SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
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FORM 10-K
(MARK ONE)
[ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER 033-37576
FORTIS BENEFITS INSURANCE COMPANY
(Exact name of registrant as specified in its charter)
MINNESOTA 81-0170040
(State or Other Jurisdiction (I.R.S. Employer
of Incorporation or Organization) Identification No.)
576 BIELENBERG DRIVE
WOODBURY, MINNESOTA 55125
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (651) 361-4000
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act: NONE
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
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Indicate by check mark 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 the 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]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2).
Yes No X
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The aggregate market value of the voting and non-voting common equity held
by non-affiliates is not applicable as no public market exists for the voting
stock of the registrant.
As of March 1, 2004, there were 1,000,000 shares of common stock of the
registrant outstanding, all of which are owned indirectly by Assurant, Inc.
THE REGISTRANT MEETS THE CONDITIONS SET FORTH IN GENERAL INSTRUCTIONS
I(1)(A) AND (B) OF FORM 10-K AND IS FILING THIS FORM WITH THE REDUCED DISCLOSURE
FORMAT.
FORTIS BENEFITS INSURANCE COMPANY
ANNUAL REPORT ON FORM 10-K
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2003
TABLE OF CONTENTS
ITEM PAGE
NUMBER NUMBER
- ------ PART I ------
1. BUSINESS.............................................................................. 2
2. PROPERTIES............................................................................ 4
3. LEGAL PROCEEDINGS..................................................................... 4
4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS................................... 5
PART II
5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES................................................. 5
6. SELECTED FINANCIAL DATA............................................................... 5
7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS............................................................................ 5
7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK............................ 7
8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA........................................... 10
9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE............................................................................ 10
9A. CONTROLS AND PROCEDURES............................................................... 10
PART III
10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.................................... 10
11. EXECUTIVE COMPENSATION................................................................ 10
12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
STOCKHOLDER MATTERS................................................................... 10
13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS........................................ 10
14. PRINCIPAL ACCOUNTANT FEES AND SERVICES................................................ 10
PART IV
15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K...................... 11
SIGNATURES..................................................................................... 14
FORWARD-LOOKING STATEMENTS
Some of the statements under "Business" and "Management's Discussion
and Analysis of Financial Condition and Results of Operations" and elsewhere in
this report may contain forward-looking statements which reflect our current
views with respect to, among other things, future events and financial
performance. You can identify these forward-looking statements by the use of
forward-looking words such as "outlook," "believes," "expects," "potential,"
"continues," "may," "will," "should," "seeks," "approximately," "predicts,"
"intends," "plans," "estimates," "anticipates" or the negative version of those
words or other comparable words. Any forward-looking statements contained in
this report are based upon our historical performance and on current plans,
estimates and expectations. The inclusion of this forward-looking information
should not be regarded as a representation by us or any other person that the
future plans, estimates or expectations contemplated by us will be achieved.
Such forward-looking statements are subject to various risks and uncertainties.
Accordingly, there are or will be important factors that could cause our actual
results to differ materially from those indicated in this report. We believe
that these factors include but are not limited to the risks described under
"Risk Factors." These factors should not be construed as exhaustive and should
be read in conjunction with the other cautionary statements that are included in
this report. We undertake no obligation to publicly update or review any
forward-looking statement, whether as a result of new information, future
developments or otherwise.
If one or more of these or other risks or uncertainties materialize, or
if our underlying assumptions prove to be incorrect, actual results may vary
materially from what we projected. Any forward-looking statements you read in
this report reflect our current views with respect to future events and are
subject to these and other risks, uncertainties and assumptions relating to our
operations, results of operations, financial condition, growth strategy and
liquidity.
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PART I
ITEM 1. BUSINESS.
Fortis Benefits is a stock life insurance company formed in 1910 and
organized under the laws of the State of Minnesota. It is an indirect wholly
owned subsidiary of Assurant, Inc. (Assurant), which owns and operates a number
of companies that provide insurance products and related services in North
America and selected other markets. Assurant, a Delaware corporation, completed
an initial public offering of its common stock in February 2004, and its common
stock now trades on The New York Stock Exchange. Prior to the initial public
offering, Fortis, Inc., a Nevada corporation, had formed Assurant and merged
into it on February 4, 2004. The merger was done in order to redomesticate
Fortis, Inc. from Nevada to Delaware and to change its name. As a result of the
merger, Assurant is the successor to the business operations and obligations of
Fortis, Inc. Fortis Benefits has been a wholly owned subsidiary of Fortis, Inc.
since 1984.
In this report, references to the "Company," "Fortis Benefits," "we,"
"us" or "our" refer to Fortis Benefits Insurance Company. Also, in this report,
references to "Assurant" refer to Fortis, Inc. and its subsidiaries prior to the
merger described above, and Assurant, Inc. and its subsidiaries after the
consummation of the merger described above.
Assurant currently has four decentralized operating business segments
including the following:
o Assurant Employee Benefits, which provides employer- and
employee-paid group dental insurance, as well as group
disability insurance and group life insurance. In its core
benefits business, Assurant Employee Benefits focuses on
employer-sponsored programs for employers with typically
between 20 and 1,000 employees. At December 31, 2003,
substantially all of Assurant Employee Benefits' coverages in
force were for employers with less than 1,000 employees. This
business segment has a particularly strong emphasis on
employers with under 250 employees. The average in force case
size at Assurant Employee Benefits was 56 enrolled employees
as of December 31, 2003. Assurant Employee Benefits
distributes its products primarily through approximately 160
group sales representatives located in 40 offices at or near
major U.S. metropolitan areas. These representatives work
through independent employee benefits advisors, including
brokers and other intermediaries, to reach the customers. An
Assurant wholly owned subsidiary, Disability Risk Management
Services (DRMS), provides services for fees to other insurance
carriers that write group disability insurance, including
product development, state insurance regulatory filings,
underwriting, claims management and other functions typically
performed by an insurer's back office. Risks written by DRMS'
various clients are reinsured into a pool, and Assurant's
licensed subsidiaries reinsure the largest portion of that
risk.
o Assurant PreNeed, which provides pre-funded funeral insurance.
This insurance provides whole life insurance death benefits or
annuity benefits used to fund costs incurred in connection
with pre-arranged funerals. Assurant PreNeed distributes its
products primarily through funeral homes, and the products are
sold mainly to customers over the age of 65, with an average
issue age of 72. Assurant PreNeed has two separate
distribution channels: an independent channel, comprised of
approximately 23,000 funeral firms in the U.S. and Canada; and
the American Memorial Life Insurance Company (AMLIC) channel,
which provides products and support services for Service
Corporation International, the largest funeral provider in
North America.
o Assurant Health, which provides individual health insurance,
including short-term and student medical insurance, and small
employer group health insurance. Assurant Health provides it
small group products to employer groups primarily of two to
fifty employees in size. As of December 31, 2003, the average
group size was approximately five
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employees, and substantially all of the small group health
insurance policies that Assurant Health sold in 2002 and 2003
were preferred provider organization (PPO) products. Assurant
Health distributes its products through a network of
independent agents, and approximately 150,000 agents had
access to Assurant Health products during 2003. Assurant also
distributes its products to individuals through a variety of
exclusive and non-exclusive national account relationships and
direct distribution channels, as well as through NorthStar
Marketing, a wholly owned affiliate that seeks business
directly from independent agents.
o Assurant Solutions, which provides specialty solutions and
consumer protection solutions. Specialty property solutions
primarily include creditor-placed homeowners insurance
(including tracking services) and manufactured housing
homeowners insurance. Consumer protection solutions primarily
include debt protection administration, credit insurance and
warranties and extended service contracts. Assurant Solutions
develops, underwrites and markets its insurance products and
services through collaborative relationships with its clients
(financial institutions, retailers, manufactured housing and
automobile dealers, utilities and other entities) to their
customers. Assurant Solutions services its clients throughout
North America, the Caribbean and selected countries in South
America and Europe.
Fortis Benefits, which is licensed to sell life, health and annuity
insurance in the District of Columbia and in all states except New York, writes
insurance products that are marketed by each of Assurant's business segments. We
perform substantially all of the operations of Assurant Employee Benefits. We
market, sell and administer directly the group disability, group life and
certain of the group dental insurance products, and we manage other Assurant
subsidiaries that provide the prepaid dental products. We also issue many of the
preneed life insurance policies that are marketed, sold and administered by
Assurant PreNeed, including in Canada where we are licensed as a life insurer.
With respect to Assurant Health, we issue only small group health insurance
policies that are sold through an independent agency, Rogers Benefit Group. With
respect to Assurant Solutions, we issue accidental death and dismemberment
policies for which the segment performs the selling, marketing, and
administration functions. Of our total gross revenues generated during 2003,
approximately 62% were from the Assurant Employee Benefits segment,
approximately 18% from the Assurant PreNeed segment, approximately 13% from the
Assurant Health segment, and approximately 5% from the Assurant Solutions
segment.
As an indirect wholly owned subsidiary of Assurant, Fortis Benefits
does not have any publicly issued equity or debt securities. We are, however,
subject to certain filing requirements of the Securities Exchange Act of 1934,
as amended, because we have issued certain variable and market value adjusted
insurance contracts, which are required to be registered with the SEC as
securities. Effective April 1, 2001, Assurant exited this line of business and
sold the business segment, then referred to as Fortis Financial Group, to The
Hartford Financial Services Group, Inc. and certain of its subsidiaries (The
Hartford). This sale was accomplished by means of reinsurance and modified
coinsurance. As a result, The Hartford is contractually responsible for
servicing the insurance contracts, including the payment of benefits, oversight
of investment management, overall contract administration and funding of
reserves. If The Hartford fails to fulfill its obligations, however, we will be
obligated to perform the services and make the required payments and funding.
RISK FACTORS
Fortis Benefits is subject to risks associated with our business. These
risks include, among others:
o Reliance on Relationships with Significant Clients,
Distributors and Other Parties. If our significant clients,
distributors and other parties with which we do business
decline to renew or seek to terminate our relationships or
contractual arrangements, our results of operations and
financial condition could be materially adversely affected. We
are also subject to the risk that these parties may face
financial difficulties, reputational issues or
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problems with respect to their own products and services,
which may lead to decreased sales of products and services.
o Failure to Attract and Retain Sales Representatives or Develop
and Maintain Distribution Sources. Our sales representatives
interface with clients and third party distributors. Our
inability to attract and retain our sales representatives or
an interruption in, or changes to, our relationships with
various third-party distributors could impair our ability to
compete and market our insurance products and services and
materially adversely affect our results of operations and
financial condition. In addition, our ability to market our
products and services depends on our ability to tailor our
channels of distribution to comply with changes in the
regulatory environment.
o Effect of General Economic, Financial Market and Political
Conditions. Our results of operations and financial condition
may be materially adversely affected by general economic,
financial market and political conditions, including:
o insurance industry cycles;
o levels of employment;
o levels of inflation and movements of the financial
markets;
o fluctuations in interest rates;
o monetary policy;
o demographics; and
o legislative and competitive factors.
o Failure to Predict Accurately Benefits and Other Costs and
Claims. We may be unable to predict accurately benefits,
claims and other costs or to manage such costs through our
loss limitation methods, which could have a material adverse
effect on our results of operations and financial condition if
claims substantially exceed our expectations.
o Changes in Regulation. Legislation or other regulatory reform
that increases the regulatory requirements imposed on us or
that changes the way we are able to do business may
significantly harm our business or results of operations in
the future.
As of December 31, 2003, we had approximately 1,500 employees.
ITEM 2. PROPERTIES.
Our principal office is in Kansas City, Missouri, where we lease
approximately 297,000 square feet of space in a building owned by our parent,
Assurant. We also lease from an unrelated party approximately 70,000 square feet
of space in Birmingham, Alabama, which is used to house certain employees of our
dental benefits division. In addition, we have several regional claims and sales
offices throughout the United States.
ITEM 3. LEGAL PROCEEDINGS.
We are regularly involved in litigation in the ordinary course of
business, both as a defendant and as a plaintiff. We may from time to time be
subject to a variety of legal and regulatory actions relating to our current and
past business operations. While we cannot predict the outcome of any pending or
future litigation, examination or investigation and although no assurances can
be given, we do not believe that any pending matter will have a material adverse
effect on our financial condition or results of operations.
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ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not required under reduced disclosure format.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES.
There is no public trading market for our common stock. As of March
1, 2004, we had 1,000,000 shares of common stock outstanding, all of which are
owned directly by Interfinancial Inc., a Georgia corporation that is a direct
wholly owned subsidiary of Assurant, Inc. Fortis Benefits paid no dividends to
its stockholder in 2003 and $60 million in cash dividends to its stockholder in
2002.
ITEM 6. SELECTED FINANCIAL DATA.
Not required under reduced disclosure format.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The following discussion and analysis of our financial condition and
results of operations should be read in conjunction with our consolidated
financial statements and accompanying notes which appear elsewhere in this
report. It contains forward-looking statements that involve risks and
uncertainties. Please see "Forward-Looking Statements" for more information. Our
actual results could differ materially from those anticipated in these
forward-looking statements as a result of various factors, including those
discussed below and elsewhere in this report.
