40
FORM 10-Q
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(MARK ONE)
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2001
------------------
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 333-55268
THE PHOENIX COMPANIES, INC.
(Exact name of registrant as specified in its charter)
Delaware 06-0493340
-------- ----------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
One American Row, Hartford, Connecticut 06102-5056
(860) 403-5000
(Address, including zip code, and telephone number,
including area code, of principal executive offices)
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__.
-
On November 8, 2001, the registrant had 103,295,733 shares of common stock
outstanding.
-1-
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements Page
-------
Unaudited Consolidated Balance Sheets as of September 30,
2001 and December 31, 2000...................................................................... 3
Unaudited Consolidated Statements of Income for the three and nine months ended
September 30, 2001 and 2000..................................................................... 4
Unaudited Consolidated Statements of Cash Flows for the nine months ended September 30,
2001 and 2000................................................................................... 5-6
Unaudited Consolidated Statements of Changes in Stockholders' Equity and Comprehensive Income
for the three and nine months ended September 30, 2001 and 2000................................. 7-8
Notes to Unaudited Consolidated Financial Statements............................................ 9
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations........... 23
Item 3. Quantitative and Qualitative Disclosures About Market Risk...................................... 40
PART II. OTHER INFORMATION
Item 1. Legal Proceedings............................................................................... 43
Item 2. Changes in Securities and Use of Proceeds....................................................... 46
Item 3. Defaults Upon Senior Securities................................................................. 46
Item 4. Submission of Matters to a Vote of Security Holders............................................. 46
Item 5. Other Information............................................................................... 46
Item 6. Exhibits and Reports on Form 8-K................................................................ 46
Signature................................................................................................... 47
-2-
PART I.
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
THE PHOENIX COMPANIES, INC.
Unaudited Consolidated Balance Sheets
As of As of
December 31, September 30,
2000 2001
---- ----
ASSETS (in millions, except share data)
Investments:
Held-to-maturity debt securities, at amortized cost........... $ 2,109.6 $ 2,201.4
Available-for-sale debt securities, at fair value............. 5,949.0 7,076.7
Equity securities, at fair value.............................. 335.5 262.8
Mortgage loans................................................ 593.4 542.6
Real estate................................................... 77.9 81.8
Policy loans.................................................. 2,105.2 2,160.5
Venture capital partnerships.................................. 467.3 281.7
Other invested assets......................................... 235.7 267.9
Short-term investments........................................ 547.2 17.5
----- ----
Total investments.......................................... 12,420.8 12,892.9
-------- --------
Cash and cash equivalents......................................... 176.6 607.6
Accrued investment income......................................... 194.5 217.1
Deferred policy acquisition costs................................. 1,019.0 1,092.0
Premiums, accounts and notes receivable........................... 155.8 130.7
Reinsurance recoverables.......................................... 16.6 21.7
Property and equipment, net....................................... 122.2 121.4
Goodwill and other intangible assets, net......................... 595.9 865.3
Investments in unconsolidated subsidiaries........................ 159.9 211.9
Deferred income taxes............................................. -- 19.8
Net assets of discontinued operations (Note 9).................... 25.5 20.8
Other assets...................................................... 49.8 44.0
Separate account assets........................................... 5,376.6 4,556.5
------- -------
Total assets.................................................. $ 20,313.2 $ 20,801.7
============ ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Policy liabilities and accruals............................... $ 11,372.6 $ 11,955.6
Policyholder deposit funds.................................... 678.4 898.5
Notes payable................................................. 425.4 450.2
Deferred income taxes......................................... 9.4 --
Other liabilities............................................. 473.0 574.0
Separate account liabilities.................................. 5,376.6 4,551.1
Contingent liabilities (Note 10)..............................
Minority interest in net assets of consolidated subsidiaries...... 136.9 5.8
Stockholders' Equity:
Common stock ($.01 par value, 1.0 billion shares authorized;
0 and 103.4 million shares issued and outstanding at
December 31, 2000 and September 30, 2001, respectively)..... -- 1.1
Treasury stock, at cost (0 and 3.0 million shares at
December 31, 2000 and September 30, 2001, respectively)..... -- (42.6)
Additional paid-in capital..................................... -- 2,410.2
Retained earnings (accumulated deficit)........................ 1,820.7 (23.3)
Accumulated other comprehensive income - securities............ 20.2 15.6
Accumulated other comprehensive income - derivatives........... -- 5.5
--- ---
Total stockholders' equity................................. 1,840.9 2,366.5
------- -------
Total liabilities and stockholders' equity................. $ 20,313.2 $20,801.7
=========== =========
(The accompanying notes are an integral part of these unaudited consolidated financial statements.)
-3-
THE PHOENIX COMPANIES, INC.
Unaudited Consolidated Statements of Income
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
---------------------------- ------------------------
2000 2001 2000 2001
------------- ------------- ------------- ---------
Revenues: (in millions, except earnings per share)
Premiums............................................................ $ 326.6 $ 302.7 $ 871.3 $ 836.0
Insurance and investment product fees............................... 153.9 129.1 481.4 414.3
Net investment income............................................... 226.1 192.5 891.4 582.5
Net realized investment gains (losses).............................. 31.6 (16.7) 66.0 (37.2)
---- ----- ---- -----
Total revenues................................................... 738.2 607.6 2,310.1 1,795.6
Benefits and Expenses:
Policy benefits and increase in policy liabilities.................. 385.1 390.4 1,050.5 1,056.7
Policyholder dividends.............................................. 90.6 105.7 279.5 301.7
Amortization of deferred policy acquisition costs................... 35.1 33.3 116.6 95.3
Amortization of goodwill and other intangible assets................ 9.4 12.7 27.4 37.3
Interest expense.................................................... 8.1 6.4 24.4 21.1
Other operating expenses............................................ 164.5 124.1 426.3 521.1
----- ----- ----- -----
Total benefits and expenses..................................... 692.8 672.6 1,924.7 2,033.2
Income (loss) from continuing operations before income taxes (benefit),
minority interest and equity in earnings of and interest earned
from investments in unconsolidated subsidiaries................... 45.4 (65.0) 385.4 (237.6)
Income tax expense (benefit)........................................... 10.2 (43.2) 136.3 (106.9)
---- ----- ----- ------
Income (loss) from continuing operations before minority interest, equity in
earnings of and interest earned from investments in
unconsolidated subsidiaries.......................................... 35.2 (21.8) 249.1 (130.7)
Minority interest in net income of consolidated subsidiaries........... 2.1 1.6 13.7 5.1
Equity in earnings of and interest earned from investments
in unconsolidated subsidiaries....................................... .9 2.2 5.2 6.0
-- --- --- ---
Income (loss) from continuing operations............................... 34.0 (21.2) 240.6 (129.8)
Discontinued operations (Note 9):
Income from discontinued operations, net of income taxes........... 5.0 -- 8.1 --
Loss on disposal, net of income taxes.............................. (65.0) -- (21.7) --
----- -----
(Loss) income before cumulative effect of accounting changes........... (26.0) (21.2) 227.0 (129.8)
Cumulative effect of accounting changes for:
Venture capital partnerships, net of income taxes (Note 4)......... -- -- -- (48.8)
Securitized financial instruments, net of income taxes (Note 4).... -- -- -- (20.5)
Derivative financial instruments, net of income taxes (Note 5)..... -- -- -- 3.9
- ----- ----- ----- ------
Net (loss) income...................................................... $(26.0) $(21.2) $227.0 $(195.2)
====== ====== ====== =======
Earnings per share (Note 11)........................................... $(.25) $(.20) $2.15 $(1.85)
(The accompanying notes are an integral part of these unaudited consolidated financial statements.)
-4-
THE PHOENIX COMPANIES, INC.
Unaudited Consolidated Statements of Cash Flows
For the
Nine Months Ended
September 30,
---------------------------
2000 2001
------------ -----------
(in millions)
Cash flows from operating activities:
Net income (loss)..................................................... $ 227.0 $ (195.2)
Adjustments to reconcile net income to net cash provided
by operating activities:
Net loss from discontinued operations................................. 13.6 --
Net realized investment (gains) losses................................ (66.0) 37.2
Amortization and depreciation......................................... 31.0 52.7
Equity in undistributed earnings of affiliates and partnerships....... (235.9) 81.8
Securitized financial instruments and derivatives..................... -- 16.6
Deferred income tax expense (benefit)................................. 18.6 (4.6)
(Increase) decrease in receivables.................................... (99.4) 66.2
Increase in deferred policy acquisition costs......................... (6.5) (46.8)
Increase in policy liabilities and accruals........................... 329.7 420.0
Change in other assets/other liabilities, net......................... 41.2 (140.5)
Other operating activities, net....................................... 2.1 --
--- ---
Net cash provided by continuing operations............................ 255.4 287.4
Net cash used for discontinued operations............................. (233.8) (53.0)
------ -----
Net cash provided by operating activities............................. 21.6 234.4
---- -----
Cash flows from investing activities:
Proceeds from the sale of fixed maturities:
Available-for-sale.................................................... 686.5 937.7
Proceeds from the maturity of fixed maturities:
Available-for-sale.................................................... 21.0 77.3
Held-to-maturity...................................................... 9.7 18.0
Proceeds from the repayment of fixed maturities:
Available-for-sale.................................................... 218.8 323.1
Held-to-maturity...................................................... 129.8 122.1
Proceeds from sale of equity securities................................... 332.7 104.6
Proceeds from the maturity of mortgage loans.............................. 30.0 29.6
Proceeds from distributions of venture capital partnerships............... 32.1 28.2
Proceeds from sale of real estate and other invested assets............... 20.6 29.7
Purchase of available-for-sale debt securities............................ (1,043.3) (2,195.7)
Purchase of held-to-maturity debt securities.............................. (285.3) (249.5)
Purchase of equity securities............................................. (102.9) (51.1)
Purchase of subsidiaries.................................................. (59.2) (56.9)
Purchase of mortgage loans................................................ (0.7) (0.7)
Purchase of investments in unconsolidated subsidiaries and
other invested assets................................................. (30.0) (50.7)
Purchase of venture capital partnerships.................................. (79.8) (35.3)
Change in short-term investments, net..................................... (315.2) 529.7
Increase in policy loans.................................................. (18.3) (55.3)
Capital expenditures...................................................... (13.3) (14.6)
Premium paid for redemption of convertible debt........................... -- (18.8)
----- -----
Net cash used for continuing operations................................... (421.5) (505.8)
Net cash provided by discontinued operations.............................. 234.2 55.4
----- ----
Net cash used for investing activities.................................... $(187.3) $ (450.4)
------- --------
(The accompanying notes are an integral part of these unaudited consolidated financial statements.)
-5-
For the
Nine Months Ended
September 30,
---------------------------
2000 2001
------------ -----------
(in millions)
Cash flows from financing activities:
Issuance of common stock................................................. $ -- $831.0
Purchase of treasury stock............................................... -- (35.6)
Payments to eligible policyholders in lieu of stock...................... -- (28.7)
Net deposits of policyholder deposit funds, net of interest credited..... 79.9 220.1
Proceeds from borrowings................................................. 14.7 180.0
Repayment of borrowings.................................................. (24.7) (155.3)
Distributions to minority stockholders................................... (3.1) (345.1)
Debenture principal payments............................................. -- (19.4)
---- -----
Net cash provided by financing activities................................ 66.8 647.0
---- -----
Net change in cash and cash equivalents.................................. (98.9) 431.0
Cash and cash equivalents, beginning of period........................... 187.6 176.6
----- -----
Cash and cash equivalents, end of period................................. $ 88.7 $ 607.6
============ ===========
Supplemental cash flow information:
Income taxes paid (refunded), net........................................ $ 45.5 $ (55.7)
Interest paid on indebtedness............................................ $ 21.9 $ 18.8
(The accompanying notes are an integral part of these unaudited consolidated financial statements.)
-6-
THE PHOENIX COMPANIES, INC.
Unaudited Consolidated Statements of Changes in Stockholders' Equity
and Comprehensive Income
Retained Accumulated
Additional Earnings Other Total
Common Paid-in (Accumulated Treasury Comprehensive Stockholders'
Stock Capital Deficit) Stock Income Equity
---------- ----------- -------------- ---------- --------------- --------------
(in millions)
Balance at July 1, 2000 $ -- $ -- $1,984.5 $ -- $ 72.7 $2,057.2
- - -----------------------
Comprehensive loss:
Net loss.......................... (26.0) (26.0)
Other comprehensive income (loss),
net of income taxes:
Unrealized gains on securities. 12.1 12.1
Reclassification adjustment for
net realized gains included in
net income................... (29.4) (29.4)
------
Total other comprehensive loss.... (17.3)
Comprehensive loss................... (43.3)
---------- ----------- -------------- ---------- --------------- --------------
Balance at September 30, 2000 $ -- $ -- $1,958.5 $ -- $ 55.4 $2,013.9
- - -----------------------------
========== =========== ============== ========== =============== ==============
Balance at July 1, 2001 $ 1.1 $2,387.1 $(2.1) $ -- $ 4.3 $2,390.4
- - -----------------------
Treasury stock acquired.............. (42.6) (42.6)
Common stock issued.................. 23.1 23.1
Comprehensive income:
Net loss.......................... (21.2) (21.2)
Other comprehensive income, net of
income taxes:
Unrealized gains on securities. 21.7 21.7
Unrealized gains on derivatives 7.7 7.7
Equity adjustment for policy-
holder dividend obligation..... (14.2) (14.2)
Reclassification adjustment for
net realized losses included in
net income 1.6 1.6
------------
Total other comprehensive income.. 16.8
Comprehensive income................. (4.4)
--------- ----------- -------------- ---------- --------------- --------------
Balance at September 30, 2001 $ 1.1 $2,410.2 $(23.3) $(42.6) $ 21.1 $2,366.5
- - -----------------------------
========= =========== ============== ========== =============== ==============
(The accompanying notes are an integral part of these unaudited consolidated financial statements.)
-7-
THE PHOENIX COMPANIES, INC.
Unaudited Consolidated Statements of Changes in Stockholders' Equity
and Comprehensive Income (Continued)
Retained Accumulated
Additional Earnings Other Total
Common Paid-in (Accumulated Treasury Comprehensive Stockholders'
Stock Capital Deficit) Stock Income Equity
---------- ----------- -------------- ---------- --------------- --------------
(in millions)
Balance at January 1, 2000 $ -- $ -- $1,731.5 $ -- $ 24.5 $1,756.0
- - --------------------------
Comprehensive income:
Net income...................... 227.0 227.0
Other comprehensive income, net of
income taxes:
Unrealized gains on securities 76.2 76.2
Reclassification adjustment for
net realized gains included in
net income................... (45.3) (45.3)
-------------
Total other comprehensive income 30.9
Comprehensive income............... 257.9
---------- ----------- -------------- ---------- --------------- -------------
Balance at September 30, 2000 $ -- $ -- $1,958.5 $ -- $ 55.4 $2,013.9
- - -----------------------------
========== =========== ============== ========== =============== =============
Balance at January 1, 2001 $ -- $ -- $1,820.7 $ -- $ 20.2 $1,840.9
- - --------------------------
Demutualization transaction........ 0.6 1,621.1 (1,621.7) --
Initial public offering............ 0.5 766.0 766.5
Treasury stock acquired............ (42.6) (42.6)
Common stock issued................ 23.1 23.1
Equity adjustment for policyholder
dividend obligation............. (30.3) (30.3)
Other equity adjustments........... 3.2 3.2
Comprehensive loss:
Net loss........................ (195.2) (195.2)
Other comprehensive income, net of
income taxes:
Unrealized gains on securities 12.5 12.5
Unrealized gains on derivatives 4.3 4.3
Equity adjustment for policy-
holder dividend obligation... (14.2) (14.2)
Reclassification adjustment for
net realized gains included in
net income................... (2.8) (2.8)
Cumulative effect of accounting
change for derivatives....... 1.1 1.1
-------------
Total other comprehensive income .9
Comprehensive loss................. (194.3)
---------- ----------- -------------- ---------- --------------- -------------
Balance at September 30, 2001 $ 1.1 $2,410.2 $ (23.3) $(42.6) $ 21.1 $2,366.5
- - -----------------------------
========== =========== ============== ========== =============== =============
(The accompanying notes are an integral part of these unaudited consolidated financial statements.)
-8-
THE PHOENIX COMPANIES, INC.
Notes to the Unaudited Consolidated Financial Statements
1. ORGANIZATION AND DESCRIPTION OF BUSINESS
The Phoenix Companies, Inc. (together with its subsidiaries, "Phoenix") is a
provider of wealth management products and services offered through a
variety of select advisors and financial services firms to serve the
accumulation, preservation and transfer needs of the affluent and high net
worth market, businesses and institutions. Phoenix offers a broad range of
life insurance, annuity and investment management solutions through a
variety of distributors. These products and services are managed within four
reportable segments: Life and Annuity, Investment Management, Venture
Capital, and Corporate and Other. See Note 7 - "Segment Information."
In 1999, Phoenix Home Life Mutual Insurance Company (which has since
demutualized, was renamed Phoenix Life Insurance Company and became a
Phoenix subsidiary) discontinued the operations of three of its business
units: the Reinsurance Operations, the Real Estate Management Operations and
the Group Life and Health Operations. See Note 9 - "Discontinued
Operations."
2. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States of America ("GAAP") for interim financial information.
Accordingly, they do not include all of the information and footnotes
required by GAAP for complete financial statements. The State of New York
Insurance Department (the "Insurance Department") recognizes only statutory
accounting practices for determining and reporting the financial condition
and results of operations of an insurance company for determining solvency
under the New York State Insurance Law. No consideration is given by the
Insurance Department to financial statements prepared in accordance with
GAAP in making such determination.
In the opinion of management, all adjustments (consisting only of normal
recurring accruals) considered necessary for a fair statement have been
included. Operating results for the nine months ended September 30, 2001 are
not necessarily indicative of the results that may be expected for the year
ending December 31, 2001. These unaudited consolidated financial statements
should be read in conjunction with the consolidated financial statements of
Phoenix for the year ended December 31, 2000.
3. REORGANIZATION AND INITIAL PUBLIC OFFERING
On December 18, 2000, the board of directors of Phoenix Home Life Mutual
Insurance Company ("Phoenix Mutual") unanimously adopted a plan of
reorganization which was amended and restated on January 26, 2001. On June
25, 2001, the effective date of the demutualization, Phoenix Mutual
converted from a mutual life insurance company to a stock life insurance
company, became a wholly owned subsidiary of Phoenix and changed its name to
Phoenix Life Insurance Company ("Phoenix Life"). At the same time, Phoenix
Investment Partners, Ltd. ("PXP") became an indirect wholly owned subsidiary
of Phoenix. All policyholder membership interests in the mutual company were
extinguished on the effective date and eligible policyholders of the mutual
company received 56.2 million shares of common stock, $28.8 million of cash
and $12.7 million of policy credits as compensation. The demutualization was
accounted for as a reorganization. Accordingly, Phoenix's retained earnings
immediately following the demutualization and the closing of the Initial
Public Offering ("IPO") on June 25, 2001 (net of the cash payments and
policy credits that were charged directly to retained earnings) were
reclassified to common stock and additional paid-in capital. In addition,
Phoenix Life established a closed block for the benefit of holders of
certain individual life insurance policies of Phoenix Life. The purpose of
the closed block is to protect, after demutualization, the policy dividend
expectations of the holders of the policies included in the closed block.
The closed block will continue in effect until such date as none of such
policies are in force. See Note 8 - "Closed Block."
