e10vq
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
(Mark One)
|
|
|
þ |
|
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30,
2005 |
or
|
|
|
o |
|
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 1-16561
ANNUITY AND LIFE RE (HOLDINGS), LTD.
(Exact Name of Registrant as Specified in Its Charter)
|
|
|
Bermuda
(State or Other Jurisdiction of
Incorporation or Organization)
|
|
66-0619270
(IRS Employer
Identification No.) |
|
|
|
Cumberland House, 1 Victoria Street, Hamilton, Bermuda
(Address of Principal Executive Offices)
|
|
HM11
(Zip Code) |
441-296-7667
(Registrants Telephone Number, Including Area Code)
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 þ No o
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule
12b-2 of the Exchange Act). Yes þ No o
The number of the registrants Common Shares (par value $1.00 per share) outstanding as of
July 5, 2005 was 26,316,861.
PART I
FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements
ANNUITY AND LIFE RE (HOLDINGS), LTD.
CONDENSED CONSOLIDATED BALANCE SHEETS
(U.S. dollars)
|
|
|
|
|
|
|
|
|
|
|
June 30, 2005 |
|
|
December 31, 2004 |
|
|
|
(Unaudited) |
|
|
|
|
|
Assets |
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
$ |
33,637,082 |
|
|
$ |
56,394,484 |
|
Fixed maturity investments at fair value (amortized cost of
$62,085,120 and $80,767,893 at June 30, 2005 and December 31,
2004, respectively) |
|
|
62,750,761 |
|
|
|
82,034,410 |
|
Funds withheld at interest |
|
|
53,305,982 |
|
|
|
56,415,386 |
|
Accrued investment income |
|
|
870,796 |
|
|
|
1,155,762 |
|
Receivable for investments sold |
|
|
309,525 |
|
|
|
|
|
Receivable for reinsurance ceded |
|
|
77,982,650 |
|
|
|
82,433,270 |
|
Other reinsurance receivables |
|
|
2,711,210 |
|
|
|
4,306,931 |
|
Deferred policy acquisition costs |
|
|
5,683,172 |
|
|
|
6,084,488 |
|
Other assets |
|
|
585,984 |
|
|
|
580,625 |
|
|
|
|
|
|
|
|
Total Assets |
|
$ |
237,837,162 |
|
|
$ |
289,405,356 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities |
|
|
|
|
|
|
|
|
Reserves for future policy benefits |
|
$ |
106,589,798 |
|
|
$ |
109,860,843 |
|
Interest sensitive contracts liability |
|
|
53,810,806 |
|
|
|
57,754,009 |
|
Other reinsurance liabilities |
|
|
10,471,084 |
|
|
|
49,186,297 |
|
Accounts payable and accrued expenses |
|
|
1,949,337 |
|
|
|
6,186,995 |
|
|
|
|
|
|
|
|
Total liabilities |
|
|
172,821,025 |
|
|
|
222,988,144 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stockholders Equity |
|
|
|
|
|
|
|
|
Preferred shares (par value $1.00; 50,000,000 shares authorized;
no shares outstanding) |
|
|
|
|
|
|
|
|
Common shares (par value $1.00; 100,000,000 shares authorized;
26,316,861 and 26,338,528 shares issued and outstanding at
June 30, 2005
and December 31, 2004, respectively) |
|
|
26,316,861 |
|
|
|
26,338,528 |
|
Additional paid-in capital |
|
|
333,797,708 |
|
|
|
333,810,766 |
|
Stock warrants |
|
|
1,350,000 |
|
|
|
1,350,000 |
|
Unamortized stock based compensation |
|
|
(205,550 |
) |
|
|
(490,415 |
) |
Accumulated other comprehensive income |
|
|
673,675 |
|
|
|
1,016,260 |
|
Accumulated deficit |
|
|
(296,916,557 |
) |
|
|
(295,607,927 |
) |
|
|
|
|
|
|
|
Total Stockholders Equity |
|
|
65,016,137 |
|
|
|
66,417,212 |
|
|
|
|
|
|
|
|
Total Liabilities and Stockholders Equity |
|
$ |
237,837,162 |
|
|
$ |
289,405,356 |
|
|
|
|
|
|
|
|
See accompanying notes to unaudited condensed consolidated financial statements
-1-
ANNUITY AND LIFE RE (HOLDINGS), LTD.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited and in U.S. dollars)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended June 30, |
|
|
For the Six Months Ended June 30, |
|
|
|
2005 |
|
|
2004 |
|
|
2005 |
|
|
2004 |
|
Revenues |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net premiums |
|
$ |
2,927,917 |
|
|
$ |
10,348,881 |
|
|
$ |
8,416,183 |
|
|
$ |
24,659,522 |
|
Investment income, net of related expenses |
|
|
1,609,615 |
|
|
|
3,844,066 |
|
|
|
3,275,624 |
|
|
|
13,094,801 |
|
Net realized investment (losses) gains |
|
|
(6 |
) |
|
|
(137,885 |
) |
|
|
401,144 |
|
|
|
541,040 |
|
Net change in fair value of embedded derivatives |
|
|
(35,736 |
) |
|
|
518,786 |
|
|
|
451,409 |
|
|
|
1,126,174 |
|
Surrender fees and other revenues |
|
|
30,677 |
|
|
|
1,510,568 |
|
|
|
61,313 |
|
|
|
2,585,500 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Revenues |
|
|
4,532,467 |
|
|
|
16,084,416 |
|
|
|
12,605,673 |
|
|
|
42,007,037 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Benefits and Expenses |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Claim and policy benefits |
|
|
1,587,086 |
|
|
|
8,769,049 |
|
|
|
6,189,529 |
|
|
|
19,013,707 |
|
Interest credited to interest sensitive products |
|
|
257,075 |
|
|
|
1,822,643 |
|
|
|
626,253 |
|
|
|
5,351,892 |
|
Policy acquisition costs and other insurance
expenses |
|
|
1,008,209 |
|
|
|
4,654,527 |
|
|
|
2,364,446 |
|
|
|
12,835,524 |
|
Operating expenses |
|
|
2,220,065 |
|
|
|
7,268,575 |
|
|
|
4,734,076 |
|
|
|
10,035,937 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Benefits and Expenses |
|
|
5,072,435 |
|
|
|
22,514,794 |
|
|
|
13,914,304 |
|
|
|
47,237,060 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss before cumulative effect of a change in
accounting principle (Note 5) |
|
|
(539,968 |
) |
|
|
(6,430,378 |
) |
|
|
(1,308,631 |
) |
|
|
(5,230,023 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cumulative effect of a change in accounting
principle |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(365,960 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Loss |
|
$ |
(539,968 |
) |
|
$ |
(6,430,378 |
) |
|
$ |
(1,308,631 |
) |
|
$ |
(5,595,983 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss per common share before cumulative effect
of a change in accounting principle per common
share |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
$ |
(0.02 |
) |
|
$ |
(0.25 |
) |
|
$ |
(0.05 |
) |
|
$ |
(0.21 |
) |
Diluted |
|
$ |
(0.02 |
) |
|
$ |
(0.25 |
) |
|
$ |
(0.05 |
) |
|
$ |
(0.21 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cumulative effect of a change in accounting
principle per common share |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
$ |
(0.01 |
) |
Diluted |
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
$ |
(0.01 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss per common share |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
$ |
(0.02 |
) |
|
$ |
(0.25 |
) |
|
$ |
(0.05 |
) |
|
$ |
(0.22 |
) |
Diluted |
|
$ |
(0.02 |
) |
|
$ |
(0.25 |
) |
|
$ |
(0.05 |
) |
|
$ |
(0.22 |
) |
See accompanying notes to unaudited condensed consolidated financial statements
-2-
ANNUITY AND LIFE RE (HOLDINGS), LTD.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(Unaudited and in U.S. dollars)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended June 30, |
|
|
For the Six Months Ended June 30, |
|
|
|
2005 |
|
|
2004 |
|
|
2005 |
|
|
2004 |
|
Net loss for the period |
|
$ |
(539,968 |
) |
|
$ |
(6,430,378 |
) |
|
$ |
(1,308,631 |
) |
|
$ |
(5,595,983 |
) |
Other comprehensive income (loss): |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrealized holding gains (losses)
on securities arising during the
period |
|
|
787,616 |
|
|
|
(3,457,243 |
) |
|
|
58,559 |
|
|
|
(2,068,612 |
) |
Less reclassification
adjustment for net realized
(losses) gains in net loss |
|
|
(6 |
) |
|
|
(137,885 |
) |
|
|
401,144 |
|
|
|
541,040 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other comprehensive income (loss) |
|
$ |
787,622 |
|
|
$ |
(3,319,358 |
) |
|
$ |
(342,585 |
) |
|
$ |
(2,609,652 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total comprehensive income (loss) |
|
$ |
247,654 |
|
|
$ |
(9,749,736 |
) |
|
$ |
(1,651,216 |
) |
|
$ |
(8,205,635 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes to unaudited condensed consolidated financial statements
-3-
ANNUITY AND LIFE RE (HOLDINGS), LTD.