CONSOLIDATED OVERVIEW
FOR THE YEARS ENDED
DECEMBER 31,
2003 2002
---- ----
(IN MILLIONS)
REVENUES:
Net earned premiums and other considerations $1,706 $1,686
Net investment income 260 259
Net realized gains (losses) on investments 4 (46)
Fees and other income 67 73
-- --
Total revenues 2,037 1,972
----- -----
BENEFITS, LOSSES AND EXPENSES:
Policyholder benefits 1,285 1,305
Selling, underwriting and general expenses 555 522
Total benefits, losses and expenses 1,840 1,827
----- -----
INCOME BEFORE INCOME TAXES: 197 145
Income taxes 67 44
-- --
NET INCOME $130 $101
==== ====
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YEAR ENDED DECEMBER 31, 2003 COMPARED TO DECEMBER 31, 2002
Total Revenues
Total revenues increased by $65 million, or 3%, to $2,037 million for
the year ended December 31, 2003, from $1,972 million for the year ended
December 31, 2002. This increase was due primarily to an increase in net earned
premiums and an improvement in our net realized gains (loses) on investments.
In 2003, our disability net earned premiums increased by $58 million,
primarily due to $83 million of additional disability reinsurance premiums that
we assumed through an affiliated reinsurance intermediary, DRMS. Partially
offsetting this increase was a $19 million decrease in group life net earned
premiums, due to the non-renewal of certain unprofitable business and less new
business due to continued pricing discipline. In addition, dental net earned
premiums decreased by $6 million, driven by lower sales and the non-renewal of a
large account. Consumer protection premiums in the accident and health line
increased by $3 million, as a result of increases in new business sales. Small
employer group and individual health premiums decreased slightly by $18 million,
primarily due to a lower rate of renewals of individual medical policies.
Also in 2003, we realized $4 million of net gains on investments, compared
to $46 million of net losses in 2002, and net investment income increased
slightly from $259 million during 2002 to $260 million during 2003. We continue
to match investment portfolio composition to liquidity needs and capital
requirements.
Policyholder Benefits
Policyholder benefits decreased by $20 million, or 2%, from $1,305 million
for the year ended December 31, 2002, to $1,285 million for the year ended
December 31, 2003. The decrease was driven by favorable development in
disability claims and lower claims volume due to the reduction in dental and
group net life earned premiums. In addition, during the third quarter of 2003,
we completed reserve studies for the group disability, group life and group
dental products. We concluded that group life and group dental reserves were
redundant and that group disability reserves required strengthening. Adjustments
were made to reserves to reflect current mortality and morbidity experience. In
addition, the reserve discount rate on all claims was changed to reflect the
continuing low interest rate environment. The net impact of these adjustments
was a reduction in reserves of approximately $18 million.
The total policyholder benefit to premium ratio decreased from 77.4%
for the year ended December 31, 2002 to 75.3% for the year ended December 31,
2003. The following table shows the policyholder benefit to premium ratio by
product line for the years ended December 31, 2003 and 2002:
Product Line 2003 2004
------------ ---- ----
Group dental 69% 72%
Group disability 93% 87%
Group life 51% 74%
Small employer group health 68% 66%
and individual heath
Pre-funded funeral 106% 102%
Consumer protection 23% 39%
Group dental, group disability and group life loss ratios were all
impacted by the reserve adjustment described above. The increase in the small
employer group and individual health loss ratio resulted from increased loss
expenses related to conversion deficiency reserves. The favorable loss ratio
change for the consumer protection business is offset by a corresponding
increase in the contingent commission. The increase in the pre-funded funeral
loss ratio is due to a shift in the product mix from
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limited pay to single pay policies. Single pay policies typically have higher
first year reserves driving an increase in the loss ratio.
Expenses
Our total selling, underwriting and general expenses increased by $33
million, from $522 million in 2002 to $555 million in 2003. Commissions
increased by $16 million, from $166 million for the year ended December 31, 2002
to $182 million for the year ended December 31, 2003. This is primarily due to
changes in the mix of business by product lines along with increases in
production of disability and consumer protection premiums. Increases in
contingent commissions on consumer protection products offset favorable loss
ratios as mentioned above.
Our general and administrative expense to premium ratio rose slightly
to 19% in 2003 from 18% in 2002. Expenses in the group disability insurance
product line increased correspondingly with the increase in its premium volume.
Expenses related to the small employer group health product line decreased as a
result of less renewal business in 2003. With respect to the pre-funded funeral
business, expenses in 2003 decreased from 2002 levels, however, the amortization
of deferred acquisition expense for that product line increased over 2002
levels. Also in 2003, we had a $6.2 million writedown of previously capitalized
software related to our new administration system.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
As a provider of insurance products, effective risk management is
fundamental to our ability to protect both our customers' and our stockholder's
interests. We are exposed to potential loss from various market risks, in
particular interest rate risk and credit risk. Additionally we are exposed to
inflation risk and to a small extent to foreign currency risk.
Interest rate risk is the possibility the fair value of liabilities
will change more or less than the market value of investments in response to
changes in interest rates, including changes in the slope or shape of the yield
curve and changes in spreads due to credit risks and other factors.
Credit risk is the possibility that counterparties may not be able to
meet payment obligations when they become due. We assume counterparty credit
risk in many forms. A counterparty is any person or entity from which cash or
other forms of consideration are expected to extinguish a liability or
obligation to us. Primarily, our credit risk exposure is concentrated in our
fixed income investment portfolio and, to a lesser extent, in our reinsurance
recoverables.
Inflation risk is the possibility that a change in domestic price
levels produces an adverse effect on earnings. This typically happens when only
one of invested assets or liabilities is indexed to inflation.
Foreign exchange risk is the possibility that changes in exchange rates
produce an adverse effect on earnings and equity when measured in domestic
currency. This risk is largest when assets backing liabilities payable in one
currency are invested in financial instruments of another currency. Our general
principle is to invest in assets that match the currency in which we expect the
liabilities to be paid.
INTEREST RATE RISK
Interest rate risk arises as we invest substantial funds in
interest-sensitive fixed income assets, such as fixed maturity investments,
mortgage-backed and asset-backed securities and commercial mortgage loans,
primarily in the United States and Canada. There are two forms of interest rate
risk--price risk and reinvestment risk. Price risk occurs when fluctuations in
interest rates have a direct impact on the market valuation of these
investments. As interest rates rise, the market value of these investments
falls, and conversely, as interest rates fall, the market value of these
investments rises. Reinvestment risk occurs when fluctuations in interest rates
have a direct impact on expected cash flows from mortgage-backed and
asset-backed securities. As interest rates fall, an increase in prepayments on
these assets results in earlier
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than expected receipt of cash flows forcing us to reinvest the proceeds in an
unfavorable lower interest rate environment, and conversely as interest rates
rise, a decrease in prepayments on these assets results in later than expected
receipt of cash flows forcing us to forgo reinvesting in a favorable higher
interest rate environment. As of December 31, 2003, we held $3,452 million of
fixed maturity securities at fair market value and $635 million of commercial
mortgages at amortized cost for a combined total of 92% of total invested
assets. As of December 31, 2002, we held $3,045 million of fixed maturity
securities at fair market value and $579 million of commercial mortgages at
amortized cost for a combined total of 90% of total invested assets.
We expect to manage interest rate risk by selecting investments with
characteristics such as duration, yield, currency and liquidity tailored to the
anticipated cash outflow characteristics of our insurance and reinsurance
liabilities.
Our group long-term disability reserves are also sensitive to interest
rates. Group long-term disability reserves are discounted to the valuation date
at the valuation interest rate. The valuation interest rate is determined by
taking into consideration actual and expected earned rates on our asset
portfolio, with adjustments for investment expenses and provisions for adverse
deviation.
The interest rate sensitivity of our fixed maturity security assets is
assessed using hypothetical test scenarios that assume several positive and
negative parallel shifts of the underlying yield curves. We have assumed that
both the United States and Canadian yield curves have a 100% correlation and,
therefore, move together. The individual securities are repriced under each
scenario using a valuation model. For investments such as mortgage-backed and
asset-backed securities, a prepayment model was used in conjunction with a
valuation model. Our actual experience may differ from the results noted below
particularly due to assumptions utilized or if events occur that were not
included in the methodology.
CREDIT RISK
We have exposure to credit risk primarily as a holder of fixed income
securities and by entering into reinsurance cessions.
Our risk management strategy and investment policy is to invest in debt
instruments of high credit quality issuers and to limit the amount of credit
exposure with respect to any one issuer. We attempt to limit our credit exposure
by imposing fixed maturity portfolio limits on individual issuers based upon
credit quality. Currently our portfolio limits are 1.5% for issuers rated AA-and
above, 1% for issuers rated A- to A+, 0.75% for issuers rated BBB- to BBB+ and
0.38% for issuers rated BB- to BB+. These portfolio limits are further reduced
for certain issuers with whom we have credit exposure on reinsurance agreements.
We use the lower of Moody's or Standard & Poor's ratings to determine an
issuer's rating.
We are also exposed to the credit risk of our reinsurers. When we
reinsure, we are still liable to our insureds regardless of whether we get
reimbursed by our reinsurer. As part of our overall risk and capacity management
strategy, we purchase reinsurance for certain risks that we underwrite.
For at least 50% of our $1,210 million of reinsurance recoverables at
December 31, 2003, we are protected from the credit risk by using some type of
risk mitigation mechanism such as a trust, letter of credit or by withholding
the assets in a modified coinsurance or co-funds-withheld arrangement. For
example, reserves of $891 million and $240 million as of December 31, 2003
relating to two large coinsurance arrangements with The Hartford and John
Hancock Life Insurance Company (John Hancock), respectively, related to sales of
businesses. If the value of the assets in these trusts decreases, The Hartford
and John Hancock, as the case may be, will be required to put more assets in the
trusts. We may be dependent on the financial condition of The Hartford and John
Hancock, whose A.M. Best ratings are currently A+ and A++, respectively. For
recoverables that are not protected by these mechanisms, we are dependent solely
on the credit of the reinsurer. Occasionally, the credit worthiness of the
reinsurer becomes questionable. We believe that a majority of our reinsurers are
rated "A-" or better by A.M. Best.
8
INFLATION RISK
Inflation risk arises as we invest substantial funds in nominal assets,
which are not indexed to the level of inflation, whereas the underlying
liabilities are indexed to the level of inflation. Approximately 19% of Assurant
PreNeed's insurance policies with reserves of approximately $343 million as of
December 31, 2003 have death benefits that are guaranteed to grow with the
Consumer Price Index. In times of rapidly rising inflation the credited death
benefit growth on these liabilities increases relative to the investment income
earned on the nominal assets resulting in an adverse impact on earnings. We have
partially mitigated this risk by purchasing a contract with payments tied to the
Consumer Price Index. See "-- Derivatives."
In addition, we have inflation risk in our individual and small
employer group health insurance businesses to the extent that medical costs
increase with inflation and we have not been able to increase premiums to keep
pace with inflation.
FOREIGN EXCHANGE RISK
We are exposed to some foreign exchange risk arising from our
international operations mainly in Canada. Total invested assets denominated in
currencies other than the U.S. dollar were less than 5% of our total invested
assets at December 31, 2003.
Foreign exchange risk is mitigated by matching our liabilities under
insurance policies that are payable in foreign currencies with investments that
are denominated in such currency. We have not established any hedge to our
foreign currency exchange rate exposure.
We assess our foreign exchange risk by examining the foreign exchange
rate exposure of the excess of invested assets over the statutory reserve
liabilities denominated in foreign currency. Two stress scenarios are examined.
The first scenario assumes a hypothetical 10% immediate change in the
foreign exchange rate.
The second scenario assumes a more severe 2.33 standard deviation event
(comparable to a one in 100 probability under a normal distribution).
The modelling techniques we use to calculate our exposure does not take
into account correlation among foreign currency exchange rates or correlation
among various markets. Our actual experience may differ due to correlation
assumptions utilized or if events occur that were not included in the
methodology, such as significant illiquidity or other market events.
DERIVATIVES
Derivatives are financial instruments whose values are derived from
interest rates, foreign exchange rates, financial indices or the prices of
securities or commodities. Derivative financial instruments may be
exchange-traded or contracted in the over-the-counter market and include swaps,
futures, options and forward contracts.
Under insurance statutes, our insurance companies may use derivative
financial instruments to hedge actual or anticipated changes in their assets or
liabilities, to replicate cash market instruments or for certain
income-generating activities. These statutes generally prohibit the use of
derivatives for speculative purposes. We generally do not use derivative
financial instruments.
On August 1, 2003, we purchased a contract to partially hedge the
inflation risk exposure inherent in some of our pre-funded funeral insurance
policies.
9
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The consolidated financial statements and financial statement schedules
in Part IV, Item 15(a) 1 and 2 of this report are incorporated by reference into
this Item 8.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
There have been no changes in or disagreements with accountants on
accounting and financial disclosure.
ITEM 9A. CONTROLS AND PROCEDURES.
Under the supervision and with the participation of our Chief Executive
Officer and our Chief Financial Officer, we have evaluated the effectiveness of
our disclosure controls and procedures as of December 31, 2003. Based on this
evaluation, our Chief Executive Officer and our Chief Financial Officer have
concluded that our disclosure controls and procedures were effective as of that
date in providing a reasonable level of assurance that information we are
required to disclose in reports we file or furnish under the Securities Exchange
Act of 1934 is recorded, processed, summarized and reported within the time
periods in SEC rules and forms. Further, our disclosure controls and procedures
were effective in providing a reasonable level of assurance that information
required to be disclosed by us in such reports is accumulated and communicated
to our management, including our Chief Executive Officer and our Chief Financial
Officer, as appropriate to allow timely decisions regarding required disclosure.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
Not required under reduced disclosure format.
ITEM 11. EXECUTIVE COMPENSATION.
Not required under reduced disclosure format.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS.