On June 25, 2001, Phoenix closed its IPO in which 48.8 million shares of
common stock were issued at a price of $17.50 per share. Net proceeds from
the IPO equaling $807.9 million were contributed to Phoenix Life. On July
24, 2001, Morgan Stanley Dean Witter exercised its right to purchase
1,395,900 shares of the common stock of The Phoenix Companies, Inc. at the
IPO price of $17.50 per share less underwriters discount. Net proceeds of
$23.1 million were contributed to Phoenix Life.
-9-
4. SUMMARY OF NEW SIGNIFICANT ACCOUNTING POLICIES
Accounting for Demutualizations
Effective June 30, 2001, Phoenix adopted Statement of Position No. 00-3,
Accounting by Insurance Enterprises for Demutualizations and Formations of
Mutual Insurance Holding Companies and For Certain Long-Duration
Participating Contracts ("SOP 00-3"). The provisions of SOP 00-3 provide
guidance on accounting by insurance enterprises for demutualizations and the
formation of mutual holding companies, including the emergence of earnings
from and the financial statement presentation of the closed block
established in connection with the demutualization. SOP 00-3 specifies that
closed block assets, liabilities, revenues and expenses should be displayed
with all other assets, liabilities, revenues and expenses of the insurance
enterprise based on the nature of the particular item, with appropriate
disclosures relating to the closed block.
Pursuant to the adoption of SOP 00-3, Phoenix recorded a charge of $30.3
million to equity in the second quarter of 2001 representing the
establishment of the policyholder dividend obligation along with the
corresponding impact on deferred policy acquisition costs and deferred
income taxes.
See Note 8 - "Closed Block" for additional information.
Venture Capital
Phoenix records its investments in venture capital partnerships in
accordance with the equity method of accounting. Phoenix records its share
of the net equity in earnings of the venture capital partnerships in
accordance with Accounting Principle Board Opinion No. 18, using the most
recent financial information received from the partnerships. Historically,
this information has been provided to Phoenix on a one-quarter lag. Phoenix
changed its method of applying the equity method of accounting to eliminate
such quarterly lag.
In the first quarter of 2001, Phoenix recorded a charge of $48.8 million
(net of income taxes of $26.3 million) representing the cumulative effect of
this accounting change on the fourth quarter of 2000. The cumulative effect
was based on the actual fourth quarter 2000 financial results as reported by
the partnerships.
In the first quarter of 2001, Phoenix removed the lag in reporting by
estimating the change in Phoenix's share of the net equity in earnings of
the venture capital partnerships for the period from December 31, 2000, the
date of the most recent financial information provided by the partnerships,
to Phoenix's then current reporting date of March 31, 2001. To estimate the
net equity in earnings of the venture capital partnerships for the period
from January 1, 2001 through March 31, 2001, Phoenix developed a methodology
to estimate the change in value of the underlying investee companies in the
venture capital partnerships. For public investee companies, Phoenix used
quoted market prices at March 31, 2001, applying discounts to public prices,
in instances where such discounts were applied in the underlying
partnerships' financial statements. For private investee companies, Phoenix
applied a public industry sector index to roll the value forward from
January 1, 2001 through March 31, 2001. Using this methodology, Phoenix's
share of equity losses from the partnerships decreased income from
continuing operations by $37.3 million (net of income taxes of $20.0
million) for the first quarter 2001. Phoenix will apply this methodology
consistently each quarter with subsequent adjustments to reflect market
events reported by the partnerships (e.g., new rounds of financing, initial
public offerings and writedowns by the general partners).
In the second quarter of 2001, Phoenix recorded investment income before
income taxes of $5.5 million, which reflects Phoenix's estimate of its
venture capital partnership results for the second quarter, a true-up of the
first quarter estimate and realized gains on cash and stock distributions.
In the third quarter of 2001, Phoenix recorded a reduction in investment
income before income taxes of $48.4 million, which reflects Phoenix's
estimate of its venture capital partnership results for the third quarter, a
true-up of the second quarter estimate and realized gains on cash and stock
distributions. Phoenix will also revise the valuations it has assigned to
the investee companies once a year, to reflect the valuations in the audited
financial statements received from the venture capital partnerships.
Phoenix's venture capital earnings remain subject to volatility.
-10-
Securitized Financial Instruments
Effective April 1, 2001, Phoenix adopted EITF Issue No. 99-20, Recognition
of Interest Income and Impairment on Certain Investments ("EITF 99-20").
This pronouncement requires investors in certain asset-backed securities to
record changes in their estimated yield on a prospective basis and to apply
specific evaluation methods to these securities for an other-than-temporary
decline in value. Upon adoption of EITF 99-20, Phoenix recorded a $20.5
million charge in net income as a cumulative effect of accounting change,
net of income taxes.
Derivative Financial Instruments
Effective January 1, 2001, Phoenix adopted Statement of Financial Accounting
Standards ("SFAS") No. 133, Accounting for Derivative Instruments and
Hedging Activities ("SFAS 133"), as amended by SFAS No. 138, Accounting for
Certain Derivative Instruments and Certain Hedging Activities ("SFAS 138").
As amended, SFAS 133 requires all derivatives to be recognized on the
balance sheet at fair value. Derivatives that are not hedges must be
adjusted to fair value through earnings. If the derivative is a hedge,
depending on the nature of the hedge, changes in fair value of the
derivatives will either be offset against the change in fair value of the
hedged assets, liabilities or firm commitments through earnings or
recognized in other comprehensive income until the hedged item is recognized
in earnings. The ineffective portion of a derivative's change in fair value
will be recognized immediately in earnings. See Note 5, "Derivative
Financial Instruments," for additional information.
Business Combinations/Goodwill and Other Intangible Assets
In June 2001, SFAS No. 141, Business Combinations ("SFAS 141"), and SFAS No.
142, Goodwill and Other Intangible Assets ("SFAS 142"), were issued. SFAS
141 and SFAS 142 are effective for July 1, 2001 and January 1, 2002,
respectively. SFAS 141 requires that the purchase method of accounting be
used for all business combinations initiated after June 30, 2001 and
separate recognition of intangible assets apart from goodwill if such
intangible assets meet certain criteria. Under SFAS 142, amortization of
goodwill, including goodwill and other intangible assets with indefinite
lives recorded in past business combinations, will discontinue upon adoption
of this standard. In addition, goodwill recorded as a result of business
combinations completed during the six-month period ending December 31, 2001
will not be amortized. Goodwill and other intangible assets will be tested
for impairment in accordance with the provisions of the statement. Phoenix
is currently reviewing the provisions of SFAS 141 and 142 and assessing the
impact of adoption.
5. DERIVATIVE FINANCIAL INSTRUMENTS
Phoenix maintains an overall interest rate risk-management strategy that
incorporates the use of derivative financial instruments to manage exposure
to fluctuations in interest rates. Phoenix's exposure to interest rate
changes primarily results from its commitments to fund interest-sensitive
insurance liabilities, as well as from significant holdings of fixed rate
investments. Derivative instruments that are used as part of Phoenix's
interest rate risk-management strategy include interest rate swap
agreements, interest rate caps, interest rate floors, interest rate
swaptions and foreign currency swap agreements. To reduce counterparty
credit risks and diversify counterparty exposure, Phoenix enters into
derivative contracts only with a number of highly rated financial
institutions.
Phoenix enters into interest rate swap agreements to reduce market risks
from changes in interest rates. Phoenix does not enter into interest rate
swap agreements for trading purposes. Under interest rate swap agreements,
Phoenix exchanges cash flows with another party, at specified intervals, for
a set length of time based on a specified notional principal amount.
Typically, one of the cash flow streams is based on a fixed interest rate
set at the inception of the contract, and the other is a variable rate that
periodically resets. Generally, no premium is paid to enter into the
contract and neither party makes a payment of principal. The amounts to be
received or paid on these swap agreements are accrued and recognized in net
investment income.
Phoenix enters into interest rate floor, interest rate cap and swaption
contracts as a hedge for its assets and insurance liabilities against
substantial changes in interest rates. Phoenix does not enter into such
contracts for trading purposes. Interest rate floor and interest rate cap
agreements are contracts with a counterparty which require the payment of a
premium and give Phoenix the right to receive, over the term of the
contract, the difference between the floor or cap interest rate and a market
interest rate on specified future dates based on an underlying notional
principal amount. Swaption contracts are options to enter into an interest
rate swap transaction on a specified future date and at a specified interest
rate. Upon the exercise of a swaption, Phoenix would receive either a swap
agreement at the pre-specified terms or cash for the market value of the
swap. Phoenix pays the premium for these instruments on a quarterly basis
over the maturity of the contract and recognizes these payments in net
investment income.
Phoenix enters into foreign currency swap agreements to hedge against
fluctuations in foreign currency exposure. Under these agreements, Phoenix
agrees to exchange with another party, principal and periodic interest
payments denominated in foreign currency for payments denominated in U.S.
dollars. The amounts to be received or paid on these foreign currency swap
agreements are recognized in net investment income.
-11-
On January 1, 2001, in accordance with the transition provisions of SFAS No.
133, Phoenix recorded a net-of-tax cumulative effect adjustment of $1.3
million (gain) in earnings to recognize at fair value all derivatives that
are designated as fair-value hedging instruments. Phoenix also recorded an
offsetting net-of-tax cumulative effect adjustment of $1.3 million (loss) in
earnings to recognize the difference attributable to the hedged risks
between the carrying values and fair values of the related hedged assets and
liabilities. Phoenix also recorded a net-of-tax cumulative effect adjustment
of $1.1 million in accumulated other comprehensive income to recognize, at
fair value, all derivatives that are designated as cash-flow hedging
instruments.
For derivative instruments that were not designated as hedges, upon
implementation of SFAS No. 133, Phoenix recorded a net-of-tax cumulative
effect adjustment of $3.9 million in earnings to recognize these instruments
at fair value. Gains and losses on derivatives that were previously deferred
as adjustments to the carrying amount of hedged items were not included in
the cumulative effect adjustment. There were no gains or losses on
derivative instruments that were reported independently as deferred assets
or liabilities that required de-recognition from the balance sheet.
Phoenix recognized an after-tax gain of $1.4 million for the quarter ended
September 30, 2001 and an after-tax gain of $1.5 million for the nine months
ended September 30, 2001 (reported as other comprehensive income in the
Unaudited Consolidated Statement of Changes in Stockholders' Equity and
Comprehensive Income), which represented the change in fair value of
interest rate swaps which have been designated as cash flow hedges, using
the shortcut method, assuming no ineffectiveness. These interest rate swaps
hedge floating-rate exposure on asset cash flows that back insurance
liabilities by swapping floating rate bonds to fixed. For changes in the
fair value of derivatives that are designated, qualify, and are highly
effective as cash flow hedges, and for which the critical terms of the
hedging instrument and the assets match, Phoenix recognizes the change in
fair value of the derivative in other comprehensive income. Phoenix expects
that there will be no ineffectiveness to recognize in earnings during the
term of the hedges, and Phoenix does not expect to reclassify into earnings
amounts reported in accumulated other comprehensive income over the next
twelve months.
Phoenix also recognized an after-tax gain of $6.3 million for the quarter
ended September 30, 2001 and an after-tax gain of $2.8 million for the nine
months ended September 30, 2001 (reported as other comprehensive income in
the Unaudited Consolidated Statement of Changes in Stockholders' Equity and
Comprehensive Income), which represented the change in fair value of
interest rate forward swaps which have been designated as cash flow hedges
of the forecasted purchase of assets. For changes in the fair value of
derivatives that are designated as cash flow hedges of a forecasted
transaction, Phoenix recognizes the change in fair value of the derivative
in other comprehensive income. Amounts related to cash flow hedges that are
accumulated in other comprehensive income are reclassified as earnings in
the same period or periods during which the hedged forecasted transaction
(the acquired asset) affects earnings. As of September 30, 2001, $0.2
million of the deferred net after-tax gains on these derivative instruments
is expected to be reclassified into earnings over the next twelve months.
Phoenix also recognized an after-tax gain of $1.0 million for the quarter
ended September 30, 2001 and an after-tax loss of $0.3 million for the nine
months ended September 30, 2001 (reported as net investment income in the
Unaudited Consolidated Statement of Income), which represented the change in
fair value of derivative instruments which were not designated as hedges
upon implementation of SFAS 133. These instruments primarily include:
interest rate floors which hedge spread deficiency risk between assets and
deferred annuity product liabilities; interest rate caps which hedge
disintermediation risk associated with universal life insurance liabilities;
and interest rate swaps which were hedges of an anticipated purchase of
assets associated with an acquisition of a block of insurance liabilities
for which offsetting swap positions were taken to lock in a stream of income
to supplement the income on the assets purchased. For changes in fair value
of derivatives that are not designated and did not qualify as highly
effective hedges upon implementation of SFAS 133, Phoenix recognizes the
entire change in fair value of the derivatives in current-period earnings.
For the quarter and nine months ended September 30, 2001, Phoenix also
recognized an after-tax gain of $0.9 million (reported as net realized
investment gains in the Unaudited Consolidated Statement of Income), which
resulted from the termination prior to maturity of interest rate swaps which
were not designated as hedges upon implementation of SFAS 133.
Phoenix also holds foreign currency swaps as hedges against
available-for-sale securities that back U.S. dollar denominated liabilities.
For changes in the fair value of derivatives that are designated, qualify,
and are highly effective as fair value hedges, Phoenix recognizes the change
in fair value of the derivative, along with the change in value of the
hedged asset or liability attributable to the hedged risk, in current-period
earnings. Phoenix recognized an after-tax gain of $0.3 million for the
quarter ended September 30, 2001 and no gain for the nine months ended
September 30, 2001.
-12-
6. SIGNIFICANT TRANSACTIONS
Purchase of Phoenix Investment Partners Minority Interest
On September 10, 2000, Phoenix Life, one of its subsidiaries and PXP entered
into an agreement and plan of merger pursuant to which such subsidiary
agreed to purchase the outstanding common stock shares of PXP owned by third
parties for a price of $15.75 per share. In connection with this merger,
Phoenix Life paid, from available cash and short-term investments, $339.3
million to those third parties on January 11, 2001. As a result, PXP became
an indirect wholly owned subsidiary of Phoenix Life and PXP's shares of
common stock were de-listed from the New York Stock Exchange. In addition,
PXP accrued compensation expenses of $57.0 million to cash out options, $5.5
million of related compensation costs, $5.2 million in retention costs and
$3.9 million in transaction costs at March 31, 2001.
After the merger, some third party holders of PXP's convertible subordinated
debentures converted their debentures and PXP redeemed all remaining
outstanding debentures held by third parties by the end of March 2001. PXP
made cash payments totaling $38.0 million in connection with these
conversions and redemptions from funds borrowed from its then existing
credit facility.
The excess of purchase price over the minority interest in the net assets of
PXP totaled $224.1 million. Of this excess purchase price, $179.1 million
has been allocated to investment management contracts, which are being
amortized over their estimated useful lives using the straight-line method.
The weighted average useful life of the investment management contracts is
11.3 years. The remaining excess purchase price, net of deferred taxes, of
$118.4 million has been classified as goodwill and is being amortized over
40 years using the straight-line method. Related amortization of goodwill
and investment management contracts of $2.1 million and $10.7 million,
respectively, has been expensed for the nine months ended September 30,
2001.
The following table summarizes the calculation and allocation of purchase
price (in millions).
Purchase price:
--------------
Purchase price for 21.5 million outstanding shares at $15.75/share..................... $ 339.3
Premium paid related to third party convertible debt redemption/conversion............. 18.8
Transaction related costs.............................................................. 3.2
---
Total purchase price.............................................................. $ 361.3
========
Fair value of acquired net assets...................................................... $ 137.2
Investment management contracts........................................................ 179.1
Deferred taxes......................................................................... (73.4)
Goodwill............................................................................... 118.4
-----
Total purchase price allocation................................................... $ 361.3
========
Prior to this transaction, PXP had a $1.2 million liability related to
options held by certain employees. As a result of this transaction, all
outstanding options were settled and, consistent with previous accounting
treatment, the remaining liability was reversed and recorded as additional
paid-in capital.
Additionally, prior to the transaction, PXP had outstanding restricted stock
which had been issued to certain employees pursuant to PXP's Restricted
Stock Plan. For book purposes, the fair market value of the restricted stock
at the date of the grant was recorded as unearned compensation, a separate
component of stockholders' equity, and amortized over the restriction
period. For tax purposes, PXP can deduct compensation expense equal to the
fair market value of the stock on the date the restrictions lapse. The tax
benefit of the deduction in excess of the compensation expense was recorded
as an adjustment to additional paid-in capital. At the time of this
transaction, all restrictions lapsed and PXP recorded a $2.0 million tax
receivable for the deduction and a corresponding adjustment to additional
paid-in capital.
Early Retirement Program
On January 29, 2001, Phoenix offered a special retirement program under
which qualified participants will receive enhanced retirement benefits by
the addition of five years to age and pension plan service under the
Employee Pension Plan. Employees of Phoenix Life and PXP who decided to
participate will retire between June 1, 2001 and December 31, 2001, with
most retirements effective at the beginning of that period. Of the 309
participants eligible, 163 accepted the special retirement incentive
program. As a result of this program, Phoenix recorded an additional pension
expense of $17.3 million for the nine months ended September 30, 2001.
-13-
Aberdeen Asset Management
In May 2001, Phoenix purchased additional shares of common stock of Aberdeen
Asset Management plc, for a cash purchase price of $46.8 million, bringing
its ownership to approximately 22.0% (26.95% when the convertible
subordinated note is included) of the common stock of Aberdeen at September
30, 2001.
Master Credit Facility
In June 2001, Phoenix, Phoenix Life, and PXP entered into a $375 million
unsecured revolving credit facility that matures on June 10, 2005. Phoenix
Life's and PXP's existing credit agreements were terminated at that time.
Phoenix unconditionally guarantees loans to Phoenix Life and PXP. Base rate
loans bear interest at the greater of the Bank of Montreal's prime
commercial rate or the effective federal funds rate plus 0.5%. Eurodollar
rate loans bear interest at LIBOR plus an applicable margin. The credit
agreement contains customary financial and operating covenants that include,
among other provisions, requirements that Phoenix maintain a minimum
stockholders' equity and a maximum debt to capitalization ratio; that
Phoenix Life maintain a minimum risk based capital ratio, and that PXP
maintain a maximum debt to capitalization ratio and a minimum stockholders'
equity.
Common Stock Sale
On July 24, 2001, Morgan Stanley Dean Witter exercised its right to purchase
1,395,900 shares of the common stock of The Phoenix Companies, Inc. at the
IPO price of $17.50 per share less underwriters discount. Net proceeds of
$23.1 million were contributed to Phoenix Life.
Stock Repurchase Program
On September 17, 2001, Phoenix announced a plan to repurchase up to an
aggregate of six million shares of the company's outstanding common stock.
Purchases have been made on the open market and could be made as well in
negotiated transactions, subject to market prices and other conditions. No
time limit was placed on the duration of the repurchase program, which may
be modified, extended or terminated by the board of directors at any time.
As of September 30, 2001, 2,997,500 shares of the company's common stock had
been repurchased at a total cost of $42.6 million.
7. SEGMENT INFORMATION
The following tables provide certain information with respect to Phoenix's
operating segments as of December 31, 2000, September 30, 2001 and for each
of the three months and nine months ended September 30, 2000 and 2001, as
well as the realized investment gains and non-recurring items not included
in segment after-tax operating income.