CONDENSED CONSOLIDATED STATEMENTS OF
CHANGES IN STOCKHOLDERS EQUITY
(Unaudited and in U.S. dollars)
|
|
|
|
|
|
|
|
|
|
|
For the Six Months Ended June 30, |
|
|
|
2005 |
|
|
2004 |
|
Preferred shares par value $1.00 |
|
|
|
|
|
|
|
|
Balance at beginning and end of period |
|
$ |
|
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Common shares par value $1.00 |
|
|
|
|
|
|
|
|
Balance at beginning of period |
|
$ |
26,338,528 |
|
|
$ |
26,454,195 |
|
Issuance of shares |
|
|
|
|
|
|
|
|
Cancellation of shares |
|
|
(21,667 |
) |
|
|
(53,267 |
) |
|
|
|
|
|
|
|
Balance at end of period |
|
$ |
26,316,861 |
|
|
$ |
26,400,928 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Additional paid-in capital |
|
|
|
|
|
|
|
|
Balance at beginning of period |
|
$ |
333,810,766 |
|
|
$ |
334,418,029 |
|
Issuance of shares |
|
|
|
|
|
|
|
|
Cancellation of stock based compensation |
|
|
(13,058 |
) |
|
|
(385,085 |
) |
|
|
|
|
|
|
|
Balance at end of period |
|
$ |
333,797,708 |
|
|
$ |
334,032,944 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock warrants |
|
|
|
|
|
|
|
|
Balance at beginning of period |
|
$ |
1,350,000 |
|
|
$ |
1,250,000 |
|
Issuance of warrants |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at end of period |
|
$ |
1,350,000 |
|
|
$ |
1,250,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unamortized stock based compensation |
|
|
|
|
|
|
|
|
Balance at beginning of period |
|
$ |
(490,415 |
) |
|
$ |
(1,509,022 |
) |
Issuance of stock based compensation |
|
|
|
|
|
|
|
|
Cancellation of stock based compensation |
|
|
34,725 |
|
|
|
438,352 |
|
Amortization of stock based
compensation |
|
|
250,140 |
|
|
|
97,562 |
|
|
|
|
|
|
|
|
Balance at end of period |
|
$ |
(205,550 |
) |
|
$ |
(973,108 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated other comprehensive income |
|
|
|
|
|
|
|
|
Balance at beginning of period |
|
$ |
1,016,260 |
|
|
$ |
1,840,849 |
|
Net unrealized losses on fixed maturity investments |
|
|
(342,585 |
) |
|
|
(2,609,652 |
) |
|
|
|
|
|
|
|
Balance at end of period |
|
$ |
673,675 |
|
|
$ |
(768,803 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated deficit |
|
|
|
|
|
|
|
|
Balance at beginning of period |
|
$ |
(295,607,926 |
) |
|
$ |
(227,281,472 |
) |
Net loss |
|
|
(1,308,631 |
) |
|
|
(5,595,983 |
) |
|
|
|
|
|
|
|
Balance at end of period |
|
$ |
(296,916,557 |
) |
|
$ |
(232,877,455 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Stockholders Equity |
|
$ |
65,016,137 |
|
|
$ |
127,064,506 |
|
|
|
|
|
|
|
|
See accompanying notes to unaudited condensed consolidated financial statements
-4-
ANNUITY AND LIFE RE (HOLDINGS), LTD.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited and in U.S. dollars)
|
|
|
|
|
|
|
|
|
|
|
For the Six Months Ended June 30, |
|
|
|
2005 |
|
|
2004 |
|
Cash flows from operating activities |
|
|
|
|
|
|
|
|
Net loss |
|
$ |
(1,308,631 |
) |
|
$ |
(5,595,983 |
) |
Adjustments to reconcile net loss to cash used from operating activities: |
|
|
|
|
|
|
|
|
Net realized investment gains |
|
|
(401,144 |
) |
|
|
(541,040 |
) |
Net change in fair value of embedded derivatives |
|
|
(451,409 |
) |
|
|
(1,126,174 |
) |
Amortization of premiums on fixed maturity investments |
|
|
532,821 |
|
|
|
468,508 |
|
Amortization of stock based compensation |
|
|
250,140 |
|
|
|
97,562 |
|
Cumulative effect of a change in accounting principle |
|
|
|
|
|
|
365,960 |
|
Changes in: |
|
|
|
|
|
|
|
|
Accrued investment income |
|
|
284,966 |
|
|
|
221,009 |
|
Receivable for investments sold |
|
|
(309,525 |
) |
|
|
|
|
Other reinsurance receivables |
|
|
6,046,341 |
|
|
|
5,119,810 |
|
Deferred policy acquisition costs |
|
|
401,316 |
|
|
|
6,166,176 |
|
Other assets |
|
|
(5,359 |
) |
|
|
(264,660 |
) |
Reserves for future policy benefits |
|
|
(3,271,045 |
) |
|
|
3,948,496 |
|
Interest sensitive contracts liability, net of funds withheld at interest |
|
|
(382,390 |
) |
|
|
(13,292,714 |
) |
Other reinsurance liabilities |
|
|
(38,715,213 |
) |
|
|
(31,021,402 |
) |
Payable for investments purchased |
|
|
|
|
|
|
5,909,652 |
|
Accounts payable and accrued expenses |
|
|
(4,237,658 |
) |
|
|
1,094,510 |
|
|
|
|
|
|
|
|
Net cash used by operating activities |
|
|
(41,566,790 |
) |
|
|
(28,450,290 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from investing activities |
|
|
|
|
|
|
|
|
Proceeds from sales and maturity of fixed maturity investments |
|
|
20,414,759 |
|
|
|
47,830,721 |
|
|
|
|
|
|
|
|
|
|
Purchase of fixed maturity investments |
|
|
(1,605,371 |
) |
|
|
(18,952,781 |
) |
|
|
|
|
|
|
|
Net cash provided by investing activities |
|
|
18,809,388 |
|
|
|
28,877,940 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Decrease) increase in cash and cash equivalents |
|
|
(22,757,402 |
) |
|
|
427,650 |
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents, beginning of period |
|
|
56,394,484 |
|
|
|
80,068,310 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents, end of period |
|
$ |
33,637,082 |
|
|
$ |
80,495,960 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Non-Cash disclosures: amounts recorded in connection
with the cumulative effect of a change in accounting
principle |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred policy acquisition costs |
|
$ |
|
|
|
$ |
(36,154,010 |
) |
|
|
|
|
|
|
|
|
|
Reserves for future policy benefits |
|
|
|
|
|
|
(1,878,760 |
) |
|
|
|
|
|
|
|
|
|
Interest sensitive contracts, net of funds withheld |
|
|
|
|
|
|
38,398,730 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cumulative effect of a change in accounting principle |
|
$ |
|
|
|
$ |
365,960 |
|
|
|
|
|
|
|
|
See accompanying notes to unaudited condensed consolidated financial statements
-5-
ANNUITY AND LIFE RE (HOLDINGS), LTD.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. Organization
Annuity and Life Re (Holdings), Ltd. (Holdings) was incorporated on December 2, 1997 under
the laws of Bermuda. Holdings provides annuity and life reinsurance to insurers and reinsurers
through its wholly-owned subsidiaries: Annuity and Life Reassurance, Ltd., which is licensed under
the laws of Bermuda as a long term insurer, Annuity and Life Re America, Inc., an insurance holding
company based in the United States, and Annuity and Life Reassurance America, Inc., a life
insurance company domiciled in the United States. Holdings, Annuity and Life Reassurance, Ltd.,
Annuity and Life Re America, Inc. and Annuity and Life Reassurance America, Inc. are collectively
referred to herein as the Company.