Not required under reduced disclosure format.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Not required under reduced disclosure format.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
PricewaterhouseCoopers LLP has audited our financial statements for
fiscal 2003. The following table shows the aggregate fees billed to us by
PricewaterhouseCoopers LLP for services rendered and the percentage of those
services that were approved by the board of directors during the fiscal years
ended December 31, 2002 and 2003.
10
FISCAL YEAR ENDED FISCAL YEAR ENDED
DECEMBER 31, 2002 DECEMBER 31, 2003
----------------- -----------------
DESCRIPTION OF FEES (IN THOUSANDS) AMOUNT PERCENTAGE OF AMOUNT PERCENTAGE OF
SERVICES SERVICES
APPROVED APPROVED
Audit Fees $290 100% $162 100%
Audit Related Fees $0 N/A $0 N/A
Tax Fees $0 N/A $0 N/A
All Other Fees $0 N/A $0 N/A
In March 2004, the Board of Directors of the Company adopted written
procedures for pre-approval of services by the independent auditors, including
procedures relating to the Board's power to:
o Retain and terminate independent auditors and approve all
audit engagement fees and terms;
o Inform each registered public accounting firm performing work
for the Company that such firm shall report directly to the
Board of Directors;
o Directly oversee the work of any registered public accounting
firm employed by the Company, including the resolution of any
disagreement between management and the auditor regarding
financial reporting, for the purpose of preparing or issuing
an audit report or related work; and
o Approve in advance any significant audit or non-audit
engagement or relationship between the Company and the
independent auditors, other than "prohibited nonauditing
services."
"Prohibited nonauditing services" are services that Congress, the SEC
or the Public Company Accounting Oversight Board prohibits through regulation.
Notwithstanding the foregoing, pre-approval is not necessary for minor audit
services if: (i) the aggregate amount of all such non-audit services provided to
the Company constitutes not more than 5% of the total amount of revenues paid by
the Company to its auditor during the fiscal year in which the non-audit
services are provided; (ii) such services were not recognized by the Company at
the time of the engagement to be non-audit services; and (iii) such services are
promptly brought to the attention of the Board of Directors and approved prior
to the completion of the audit by the Board of Directors or by one or more
members of the Board of Directors who are members of the Board to whom authority
to grant such approvals has been delegated by the Board of Directors. The Board
of Directors may delegate to one or more of its members the authority to approve
in advance all significant audit or non-audit services to be provided by the
independent auditors so long as it is presented to the full Board of Directors
at a later time.
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(a)1. CONSOLIDATED FINANCIAL STATEMENTS
The following consolidated financial statements of Fortis Benefits
Insurance Company, incorporated by reference into Item 8, are attached hereto:
Page
Consolidated Financial Statements of Fortis Benefits Insurance Company
Report of Independent Auditors F-1
Consolidated Balance Sheets of Fortis Benefits Insurance Company at
December 31, 2003 and 2002 F-2
11
Consolidated Statements of Operations of Fortis Benefits Insurance Company
for the Three Fiscal Years in the Period Ended December 31, 2003 F-4
Consolidated Statements of Changes in Stockholder's Equity of Fortis Benefits
Insurance Company for the Three Fiscal Years in the Period Ended
December 31, 2003 F-5
Consolidated Statements of Cash Flows of Fortis Benefits Insurance Company
for the Three Fiscal Years in the Period Ended December 31, 2003 F-6
Notes to Consolidated Financial Statements of Fortis Benefits Insurance
Company F-9
2. CONSOLIDATED FINANCIAL STATEMENT SCHEDULES
None.
3. EXHIBITS
The following exhibits either (a) are filed with this report or (b)
have previously been filed with the SEC and are incorporated herein by reference
to those prior filings. Exhibits are available upon request at the investor
relations section of our website at www.assurant.com
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
- ------- -------------------
3.1 Articles of Incorporation of Fortis Benefits Insurance Company
(incorporated by reference from the Registrant's Registration Statement
on Form S-6 and Variable Account C filed on March 17, 1986, File No.
33-03919).
3.2 By-laws of Fortis Benefits Insurance Company (incorporated by reference
from the Registrant's Registration Statement on Form S-6 and Variable
Account C filed on March 17, 1986, File No. 33-03919).
3.3 Amendments to Articles of Incorporation and By-laws of Fortis Benefits
Insurance Company dated November 21, 1991 (incorporated by reference
from the Registrant's Post-Effective Amendment No. 1 to the
Registration Statement on Form N-4 and Variable Account D filed on
March 2, 1992, File No. 33-37577).
3.4 Amendment to By-laws of Fortis Benefits Insurance Company dated May 1,
1999 (incorporated by reference from Exhibit 3(d) to the Registrant's
Form 10-K filed on March 30, 2001, File No. 33-63799).
4.1 Form of Combination Fixed and Variable Group Annuity Contract
(incorporated by reference from Registrant's Post-Effective Amendment
No. 1 to the Registration Statement on Form N-4 and Variable Account D
filed on March 2, 1992, File No. 33-37577).
4.2 Form of Certificate to be used in connection with Form of Combination
Fixed and Variable Group Annuity Contract filed as Exhibit 4.1 to this
report (incorporated by reference from Registrant's Post-Effective
Amendment No. 1 to the Registration Statement on Form N-4 and Variable
Account D filed on March 2, 1992, File No. 33-37577).
4.3 Form of Application to be used in connection with Form of Certificate
filed as Exhibit 4.2 to this report (incorporated by reference from
Registrant's Post-Effective Amendment No. 1 to the Registration
Statement on Form N-4 and Variable Account D filed on March 2, 1992,
File No. 33-37577).
4.4 Form of IRA Endorsement (incorporated by reference from Registrant's
Post-Effective Amendment No. 1 to the Registration Statement on Form
N-4 and Variable Account D filed on March 2, 1992, File No. 33-37577).
4.5 Form of Section 403(b) Annuity Endorsement (incorporated by reference
from Registrant's Post-Effective Amendment No. 3 to the Registration
Statement on Form N-4 and Variable Account D filed on March 1, 1990,
File No. 33-19421).
4.6 Annuity Contract Exchange Form (incorporated by reference from
Registrant's Pre-Effective Amendment No. 1 to the Registration
Statement on Form N-4 and Variable Account D filed on April 19, 1988,
File No. 33-19421).
12
10.1 Stock Option Plan (incorporated by reference from Exhibit 10.2 to
Assurant, Inc.'s Registration Statement on Form S-1 (File No.
333-109984) and amendments thereto, originally filed on October 24,
2003).
10.2 Assurant 2004 Long-Term Incentive Plan (incorporated by reference from
Exhibit 10.3 to Assurant, Inc.'s Registration Statement on Form S-1/A
(File No. 333-109984) and amendments thereto, originally filed on
January 13, 2004).
10.3 Supplemental Executive Retirement Plan, as amended (incorporated by
reference from Exhibit 10.4 to Assurant, Inc.'s Registration Statement
on Form S-1 (File No. 333-109984) and amendments thereto, originally
filed on October 24, 2003).
10.4 Executive Pension and 401(k) Plan (incorporated by reference from
Exhibit 10.5 to Assurant, Inc.'s Registration Statement on Form S-1
(File No. 333-109984) and amendments thereto, originally filed on
October 24, 2003).
10.5 Assurant Directors Compensation Plan (incorporated by reference from
Exhibit 10.12 to Assurant, Inc.'s Registration Statement on Form S-1/A
(File No. 333-109984) and amendments thereto, originally filed on
January 13, 2004).
10.6 Assurant 2004 Employee Stock Purchase Plan (incorporated by reference
from Exhibit 10.13 to Assurant, Inc.'s Registration Statement on Form
S-1/A (File No. 333-109984) and amendments thereto, originally filed on
January 13, 2004).
10.7 Assurant Executive Management Incentive Plan (incorporated by reference
from Exhibit 10.16 to Assurant, Inc.'s Registration Statement on Form
S-1 (File No. 333-109984) and amendments thereto, originally filed on
October 24, 2003).
10.8 Assurant Appreciation Incentive Rights Plan (incorporated by reference
from Exhibit 10.17 to Assurant, Inc.'s Registration Statement on Form
S-1 (File No. 333-109984) and amendments thereto, originally filed on
October 24, 2003).
10.9 Investment Plan (incorporated by reference from Exhibit 10.18 to
Assurant, Inc.'s Registration Statement on Form S-1 (File No.
333-109984) and amendments thereto, originally filed on October 24,
2003).
24.1 Power of Attorney.
31.1 Rule 13a-14(a)/15d-14(a) Certification of Principal Executive Officer.
31.2 Rule 13a-14(a)/15d-14(a) Certification of Principal Financial Officer.
32.1 Certification of Chief Executive Officer of Fortis Benefits Insurance
Company pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification of Chief Financial Officer of Fortis Benefits Insurance
Company pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
(b) REPORTS ON FORM 8-K
There were no reports on Form 8-K filed for the year ended December 31,
2003.
13
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized on March 29, 2004.
FORTIS BENEFITS INSURANCE COMPANY
By: /s/ Robert B. Pollock
---------------------------------
Name: Robert B. Pollock
Title: President and Chief
Executive Officer
By: /s/ Larry M. Cains
---------------------------------
Name: Larry M. Cains
Title: Treasurer
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant in the capacities indicated on March 29, 2004.
SIGNATURE TITLE
--------- -----
* Chairman of the Board
- --------------------------------
J. Kerry Clayton
/s/ Robert B. Pollock President and Chief Executive Officer
- -------------------------------- (Principal Executive Officer)
Robert B. Pollock
/s/ Larry M. Cains Treasurer
- -------------------------------- (Principal Financial Officer)
Larry M. Cains (Principal Accounting Officer)
* Director
- --------------------------------
Alan W. Feagin
* Director
- --------------------------------
Michael J. Peninger
* Director
- --------------------------------
Lesley G. Silvester
*By: /s/ Douglas R. Lowe
-------------------------
Douglas R. Lowe
Attorney-in-Fact
14
REPORT OF INDEPENDENT AUDITORS
To the Board of Directors and Stockholder of
Fortis Benefits Insurance Company:
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of operations, changes in stockholder's equity and cash
flows present fairly, in all material respects, the financial position of Fortis
Benefits Insurance Company and its subsidiaries (the Company), an indirect,
wholly owned subsidiary of Fortis (SA/NV) and Fortis N.V. at December 31, 2003
and 2002, and the results of their operations and their cash flows for each of
the three years in the period ended December 31, 2003 in conformity with
accounting principles generally accepted in the United States of America. These
financial statements are the 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 of these statements in accordance with
auditing standards generally accepted in the United States of America, which
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, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
/s/ PRICEWATERHOUSECOOPERS LLP
Minneapolis, Minnesota
February 20, 2004
F-1
FORTIS BENEFITS INSURANCE COMPANY
CONSOLIDATED BALANCE SHEETS
AT DECEMBER 31, 2003 AND 2002
DECEMBER 31,
--------------------------------
2003 2002
------------- ------------
(IN THOUSANDS EXCEPT SHARE DATA)
ASSETS
Investments:
Fixed maturities available for sale, at fair value (amortized
cost - $3,227,043 in 2003 and $2,882,516 in 2002) $3,452,299 $3,044,689
Equity securities available for sale, at fair value
(cost - $199,287 in 2003 and $108,002 in 2002) 208,149 102,214
Commercial mortgage loans on real estate, at amortized cost 634,615 578,517
Policy loans, at amortized cost 10,678 10,301
Short-term investments, at amortized cost 71,057 245,224
Other investments 51,831 62,248
---------- ----------
Total investments 4,428,629 4,043,193
Cash and cash equivalents 29,176 49,575
Premiums and accounts receivable, less allowances for
doubtful accounts (2003 - $11,072; 2002 - $11,482) 77,094 78,203
Reinsurance recoverables 1,210,299 1,151,186
Accrued investment income 49,756 45,584
Income tax receivable - 8,258
Deferred acquisition costs 92,117 71,171
Property and equipment, at cost less accumulated depreciation 2,566 3,795
Deferred income taxes, net 54,249 125,317
Goodwill 156,985 156,006
Value of businesses acquired 45,710 52,643
Other assets 41,710 35,605
Assets held in separate accounts 3,516,070 3,126,978
---------- ----------
Total assets $9,704,361 $8,947,514
========== ==========
See the accompanying notes to the consolidated financial statements
F-2
FORTIS BENEFITS INSURANCE COMPANY
CONSOLIDATED BALANCE SHEETS
AT DECEMBER 31, 2003 AND 2002
DECEMBER 31,
--------------------------------
2003 2002
------------- ------------
(IN THOUSANDS EXCEPT SHARE DATA)
LIABILITIES
Future policy benefits and expenses $2,869,324 $2,657,445
Unearned premiums 50,002 50,145
Claims and benefits payable 1,810,847 1,768,866
Commissions payable 15,918 27,345
Reinsurance balances payable 5,138 628
Funds held under reinsurance 100 84
Deferred gain on disposal of businesses 249,481 301,327
Due to affiliates 3,478 3,842
Accounts payable and other liabilities 141,309 176,628
Income tax payable 22,112 -
Liabilities related to separate accounts 3,516,070 3,126,978
---------- ----------
Total liabilities 8,683,779 8,113,288
STOCKHOLDER'S EQUITY
Common stock, $5 par value: authorized, issued and
outstanding shares - 1,000,000 5,000 5,000
Additional paid-in capital 516,570 516,570
Retained earnings 342,610 211,459
Accumulated other comprehensive income 156,402 101,197
---------- ----------
Total stockholder's equity 1,020,582 834,226
---------- ----------
Total liabilities and stockholder's equity $9,704,361 $8,947,514
========== ==========
See the accompanying notes to the consolidated financial statements
F-3
FORTIS BENEFITS INSURANCE COMPANY