December 31, September 30,
2000 2001
----------------- ------------------
(in millions)
Total assets:
Life and Annuity........................... $ 17,862.4 $18,198.6
Investment Management...................... 800.2 961.7
Venture Capital............................ 467.3 281.6
Corporate and Other........................ 1,157.8 1,339.0
Discontinued operations.................... 25.5 20.8
---- ----
Total................................... $ 20,313.2 $20,801.7
=========== =========
Deferred policy acquisition costs:
Life and Annuity........................... $ 1,019.0 $ 1,092.0
=========== =========
Policy liabilities and accruals:
Life and Annuity........................... $ 11,220.0 $11,803.6
Corporate and Other........................ 152.6 152.0
----- -----
Total................................... $ 11,372.6 $11,955.6
=========== =========
Policyholder deposit funds:
Life and Annuity........................... $ 665.6 $ 887.2
Corporate and Other........................ 12.8 11.3
---- ----
Total................................... $ 678.4 $ 898.5
=========== =======
-14-
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
----------------------------------- --------------------------------
2000 2001 2000 2001
-------------- ---------------- ------------- --------------
(in millions)
Premiums:
Life and Annuity...................................... $ 326.6 $ 302.7 $871.3 $ 836.0
-------------- ---------------- ------------- --------------
Total.............................................. 326.6 302.7 871.3 836.0
-------------- ---------------- ------------- --------------
Insurance and investment product fees:
Life and Annuity...................................... 73.9 72.0 231.0 226.2
Investment Management................................. 78.9 63.4 246.4 200.2
Corporate and Other................................... 8.2 2.8 20.5 9.4
Non-recurring items................................... -- -- 4.5 3.8
Less: inter-segment revenues.......................... (7.1) (9.1) (21.0) (25.3)
-------------- ---------------- ------------- --------------
Total.............................................. 153.9 129.1 481.4 414.3
-------------- ---------------- ------------- --------------
Net investment income:
Life and Annuity...................................... 198.2 228.3 590.0 664.8
Investment Management................................. .7 .5 1.7 1.3
Venture Capital....................................... 15.2 (48.4) 268.6 (100.2)
Corporate and Other................................... 9.1 7.6 22.6 8.4
Add: inter-segment investment expenses................ 2.8 4.5 8.5 8.2
-------------- ---------------- ------------- --------------
Total.............................................. 226.1 192.5 891.4 582.5
-------------- ---------------- ------------- --------------
Policy benefits and increase in policy liabilities and
policyholder dividends:
Life and Annuity...................................... 472.6 493.7 1,320.6 1,351.0
Corporate and Other................................... 3.1 2.4 9.4 7.4
-------------- ---------------- ------------- --------------
Total.............................................. 475.7 496.1 1,330.0 1,358.4
-------------- ---------------- ------------- --------------
Amortization of deferred policy acquisition costs:
Life and Annuity...................................... 35.1 33.3 116.6 95.3
---------------- ---------------- ------------- ------------
Total.............................................. 35.1 33.3 116.6 95.3
---------------- ---------------- ------------- ------------
Amortization of goodwill and other intangible assets:
Life and Annuity....................................... .1 .1 .5 .3
Investment Management................................... 6.5 12.4 23.0 36.8
Corporate and Other..................................... 2.8 .2 3.9 .2
-------------- ---------------- ------------- --------------
Total................................................ 9.4 12.7 27.4 37.3
-------------- ---------------- ------------- --------------
Interest expense:
Life and Annuity........................................ .1 -- .7 .5
Investment Management................................... 4.5 3.5 13.5 12.0
Corporate and Other..................................... 3.5 2.9 10.2 9.1
Less: inter-segment expenses............................ -- -- -- (.5)
-------------- ---------------- ------------- --------------
Total................................................ 8.1 6.4 24.4 21.1
-------------- ---------------- ------------- --------------
Other operating expenses:
Life and Annuity........................................ 73.4 64.4 203.2 221.2
Investment Management................................... 53.6 54.4 158.6 164.6
Corporate and Other..................................... 31.3 4.3 62.9 32.9
Non-recurring items..................................... 10.5 5.5 14.1 118.9
Less: inter-segment expenses............................ (4.3) (4.5) (12.5) (16.5)
-------------- ---------------- ------------- --------------
Total................................................ $ 164.5 $ 124.1 $426.3 $ 521.1
-------------- ---------------- ------------- --------------
-15-
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
----------------------------------- ---------------------------
2000 2001 2000 2001
---------------- --------------- ------------ -----------
(in millions)
Operating income (loss) before income tax (benefit) expense,
minority interest and equity in earnings of and interest
earned from investments in unconsolidated subsidiaries:
Life and Annuity............................................. $ 17.4 $ 11.5 $ 50.7 $ 58.7
Investment Management........................................ 15.0 (6.4) 53.0 (11.9)
Venture Capital.............................................. 15.3 (48.4) 268.6 (100.2)
Corporate and Other.......................................... (23.4) .6 (43.3) (31.8)
Non-recurring items.......................................... (10.5) (5.6) (9.6) (115.2)
----- ---- ---- ------
Total..................................................... 13.8 (48.3) 319.4 (200.4)
---- ----- ----- ------
Income tax (benefit) expense:
Life and Annuity............................................. 6.1 4.0 17.7 20.5
Investment Management........................................ 7.6 (3.6) 24.7 (3.7)
Venture Capital.............................................. 5.3 (17.0) 94.0 (35.1)
Corporate and Other.......................................... (15.3) 1.8 (24.4) (18.1)
Non-recurring items.......................................... (4.7) (22.4) 1.2 (57.4)
---- ----- --- -----
Total..................................................... (.9) (37.2) 113.2 (93.8)
--- ----- ----- -----
Minority interest in net income of consolidated subsidiaries:
Investment Management........................................ 1.2 1.6 10.5 5.1
--- --- ---- ---
Total..................................................... 1.2 1.6 10.5 5.1
--- --- ---- ---
Equity in earnings of and interest earned from investments in unconsolidated
subsidiaries:
Investment Management........................................ .1 1.4 2.8 3.7
Corporate and Other.......................................... .8 .8 2.4 2.3
-- -- --- ---
Total..................................................... 0.9 2.2 5.2 6.0
--- --- --- ---
Segment operating income (loss) after taxes:
Life and Annuity............................................. 11.3 7.5 33.0 38.2
Investment Management........................................ 6.3 (3.0) 20.6 (9.6)
Venture Capital.............................................. 9.9 (31.4) 174.6 (65.1)
Corporate and Other.......................................... (7.3) (.4) (16.5) (11.4)
Sub-total................................................. 20.2 (27.3) 211.7 (47.9)
Non-recurring items.......................................... (5.8) 16.8 (10.8) (57.8)
---- ---- ----- -----
Total..................................................... 14.4 (10.5) 200.9 (105.7)
---- ----- ----- ------
Net realized investment gains (losses) after taxes:
Life and Annuity............................................. 4.8 (.3) (14.0) (4.7)
Investment Management........................................ 1.4 -- 4.9 .5
Corporate and Other.......................................... 13.4 (10.4) 48.8 (19.9)
---- ----- ---- -----
Total..................................................... 19.6 (10.7) 39.7 (24.1)
---- ----- ---- -----
Income (loss) from continuing operations:
Life and Annuity............................................. 16.1 7.2 19.0 33.5
Investment Management........................................ 7.7 (3.0) 25.5 (9.1)
Venture Capital.............................................. 9.9 (31.4) 174.6 (65.1)
Corporate and Other.......................................... 6.1 (10.8) 32.3 (31.3)
Non-recurring items.......................................... (5.8) 16.8 (10.8) (57.8)
---- ---- ----- -----
Total..................................................... $ 34.0 $ (21.2) $ 240.6 $ (129.8)
====== ======= ======= ========
-16-
The components of after-tax non-recurring items for the three months and
nine months ended September 30, were as follows:
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
--------------------------------- ---------------------------------
2000 2001 2000 2001
--------------- -------------- -------------- ---------------
(in millions)
Investment Management
Portfolio gain (1).................................... $ -- $ -- $ 3.1 $ --
Loss on sublease transaction (2)...................... -- -- (.7) --
Partnership gains (3)................................. -- -- -- 2.4
Litigation settlement (4)............................. (1.8) -- (1.8) --
Expenses of purchase of PXP minority interest (5)..... (.7) (3.2) (.7) (49.9)
--- ---- --- -----
Sub-total......................................... (2.5) (3.2) (.1) (47.5)
---- ---- --- -----
Corporate and Other
Early retirement pension adjustment (6)............... -- -- -- (11.3)
Demutualization expense (7)........................... (4.3) (3.9) (6.0) (22.9)
Pension adjustment (8)................................ -- 2.9 -- 2.9
Surplus tax (9)....................................... 1.0 21.0 (4.7) 21.0
--- ---- ---- ----
Sub-total............................................. (3.3) 20.0 (10.7) (10.3)
---- ---- ----- -----
Total............................................. $ (5.8) $ 16.8 $ (10.8) $ (57.8)
====== ====== ======= =======
Non-recurring items include:
(1) reinsurance recovery related to the reimbursement of two mutual fund
investment portfolios which had inadvertently sustained losses;
(2) one-time expenses related to sublease transactions on certain office
space;
(3) gains related to distributions from PXP partnership investments;
(4) a charge related to a litigation settlement with former clients of PXP
and its former financial consulting subsidiary;
(5) expenses related to the purchase of the PXP minority interest, including
PXP's accrual of non-recurring compensation expenses of $57.0 million to
cash out restricted stock, $5.5 million of related compensation costs,
non-recurring retention costs of $15.0 million and non-recurring
transaction costs of $3.9 million. Income taxes of $31.5 million were
calculated using an effective tax rate of 38.8%;
(6) charges incurred in 2001 in connection with early retirement programs;
(7) expenses related to the demutualization;
(8) reduction in pension plan cost due to a change in the corridor used to
amortize deferred gains and losses; and
(9) elimination of surplus tax liability. As a mutual life insurance
company, Phoenix Life was subject to a surplus tax limiting the ability
of mutual insurance companies to deduct the full amount of policyholder
dividends from taxable income. Phoenix Life will not be subject to such
surplus tax for 2001 and future years as a result of its demutualization
in June 2001. The effective tax rate increased to 66.5% for the three
months ended September 30, 2001 compared to the nominal tax rate of 35%
primarily due to the elimination of the surplus tax liability.
Included in policy benefits and dividend amounts for the Life and Annuity
segment is interest credited on policyholder account balances of $82.4
million and $94.9 million for the nine months ended September 30, 2000 and
2001, respectively.
-17-
8. CLOSED BLOCK
On the date of demutualization, Phoenix Life established a closed block for
the benefit of holders of certain individual participating life insurance
policies and annuities of Phoenix Life for which Phoenix Life had a dividend
scale payable in 2000. Assets have been allocated to the closed block in an
amount that has been determined to produce cash flows which, together with
anticipated revenues from the policies included in the closed block, are
reasonably expected to be sufficient to support obligations and liabilities
relating to these policies, including, but not limited to, provisions for
the payment of claims and certain expenses, and taxes, and to provide for
the continuation of policyholder dividend scales in effect for 2000 if the
experience underlying such dividend scales continues, and for appropriate
adjustments in such scales if such experience changes. The closed block
assets, the cash flows generated by the closed block assets and the
anticipated revenues from the policies in the closed block will benefit only
the holders of the policies in the closed block. To the extent that, over
time, cash flows from the assets allocated to the closed block and claims
and other experience related to the closed block are, in the aggregate, more
or less favorable than what was assumed when the closed block was
established, total dividends paid to closed block policyholders in the
future may be greater than or less than the total dividends that would have
been paid to these policyholders if the policyholder dividend scales in
effect for 2000 had been continued. Any cash flows in excess of amounts
assumed will be available for distribution over time to closed block
policyholders and will not be available to stockholders. If the closed block
has insufficient funds to make guaranteed policy benefit payments, such
payments will be made from assets outside of the closed block. The closed
block will continue in effect as long as any policy in the closed block
remains in force.
Other than the provisions of SOP 00-3, Phoenix Life uses the same accounting
principles to account for the participating policies included in the closed
block as it used prior to the date of demutualization. SOP 00-3 requires the
establishment of a policyholder dividend obligation for earnings that will
be paid to policyholders as additional dividends as described below. The
excess of closed block liabilities over closed block assets at the effective
date of the demutualization (adjusted to eliminate the impact of related
amounts in accumulated other comprehensive income) represents the estimated
maximum future earnings from the closed block expected to result from
operations attributed to the closed block after income taxes. Earnings of
the closed block are recognized in income over the period the policies and
contracts in the closed block remain in force. Management believes that over
time the actual cumulative earnings of the closed block will approximately
equal the expected cumulative earnings due to the effect of dividend
changes. If, over the period the closed block remains in existence, the
actual cumulative earnings of the closed block are greater than the expected
cumulative earnings of the closed block, Phoenix Life will pay the excess of
the actual cumulative earnings of the closed block over the expected
cumulative earnings to closed block policyholders as additional policyholder
dividends unless offset by future unfavorable experience of the closed block
and, accordingly, will recognize only the expected cumulative earnings in
income with the excess recorded as a policyholder dividend obligation. If
over such period, the actual cumulative earnings of the closed block are
less than the expected cumulative earnings of the closed block, Phoenix Life
will recognize only the actual earnings in income. However, Phoenix Life may
change policyholder dividend scales in the future, which would be intended
to increase future actual earnings until the actual cumulative earnings
equal the expected cumulative earnings.
The principal cash flow items that affect the amount of closed block assets
and liabilities are premiums, net investment income, purchases and sales of
investments, policyholders' benefits, policyholder dividends, premium taxes
and income taxes. The principal income and expense items excluded from the
closed block are management and maintenance expenses, commissions, and
investment income and realized investment gains and losses of investment
assets outside the closed block that support the closed block business, all
of which enter into the determination of total gross margins of closed block
policies for the purpose of the amortization of deferred acquisition costs.
The amounts shown in the table below for assets and liabilities are those
that enter into the determination of amounts to be paid to policyholders.
As specified in the plan of reorganization, the allocation of assets for the
closed block was made as of December 31, 1999. Consequently, cumulative
earnings on the closed block assets and liabilities for the period January
1, 2000 to September 30, 2001 in excess of expected cumulative earnings do
not inure to stockholders and have been used to establish a policyholder
dividend obligation as of September 30, 2001. The increase in the
policyholder dividend obligation of $90.1 million consists of $10.0 million
of earnings for the period July 1, 2001 to September 30, 2001 and unrealized
gains on assets in the closed block as of September 30, 2001 of $80.1
million.
-18-
The following sets forth certain summarized financial information relating
to the closed block as of September 30, 2001:
Closed block liabilities: (in millions)
Policy liabilities and accruals and policyholder deposit funds.......... $ 9,083.9
Policyholder dividends payable.......................................... 363.1
Policyholder dividend obligation........................................ 205.6
Other closed block liabilities.......................................... 33.2
----------
Total closed block liabilities.................................... 9,685.9
----------
Closed block assets:
Held-to-maturity debt securities at amortized cost...................... 1,623.0
Available-for-sale debt securities at fair value........................ 4,121.5
Mortgage loans.......................................................... 388.7
Policy loans............................................................ 1,412.8
Deferred income taxes................................................... 388.3
Investment income due and accrued....................................... 134.0
Net due and deferred premiums........................................... 40.3
Cash and cash equivalents............................................... 131.3
-----------
Total closed block assets......................................... 8,239.9
-----------
Excess of reported closed block liabilities over closed block assets....... 1,445.9
===========
Maximum future earnings to be recognized from closed block assets
and liabilities......................................................... 1,445.9
===========
Change in policyholder dividend obligation:
Balance at beginning of period.......................................... 115.5
Change during the period................................................ 90.1
-----------
Balance at end of period................................................ $ 205.6
===========
The following sets forth certain summarized financial information relating to
the closed block for the quarter ended September 30, 2001:
Closed Block Revenues: (in millions)
Premiums............................................................. $ 299.2
Net investment income................................................ 137.5
Realized investment losses, net...................................... (.8)
-----------
Total revenues.................................................. 435.9
-----------
Closed Block Benefits and expenses:
Benefits to policyholders............................................ 309.5
Other operating costs and expenses................................... 3.5
Change in policyholder dividend obligation........................... 10.0
Dividends to policyholders........................................... 95.7
-----------
Total benefits and expenses..................................... 418.7
-----------
Contribution from the closed block, before income taxes......... 17.2
Income tax expense............................................. 6.1
-----------
Contributions from closed block, after income taxes............. $ 11.1
=======
9. DISCONTINUED OPERATIONS
During 1999, Phoenix discontinued the operations of three of its business
segments which in prior years had been reflected as reportable business
segments: the reinsurance operations, the real estate management operations
and the group life and health operations. The discontinuation of these
business segments resulted from the sale of several operations, a signed
agreement to sell one of the operations and the implementation of plans to
withdraw from the remaining businesses.
-19-
Reinsurance Operations
During 1999, Phoenix completed a comprehensive strategic review of its
reinsurance segment and decided to exit these operations through a
combination of sale, reinsurance and placement of certain components into
run-off. The reinsurance segment consisted primarily of individual life
reinsurance operations as well as group accident and health reinsurance
business. Accordingly, Phoenix estimated the sales proceeds, net premiums,
net claims payments and expenses of winding-down the business. As a result,
in 1999 Phoenix recognized a $173.0 million pre-tax loss on the disposal of
reinsurance operations.
During 1999, Phoenix placed the retained group accident and health
reinsurance business into run-off. Phoenix adopted a formal plan to stop
writing new contracts covering these risks and end the existing contracts as
soon as those contracts would permit. However, Phoenix remained liable for
claims under those contracts.
Based on the most recent information available, Phoenix reviewed the run-off
block and estimated the amount and timing of future net premiums, claims and
expenses. Consequently, Phoenix increased reserve estimates on the run-off
block in 1999 by $180 million (pre-tax). In addition, as part of the exit
strategy, Phoenix purchased aggregate excess of loss reinsurance to further
protect Phoenix from unfavorable results from this discontinued business.
This reinsurance is subject to an aggregate retention of $100 million on the
discontinued business. Phoenix may commute the agreement at any time after
September 30, 2004, subject to automatic commutation effective September 30,
2019. Phoenix incurred an initial expense of $130 million on the acquisition
of this reinsurance.
During 2000, Phoenix updated its estimates of future losses related to the
group accident and health reinsurance business as well as future expenses
associated with managing the run-off. Based on the most recent information
available, Phoenix increased reserve estimates on the run-off block by $97
million (pre-tax) in the third quarter of 2000. Phoenix determined that the
increase to reserves was needed based on revised actuarial assumptions to
reflect current and expected deteriorating trends in claim experience and
higher than anticipated expenses.
During the first nine months of 2001, Phoenix did not recognize any
additional reserve provisions.
The additional reserves and aggregate excess of loss reinsurance coverage
are expected to cover the run-off of the business; however, the nature of
the underlying risks is such that the claims may take years to reach the
reinsurers involved. Therefore, Phoenix expects to pay claims out of
existing estimated reserves for up to ten years as the level of business
diminishes.
A significant portion of the claims arising from the discontinued group
accident and health reinsurance business arises from the activities of
Unicover Managers, Inc. ("Unicover"). Unicover organized and managed a
group, or pool, of insurance companies ("Unicover pool") and certain other
facilities, which reinsured the life and health insurance components of
workers' compensation insurance policies issued by various property and
casualty insurance companies. Phoenix was a member of the Unicover pool.
Phoenix terminated its participation in the Unicover pool effective March 1,
1999.
Phoenix is involved in disputes relating to the activities of Unicover.
Under Unicover's underwriting authority, the Unicover pool and Unicover
facilities wrote a dollar amount of reinsurance coverage that was many times
greater than originally estimated. As a member of the Unicover pool, Phoenix
is involved in several proceedings in which the pool members assert that
they can deny coverage to certain insurers, which claim that they purchased
reinsurance coverage from the pool.