The Company has encountered significant difficulties during the last four years. In addition
to reporting significant operating losses for those years, the Company has reduced its operations
significantly through the novation, termination and recapture of many of its life and annuity
reinsurance agreements. The Company continues to receive premiums and pay claims under its
remaining reinsurance treaties; however, it is not currently underwriting any new treaties or
accepting any new business from its existing treaties. The Company is also exploring strategic
alternatives including, but not limited to, a merger, sale, joint venture, sale of assets,
including its remaining reinsurance agreements, or other comparable transaction.
The accompanying unaudited condensed consolidated financial statements of the Company have
been prepared in accordance with accounting principles generally accepted in the United States of
America (U.S. GAAP) for interim financial information and in accordance with Regulation S-X.
Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for
complete financial statements. These unaudited condensed consolidated financial statements should
be read in conjunction with the audited consolidated financial statements and notes thereto
contained in the Companys Form 10-K as of and for the year ended December 31, 2004. The accounting
policies used in preparing these unaudited condensed consolidated financial statements are
consistent with those described in Note 4 to the Companys audited consolidated financial
statements as of and for the year ended December 31, 2004. In the opinion of management, all
adjustments considered necessary for a fair presentation have been included in these financial
statements. The results of operations for the three and six months ended June 30, 2005 are not
necessarily indicative of results that may be expected for any other interim period or for the full
year.
2. Significant Events
On December 31, 2004, the Company entered into a binding letter of intent with Transamerica
Occidental Life Insurance Company (Transamerica) that provided for the novation of its life
reinsurance agreements with Scottish Re Limited (Scottish Re) and Fidelity and Guaranty Life
Insurance Company (F&G) to Transamerica as of December 31, 2004. The letter of intent also
provided that, upon consummation of the novation of the life reinsurance agreements, Transamerica
would terminate its annuity reinsurance agreement with the Company and recapture all business ceded
under the agreement effective as of December 1, 2004.
Pursuant to the letter of intent with Transamerica, on January 31, 2005, the Company executed
-6-
definitive documents and novated its life reinsurance agreements with Scottish Re and F&G to
Transamerica as of December 31, 2004. In consideration of the life reinsurance agreement novations,
the Company paid Transamerica $18.5 million. Also, on January 31, 2005, the Company executed an
amendment to its annuity reinsurance agreement with Transamerica which terminated the agreement and
resulted in Transamerica recapturing all business ceded under the agreement effective as of
December 1, 2004. In consideration of the annuity recapture, the Company paid a $14.0 million
premium to terminate and recapture the agreement and approximately $7.1 million for monthly
settlement amounts owed under the annuity reinsurance agreement through November 30, 2004.
On and since December 4, 2002, certain of the Companys stockholders, seeking to act as class
representatives, filed lawsuits against the Company and certain of its present and former officers
and directors in the United States District Court for the District of Connecticut seeking
unspecified monetary damages. On July 20, 2004, the Company announced that it had reached an
agreement in principle with the plaintiffs, subject to full documentation by the parties to the
settlement, notice to the class, court approval and other steps required to consummate a class
action settlement, to settle the lawsuit. The Companys share of the settlement was $5.0 million in
cash, of which it paid $2.5 million into escrow in August 2004, and the remaining $2.5 million on
January 10, 2005. Following a Settlement Fairness Hearing, the District Court entered an order and
final judgment approving the settlement in January 2005. The Company recorded its $5.0 million
portion of the settlement as an operating expense in 2004.
The termination, recapture and novation transactions consummated by the Company effective in
2004 had a material impact on the Companys results of operations. The following unaudited table
shows summarized results of operations for the three and six months ended June 30, 2004
assuming that all of the termination, recapture and novation transactions occurred on January
1, 2004.
Annuity and Life Re (Holdings), Ltd.
Pro Forma Condensed Consolidated Statements of Operations for the Three and Six Months Ended June 30, 2004
(Unaudited and in U.S. Dollars)
|
|
|
|
|
|
|
|
|
|
|
For the Period Ended June 30, 2004 |
|
|
|
Three Months |
|
|
Six Months |
|
Pro Forma |
|
|
|
|
|
|
|
|
Total Revenues |
|
$ |
6,088,657 |
|
|
$ |
14,548,710 |
|
Total Benefits and Expenses |
|
|
12,128,148 |
|
|
|
20,524,100 |
|
|
|
|
|
|
|
|
Income before cumulative effect of a change in
accounting principle |
|
|
(6,039,491 |
) |
|
|
(5,975,390 |
) |
Cumulative effect of a change in accounting principle |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss |
|
$ |
(6,039,491 |
) |
|
$ |
(5,975,390 |
) |
|
|
|
|
|
|
|
Loss per common share before cumulative effect of a change
in accounting principle per common share: |
|
|
|
|
|
|
|
|
Basic |
|
$ |
(0.23 |
) |
|
$ |
(0.23 |
) |
Diluted |
|
$ |
(0.23 |
) |
|
$ |
(0.23 |
) |
Cumulative effect of a change in accounting principle per
common share: |
|
|
|
|
|
|
|
|
Basic |
|
$ |
0.00 |
|
|
$ |
0.00 |
|
Diluted |
|
$ |
0.00 |
|
|
$ |
0.00 |
|
Net loss per common share: |
|
|
|
|
|
|
|
|
Basic |
|
$ |
(0.23 |
) |
|
$ |
(0.23 |
) |
Diluted |
|
$ |
(0.23 |
) |
|
$ |
(0.23 |
) |
-7-
3. Loss per Common Share
The following table sets forth the computation of basic and diluted loss per common share for
the three and six months ended June 30, 2005 and 2004:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended June 30, |
|
|
Six Months Ended June 30, |
|
|
|
2005 |
|
|
2004 |
|
|
2005 |
|
|
2004 |
|
Loss before cumulative
effect of a change in
accounting
principle |
|
$ |
(539,968 |
) |
|
$ |
(6,430,378 |
) |
|
$ |
(1,308,631 |
) |
|
$ |
(5,230,023 |
) |
Cumulative effect of a
change in accounting
principle (Note 5) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(365,960 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss |
|
$ |
(539,968 |
) |
|
$ |
(6,430,378 |
) |
|
$ |
(1,308,631 |
) |
|
$ |
(5,595,983 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average number
of common shares
outstanding |
|
|
26,107,695 |
|
|
|
25,874,495 |
|
|
|
26,054,011 |
|
|
|
25,841,161 |
|
Loss before cumulative
effect of a change in
accounting principle per
common share |
|
$ |
(0.02 |
) |
|
$ |
(0.25 |
) |
|
$ |
(0.05 |
) |
|
$ |
(0.21 |
) |
Cumulative effect of a
change in accounting
principle per common
share |
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
$ |
(0.01 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss per common share |
|
$ |
(0.02 |
) |
|
$ |
(0.25 |
) |
|
$ |
(0.05 |
) |
|
$ |
(0.22 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average number
of common shares
outstanding |
|
|
26,107,695 |
|
|
|
25,874,495 |
|
|
|
26,054,011 |
|
|
|
25,841,161 |
|
Plus: incremental shares
from assumed exercise of
options and warrants and
vesting of restricted
stock outstanding |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss before cumulative
effect of a change in
accounting principle per
common share |
|
$ |
(0.02 |
) |
|
$ |
(0.25 |
) |
|
$ |
(0.05 |
) |
|
$ |
(0.21 |
) |
Cumulative effect of a
change in accounting
principle per common
share |
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
$ |
(0.01 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss per common share |
|
$ |
(0.02 |
) |
|
$ |
(0.25 |
) |
|
$ |
(0.05 |
) |
|
$ |
(0.22 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
At June 30, 2005, 5,689,713 warrants, 647,702 options, and 170,001 shares of unvested
restricted stock were outstanding. The calculation of the diluted loss per common share
for the three and six months ended June 30, 2005 does not include the incremental number of
shares from the assumed exercise of options and warrants, or the vesting of unvested
restricted stock grants because the inclusion of these potential common shares would be considered
anti-dilutive.
