694,530 Annuity deposits 1,005,742 674,062 Other policyholders' funds 141,975 122,770 Other liabilities 96,682 81,326 Accrued income taxes 6,381 118 Deferred income taxes 69,269 54,727 Short-term debt 9,520 57,234 Long-term debt 137,598 31,014 Liabilities related to separate accounts 3,400 3,406 Minority interest in consolidated subsidiaries 1,311 Total liabilities 4,955,272 3,725,267 COMMITMENTS AND CONTINGENCIES - Note G STOCKHOLDERS' Preferred Stock, $1 par value EQUITY Shares authorized: 850,000 Issued: none Junior Participating Cumulative Preferred Stock, $1 par value Shares authorized: 150,000 Issued: none Common Stock, $.50 par value 7,834 7,834 Shares authorized: 20,000,000 Issued: 1993 and 1992 - 15,668,231 Additional paid-in capital 70,469 70,335 Net unrealized gains on investments (net of income tax: 1993 - $19,774; 1992 - $1,628) 39,284 3,156 Retained earnings 267,361 224,638 Treasury stock, at cost (1993 - 1,974,987 shares; 1992 - 1,978,433 shares) (18,359) (18,363) Unallocated stock in Employee Stock Ownership Plan (1993 - 442,000 shares; 1992 - 468,000 shares) (5,856) (6,200) Total stockholders' equity 360,733 281,400 TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $5,316,005 $4,006,667 CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY NET UNREALIZED GAINS ADDITIONAL (LOSSES) UNALLOCATED TOTAL (DOLLARS IN THOUSANDS COMMON PAID-IN ON RETAINED TREASURY STOCK IN STOCKHOLDERS' EXCEPT PER SHARE AMOUNTS) STOCK CAPITAL INVESTMENTS EARNINGS STOCK ESOP EQUITY Balance, December 31, 1990 $7,834 $69,460 $ (486) $170,943 $(18,535) $(6,890) $222,326 Net income for 1991 35,789 35,789 Cash dividends ($.82 per share) (11,210) (11,210) Decrease in net unrealized losses on investments 4,467 4,467 Reissuance of treasury stock to ESOP (2,137 shares) 28 (28) 0 Allocation of stock to employee accounts (28,137 shares) 373 373 Balance, December 31, 1991 7,834 69,488 3,981 195,522 (18,535) (6,545) 251,745 Net income for 1992 41,420 41,420 Cash dividends ($.90 per share) (12,304) (12,304) Decrease in net unrealized gains on investments (825) (825) Reissuance of treasury stock to ESOP (728 shares) 16 (16) 0 Allocation of stock to employee accounts (26,728 shares) 361 361 Reissuance of treasury stock (39,688 shares) 831 172 1,003 Balance, December 31, 1992 7,834 70,335 3,156 224,638 (18,363) (6,200) 281,400 Net income for 1993 56,550 56,550 Cash dividends ($1.01 per share) (13,827) (13,827) Increase in net unrealized gains on investments 36,128 36,128 Reissuance of treasury stock to ESOP (103 shares) 3 (3) 0 Allocation of stock to employee accounts (26,103 shares) 347 347 Reissuance of treasury stock (3,343 shares) 131 4 135 Balance, December 31, 1993 - Note H $7,834 $70,469 $39,284 $267,361 $(18,359) $(5,856) $360,733 SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. CONSOLIDATED STATEMENTS OF CASH FLOWS YEAR ENDED DECEMBER 31 (DOLLARS IN THOUSANDS) 1993 1992 1991 CASH FLOWS Net income $ 56,550 $ 41,420 $ 35,789 FROM Adjustments to reconcile net income to net cash OPERATING provided by operating activities: ACTIVITIES Amortization of deferred policy acquisition costs 73,605 48,951 40,624 Capitalization of deferred policy acquisition costs (91,564) (81,481) (63,071) Depreciation expense 3,742 3,946 4,668 Deferred income taxes 14,253 (2,514) 4,107 Accrued income taxes 6,230 691 (1,085) Interest credited to universal life and investment products 220,772 173,658 132,533 Policy fees assessed on universal life and investment products (67,314) (46,383) (37,546) Change in accrued investment income and other receivables (97,908) (9,157) (20,871) Change in policy liabilities and other policyholders' funds of traditional life and health products 42,901 4,307 (8,003) Change in other liabilities 12,432 5,610 11,203 Other (net) 14,959 (4,276) (3,940) Net cash provided by operating activities 188,658 134,772 94,408 CASH FLOWS Cost of investments acquired (2,334,171) (1,991,950) (1,526,085) FROM Maturities and principal reductions of investments 1,341,818 882,950 574,018 INVESTING Sale of investments 244,683 338,850 191,896 ACTIVITIES Acquisitions and bulk reinsurance assumptions 14,190 23,274 Purchase of property and equipment (4,682) (3,731) (5,988) Sale of property and equipment 3,023 180 394 Net cash used in investing activities (735,139) (750,427) (765,765) CASH FLOWS Proceeds from borrowings under line of credit FROM arrangements and long-term debt 719,173 341,000 140,365 FINANCING Principal payments on line of credit ACTIVITIES arrangements and long-term debt (661,717) (310,331) (163,931) Dividends to stockholders (13,827) (12,304) (11,210) Change in universal life and investment product deposits 515,012 607,721 686,458 Net cash provided by financing activities 558,641 626,086 651,682 INCREASE (DECREASE) IN CASH 12,160 10,431 (19,675) CASH AT BEGINNING OF YEAR 14,959 4,528 24,203 CASH AT END OF YEAR $ 27,119 $ 14,959 $ 4,528 SUPPLEMENTAL DISCLOSURES Cash paid during the year: OF CASH Interest on debt $ 6,426 $ 4,457 $ 5,746 FLOW INFORMATION Income taxes $ 27,493 $ 18,007 $ 10,901 SUPPLEMENTAL Change in minority interest in consolidated SCHEDULE OF subsidiaries $ (1,311) $ 90 $ (4,549) NONCASH INVESTING Reissuance of treasury stock to ESOP $ 3 $ 16 $ 28 AND FINANCING Unallocated stock in ESOP $ 344 $ 345 $ 345 ACTIVITIES Reissuance of treasury stock $ 135 $ 1,003 Acquisitions and bulk reinsurance assumptions Assets acquired $ 423,167 $ 103,557 Liabilities assumed (429,580) (130,008) Net $ (6,413) $ (26,451) SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (ALL DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) NOTE A. SIGNIFICANT ACCOUNTING POLICIES BASIS OF PRESENTATION The accompanying consolidated financial statements of Protective Life Corporation and subsidiaries (the Company) are prepared on the basis of generally accepted accounting principles. Such accounting principles differ from statutory reporting practices used by insurance companies in reporting to state regulatory authorities. (See also Note B.) ENTITIES INCLUDED The consolidated financial statements include the accounts, after intercompany eliminations, of Protective Life Corporation and its wholly owned subsidiaries. Protective Life Insurance Company (Protective Life) is the Company's principal operating subsidiary. Additionally, the financial statements include the accounts of majority-owned subsidiaries. The ownership interest of the other stockholders of these subsidiaries is called a minority interest and is reported as a liability of the Company and as an adjustment to income. RECENTLY ISSUED ACCOUNTING STANDARDS In 1992, the Company adopted Statement of Financial Accounting Standards (SFAS) No. 106, "Employers' Accounting For Postretirement Benefits Other Than Pensions." SFAS No. 106 was accounted for as a change in accounting principle with the cumulative effect reported as a reduction to income. In 1993, the Company adopted SFAS No. 109, "Accounting For Income Taxes." Adoption of this accounting standard did not have a material effect on the Company's financial statements. The Company also adopted in 1993 SFAS No. 113, "Accounting and Reporting for Reinsurance of Short-Duration and Long-Duration Contracts." This statement eliminates the reporting of insurance activities net of the effects of reinsurance ceded. The adoption of this statement increased reported assets and liabilities by approximately $97.9 million at December 31, 1993. The Company has not restated any previously reported financial statements as a result of adopting this statement. At December 31, 1993, the Company adopted SFAS No. 115, "Accounting for Certain Investments in Debt and Equity Securities." For purposes of adopting SFAS No.115 the Company has classified all of its investments in fixed maturities, equity securities, and short-term investments as "available for sale." As prescribed by SFAS No. 115, these investments are recorded at their market values at December 31, 1993 with the resulting net unrealized gain recorded as an increase in stockholders' equity. The effect of adopting SFAS No. 115 at December 31, 1993 was to increase fixed maturities by $65.6 million, decrease deferred policy acquisition costs by $12.4 million, increase the liability for deferred income taxes by $18.6 million, and increase stockholders' equity by $34.6 million. In accordance with the provisions of SFAS No. 115, 1992 amounts have not been restated. INVESTMENTS Investments are reported on the following bases less allowances for uncollectible amounts on investments, if applicable: - - Fixed maturities (bonds, bank loan participations, and redeemable preferred stocks) - 1993: at current market value; 1992: at cost, adjusted for amortization of premium or discount and other than temporary market-value declines. - - Equity securities (common and nonredeemable preferred stocks) - at current market value. - - Mortgage loans on real estate - at unpaid balances, adjusted for loan origination costs, net of fees, and amortization of premium or discount. - - Investment real estate - at cost, less allowances for depreciation computed on the straight-line method. With respect to real estate acquired through foreclosure, cost is the lesser of the loan balance plus foreclosure costs or appraised value. - - Policy loans - at unpaid balances. - - Other long-term investments - at a variety of methods similar to those listed above, as deemed appropriate for the specific investment. - - Short-term investments - at cost, which approximates current market value. Substantially all short-term investments have maturities of three months or less at the time of acquisition and include approximately $11 million in bank deposits voluntarily restricted as to withdrawal. Realized gains and losses on sales of investments are recognized in net income using the specific identification basis. Temporary changes in market values