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
YEARS ENDED DECEMBER 31,
------------------------------------------------------
2003 2002 2001
----------- ----------- -----------
(IN THOUSANDS)
REVENUES
Net earned premiums and other considerations $ 1,705,681 $ 1,686,364 $ 1,533,521
Net investment income 259,804 258,590 306,377
Net realized gain (loss) on investments 3,909 (45,801) (34,327)
Amortization of deferred gain on disposal of
businesses 51,846 60,186 50,538
Fees and other income 15,099 13,099 27,485
----------- ----------- -----------
Total revenues 2,036,339 1,972,438 1,883,594
BENEFITS, LOSSES AND EXPENSES
Policyholder benefits 1,284,723 1,304,765 1,237,189
Amortization of deferred acquisition costs and
value of business acquired 52,001 47,793 55,936
Underwriting, general and administrative expenses 502,873 475,007 427,636
----------- ----------- -----------
Total benefits, losses and expenses 1,839,597 1,827,565 1,720,761
----------- ----------- -----------
Income before income taxes 196,742 144,873 162,833
Income taxes 66,613 44,225 55,474
----------- ----------- -----------
Net income $ 130,129 $ 100,648 $ 107,359
=========== =========== ===========
See the accompanying notes to the consolidated financial statements
F-4
FORTIS BENEFITS INSURANCE COMPANY
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDER'S EQUITY
YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
ACCUMULATED
ADDITIONAL OTHER
COMMON PAID-IN RETAINED COMPREHENSIVE
STOCK CAPITAL EARNINGS INCOME (LOSS) TOTAL
----------- ----------- ----------- ----------- -----------
(IN THOUSANDS)
Balance, January 1, 2001 $ 5,000 $ 645,757 $ 363,452 $ (23,163) $ 991,046
-----------
Dividends on common stock - - (300,000) - (300,000)
Net deemed dividend to parent (129,187) - (129,187)
Comprehensive income
Net income - - 107,359 - 107,359
Net change in unrealized gains on
securities - - - 50,920 50,920
Foreign currency translation - - - 657 657
-----------
Total comprehensive income 158,936
----------- ----------- ----------- ----------- -----------
Balance, December 31, 2001 5,000 516,570 170,811 28,414 720,795
-----------
Dividends on common stock - - (60,000) - (60,000)
Comprehensive income
Net income - - 100,648 - 100,648
Net change in unrealized gains on
securities - - - 74,696 74,696
Foreign currency translation - - - (1,913) (1,913)
-----------
Total comprehensive income 173,431
----------- ----------- ----------- ----------- -----------
Balance, December 31, 2002 5,000 516,570 211,459 101,197 834,226
-----------
Other - - 1,022 - 1,022
Comprehensive income
Net income - - 130,129 - 130,129
Net change in unrealized gains on
securities - - - 49,724 49,724
Foreign currency translation - - - 5,481 5,481
-----------
Total comprehensive income 185,334
----------- ----------- ----------- ----------- -----------
Balance, December 31, 2003 $ 5,000 $ 516,570 $ 342,610 $ 156,402 $ 1,020,582
=========== =========== =========== =========== ===========
See the accompanying notes to the consolidated financial statements
F-5
FORTIS BENEFITS INSURANCE COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
DECEMBER 31, 2003, 2002 AND 2001
YEARS ENDED DECEMBER 31,
---------------------------------------------
2003 2002 2001
----------- ----------- -----------
(IN THOUSANDS)
OPERATING ACTIVITIES
Net income $ 130,129 $ 100,648 $ 107,359
Adjustments to reconcile net income to net cash
provided by operating activities:
Change in reinsurance recoverable (59,107) (24,284) 49,617
Change in premiums and accounts receivables 865 39,124 2,890
Depreciation and amortization 1,125 1,253 2,769
Change in deferred acquisition costs and value of
businesses acquired (9,031) (15,322) (19,057)
Change in accrued investment income (3,828) 5,429 12,331
Change in insurance policy reserves and liabilities 222,012 165,188 111,983
Change in accounts payable and other liabilities (36,088) (4,919) (25,580)
Change in commissions payable (11,427) 5,854 8,638
Change in reinsurance balances payable 4,510 (4,875) 5,503
Change in funds held under reinsurance 16 (12) (96)
Amortization of deferred gain on disposal of businesses
via reinsurance (51,846) (60,186) (50,538)
Change in income taxes 72,719 (56,016) 16,202
Net realized (gain)/loss on investments (3,909) 45,801 34,327
Other 393 1,106 (951)
----------- ----------- -----------
Net cash provided by operating activities 256,533 198,789 255,397
INVESTING ACTIVITIES
Sales of:
Fixed maturities available for sale 564,972 1,510,883 1,589,547
Equity securities available for sale 54,519 1,733,693 3,138,347
Other invested assets 24,322 3,688 32,206
Maturities, prepayments and scheduled redemption of:
Fixed maturities available for sale 307,594 280,859 136,383
Purchase of:
Fixed maturities available for sale (1,189,996) (1,997,147) (1,396,593)
Equity securities available for sale (145,931) (1,723,664) (3,168,453)
Other invested assets (13,885) (1,188) (30,467)
(Increase) decrease in commercial mortgage loans on real estate (52,475) 76,810 119,519
Decrease (increase) in short term investments 174,167 (11,573) (114,545)
(Increase) in policy loans (219) (365) (1,897)
Net cash paid related to acquisition/sale of business - - (189,179)
----------- ----------- -----------
Net cash (used in) provided by investing activities $ (276,932) $ (128,004) $ 114,868
See the accompanying notes to the consolidated financial statements
F-6
FORTIS BENEFITS INSURANCE COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
DECEMBER 31, 2003, 2002 AND 2001
YEARS ENDED DECEMBER 31,
---------------------------------------
2003 2002 2001
--------- --------- ---------
(IN THOUSANDS)
FINANCING ACTIVITIES
Activities related to investment products:
Considerations received $ - $ - $ 43,713
Surrenders and death benefits - - (79,329)
Interest credited to policyholders - - 7,174
Dividends paid - (60,000) (375,000)
Other - - 4,308
--------- --------- ---------
Net cash used in financing activities - (60,000) (399,134)
Change in cash and cash equivalents (20,399) 10,785 (28,869)
Cash and cash equivalents at beginning of period 49,575 38,790 67,659
--------- --------- ---------
Cash and cash equivalents at end of period $ 29,176 $ 49,575 $ 38,790
========= ========= =========
Supplemental information:
Income taxes paid $ 7,702 $ 112,791 $ 317
See the accompanying notes to the consolidated financial statements
F-7
FORTIS BENEFITS INSURANCE COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
DECEMBER 31, 2003, 2002 AND 2001
---------------------------------------------
2003 2002 2001
---------- ---------- ----------
(IN THOUSANDS)
Supplemental schedule of non-cash investing activities:
Non cash activities:
Foreign currency translation 5,481 (1,913) 657
Assets and liabilities transferred in reinsurance
transactions (Notes 3 and 4):
Cessations of FFG in 2001:
Non-cash assets (ceded) received:
Compensation for ceded liabilities - - (500,000)
Fixed maturities - - (161,579)
Other investments - - (196,987)
Capital gains on assets transferred - - 582
Other assets - - (20,367)
Deferred acquisition costs - - (441,555)
---------- ---------- ----------
Total value of assets (ceded) received - - (1,319,906)
========== ========== ==========
Non-cash liabilities ceded (assumed):
Ceding commission - - 500,000
Future policy benefit reserves - - 1,049,137
Claim liabilities and dividends payable - - 14,928
Unearned premium reserves - - 241
Separate accounts seed money liability - - (21,387)
Other liabilities - - 1,515
Proceeds reallocation - - 198,750
---------- ---------- ----------
Total liabilities ceded (assumed) - - 1,743,184
========== ========== ==========
Deemed dividend to parent - - (198,750)
Deferred tax asset - - 69,563
---------- ---------- ----------
Net deemed dividend to parent - - (129,187)
========== ========== ==========
Assumptions of Protective DBD in 2002 and 2001:
Non-cash assets assumed:
Goodwill and intangibles - (3,796) 143,204
Other assets - 1,435 20,890
Federal income tax recoverable - (2,044) 77,110
---------- ---------- ----------
Total assets assumed - (4,405) 241,204
========== ========== ==========
Non-cash liabilities assumed
Future policy benefit reserves - - (21,913)
Unearned premium reserves - - (13,975)
Claim liabilities and dividends payable - 208 (15,068)
Accrued expenses and other liabilities - (2,500) (28,245)
----------- ---------- ----------
Total liabilities assumed - (2,292) (79,201)
=========== ========== ==========
See the accompanying notes to the consolidated financial statements
F-8
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
1. NATURE OF OPERATIONS
Fortis Benefits Insurance Company (the "Company") is a provider of life and
health insurance products. At December 31, 2003, the Company was an indirect
wholly owned subsidiary of Fortis, Inc. ("Fortis"), which itself was an
indirect, wholly owned subsidiary of Fortis (SA/NV) of Belgium and Fortis N.V of
the Netherlands (collectively, the "Parent").
On February 5, 2004, the Parent sold approximately 65% of its ownership interest
in Fortis. via an Initial Public Offering ("IPO"). In connection with the IPO,
Fortis. was merged into Assurant, Inc., a Delaware corporation, which was formed
solely for the purpose of the redomestication of Fortis. After the merger,
Assurant, Inc. became the successor to the business, operations and obligations
of Fortis. Assurant, Inc is traded on the New York Stock Exchange under the
symbol AIZ.
The Company is incorporated in Minnesota and distributes its products in all
states except New York. The Company's revenues are derived principally from
group employee benefits products and from individual, group health and pre-need
products. The Company offers insurance products, including life insurance
policies, annuity contracts, and group life, accident and health insurance
policies.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The accompanying consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United States of
America ("GAAP"). The preparation of financial statements in conformity with
GAAP requires management to make estimates when recording transactions resulting
from business operations based on information currently available. The most
significant items on the Company's balance sheet that involve accounting
estimates and actuarial determinations are goodwill, reinsurance recoverables,
valuation of investments, deferred acquisition costs ("DAC"), liabilities for
future policy benefits and expenses, and claims and benefits payable. The
accounting estimates and actuarial determinations are sensitive to market
conditions, investment yields, mortality, morbidity, commissions and other
acquisition expenses, and terminations by policyholders. As additional
information becomes available or actual amounts are determinable, the recorded
estimates will be revised and reflected in operating results. Although some
variability is inherent in these estimates, the Company believes the amounts
provided are reasonable.
Dollar amounts are presented in U.S. dollars and all amounts are in thousands
except for number of shares and securities.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company and
all of its wholly owned subsidiaries. All significant inter-company transactions
and balances are eliminated in consolidation. See notes 3 and 4 for acquisitions
and dispositions of businesses.
F-9
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
COMPREHENSIVE INCOME
Comprehensive income is comprised of net income and other comprehensive income,
which includes foreign currency translation, unrealized gains and losses on
securities classified as available for sale, less deferred income taxes.
RECLASSIFICATIONS
Certain amounts in the 2002 and 2001 consolidated financial statements have been
reclassified to conform to the 2003 presentation.
CASH AND CASH EQUIVALENTS
The Company considers cash on hand, all operating cash and working capital cash
to be cash equivalents. These amounts are carried principally at cost, which
approximates fair value. Cash balances are reviewed at the end of each reporting
period to determine if negative cash balances exist. If negative cash balances
do exist, the cash accounts are netted with other positive cash accounts of the
same bank provided the right of offset exists between the accounts. If the right
of offset does not exist, the negative cash balances are reclassified to
accounts payable.
INVESTMENTS
The Company's investment strategy is developed based on many factors including
insurance asset and liability management, rate of return, maturity, credit risk,
tax considerations and regulatory requirements.
Fixed maturities and equity securities are classified as available-for-sale and
reported at fair value. Changes in fair values of available for sale securities,
after related deferred income taxes and after adjustment for the changes in the
pattern of amortization of deferred policy acquisition costs and participating
policyholder dividends, are reported as accumulated other comprehensive income
and, accordingly, have no effect on net income. The unrealized appreciation or
depreciation in the fair value of available for sale securities is reported net
of taxes that would have been required as a charge or credit to income had such
unrealized amounts been realized.
Commercial mortgage loans on real estate are reported at unpaid balances,
adjusted for amortization of premium or discount, less allowance for losses.
Allowances, if necessary, are established for mortgage loans based on the
difference between the unpaid loan balance and the estimated fair value of the
underlying real estate when such loans are determined to be in default as to
scheduled payments. The change in the allowance for losses is recorded as
realized gains and losses on investments. Such allowances are based on the
present value of expected future cash flows discounted at the loan's effective
interest rate or at the loan's observable market price, or the fair market value
of the collateral if the loan is collateral dependent.
Policy loans are reported at unpaid principal balances, which do not exceed the
cash surrender value of the underlying policies.
F-10
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
Short-term investments include all investment cash and highly liquid
investments. These amounts are carried principally at cost, which approximates
fair value.