At June 30, 2004, 4,565,217 warrants, 722,702 options, and 471,433 shares of unvested
restricted stock were outstanding. The calculation of the diluted loss per common share
for the three and six months ended June 30, 2004 does not include the incremental number of
shares from the assumed exercise of
-8-
options and warrants, or the vesting of unvested restricted stock grants because the
inclusion of these potential common shares would be considered anti-dilutive.
The following table sets forth the pro forma computation of basic and diluted loss per common
share after accounting for stock option grants made prior to the Companys January 1, 2003 adoption
of the prospective method described in Statement of Financial Accounting Standards (SFAS) No. 148
for the three and six months ended June 30, 2005 and 2004:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended June 30, |
|
|
Six Months Ended June 30, |
|
|
|
2005 |
|
|
2004 |
|
|
2005 |
|
|
2004 |
|
Net loss as reported |
|
$ |
(539,968 |
) |
|
$ |
(6,430,378 |
) |
|
$ |
(1,308,631 |
) |
|
$ |
(5,595,983 |
) |
Stock option expense recognized |
|
|
43,633 |
|
|
|
20,833 |
|
|
|
88,592 |
|
|
|
41,667 |
|
Pro forma effect on net loss
of applying fair value
accounting to all stock option
grants (a) |
|
|
(43,633 |
) |
|
|
(173,456 |
) |
|
|
(88,592 |
) |
|
|
(406,144 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss pro forma |
|
$ |
(539,968 |
) |
|
$ |
(6,583,001 |
) |
|
$ |
(1,308,631 |
) |
|
$ |
(5,960,460 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss per common share as
reported: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
$ |
(0.02 |
) |
|
$ |
(0.25 |
) |
|
$ |
(0.05 |
) |
|
$ |
(0.22 |
) |
Diluted |
|
$ |
(0.02 |
) |
|
$ |
(0.25 |
) |
|
$ |
(0.05 |
) |
|
$ |
(0.22 |
) |
Net loss per common share pro
forma: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
$ |
(0.02 |
) |
|
$ |
(0.26 |
) |
|
$ |
(0.05 |
) |
|
$ |
(0.23 |
) |
Diluted |
|
$ |
(0.02 |
) |
|
$ |
(0.26 |
) |
|
$ |
(0.05 |
) |
|
$ |
(0.23 |
) |
|
(a) |
|
The pro forma effect of applying fair value accounting to all stock option grants is
equal to the stock option expense recognized in the determination of net loss for the three
and six months ended June 30, 2005 because the Company no longer has any unvested stock
options that were granted prior to the adoption of SFAS No. 123 and No. 148. |
Stock-based compensation expense, including restricted common stock issued to employees,
for the six months ended June 30, 2005 and 2004 was $250,140 and $97,560, respectively.
4. Business Segments
The Company separately tracks financial results of its life and annuity operations in
segments. Each segment is defined by a dominant risk characteristic inherent in all products in
that segment. The life segment consists of all products where the dominant risk characteristic is
mortality risk. The annuity segment comprises all products where the dominant risk characteristic
is investment risk, including those products that provide minimum guarantees on variable annuity
products. In addition, certain of the Companys modified coinsurance annuity reinsurance agreements
have features that constitute embedded derivatives that require bifurcation and separate accounting
under SFAS No. 133 Accounting for Derivative Instruments and Hedging Activities. The change in
fair value of these embedded derivatives is included in the annuity segment.
Both the life and annuity segments have specific assets, liabilities, stockholders equity,
revenue, benefits and expenses that apply only to them. The corporate segment contains all
stockholders equity not otherwise deployed to the life or annuity segment. In addition, the
corporate segment includes all capital gains and losses from sales of securities in the Companys
portfolio and investment income on undeployed invested assets. Operating expenses are generally
allocated to the segments proportionately based upon the amount of stockholders equity deployed to
each segment. Costs associated with the Companys efforts to raise capital and pursue other
strategic alternatives and the costs of settling the purported shareholder class action lawsuit
have been allocated to the corporate segment.