Further, Phoenix was, along with Sun Life Assurance of Canada ("Sun Life")
and Cologne Life Reinsurance Company ("Cologne Life"), a retrocessionaire
(meaning a reinsurer of other reinsurers) of the Unicover pool and two other
Unicover facilities, providing the pool and facility members with
reinsurance of the risks that the pool and facility members had assumed. In
September 1999, Phoenix joined an arbitration proceeding that Sun Life had
begun against the members of the Unicover pool and the Unicover facilities.
In this arbitration, Phoenix and Sun Life sought to cancel their
retrocession agreement on the grounds that material misstatements and
nondisclosures were made to them about, among other things, the amount of
risks they would be reinsuring. The arbitration proceedings are ongoing only
with respect to the Unicover pool, because Phoenix, Sun Life and Cologne
Life reached settlement with the two Unicover facilities in the first
quarter of 2000 (see discussion below).
In its capacity as a retrocessionaire of the Unicover business, Phoenix had
an extensive program of its own reinsurance in place to protect it from
financial exposure to the risks it had assumed. Currently, Phoenix is
involved in separate arbitration proceedings with three of its own
retrocessionaires, which are seeking, on various grounds, to avoid paying
any amounts to Phoenix. All of these proceedings remain in their discovery
phases. Because the same retrocession program that covers Phoenix's Unicover
business covers a significant portion of its other remaining group accident
and health reinsurance business, Phoenix could have additional material
losses if one or more of its retrocessionaires successfully avoids its
obligations.
-20-
During 2000, Phoenix reached settlements with several of the companies
involved in Unicover. On January 13, 2000, Phoenix and the other member
companies of the Unicover pool settled with EBI Indemnity Company and
affiliates of the Orion Group ("EBI/Orion"), by which all pool members were
released from their obligations as reinsurers of EBI/Orion. On January 21,
2000, Phoenix settled with Reliance Insurance Company ("Reliance") and its
parent Reliance Group Holdings, Inc. and was released from its obligations
as a reinsurer of the so-called Reliance facility. On March 27, 2000,
Phoenix settled with Reliance, Lincoln National Life Insurance Company and
Lincoln National Health and Casualty Company, releasing Phoenix from its
obligations as a reinsurer of the so-called Lincoln facility. There was no
effect on net income resulting from these settlements for the quarter ended
March 31, 2000.
A second set of disputes involves personal accident business that was
reinsured in the London reinsurance market in the mid-1990s in which Phoenix
participated. The disputes involve multiple layers of reinsurance, and
allegations that the reinsurance program created by the brokers involved in
placing those layers was interrelated and devised to disproportionately pass
losses to a top layer of reinsurers. Many companies who participated in this
business are involved in arbitrations in which those top layer companies are
attempting to avoid their obligations on the basis of misrepresentation.
Because of the complexity of the disputes and the reinsurance arrangements,
many of these companies are currently participating in negotiations of the
disputes for certain contract years, and Phoenix believes that similar
discussions will follow for the remaining years. Although Phoenix is
vigorously defending its contractual rights, Phoenix is actively involved in
the attempt to reach negotiated business solutions.
Given the uncertainty associated with litigation and other dispute
resolution proceedings, and the expected long term development of net claims
payments, the estimated amount of the loss on disposal of reinsurance
discontinued operations may differ from actual results. However, it is
management's opinion, after consideration of the provisions made in these
financial statements, as described above, that future developments will not
have a material effect on Phoenix's consolidated financial position.
Real Estate Management Operations
On May 25, 2000, Phoenix sold its investment in 50% of the outstanding
common stock of Pinnacle Realty Management Company, Inc., a real estate
property management firm, for $6.0 million. This sale represented Phoenix's
entire interest in Pinnacle Realty Management Company, Inc. and Phoenix now
has no other real estate management business. The transaction resulted in a
pre-tax loss of $0.6 million.
Group Life and Health Operations
On April 1, 2000, Phoenix sold its group life and health business to GE
Financial Assurance Holdings, Inc. ("GEFA") except for Phoenix Dental
Services, Inc. and California Benefits Dental Plan. Specifically, Phoenix
Group Holdings and PM Holdings sold 97% of the common stock of Phoenix
American Life Insurance Company and 100% of the common stock of Phoenix
Group Services, Inc. and Clinical Disability Management, Inc. for $283.9
million. This amount is comprised of $238.9 million in cash and $45.0
million in common stock of GE Life and Annuity Assurance Company, an
affiliate of GEFA. The common stock represents a 3.1% interest in GE Life
and Annuity Assurance Company. Phoenix retains ownership of 3% of the common
stock of Phoenix American Life Insurance Company. Phoenix Life has a right
to put these shares back to GEFA beginning in 2005 and ending in 2007. These
investments are reported as equity securities on the Consolidated Balance
Sheet. The pre-tax gain on the sale was $72.1 million and is reported in
discontinued operations gain on disposal, net of income taxes.
The sale to GEFA of 100% of the common stock of Phoenix Dental Services,
Inc. and California Benefits Dental Plan closed on October 31, 2000. The
sales proceeds for these entities were $2.0 million, which resulted in a
pre-tax loss of $0.4 million.
The assets and liabilities of the discontinued operations have been excluded
from the assets and liabilities of continuing operations and separately
identified on the Consolidated Balance Sheet. Net assets of the discontinued
operations totaled $25.5 million and $20.8 million as of December 31, 2000
and September 30, 2001, respectively.
-21-
The operating results of discontinued operations and the gain or loss on
disposal are presented below. There were no operating results for the nine
months ended 2001 because the operations were discontinued prior to January
1, 2001.
For the Three For the Nine
Months Ended Months Ended
September 30, 2000 September 30, 2000
----------------------- -----------------------
(in millions)
Revenues:
Group Life and Health Operations............................. $ .4 $ 112.7
Real Estate Management Operations............................ -- .4
-------- -------
Total revenues.................................................. $ .4 $ 113.1
-------- -------
Income from discontinued operations:
Group Life and Health Operations............................. $ 7.1 $ 12.8
Real Estate Management Operations............................ -- (.2)
-------- -------
Income from discontinued operations before income taxes......... 7.1 12.6
Income tax expense.............................................. 2.1 4.5
-------- -------
Income from discontinued operations, net of income taxes........ $ 5.0 $ 8.1
======== =======
Gain (Loss) on disposal of discontinued operations:
Reinsurance Operations....................................... $ (99.3) $ (100.6)
Real Estate Management Operations............................ (.6) (.6)
Group Life and Health Operations............................. -- 69.4
-------- --------
Loss on disposal of discontinued operations before income taxes. (99.9) (31.8)
Income tax benefit.............................................. (34.9) (10.1)
----- -----
Loss on disposal of discontinued operations, net of income taxes $ (65.0) $ (21.7)
========= ========
10. COMMITMENTS AND CONTINGENCIES
In the normal course of its business operations, Phoenix is involved with
litigation from time to time with claimants, beneficiaries and others, and a
number of litigation matters were pending as of September 30, 2001. It is
the opinion of management, after consultation with counsel, that the
ultimate liability with respect to these claims, if any, will not materially
affect Phoenix's consolidated financial position. See Note 9 - "Discontinued
Operations...Reinsurance Operations"
11. EARNINGS PER SHARE
The unaudited pro forma earnings per common share for the three months and
nine months ended September 30, 2000 and 2001 were as follows:
For the Three Months For the Nine Months
(in millions, except per share data) Ended September 30, Ended September 30,
------------------------------- ----------------------------
2000 2001 2000 2001
--------------- ------------ ------------- -----------
(pro forma) (pro forma)
Basic earnings per common share:
Income (loss) from continuing operations...................... $ 0.32 $ (0.20) $ 2.28 $ (1.23)
Loss on disposal.............................................. (0.62) -- (0.21) --
Discontinued operations....................................... 0.05 -- 0.08 --
--------------- ------------ ------------- -----------
(Loss) income before cumulative effect of accounting changes (0.25) (0.20) 2.15 (1.23)
Cumulative effect of accounting changes (Notes 4 and 5)...... -- -- -- (0.62)
--------------- ------------ ------------- -----------
Net (loss) income............................................ $(0.25) $ (0.20) $ 2.15 $ (1.85)
=============== ============ ============= ===========
Weighted-average shares used in basic earnings per share
calculations............................................... 105.3 105.3 *105.3 *105.3
=============== ============ ============= ===========
* The weighted-average calculation excludes the period of time before the IPO
during which no common stock shares were issued.
The pro forma earnings per common share reflect the Reorganization and Initial
Public Offering discussed in Note 3 - "Reorganization and Initial Public
Offering."
-22-
12. SUBSEQUENT EVENT
On November 12, 2001, PXP signed a definitive agreement to acquire a majority
interest in Kayne Anderson Rudnick Investment Management, LLC ("KAR"). Under the
agreement, PXP will purchase an initial 60% interest, with future purchases of
an additional 15%. The remaining ownership interests in KAR will be retained by
its management. The agreement provides for a purchase price based upon revenues
at the closing, expected in the first quarter of 2002, with additional
consideration possible, based upon future revenue growth. KAR, based in Los
Angeles, provides investment management services to high net worth individuals,
institutional accounts and sponsored management account. At November 12, 2001,
KAR had approximately $7.3 billion in assets under management.
ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
Management's discussion and analysis reviews: our consolidated financial
condition as of December 31, 2000 and September 30, 2001; our consolidated
results of operations for the quarter and nine months ended September 30, 2001;
and, where appropriate, factors that may affect our future financial
performance. The following discussion and analysis should be read in conjunction
with the consolidated financial statements and footnotes presented in this
report.
This quarterly report contains statements that constitute forward-looking
statements within the meaning of the Private Securities Litigation Reform Act of
1995. These include statements relating to trends in, or representing
management's beliefs about, Phoenix's future strategies, operations and
financial results, as well as other statements including words such as
"anticipate," "believe," "plan," "estimate," "expect," "intend," "may," "should"
and other similar expressions. Forward-looking statements are made based upon
management's current expectations and beliefs concerning trends and future
developments and their potential effects on the company. They are not guarantees
of future performance. Actual results may differ materially from those suggested
by forward-looking statements as a result of risks and uncertainties which
include, among others: (i) changes in general economic conditions, including
changes in interest rates and the performance of financial markets; (ii)
heightened competition including, with respect to pricing, entry of new
competitors and the development of new products and services by new and existing
competitors; (iii) Phoenix's primary reliance, as a holding company, on
dividends from its subsidiaries to meet debt payment obligations and the
applicable regulatory restrictions on the ability of the subsidiaries to pay
such dividends; (iv) regulatory, accounting or tax changes that may affect the
cost of, or demand for, the products or services of Phoenix's subsidiaries; (v)
downgrades in the claims paying ability or financial strength ratings of
Phoenix's subsidiaries; (vi) discrepancies between actual claims experience and
assumptions used in setting prices for the products of insurance subsidiaries
and establishing the liabilities of such subsidiaries for future policy benefits
and claims relating to such products; (vii) movements in the equity markets that
affect our investment results, including those from venture capital, the fees we
earn from assets under management and the demand for our variable products;
(viii) Phoenix's success in achieving its planned expense reductions; (ix) and
other risks and uncertainties described from time to time in Phoenix's filings
with the Securities and Exchange Commission. Phoenix specifically disclaims any
obligation to update or revise any forward-looking statement, whether as a
result of new information, future developments or otherwise.
The Phoenix Companies, Inc. is a provider of wealth management products and
services offered through a variety of select advisors and financial services
firms to serve the accumulation, preservation and transfer needs of the affluent
and high net worth market, businesses and institutions. The Phoenix Companies,
Inc. offers a broad range of life insurance, annuity and investment management
solutions through a variety of distributors. These products and services are
managed within four reportable segments: Life and Annuity, Investment
Management, Venture Capital, and Corporate and Other.
THE REORGANIZATION AND INITIAL PUBLIC OFFERING
On December 18, 2000, the board of directors of Phoenix Home Life Mutual
Insurance Company ("Phoenix Mutual") unanimously adopted a plan of
reorganization which was amended and restated on January 26, 2001. On June 25,
2001, the effective date of the demutualization, Phoenix Mutual converted from a
mutual life insurance company to a stock life insurance company, became a wholly
owned subsidiary of The Phoenix Companies, Inc. ("Phoenix") and changed its name
to Phoenix Life Insurance Company ("Phoenix Life"). At the same time, Phoenix
Investment Partners, Ltd. ("PXP") became an indirect wholly owned subsidiary of
Phoenix. All policyholder membership interests in Phoenix Mutual were
extinguished on the effective date and eligible policyholders of the mutual
company received 56.2 million shares of common stock, $28.8 million of cash and
$12.7 million of policy credits as compensation.
-23-
In addition, on June 25, 2001, Phoenix closed its initial public offering
("IPO") in which 48.8 million shares of common stock were issued at a price of
$17.50 per share. Net proceeds from the IPO equaling $807.9 million were
contributed to Phoenix Life, as required under the plan of reorganization. On
July 24, 2001, Morgan Stanley Dean Witter exercised its right to purchase
1,395,900 shares of the common stock of Phoenix at the IPO price of $17.50 per
share less underwriter's discount. Net proceeds to Phoenix Life were $23.1
million.
Phoenix Life established a closed block for the benefit of holders of
certain individual life insurance policies of Phoenix Life. The purpose of the
closed block is to protect the policy dividend expectations of the holders of
the policies included in the closed block. The closed block will continue in
effect until the date none of such policies is in force. On the effective date
of the demutualization, Phoenix Life allocated to the closed block assets in an
amount that are expected to produce cash flows which, together with anticipated
revenues from the closed block policies, are reasonably expected to be
sufficient to support obligations and liabilities relating to these policies.
Also, these cash flows are reasonably expected to meet policy dividend scales
payable in 2000, if the experience underlying such dividend scales continues.
The assets allocated to the closed block and any cash flows provided by those
assets will solely benefit the holders of policies included in the closed block.
The assets and liabilities allocated to the closed block were recorded in
our consolidated financial statements at their historical carrying values. The
carrying values of the assets allocated to the closed block were less than that
of the closed block liabilities at the effective date of the demutualization.
The excess carrying value of the liabilities at the effective date represents
the estimated future post-tax contributions expected from the operation of the
closed block, which will be recognized in Phoenix Life's consolidated income
over the period the policies in the closed block remain in force.
In funding the closed block, Phoenix Life made assumptions regarding the
mortality rates, lapse rates, investment earnings (including a provision for
defaults), premium taxes, federal income taxes and other items applicable to the
policies contained in the closed block. Actual experience may, in the aggregate,
be more favorable than Phoenix Life assumed in establishing the closed block. In
that case, the policy dividend scale will be increased and neither Phoenix Life
nor our stockholders will benefit from that more favorable experience.
Conversely, to the extent that actual experience is, in the aggregate, less
favorable than Phoenix Life assumed in establishing the closed block, the policy
dividend scale will be decreased, unless Phoenix Life chooses to use assets from
outside the closed block to support the dividends.
In addition, Phoenix Life remains responsible for paying the benefits
guaranteed under the policies included in the closed block, even if cash flows
and revenues from the closed block prove insufficient. Management does not
believe that Phoenix Life will have to pay these benefits from assets outside
the closed block unless the closed block business experiences very substantial
adverse deviations in investment, mortality, persistency or other experience
factors. Phoenix Life intends to accrue any additional contributions necessary
to fund guaranteed benefits under the closed block when it becomes probable that
Phoenix Life will be required to fund any shortage.
For additional information on the closed block, see Note 4 - "Summary of
New Significant Accounting Policies" and Note 8 - "Closed Block" to the
unaudited consolidated financial statements.
The costs relating to the demutualization, excluding costs relating to the
IPO, were approximately $37.1 million, net of income taxes of $9.5 million, of
which $14.1 million was recognized for the year ended December 31, 2000 and
$23.0 million was recognized for the nine months ended September 30, 2001. We
estimate that we will have additional expenses relating to the demutualization
of approximately $1.8 million. Demutualization expenses consist of our cost of
printing and mailing materials to policyholders and our aggregate cost of
engaging independent accounting, actuarial, compensation, financial, investment
banking and legal advisors and other consultants to advise us in the
demutualization process and related matters, as well as other administrative
costs. In addition, our costs include the fees and expenses of the advisors
engaged by the State of New York Insurance Department and, potentially, other
regulatory authorities, as to the demutualization process and related matters.
-24-
CONSOLIDATED RESULTS OF OPERATIONS
The following table presents summary consolidated financial data for the
periods indicated.
For the Three Months For the Nine
Ended September 30, Months
Ended September 30,
------------------------- ---------------------------
2000 2001 2000 2001
---------- ---------- ----------- ------------
Revenues: (in millions)
- - ---------
Premiums............................................................ $326.6 $302.7 $871.3 $ 836.0
Insurance and investment product fees............................... 153.9 129.1 481.4 414.3
Net investment income............................................... 226.1 192.5 891.4 582.5
Net realized investment gains (losses).............................. 31.6 (16.7) 66.0 (37.2)
---- ----- ---- -----
Total revenues................................................... 738.2 607.6 2,310.1 1,795.6
----- ----- ------- -------
Benefits and expenses:
Policy benefits and increase in policy liabilities.................. 385.1 390.4 1,050.5 1,056.7
Policyholder dividends.............................................. 90.6 105.7 279.5 301.7
Amortization of deferred policy acquisition costs................... 35.1 33.3 116.6 95.3
Amortization of goodwill and other intangible assets................ 9.4 12.7 27.4 37.3
Interest expense.................................................... 8.1 6.4 24.4 21.1
Other operating expenses............................................ 164.5 124.1 426.3 521.1
----- ----- ----- -----
Total benefits and expenses...................................... 692.8 672.6 1,924.7 2,033.2
----- ----- ------- -------
Income (loss) from continuing operations before income taxes (benefit),
minority interest and equity in earnings of and interest earned
from investments in unconsolidated subsidiaries................... 45.4 (65.0) 385.4 (237.6)
Income tax expense (benefit) 10.2 (43.2) 136.3 (106.9)
---- ----- ----- ------
Income (loss) from continuing operations before minority interest and
equity in earnings of and interest earned from investments
in unconsolidated subsidiaries...................................... 35.2 (21.8) 249.1 (130.7)
Minority interest in net income of consolidated subsidiaries.......... 2.1 1.6 13.7 5.1
Equity in earnings of and interest earned from investments
in unconsolidated subsidiaries...................................... .9 2.2 5.2 6.0
-- --- --- ---
Income (loss) from continuing operations.............................. 34.0 (21.2) 240.6 (129.8)
Discontinued operations:
Income from discontinued operations, net of income taxes.......... 5.0 -- 8.1 --
Loss on disposal, net of income taxes............................. (65.0) -- (21.7) --
----- ---- ----- -----
(Loss) income before cumulative effect of accounting changes.......... (26.0) (21.2) 227.0 (129.8)
Cumulative effect of accounting changes for:
Venture capital partnerships, net of income taxes................. -- -- -- (48.8)
Securitized financial instruments, net of income taxes............ -- -- -- (20.5)
Derivative financial instruments, net of income taxes............. -- -- -- 3.9
---- ---- ---- ----
Net (loss) income..................................................... $ (26.0) $ (21.2) $227.0 $ (195.2)
========== ========== =========== ============
Three Months Ended September 30, 2001 Compared To Three Months Ended
September 30, 2000
Premiums were $302.7 million for the three months ended September 30, 2001,
a decrease of $23.9 million, or 7%, from $326.6 million for the comparable
period in 2000. Whole life premiums decreased $14.1 million, reflecting the
shift to variable products, for which revenues are recognized through insurance
and investment product fees. There was also a decrease in term premiums of $2.2
million and a decrease of $2.7 million due to the runoff of the Confederation
Life's whole life business.