of certain investments are reflected as unrealized gains or losses directly in stockholders' equity (net of income tax) and accordingly have no effect on net income. A combination of futures contracts and options on treasury notes are currently being used as hedges for asset/liability management of certain investments, primarily mortgage loans on real estate, and liabilities arising from interest-sensitive products such as guaranteed investment contracts and individual annuities. Realized investment gains and losses on such contracts are deferred and amortized over the life of the hedged asset. The Company also uses interest rate swap contracts to convert certain investments from a variable to a fixed rate of interest. At December 31, 1993, open interest rate swap contracts were in a $9.0 million unrealized gain position. CASH Cash includes all demand deposits reduced by the amount of outstanding checks and drafts. PROPERTY AND EQUIPMENT Property and equipment are reported at cost. The Company uses both accelerated and straight-line methods of depreciation based upon the estimated useful lives of the assets. Major repairs or improvements are capitalized and depreciated over the estimated useful lives of the assets. Other repairs are expensed as incurred. The cost and related accumulated depreciation of property and equipment sold or retired are removed from the accounts, and resulting gains or losses are included in income. Property and equipment consisted of the following at December 31: 1993 1992 Home Office building $35,284 $35,267 Data processing equipment 13,301 11,101 Other, principally furniture and equipment 15,034 15,344 63,619 61,712 Accumulated depreciation 27,955 26,966 $35,664 $34,746 REVENUES, BENEFITS, CLAIMS, AND EXPENSES - - Traditional Life and Health Insurance Products - Traditional life insurance products consist principally of those products with fixed and guaranteed premiums and benefits and include whole life insurance policies, term life insurance policies, limited-payment life insurance policies, and certain annuities with life contingencies. Life insurance and immediate annuity premiums are recognized as revenue when due. Health insurance premiums are recognized as revenue over the terms of the policies. Benefits and expenses are associated with earned premiums so that profits are recognized over the life of the contracts. This is accomplished by means of the provision for liabilities for future policy benefits and the amortization of deferred policy acquisition costs. Liabilities for future policy benefits on traditional life insurance products have been computed using a net level method including assumptions as to investment yields, mortality, persistency, and other assumptions based on the Company's experience, modified as necessary to reflect anticipated trends and to include provisions for possible adverse deviation. Reserve investment yield assumptions are graded and range from 2.5% to 7.0%. The liability for future policy benefits and claims on traditional life and health insurance products includes estimated unpaid claims that have been reported to the Company and claims incurred but not yet reported. Policy claims are charged to expense in the period that the claims are incurred. - - Universal Life and Investment Products - Universal life and investment products include universal life insurance, guaranteed investment contracts, deferred annuities, and annuities without life contingencies. Revenues for universal life and investment products consist of policy fees that have been assessed against policy account balances for the costs of insurance, policy administration, and surrenders. That is, universal life and investment product deposits are not considered revenues in accordance with generally accepted accounting principles. Benefit reserves for universal life and investment products represent policy account balances before applicable surrender charges plus certain deferred policy initiation fees that are recognized in income over the term of the policies. Policy benefits and claims that are charged to expense include benefit claims incurred in the period in excess of related policy account balances and interest credited to policy account balances. Interest credit rates for universal life and investment products ranged from 3.0% to 9.4% in 1993. At December 31, 1993, the Company estimates the fair value of its guaranteed investment contracts to be $2,105 million using discounted cash flows. The surrender value of the Company's annuities which approximates fair value was $1,003 million. - - Policy Acquisition Costs - Commissions and other costs of acquiring traditional life and health insurance, universal life insurance, and investment products that vary with and are primarily related to the production of new business have been deferred. Traditional life and health insurance acquisition costs are being amortized over the premium-payment period of the related policies in proportion to the ratio of annual premium income to total anticipated premium income. Acquisition costs for universal life and investment products are amortized over the lives of the policies in relation to the present value of estimated gross profits from surrender charges and investment, mortality, and expense margins. For 1993, these costs have been reduced by an amount equal to the amortization that would have been recorded if unrealized gains or losses on investments associated with the Company's universal life and investment products had been realized. At the time it adopted Statement of Financial Accounting Standards No. 97, "Accounting and Reporting by Insurance Enterprises for Certain Long-Duration Contracts and for Realized Gains and Losses from the Sale of Investments," the Company made certain assumptions regarding the mortality, persistency, expenses, and interest rates it expected to experience in future periods. Under SFAS No. 97, these assumptions are to be best estimates and are to be periodically updated whenever actual experience and/or expectations for the future change from initial assumptions. Accordingly, the Company has substituted its actual experience to date for that previously assumed. The cost to acquire blocks of insurance representing the present value of future profits from such blocks of insurance is also included in deferred policy acquisition costs, discounted at interest rates averaging 15%. For acquisitions occurring after 1988, the Company amortizes the present value of future profits over the premium-payment period, including accrued interest at 8%. The unamortized present value of future profits for such acquisitions was approximately $39.4 million and $29.9 million at December 31, 1993 and 1992, respectively. During 1993 $12.4 million of present value of future profits on acquisitions made during the year was capitalized and $0.4 million was amortized. The unamortized present value of future profits for all acquisitions was $69.9 million at December 31, 1993 and $65.4 million at December 31, 1992. PARTICIPATING POLICIES Participating business comprises approximately 4% of the ordinary life insurance in force and 4% of the ordinary life insurance premium income. Policyholder dividends totaled $2.6 million in 1993, $2.6 million in 1992, and $2.8 million in 1991. INCOME TAXES The Company uses the liability method of accounting for income taxes. Income tax provisions are generally based on income reported for financial statement purposes. Deferred federal income taxes arise from the recognition of temporary differences between income determined for financial reporting purposes and income tax purposes. Such temporary differences are principally related to the deferral of policy acquisition costs and the provision for future policy benefits and expenses. INCOME PER SHARE OF COMMON STOCK Per share data are based on the weighted average number of shares of Common Stock outstanding which was 13,690,789, 13,657,993, and 13,649,031, in 1993, 1992, and 1991, respectively. RECLASSIFICATIONS Certain reclassifications have been made in the previously reported financial statements to make the prior year amounts comparable to those of the current year. Such reclassifications had no effect on the previously reported net income, total assets, or stockholders' equity. NOTE B. RECONCILIATION WITH STATUTORY REPORTING PRACTICES Financial statements prepared in conformity with generally accepted accounting principles (GAAP) differ in some respects from the statutory accounting practices prescribed or permitted by insurance regulatory authorities. The most significant differences are: (a) acquisition costs of obtaining new business are deferred and amortized over the approximate life of the policies rather than charged to operations as incurred; (b) benefit liabilities are computed using a net level method and are based on realistic estimates of expected mortality, interest, and withdrawals as adjusted to provide for possible unfavorable deviation from such assumptions; (c) deferred income taxes are provided for significant temporary differences between financial and taxable earnings; (d) the Asset Valuation Reserve and Interest Maintenance Reserve are restored to stockholders' equity; (e) furniture and equipment, agents' debit balances, and prepaid expenses are reported as assets rather than being charged directly to surplus (referred to as nonadmitted items); (f) certain items of interest income, principally accrual of mortgage and bond discounts are amortized differently; and (g) bonds are stated at market instead of amortized cost. The reconciliations of net income and stockholders' equity prepared in conformity with statutory reporting practices to that reported in the accompanying consolidated financial statements are as follows: NET INCOME STOCKHOLDERS' EQUITY 1993 1992 1991 1993 1992 1991 In conformity