The Company regularly monitors its investment portfolio to ensure that
investments that may be other than temporarily impaired are identified in a
timely fashion and properly valued, and that any impairments are charged against
earnings in the proper period. The Company's methodology to identify potential
impairments requires professional judgment. Changes in individual security
values are monitored on a semi-monthly basis in order to identify potential
problem credits. In addition, securities whose market price is equal to 85% or
less of their original purchase price are added to the impairment watch list,
which is discussed at monthly meetings attended by members of the Company's
investment, accounting and finance departments. Any security whose price
decrease is deemed other-than-temporary is written down to its then current
market level. Inherently, there are risks and uncertainties involved in making
these judgments. Changes in circumstances and critical assumptions such as a
continued weak economy, a more pronounced economic downturn or unforeseen events
which affect one or more companies, industry sectors or countries could result
in additional write downs in future periods for impairments that are deemed to
be other-than-temporary.
Realized gains and losses on sales of investments and declines in value judged
to be other-than-temporary are recognized on the specific identification basis.
Investment income is recorded as earned net of investment expenses.
The Company anticipates prepayments of principal in the calculation of the
effective yield for mortgage-backed securities and structured securities. The
majority of the Company's mortgage-backed securities and structured securities
are of high credit quality. Therefore, the retrospective method is used to
adjust the effective yield.
DERIVATIVE INSTRUMENT
In August 2003, the Company began to utilize derivative instruments in managing
the PreNeed segment's exposure to inflation risk. The derivative instrument, a
Consumer Price Index Cap (the "CPI CAP"), limits the inflation risk on certain
policies to a maximum of 5% and has a notional amount of $454,000 amortizing to
zero over 20 years. The CPI CAP does not qualify under GAAP as an effective
hedge; therefore, it is marked-to-market on a quarterly basis and the
accumulated gain or loss is recognized in the results of operations in fees and
other income. As of December 31, 2003, the CPI CAP included in other assets
amounted to $8,800 and the income recorded in the results of operations totaled
$100.
REINSURANCE
Reinsurance recoverables include amounts related to paid benefits and estimated
amounts related to unpaid policy and contract claims, future policyholder
benefits and policyholder contract deposits. The cost of reinsurance is
accounted for over the terms of the underlying reinsured policies using
assumptions consistent with those used to account for the policies. Amounts
recoverable from reinsurers are estimated in a manner consistent with claim and
claim adjustment expense reserves or future policy benefits reserves and are
reported in the consolidated balance sheets. The cost of reinsurance related to
long-duration contracts is accounted for over the life of the underlying
reinsured policies. The ceding of
F-11
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
insurance does not discharge the Company's primary liability to insureds. An
estimated allowance for doubtful accounts is recorded on the basis of periodic
evaluations of balances due from reinsurers, reinsurer solvency, management's
experience, and current economic conditions.
DEFERRED ACQUISITION COSTS (DAC)
The costs of acquiring new business, which vary with and are directly related to
the production of new business, are deferred to the extent recoverable and
amortized. For traditional and pre-need life insurance and long-term care
products (included as accident and health products), such costs are amortized
over the premium paying period. For interest sensitive and investment products,
such costs are amortized in relation to expected future gross profits.
A premium deficiency is recognized by a charge to the statement of operations as
a reduction of DAC to the extent that future policy premiums, including
anticipation of interest income, are not adequate to recover all DAC and related
claims, benefits and expenses. If the premium deficiency is greater than
unamortized DAC, a liability will be accrued for the excess deficiency.
PROPERTY AND EQUIPMENT
Property and equipment are reported at cost less accumulated depreciation.
Depreciation is calculated on a straight-line basis over estimated useful lives
with a maximum of 39.5 years for buildings, 7 years for furniture and 5 years
for equipment. Expenditures for maintenance and repairs are charged to income as
incurred. Expenditures for improvements are capitalized and depreciated over the
remaining useful life of the asset. Depreciation expense was $1,125, $1,253 and
$1,243 for the years ended December 31, 2003, 2002 and 2001, respectively.
GOODWILL
Goodwill represents the excess of acquisition costs over the net fair values of
identifiable assets acquired and liabilities assumed in a business combination.
The Company adopted Statement of Financial Accounting Standards No. 142 ("FAS
142"), Goodwill and Other Intangible Assets, as of January 1, 2002. Pursuant to
FAS 142, goodwill is deemed to have an indefinite life and should not be
amortized, but rather tested at least annually for impairment. The goodwill
impairment test has two steps. The first identifies potential impairments by
comparing the fair value of a reporting unit with its book value, including
goodwill. If the fair value of the reporting unit exceeds the carrying amount,
goodwill is not impaired and the second step is not required. If the carrying
value exceeds the fair value, the second step calculates the possible impairment
loss by comparing the implied fair value of goodwill with the carrying amount.
If the implied goodwill is less than the carrying amount, a write down is
recorded. Prior to the adoption of FAS 142, goodwill was amortized over 20
years. Upon the adoption of FAS 142, the Company ceased amortizing goodwill. The
measurement of fair value was determined based on a valuation report prepared by
an independent valuation firm. The valuation was based on an evaluation of
ranges of future discounted earnings, public company trading multiples and
acquisitions of similar companies. Certain key assumptions considered include
forecasted trends in revenues, operating expenses and effective tax rates.
F-12
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
SEPARATE ACCOUNTS
Assets and liabilities associated with separate accounts relate to premium and
annuity considerations for variable life and annuity products for which the
contract-holder, rather than the Company, bears the investment risk. Separate
account assets are reported at fair value. Revenues and expenses related to the
separate account assets and liabilities, to the extent of benefits paid or
provided to the separate account policyholders, are excluded from the amounts
reported in the accompanying consolidated statements of operations. Through
April 1, 2001, the Company received administrative fees for managing the funds
and other fees for assuming mortality and certain expense risks. Such fees were
included in net earned premiums and other considerations in the consolidated
statements of operations. Since April 1, 2001, all fees have been ceded to the
Hartford Life Insurance and Annuity Company ("the Hartford") (see note 4).
The Company received mortality and expense risk fees from the separate accounts,
deducted monthly cost of insurance charges, and received minimum death benefit
guarantee fees along with issue and administrative fees from the variable life
insurance separate accounts prior to the sale.
The Company made contractual mortality assurances to the variable annuity
contract owners that the net assets of the separate accounts will not be
affected by future variations in the actual life expectancy experience of the
annuitants and beneficiaries from the mortality assumptions implicit in the
annuity contracts. The Company made periodic fund transfers to, or withdrawals
from, the separate account assets for such actuarial adjustments for variable
annuities in the benefit payment period. The Company also guarantees that the
rates at which administrative fees are deducted from contract funds will not
exceed contractual maximums.
For variable life insurance, the Company guarantees that the rates at which
insurance charges and administrative fees are deducted from contract funds will
not exceed contractual maximums. The Company also guarantees that the death
benefit will continue to be payable at the initial level regardless of
investment performance so long as minimum premium payments are made. The risk
associated with minimum business guarantees has been ceded to the Hartford as
noted above.
INCOME TAXES
The Company reports its taxable income in a consolidated federal income tax
return along with other affiliated subsidiaries of Fortis. Income tax expense or
credits are allocated among the affiliated subsidiaries by applying corporate
income tax rates to taxable income or loss determined on a separate return basis
according to a Tax Allocation Agreement.
Deferred income taxes reflect the net tax effects of temporary differences
between the basis of assets and liabilities for financial statement purposes and
for income tax purposes.
OTHER ASSETS
Other assets include prepaid items and intangible assets. Identifiable
intangible assets with finite lives are amortized on a straight-line basis over
their estimated useful lives. The Company tests the intangible assets for
impairment whenever circumstances warrant, but at least annually. If impairment
exists, then
F-13
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
excess of the unamortized balance over the fair value of the intangible assets
will be charged to income at that time.
FOREIGN CURRENCY TRANSLATION
Assets and liabilities of foreign operations reported in other than U.S. dollars
are translated at the exchange rate in effect at the end of the period.
Revenues, benefits and other expenses are translated at the average rate
prevailing during the period. Cumulative translation adjustments have been
reflected in Stockholder's Equity under the caption "Accumulated other
comprehensive income."
REVENUES AND FUTURE POLICY BENEFIT RESERVES
Premiums for traditional life insurance and pre-need life products are
recognized as revenues when due over the premium-paying period. Reserves for
future policy benefits are computed using the net level method and include
investment yield, mortality, withdrawal, and other assumptions based on the
Company's experience, modified as necessary to reflect anticipated trends and to
include provisions for possible unfavorable deviations.
Revenues for interest sensitive and investment products consist of charges
assessed against policy account balances during the period for the cost of
insurance, policy administration, and surrender charges. Future policy benefit
reserves are computed under the retrospective deposit method and consist of
policy account balances before applicable surrender charges. Policy benefits
charged to expense during the period include amounts paid in excess of policy
account balances and interest credited to policy account balances. Interest
crediting rates for universal life and investment products ranged from 3% to 7%
in 2003, 3% to 10% in 2002 and 3% to 14% in 2001.
A portion of the Company's pre-need life products provide an increasing future
benefit tied typically to the U.S. Consumer Price Index or a targeted growth
rate established at management's discretion. All pre-need life products that
have death benefit increases made at management's discretion are accounted for
as interest-sensitive life products.
Premiums for accident and health insurance products, including medical,
long-term and short-term disability and dental insurance products, are
recognized as revenues ratably over the contract period in proportion to the
risk insured. Reserves for future disability benefits are based on the 1987
Commissioners Group Disability Table. The valuation interest rate is the Single
Premium Immediate Annuity valuation rate less 100 basis points. Claims in the
first five years are modified based on the Company's actual experience.
CLAIMS AND BENEFITS PAYABLE
Other policy claims and benefits payable for reported and incurred but not
reported claims and related claims adjustment expenses are determined using
case-basis estimates and past experience. The methods of making such estimates
and establishing the related liabilities are continually reviewed and updated.
Any adjustments resulting there from are reflected in income currently.
F-14
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
GUARANTY FUND ASSESSMENTS
There are a number of insurance companies that are currently under regulatory
supervision. This may result in future assessments to the Company by state
guaranty fund associations to cover losses to policyholders of insolvent or
rehabilitated companies. These assessments can be partially recovered through a
reduction in future premium taxes in some states. The Company believes it has
adequately provided for the impact of future assessments relating to current
insolvencies.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 2002, the Financial Accounting Standards Board ("FASB") issued FAS 146,
Accounting for Costs Associated with Exit or Disposal Activities ("FAS 146").
This statement addresses financial accounting and reporting for costs associated
with exit or disposal activities and nullifies Emerging Issues Task Force
("EITF") Issue 94-3, Liability Recognition for Certain Employee Termination
Benefits and Other Costs to Exit on Activity (Including Certain Costs Incurred
in Restructuring ("EITF 94-3")). EITF 94-3 required accrual of liabilities
related to exit and disposal activities at a plan (commitment) date. FAS 146
requires that a liability for a cost associated with an exit or disposal
activity be recognized when the liability is incurred. The provisions of this
statement are effective for exit or disposal activities that are initiated after
December 31, 2002. The Company adopted this Statement on January 1, 2003. The
adoption of this standard did not have a material impact on the Company's
financial position or the results of operations.
In November 2002, the FASB issued Interpretation 45, Guarantor's Accounting and
Disclosure Requirements for Guarantees ("FIN 45"). FIN 45 requires that a
liability be recognized at the inception of certain guarantees for the fair
value of the obligation, including the ongoing obligation to stand ready to
perform over the term of the guarantee. Guarantees, as defined in FIN 45,
include contracts that contingently require the Company to make payments to a
guaranteed party based on changes in an underlying obligation that is related to
an asset, liability or equity security of the guaranteed party, performance
guarantees, indemnification agreements and indirect guarantees of indebtedness
of others. This new accounting standard is effective for certain guarantees
issued or modified after December 31, 2002. In addition, FIN 45 requires certain
additional disclosures. The Company adopted this standard on January 1, 2003,
and the adoption did not have a material impact on the Company's financial
position or the results of operations.
In April 2003, the FASB's Derivative Implementation Group ("DIG") released FAS
133 Implementation Issue B36, Embedded Derivatives: Modified Coinsurance
Arrangement and Debt Instrument that Incorporates Credit Risk Exposures that are
Unrelated or Only Partially Related to the Creditworthiness of the obligor under
those Instruments ("DIG B36"). DIG B36 addresses whether FAS 133 requires
bifurcation of a debt instrument into a debt host contract and an embedded
derivative if the debt instrument incorporates both interest rate risk and
credit risk exposures that are unrelated or only partially related to the
creditworthiness of the issuer of that instrument. Under DIG B36, modified
coinsurance and coinsurance with funds withheld reinsurance agreements as well
as other types of receivables and payables where interest is determined by
reference to a pool of fixed maturity assets or a total return debt index are
examples of arrangements containing embedded derivatives requiring bifurcation.
The Company adopted DIG B36 on October 1, 2003. The adoption of this standard
did not have a material impact on the Company's financial position or the
results of operations.
F-15
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
In April 2003, the FASB issued FAS 149, Amendment of Statement 133 on Derivative
Instruments and Hedging Activities ("FAS 149"). This statement amends and
clarifies financial accounting and reporting for derivative instruments,
including certain derivative instruments embedded in other contracts
(collectively referred to as derivatives) and for hedging activities under FAS
133, Accounting for Derivative Instruments and Hedging Activities. This
Statement is effective prospectively for contracts entered into or modified
after June 30, 2003 and prospectively for hedging relationships designated after
June 30, 2003. The adoption of this standard did not have a material impact on
the Company's financial position or the results of operations.