-9-
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
Life |
|
|
Annuity |
|
|
|
|
|
|
|
June 30, 2005 |
|
Reinsurance |
|
|
Reinsurance |
|
|
Corporate |
|
|
Consolidated |
|
Revenues |
|
$ |
3,314,514 |
|
|
$ |
644,128 |
|
|
$ |
573,825 |
|
|
$ |
4,532,467 |
|
Benefits and Expenses |
|
|
2,363,635 |
|
|
|
686,340 |
|
|
|
2,022,460 |
|
|
|
5,072,435 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment Income (Loss) |
|
$ |
950,879 |
|
|
$ |
(42,212 |
) |
|
$ |
(1,448,635 |
) |
|
$ |
(539,968 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Assets |
|
$ |
121,460,882 |
|
|
$ |
55,510,806 |
|
|
$ |
60,865,474 |
|
|
$ |
237,837,162 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
Life |
|
|
Annuity |
|
|
|
|
|
|
|
June 30, 2004 |
|
Reinsurance |
|
|
Reinsurance |
|
|
Corporate |
|
|
Consolidated |
|
Revenues |
|
$ |
10,515,041 |
|
|
$ |
5,002,269 |
|
|
$ |
567,106 |
|
|
$ |
16,084,416 |
|
Benefits and Expenses |
|
|
9,780,675 |
|
|
|
6,215,881 |
|
|
|
6,518,238 |
|
|
|
22,514,794 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment Income (Loss) |
|
$ |
734,366 |
|
|
$ |
(1,213,612 |
) |
|
$ |
(5,951,132 |
) |
|
$ |
(6,430,378 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Assets |
|
$ |
220,280,815 |
|
|
$ |
666,102,422 |
|
|
$ |
86,128,401 |
|
|
$ |
972,511,638 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
Life |
|
|
Annuity |
|
|
|
|
|
|
|
June 30, 2005 |
|
Reinsurance |
|
|
Reinsurance |
|
|
Corporate |
|
|
Consolidated |
|
Revenues |
|
$ |
9,282,433 |
|
|
$ |
1,837,937 |
|
|
$ |
1,485,303 |
|
|
$ |
12,605,673 |
|
Benefits and Expenses |
|
|
8,151,872 |
|
|
|
1,442,989 |
|
|
|
4,319,443 |
|
|
|
13,914,304 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment Income (Loss) |
|
$ |
1,130,561 |
|
|
$ |
394,948 |
|
|
$ |
(2,834,140 |
) |
|
$ |
(1,308,631 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Assets |
|
$ |
121,460,882 |
|
|
$ |
55,510,806 |
|
|
$ |
60,865,474 |
|
|
$ |
237,837,162 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
Life |
|
|
Annuity |
|
|
|
|
|
|
|
June 30, 2004 |
|
Reinsurance |
|
|
Reinsurance |
|
|
Corporate |
|
|
Consolidated |
|
Revenues |
|
$ |
25,130,541 |
|
|
$ |
14,922,344 |
|
|
$ |
1,954,152 |
|
|
$ |
42,007,037 |
|
Benefits and Expenses |
|
|
24,221,596 |
|
|
|
14,802,342 |
|
|
|
8,213,123 |
|
|
|
47,237,060 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment Income
(Loss) before
cumulative effect of
a change in
accounting principle |
|
$ |
908,946 |
|
|
$ |
120,002 |
|
|
$ |
(6,258,971 |
) |
|
$ |
(5,230,023 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Cumulative effect of
a change in
accounting principle |
|
$ |
|
|
|
$ |
(365,960 |
) |
|
$ |
|
|
|
$ |
(365,960 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment Income (Loss) |
|
$ |
908,946 |
|
|
$ |
(245,958 |
) |
|
$ |
(6,258,971 |
) |
|
$ |
(5,595,983 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Assets |
|
$ |
220,280,815 |
|
|
$ |
666,102,422 |
|
|
$ |
86,128,401 |
|
|
$ |
972,511,638 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
5. Accounting Standards
Emerging Issues Task Force
The Emerging Issues Task Force (EITF) of the Financial Accounting Standards Board (FASB)
issued EITF Issue No. 03-1, The Meaning of Other-Than-Temporary Impairment and Its Application to
Certain Investments in late 2003. It contains two aspects that impact the Company. First, it
provides details regarding disclosures about unrealized losses on available-for-sale debt and
equity securities accounted for under SFAS No. 115, Accounting for Certain Investments in Debt and
Equity Securities.
-10-
These disclosures were effective in annual financial statements for fiscal years ended after
December 15, 2003. Second, it provides additional guidance for evaluating whether an investment is
other-than-temporarily impaired. This guidance was scheduled to be effective for reporting periods
beginning after June 30, 2004. However, the FASB has since determined that a delay in the effective
date of these provisions was necessary until it can issue additional guidance on the application of
EITF Issue No. 03-1. The Company will assess whether this guidance will have a material impact on
the Companys results of operations or financial condition once it is released.
AICPA Statement of Position (SOP) 03-1
In July 2003, the Accounting Standards Executive Committee of the American Institute of
Certified Public Accountants (AICPA) issued Statement of Position (SOP) 03-1, Accounting and
Reporting by Insurance Enterprises for Certain Non-Traditional Long-Duration Contracts and for
Separate Accounts. The SOP is effective for financial statements for fiscal years beginning after
December 15, 2003 and provides guidance on accounting and reporting by insurance enterprises for
certain nontraditional long-duration contracts and for separate accounts. The SOP changed the
manner in which life insurance companies account for certain types of insurance and reinsurance
contracts. On January 1, 2004, the Company adopted this new accounting standard. At that time, the
Company had a combined GMDB/GMIB agreement with Connecticut General Life Insurance Company
(CIGNA) and an annuity reinsurance agreement with Transamerica that were both affected by the
adoption of the new SOP. The cumulative effect of the change in accounting principle was a net loss
of $365,960 for the three months ended March 31, 2004. The Company no longer has any reinsurance
agreements that are affected by the SOP.
Share-Based Payments
On December 16, 2004, the FASB issued SFAS No. 123 (revised 2004), Share-Based Payment
(SFAS No. 123R). SFAS No. 123R replaces SFAS No. 123 Accounting for Stock-Based Compensation
and supersedes APB opinion No. 25 Accounting for Stock Issued to Employees. SFAS No. 123R
requires all entities to recognize compensation expense in an amount equal to the fair value of
share-based payments granted to employees and is effective as of the beginning of the first quarter
of the first fiscal year that begins after June 15, 2005. Because the Company applies fair value
accounting to all employee stock options granted or modified subsequent to December 31, 2002, the
impact of this statement will be to record compensation expense utilizing fair value accounting for
awards vesting on or after July 1, 2005 that were granted on or before December 31, 2002. The pro
forma table in Note 3 illustrates the impact of SFAS No. 123 on the Companys unaudited condensed
consolidated statement of operations; SFAS No. 123R will have no additional impact on the Companys
financial position and results of operations.
6. Related Party Transactions
Michael P. Esposito, Jr., a director of the Company, currently serves as the non-executive
Chairman of the Board of XL Capital Ltd (XL Capital). Robert M. Lichten, a director of the
Company, serves as a director of a United States-based subsidiary of XL Capital. XL Capital is a
major stockholder of the Company.
7. Restricted Stock
In 2002, the Board of Directors adopted a Restricted Stock Plan (the Plan) under which it
may grant common shares to key employees. The aggregate number of common shares that may be granted
under
-11-
the Plan is 1,200,000, and the Compensation Committee of the Board of Directors administers
the Plan. Since the inception of the Plan, the Company has issued 976,000 shares of restricted
stock. As a result of certain employees terminating their employment with the Company, 227,133
shares of restricted stock were cancelled in 2003, 115,667 shares of restricted stock were
cancelled in 2004 and 21,667 shares of restricted stock were cancelled in 2005. Also, 60,833 shares
of restricted stock vested in 2003 and 2004 prior to certain employees terminating their employment
with the Company. The following table summarizes the vesting schedule for the shares of restricted
stock issued to current employees and outstanding as of June 30, 2005:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Employee Shares |
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at |
|
|
Shares Vested at |
|
|
Shares Vesting in |
|
|
Shares Vesting in |
|
Grant Date |
|
June 30, 2005 |
|
|
June 30, 2005 |
|
|
2005 |
|
|
2006 |
|
February 13, 2002 |
|
|
40,700 |
|
|
|
40,700 |
|
|
|
|
|
|
|
|
|
September 30, 2002 |
|
|
75,000 |
|
|
|
50,000 |
|
|
|
25,000 |
|
|
|
|
|
February 28, 2003 |
|
|
200,000 |
|
|
|
133,333 |
|
|
|
|
|
|
|
66,667 |
|
June 25, 2003 |
|
|
235,000 |
|
|
|
156,666 |
|
|
|
|
|
|
|
78,334 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
550,700 |
|
|
|
380,699 |
|
|
|
25,000 |
|
|
|
145,001 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The fair value as determined at the date of grant of the restricted stock awards that
were outstanding on June 30, 2005 was approximately $1,460,000 and is reflected in the Companys
balance sheet as common shares and additional paid-in-capital. The fair value of the outstanding
restricted stock is being amortized on a straight-line basis over the three-year vesting period.