with statutory reporting practices: Protective Life Insurance Company $41,471 $25,138 $28,071 $263,075 $206,476 $177,285 Wisconsin National Life Insurance Company 9,591 50,885 American Foundation Life Insurance Company 1,415 2,155 2,401 18,290 18,394 17,717 Empire General Life Assurance Corporation 408 (201) 10,588 5,178 Capital Investors Life Insurance Company 228 879 Protective Life Insurance Corporation of Alabama 25 2,073 National Deposit Life Insurance Company(1) 5,386 5,730 10,188 Protective Life Insurance Acquisition Corporation(2) 22 (6) 2,009 Consolidation elimination (74) (1,000) (80,715) (21,572) (17,726) 53,138 32,426 35,196 265,075 208,476 189,473 Additions (deductions) by adjustment: Deferred policy acquisition costs, net of amortization 25,392 32,928 22,475 299,584 275,212 215,411 Policy liabilities and accruals (15,586) (26,486) (16,474) (69,844) (45,583) (16,216) Deferred income tax 5,273 1,336 (3,357) (69,269) (54,727) (57,241) Asset Valuation Reserve 43,398 25,341 27,821 Interest Maintenance Reserve (1,432) (93) 10,489 1,634 Nonadmitted items 1,190 685 (27) 7,742 (10,178) (1,521) Timing differences on mortgage loans on real estate and fixed maturity investments 1,645 1,296 3,297 7,350 (11,608) (16,131) Net unrealized gains on investments (334) (378) (1,648) Realized investment losses (7,860) (2,550) (8,757) Noninsurance affiliates (4,081) 2,990 4,666 87,693 100,435 123,930 Minority interest in consolidated subsidiaries (19) (90) (1,437) (1,311) (1,221) Consolidation elimination (222,790) (205,625) (209,670) Other adjustments, net (1,110) (1,022) 207 1,639 (288) (1,242) In conformity with generally accepted accounting principles $56,550 $41,420 $35,789 $360,733 $281,400 $251,745 <FN> (1) MERGED INTO PROTECTIVE LIFE IN SEPTEMBER 1992. (2) FORMED TO FACILITATE PROTECTIVE LIFE'S ACQUISITION OF EMPLOYERS NATIONAL LIFE INSURANCE COMPANY. SEE NOTE F. NOTE C. INVESTMENT OPERATIONS Major categories of net investment income for the years ended December 31 are summarized as follows: 1993 1992 1991 Fixed maturities $212,816 $172,919 $131,959 Equity securities 1,519 939 2,581 Mortgage loans on real estate 130,262 108,128 88,664 Investment real estate 2,166 1,893 1,146 Policy loans 7,558 6,781 6,395 Other, principally short-term investments 17,790 3,023 9,499 372,111 293,683 240,244 Investment expenses 9,981 9,614 6,742 $362,130 $284,069 $233,502 Realized investment gains (losses) for the years ended December 31 are summarized as follows: 1993 1992 1991 Fixed maturities $ 10,508 $ 8,163 $ 2,547 Equity securities 2,230 3,688 763 Mortgage loans and other investments (7,684) (11,865) (6,395) $ 5,054 $ (14) $ (3,085) The Company has established an allowance for uncollectible amounts on investments. The allowance totaled $35.9 million, $27.2 million, and $17.5 million at December 31, 1993, 1992, and 1991, respectively. Additions to the allowance are included in realized investment losses. Without such additions the Company had realized investment gains of $13.8 million, $9.7 million, and $7.4 million in 1993, 1992, and 1991, respectively. In 1993, gross gains on the sale of investments available for sale (fixed maturities, equity securities, and short-term investments) were $8.3 million, and gross losses were less than $0.4 million. In 1992, gross gains on the sale of fixed maturities were $12.8 million, and gross losses were $1.7 million. In 1991, gross gains were $4.8 million, and gross losses were $1.9 million. The amortized cost and estimated market values of the Company's investments classified as available for sale at December 31, 1993 are as follows: GROSS GROSS ESTIMATED AMORTIZED UNREALIZED UNREALIZED MARKET 1993 COST GAINS LOSSES VALUES Fixed maturities: Bonds: Mortgage-backed securities $1,531,012 $31,532 $ 957 $1,561,587 United States Govern- ment and authorities 89,372 2,818 0 92,190 States, municipalities, and political subdivisions 15,024 133 2 15,155 Public utilities 339,613 4,262 252 343,623 Convertibles and bonds with warrants 1,421 0 167 1,254 All other corporate bonds 822,505 28,799 688 850,616 Bank loan participations 151,278 0 0 151,278 Redeemable preferred stocks 35,445 226 82 35,589 2,985,670 67,770 2,148 3,051,292 Equity securities 33,331 8,560 1,295 40,596 Short-term investments 83,692 0 0 83,692 $3,102,693 $76,330 $3,443 $3,175,580 The amortized cost and estimated market values of the Company's investments in fixed maturities at December 31, 1992 are as follows: GROSS GROSS ESTIMATED AMORTIZED UNREALIZED UNREALIZED MARKET 1992 COST GAINS LOSSES VALUES Bonds: Mortgage-backed securities $1,269,620 $35,637 $0 $1,305,257 United States Govern- ment and authorities 21,307 2,595 0 23,902 States, municipalities, and political subdivisions 935 228 0 1,163 Public utilities 260,590 7,787 0 268,377 Convertibles and bonds with warrants 5,224 193 0 5,417 All other corporate bonds 473,536 15,883 0 489,419 Bank loan participations 148,683 0 0 148,683 Redeemable preferred stocks 5,120 490 0 5,610 $2,185,015 $62,813 $0 $2,247,828 The amortized cost and estimated market value of fixed maturities at December 31, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or to prepay certain of these obligations. ESTIMATED ESTIMATED AMORTIZED MARKET 1993 COST VALUES Due in one year or less $ 24,667 $ 24,755 Due after one year through five years 359,545 367,836 Due after five years through ten years 550,773 567,778 Due after ten years 2,050,685 2,090,923 $2,985,670 $3,051,292 ESTIMATED ESTIMATED AMORTIZED MARKET 1992 COST VALUES Due in one year or less $ 26,474 $ 26,790 Due after one year through five years 305,732 310,355 Due after five years through ten years 271,307 281,648 Due after ten years 1,581,502 1,629,035 $2,185,015 $2,247,828 The approximate percentage distribution of the Company's fixed maturity investments by quality rating at December 31 is as follows: RATING 1993 1992 AAA 52.5% 51.7% AA 7.8 10.0 A 15.1 15.8 BBB Bonds 16.2 12.9 Bank loan participations 1.0 2.7 BB or less Bonds 2.2 2.5 Bank loan participations 4.0 4.1 Redeemable preferred stocks 1.2 0.3 100.0% 100.0% At December 31, 1993, the Company had bonds which were rated less than investment grade of $67.3 million having an amortized cost of $66.7 million. Additionally, the Company had bank loan participations which were rated less than investment grade of $121.7 million having an amortized cost of $121.7 million. The change in unrealized gains (losses), net of tax, on fixed maturity and equity securities for the years ended December 31 is summarized as follows: 1993 1992 1991 Fixed maturities $1,198 $ 76 $65,955 Equity securities $1,565 $(825) $ 4,467 At December 31, 1993, all of the Company's mortgage loans were commercial loans of which 79% were retail, 9% were warehouses, and 8% were office buildings. The Company specializes in making mortgage loans on either credit-oriented or credit-anchored commercial properties, most of which are strip shopping centers in smaller towns and cities. No single tenant's leased space represents more than 7% of mortgage loans. Approximately 85% of the mortgage loans are on properties located in the following states listed in decreasing order of significance: Alabama, North Carolina, Tennessee, Georgia, South Carolina, Texas, Florida, Mississippi, Virginia, Colorado, California, Ohio, Wisconsin, Illinois, Indiana, and Michigan. Many of the mortgage loans have call provisions after 5 to 7 years. Assuming the loans are called at their next call dates, approximately $50.2 million would become due in 1994, $480.1 million in 1995 to 1998, and $218.7 million in 1999 to 2003. At December 31, 1993, the average mortgage loan was $1.4 million, and the weighted average interest rate was 9.6%. The largest single mortgage loan was $9.3 million. While the Company's $1,407.7 million of mortgage loans do not have quoted market values, at December 31, 1993, the Company estimates the market value of its mortgage loans to be $1,524.2 million using discounted cash flows from the next call date. At December 31, 1993 and 1992, the Company's problem mortgage loans and foreclosed properties totaled $27.1 million and $16.4 million, respectively. The Company expects no significant loss of principal. Certain investments, principally real estate, with a carrying value of $9.9 million, were nonincome producing for the twelve months ended December 31, 1993. Mortgage loans to Fletcher Bright, Kenneth Karl, and Edens & Avant totaling $92.1 million, $48.5 million, and $40.1 million, respectively, exceeded ten percent of stockholders' equity at December 31, 1993. The Company believes it is not practicable to determine the fair value of its policy loans since there is no stated maturity, and policy loans are often repaid by reductions to policy benefits. Policy loan interest rates generally range from 4.5% to 8.0%. The fair values of the Company's other long-term investments approximate cost. NOTE D. FEDERAL INCOME TAXES The Company's effective income tax rate varied from the maximum federal income tax rate as follows: 1993 1992 1991 Statutory federal income tax rate applied to pretax income 35.0% 34.0% 34.0% Amortization of nondeductible goodwill 0.1 1.1 0.4 Dividends received deduction and tax-exempt interest (0.5) (1.3) (1.5) Tax benefits arising from prior acquisitions and other adjustments (2.6) (4.8) (4.9) 32.0% 29.0% 28.0% In August 1993, the corporate income tax rate was increased from 34% to 35% which resulted in a one-time increase to income tax expense of $1.3 million or $.09 per share due to a recalculation of the Company's deferred income tax liability. The effective income tax rate for 1993 of 32% excludes the one-time increase. The provision for federal income tax differs from amounts currently payable due to certain items reported for financial statement purposes in periods which differ from those in which they are reported for tax purposes. Details