On July 7, 2003, the Accounting Standards Executive Committee ("AcSEC") of the
American Institute of Certified Public Accountants ("AICPA") issued Statement of
Position 03-1, Accounting and Reporting by Insurance Enterprises for Certain
Nontraditional Long Duration Contracts and for Separate Accounts ("SOP 03-1").
SOP 03-1 provides guidance on a number of topics unique to insurance
enterprises, including separate account presentation, interest in separate
accounts, gains and losses on the transfer of assets from the general account to
a separate account, liability valuation, returns based on a contractually
referenced pool of assets or index, accounting for contracts that contain death
or other insurance benefit features, accounting for reinsurance and other
similar contracts, accounting for annuitization benefits and sales inducements
to contract holders. SOP 03-1 will be effective for the Company's consolidated
financial statements on January 1, 2004. The Company assessed this statement and
determined that the adoption of this statement will not have a material impact
on the Company's financial position or the results of operations.
In January 2003, the FASB issued Interpretation 46 ("FIN 46"), Consolidation of
Variable Interest Entities, an Interpretation of Accounting Research Bulletin
No. 51 ("ARB 51"), which clarifies the consolidation accounting guidance in ARB
51, Consolidated Financial Statements, as it applies to certain entities in
which equity investors who do not have the characteristics of a controlling
financial interest or do not have sufficient equity at risk for the entities to
finance their activities without additional subordinated financial support from
other parties. Such entities are known as variable interest entities ("VIEs").
FIN 46 requires that the primary beneficiary of a VIE consolidate the VIE. FIN
46 also requires new disclosures for significant relationships with VIEs,
whether or not consolidation accounting is either used or anticipated. The
consolidation requirements of FIN 46 apply immediately to VIEs created after
January 31, 2003, and to VIEs in which an enterprise holds a variable interest
that was acquired after February 1, 2003. On October 8, 2003, the FASB deferred
the adoption of FIN 46 until reporting periods ending after December 15, 2003.
The adoption of this statement did not have a material impact on the Company's
financial position or the results of operations.
3. MERGERS AND ACQUISITIONS
PIERCE NATIONAL LIFE INSURANCE COMPANY ("PNL")
On July 1, 2001, the Company completed a statutory merger in which Pierce
National Life Insurance Company ("PNL"), a California insurance company, merged
with and into the Company (the "Merger"). Immediately prior to the Merger, both
the Company and PNL were indirect wholly owned subsidiaries of Fortis. The
Merger was completed as part of an internal reorganization being effected by
Fortis with respect to certain of its life and health insurance companies. This
transaction was accounted for at
F-16
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
historical cost, similar to pooling of interests. The results of operations for
PNL have been included as of January 1, 2001.
DENTAL BENEFITS DIVISION ("DBD") OF PROTECTIVE LIFE CORPORATION ("PROTECTIVE")
On December 31, 2001, the Company purchased ("the Purchase") the Dental Benefits
Division of Protective Life Corporation ("Protective"). The Purchase included
group dental, group life and group disability insurance products. The Company
entered into a reinsurance agreement with Protective for these insurance
products on a 100% co-insurance basis and performs administration services for
such insurance products. The transaction was accounted for under the purchase
method. Consequently, the purchase price was allocated to assets acquired and
liabilities assumed based on the relative fair values. The Company assumed
approximately $75,000 of reserves, $244,000 of assets including $147,000 of
goodwill and intangibles and paid cash of approximately $169,000. During 2002,
the Company finalized its purchase price allocation and allocated $28,800 to
intangible assets, net of deferred income taxes of $10,060. The results of
operations of the business acquired have been included in the consolidated
financial statements since the date of acquisition.
4. DISPOSITIONS
FORTIS FINANCIAL GROUP ("FFG")
On April 2, 2001, the Company entered into a reinsurance agreement with the
Hartford for the sale of its Fortis Financial Group ("FFG") division. FFG
includes, among other blocks of business, certain individual life insurance
policies and annuity contracts (collectively, the "Insurance Contracts") written
by the Company. Certain of the Insurance Contracts permit investment in, among
other investment options, various series of the Fortis Series Fund.
To execute the sale as it relates to the Company, the Hartford reinsured the
Insurance Contracts on a 100% coinsurance basis (or 100% modified coinsurance
basis for the Separate Accounts block) and agreed to administer the Insurance
Contracts going forward. The Company received in connection with the sale an
aggregate consideration of approximately $500,000 from the Hartford. The
reinsurance contracts did not legally replace the Company as the insurer to
policyholders or extinguish the Company's liabilities to its policyholders. The
reserves for this block of business are included in the Company's reserves, see
Note 9. The deferred gain is being amortized over the remaining estimated life
of the underlying business. The amortization of the deferred gain is more rapid
in the first few years after sale and will be slower as the liabilities in the
reinsured block decrease. During 2003, 2002 and 2001, the Company recognized
pre-tax income of approximately $51,501, $58,227, and $47,928, respectively,
reflecting the amortization of a portion of the deferred gain in the results of
operations.
F-17
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
5. INVESTMENTS
The amortized cost and fair value of fixed maturities and equity securities at
December 31, 2003 were as follows:
COST GROSS GROSS
OR AMORTIZED UNREALIZED UNREALIZED
COST GAINS LOSSES FAIR VALUE
------------ ---------- ---------- ----------
FIXED MATURITIES
BONDS:
United States Government and government
agencies and authorities $ 564,124 $ 15,429 $ (1,374) $ 578,179
States, municipalities and political subdivisions 30,089 999 - 31,088
Foreign governments 90,068 7,796 (90) 97,774
Public utilities 396,447 33,930 (195) 430,182
All other corporate bonds 2,146,315 172,407 (3,646) 2,315,076
---------- ---------- ---------- ----------
Total fixed maturities $3,227,043 $ 230,561 $ (5,305) $3,452,299
========== ========== ========== ==========
EQUITY SECURITIES
COMMON STOCKS:
Banks, trusts and insurance companies - 32 - 32
NON-REDEEMABLE PREFERRED STOCKS:
Non-sinking fund preferred stocks 199,287 8,934 (104) 208,117
---------- ---------- ---------- ----------
Total equity securities $ 199,287 $ 8,966 $ (104) $ 208,149
========== ========== ========== ==========
The amortized cost and fair value of fixed maturities and equity securities at
December 31, 2002 were as follows:
COST OR GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED
COST GAINS LOSSES FAIR VALUE
---------- ---------- ---------- ----------
FIXED MATURITIES
BONDS:
United States Government and government
agencies and authorities $ 554,369 $ 24,912 $ (11) 579,270
States, municipalities and political subdivisions 28,170 716 (2) 28,884
Foreign governments 65,274 8,178 (23) 73,429
Public utilities 348,456 22,595 (5,028) 366,023
All other corporate bonds 1,886,247 128,918 (18,082) 1,997,083
---------- ---------- ---------- ----------
Total fixed maturities $2,882,516 $ 185,319 $ (23,146) $3,044,689
========== ========== ========== ==========
EQUITY SECURITIES
NON-REDEEMABLE PREFERRED STOCKS:
Non-sinking fund preferred stocks $ 108,002 $ 2,617 $ (8,405) $ 102,214
---------- ---------- ---------- ----------
Total equity securities $ 108,002 $ 2,617 $ (8,405) $ 102,214
========== ========== ========== ==========
F-18
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
The amortized cost and fair value of fixed maturities at December 31, 2003 by
contractual maturity are shown below. Expected maturities may differ from
contractual maturities because issuers of the securities may have the right to
call or prepay obligations with or without call or prepayment penalties.
AMORTIZED
COST FAIR VALUE
---------- ----------
Due in one year or less $ 24,471 $ 25,096
Due after one year through five years 390,353 420,516
Due after five years through ten years 971,603 1,039,626
Due after ten years 1,171,731 1,287,675
Total 2,558,158 2,772,913
Mortgage and asset backed securities 668,885 679,386
---------- ----------
Total $3,227,043 $3,452,299
========== ==========
Gross gains of $20,718, $69,152, and $48,963 and gross losses of $7,783, $76,629
and $74,264 were realized on these sales in 2003, 2002 and 2001, respectively.
Major categories of net investment income were as follows:
YEARS ENDED DECEMBER 31,
---------------------------------------
2003 2002 2001
--------- --------- ---------
Fixed maturities $ 195,500 $ 200,458 $ 217,535
Equity securities 12,097 10,364 16,967
Commercial mortgage loans on real estate 49,940 52,392 65,524
Policy loans 588 575 2,156
Short-term investments 1,363 728 922
Other investments 8,592 1,932 9,428
Cash and cash equivalents 198 21 17
Investment expenses (8,474) (7,880) (6,172)
--------- --------- ---------
Net investment income $ 259,804 $ 258,590 $ 306,377
========= ========= =========
The net realized gains (losses) recorded in income for 2003, 2002 and 2001 are
summarized as follows:
YEARS ENDED DECEMBER 31,
----------------------------------------------
2003 2002 2001
-------- -------- --------
Fixed maturities $ 5,014 $(50,698) $(35,594)
Equity securities (127) 3,981 (6,467)
-------- -------- --------
Total marketable securities 4,887 (46,717) (42,061)
Real estate - 917 7,810
Other (978) (1) (76)
-------- -------- --------
Total $ 3,909 $(45,801) $(34,327)
======== ======== ========
F-19
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
The Company recorded $8,048, $39,240 and $16,760 of pre-tax realized losses in
2003, 2002 and 2001, respectively, associated with other-than-temporary declines
in value of available for sale securities.
The Company has made commercial mortgage loans, collateralized by the underlying
real estate, on properties located throughout the United States. At December 31,
2003, approximately 49% of the outstanding principal balance of commercial
mortgage loans were concentrated in the states of California, New York,
Connecticut, Pennsylvania and Florida. Although the Company has a diversified
loan portfolio, an economic downturn could have an adverse impact on the ability
of its debtors to repay their loans. The outstanding balance of commercial
mortgage loans range in size from $55 to $9,350 at December 31, 2003. The
mortgage loan balance is net of an allowance for losses of $13,287 and $13,228
at December 31, 2003 and 2002, respectively.
The Company had fixed maturities carried at $188,785 and $57,353 at December 31,
2003 and 2002, respectively, on deposit with various governmental authorities as
required by law.
SECURITY LENDING
The Company engages in transactions in which fixed maturities, especially bonds
issued by the United States Government and Government agencies and authorities,
are loaned to selected broker/dealers. Collateral, greater than or equal to 102%
of the fair value of the securities lent plus interest, is received in the form
of cash or marketable securities and is held by a custodian for the benefit of
the Company. The Company monitors the fair value of securities loaned and the
collateral received on a daily basis, with additional collateral obtained as
necessary. The Company is subject to the risk of loss to the extent that the
loaned securities are not returned and the value of the collateral is less than
the market value of the securities loaned. Management believes such an event is
unlikely. At December 31, 2003 and 2002, securities with a fair value of
$376,234 and $301,065 respectively, were on loan to select brokers.
6. INCOME TAXES
The Company and its subsidiary are subject to U.S. tax and is part of a U.S.
consolidated federal income tax return with its parent Fortis, Inc. Information
about current and deferred tax expense follows:
YEARS ENDED DECEMBER 31,
---------------------------------------------
2003 2002 2001
-------- -------- --------
Current expense:
Federal $ 20,400 $ 20,320 $ 81,366
Foreign 2,821 485 3,330
-------- -------- --------
Total current expense 23,221 20,805 84,696
Deferred expense (benefit)
Federal 43,914 23,420 (29,222)
Foreign (522) - -
-------- -------- --------
Total deferred expense (benefit) 43,392 23,420 (29,222)
-------- -------- --------
Total income tax expense $ 66,613 $ 44,225 55,474
======== ======== ========
F-20
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
The provision for foreign taxes includes amounts attributable to income from
U.S. possessions that are considered foreign under U.S. tax laws. International
operations of the Company are subject to income taxes imposed by the
jurisdiction in which they operate.
A reconciliation of the federal income tax rate to the Company's effective
income tax rate follows:
DECEMBER 31,
---------------------------------
2003 2002 2001
------ ------ ------
Federal income tax rate: 35.0% 35.0% 35.0%
Reconciling items:
Dividends received deduction (1.5) (0.5) (1.8)
Permanent nondeductible expenses 0.4 (0.2) 0.4
Adjustment for deferred liabilities (0.9) - -
Goodwill 0.5 - 0.3
Other 0.4 (3.8) 0.2
------ ------ ------
Effective income tax rate: 33.9% 30.5% 34.1%
====== ====== ======
The tax effects of temporary differences that result in significant deferred tax
assets and deferred tax liabilities are as follows:
DECEMBER 31,
-----------------------
2003 2002
-------- --------
Deferred tax assets:
Policyholder and separate account reserves $ 18,974 $ 27,478
Accrued liabilities 13,067 16,207
Investment adjustments 14,527 15,857
Deferred acquisition costs 12,606 20,316
Other assets 77,011 100,254
-------- --------
Gross deferred tax assets 136,185 180,112
-------- --------
Deferred tax liabilities:
Unrealized gains on fixed maturities and equities 81,936 54,795
-------- --------
Gross deferred tax liabilities 81,936 54,795
-------- --------
Net deferred income tax asset $ 54,249 $125,317
======== ========
Under pre-1984 life insurance company income tax laws, a portion of a life
insurance company's "gain from operations" was not subject to current income
taxation but was accumulated, for tax purposes, in a memorandum account
designated as "policyholders' surplus account." Amounts in this account only
become taxable upon the occurrence of certain events. The approximate amount in
this account was $12,145 at December 31, 2003 and 2002, respectively. Deferred
taxes have not been provided on amounts in this account since the Company
neither contemplates any action nor foresees any events occurring that would
create such tax.