Based on the vesting of the restricted stock, and offset partially by cancellations of restricted
stock, approximately $162,000 and $56,000 was expensed during the six months ended June 30,
2005 and 2004, respectively. The unamortized balance of outstanding restricted stock is
reflected in the balance sheet as a component of unamortized stock based compensation and was
approximately $141,000 at June 30, 2005 and approximately $775,000 at June 30, 2004.
8. Vulnerability Due to Concentrations
As a result of the life reinsurance agreements that were novated to Transamerica as of
December 31, 2004, certain of the Companys remaining agreements, which previously did not
represent a significant percentage of the Companys business, have become more prominent. The
Companys three largest life reinsurance agreements, as measured by gross premiums, are now with
National States Insurance Company (National States), John Hancock Life Insurance Company (John
Hancock) and Omega Reinsurance Corporation (Omega). For the three and six months ended June 30,
2005, the Company recorded a loss of approximately $1.4 million and $2.3 million, respectively,
related to its life reinsurance agreement with National States. Premiums associated with this
agreement for the three and six months ended June 30, 2005 were approximately $2.3 million and $4.9
million, respectively. For the three and six months ended June 30, 2005, the Company recorded gross
profits of approximately $0.4 million and $1.0 million, respectively, related to its life
reinsurance agreement with John Hancock. Premiums associated with this agreement for the three and
six months ended June 30, 2005 were approximately $0.4 million and $1.0 million, respectively. For
the three and six months ended June 30, 2005, the Company recorded gross (losses) profits of
approximately $(0.1) million and $0.4 million related to its life reinsurance agreement with Omega.
Premiums associated with this agreement for the three and six months ended June 30, 2005 were
approximately $0.1 million and $0.6 million, respectively.
The Company has a significant deferred annuity reinsurance agreement with Lafayette Life
Insurance Company (Lafayette). Due to the size of this agreement, there is a material
concentration of net
-12-
investment income, interest credited to interest sensitive products, funds withheld at
interest, deferred policy acquisition costs and interest sensitive contract liabilities.
Approximately $48.1 million, or 90%, of the Companys funds withheld at interest, approximately
$53.8 million, or 100%, of the Companys interest sensitive contracts liability, and approximately
$2.8 million, or 49%, of the deferred acquisition costs on the Companys unaudited condensed
consolidated balance sheet were related to its reinsurance agreement with Lafayette as of June 30,
2005.
Since June 1, 2000, 100% of Annuity and Life Reassurance Americas life and annuity policies
that were in force prior to the Companys acquisition of that entity were reinsured with Reassure
America Life Insurance Company (Reassure). Following the acquisition, the policies continue to be
100% reinsured with Reassure; however, Annuity and Life Reassurance America remains the primary
carrier. Reassure is required to indemnify Annuity and Life Reassurance America for any losses
associated with these policies. However, Annuity and Life Reassurance America is not discharged
from its primary liability as the direct insurer of the risks reinsured should Reassure default on
its obligations. Reserves ceded under this reinsurance agreement amounted to approximately $77.8
million and $82.2 million at June 30, 2005 and December 31, 2004, respectively. As of June 30,
2005, Reassure is rated A+ (g) (superior) by A.M. Best.
9. Contingencies
As described in Note 2, the Company and Transamerica entered into a Master Agreement to novate
the Companys reinsurance contracts with F&G and Scottish Re to Transamerica effective December 31,
2004. In accordance with the terms of the Master Agreement, the Company and Transamerica have been
in discussions regarding possible adjustments to the policy benefit reserves transferred to
Transamerica as part of the F&G novation. On March 30, 2005, the Company received a demand letter
from Transamerica stating that $7,000,000 was owed to Transamerica as an adjustment to the F&G
policy benefit reserves. On June 14, 2005, the Company received an additional letter from
Transamerica revising its original demand to $6,000,000. Because the Company has been unable to
resolve this issue through continued discussions with Transamerica, the Company has sought
adjudication of the dispute in accordance with the provisions of the Master Agreement. While there
can be no assurances, the Company does not believe that Transamerica is entitled to this
$6,000,000.
On October 8, 2003, the Company was served with a statutory demand for $640,000 from Imagine
Group Holdings Limited (Imagine), a Bermuda based reinsurance company, which was subsequently
withdrawn. Imagine has since instituted a civil proceeding in the Bermuda Supreme Court against the
Company, alleging that the Company is obligated to reimburse it for $640,000 of expenses incurred
by Imagine in connection with a proposed December 2002 capital raising transaction that was not
consummated. On March 11, 2004, the Company filed an amended defense with the court to which
Imagine responded on April 26, 2004. The Company does not believe that Imagine is entitled to
reimbursement of these expenses under the applicable agreement and is defending itself against
Imagines claims.
The United States Internal Revenue Service (IRS) has conducted an audit of the Companys
United States operating subsidiaries. Those companies currently have a significant tax based net
operating loss carryforward. In addition, the IRS has requested certain information and documents
related to the Companys Bermuda operations. While the Companys United States operating
subsidiaries have complied with the IRS requests for information, both the Company and its Bermuda
operating subsidiary have declined to supply the IRS with certain information in response to its
initial requests for information on May 7, 2002 and July 1, 2002. The Company did provide the IRS
with certain publicly available information in addition to minutes of the Board of Directors
meetings and committee meetings held from
-13-
1999 through to 2001. The Company has not received any additional requests for information
since July 1, 2002. If the IRS were to determine that the Company or its Bermuda operating
subsidiary were engaged in business in the United States, those entities could be subject to United
States tax at regular corporate rates on their taxable income that is attributable to a permanent
establishment, if any, in the United States plus an additional 30% branch profits tax on such
income remaining after the regular tax. Such taxes would have a material effect on the Companys
results of operation and financial condition.
Pursuant to an engagement letter dated January 19, 2004, as amended (the Engagement Letter),
the Company engaged UBS Securities LLC (UBS) to serve as its financial advisor and capital
markets advisor in connection with identifying strategic alternatives available to the Company. The
Engagement Letter provides that if, during the term of the Engagement Letter, the Company closes an
equity investment, the Company is obligated to pay UBS a minimum transaction fee of $1,000,000. If
the Company closes a sale transaction during the term of the Engagement Letter, the Company is
obligated to pay UBS a minimum transaction fee of either $1,500,000 or $2,000,000, depending on
whether the other party to that transaction is one identified in the Engagement Letter. In any
case, the transaction fee payable to UBS may increase as the transaction value increases. Any
transaction fee payable to UBS under the Engagement Letter will be offset by certain fees paid by
the Company to UBS prior to the closing of the equity investment or sale transaction. At June 30,
2005, such fees totaled $270,000. The Company is also obligated to pay a transaction fee to UBS if,
during the one year period following the expiration or termination of the Engagement Letter, the
Company either consummates or enters into an agreement that results in an equity investment or sale
transaction with any party identified to the Company by UBS as part of their engagement or with
which the Company had discussions during the term of the Engagement Letter.
On April 15, 2005, the Company and its wholly owned subsidiary Annuity and Life Reassurance,
Ltd. were served with a Writ of Summons from the Bermuda Supreme Court, whereby Rodney Cordle, a
former employee of the Company, alleges that the Company and its subsidiary failed to pay a monthly
housing allowance to him in accordance with the terms of his employment agreement. Mr. Cordle is
seeking $287,403 plus damages, interest and costs. The Company and its subsidiary have engaged
attorneys to defend the litigation and cannot predict the outcome of this case at this time.