of the deferred income tax provision for the years ended December 31 are as follows: 1993 1992 1991 Deferred policy acquisition costs $ 8,861 $ 7,164 $ 2,886 Benefit and other policy liability changes (10,416) (9,005) (5,601) Temporary differences of investment income 336 1,153 Effect of operating loss carryforward 5,799 Other items (3,718) 169 (880) $ (5,273) $ (1,336) $ 3,357 The components of the Company's net deferred income tax liability as of December 31, 1993 were as follows: 1993 Deferred income tax assets: Policy and policyholder liability reserves $25,123 Other 4,333 29,456 Deferred income tax liabilities: Deferred policy acquisition costs 79,199 Unrealized gain on investments 19,526 98,725 Net deferred income tax liability $69,269 Under pre-1984 life insurance company income tax laws, a portion of the Company's gain from operations which was not subject to current income taxation was accumulated for income tax purposes in a memorandum account designated as Policyholders' Surplus. The aggregate accumulation in this account at December 31, 1993 was approximately $50.7 million. Should the accumulation in the Policyholders' Surplus account of the life insurance subsidiaries exceed certain stated maximums, or should distributions including cash dividends be made to Protective Life Corporation in excess of approximately $184.0 million, such excess would be subject to federal income taxes at rates then effective. Deferred income taxes have not been provided on amounts designated as Policyholders' Surplus. The Company does not anticipate involuntarily paying income tax on amounts in the Policyholders' Surplus accounts. At December 31,1993, the Company has no unused income tax loss carryforwards. NOTE E. DEBT Short-term and long-term debt at December 31 are summarized as follows: 1993 1992 Short-term debt: Notes payable to banks $49,700 Current portion of long-term debt $ 9,520 7,534 $ 9,520 $57,234 Long-term debt: Notes payable to banks $137,500 $29,000 Mortgage and other notes payable less current portion 98 2,014 $137,598 $31,014 Under a three-year revolving line of credit arrangement with several banks, the Company can borrow up to $138 million on an unsecured basis. No compensating balances are required to maintain the line of credit. At December 31, 1993, the Company had borrowed $118.0 million under this credit arrangement at a weighted average interest rate of 4.0%. At December 31, 1993, the Company had borrowed $29.0 million under a variable rate term note to be repaid in installments through 1996. At December 31, 1993, the note's rate of interest was 4.4%. The aforementioned term note and revolving line of credit arrangement contain, among other provisions, requirements for maintaining certain financial ratios and restrictions on indebtedness incurred by the Company and its subsidiaries. Additionally, the Company, on a consolidated basis, cannot incur debt in excess of 40% of its total capital. The Company believes the fair value of its debt approximates book value due to the debt being either short-term or variable rate. Future maturities of the long-term debt are $9.5 million in 1994, $9.5 million in 1995, and $128.0 million in 1996. Interest expense on debt totaled $6.3 million, $4.8 million, and $5.7 million in 1993, 1992, and 1991, respectively. NOTE F. ACQUISITIONS AND SALE OF SUBSIDIARY In March 1992, regulatory approval was received to merge Employers National Life Insurance Company into Protective Life. Additionally, effective July 1, 1992, the Company assumed all of the policy obligations associated with the credit life and credit accident and health insurance business produced by Durham Life Insurance Company. In July 1993, the Company acquired Wisconsin National Life Insurance Company (Wisconsin National). In addition, the Company reinsured a block of universal life policies. These transactions have been accounted for as purchases, and the results of the transactions have been included in the accompanying financial statements since the effective dates of the agreements. Summarized below are the consolidated results of operations for 1993 and 1992, on an unaudited proforma basis, as if the Wisconsin National acquisition had occurred as of January 1, 1992. The pro forma information is based on the Company's consolidated results of operations for 1993 and 1992 and on data provided by Wisconsin National, after giving effect to certain pro forma adjustments. The pro forma financial information does not purport to be indicative of results of operations that would have occurred had the transaction occurred on the basis assumed above nor are they indicative of results of the future operations of the combined enterprises. 1993 1992 (UNAUDITED) Total revenues $791,396 $693,950 Net income $ 58,428 $ 45,613 Net income per share $ 4.27 $ 3.34 In August 1993, the Company sold its ownership interest in Southeast Health Plan, Inc. NOTE G. COMMITMENTS AND CONTINGENT LIABILITIES At December 31, 1993, the Company was committed to fund mortgage loans and to purchase fixed maturity and other long-term investments in the amount of $168.0 million. Also, the Company has issued a guarantee in connection with the sale of certain tax-exempt mortgage loans which may be put to the Company in the event of default. At December 31, 1993, the loans totaled $25.8 million. At December 31, 1993, the Company was contingently liable as a guarantor of $8.1 million in mortgage debt in the name of a motel joint venture in which the Company is a partner. Should the joint venture become unable to meet its obligation on this debt, the Company would assume title to the real estate development along with the debt. The Company is contingently liable to obtain a $20 million letter of credit under indemnity agreements with its directors. Such agreements provide insurance protection in excess of the directors' and officers' liability insurance in force at the time up to $20 million. Should certain events occur constituting a change in control of the Company, the Company must obtain the letter of credit upon which directors may draw for defense or settlement of any claim relating to performance of their duties as directors. The Company has similar agreements with certain of its officers providing up to $10 million in indemnification which are not secured by the obligation to obtain a letter of credit. Under insurance guaranty fund laws, in most states, insurance companies doing business therein can be assessed up to prescribed limits for policyholder losses incurred by insolvent companies. The Company does not believe such assessments will be materially different from amounts already provided for in the financial statements. Most of these laws do provide, however, that an assessment may be excused or deferred if it would threaten an insurer's own financial strength. NOTE H. STOCKHOLDERS' EQUITY AND RESTRICTIONS The Company has adopted a Share Purchase Rights Plan that provides rights to holders of the Company's Common Stock to receive Junior Participating Cumulative Preferred Stock under certain circumstances. The Company can redeem the rights at $.01 per right until ten business days following a public announcement that 20% or more of the Company's Common Stock has been acquired by one or more related investors. If, after the rights become exercisable, the Company becomes involved in a merger or certain other major corporate transactions, each right then outstanding (other than those held by the 20% holder) would entitle its holder to buy from the acquirer or the Company or its successor, Common Stock of the acquirer or the Company or its successor worth twice the exercise price. Stockholders have authorized 1,000,000 shares of Preferred Stock, $1.00 par value. Other terms, including preferences, voting, and conversion rights, may be established by the Board of Directors. In connection with the Share Purchase Rights Plan, 150,000 of these shares have been designated as Junior Participating Cumulative Preferred Stock, $1.00 par value, and were unissued at December 31, 1993. The remaining 850,000 shares of Preferred Stock, $1.00 par value, were also unissued at December 31, 1993. During 1990, the Company's Board of Directors approved the formation of an Employee Stock Ownership Plan (ESOP). In December 1990, 520,000 shares of the Company's Common Stock, which had been held by Protective Life and accounted for as treasury shares, were transferred to the ESOP in exchange for a $6.9 million note. The stock is used to match employee contributions to the Company's 401(k) Plan. The stock held by the ESOP that has not yet been used to match employee contributions is the unallocated stock shown as a reduction to stockholders' equity. The ESOP shares are dividend-paying and therefore are considered outstanding for earnings per share calculations. Dividends on the shares will be used to pay the ESOP's note to Protective Life. If certain events associated with a change in control of the Company occur, any unallocated shares held by the ESOP will become allocable to employee 401(k) accounts. The Company may from time to time transfer or buy in the open market additional shares of Common Stock to complete its 401(k) employer match obligation. Accordingly, in 1992, the Company transferred 728 shares of Common Stock to the ESOP and transferred another 103 shares during 1993. At December 31, 1993, approximately $172 million of consolidated stockholders' equity represented net assets of the Company's insurance subsidiaries that cannot be transferred in the form of dividends, loans, or advances to the parent company. Generally, the net assets of the Company's insurance subsidiaries available for transfer to the parent company are limited to the amounts that the insurance subsidiaries' net assets, as determined in accordance with statutory accounting practices, exceed