-25-
Insurance and investment product fees were $129.1 million for the three
months ended September 30, 2001, a decrease of $24.8 million, or 16%, from
$153.9 million for the comparable period in 2000. Investment Management fees
decreased $15.5 million, primarily as a result of decreases in average assets
under management due to negative investment performance. Life and Annuity fees
decreased $1.9 million primarily as a result of decreases in variable annuity
funds under management due to negative investment performance. Corporate and
Other fees decreased $5.4 million, primarily due to lower fees resulting from
our decision in the third quarter of 2000 to exit our physician practice
management business.
Net investment income was $192.5 million for the three months ended
September 30, 2001, a decrease of $33.6 million, or 15%, from $226.1 million for
the comparable period in 2000. Venture Capital net investment income decreased
$63.6 million due to market depreciation on portfolio stocks held in
partnerships and a decrease in gains from partnerships' dispositions of stocks.
Life and Annuity net investment income increased $30.1 million due to higher
average invested assets. Average invested assets, excluding venture capital
partnerships, were $12,674.4 million in September 2001, an increase of $1,034.1
million, or 9%, from $11,640.3 million in September 2000. The yield on average
invested assets, excluding venture capital partnerships, was 7.5% in September
2001, compared to 7.4% in September 2000.
Net realized investment losses were $16.7 million for the three months
ended September 30, 2001, a decrease of $48.3 million, or 153%, from $31.6
million in gains for the comparable period in 2000. Losses of $8.8 million were
recorded related to the write-down of several debt securities and separate
account equity appreciation declined $4.7 million during the three months ended
September 30, 2001. Also, during the three months ended September 30, 2000,
non-recurring gains on the sale of common stock (primarily National Oilwell) of
$39.2 million were recorded. Partially offsetting these gains were interest
related losses on debt securities of $8.6 million.
Policy benefits, increase in policy liabilities and policyholder dividends
were $496.1 million for the three months ended September 30, 2001, an increase
of $20.4 million, or 4%, from $475.7 million for the comparable period in 2000.
This increase was due primarily to higher dividends for participating whole
life, including a $10 million increase to the Policyholder Dividend Obligation
("PDO"), and higher interest credited on the guaranteed interest account of
variable annuities.
Amortization of deferred policy acquisition costs was $33.3 million for the
three months ended September 30, 2001, a decrease of $1.8 million, or 5%, from
$35.1 million for the comparable period in 2000. The lower amortization for the
current quarter was mainly attributable to lower margins from higher universal
life death claims.
Amortization of goodwill and other intangible assets was $12.7 million for
the three months ended September 30, 2001, an increase of $3.3 million, or 35%,
from $9.4 million for the comparable period in 2000, due primarily to the
increase in Investment Management amortization of $5.9 million. This increase in
amortization resulted from the purchase of the PXP minority interest, which
closed in January 2001, our acquisition of a 75% interest in Walnut Asset
Management LLC ("Walnut") in January 2001 and our final payment of $50.0 million
in September 2000 for the Roger Engemann and Associates, Inc. ("Engemann")
acquisition.
Other operating expenses were $124.1 million for the three months ended
September 30, 2001, a decrease of $40.4 million, or 25%, from $164.5 million for
the comparable period in 2000. Life and Annuity other operating expenses
decreased $9.1 million due to lower compensation, convention and trust operation
expenses and a higher level of deferrable expenses, resulting from higher sales
related activities. Corporate and Other other operating expenses decreased $29.6
million primarily due to lower compensation, primarily incentive compensation,
and our decision to exit our physicians practice management business.
Income tax benefit was $43.2 million for the three months ended September
30, 2001, a decrease of $53.4 million, or 523%, from $10.2 million income tax
expense for the comparable period in 2000. This change reflects a tax benefit
from operating losses in the third quarter of 2001, compared to a tax expense
from operating gain in the third quarter of 2000.
Nine Months Ended September 30, 2001 Compared To Nine Months Ended
September 30, 2000
Premiums were $836.0 million for the nine months ended September 30, 2001,
a decrease of $35.3 million, or 4%, from $871.3 million in the comparable period
in 2000. Whole life premiums decreased $23.5 million, reflecting the shift to
variable products, for which revenues are recognized through insurance and
investment product fees. There was also a decrease in term premiums of $4.2
million and a $5.5 million decrease due to the runoff of the Confederation Life
whole life business.
Insurance and investment product fees were $414.3 million for the nine
months ended September 30, 2001, a decrease of $67.1 million, or 14%, from
$481.4 million for the comparable period in 2000. Investment Management fees
decreased $46.2 million, primarily as a result of decreases in average assets
under management due to negative investment performance. Life and Annuity fees
decreased $4.8 million, primarily as a result of decreases in variable annuity
funds under management due to negative investment performance, partially offset
by increases in fees for variable universal life products as a result of
increased sales. Corporate and Other fees decreased $11.1 million, primarily due
to lower fees resulting from our decision to exit our physician practice
management business in the third quarter of 2000.
-26-
Net investment income was $582.5 million for the nine months ended
September 30, 2001, a decrease of $308.9 million, or 35%, from $891.4 million
for the comparable period in 2000. Venture Capital net investment income
decreased $368.8 million due to market depreciation on portfolio stocks held in
partnerships and a decrease in gains from partnerships' dispositions of stocks.
Also, due to the recent volatility in the equity markets, during the first
quarter of 2001 we changed our method of applying the equity method of
accounting to our venture capital partnerships to eliminate the quarterly lag in
reporting. See " -- Venture Capital Segment" and Note 4 of our unaudited
consolidated financial statements. Life and Annuity net investment income
increased $74.8 million due to higher average invested assets. Corporate and
Other net investment income decreased $14.2 million, primarily the result of the
sale of assets to fund the purchase of the PXP minority interest in January
2001, partially offset by the earnings on the IPO proceeds. Average invested
assets, excluding venture capital partnerships, were $12,674.4 million in
September 2001, an increase of $1,034.1 million, or 9%, from $11,640.3 million
in September 2000. The yield on average invested assets, excluding venture
capital partnerships, was 7.5% for the nine months ended September 2001,
compared to 7.4% for the comparable period in 2000.
Net realized investment losses were $37.2 million for the nine months ended
September 30, 2001, a decrease of $103.2 million, or 156%, from $66.0 million in
gains for the comparable period in 2000. Credit related realized losses of $28.6
million were recorded in 2001 on several debt securities. In 2001, a $4.7
million loss was recorded due to a subsequent price adjustment on the sale of
our Cleveland office, which occurred in June 2000. In 2000, non-recurring gains
of $110.6 million on the sale of common stock were recorded. Offsetting these
were non-recurring interest-related losses on debt securities of $45.0 million.
Policy benefits, increase in policy liabilities and policyholder dividends
were $1,358.4 million for the nine months ended September 30, 2001, an increase
of $28.4 million, or 2%, from $1,330 million for the comparable period in 2000,
primarily due to higher dividends for participating whole life, including a $10
million increase to the PDO, and higher interest credited on the guaranteed
interest account of variable annuities.
Amortization of deferred policy acquisition costs was $95.3 million for the
nine months ended September 30, 2001, a decrease of $21.3 million, or 18%, from
$116.6 million for the comparable period in 2000. The decrease was primarily a
result of lower margins from higher universal life death claims, and the $10
million increase to the PDO for Traditional Life policies in the Closed Block.
Amortization of goodwill and other intangible assets was $37.3 million for
the nine months ended September 30, 2001, an increase of $9.9 million, or 36%,
from $27.4 million for the comparable period in 2000, primarily due to the
increase in Investment Management amortization of $13.8 million. This increase
in amortization resulted from our purchase of the PXP minority interest in
January 2001, our acquisition of a 75% interest in Walnut in January 2001 and
our final payment of $50.0 million in September 2000 for the Engemann
acquisition.
Other operating expenses were $521.1 million for the nine months ended
September 30, 2001, an increase of $94.8 million, or 22%, from $426.3 million
for the comparable period in 2000. Life and Annuity other operating expenses
increased $17.6 million due primarily to the growth of the Life and Annuity
business, increases in compensation and related expenses due to the growth of
the segment, including additions to our staff of wholesalers, increased expenses
related to technology initiatives, the growth in WS Griffith and PFG, and the
acquisition in July 2000 of Main Street Management. Investment Management other
operating expenses increased $6.0 million primarily due to increases in various
incentive compensation programs and non-compensation related costs in support of
technology initiatives begun during the year. Corporate and Other other
operating expenses decreased $33.7 million primarily due to decreases in
compensation, mainly incentive compensation, and our withdrawal from our
physicians practice management business.
Income tax benefit was $106.9 million for the nine months ended September
30, 2001, a decrease of $243.2 million, or 178%, from a $136.3 million income
tax expense for the comparable period in 2000. This change reflects a tax
benefit from operating losses in the nine months ended September 30, 2001,
compared to a tax expense on operating gains in the nine months ended September
30, 2000.
Minority interest in net income of consolidated subsidiaries was $5.1
million for the nine months ended September 30, 2001, a decrease of $8.6
million, or 63%, from $13.7 million for the comparable period in 2000, due to
our purchase of the PXP minority interest in January 2001.
-27-
RESULTS OF OPERATIONS BY SEGMENT
We evaluate segment performance on the basis of segment after-tax operating
income. Realized investment gains and some non-recurring items are excluded
because management does not consider them when evaluating the financial
performance of the segments. The size and timing of realized investment gains
are often subject to management's discretion. Non-recurring items are removed
from segment after-tax operating income if, in management's opinion, they are
not indicative of overall operating trends. While some of these items may be
significant components of our net income reported in accordance with generally
accepted accounting principles ("GAAP"), we believe that segment after-tax
operating income is an appropriate measure that represents the net income
attributable to the ongoing operations of our business. The criteria used by
management to identify non-recurring items and to determine whether to exclude a
non-recurring item from segment after-tax operating income include whether the
item is infrequent and:
- is material to the segment's after-tax operating income; or
- results from a business restructuring; or
- results from a change in the regulatory environment; or
- relates to other unusual circumstances (e.g., litigation).
Non-recurring items excluded by management from segment after-tax operating
income may vary from period to period. Because such items are excluded based on
management's discretion, inconsistencies in the application of management's
selection criteria may exist. Segment after-tax operating income is not a
substitute for net income determined in accordance with GAAP and may be
different from similarly titled measures of other companies.
Segment Allocations
We allocate capital to Investment Management on an historical cost basis
and to insurance products based on 200% of company action level risk-based
capital. We allocate net investment income based on the assets allocated to each
segment. We allocate other costs and operating expenses to each segment based on
a review of the nature of such costs, cost allocations using time studies, and
other allocation methodologies.
The following table presents a reconciliation of segment after-tax
operating income to GAAP reported income from continuing operations.
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
-------------------------------- --------------------------------
2000 2001 2000 2001
--------------- ------------- -------------- --------------
(in millions)
Segment after-tax operating income:
Life and Annuity......................................... $ 11.3 $ 7.5 $ 33.0 $ 38.2
Investment Management.................................... 6.3 (3.0) 20.6 (9.6)
Venture Capital.......................................... 9.9 (31.4) 174.6 (65.1)
Corporate and Other...................................... (7.3) (.4) (16.5) (11.4)
---- --- ----- -----
Total segment after-tax operating income (loss)....... $ 20.2 $ (27.3) $ 211.7 $ (47.9)
------- ------- ------- -------
After-tax adjustments:
Net realized investment gains (losses)................... 19.6 (10.7) 39.7 (24.1)
Early retirement pension adjustment...................... -- -- -- (11.3)
Pension adjustment....................................... -- 2.9 -- 2.9
Demutualization expense.................................. (4.3) (3.9) (6.0) (22.9)
Surplus tax.............................................. 1.0 21.0 (4.7) 21.0
Portfolio gain........................................... -- -- 3.1 --
Loss on sublease transaction............................. -- -- (.7) --
Partnership gains........................................ -- -- -- 2.4
Litigation settlement.................................... (1.8) -- (1.8) --
Expenses of purchase of PXP minority interest............ (.7) (3.2) (.7) (49.9)
--- ---- --- -----
Total after-tax adjustments........................... 13.8 6.1 28.9 (81.9)
---- --- ---- -----
GAAP reported income (loss):
Income (loss) from continuing operations................... $ 34.0 $ (21.2) $ 240.6 $ (129.8)
====== ======= ======= ========
See explanation of after-tax adjustments in Note 7 -- "Segment Information"
to the unaudited consolidated financial statements.
-28-
LIFE AND ANNUITY SEGMENT
The following table presents summary financial data relating to Life and
Annuity for the periods indicated.
For the Three Months For the Nine Months
Ended September, 30 Ended September, 30
--------------------------------- ------------------------------
2000 2001 2000 2001
-------------- --------------- ------------ --------------
(in millions)
Revenues:
Premiums.............................................. $ 326.6 $ 302.7 $ 871.3 $ 836.0
Insurance and investment product fees................. 73.9 72.0 231.0 226.2
Net investment income................................. 198.2 228.3 590.0 664.8
----- ----- ----- -----
Total revenues................................. 598.7 603.0 1,692.3 1,727.0
----- ----- ------- -------
Benefits and Expenses:
Policy benefits, increase in policy liabilities
and policyholder dividends........................... 472.6 493.7 1,320.6 1,351.0
Amortization of deferred policy acquisition costs..... 35.1 33.3 116.6 95.3
Other operating expenses.............................. 73.6 64.5 204.4 222.0
---- ---- ----- -----
Total benefits and expenses................... 581.3 591.5 1,641.6 1,668.3
----- ----- ------- -------
Operating income before income taxes.................. 17.4 11.5 50.7 58.7
Income taxes.......................................... 6.1 4.0 17.7 20.5
--- --- ---- ----
Segment after-tax operating income.................... 11.3 7.5 33.0 38.2
After-tax adjustments:
Net realized investment gains (losses)........... 4.8 (.3) (14.0) (4.7)
--- --- ----- ----
Total after-tax adjustments................... 4.8 (.3) (14.0) (4.7)
--- --- ----- ----
GAAP reported income:
Income from continuing operations................ $ 16.1 $ 7.2 $ 19.0 $ 33.5
====== ====== ====== ======
Three Months Ended September 30, 2001 Compared To Three Months Ended
September 30, 2000
Premiums were $302.7 million for the three months ended September 30, 2001,
a decrease of $23.9 million, or 7%, from $326.6 million for the comparable
period in 2000. Whole life premiums decreased $14.1 million, reflecting the
shift to variable products, for which revenues are recognized through insurance
and investment product fees. There was also a decrease in term premiums of $2.2
million and a decrease of $2.7 million due to the runoff of the Confederation
Life whole life business.
Insurance and investment product fees were $72.0 million for the three
months ended September 30, 2001, a decrease of $1.9 million, or 3%, from $73.9
million for the comparable period in 2000. Insurance and investment product fees
for variable annuities decreased $5.5 million, primarily as a result of a
decrease in assets under management due to negative investment performance. At
September 30, 2001, funds under management for variable annuities were $3.9
billion, a decrease of $0.8 billion, or 17%, from September 30, 2000. The
decrease in funds under management due to negative investment performance was
$1.4 billion from September 30, 2000. Variable annuity sales were $235.5 million
in the third quarter of 2001, an increase of 39% from the third quarter of 2000
due in large part to our expanded distribution systems and the sales of our new
fixed annuity products which were launched in the second quarter 2001. Variable
annuity benefits and surrenders were $109.6 million, a decrease of 29% from the
third quarter of 2000. Fees related to our trust operations also decreased $2.1
million due to the sale of our New Hampshire trust and agency operations. Fees
on our variable universal life products increased $3.0 million. Even though
funds under management decreased, variable universal life fees increased because
a significant portion of fees are premium-based or are based upon a net amount
of risk. At September 30, 2001, funds under management for variable universal
life were $947.7 million, a decrease of $222.2 million, or 19%, from September
30, 2000. The decrease in funds under management due to negative investment
performance was $425.2 million from September 30, 2000. Variable universal life
deposits were $73.0 million in the third quarter of 2001, an increase of 15%
from the third quarter of 2000. Variable universal life benefits and surrenders
were $7.0 million, a decrease of 29% from the third quarter of 2000. Universal
life insurance and investment product fees also increased $0.6 million,
primarily as a result of the increase in universal life premium deposits.
-29-
Net investment income was $228.3 million for the three months ended
September 30, 2001, an increase of $30.1 million, or 15%, from $198.2 million
for the comparable period in 2000, primarily the result of higher general
account assets.
Policy benefits, increase in policy liabilities and policyholder dividends
were $493.7 million for the three months ended September 30, 2001, an increase
of $21.1 million, or 4% from $472.6 million for the comparable period in 2000.
This increase was due primarily to higher dividends for participating whole
life, including a $10 million increase to the PDO and higher interest credited
on the guaranteed interest account of variable annuities.
Amortization of deferred policy acquisition costs was $33.3 million for the
three months ended September 30, 2001, a decrease of $1.8 million, or 5%, from
$35.1 million for the comparable period in 2000. The lower amortization for the
current quarter was mainly attributable to lower margins from higher universal
life death claims.
Other operating expenses were $64.5 million for the three months ended
September 30, 2001, a decrease of $9.1 million, or 12%, from $73.6 million for
the comparable period in 2000. This decrease resulted from lower compensation,
convention and trust operation expenses and a higher level of deferrable
expenses due to increased sales.
Nine Months Ended September 30, 2001 Compared To Nine Months Ended
September 30, 2000
Premiums were $836.0 million for the nine months ended September 30, 2001,
a decrease of $35.3 million, or 4%, from $871.3 million for the comparable
period in 2000. Whole life premiums decreased $23.5 million, reflecting the
shift to variable products, for which revenues are recognized through insurance
and investment product fees. There was also a decrease in term premiums of $4.2
million and a $5.5 million decrease due to the runoff of the Confederation Life
whole life business.
Insurance and investment product fees were $226.2 million for the nine
months ended September 30, 2001, a decrease of $4.8 million, or 2%, from $231.0
million for the comparable period in 2000. Insurance and investment product fees
for variable annuities decreased $11.3 million, primarily as a result of a
decrease in assets under management due to negative investment performance. At
September 30, 2001, funds under management for variable annuities were $3.9
billion, a decrease of $0.8 billion, or 17%, from September 30, 2000. The
decrease in funds under management due to negative investment performance was
$1.4 billion from September 30, 2000. Variable annuity sales were $899.5 million
for the nine months ended September 30, 2001, an increase of 106% from the
comparable period in 2000 primarily as a result of our expanded distribution
system and a single case deposit of $200 million received in June 2001. Variable
annuity benefits and surrenders were $388.3 million; a decrease of 19% from the
nine months ended September 30, 2000. Fees related to our trust operations
decreased $5.7 million due to the sale of our New Hampshire trust and agency
operations. Fees related to our variable universal life products increased $10.7
million, or 19%. Even though funds under management for variable universal life
decreased, variable universal life fees increased because a significant portion
of the fees are premium-based or are based upon net amount at risk. At September
30, 2001, funds under management for variable universal life were $947.7
million, a decrease of $222.2 million, or 19%, from September 30, 2000. The
decrease in funds under management due to negative investment performance was
$425.2 million from September 30, 2000. Variable universal life deposits were
$252.3 million in the first nine months of 2001, an increase of 39% from the
first nine months of 2000. Variable universal life benefits and surrenders were
$24.4 million, a decrease of 6% from the first nine months of 2000.