-14-
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
General
Annuity and Life Re (Holdings), Ltd. was incorporated on December 2, 1997 under the laws of
Bermuda. We provide annuity and life reinsurance to select insurers and reinsurers through our
wholly-owned subsidiaries: Annuity and Life Reassurance, Ltd., which is licensed under the
insurance laws of Bermuda as a long term insurer; and Annuity and Life Re America, Inc., an
insurance holding company based in the United States, and its subsidiary, Annuity and Life
Reassurance America, Inc., a life insurance company authorized to conduct business in over 40
states of the United States and the District of Columbia. We acquired Annuity and Life Reassurance
America on June 1, 2000. For more information regarding the business and operations of our company
and its subsidiaries, please see our Annual Report on Form 10-K for the year ended December 31,
2004.
Our company has encountered significant difficulties during the last four years. In addition
to reporting significant operating losses for those years, we have reduced our operations
significantly through the novation, termination and recapture of many of our life and annuity
reinsurance agreements. We continue to receive premiums and pay claims under our remaining
reinsurance treaties; however, we are not currently underwriting any new treaties or accepting any
new business from our existing treaties.
On December 31, 2004, we entered into a binding letter of intent with Transamerica
Occidental Life Insurance Company (Transamerica) that provided for the novation of our life
reinsurance agreements with Scottish Re Limited (Scottish Re) and with Fidelity and Guaranty Life
Insurance Company (F&G) to Transamerica as of December 31, 2004. The letter of intent also
provided that, upon consummation of the novation of the life reinsurance agreements, Transamerica
would terminate its annuity reinsurance agreement with us and recapture all business ceded under
the agreement effective as of December 1, 2004. Our annuity reinsurance agreement with Transamerica
has generated substantial losses since 2001 and has required us to make significant cash payments
to Transamerica. Terminating or restructuring this agreement had been a key strategic objective, as
well as a critical step to pursuing any strategic alternatives.
Pursuant to our letter of intent with Transamerica, on January 31, 2005, we executed
definitive documents and novated our life reinsurance agreements with Scottish Re and F&G to
Transamerica as of December 31, 2004. In consideration of these novations, we paid Transamerica
$18.5 million, representing a transfer of reserves related to the life reinsurance agreements that
were novated. Also on January 31, 2005, we executed an amendment to our annuity reinsurance
agreement with Transamerica pursuant to which our agreement with Transamerica was terminated, and
Transamerica recaptured all business ceded under the agreement effective as of December 1, 2004. In
consideration of the recapture, we paid Transamerica all amounts owed under the annuity reinsurance
agreement through November 30, 2004, which was approximately $7.1 million, along with a termination
premium of $14.0 million.
In connection with the novations of the life reinsurance agreements, approximately $28.9
million of collateral held in a trust established with respect to our life reinsurance agreement
with Scottish Re was transferred to Transamerica. In addition, $23.8 million of the letters of
credit we posted in connection with our life reinsurance agreement with F&G were cancelled and the
collateral securing those letters of credit was released to us. Approximately $39.6 million was
paid to Transamerica in connection with the novation and recapture transactions from this
collateral, including $18.5 million as consideration for the novations, a $14.0 million termination
premium and approximately $7.1 million for amounts due to Transamerica on December 1, 2004.
Following those payments, approximately $13.1 million of cash and securities previously posted as
collateral was released to us. On March 30, 2005, we received a demand
-15-
letter from Transamerica stating that $7.0 million was owed to Transamerica as an adjustment
to the F&G policy benefit reserves. On June 14, 2005, we received an additional letter from
Transamerica revising its original demand to $6.0 million. Because we have been unable to resolve
this issue through continued discussions with Transamerica, we have sought adjudication of the
dispute in accordance with the provisions of the Master Agreement. While there can be no
assurances, we do not believe that Transamerica is entitled to this $6.0 million.
Our remaining life reinsurance agreements are the reinsurance of ordinary life insurance,
primarily for mortality risk. Profitability of our life reinsurance line depends in large part on
the volume and amount of death claims incurred. While death claims are reasonably predictable over
a long time horizon, they are less predictable over shorter periods and are subject to fluctuation
from quarter to quarter and year to year, particularly given the relatively small size of our in
force business as a result of recaptures and terminations in previous periods. Significant
fluctuations from period to period could adversely affect the results of our operations. Similarly,
claims experience that exceeds what we anticipated at the time we enter into reinsurance agreements
can also adversely affect the results of our operations, as occurred in 2003 and 2002. At June 30,
2005 and December 31, 2004, the total face amount of our life insurance in force was approximately
$2.2 billion and $2.3 billion, respectively.
Our remaining annuity reinsurance agreement reinsures general account fixed deferred
annuities. Profitability of this agreement is primarily dependent on earning a spread between the
interest rate earned on the assets under management and the interest rate credited to the
policyholder. This agreement is market and interest rate sensitive. Fluctuations in the general
level of interest rates and fixed income markets from period to period may cause fluctuations in
the profitability of this agreement. At June 30, 2005 and December 31, 2004, our liability for
annuity reinsurance agreements amounted to approximately $53.8 million and $57.8 million,
respectively.
Because our financial results are heavily dependent on three life reinsurance agreements and
one remaining annuity reinsurance agreement, large fluctuations in actual experience under any one
of these agreements could cause volatility in our overall financial results.
While we believe we have sufficient operating liquidity to sustain our operations for at least
the next twelve months, we continue to explore strategic alternatives to attempt to maximize
shareholder value. These alternatives include, but are not limited to, a merger, sale, joint
venture, sale of assets, including our remaining reinsurance agreements, or other comparable
transaction. We cannot make any assurance that these transactions will be completed on favorable
terms. For a more detailed discussion of certain factors that could materially and adversely affect
our financial condition and results of operations, please see Forward-Looking Statements.
Critical Accounting Policies
Our unaudited condensed consolidated financial statements are prepared in accordance with
accounting principles generally accepted in the United States of America, which require our
management to make estimates and assumptions that affect the amounts of our assets, liabilities,
stockholders equity and results of operations. We believe that the following critical accounting
policies, as well as those set forth in our Form 10-K for the year ended December 31, 2004, detail
the more significant estimates and assumptions used in the preparation of our unaudited condensed
consolidated financial statements.
Deferred Policy Acquisition Costs. The costs of acquiring new business, principally
allowances, which vary with and are primarily related to the production of new business, are
deferred. For traditional life and annuity policies with life contingencies, deferred policy
acquisition costs are charged to expense
-16-
using assumptions consistent with those used in computing policy reserves. Assumptions as to
anticipated premiums are estimated at the date of the policy issuance, or the effective date of the
most recent premium rate increase, and are consistently applied during the life of the contracts.
Deviations from estimated experience are reflected in earnings in the period such deviations occur.
For these contracts, the amortization periods are generally the estimated life of the policies. We
terminated or recaptured several of our reinsurance agreements during 2003 and 2004, which caused
us to incur significant deferred acquisition cost write-downs. For example, we completed the
termination and recapture of our annuity reinsurance agreement with Transamerica effective as of
December 1, 2004, which resulted in a write off of deferred acquisition costs of approximately
$63,100,000 in 2004. We will consider other transactions that are economically beneficial to us,
which may require write downs of deferred acquisition costs.
In preparing our financial statements, we make assumptions about our proportionate share of
future investment income that will be earned from the investment of premiums received from
underlying policyholders by our ceding companies and about future rates of lapse of policies
underlying our annuity reinsurance agreements. These assumptions have a direct impact on our
estimated expected gross profits on our annuity reinsurance agreements and, therefore, on the
recoverability of the deferred acquisition costs carried on our balance sheet for these agreements.
While these estimates are based upon historical results and information provided to us by our
ceding companies, actual results could differ (and, in the past, have differed) materially from our
estimates for a variety of reasons, including the failure of our ceding companies to report timely
information regarding material developments under our reinsurance agreements. Such differences
could be material to our future results. If our assumptions for investment returns prove to be
inaccurate, or if lapse rates exceed our assumptions, we may be required to record additional
charges, which would adversely impact our results of operations.