certain minimum amounts. However, payments of such amounts as dividends may be subject to approval by regulatory authorities. NOTE I. RELATED PARTY MATTERS Certain corporations with which the Company's directors were affiliated paid the Company premiums and policy fees for various types of group insurance. Such premiums and policy fees amounted to $10.3 million, $10.9 million, and $10.4 million in 1993, 1992, and 1991, respectively. NOTE J. BUSINESS SEGMENTS The Company operates predominantly in the life and accident and health insurance industry. The following table sets forth revenues, income before income tax, and identifiable assets of the Company's business segments. The primary components of revenues are premiums and policy fees, net investment income, and realized investment gains and losses. Premiums and policy fees are attributed directly to each business segment. Net investment income is allocated based on directly related assets required for transacting that segment of business. Realized investment gains (losses) and expenses are allocated to the segments in a manner which most appropriately reflects the operations of that segment. Unallocated realized investment gains (losses) are deemed not to be associated with any specific segment. Assets are allocated based on policy liabilities and deferred policy acquisition costs directly attributable to each segment. There are no significant intersegment transactions. Total revenues (DOLLARS IN THOUSANDS) 1993 1992 1991 Agency $ 111,654 $ 90,690 $ 80,592 Group 143,423 129,778 129,576 Financial Institutions 97,511 64,376 36,041 Investment Products 80,115 55,768 35,742 Guaranteed Investment Contracts 167,233 138,616 104,803 Acquisitions 123,855 93,634 95,847 Corporate and Other 33,970 54,613 36,032 Unallocated Realized Investment Gains (Losses) 1,876 (1,449) (2,685) $ 759,637 $ 626,026 $ 515,948 Agency 14.7% 14.5% 15.6% Group 18.9 20.7 25.1 Financial Institutions 12.9 10.2 7.0 Investment Products 10.6 8.9 6.9 Guaranteed Investment Contracts 22.0 22.2 20.4 Acquisitions 16.3 15.0 18.5 Corporate and Other 4.4 8.7 7.0 Unallocated Realized Investment Gains (Losses) 0.2 (0.2) (0.5) 100.0% 100.0% 100.0% Income Before Income Tax Agency $ 20,064 $ 12,985 $ 12,087 Group 10,394 7,731 8,146 Financial Institutions 8,196 5,411 4,447 Investment Products 2,931 4,601 391 Guaranteed Investment Contracts* 25,405 14,533 9,933 Acquisitions 29,845 20,031 23,494 Corporate and Other* (13,667) (3,896) (4,110) Unallocated Realized Investment Gains (Losses) 1,876 (1,449) (2,685) $ 85,044 $ 59,947 $ 51,703 Agency 23.6% 21.7% 23.4% Group 12.2 12.9 15.8 Financial Institutions 9.6 9.0 8.6 Investment Products 3.5 7.7 0.8 Guaranteed Investment Contracts 29.9 24.2 19.1 Acquisitions 35.1 33.4 45.4 Corporate and Other (16.1) (6.5) (7.9) Unallocated Realized Investment Gains (Losses) 2.2 (2.4) (5.2) 100.0% 100.0% 100.0% Identifiable Assets Agency $ 642,325 $ 507,460 $ 412,019 Group 208,968 161,744 149,218 Financial Institutions 192,486 146,713 67,404 Investment Products 879,365 686,503 432,054 Guaranteed Investment Contracts 2,041,564 1,696,786 1,291,743 Acquisitions 1,145,357 599,022 576,549 Corporate and Other 205,940 208,439 191,303 $5,316,005 $4,006,667 $3,120,290 Agency 12.1% 12.7% 13.2% Group 3.9 4.0 4.8 Financial Institutions 3.6 3.7 2.2 Investment Products 16.6 17.1 13.8 Guaranteed Investment Contracts 38.4 42.3 41.4 Acquisitions 21.5 15.0 18.5 Corporate and Other 3.9 5.2 6.1 100.0% 100.0% 100.0% <FN> *INCOME BEFORE INCOME TAX FOR THE GUARANTEED INVESTMENT CONTRACTS DIVISION HAS NOT BEEN REDUCED BY PRETAX MINORITY INTEREST OF $1,631 IN 1991. INCOME BEFORE INCOME TAX FOR THE CORPORATE AND OTHER SEGMENT HAS NOT BEEN REDUCED BY PRETAX MINORITY INTEREST OF $19 IN 1993 AND $90 IN 1992 AND 1991. NOTE K. EMPLOYEE BENEFIT PLANS The Company has a defined benefit pension plan covering substantially all of its employees. The benefits are based on years of service and the employee's highest thirty-six consecutive months of compensation. The Company's funding policy is to contribute amounts to the plan sufficient to meet the minimum funding requirements of ERISA plus such additional amounts as the Company may determine to be appropriate from time to time. Contributions are intended to provide not only for benefits attributed to service to date but also for those expected to be earned in the future. The actuarial present value of benefit obligations and the funded status of the plan at December 31 are as follows: 1993 1992 Accumulated benefit obligation, including vested benefits of $12,406 in 1993 and $10,306 in 1992 $ 12,692 $10,537 Projected benefit obligation for service rendered to date $ 20,480 $16,999 Plan assets at fair value (group annuity contract with Protective Life) 15,217 13,608 Plan assets less than the projected benefit obligation (5,263) (3,391) Unrecognized net loss from past experience different from that assumed 2,244 550 Unrecognized prior service cost 2,069 2,256 Unrecognized net transition asset (118) (135) Net pension liability recognized in balance sheet $(1,068) $ (720) Net pension cost includes the following components for the years ended December 31: 1993 1992 1991 Service cost - benefits earned during the year $ 1,191 $ 970 $ 690 Interest cost on projected benefit obligation 1,396 1,257 956 Actual return on plan assets (1,270) (1,172) (1,102) Net amortization and deferral 704 130 113 Net pension cost $ 2,021 $ 1,185 $ 657 Assumptions used to determine the benefit obligations as of December 31 were as follows: 1993 1992 1991 Weighted average discount rate 7.5% 8.0% 8.0% Rates of increase in compensation level 5.5% 6.0% 6.0% Expected long-term rate of return on assets 8.5% 8.5% 8.5% Assets of the pension plan are included in the general assets of Protective Life. Upon retirement, the amount of pension plan assets vested in the retiree are used to purchase a single premium annuity from Protective Life in the retiree's name. Therefore, amounts presented above as plan assets exclude assets relating to retirees. The Company also sponsors an unfunded Excess Benefits Plan, which is a nonqualified plan that provides defined pension benefits in excess of limits imposed by federal tax law. At December 31, 1993, the projected benefit obligation of this plan totaled $2.6 million. In addition to pension benefits, the Company provides limited health care benefits to eligible retired employees until age 65. The Company has adopted Statement of Financial Accounting Standards No. 106, "Employers' Accounting for Postretirement Benefits Other Than Pensions." At January 1, 1992, the Company recognized a $1.6 million accumulated postretirement benefit obligation, of which $0.9 million relates to current retirees, and $0.7 million relates to active employees. The $1.6 million (representing the Company's entire liability for such benefits), net of $0.5 million tax, was accounted for as a cumulative effect of a change in accounting principle and shown as a reduction to income. The postretirement benefit is provided by an unfunded plan. At December 31, 1993, the liability for such benefits totaled $1.6 million. The expense recorded by the Company was $0.2 million in 1993 and 1992. The Company's obligation is not materially affected by a 1% change in the health care cost trend assumptions used in the calculation of the obligation. Life insurance benefits for retirees are provided through the purchase of life insurance policies upon retirement equal to the employees' annual compensation. This plan is partially funded at a maximum of $50 thousand face amount of insurance. In 1990, the Company established an Employee Stock Ownership Plan to match employee contributions to the Company's existing 401(k) Plan. Previously, the Company matched employee contributions in cash. The expense recorded by the Company for this employee benefit was $249 thousand, $412 thousand, and $451 thousand in 1993, 1992, and 1991, respectively. NOTE L. REINSURANCE The Company assumes risks from and reinsures certain parts of its risks with other insurers under yearly renewable term, coinsurance, and modified coinsurance agreements. Yearly renewable term and coinsurance agreements are accounted for by passing a portion of the risk to the reinsurer. Generally, the reinsurer receives a proportionate part of the premiums less commissions and is liable for a corresponding part of all benefit payments. Modified coinsurance is accounted for similarly to coinsurance except that the liability for future policy benefits is held by the original company, and settlements are made on a net basis between the companies. While the amount retained on an individual life will vary based upon age and mortality prospects of the risk, the Company will not carry more than $500 thousand individual life insurance on a single risk. The Company has reinsured approximately $7.5 billion, $7.0 billion, and $5.3 billion in face amount of life insurance risks with other insurers representing $37.9 million, $34.8 million, and $28.3 million of premium income for 1993, 1992, and 1991, respectively. The Company has also reinsured accident and health risks representing $88.9 million, $74.6 million, and $61.6 million of premium income for 1993, 1992, and 1991, respectively. In 1992, policy liabilities and accruals are shown net of policy and claim reserves relating to insurance ceded of $90.1 million. In 1993, policy and claim reserves relating to insurance ceded of $97.8 million are included in reinsurance receivables. Should any of the reinsurers be unable to meet its obligation at the time of the claim, obligation to pay such claim would remain with the Company. At December 31, 1993 and 1992, the Company had paid $4.8 million and $4.4 million respectively, of ceded benefits which are recoverable from reinsurers. NOTE M. CONSOLIDATED QUARTERLY RESULTS - UNAUDITED Protective