Net investment income was $664.8 million for the nine months ended
September 30, 2001, an increase of $74.8 million, or 13%, from $590.0 million
for the comparable period in 2000, primarily the result of higher general
account assets.
Policy benefits, increase in policy liabilities and policyholder dividends
were $1,351.0 million for the nine months ended September 30, 2001, an increase
of $30.4 million, or 2.3% from $1,320.6 million for the comparable period in
2000. This increase was due primarily to higher dividends for participating
whole life, including a $10 million increase to the PDO and higher interest
credited on the guaranteed interest account of variable annuities.
Amortization of deferred policy acquisition costs was $95.3 million for the
nine months ended September 30, 2001, a decrease of $21.3 million, or 18.3%,
from $116.6 million for the comparable period in 2000. This decrease is
primarily due to lower margins from higher universal life death claims and to
the $10 million increase to the PDO for Traditional Life policies in the Closed
Block.
Other operating expenses were $222.0 million for the nine months ended
September 30, 2001, an increase of $17.6 million, or 9%, from $204.4 million for
the comparable period in 2000. This increase primarily related to increases in
compensation and related expenses due to the growth of the segment, including
additions to our staff of wholesalers, increased expenses related to technology
initiatives, the growth in WS Griffith and PFG, and the acquisition in July 2000
of Main Street Management.
-30-
INVESTMENT MANAGEMENT SEGMENT
The following table presents summary financial data relating to Investment
Management for the periods indicated.
For the Three Months For the Nine Months
Ended September, 30 Ended September, 30
--------------------------------- ------------------------------
2000 2001 2000 2001
-------------- --------------- ------------ --------------
(in millions)
Revenues:
Investment product fees................................. $ 78.9 $ 63.4 $ 246.4 $ 200.2
Net investment income................................... .7 .5 1.7 1.3
-- -- --- ---
Total revenues................................... 79.6 63.9 248.1 201.5
---- ---- ----- -----
Expenses:
Amortization of goodwill and other intangible assets 6.5 12.4 23.0 36.8
Interest expense........................................ 4.5 3.5 13.5 12.0
Other operating expenses................................ 53.6 54.4 158.6 164.6
---- ---- ----- -----
Total expenses.................................. 64.6 70.3 195.1 213.4
---- ---- ----- -----
Income (loss) from continuing operations before income
taxes, minority interest and equity in earnings of
and interest earned from investments in unconsolidated
subsidiaries......................................... 15.0 (6.4) 53.0 (11.9)
Income tax expense (benefit)............................ 7.6 (3.6) 24.7 (3.7)
Minority interest in net income of consolidated
subsidiaries......................................... 1.2 1.6 10.5 5.1
Equity in earnings of and interest earned from
investments in unconsolidated subsidiaries........... .1 1.4 2.8 3.7
-- --- --- ---
Segment after-tax operating income (loss)............... 6.3 (3.0) 20.6 (9.6)
--- ---- ---- ----
After-tax adjustments:
Net realized investment gains...................... 1.4 -- 4.9 .5
Portfolio gain..................................... -- -- 3.1 --
Loss on sublease transaction....................... -- -- (.7) --
Partnership gains.................................. -- -- -- 2.4
Litigation settlement.............................. (1.8) -- (1.8) --
Expenses of purchase of PXP minority interest...... (.7) (3.2) (.7) (49.9)
--- ---- --- -----
Total after-tax adjustments......................... (1.1) (3.2) 4.8 (47.0)
---- ---- --- -----
GAAP reported income (loss):
Income (loss) from continuing operations.......... $ 5.2 $ (6.2) $ 25.4 $ (56.6)
====== ======= ======= =======
Three Months Ended September 30, 2001 Compared To Three Months Ended
September 30, 2000
Investment product fees were $63.4 million for the three months ended
September 30, 2001, a decrease of $15.5 million, or 20%, from $78.9 million for
the comparable period in 2000. The fee decrease was primarily the result of a
decrease of $9.4 billion in average assets under management for the private
client line of business, partially offset by a $1.5 billion increase in average
assets under management for the institutional line of business. At September 30,
2001, Investment Management had $48.8 billion in assets under management, a
decrease of $6.0 billion, or 11%, from June 30, 2001 and a decrease of $13.1
billion, or 21%, from September 30, 2000. The decrease from June 30, 2001
consisted of a $5.6 billion decrease due to investment performance and net asset
outflows of $0.4 billion. The decrease from September 30, 2000 consisted of a
$15.4 billion decrease due to investment performance offset, in part, by $0.7
billion in net asset inflows, a $0.8 billion increase as a result of the Phoenix
IPO, and a $0.7 billion increase from the acquisition of a 75% interest in
Walnut Asset Management ("Walnut") in January 2001. Sales of private client
products in the third quarter of 2001 were $1.0 billion, a decrease of 31% from
the third quarter of 2000, and redemptions from existing accounts were $1.3
billion, an increase of 37% from the third quarter of 2000. Sales of
institutional accounts in the third quarter of 2001 were $1.1 billion, a
decrease of 42% from the third quarter of 2000, and withdrawals from existing
accounts were $1.2 billion, a decrease of 36% from the third quarter of 2000.
-31-
Net investment income was $0.5 million for the three months ended September
30, 2001, remaining relatively unchanged from $0.7 million for the comparable
period in 2000.
Amortization of goodwill and other intangible assets was $12.4 million for
the three months ended September 30, 2001, an increase of $5.9 million, or 91%,
from $6.5 million for the comparable period in 2000. This increase in
amortization resulted primarily from our purchase of the PXP minority interest,
the final payment of $50.0 million in September 2000 for the Engemann
acquisition, and our acquisition of a 75% interest in Walnut in January 2001.
Interest expense was $3.5 million for the three months ended September 30,
2001, a decrease of $1.0 million, or 22%, from $4.5 million for the comparable
period in 2000. The decrease was due to debt repayments beginning in June 2000,
which includes $30.0 million in the third quarter of 2001, and a 3% decrease in
the average interest rate paid on outstanding debt as compared to the same
period in 2000. There was an offsetting increase in interest expense as a result
of $100.0 million of additional borrowings under PXP's then existing credit
facilities, in January 2001, primarily to fund payments with respect to the
outstanding options and remaining convertible subordinated debentures in
connection with our purchase of the PXP minority interest, as well as the
September 2000 payment of $50.0 million as the final portion of the Engemann
purchase price.
Other operating expenses were $54.4 million for the three months ended
September 30 2001, an increase of $0.8 million, or 1%, from $53.6 million for
the comparable period in 2000. Non-compensation related costs increased $2.3
million, inclusive of increases in brokerage clearance costs of $0.8 million and
depreciation expense of $0.4 million. Offsetting the increase was a $1.5 million
decrease related to compensation, of which $1.6 million related to the
termination of PXP's profit sharing plan, effective January 1, 2001. The
decrease in compensation expense was also the result of reduced incentive
compensation for a subsidiary that, in accordance with its operating agreement,
receives compensation directly related to revenues, which declined as a result
of investment performance and net asset outflows. This decrease was offset in
part by hiring additional sales and marketing personnel in both lines of
business, the Walnut acquisition, and cost of living adjustments.
Minority interest in net income of consolidated subsidiaries was $1.6 million
for the three months ended September 30, 2001, remaining relatively unchanged
from $1.2 million in 2000.
Equity in earnings of and interest earned from investment in unconsolidated
subsidiaries was $1.4 million for the three months ended September 30, 2001, an
increase of $1.3 million from $0.1 million for the comparable period in 2000.
The increase was primarily due to our estimate of our equity in the earnings of
Aberdeen.
Nine Months Ended September 30, 2001 Compared To Nine Months Ended
September 30, 2000
Investment product fees were $200.2 million for the nine months ended
September 30, 2001, a decrease of $46.2 million, or 19%, from $246.4 million for
the comparable period in 2000. This decrease was primarily the result of
decreases of $7.6 billion and $2.0 billion in average assets under management
for the private client and institutional lines of business, respectively. Our
sale of PXP's Cleveland operations in June 2000 accounted for approximately $2.2
billion of the decrease in average institutional assets under management. At
September 30, 2001, Investment Management had $48.8 billion in assets under
management, a decrease of $7.8 billion, or 14%, from December 31, 2000 and a
decrease of $13.1 billion, or 21%, from September 30, 2000. The decrease from
December 31, 2000 consisted of a $10.4 billion decrease due to investment
performance, offset, in part, by net asset inflows of $1.1 billion, a $0.8
billion increase as a result of the Phoenix IPO and an increase of $0.7 billion
resulting from the acquisition of a 75% interest in Walnut. The decrease from
September 30, 2000 consisted of a $15.4 billion decrease due to investment
performance offset, in part, by $0.7 billion in net asset inflows, a $0.8
billion increase as a result of the Phoenix IPO, and a $0.7 billion increase
from the acquisition of a 75% interest in Walnut in January 2001. Sales of
private client products for the first nine months of 2001 were $3.8 billion, a
decrease of 17% from the same period in 2000, and redemptions from existing
accounts were $4.3 billion, an increase of 23% from the same period in 2000.
Sales of institutional accounts in the first nine months 2001 were $3.9 billion,
a decrease of 11% from the same period in 2000, and withdrawals from existing
accounts were $2.4 billion, a decrease of 61% from the same period in 2000.
Net investment income was $1.3 million for the nine months ended September
30, 2001, remaining relatively unchanged from $1.7 million for the comparable
period in 2000.
-32-
Amortization of goodwill and other intangible assets was $36.8 million for
the nine months ended September 30, 2001, an increase of $13.8 million, or 60%,
from $23.0 million for the comparable period in 2000. This increase in
amortization resulted primarily from our purchase in January 2001 of the PXP
minority interest, the final payment of $50.0 million in September 2000 for the
Engemann acquisition and our acquisition in January 2001 of a 75% interest in
Walnut.
Interest expense was $12.0 million for the nine months ended September 30,
2001, a decrease of $1.5 million, or 11%, from $13.5 million for the comparable
period in 2000. The decrease was due to debt repayments beginning in June 2000,
which includes $30.0 million in the third quarter of 2001, and a 2% decrease in
the average interest rate paid on outstanding debt as compared to the same
period in 2000. There was an offsetting increase in interest expense as a result
of $100.0 million of additional borrowings under PXP's then existing credit
facilities, in January 2001, primarily to fund payments with respect to the
outstanding options and remaining convertible subordinated debentures in
connection with our purchase of the PXP minority interest, as well as the
September 2000 payment of $50.0 million as the final portion of the Engemann
purchase price.
Other operating expenses were $164.6 million for the nine months ended
September 30, 2001, an increase of $6.0 million, or 4%, from $158.6 million for
the comparable period in 2000, of which $2.3 million resulted from an increase
in compensation expense, primarily the result of hiring additional sales and
marketing personnel in both lines of business, the Walnut acquisition, increases
in staffing and base compensation as the result of the growth of certain
investment management subsidiaries, and cost of living adjustments. These
increases were offset, in part, by reduced incentive compensation for one
subsidiary that, in accordance with its operating agreement, receives
compensation directly related to revenues, which declined as a result of
investment performance. In addition, a decrease of $3.1 million was related to
the termination of PXP's profit sharing plan effective January 1, 2001.
Non-compensation related costs increased $5.7 million, of which consulting
charges increased $2.2 million and computer charges increased $1.5 million as a
result of various information technology initiatives. Brokerage clearance costs
increased $2.8 million (with a corresponding increase in revenue), and
professional fees increased $0.9 million as a result of various legal matters.
Certain mutual fund expenses decreased $1.3 million primarily as a result of a
change in the method of reimbursing fund expenses, which change also reduced
revenue.
Minority interest in net income of consolidated subsidiaries was $5.1
million for the nine months ended September 30, 2001, a decrease of $5.4
million, or 51%, from $10.5 million for the comparable period in 2000, due
primarily to our purchase of the PXP minority interest in January 2001. Equity
in earnings of and interest earned from investment in unconsolidated
subsidiaries was $3.7 million for the nine months ended September 30, 2001, an
increase of $0.9 million, or 32%, from $2.8 million for the comparable period in
2000, due primarily to our estimate of our equity in the earnings of Aberdeen.
VENTURE CAPITAL SEGMENT
Our investments in Venture Capital are primarily in the form of limited
partner interests in venture capital funds, leveraged buyout funds and other
private equity partnerships sponsored and managed by third parties. We refer to
all of these types of investments as venture capital.
We record our investments in venture capital partnerships in accordance
with the equity method of accounting. Our pro rata share of the earnings or
losses of the partnerships, which represent realized and unrealized investment
gains and losses, as well as operations of the partnership, is included in our
investment income. We record our share of the net equity in earnings of the
venture capital partnerships in accordance with GAAP, using the most recent
financial information received from the partnerships. Historically, this
information has been provided to us on a one-quarter lag. In the first quarter
of 2001, we changed our method of applying the equity method of accounting to
eliminate the quarterly lag in reporting.
In the first quarter of 2001, we recorded a charge of $48.8 million (net of
income taxes of $26.3 million) representing the cumulative effect of this
accounting change on the fourth quarter of 2000. The cumulative effect was based
on the actual fourth quarter 2000 financial results as reported by the
partnerships.
In the first quarter of 2001, we removed the lag in reporting by estimating
the change in our share of the net equity in earnings of the venture capital
partnerships for the period from December 31, 2000, the date of the most recent
financial information provided by the partnerships, to our then current
reporting date of March 31, 2001. To estimate the net equity in earnings of the
venture capital partnerships for each quarter, we developed a methodology to
estimate the change in value of the underlying investee companies in the venture
capital partnerships. For public investee companies, we used quoted market
prices at the end of each quarter, applying liquidity discounts to these prices
in instances where such discounts were applied in the underlying partnerships'
financial statements. For private investee companies, we applied a public
industry sector index to roll the value forward for each quarter. Using this
methodology, our share of equity losses from the partnerships decreased income
from continuing operations by $37.3 million (net of income taxes of $20.0
million) for the first quarter 2001. We will apply this methodology consistently
each quarter with subsequent adjustments to reflect market events reported by
the partnerships (e.g., new rounds of financing, initial public offerings and
writedowns by the general partners). In addition, we will annually revise the
valuations we have assigned to the investee companies to reflect the valuations
contained in the audited financial statements received from the venture capital
partnerships. Our venture capital earnings remain subject to volatility.
Income taxes are provided for at the statutory rate of 35%.
The following table presents summary financial data relating to Venture
Capital for the periods indicated.
For the Three Months For the Nine Months
Ended September, 30 Ended September, 30
--------------------------------- ------------------------------
2000 2001 2000 2001
-------------- --------------- ------------ --------------
(in millions)
Revenues:
Net investment income (loss)......................... $ 15.2 $ (48.4) $ 268.6 $ (100.2)
-------------- --------------- ------------ --------------
Operating income (loss) before income taxes.......... 15.2 (48.4) 268.6 (100.2)
Expenses:
Income tax expense (benefit)......................... 5.3 (17.0) 94.0 (35.1)
-------------- --------------- ------------ --------------
Segment after-tax operating income (loss)(1)...... $ 9.9 $ (31.4) $ 174.6 $ (65.1)
============== =============== ============ ==============
(1) Excludes the charge of $48.8 million representing the cumulative effect of
an accounting change in the first quarter of 2001, as described above.
Three Months Ended September 30, 2001 Compared To Three Months Ended
September 30, 2000
Net investment loss from venture capital partnerships was $48.4 million for
the three months ended September 30, 2001, a decrease of $63.6 million, or 418%,
from net investment income of $15.2 million income for the comparable period in
2000. Gains from the partnerships' dispositions of stocks decreased $57.2
million and appreciation on the portfolio stocks held in partnerships decreased
$6.3 million in 2001. This segment's results are primarily driven by equity
market performance, particularly in the technology sector. This sector produced
less favorable returns in the third quarter of 2001 compared to the comparable
period in 2000.
Nine Months Ended September 30, 2001 Compared To Nine Months Ended
September 30, 2000
Net investment loss from venture capital partnerships was $100.2 million
for the nine months ended September 30, 2001, a decrease of $368.8 million, or
137%, from net investment income of $268.6 million for the comparable period in
2000. Gains from the partnerships' dispositions of stocks decreased $165.4
million and appreciation on the portfolio stocks held in partnerships decreased
$202.1 million in 2001. This segment's results are primarily driven by equity
market performance, particularly in the technology sector. This sector produced
very favorable returns in the first nine months of 2000 but suffered significant
declines during the first nine months of 2001.
-34-
CORPORATE AND OTHER SEGMENT
The following table presents summary financial data relating to Corporate
and Other for the periods indicated.
For the Three Months For the Nine Months
Ended September, 30 Ended September, 30
--------------------------------- ------------------------------
2000 2001 2000 2001
-------------- --------------- ------------ --------------
(in millions)
Revenues:
Insurance and investment product fees................ $ 8.2 $ 2.8 $ 20.5 $ 9.4
Net investment income................................ 9.1 7.6 22.6 8.4
-------------- --------------- ------------ --------------
Total revenues................................ 17.3 10.4 43.1 17.8
-------------- --------------- ------------ --------------
Expenses:
Policy benefits and increase in policy liabilities... 3.1 2.4 9.4 7.4
Interest expense..................................... 3.5 2.9 10.2 9.1
Other operating expenses............................. 34.1 4.5 66.8 33.1
-------------- --------------- ------------ --------------
Total expenses............................... 40.7 9.8 86.4 49.6
-------------- --------------- ------------ --------------
Operating loss before income taxes, minority interest
and equity in earnings of and interest earned from
investments in unconsolidated subsidiaries...... (23.4) .6 (43.3) (31.8)
Income tax (benefit) expense......................... (15.3) 1.8 (24.4) (18.1)
Equity in earnings of and interest earned from
Investments in unconsolidated subsidiaries....... .8 .8 2.4 2.3
-------------- --------------- ------------ --------------
Segment after-tax operating loss ..................... (7.3) (.4) (16.5) (11.4)
After-tax adjustments:
Net realized investment gains (losses)........... 13.4 (10.4) 48.8 (19.9)
Early retirement pension adjustment.............. -- -- -- (11.3)
Pension adjustment............................... -- 2.9 -- 2.9
Demutualization expense.......................... (4.3) (3.9) (6.0) (22.9)
Surplus tax...................................... 1.0 21.0 (4.7) 21.0
-------------- --------------- ------------ --------------
Total after-tax adjustments................... 10.1 9.6 38.1 (30.2)
-------------- --------------- ------------ --------------
GAAP reported income (loss):
Income (loss) from continuing operations......... $ 2.8 $ 9.2 $ 21.6 $ (41.6)
============== =============== ============ ==============
Three Months Ended September 30, 2001 Compared To Three Months Ended
September 30, 2000
Insurance and investment product fees were $2.8 million for the three
months ended September 30, 2001, a decrease of $5.4 million, or 66%, from $8.2
million for the comparable period in 2000, primarily due to the decision to exit
our physician practice management business, in the third quarter of 2000.
Net investment income consists of income from invested assets not allocated
to other segments. Net investment income was $7.6 million for the three months
ended September 30, 2001, a decrease of $1.5 million, or 16%, from $9.1 million
for the comparable period in 2000, primarily the result of the sale of assets to
fund the purchase of minority interests in PXP in January 2001, partially offset
by the earnings on the IPO proceeds.
Policy benefits and increase in policy liabilities were $2.4 million for
the three months ended September 30, 2001, a decrease of $0.7 million, or 23%,
from $3.1 million for the comparable period in 2000, due primarily to a decrease
in reserves related to the group pension business. Interest expense was $2.9
million for the three months ended September 30, 2001, a decrease of $0.6
million, or 17%, from $3.5 million for the comparable period in 2000, primarily
as a result of lower borrowings.