F-21
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
At December 31, 2003, the Company and its subsidiaries had capital loss
carryforwards for U.S. federal income tax purposes. Capital loss carryforwards
total $36,893 and will all expire in 2007 if unused.
7. STOCKHOLDER'S EQUITY
The Board of Directors of the Company has authorized 1,000,000 shares of common
stock with a par value of $5 per share. All the shares are issued and
outstanding as of December 31, 2003, 2002, and 2001. All the outstanding shares
at December 31, 2003 are owned by Fortis (see Note 1). The Company paid
dividends of $0, $60,000 and $300,000 at December 31, 2003, 2002 and 2001,
respectively.
The maximum amount of dividends which can be paid by the State of Minnesota
insurance companies to shareholders without prior approval of the Insurance
Commissioner is subject to restrictions relating to statutory surplus (see Note
8).
8. STATUTORY INFORMATION
Statutory-basis financial statements are prepared in accordance with accounting
practices prescribed or permitted by the Minnesota Department of Commerce.
The principal differences between statutory accounting principles (SAP) and GAAP
are: 1) policy acquisition costs are expensed as incurred under SAP, but are
deferred and amortized under GAAP; 2) the value of business acquired is not
capitalized under SAP but is under GAAP; 3) amounts collected from holders of
universal life-type and annuity products are recognized as premiums when
collected under SAP, but are initially recorded as contract deposits under GAAP,
with cost of insurance recognized as revenue when assessed and other contract
charges recognized over the periods for which services are provided; 4) the
classification and carrying amounts of investments in certain securities are
different under SAP than under GAAP; 5) the criteria for providing asset
valuation allowances, and the methodologies used to determine the amounts
thereof, are different under SAP than under GAAP; 6) the timing of establishing
certain reserves, and the methodologies used to determine the amounts thereof,
are different under SAP than under GAAP; and 7) certain assets are not admitted
for purposes of determining surplus under SAP.
The Company's statutory net income and capital and surplus are as follows:
YEARS ENDED AND AT
DECEMBER 31,
--------------------------------
2003 2002 2001
--------- --------- ----------
Statutory Net Income $ 121,896 $ 111,378 $ (48,150)
========= ========= ==========
Statutory Capital and Surplus $ 560,896 $ 503,324 $ 485,031
========= ========= ==========
Insurance enterprises are required by State Insurance Departments to adhere to
minimum risk-based capital (RBC) requirements developed by the NAIC. The Company
exceeds the minimum RBC requirements.
F-22
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
Dividend distributions to the parent are restricted as to the amount by state
regulatory requirements. A dividend is extraordinary when combined with all
other dividends and distributions made with in the preceding 12 months exceeds
the greater of 10% of the insurers surplus as regards to policyholders on
December 31 of the next preceding year, or the net gain from operations. In
2003, the Company declared no dividends. In 2002, the Company declared and paid
dividends of $60,000, all of which were ordinary. The Company paid $375,000
during 2001, $75,000 of which was declared in 2000. The Company has the ability,
under state regulatory requirements, to dividend up to $131,000 to its parent in
2004.
In 1998, the NAIC adopted codified statutory accounting practices (Codification)
effective January 1, 2001. Codification changed, to some extent, prescribed
statutory accounting practices and resulted in changes to the accounting
practices that the Company uses to prepare its statutory-basis financial
statements. Codification required adoption by the various states before it
became the prescribed statutory basis of accounting for insurance companies
domesticated within those states. Minnesota adopted Codification effective
January 1, 2001. The cumulative effect of all changes resulting from the
Codification guidance was recorded as a direct adjustment to statutory surplus
on January 1, 2001. The effect of the adoption was an increase to statutory
surplus of $33,501 due primarily to deferred taxes.
9. REINSURANCE
In the ordinary course of business, the Company is involved in both the
assumption and cession of reinsurance with non-affiliated companies. The
following table provides details of the reinsurance recoverables balance for the
years ended December 31:
----------- -----------
2003 2002
----------- -----------
Ceded future policy holder benefits and expense $ 1,132,484 $ 1,065,000
Ceded unearned premium 19,898 19,991
Ceded claims and benefits payable 40,459 57,259
Ceded paid losses recoverable 17,458 8,936
----------- -----------
Total $ 1,210,299 $ 1,151,186
=========== ===========
F-23
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
The effect of reinsurance on premiums earned and benefits incurred was as
follows:
YEARS ENDED DECEMBER 31,
------------------------------------------------------------------------------------------------------------
2003 2002 2001
-------------------------------- --------------------------------- ------------------------------------
LONG SHORT LONG SHORT LONG SHORT
DURATION DURATION TOTAL DURATION DURATION TOTAL DURATION DURATION TOTAL
-------- -------- --------- -------- -------- ---------- ---------- ---------- ----------
Gross earned
premiums and other
considerations $523,173 $1,293,519 $1,816,692 $630,036 $1,185,372 $1,815,408 $ 762,825 $1,227,156 $1,989,981
premiums assumed 23,335 194,222 217,557 30,431 249,311 279,742 42,778 13,721 56,499
premiums ceded (304,638) (23,930) (328,568) (384,547) (24,239) (408,786) (501,700) (11,259) (512,959)
-------- ---------- ---------- -------- ---------- ---------- ---------- ---------- ----------
Net earned premiums
and other
considerations $241,870 $1,463,811 $1,705,681 $275,920 $1,410,444 $1,686,364 $ 303,903 $1,229,618 $1,533,521
======== ========== ========== ======== ========== ========== ========== ========== ==========
Gross policyholder
benefits $843,127 $ 854,965 $1,712,520 $960,342 $ 860,953 $1,821,295 $1,730,617 $ 932,312 $2,662,929
benefits assumed 48,478 173,261 221,739 49,893 187,781 237,674 61,551 13,697 75,248
benefits ceded (635,745) (13,791) (649,536) (741,424) (12,780) (754,204) (1,497,510) (3,478) (1,500,988)
-------- ---------- ---------- -------- ---------- ---------- ---------- ---------- ----------
Net policyholder
benefits $255,860 $1,028,863 $1,284,723 $268,811 $1,035,954 $1,304,765 $ 294,658 $ 942,531 $1,237,189
======== ========== ========== ======== ========== ========== ========== ========== ==========
The Company had $112,027 of assets held in trusts as of December 31, 2003 for
the benefit of others related to certain reinsurance arrangements.
The Company utilizes ceded reinsurance for loss protection and capital
management, business divestitures, client risk and profit sharing.
LOSS PROTECTION AND CAPITAL MANAGEMENT
As part of the Company's overall risk and capacity management strategy, the
Company purchases reinsurance for certain risks underwritten by the Company,
including significant individual or catastrophic claims, and to free up capital
to enable the Company to write additional business.
Under indemnity reinsurance transactions in which the Company is the ceding
insurer, the Company remains liable for policy claims if the assuming company
fails to meet its obligations. To limit this risk, the Company has control
procedures in place to evaluate the financial condition of reinsurers and to
monitor the concentration of credit risk to minimize this exposure. The
selection of reinsurance companies is based on criteria related to solvency and
reliability and, to a lesser degree, diversification as well as on developing
strong relationships with the Company's reinsurance partners for the sharing of
risks.
BUSINESS DIVESTITURES
The Company has used reinsurance to exit certain businesses, such as the
disposal of FFG (see note 4). Assets backing ceded liabilities related to this
business are held in trust for the benefit of the Company and are reflected as
separate accounts in the Company's balance sheet.
F-24
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
The reinsurance recoverable from the Hartford was $890,592 and $903,655 as of
December 31, 2003 and 2002, respectively. The Company would be responsible to
administer this business in the event of a default by the reinsurer. In
addition, under the reinsurance agreement, the Hartford is obligated to
contribute funds to increase the value of the separate accounts relating to the
business sold if such value declines. If the Hartford fails to fulfill these
obligations, the Company will be obligated to make these payments.
In 2000, the Company divested its long term care insurance operations to John
Hancock Life Insurance Company (John Hancock). Reinsurance recoverable from John
Hancock was $239,621 and $152,833 as of December 31, 2003 and 2002,
respectively.
10. RESERVES
The following table provides reserve information by major lines of business as
of:
DECEMBER 31, 2003 DECEMBER 31, 2002
--------------------------------------------- ----------------------------------------------
FUTURE POLICY CLAIMS AND FUTURE POLICY CLAIMS AND
BENEFITS AND UNEARNED BENEFITS BENEFITS AND UNEARNED BENEFITS
EXPENSES PREMIUMS PAYABLE EXPENSES PREMIUMS PAYABLE
------------- ----------- ------------- ------------- ------------ -------------
LONG DURATION CONTRACTS:
Pre-funded funeral life
insurance policies and
annuity contracts $ 1,471,865 $ 2,042 $ 5,792 $ 1,318,202 $ 1,890 $ 5,833
Life insurance no longer
offered 304,773 715 1,788 311,238 757 2,269
FFG and other disposed
businesses 1,088,799 19,257 22,159 1,023,004 19,326 14,158
All other 3,887 521 3,819 5,001 1,307 6,102
SHORT DURATION CONTRACTS:
Group term life - 12,375 368,873 - 10,638 426,730
Group disability - 3,830 1,313,014 - 3,844 1,216,786
Medical - 11,219 38,108 - 8,372 32,549
Dental - - 34,881 - 3,985 39,964
Other - 43 22,413 - 26 24,475
------------- ----------- ------------- ------------- ------------ -------------
TOTAL $ 2,869,324 $ 50,002 $ 1,810,847 $ 2,657,445 $ 50,145 $ 1,768,866
============= =========== ============= ============= ============ =============
LONG DURATION CONTRACTS
The Company's long duration contracts are comprised of pre-funded funeral life
insurance policies and annuity contracts, certain medical policies, life
insurance policies no longer offered and annuities no longer offered and FFG and
other disposed business.
A description of the disposal of FFG can be found in the dispositions footnote
(see note 4). The reserves for these blocks of business are included in the
Company's reserves in accordance with FAS 113, Accounting and Reporting for
Reinsurance of Short-Duration and Long-Duration Contracts. The Company maintains
an offsetting reinsurance recoverable related to these reserves (see note 9).
F-25
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
SHORT DURATION CONTRACTS
The Company's short duration contracts are comprised of group term life, group
disability, certain medical and dental and all other.
The disability category includes short and long term disability products. Claims
and benefits payable for long-term disability have been discounted at 5.25%. The
December 31, 2003 and 2002 liabilities include $1,301,790 and $1,205,187,
respectively of such reserves. The amount of discounts deducted from outstanding
reserves as of December 31, 2003 and 2002 are $419,983 and $438,752,
respectively.
11. FAIR VALUE DISCLOSURES
Statement of Financial Accounting Standards No. 107, Disclosures About Fair
Value of Financial Instruments ("FAS 107") requires disclosure of fair value
information about financial instruments, as defined therein, for which it is
practicable to estimate such fair value. These financial instruments may or may
not be recognized in the consolidated balance sheets. In the measurement of the
fair value of certain financial instruments, if quoted market prices were not
available other valuation techniques were utilized. These derived fair value
estimates are significantly affected by the assumptions used. Additionally, FAS
107 excludes certain financial instruments including those related to insurance
contracts.
In estimating the fair value of the financial instruments presented, the Company
used the following methods and assumptions:
Cash, cash equivalents and short-term investments: the carrying amount reported
approximates fair value because of the short maturity of the instruments.
Fixed maturity securities: the fair value for fixed maturity securities is 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 or, in the case of private placements, are
estimated by discounting expected future cash flows using a current market rate
applicable to the yield, credit quality, and maturity of the investments.
Equity securities: fair value of equity securities and non-sinking fund
preferred stocks is based upon quoted market prices.
Commercial mortgage loans and policy loans: the fair values of mortgage loans
are estimated using discounted cash flow analyses, based on interest rates
currently being offered for similar loans to borrowers with similar credit
ratings. Mortgage loans with similar characteristics are aggregated for purposes
of the calculations. The carrying amounts of policy loans are reported in the
balance sheets at amortized cost, which approximates fair value.
Other investments: the fair values of joint ventures are calculated based on
fair market value appraisals. The carrying amounts of the remaining other
investments approximate fair value.
Policy reserves under investment products: the fair values for the Company's
policy reserves under the investment products are determined using cash
surrender value.
Separate account assets and liabilities: separate account assets and liabilities
are reported at their estimated fair values in the balance sheet.
F-26
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
Other assets: a derivative instrument, the CPI CAP, is recorded in other assets.
The fair value of this derivative is based upon quoted market prices.
DECEMBER 31, 2003 DECEMBER 31, 2002
-------------------------------- --------------------------------
CARRYING VALUE FAIR VALUE CARRYING VALUE FAIR VALUE
--------------- -------------- -------------- ---------------
FINANCIAL ASSETS
Cash and cash equivalents $ 29,176 $ 29,176 $ 46,819 $ 46,819
Fixed maturities 3,452,299 3,452,299 3,044,689 3,044,689
Equity securities 208,149 208,149 102,214 102,214
Commercial mortgage loans on real estate 634,615 694,890 578,517 656,268
Policy loans 10,678 10,678 10,301 10,301
Short-term investments 71,057 71,057 245,224 245,224
Other investments 51,831 51,831 62,248 62,248
Other assets 8,800 8,800 - -
Assets held in separate accounts 3,516,070 3,516,070 3,126,978 3,126,978
FINANCIAL LIABILITIES
Policy reserves under investment products
(Individual and group annuities, subject to
discretionary withdrawal) $ 564,540 $ 556,524 $ 436,123 $ 430,199
Liabilities related to separate accounts 3,516,070 3,516,070 3,126,978 3,126,978
The fair value of the Company's liabilities for insurance contracts other than
investment-type contracts are not required to be disclosed. However, the fair
values of liabilities under all insurance contracts are taken into consideration
in the Company's overall management of interest rate risk, such that the
Company's exposure to changing interest rates is minimized through the matching
of investment maturities with amounts due under insurance contracts.