Life Corporation's unaudited consolidated quarterly operating data for the years ended December 31, 1993 and 1992 are presented below. In the opinion of management, all adjustments (consisting of normal recurring accruals) necessary for a fair presentation of quarterly results have been reflected in the data which follow. It is also management's opinion, however, that quarterly operating data for insurance enterprises are not indicative of results to be achieved in succeeding quarters or years. In order to obtain a more accurate indication of performance, there should be a review of operating results, changes in stockholders' equity, and cash flows for a period of several years. Fluctuation in short-term performance may be due to the long-term nature of the insurance business, seasonal patterns in premium production and policy claims, as well as to the varying yields obtained on invested assets. The data below should be read in conjunction with the "Management's Discussion and Analysis of Financial Condition and Results of Operations" appearing elsewhere herein. FIRST SECOND THIRD FOURTH 1993 QUARTER QUARTER QUARTER QUARTER Premiums and policy fees $ 85,848 $ 93,340 $ 94,421 $ 97,149 Net investment income 81,196 85,180 95,697 100,057 Realized investment gains (losses) 125 677 (39) 4,291 Other income 4,930 5,392 6,607 4,766 Total revenues 172,099 184,589 196,686 206,263 Benefits and expenses 154,804 164,484 176,654 178,651 Income before income tax 17,295 20,105 20,032 27,612 Income tax expense 5,361 6,607 7,671 8,836 Minority interest 15 4 Net income $ 11,919 $ 13,494 $ 12,361 $ 18,776 Net income per share $ .87 $ .99 $ .90 $ 1.37 Average shares outstanding 13,689,861 13,689,901 13,690,119 13,693,244 FIRST SECOND THIRD FOURTH 1992 QUARTER QUARTER QUARTER QUARTER Premiums and policy fees $ 74,414 $ 77,105 $ 86,826 $ 84,791 Net investment income 65,243 68,477 73,109 77,240 Realized investment gains (losses) 656 (347) (203) (120) Other income 4,201 4,517 4,463 5,654 Total revenues 144,514 149,752 164,195 167,565 Benefits and expenses 130,737 134,503 148,965 151,874 Income before income tax 13,777 15,249 15,230 15,691 Income tax expense 3,858 4,559 4,417 4,550 Minority interest 22 23 22 23 Change in accounting principle 1,053 Net income $ 8,844 $ 10,667 $ 10,791 $ 11,118 Net income per share $ .65 $ .78 $ .79 $ .81 Average shares outstanding 13,649,750 13,660,152 13,677,801 13,679,757 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RESULTS OF OPERATIONS PREMIUMS AND POLICY FEES The following table sets forth for the periods shown the amount of premiums and policy fees and the percentage change from the prior period: PREMIUMS AND POLICY FEES YEAR ENDED AMOUNT PERCENTAGE DECEMBER 31 (IN THOUSANDS) INCREASE 1991 $273,975 10.3% 1992 323,136 17.9 1993 370,758 14.7 Premiums and policy fees increased $49.2 million or 17.9% in 1992 over 1991. In the 1991 third quarter, the Company converted preferred stock into common stock to become the 80% owner of Southeast Health Plan, Inc. (SEHP), a Birmingham-based health maintenance organization, in which the Company had an investment since 1988. Beginning in the 1991 third quarter, the results of SEHP are reported in the Company's financial statements on a consolidated basis. The inclusion of SEHP's premiums in 1992 represents a $17.4 million increase. Increases in premiums and policy fees from the Agency and Financial Institutions Divisions represent $7.0 million and $25.7 million of the increase, respectively. Effective July 1, 1992, the Financial Institutions Division assumed Durham Life Insurance Company's (Durham) credit business representing $15.1 million of the Division's $25.7 million increase. A small acquisition in the 1992 first quarter increased premiums and policy fees $3.6 million. Decreases in older acquired blocks of policies represent a $5.6 million decrease in premiums and policy fees. Premiums and policy fees increased $47.6 million or 14.7% in 1993 over 1992. Increases in premiums and policy fees from the Agency, Group, and Financial Institutions Divisions represent increases of $14.6 million, $13.0 million, and $30.4 million, respectively. The Durham acquisition represents $17.8 million of the Financial Institutions Division's $30.4 million increase. On July 30, 1993, the Company completed its acquisition of Wisconsin National Life Insurance Company (Wisconsin National). The acquisition increased premiums and policy fees by $11.7 million. The reinsurance of a block of universal life policies on July 1, 1993 resulted in a $3.2 million increase. Decreases in older acquired blocks of policies represented a $4.5 million decrease in premiums and policy fees. On August 6, 1993, the Company completed the sale of its ownership interest in SEHP. The sale of SEHP decreased premiums and policy fees $21.2 million in 1993. NET INVESTMENT INCOME The following table sets forth for the periods shown the amount of net investment income, the percentage change from the prior period, and the percentage earned on average cash and investments: NET INVESTMENT INCOME PERCENTAGE EARNED YEAR ENDED AMOUNT PERCENTAGE ON AVERAGE DECEMBER 31 (IN THOUSANDS) INCREASE CASH AND INVESTMENTS 1991 $233,502 70.5% 9.4% 1992 284,069 21.7 8.9 1993 362,130 27.5 8.7 Net investment income for 1991 was $96.5 million or 70.5% higher, 1992 was $50.6 million or 21.7% higher, and 1993 was $78.1 million or 27.5% higher than the preceding year, primarily due to increases in the average amount of invested assets. Invested assets have increased primarily due to receiving annuity and guaranteed investment contract (GIC) deposits and to acquisitions. Annuity and GIC deposits are not considered revenues in accordance with generally accepted accounting principles. These deposits are included in the liability section of the balance sheet. The Wisconsin National acquisition resulted in an increase in 1993 net investment income of $14.5 million. Due to the general decline in interest rates, the Company's percentage earned on average cash and investments has decreased slightly since 1991. REALIZED INVESTMENT GAINS (LOSSES) The Company generally purchases its investments with the intent to hold to maturity by purchasing investments that match future cash-flow needs. The sales of investments that have occurred result from portfolio management decisions to maintain proper matching of assets and liabilities. The following table sets forth realized investment gains or losses for the periods shown: REALIZED INVESTMENT GAINS (LOSSES) REALIZED YEAR ENDED INVESTMENT GAINS (LOSSES) DECEMBER 31 (IN THOUSANDS) 1991 $(3,085) 1992 (14) 1993 5,054 The Company maintains an allowance for uncollectible amounts on investments based upon industry default rates for different asset types. The allowance totaled $35.9 million at December 31, 1993. Additions to the allowance are treated as realized investment losses. During 1991, the Company added $10.5 million to this allowance which more than offset $7.4 million of net realized investment gains. During 1992, the Company added $9.7 million to this allowance which offset the $9.7 million of net realized investment gains. During 1993, the Company added $8.7 million to this allowance which partially offset the $13.8 million of net realized investment gains. OTHER INCOME The following table sets forth other income for the periods shown: OTHER INCOME YEAR ENDED OTHER INCOME DECEMBER 31 (IN THOUSANDS) 1991 $11,556 1992 18,835 1993 21,695 Other income consists primarily of revenues of the Company's broker-dealer subsidiaries, fees from administrative-services-only types of group accident and health insurance contracts, and revenues of the Company's wholly owned insurance marketing organizations and other small noninsurance subsidiaries. The sale of SEHP reduced other income approximately $2.0 million which was more than offset by a $3.5 million gain on the sale of SEHP. Other income from recurring sources increased $3.3 million in 1992 and $1.4 million in 1993. INCOME BEFORE INCOME TAX The following table sets forth income or loss before income tax by business segment for the periods shown: INCOME BEFORE INCOME TAX INCOME (LOSS) BEFORE INCOME TAX YEAR ENDED DECEMBER 31 (IN THOUSANDS) BUSINESS SEGMENT 1991 1992 1993 Agency $12,087 $12,985 $20,064 Group 8,146 7,731 10,394 Financial Institutions 4,447 5,411 8,196 Investment Products 391 4,601 2,931 Guaranteed Investment Contracts* 9,933 14,533 25,405 Acquisitions 23,494 20,031 29,845 Corporate and Other* (4,110) (3,896) (13,667) Unallocated Realized Investment Gains (Losses) (2,685) (1,449) 1,876 $51,703 $59,947 $85,044 <FN> * INCOME BEFORE INCOME TAX FOR THE GUARANTEED INVESTMENT CONTRACTS DIVISION HAS NOT BEEN REDUCED BY PRETAX MINORITY INTEREST OF $1,631 IN 1991. INCOME BEFORE INCOME TAX FOR THE CORPORATE AND OTHER SEGMENT HAS NOT BEEN REDUCED BY PRETAX MINORITY INTEREST OF $90 IN 1991 AND 1992, AND $19 IN 1993. In 1993 the Company changed the method used to apportion net investment income within the Company. This change resulted in increased income attributable to the Agency, Investment Products, and Acquisitions Divisions of $3.0 million, $2.0 million, and $2.6 million, respectively, while decreasing income of the Corporate and Other segment. Agency pretax earnings increased $0.9 million in 1992 as compared to 1991 reflecting increased sales, better persistency, and improved mortality. Agency 1993 pretax earnings of $20.1 million were $7.1 million higher than 1992. The improvement was due primarily to a growing block of business, brought about by sales, continued strong persistency, and favorable mortality experience. Group pretax earnings were $0.4 million lower in 1992 as compared to 1991 due to both lower group health and group life earnings. Improved earnings in cancer and dental products were more than offset by lower traditional group health earnings. Group 