Other operating expenses were $4.5 million for the three months ended
September 30, 2001, a decrease of $29.6 million, or 87%, from $34.1 million for
the comparable period in 2000, due to lower compensation, primarily incentive
compensation, and expenses related to our decision to exit our physicians
practice management business in the third quarter of 2000.
Nine Months Ended September 30, 2001 Compared To Nine Months Ended
September 30, 2000
Insurance and investment product fees were $9.4 million for the nine months
ended September 30, 2001, a decrease of $11.1 million, or 54%, from $20.5
million for the comparable period in 2000, primarily due to our decision to exit
our physician practice management business in the third quarter of 2000.
Net investment income consists of income from invested assets not allocated
to other segments. Net investment income was $8.4 million for the nine months
ended September 30, 2001, a decrease of $14.2 million, or 63%, from $22.6
million for the comparable period in 2000, primarily the result of the sale of
assets to fund the purchase of minority interests in PXP in January 2001,
partially offset by the earnings on the IPO proceeds.
Policy benefits were $7.4 million for the nine months ended September 30,
2001, a decrease of $2.0 million, or 21%, from $9.4 million for the comparable
period in 2000, due primarily to a decrease in reserves related to the group
pension business.
-35-
Interest expense was $9.1 million for the nine months ended September 30,
2001, a decrease of $1.1 million, or 11%, from $10.2 million for the comparable
period in 2000, primarily as a result of lower borrowings.
Other operating expenses were $33.1 million for the nine months ended
September 30, 2001, a decrease of $33.7 million, or 50%, from $66.8 million for
the comparable period in 2000, primarily due to decreases of $9.5 million in
compensation and related expenses and our decision to exit our physicians
practice management business in the third quarter of 2000.
LIQUIDITY AND CAPITAL RESOURCES
Liquidity refers to the ability of a company to generate sufficient cash
flow to meet its cash requirements. The following discussion combines liquidity
and capital resources as these subjects are interrelated. Consistent with the
discussion of our results of operations, we discuss liquidity and capital
resources on both consolidated and segment bases.
THE PHOENIX COMPANIES, INC.
Our primary uses of liquidity include the payment of dividends on our
common stock, loans or contributions to our subsidiaries, debt service and the
funding of our general corporate expenses.
Our primary source of liquidity is dividends from Phoenix Life. Based on
the historic cash flows and the current financial results of Phoenix Life, and
subject to any dividend limitations which may be imposed upon Phoenix Life or
any of its subsidiaries by regulatory authorities, we believe that cash flows
from Phoenix Life's operating activities will be sufficient to enable us to make
dividend payments on our common stock, pay our operating expenses, service our
outstanding debt, make contributions to our subsidiaries and meet our other
obligations. In addition, we have a master credit facility under which we have
direct borrowing rights, as do Phoenix Life and PXP with our unconditional
guarantee.
Under the New York Insurance Law, the ability of Phoenix Life to pay
stockholder dividends to us in any calendar year in excess of the lesser of:
(1) 10% of Phoenix Life's surplus to policyholders as of the immediately
preceding calendar year; or
(2) Phoenix Life's statutory net gain from operations for the immediately
preceding calendar year, not including realized capital gains,
is subject to the discretion of the New York Superintendent of Insurance.
The dividend limitation imposed by the New York Insurance Law is based on
the statutory financial results of Phoenix Life. Statutory accounting practices
differ in certain respects from accounting principles used in financial
statements prepared in conformity with GAAP. The significant differences relate
to deferred acquisition costs, deferred income taxes, required investment
reserves, reserve calculation assumptions and surplus notes.
We do not expect to receive significant dividend income from PXP for
several years, because we expect that during this time PXP will use a
substantial portion of its cash flows from operations to pay down its
outstanding debt.
On September 17, 2001, we announced a plan to repurchase up to an aggregate
of six million shares of the company's outstanding common stock. Purchases have
been made on the open market and could be made as well in negotiated
transactions, subject to market prices and other conditions. No time limit was
placed on the duration of the repurchase program which may be modified, extended
or terminated by the board of directors at any time. As of September 30, 2001,
2,997,500 shares of the company's common stock had been repurchased at a total
cost of $42.6 million.
Available-for-sale debt securities at September 30, 2001 and December 31,
2000 were $7,076.7 million and $5,949.0 million, respectively, an increase of
$1,127.7 million or 19%. The increase was due to investments of our IPO proceeds
and the decline in interest rates since December 31, 2000 which has resulted in
higher bond valuations.
-36-
PHOENIX LIFE
Phoenix Life's liquidity requirements principally relate to: the
liabilities associated with its various life insurance and annuity products; the
payment of dividends to us; operating expenses; and contributions to
subsidiaries. Phoenix Life's liabilities arising from its life insurance and
annuity products include the payment of benefits, as well as cash payments in
connection with policy surrenders, withdrawals and loans. Phoenix Life also has
liabilities arising from the runoff of the remaining group accident and health
reinsurance discontinued operations.
Historically, Phoenix Life has used cash flow from operations and
investment activities to fund its liquidity requirements. Phoenix Life's
principal cash inflows from its life insurance and annuities activities come
from premiums, annuity deposits and charges on insurance policies and annuity
contracts, as well as dividends and distributions from subsidiaries. Phoenix
Life's principal cash inflows from its investment activities result from
repayments of principal, proceeds from maturities, sales of invested assets and
investment income.
Additional sources of liquidity to meet unexpected cash outflows are
available from Phoenix Life's portfolio of liquid assets. These liquid assets
include substantial holdings of U.S. government and agency bonds, short-term
investments and marketable debt and equity securities. The cash Phoenix Life
received as consideration for the transfer of shares of common stock of PXP and
other subsidiaries following the demutualization was a non-recurring source of
liquidity. Pursuant to the plan of reorganization, this cash payment was $659.8
million.
Phoenix Life's current sources of liquidity also include a master credit
facility under which Phoenix Life has direct borrowing rights, subject to our
unconditional guarantee (see "Debt Financing"). Following the demutualization,
Phoenix Life no longer has access to the cash flows generated by the closed
block assets for any purpose other than funding the closed block.
On September 11, 2001, terrorists attacked the United States of America,
causing significant property damage and thousands of deaths. This event has
resulted in significant claims exposure to the insurance industry. Total pretax
claim costs related to September 11 were $4.6 million, net of reinsurance, of
which $2.5 million fell to the bottom line and $2.1 million were absorbed by the
closed block.
A primary liquidity concern with respect to life insurance and annuity
products is the risk of early policyholder and contractholder withdrawal.
Phoenix Life closely monitors its liquidity requirements in order to match cash
inflows with expected cash outflows, and employs an asset/liability management
approach tailored to the specific requirements of each product line, based upon
the return objectives, risk tolerance, liquidity, tax and regulatory
requirements of the underlying products. In particular, Phoenix Life maintains
investment programs generally intended to provide adequate funds to pay benefits
without forced sales of investments. Products having liabilities with relatively
long lives, such as life insurance, are matched with assets having similar
estimated lives, such as long-term bonds, private placement bonds and mortgage
loans. Shorter-term liabilities are matched with investments such as short-term
and medium-term fixed maturities.
The following table summarizes Phoenix Life's annuity contract reserves and
deposit fund liabilities in terms of contractholders' ability to withdraw funds
for the indicated periods:
Withdrawal Characteristics of Annuity Contract
Reserves and Deposit Fund Liabilities(1)
As of As of
December 31, September 30,
2000 2001
-------------------- --------------------
Amount % Amount %
------ - ------ -
(dollars in millions)
Not subject to discretionary
withdrawal provisions............. $ 182.8 4% $ 177.0 4%
Subject to discretionary withdrawal
without adjustment.............. 688.3 14 724.3 16
With market value adjustment...... 17.2 -- 232.0 5
Subject to discretionary withdrawal
at contract value less surrender charge 173.9 3 337.5 7
Subject to discretionary withdrawal
at market value................... 4,041.5 79 3,070.9 68
-------- --- ------- -------
Total annuity contract reserves and
deposit fund liability.......... $5,103.7 100% $4,541.7 100%
======== ========
- - ----------
(1) Data are reported on a statutory basis, which more accurately reflects the
potential cash outflows. Data include variable product liabilities. Annuity
contract reserves and deposit fund liabilities are monetary amounts that an
insurer must have available to provide for future obligations with respect
to its annuities and deposit funds. These are liabilities on the balance
sheet of financial statements prepared in conformity with statutory
accounting practices. These amounts are at least equal to the values
available to be withdrawn by policyholders.
-37-
Individual life insurance policies are less susceptible to withdrawals than
are annuity contracts because policyholders may incur surrender charges and be
required to undergo a new underwriting process in order to obtain a new
insurance policy. As indicated in the table above, most of Phoenix Life's
annuity contract reserves and deposit fund liabilities are subject to
withdrawals.
Individual life insurance policies, other than term life insurance
policies, increase in cash values over their lives. Policyholders have the right
to borrow from Phoenix Life an amount generally up to the cash value of their
policies at any time. As of September 30, 2001, Phoenix Life had approximately
$10.2 billion in cash values with respect to which policyholders had rights to
take policy loans. The majority of cash values eligible for policy loans are at
variable interest rates that are reset annually on the policy anniversary.
Phoenix Life's policy loans have remained consistent since 1998, at
approximately $2.1 billion.
The primary liquidity concerns with respect to Phoenix Life's cash inflows
from its investment activities are the risks of default by debtors, interest
rate and other market volatility and potential illiquidity of investments.
Phoenix Life closely monitors and manages these risks.
We believe that Phoenix Life's current and anticipated sources of liquidity
are adequate to meet its present and anticipated needs.
PXP
PXP's liquidity requirements are primarily to fund operating expenses and
repay outstanding debt. PXP also will require liquidity to fund the costs of any
future acquisitions. Historically, PXP's principal source of liquidity has been
cash flows from operations. We expect that cash flow from operations will
continue to be PXP's principal source of working capital for the foreseeable
future. PXP, together with Phoenix and Phoenix Life, has entered into a master
credit facility. Under this facility, PXP has direct borrowing rights, subject
to Phoenix's unconditional guarantee. See "--Debt Financing -- Master Credit
Facility." We believe that PXP's current and anticipated sources of liquidity
are adequate to meet its present and anticipated needs.
Debt Financing
PHOENIX
As of September 30, 2001, Phoenix had no debt outstanding (not including
the indebtedness of Phoenix Life and PXP described below under "Phoenix Life"
and "PXP," respectively).
Master Credit Facility. In June 2001, Phoenix, Phoenix Life and PXP entered
into a $375 million revolving credit facility that matures on June 10, 2005.
Bank of Montreal is the administrative agent for this credit facility. Each of
Phoenix, Phoenix Life and PXP has direct borrowing rights under this credit
facility. Phoenix unconditionally guarantees loans to Phoenix Life and PXP. Base
rate loans bear interest at the greater of the Bank of Montreal's prime
commercial rate or the effective federal funds rate plus 0.5%. Eurodollar rate
loans bear interest at LIBOR plus an applicable margin. The credit agreement
contains customary financial and operating covenants that include, among other
provisions, requirements that Phoenix maintain a minimum stockholders' equity
and a maximum debt to capitalization ratio; that Phoenix Life maintain a minimum
risk based capital ratio and a minimum financial strength ratings; 0and that PXP
maintain a maximum debt to capitalization ratio and a minimum stockholders'
equity.
PHOENIX LIFE
As of September 30, 2001, Phoenix Life had $175.0 million of debt
outstanding, but none under the master credit facility.
Surplus Notes. In November 1996, Phoenix Life issued $175 million principal
amount of 6.95% surplus notes due December 1, 2006. Each payment of interest on
principal of the notes requires the prior approval of the New York
Superintendent of Insurance and may be made only out of surplus funds which the
Superintendent determines to be available for such payment under the New York
Insurance Law. The notes contain neither financial covenants nor early
redemption provisions and are to rank pari passu with any subsequently issued
surplus, capital or contribution notes or similar obligations of Phoenix Life.
Section 1307 of the New York Insurance Law provides that the notes are not part
of the legal liabilities of Phoenix Life and are not a basis of any set-off
against Phoenix Life.
-38-
PXP
As of September 30, 2001, PXP had $344.2 million of debt outstanding,
including:
Phoenix Life Subordinated Note. In exchange for the debentures held by it,
Phoenix Life agreed to accept from PXP, in lieu of cash, a $68.6 million
subordinated note due 2006, bearing interest annually at the rate of LIBOR plus
200 basis points.
PXP also has commitments with unrelated third parties whereby the third
parties fund commissions paid by PXP upon the sale of Class B share mutual
funds.
PXP drew down $305.0 million under the master credit facility on June 11,
2001 to repay the amounts outstanding under PXP's prior credit facilities. As of
September 30, 2001, PXP had $275.0 million of outstanding debt under this
facility.
Reinsurance. We maintain life reinsurance programs designed to protect
against large or unusual losses in our life insurance business. Based on our
review of our life reinsurers' financial statements and reputations in the
reinsurance marketplace, we believe that our life reinsurers are financially
sound and, therefore, that we have no material exposure to uncollectable life
reinsurance.
Risk Based Capital. Section 1322 of the New York Insurance Law requires
that New York life insurers report their risk based capital ("RBC"). RBC is
based on a formula calculated by applying factors to various asset, premium and
statutory reserve items. The formula takes into account the risk characteristics
of the insurer, including asset risk, insurance risk, interest rate risk and
business risk. Section 1322 gives the New York Superintendent of Insurance
explicit regulatory authority to require various actions by, or take various
actions against, insurers whose total adjusted capital does not exceed certain
RBC levels. As of December 31, 2000, Phoenix Life's total adjusted capital was
in excess of each of these RBC levels. Each of the U.S. insurance subsidiaries
of Phoenix Life is also subject to these same RBC requirements. As of December
31, 2000, the total adjusted capital of each of these insurance subsidiaries was
in excess of each of their respective RBC levels.
Net Capital Requirements. Phoenix Equity Planning Corporation ("PEPCO"),
PXP Securities Corp. ("PSC") and Rutherford, each of which is a wholly owned
subsidiary of PXP, PHOENIXLINK Investments, Inc. ("PHOENIXLINK") and PFG
Distribution Company, both of which are subsidiaries of Phoenix Life, and Main
Street Management and W.S. Griffith, both of which are subsidiaries of Phoenix
Distribution Management Company, are each subject to the net capital
requirements imposed on registered broker-dealers by the Securities Exchange Act
of 1934 (the "Exchange Act"). Each of them is also required to maintain a ratio
of aggregate indebtedness to net capital that does not exceed 15 to 1. The
following are the net capital, as defined in the Exchange Act, regulatory
minimum and ratio of aggregate indebtedness, as defined in the Exchange Act, to
net capital for each of these broker-dealers, as of September 30, 2001:
o PEPCO had net capital of approximately $11.0 million. This amount
exceeded PEPCO's regulatory minimum of $0.7 million. The ratio of
aggregate indebtedness to net capital for PEPCO was 0.94 to 1.
o PSC had net capital of approximately $0.9 million. This amount exceeded
PSC's regulatory minimum of $36,950. The ratio of aggregate indebtedness
to net capital for PSC was 0.59 to 1.
o Main Street Management had net capital of approximately $0.5 million.
This amount exceeded Main Street Management's regulatory minimum of
$49,367. The ratio of aggregate indebtedness to net capital for Main
Street Management was 1.4 to 1.
o PHOENIXLINK had net capital of approximately $35,000. This amount
exceeded PHOENIXLINK's regulatory minimum of $5,000. The ratio of
aggregate indebtedness to net capital for PHOENIXLINK was 0 to 1.
o PFG Distribution Company had net capital of approximately $8,660. This
amount exceeded PFG Distribution Company's regulatory minimum of $5,000.
The ratio of aggregate indebtedness to net capital for PFG Distribution
Company was 3.5 to 1.
o W.S. Griffith had net capital of approximately $2.1 million. This amount
exceeded W.S. Griffith's regulatory minimum of $0.4 million. The ratio
of aggregate indebtedness to net capital for W.S. Griffith was 3.09 to
1.
o Rutherford had net capital of approximately $0.8 million. This amount
exceeded Rutherford's regulatory minimum of $0.1 million. The ratio of
aggregate indebtedness to net capital for Rutherford was 0.06 to 1.
-39-
CONSOLIDATED CASH FLOWS
Net cash provided by (used for) operating activities of continuing
operations was $23.0 million and $(1.3) million for the three months ended
September 30, 2000 and 2001, respectively, and $255.4 million and $287.4 million
for the nine months ended September 30, 2000 and 2001, respectively. The
decrease for the three months ended September 30, 2001 over the comparable
period in 2000 resulted primarily from lower insurance and investment product
fees. The increase for the nine month period during 2001 over the comparable
period in 2000 resulted primarily from a reduction in estimated income tax
payments in 2001, refunds in 2001 of estimated income taxes paid in prior years
and lower benefits paid to policyholders primarily in the closed block.
Net cash provided by (used for) operating activities of discontinued
operations was $15.3 million and $(17.4) million for the three months ended
September 30, 2000 and 2001, respectively, and $(233.8) million and $(53.0)
million for the nine months ended September 30, 2000 and 2001, respectively. The
decrease in cash provided by operating activities for the three months ended
September 30, 2001 over the comparable period of 2000 resulted primarily from
lower collection of reinsurance recoverables by our reinsurance discontinued
operations in the current quarter. The decrease in cash used for the nine month
period during 2001 over the comparable period in 2000 resulted primarily from
the cash payout by our reinsurance discontinued operations in the prior year
which was more significant than the payout in the current year. The cash used in
2000 resulted primarily from cash settlements to several of the companies
involved in Unicover, which is associated with the runoff of our group accident
and health reinsurance block, plus the remaining operating activities of our
discontinued operations.
Net cash used for investing activities of continuing operations was $90.2
million and $605.6 million for the three months ended September 30, 2000 and
2001, respectively, and $421.5 million and $505.8 million for the nine months
ended September 30, 2000 and 2001, respectively. The increase in net cash used
for investing activities for the three and nine months ended September 30, 2001
over the comparable periods in 2000 resulted primarily from the sale of
investments to meet operating cash flow needs.
Net cash (used for) provided by investing activities of discontinued
operations was $(10.6) million and $17.4 million for the three months ended
September 30, 2000 and 2001, respectively, and $234.2 million and $55.4 million
for the nine months ended September 30, 2000 and 2001, respectively. The
increase for the three months ended September 30, 2001 over the comparable
period in 2000 was due to the sale of investments to meet operating cash flow
needs of our discontinued operations. The decrease for the nine month period
during 2001 over the comparable period in 2000 resulted primarily from the sale
of our group life and health business in 2000.
Net cash provided by financing activities of continuing operations was
$73.4 million and $188.7 million for the three months ended September 30, 2000
and 2001, respectively, and $66.8 million and $647.0 million for the nine months
ended September 30, 2000 and 2001, respectively. The increase for the three
months ended September 30, 2001 compared to the three months ended September 30,
2000 resulted primarily from the deposits of policyholder deposit funds and
additional common stock issued, partially offset by a repayment of bank
borrowing and a buyback of treasury stock. The increase for the nine month
period during 2001 over the comparable period in 2000 resulted primarily from
the proceeds received from the issuance of common stock, the deposits of
policyholder deposit funds and a decrease in bank borrowing, partially offset by
distributions to minority stockholders and payments to eligible policyholders.
ITEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
MARKET RISK EXPOSURES AND RISK MANAGEMENT
We must effectively manage, measure and monitor the market risk generally
associated with our insurance and annuity business and, in particular, our
commitment to fund insurance liabilities. We developed an integrated process for
managing risk, which we conduct through our Corporate Portfolio Management
Department, Corporate Actuarial Department and additional specialists at the
business segment level. These groups confer with each other regularly. We
implemented comprehensive policies and procedures at both the corporate and
business segment level to minimize the effects of potential market volatility.
Market risk is the risk that we will incur losses due to adverse changes in
market rates and prices. We have exposure to market risk through our insurance
operations and our investment activities. Our primary market risk exposure is to
changes in interest rates, although we also have exposures to changes in equity
prices and foreign currency exchange rates. We also have credit risks in
connection with our derivative contracts.
-40-
INTEREST RATE RISK
Interest rate risk is the risk that we will incur economic losses due to
adverse changes in interest rates. Our exposure to interest rate changes
primarily results from our commitment to fund interest-sensitive insurance
liabilities, as well as from our significant holdings of fixed rate investments.
Our insurance liabilities are largely comprised of dividend-paying individual
whole life and universal life policies. Our fixed maturity investments include
U.S. and foreign government bonds, securities issued by government agencies,
corporate bonds, asset-backed securities, mortgage-backed securities and
mortgage loans, most of which are mainly exposed to changes in medium-term and
long-term U.S. Treasury rates.
We manage interest rate risk as part of our asset/liability management
process and product design procedures. Asset/liability strategies include the
segmentation of investments by product line and the construction of investment
portfolios designed to specifically satisfy the projected cash needs of the
underlying product liability. We manage the interest rate risk inherent in our
assets relative to the interest rate risk inherent in our insurance products. We
identify potential interest rate risk in portfolio segments by modeling asset
and product liability durations and cash flows under current and projected
interest rate scenarios.
One of the key measures we use to quantify this interest rate exposure is
duration. Duration is one of the most significant measurement tools in measuring
the sensitivity of the fair value of assets and liabilities to changes in
interest rates. For example, if interest rates increase by 100 basis points, or
1%, the fair value of an asset with a duration of five years is expected to
decrease in value by 5%. We believe that as of December 31, 2000 and September
30, 2001, our asset and liability portfolio durations were well matched,
especially for the largest segments of our balance sheet (i.e., whole life and
universal life). Since our insurance products have variable interest rates
(which expose us to the risk of interest rate fluctuations), we regularly
undertake a sensitivity analysis that calculates liability durations under
various cash flow scenarios.
The selection of a 100 basis point immediate, parallel increase or decrease
in interest rates is a hypothetical rate scenario used to demonstrate potential
risk. While a 100 basis point immediate, parallel increase or decrease does not
represent our view of future market changes, it is a reasonably possible
hypothetical near-term change that illustrates the potential impact of such
events. Although these fair value measurements provide a representation of
interest rate sensitivity, they are based on our portfolio exposures at a point
in time and may not be representative of future market results. These exposures
will change as a result of ongoing portfolio transactions in response to new
business, management's assessment of changing market conditions and available
investment opportunities.
To calculate duration, we project asset and liability cash flows and
discount them to a net present value using a risk-free market rate adjusted for
credit quality, sector attributes, liquidity and any other relevant specific
risks. Duration is calculated by revaluing these cash flows at an alternative
level of interest rates and by determining the percentage change in fair value
from the base case.
We also employ product design and pricing strategies to manage interest
rate risk. Product design and pricing strategies include the use of surrender
charges or restrictions on withdrawals in some products.
The tables below show the interest rate sensitivity of our fixed income
financial instruments measured in terms of fair value for the periods indicated.
Given that our asset and liability portfolio durations were well matched for the
periods indicated, it is expected that market value gains or losses in assets
would be largely offset by corresponding changes in liabilities.
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As of December 31, 2000
-----------------------
Fair Value
Book -100 Basis As of +100 Basis
Value Point Change 12/31/00 Point Change
---------- ----------------- ---------------- ---------------
(in millions)
Cash and short term investments $ 660.9 $ 661.5 $ 660.9 $ 660.4
Floating rate notes 193.0 193.3 193.1 192.8
Long term bonds 7,918.4 8,519.8 8,063.5 7,641.7
Commercial mortgages 593.4 612.7 589.1 567.4
---------- --------- ---------- ---------
Total $ 9,365.7 $ 9,987.3 $ 9,506.6 $ 9,062.3
========== ========= ========== =========
As of September 30, 2001
-------------------------
Fair Value
Book -100 Basis As of +100 Basis
Value Point Change 9/30/01 Point Change
---------- ----------------- --------------- ---------------
(in millions)
Cash and short term investments $ 430.9 $ 431.2 $ 430.9 $ 430.5
Floating rate notes 145.3 147.9 145.9 143.9
Long term bonds 9,187.4 9,853.7 9,359.6 8,886.3
Commercial mortgages 542.5 551.7 531.2 511.5
-------- -------- -------- -------
Total $ 10,306.1 $10,984.5 $10,467.6 $9,972.2
=========== ======== ======== =======
With respect to our residual exposure to fluctuations in interest rates, we
use various derivative financial instruments to manage such exposure to
fluctuations in interest rates, including interest rate swap agreements,
interest rate caps, interest rate floors, interest rate swaptions and foreign
currency swap agreements. To reduce counterparty credit risks and diversify
counterparty exposure, we enter into derivative contracts only with highly rated
financial institutions.
We enter into interest rate swap agreements to reduce market risks from
changes in interest rates. We do not enter into interest rate swap agreements
for trading purposes. Under interest rate swap agreements, we exchange cash
flows with another party, at specified intervals, for a set length of time based
on a specified notional principal amount. Typically, one of the cash flow
streams is based on a fixed interest rate set at the inception of the contract,
and the other is based on a variable rate that periodically resets. Generally,
no premium is paid to enter into the contract and neither party makes payment of
principal. The amounts to be received or paid on these swap agreements are
accrued and recognized in net investment income.
We enter into interest rate floor, cap and swaption contracts for our
assets and our insurance liabilities as a hedge against substantial changes in
interest rates. We do not enter into such contracts for trading purposes.
Interest rate floor and interest rate cap agreements are contracts with a
counterparty which require the payment of a premium and give us the right to
receive, over the term of the contract, the difference between the floor or cap
interest rate and a market interest rate on specified future dates based on an
underlying notional principal. Swaption contracts are options to enter into an
interest rate swap transaction on a specified future date and at a specified
interest rate. Upon the exercise of a swaption, we receive either a swap
agreement at the pre-specified terms or cash for the market value of the swap.
We pay the premium for these instruments on a quarterly basis over the term of
the contract and recognize these payments in computing net investment income.
The tables below show the interest rate sensitivity of our interest rate
derivatives measured in terms of fair value for the periods indicated. These
exposures will change as our insurance liabilities are created and discharged
and as a result of ongoing portfolio and risk management activities.
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As of December 31, 2000
-----------------------------------------------------------------------------------------
Fair Value
Weighted -----------------------------------------------------
Notional Average Term -100 Basis As of +100 Basis
Amount (Years) Point Change 12/31/00 Point Change
------ ------- ------------ -------- ------------
(in millions except for weighted average term)
Interest rate floors $ 110.0 7.9 $ 1.1 $(0.1) $(0.4)
Interest rate swaps 453.0 7.5 15.6 7.9 1.1
Interest rate caps 50.0 7.8 (0.3) -- 0.9
------- ----- ----- -----
Total $ 613.0 $16.4 $ 7.8 $ 1.6
======= ===== ===== =====
As of September 30, 2001
---------------------------------------------------------------------------------------
Fair Value
Weighted ---------------------------------------------------
Notional Average Term -100 Basis As of +100 Basis
Amount (Years) Point Change 9/30/01 Point Change
------ ------- ------------ ------- ------------
(in millions except for weighted average term)
Interest rate floors $ 110.0 1.7 $ 2.2 $ 0.7 $ 0.1
Interest rate swaps 461.3 6.3 21.4 15.6 9.8
Interest rate caps 50.0 6.7 (0.3) 0.1 0.8
---- ----- ------- ------- ---
Total $ 621.3 $23.3 $16.4 $10.7
======= ===== ===== =====
EQUITY RISK
Equity risk is the risk that we will incur economic losses due to adverse
changes in equity prices. Our exposure to changes in equity prices primarily
results from our commitment to fund our variable annuity and variable life
products, as well as from our holdings of common stocks, mutual funds and other
equities. We manage our insurance liability risks on an integrated basis with
other risks through our liability and risk management and capital and other
asset allocation strategies. We also manage equity price risk through industry
and issuer diversification and asset allocation techniques. We held $335.5
million and $262.8 million in equities on our balance sheet as of December 31,
2000 and September 30, 2001, respectively. A 10% decline in the relevant equity
price would decrease the value of these assets by approximately $34 million and
$26 million as of December 31, 2000 and September 30, 2001, respectively.
Conversely, a 10% increase in the relevant equity price would increase the value
of these assets by approximately $34 million and $26 million as of December 31,
2000 and September 30, 2001, respectively.
FOREIGN EXCHANGE RISKS
Foreign exchange risk is the risk that we will incur economic losses due to
adverse changes in foreign currency exchange rates. Our functional currency is
the U.S. dollar. Our exposure to fluctuations in foreign exchange rates against
the U.S. dollar results from our holdings in non-U.S. dollar-denominated fixed
maturity securities and equity securities and through our investments in foreign
subsidiaries and affiliates. The principal currency that creates foreign
exchange rate risk for us is the British pound sterling, due to our investment
in Aberdeen.
We partially mitigate this risk by using foreign currency swaps, which are
agreements designed to hedge against fluctuations in foreign currency exposure.
Under this type of agreement, we agree to exchange with another party principal
and periodic interest payments denominated in foreign currency for payments
denominated in U.S. dollars. The amounts to be received or paid on a foreign
currency swap agreement are recognized in net investment income. As of December
31, 2000 and September 30, 2001, these swaps represented a notional amount of
$24.3 million and $21.3 million, and a fair value of $2.0 million and $3.8
million, respectively. We believe our outstanding foreign exchange risk is
immaterial.
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PART II.
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
GENERAL
We are regularly involved in litigation, both as a defendant and as a
plaintiff. The litigation naming us as a defendant ordinarily involves our
activities as an insurer, employer, investment adviser, investor or taxpayer. In
addition, state regulatory bodies, the SEC, the NASD and other regulatory bodies
regularly make inquiries of us and, from time to time, conduct examinations or
investigations concerning our compliance with, among other things, insurance
laws, securities laws, and laws governing the activities of broker-dealers.
These types of lawsuits and regulatory actions may be difficult to assess or
quantify, may seek recovery of very large and/or indeterminate amounts,
including punitive and treble damages, and their existence and magnitude may
remain unknown for substantial periods of time. A substantial legal liability or
significant regulatory action against us could have a material adverse effect on
our business, results of operations and financial condition.
While it is not feasible to predict or determine the ultimate outcome of
all pending investigations and legal proceedings or to provide reasonable ranges
of potential losses, it is the opinion of our management that their outcomes,
after consideration of available insurance and reinsurance and the provisions
made in our consolidated financial statements, are not likely to have a material
adverse effect on our consolidated financial condition.
However, given the large and/or indeterminate amounts sought in certain of
these matters and the inherent unpredictability of litigation, it is possible
that an adverse outcome in certain matters could, from time to time, have a
material adverse effect on our operating results or cash flows.
DISCONTINUED REINSURANCE BUSINESS
Phoenix's reinsurance business included, among other things, reinsurance by
Phoenix of other insurance companies' group accident and health business. During
1999, Phoenix placed its remaining group accident and health reinsurance
business into runoff, adopting a formal plan to terminate the related contracts
as early as contractually permitted and not entering into any new contracts. As
part of its decision to discontinue its remaining reinsurance operations,
Phoenix reviewed the runoff block and estimated the amount and timing of future
net premiums, claims and expenses.
We have established reserves for claims and related expenses that we expect
to pay on our discontinued group accident and health reinsurance business. These
reserves are a net present value amount that is based on currently known facts
and estimates about, among other things, the amount of insured losses and
expenses that we believe we will pay, the period over which they will be paid,
the amount of reinsurance we believe we will collect under our finite
reinsurance and our other reinsurance to cover our losses and the likely legal
and administrative costs of winding down the business. In 2000, we strengthened
our reserves for our discontinued reinsurance business by $97 million (pre-tax).
Total reserves were $40 million at September 30, 2001. In addition, in 1999 we
purchased finite aggregate excess-of-loss reinsurance to further protect us from
unfavorable results from this discontinued business. The initial premium for
this coverage was $130 million. The maximum coverage available is currently $175
million and increases to $215 million by 2004.
Phoenix is involved in two sets of disputes relating to reinsurance
arrangements under which it reinsured group accident and health risks. The first
of these involves contracts for reinsurance of the life and health carveout
components of workers compensation insurance arising out of a reinsurance pool
created and formerly managed by Unicover. In addition, Phoenix is involved in
arbitrations and negotiations pending in the United Kingdom between multiple
layers of reinsurers and reinsureds relating to transactions in which Phoenix
Life participated involving certain personal accident excess-of-loss business
reinsured in the London market.
In light of our provisions for our discontinued reinsurance operations
through the establishment of reserves and the finite reinsurance, based on
currently available information we do not expect these operations, including the
proceedings described above, to have a material adverse effect on our
consolidated financial position. However, given the large and/or indeterminate
amounts involved and the inherent unpredictability of litigation, it is not
possible to predict with certainty the ultimate impact on us of all pending
matters or of our discontinued reinsurance operations.
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SEC INVESTIGATION OF PXP AFFILIATE
In 1997, PXP received a subpoena from a federal grand jury calling for
production by Duff & Phelps Investment Management Company ("DPIM"), PXP's
Chicago-based asset management subsidiary, of account and trade-related
documents having to do with, among other things, whether DPIM directed client
commission dollars to certain brokers in exchange for client referrals for DPIM
during the period 1994 to 1997. Thereafter, PXP conducted an internal
investigation into these activities. Following the internal investigation, PXP
ultimately returned a total of approximately $586,626 of commission to the
appropriate clients, took disciplinary action against certain employees involved
in the matter and implemented a number of compliance procedures and enhanced
controls.
PXP voluntarily disclosed the matter to both the U.S. Department of Labor
("DOL"), which enforces ERISA, and the SEC, and voluntarily provided these
agencies access to documents, records and witnesses. In October 2000, the SEC
issued a formal order of investigation in this matter. PXP cooperated fully in
such investigation.
The federal grand jury has no outstanding requests for information from
PXP, and PXP is cooperating with the DOL's request for follow-up information. On
September 28, 2001, the SEC instituted administrative and cease and desist
proceedings against DPIM and imposed sanctions pursuant to an offer of
settlement which DPIM had submitted without admitting or denying the
allegations. Under the terms of that settlement, DPIM agreed to a censure, a
cease and desist order, a fine of $100,000 and disgorgement of certain amounts
in addition to the $586,626 already returned. The outcome of this matter does
not have any adverse effect on our business.
TEAMSTERS LOCAL 710 CLAIM
The Teamsters Local 710 pension account, which was a DPIM account from 1994
until 1997, has demanded that DPIM return approximately $965,000 in investment
management fees paid to DPIM by the Teamsters account. The claims arise out of
the same facts which are the basis for the SEC investigation and order described
in the preceding section, that is, the direction by DPIM of client commission
dollars in exchange for the referral of the Teamsters account to DPIM. The
Teamsters account has filed civil actions against other similarly situated
investment advisors to recover management fees and seeking damages for, among
other alleged acts, violations of the Racketeer Influenced and Corrupt
Organizations Act and ERISA. To date the Teamsters account has not commenced
such litigation against DPIM. The outcome of this matter will not have any
material adverse effect on our business.
POLICYHOLDER LAWSUITS CHALLENGING THE PLAN OF REORGANIZATION
Two pending lawsuits seek to challenge Phoenix Life's reorganization and
the adequacy of the information provided to policyholders regarding the plan of
reorganization. The first of these lawsuits, Andrew Kertesz v. Phoenix Home Life
Mut. Ins. Co., et al., was filed on April 16, 2001, in the Supreme Court of the
State of New York for New York County. The plaintiff seeks to maintain a class
action on behalf of a putative class consisting of the eligible policyholders of
Phoenix Life as of December 18, 2000, the date the plan of reorganization was
adopted. Plaintiff seeks compensatory damages for losses allegedly sustained by
the class as a result of the demutualization, punitive damages and other relief.
The defendants named in the lawsuit include Phoenix Life, The Phoenix Companies,
Inc. and directors of Phoenix Life, as well as Morgan Stanley & Co.
Incorporated, financial advisor to Phoenix Life in connection with the plan of
reorganization.
The second lawsuit, Paulette M. Fantozzi v. Phoenix Home Life Mut. Ins.
Co., et al., was filed on August 23, 2001, in the Supreme Court of the State of
New York County. The allegations and relief requested in this class-action
complaint are virtually identical to the allegations and relief sought in the
Kertesz lawsuit. The defendants named in the Fantozzi action are the same as
those named in Kertesz.
On October 22, 2001, Andrew Kertesz filed a special proceeding pursuant to
Article 78 of the New York Civil Practice Law and Rules, Andrew Kertesz v.
Gregory V. Serio, et al., in the Supreme Court of New York for New York County.
The Article 78 petition seeks to vacate and annul the decision and order of the
New York Superintendent of Insurance, dated June 1, 2001, approving the plan of
reorganization. The petition names as respondents the New York Superintendent of
Insurance, Phoenix Life, The Phoenix Companies, Inc., and directors of Phoenix
Life.
On October 19, 2001, motions to dismiss the claims asserted in the Kertesz
and Fantozzi lawsuits were filed. These motions are pending. We intend to
contest vigorously to defend against all the claims asserted in the pending
lawsuits.
Another lawsuit that sought to challenge the plan of reorganization, Billie
J. Burns v. Phoenix Home Life Mut. Ins. Co., et al., was filed on April 4, 2001,
in the Circuit Court of Cook County, Illinois County Department, Chancery
Division. A motion to dismiss that action was filed on May 4, 2001. On October
2, 2001, the court entered an order dismissing the action for want of
prosecution.
-45-
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
In connection with the June 25, 2001 demutualization of Phoenix Home Life
Mutual Insurance Company, during the third quarter 2001, The Phoenix Companies,
Inc. issued approximately 56.2 million shares of common stock to eligible
policyholders, effective as of June 25. In reliance on the exemption under
Section 3(a)(10) of the Securities Act of 1933, Phoenix issued such shares to
policyholders in exchange for their membership interests without registration
under such act.
On July 24, 2001, Morgan Stanley Dean Witter exercised its right to
purchase 1,395,900 shares of the common stock of The Phoenix Companies, Inc. at
the IPO price of $17.50 per share less underwriters discount. Net proceeds of
$23.1 million were contributed to Phoenix Life.
ITEM 3. DEFAULTS UPON SENIOR NOTES
Not applicable
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable
ITEM 5. OTHER INFORMATION
Not applicable
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
During the three months ended September 30, 2001, Phoenix filed the following
report on Form 8-K:
o dated September 17, 2001, Items 5 and 9 - containing press
releases regarding a stock repurchase program and the
establishment of special procedures to respond to needs of
customers affected by September 11, 2001 terrorist attacks.
-46-
SIGNATURE
Pursuant to the requirements 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.
THE PHOENIX COMPANIES, INC.
By /s/ Bonnie J. Malley
------------------------------
Bonnie J. Malley, Vice President
November 14, 2001
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