12. RETIREMENT AND OTHER EMPLOYEE BENEFITS
The Company is an indirect wholly-owned subsidiary of Fortis, which sponsors a
defined benefit pension plan and certain other post retirement benefits covering
employees and certain agents who meet eligibility requirements as to age and
length of service. Plan assets of the defined benefit plans are not specifically
identified by each participating subsidiary. Therefore, a breakdown of plan
assets is not reflected in these financial statements. The Company has no legal
obligation for benefits under these plans. The benefits are based on years of
service and career compensation. Fortis's pension plan funding policy is to
contribute annually the maximum amount that can be deducted for federal income
tax purposes, and to charge each subsidiary an allocable amount based on its
employee census. Pension cost allocated to the Company amounted to approximately
$6,329, $3,640 and $4,114 for 2003, 2002 and 2001, respectively.
The Company participates in a contributory profit sharing plan, sponsored by
Fortis, covering employees and certain agents who meet eligibility requirements
as to age and length of service. Benefits are payable
F-27
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
to participants on retirement or disability and to the beneficiaries of
participants in the event of death. For employees hired on or before December
31, 2000, the first 3% of an employee's contribution is matched 200% by the
Company. The second 2% is matched 50% by the Company. For employees hired after
December 31, 2000, the first 3% of an employee's contribution is matched 100% by
the Company. The second 2% is matched 50% by the Company. The amount expensed
was approximately $5,214, $5,344 and $5,216 for 2003, 2002 and 2001,
respectively.
With respect to retirement benefits, the Company participates in other health
care and life insurance benefit plans (postretirement benefits) for retired
employees, sponsored by Fortis. Health care benefits, either through a Fortis
sponsored retiree plan for retirees under age 65 or through a cost offset for
individually purchased Medigap policies for retirees over age 65, are available
to employees who retire on or after January 1, 1993, at age 55 or older, with 10
years or more service. Life insurance, on a retiree pay all basis, is available
to those who retire on or after January 1, 1993.
There were no net postretirement benefit costs allocated to the Company for the
years ended December 31, 2003, 2002 and 2001. The Company made contributions to
the postretirement benefit plans of approximately $1,961, $2,275 and $1,049 in
2003, 2002 and 2001, respectively, as claims were incurred. During 2003, 2002
and 2001 the Company incurred expenses related to retirement benefits of $2,247,
$1,223 and $1,369, respectively.
13. DEFERRED POLICY ACQUISITION COSTS
Information about deferred policy acquisition costs follows:
DECEMBER 31,
----------------------------------
2003 2002 2001
---------- --------- ----------
Beginning Balance $ 71,171 $ 47,093 $ 453,361
Costs deferred 61,030 63,116 74,164
Amortization (44,535) (39,099) (45,315)
Recovery of acquisition costs on FFG and other
reinsurance - - (433,542)
Foreign currency translation 4,451 61 -
Other - - (1,575)
---------- --------- ----------
Ending Balance $ 92,117 $ 71,171 $ 47,093
========== ========= ==========
F-28
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
14. GOODWILL AND VALUE OF BUSINESS ACQUIRED
Information about goodwill and value of business acquired (VOBA) follows:
GOODWILL FOR THE YEAR ENDED VOBA FOR THE YEAR ENDED
DECEMBER 31, DECEMBER 31,
---------------------------------- -----------------------------------
2003 2002 2001 2003 2002 2001
--------- --------- --------- --------- --------- ---------
Beginning Balance $ 156,006 $ 147,972 $ - $ 52,643 $ 61,312 $ 79,946
Amounts acquired - - 149,592 - - -
Amortization, net of
interest accrued - - (1,620) (7,466) (8,694) (10,621)
Adjustment related to
FFG sale - - - - - (8,013)
Adjustment related to
foreign currency translation 1,246 52 - 533 - -
Final PGAAP Adj. on
Protective Purchase & Other (267) 7,982 - - 25 -
--------- --------- --------- --------- --------- ---------
Ending Balance $ 156,985 $ 156,006 $ 147,972 $ 45,710 $ 52,643 $ 61,312
========= ========= ========= ========= ========= =========
As of December 31, 2003, the majority of the outstanding balance of VOBA is in
the Company's PreNeed segment. VOBA in this segment assumes an interest rate
ranging from 6.5% to 7.5%.
At December 31, 2003 the estimated amortization of VOBA for the next five years
is as follows:
YEAR AMOUNT
- -------------- ------------
2004 6,209
2005 5,240
2006 4,479
2007 3,787
2008 2,993
15. OTHER COMPREHENSIVE INCOME
The Company's components of other comprehensive income (loss) net of tax at
December 31 are as follows:
FOREIGN CURRENCY UNREALIZED GAINS ACCUMULATED OTHER
TRANSLATION (LOSSES) ON SECURITIES, COMPREHENSIVE INCOME
ADJUSTMENT NET OF TAX (LOSS)
---------------- ----------------------- ---------------------
Balance at December 31, 2000 $ - $ (23,163) $ (23,163)
Activity in 2001 657 50,920 51,577
--------- --------- ---------
Balance at December 31, 2001 657 27,757 28,414
Activity in 2002 (1,913) 74,696 72,783
--------- --------- ---------
Balance at December 31, 2002 (1,256) 102,453 101,197
Activity in 2003 5,481 49,724 55,205
--------- --------- ---------
Balance at December 31, 2003 $ 4,225 $ 152,177 $ 156,402
========= ========= =========
F-29
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
16. RELATED PARTY TRANSACTIONS
The Company receives various services from Fortis and its affiliates. These
services include assistance in benefit plan administration, corporate insurance,
accounting, tax, auditing, investment, information technology and other
administrative functions. The fees paid to Fortis, Inc. for these services for
years ended December 31, 2003, 2002 and 2001, were $15,518, $15,406 and $9,332,
respectively. Information technology expenses were $11,048, $8,711 and $10,436
for years ended December 31, 2003, 2002 and 2001, respectively.
In conjunction with the marketing of its fixed and variable annuity and variable
life products, the Company paid $0, $0 and $19,313 in commissions to its
affiliate, Fortis Investors, Inc., for the years ended December 31, 2003, 2002
and 2001, respectively.
Administrative expenses allocated for the Company may be greater or less than
the expenses that would be incurred if the Company were operating on a separate
company basis.
The Company assumes pre-funded funeral business from its affiliate, United
Family Life Insurance Company (UFL). The Company has assumed premium from UFL of
$19,332, $25,048 and $35,919 in 2003, 2002 and 2001, respectively. The Company
assumed $632,716 and $665,081 of reserves in 2003 and 2002, respectively, from
UFL.
The Company assumes group disability business from its affiliate, First Fortis
Life Insurance Company (First Fortis). The Company has assumed $5,847, $6,705
and $6,622 of premium from First Fortis in 2003, 2002 and 2001, respectively.
The Company has assumed $22,096 and $21,905 of reserves in 2003 and 2002,
respectively, from First Fortis.
17. SUBSEQUENT EVENTS
In connection with the IPO (see Note 1) the board of directors of Assurant, Inc.
approved certain employee benefit programs. The Company's intercompany
allocations will be impacted by the following changes:
2004 LONG-TERM INCENTIVE PLAN
The 2004 Long-Term Incentive Plan was effective on February 5, 2003. The 2004
Long-Term Incentive Plan authorizes the granting of awards to employees,
officers, and directors in the following forms: (1) options to purchase shares
of Assurant's common stock, which may be non-statutory stock options or
incentive stock options under the U.S. tax code; (2) stock appreciation rights,
which give the holder the right to receive the difference between the fair
market value per share on the date of exercise over the grant price; (3)
performance awards, which are payable in cash or stock upon the attainment of
specified performance goals; (4) restricted stock, which is subject to
restrictions on transferability and subject to forfeiture on terms set by the
Compensation Committee; (5) dividend equivalents, which entitle the participant
to payments equal to any dividends paid on the shares of stock underlying an
award; and (6) other stock-based awards in the discretion of the Compensation
Committee, including unrestricted stock grants.
F-30
FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
There are 10,000,000 shares reserved and available for issuance under the plan.
Under the plan, 68,976 shares of common stock of Assurant, Inc. were granted to
certain officers of Assurant, Inc. on February 5, 2004. Any awards will be made
at the discretion of the Compensation Committee. Therefore, it is not presently
possible to determine the benefits or amounts that will be received by any
individuals or groups pursuant to the 2004 Long-Term Incentive Plan in the
future.
2004 EMPLOYEE STOCK PURCHASE PLAN
The 2004 Employee Stock Purchase Plan will go into effect on or about July 1,
2004. The purpose of the stock purchase plan is to enhance the proprietary
interest among the employees of Assurant, Inc. The stock purchase plan is
designed to allow eligible employees to purchase discounted shares of the
Assurant's common stock, at defined intervals, with their accumulated payroll
deductions. Employees are eligible to participate if they are designated by the
Compensation Committee and if they are customarily employed for at least 20
hours per week and five months per calendar year, and provided they have served
as an employee for at least six months. A total of 5,000,000 shares of
Assurant's common stock have been reserved for issuance under the stock purchase
plan.
EXECUTIVE MANAGEMENT INCENTIVE PLAN
The Executive Management Incentive Plan went into effect January 1, 2004.
Participation in the Executive Management Incentive Plan is limited to senior
officers of Assurant, Inc. and its subsidiaries who are selected to participate
in the plan for a given year by the Compensation Committee. The plan provides
for the payment of annual monetary awards to each participant equal to a
percentage of such participant's base salary based upon the achievement of
certain designated performance goals.
The amount of awards under the plan will be determined at the discretion of the
Compensation Committee. Therefore, it is not presently possible to determine the
benefits or amounts that will be received by any individuals or groups pursuant
to this plan.
AMENDMENT TO ASSURANT APPRECIATION INCENTIVE RIGHTS PLAN ("AAIR PLAN")
The AAIR Plan was amended to provide for the cash-out and replacement of
Assurant, Inc. incentive rights with stock appreciation rights on the Assurant,
Inc. common stock. The business segment rights outstanding under the plan were
not changed or effected. The conversion of outstanding Assurant, Inc. incentive
rights occurred as described in this paragraph. The Assurant, Inc. incentive
rights were valued as of December 31, 2003 using a special valuation method, as
follows. The measurement value of each Assurant, Inc. incentive right as of
December 31, 2002, was adjusted to reflect dividends paid by Assurant, Inc.,
consistent with past practices; such adjusted value was then multiplied by the
arithmetic average of the change during calendar year 2003 in the Dow Jones Life
Insurance Index, the Dow Jones Property Casualty Index, and the Dow Jones
Healthcare Providers Index; and the result became the measurement value of a
Assurant, Inc. incentive rights as of December 31, 2003.
On January 18, 2004, each Assurant, Inc. incentive right then outstanding under
the plan was cashed out for a cash payment equal to the difference, if any,
between the measurement value of the Assurant, Inc. incentive rights as of
December 31st immediately preceding the date of grant, and the measurement
value of that right determined as of December 31, 2003, pursuant to the special
valuation. Each outstanding Assurant, Inc. incentive right, whether or not
vested, was cancelled effective as of the date it was cashed out. Following the
cash-out and cancellation of Assurant, Inc. incentive rights, Assurant, Inc.
granted to each participant whose rights were cashed out a number of stock
appreciation rights on
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FORTIS BENEFITS INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003, 2002 AND 2001
(IN THOUSANDS EXCEPT SHARE DATA)
Assurant's common stock (referred to as "replacement rights"). The number of
replacement rights granted to a participant was equal (1) the measurement value
of the participant's cashed-out Assurant, Inc. incentive rights, divided by (2)
the IPO price of $22 a share. Each replacement right that replaces a vested
cashed-out right was vested immediately, and each replacement right that
replaces a non-vested cashed-out right will become vested on the vesting date
for the corresponding cashed-out right, but no replacement right, whether or not
vested, may be exercised sooner than one year from the closing date of the IPO.
After that waiting period, each replacement right will be exercisable for the
remaining term of the corresponding cancelled right.
18. COMMITMENTS AND CONTINGENCIES
The Company and its subsidiaries lease office space and equipment under
operating lease arrangements. Certain facility leases contain escalation clauses
based on increases in the lessors' operating expenses. At December 31, 2003, the
aggregate future minimum lease payment under operating lease agreements that
have initial or non-cancelable terms in excess of one year are:
2004 10,003
2005 8,704
2006 7,343
2007 6,395
2008 5,651
Thereafter 11,640
--------
Total minimum future lease payment $ 49,736
========
Rent expense was $1,048, $978 and $761 for 2003, 2002 and 2001 respectively.
The Company is regularly involved in litigation in the ordinary course of
business, both as a defendant and as a plaintiff. The Company may from time to
time be subject to a variety of legal and regulatory actions relating to the
Company's current and past business operations. While the Company cannot predict
the outcome of any pending or future litigation, examination or investigation,
the Company does not believe that any pending matter will have a material
adverse effect on the Company's business, financial condition or results of
operations.
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