1993 pretax earnings of $10.4 million were $2.7 million higher than 1992. Group life and annuity earnings improved by $1.7 million, and group health earnings improved by $1.0 million primarily due to improved cancer and dental earnings. Pretax earnings of the Financial Institutions Division were $1.0 million higher in 1992 as compared to 1991. Effective July 1, 1992, Protective Life assumed all of the policy obligations associated with the credit life and credit accident and health insurance business produced by Durham. The assumption contributed $1.6 million to the Division's 1992 results, which was partially offset by lower credit life and health earnings on account of higher mortality and morbidity in the Division's other lines. The Financial Institutions Division's 1993 pretax earnings of $8.2 million were up $2.8 million from 1992. The Durham acquisition represented $0.7 million of the increase. The balance of the increase was due to premium growth and improved claims ratios in the Division's other lines. The Investment Products Division's pretax earnings were $4.2 million higher in 1992, compared to 1991. The earnings improvement was primarily due to having a greater amount of annuity deposits. Annuity deposits associated with the Division were $648 million at December 31, 1992, compared to $395 million at December 31, 1991. The Division's 1993 earnings of $2.9 million were $1.7 million lower than 1992. These results reflect an increase of $3.2 million of amortization of deferred policy acquisition costs, in part to shorten the amortization period on book value annuities, sales of which were substantially discontinued in 1992. Annuity deposits totaled $836 million at December 31, 1993. Average deposits for the year were $742 million, 42% higher than for 1992. The Guaranteed Investment Contracts (GIC) Division had pretax earnings of $14.5 million in 1992 and $25.4 million in 1993. GIC earnings have increased due to the growth in GIC deposits placed with the Company. At December 31, 1993, GIC deposits totaled $2.0 billion, compared to $1.7 billion one year earlier and $1.3 billion at December 31, 1991. A portion of the earnings of the GIC Division was earned in a majority-owned subsidiary which became wholly owned in the 1991 third quarter. The ownership interest of the other stockholders in the earnings of the subsidiary before it became wholly owned was $1.3 million ($1.6 million pretax) in 1991. Pretax earnings from the Acquisitions Division decreased $3.5 million in 1992 as compared to 1991, primarily due to higher mortality and lapses in its various blocks of acquired policies. Earnings from the Acquisitions Division are normally expected to decline over time (due to the lapsing of policies resulting from deaths of insureds or terminations of coverage) unless new acquisitions are made. The Acquisitions Division had pretax earnings of $29.8 million for 1993, $9.8 million higher than 1992. On July 30, 1993, the Company completed its acquisition of Wisconsin National. The Company also reinsured a block of universal life policies during the 1993 third quarter. These two acquisitions contributed $5.1 million to the Division's 1993 earnings. The Division also experienced improved results in its other blocks of acquired policies. The Corporate and Other segment consists of several small insurance lines of business, net investment income and other operating expenses not identified with the preceding operating divisions (including interest on substantially all debt), the earnings of SEHP, and the operations of several small noninsurance subsidiaries. Pretax losses for this segment were $0.2 million lower in 1992 as compared to 1991 due to SEHP having a $0.6 million profit, compared to a loss in 1991, the SEHP increase being largely offset by several factors of negative effect. Pretax losses of this segment were $9.8 million higher in 1993 as compared to 1992 primarily due to the aforementioned reapportionment of net investment income within the Company. On August 6, 1993, the Company sold its ownership interest in SEHP. The sale has been accounted for in a manner similar to an installment sale. The segment's 1993 results include a gain of $3.5 million attributable to the sale of SEHP which was more than offset by higher expenses. INCOME TAX EXPENSE The following table sets forth the effective income tax rates for the periods shown: INCOME TAX EXPENSE YEAR ENDED DECEMBER 31 EFFECTIVE INCOME TAX RATES 1991 28% 1992 29 1993 32 For the year ended December 31, 1992, the effective income tax rate was 29%. In August 1993, the corporate income tax rate was increased from 34% to 35% which resulted in a one-time increase to income tax expense of $1.3 million or $.09 per share due to a recalculation of the Company's deferred income tax liability. The effective income tax rate for 1993, excluding the one-time increase, was 32%. Management's estimate of the effective income tax rate for 1994 is 32%. NET INCOME The following table sets forth net income and net income per share for the periods shown: NET INCOME YEAR ENDED AMOUNT PER PERCENTAGE DECEMBER 31 (IN THOUSANDS) SHARE INCREASE 1991 $35,789 $2.62 26.6% 1992 41,420 3.03 15.6 1993 56,550 4.13 36.3 Compared to 1991, net income per share in 1992 increased 15.6%, reflecting improved earnings in its Agency, Financial Institutions, Investment Products, and GIC Divisions, and higher realized investment gains which were partially offset by an allowance for uncollectible amounts on investments and lower earnings in the Group and Acquisitions Divisions. Additionally, 1992 includes a reduction to income of $1.1 million reported as the cumulative effect of a change in accounting principle associated with the Company's adoption of Statement of Financial Accounting Standards No. 106, "Employers' Accounting for Postretirement Benefits Other Than Pensions." Net income per share in 1993 was 36.3% higher than 1992, reflecting improved earnings in the Agency, Group, Financial Institutions, GIC, and Acquisitions Divisions, and higher realized investment gains. RECENTLY ISSUED ACCOUNTING STANDARDS In May 1993, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards (SFAS) No. 114, "Accounting by Creditors for Impairment of a Loan." The Company anticipates that the impact of adopting SFAS No. 114 on its financial condition will be immaterial. The American Institute of Certified Public Accountants has issued Statement of Position 93-6, "Employers' Accounting For Employee Stock Ownership Plans" (ESOP). Under certain "grandfathering" provisions in the Statement, employers may elect not to apply the new accounting rules to shares acquired by ESOPs before December 31, 1992. The Company does not plan to apply the new rules to its existing ESOP. LIQUIDITY AND CAPITAL RESOURCES The Company's operations usually produce a positive cash flow. This cash flow is used to fund an investment portfolio to finance future benefit payments including those arising from various types of deposit contracts. Since future benefit payments largely represent long-term obligations reserved using certain assumed interest rates, the Company's investments are predominantly in long-term, fixed-rate investments such as bonds and mortgage loans which provide a sufficient return to cover these obligations. Many of the Company's products contain surrender charges and other features which reward persistency and penalize the early withdrawal of funds. With respect to such products, surrender charges are generally sufficient to cover the Company's unamortized deferred policy acquisition costs with respect to the policy being surrendered. GICs and certain annuity contracts have market-value adjustments which protect the Company against investment losses if interest rates are higher at the time of surrender as compared to interest rates at the time of issue. The Company has adopted Statement of Financial Accounting Standards No. 115, "Accounting For Certain Investments In Debt And Equity Securities." Accordingly, the Company's investments in debt and equity securities are reported in the 1993 financial statements at market value, and investments in mortgage loans are reported at amortized cost. At December 31, 1993, the fixed maturity investments (bonds, bank loan participations, and redeemable preferred stocks) had a market value of $3,051.3 million, which is 2.2% above amortized cost (less allowances for uncollectible amounts on investments) of $2,985.7 million. The Company had $1,407.7 million in mortgage loans at December 31, 1993. While the Company's mortgage loans do not have quoted market values, at December 31, 1993, the Company estimates the market value of its mortgage loans to be $1,524.2 million(using discounted cash flows from the next call date) which is 8.3% in excess of amortized book value. Most of the Company's mortgage loans have significant prepayment penalties. These assets are invested for terms approximately corresponding to anticipated future benefit payments. Thus, market fluctuations should not adversely affect liquidity. At December 31, 1993, delinquent mortgage loans and foreclosed real estate were 0.5% of assets. Bonds rated less than investment grade were 1.3% of assets. Additionally, the Company had bank loan participations that were less than investment grade representing 2.3% of assets. The Company does not expect these investments to adversely affect its liquidity or ability to hold its other investments to maturity. The Company's allowance for uncollectible amounts on investments was $35.9 million at December 31, 1993. Policy loans at December 31, 1993 were $141.1 million, an increase of $23.3 million from December 31, 1992. The acquisition of Wisconsin National increased policy loans by $13.5 million, and the reinsurance of a block of universal life policies added an additional $12.1 million. Otherwise, policy loans decreased $2.3 million. Policy loan rates are generally in the 4.5% to 8.0% range. Such rates at least equal the assumed interest rates used for future policy benefits. The Company believes its asset/liability matching practices and certain product features provide significant protection for the Company against the effects of changes in interest rates. However, approximately 24% of the Company's liabilities relate to products (primarily whole life insurance) the profitability of which may be affected by changes in interest rates. The effect of such changes in any one year is not expected to be material. Additionally, the Company believes its asset/liability matching practices provide sufficient liquidity to enable it to fulfill its obligation to pay benefits under its various insurance and deposit contracts. The Company's asset/liability matching practices involve the monitoring of asset and liability durations for various product lines; cash flow testing under various interest rate scenarios; and the continuous rebalancing of assets and liabilities with respect to yield, risk, and cash flow characteristics. A combination of futures contracts and options on treasury notes are currently being used as hedges for asset/liability management of certain investments, primarily mortgage loans on real estate, and liabilities arising from interest-sensitive products such as GICs and annuities. Realized investment gains and losses of such contracts are deferred and amortized over the life of the hedged asset. The Company also uses interest rate swap contracts to convert certain investments from a variable to a fixed rate of interest. In anticipation of receiving GIC and annuity deposits, the life insurance subsidiaries were committed at December 31, 1993 to fund mortgage loans and to purchase fixed maturity and other long-term investments in the amount of $168 million. The Company's subsidiaries held $108.4 million in cash and short-term investments at December 31, 1993. Protective Life Corporation had an additional $2.4 million in cash and short-term investments available for general corporate purposes. While the Company generally anticipates that the cash flows of its subsidiaries will be sufficient to meet their investment commitments and operating cash needs, the Company recognizes that investment commitments scheduled to be funded may from time to time exceed the funds then available. Therefore, the Company has arranged sources of credit for its insurance subsidiaries to utilize to fund investments in such circumstances. The Company expects that the rate received on its investments will equal or exceed its borrowing rate. Additionally, the Company may from time to time sell short-duration GICs to complement its cash management practices. At December 31, 1993, Protective Life Corporation had borrowed $118 million of its $138 million revolving line of credit on short-term notes bearing interest rates averaging 4.0%. In addition, Protective Life Corporation has borrowed $29 million under a four-year installment note at a rate of 4.4%. In total, Protective Life Corporation's borrowings increased $60.8 million during 1993, approximately $35 million of which was used to finance acquisitions, and the remainder contributed as additional statutory capital to its insurance subsidiaries to support their future growth. Management expects to register under the Securities Act of 1933, probably on a delayed (or "shelf") basis, preferred stock and debt securities of Protective Life Corporation, and preferred securities of a special purpose finance subsidiary, to reduce existing bank borrowings and to give the Company flexibility in connection with future acquisition opportunities. Protective Life Corporation's cash flow is dependent on cash dividends from its subsidiaries, payments on surplus notes, revenues from investment, data processing, legal, and management services rendered to the subsidiaries, and investment income. At December 31, 1993, approximately $172 million of consolidated stockholders' equity represented net assets of the Company's insurance subsidiaries that cannot be transferred to the Company in the form of dividends, loans, or advances. In addition, the states in which the Company's insurance subsidiaries are domiciled impose certain restrictions on the insurance subsidiaries' ability to pay dividends to Protective Life Corporation. Also, distributions, including cash dividends to Protective Life Corporation from its life insurance subsidiaries, in excess of approximately $184 million, would be subject to federal income tax at rates then effective. The Company does not anticipate involuntarily making distributions that would be subject to tax. For the foregoing reasons and due to the expected growth of the Company's insurance sales, the Company will retain substantial portions of the earnings of its life insurance subsidiaries in those companies primarily to support their future growth. Because Protective Life Corporation's cash disbursements have from time to time exceeded its cash receipts, such shortfalls have been funded through various external financings. Therefore, Protective Life Corporation may from time to time require additional external financing. A life insurance company's statutory capital is computed according to rules prescribed by the National Association of Insurance Commissioners (NAIC), as modified by the insurance company's state of domicile. Statutory accounting rules are different from generally accepted accounting principles and are intended to reflect a more conservative view by, for example, requiring immediate expensing of policy acquisition costs. The achievement of long-term growth will require growth in the statutory capital of the Company's insurance subsidiaries. The subsidiaries may secure additional statutory capital through various sources, such as internally generated statutory earnings or equity contributions by the Company from funds generated through debt or equity offerings. The NAIC's risk-based capital requirements require insurance companies to calculate and report information under a risk-based capital formula. These requirements are intended to allow insurance regulators to identify inadequately capitalized insurance companies based upon the types and mixtures of risks inherent in the insurer's operations. The formula includes components for asset risk, liability risk, interest rate exposure, and other factors. Based upon the December 31, 1993 statutory financial reports of the Company's insurance subsidiaries, the Company's insurance subsidiaries are adequately capitalized under the formula. Under insurance guaranty fund laws, in most states, insurance companies doing business in a participating state can be assessed up to prescribed limits for policyholder losses incurred by insolvent companies. The Company does not believe that any such assessments will be materially different from amounts already provided for in the financial statements. IMPACT OF INFLATION Inflation increases the need for insurance. Many policyholders who once had adequate insurance programs increase their life insurance coverage to provide the same relative financial benefits and protection. The effect of inflation on medical costs leads to accident and health policies with higher benefits. Thus, inflation has increased the need for life and accident and health products. The higher interest rates that have traditionally accompanied inflation also affect the Company's investment operation. Policy loans increase as policy loan interest rates become relatively more attractive. As interest rates increase, disintermediation of GIC and annuity deposits and ordinary life policy cash values may increase, the market value of the Company's fixed-rate long-term investments may decrease, and the Company may be unable to implement fully the interest rate reset and call provisions of its mortgage loans. The difference between the interest rate earned on investments and the interest rate credited to interest-sensitive products may also be adversely affected by rising interest rates. Inflation has materially increased the cost of health care. The adequacy of premium rates in relation to the level of accident and health claims is constantly monitored, and where appropriate, premium rates on such policies are increased as policy benefits increase. Failure to make such increases commensurate with health care cost increases may result in a loss from health insurance. The Company does not believe the current rate of inflation will significantly affect its operations. However, lower interest rates may reduce earnings as older higher-yielding investments are repaid, and the proceeds are reinvested at lower current rates. REPORT OF INDEPENDENT ACCOUNTANTS TO THE We have audited the accompanying consolidated balance sheets DIRECTORS AND of Protective Life Corporation and subsidiaries as of STOCKHOLDERS December 31, 1993 and 1992, and the related consolidated PROTECTIVE LIFE statements of income, stockholders' equity, and cash CORPORATION flows for each of the three years in the period ended BIRMINGHAM, December 31, 1993. These financial statements are the ALABAMA responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing 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 Protective Life Corporation and subsidiaries as of December 31, 1993 and 1992, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1993, in conformity with generally accepted accounting principles. As discussed in Note A to the Consolidated Financial Statements, the Company changed its method of accounting for certain investments in debt and equity securities in 1993. Also as discussed in Note K, the Company changed its method of accounting for postretirement benefits other than pensions in 1992. Coopers & Lybrand BIRMINGHAM, ALABAMA FEBRUARY 14, 1994