Consistent with our accounting policies, we review the key assumptions used in determining the
carrying value of our deferred acquisition cost associated with our annuity reinsurance agreement
each quarter. A change in these assumptions could result in additional charges that would adversely
impact future results of operations. If our assumptions for total returns prove to be inaccurate,
or if lapse rates exceed our assumptions, we may be required to record additional write downs of
deferred acquisition costs, which would adversely impact future results of operations. For example,
assuming no change in lapse assumptions, the net impact of a 100 basis point decrease in our total
return assumptions in all future years would have required an additional write down of deferred
acquisition costs of approximately $1,400,000 as of June 30, 2005.
Embedded Derivatives. We have concluded that there is an embedded derivative within the Funds
withheld at interest related to our annuity reinsurance agreement with Lafayette Life Insurance
Company (Lafayette) that requires bifurcation and separate accounting under Statement of
Financial Accounting Standards No. 133 Accounting for Derivative Instruments and Hedging
Activities. This embedded derivative is similar to a total return swap arrangement on the
underlying assets held by Lafayette. The fair value of the embedded derivative is classified as
part of our Funds withheld asset on our balance sheet. We have developed a cash flow model with the
assistance of outside advisors to arrive at an estimate of the fair value of this total return swap
that uses various assumptions regarding future cash flows under the agreement. The fair value of
the embedded derivative is influenced by changes in credit risk, changes in expected future cash
flows under the agreement and interest rates. The change in fair value of the embedded derivative
is recorded in our statement of operations as Net change in fair value of embedded derivatives.
The change in fair value of the embedded derivative also impacts the emergence of expected
gross profits for purposes of amortizing deferred acquisition costs associated with our annuity
reinsurance agreement with Lafayette. The application of this accounting policy has increased the
volatility of our
-17-
reported results of operations. While we have made an estimate of the fair value of the
embedded derivative using a model that we believe to be appropriate and based upon reasonable
assumptions, the assumptions used are subjective and may require adjustment in the future. Changes
in our assumptions could have a significant impact on the fair value of the embedded derivative and
our reported results of operations.
Recognition of Revenues and Expenses. Reinsurance premium revenues from life products with
mortality risk are recognized when due from the policyholders. Premiums from universal life and
investment-type contracts are recorded on our balance sheet as interest sensitive contracts
liability. Revenues from these investment-type contracts consist of income earned on the assets and
amounts assessed during the period against policyholders account balances for mortality charges,
policy administration charges and surrender charges. Items that are charged to expense represent
interest credited to policyholder accounts and other benefits in excess of related policyholders
account balances, including lifetime minimum interest guarantee payments. We make estimates at the
end of each reporting period regarding premiums and benefits for ceding companies who do not report
such information in a timely manner. These estimates can have a significant effect on the amounts
we report in our financial statements.
Reserves for Policy Benefits, Including Claims Incurred but not Reported (IBNR) and Interest
Sensitive Contracts Liability. The development of reserves for policy benefits and for claims
incurred but not reported for our life reinsurance contracts requires us to make estimates and
assumptions regarding mortality, lapse, persistency, expense and investment experience. Such
estimates are primarily based on historical experience and information provided by ceding
companies. Actual results could differ, and in the past have differed, materially from those
estimates. We monitor actual experience, and where circumstances warrant, will revise our
assumptions and the related reserve estimates.
Our obligations arising from our fixed annuity reinsurance agreements came from our agreement
with Lafayette and, in 2004, our agreement with Transamerica. Our obligations for these fixed
annuity agreements were reflected on our balance sheet as interest sensitive contracts liability.
On December 31, 2004, we entered into a binding letter of intent with Transamerica which provided
that it would terminate its annuity reinsurance agreement with us and recapture all business ceded
under the agreement effective as of December 1, 2004. Pursuant to this letter of intent, on January
31, 2005, we executed definitive documents and completed the termination and recapture of our
annuity reinsurance agreement with Transamerica.
AICPA Statement of Position (SOP) 03-1. In July 2003, the Accounting Standards Executive
Committee of the American Institute of Certified Public Accountants (AICPA) issued Statement of
Position 03-1 (SOP), Accounting and Reporting by Insurance Enterprises for Certain
Non-Traditional Long-Duration Contracts and for Separate Accounts, which provides guidance on
accounting and reporting by insurance enterprises for certain nontraditional long-duration
contracts and for separate accounts. The SOP is effective for financial statements for fiscal years
beginning after December 15, 2003. We adopted the SOP as of January 1, 2004. We no longer have any
reinsurance agreements that are affected by the SOP.
Stock-Based Compensation. On December 16, 2004, the FASB issued SFAS No. 123 (revised 2004),
Share-Based Payment (SFAS No. 123R). SFAS No. 123R replaces SFAS No. 123 Accounting for
Stock-Based Compensation and supersedes APB opinion No. 25 Accounting for Stock Issued to
Employees. SFAS No. 123R requires all entities to recognize within compensation expense an amount
equal to the fair value of share-based payments granted to employees and is effective as of the
beginning of the first quarter of the first fiscal year that begins after June 15, 2005. We already
record
-18-
compensation expense for awards of stock options and restricted stock to employees based on
the fair value of the awards, consequently this statement will not impact our results of operations
or financial condition.
If actual events differ significantly from the underlying estimates and assumptions used by us
in the application of any of the aforementioned accounting policies, there could be a material
adverse effect on our results of operations and financial condition.
Operating Results
Net Loss. For the three months ended June 30, 2005, we had a net loss of $(539,968), or
$(0.02) per basic and fully diluted common share, as compared with a net loss of $(6,430,378), or
$(0.25) per basic and fully diluted common share, for the three months ended June 30, 2004. For the
six months ended June 30, 2005, we had a net loss, after the cumulative effect of a change in
accounting principle, of $(1,308,631), or $(0.05) per basic and fully diluted common share, as
compared to net loss of $(5,595,983), or $(0.22) per basic and fully diluted common share, for the
six months ended June 30, 2004.
Our loss for the three and six months ended June 30, 2005 was the result of our operating
expenses exceeding our net investment income as a result of the significantly reduced size of our
remaining book of business. In addition, during the first six months of 2005 we encountered
favorable experience relative to our assumptions at December 31, 2004 on the Scottish Re and F&G
life reinsurance agreements that were novated to Transamerica at December 31, 2004. Our net loss
during the three and six months ended June 30, 2004 was primarily due to the $5,000,000 accrual for
our portion of the settlement payment under the shareholder lawsuit.
Net Premiums. Net premium revenue for the three and six months ended June 30, 2005 was
$2,927,917 and $8,416,183, a decrease of 72% and 66%, respectively, from net premium revenue of
$10,348,881 and $24,659,522, respectively, for the three and six month periods ended June 30, 2004.
Substantially all premium revenue was derived from traditional ordinary life reinsurance
agreements. The decline in premium revenue reflects the significant reduction of business in force
resulting from the novations of our life reinsurance agreements with Scottish Re and F&G as of
December 31, 2004. At June 30, 2005, the total face amount of life insurance in force decreased to
approximately $2.2 billion, as compared with approximately $16.5 billion at June 30, 2004. Our
largest life reinsurance agreement represented approximately $0.2 billion of life insurance in
force at June 30, 2005 and approximately $4.9 million of premium revenue for the six months ended
June 30, 2005.
Net Investment Income. Total net investment income for the three and six months ended June
30, 2005 was $1,609,615 and $3,275,624, respectively, as compared with $3,844,066 and $13,094,801,
respectively, for the three and six months ended June 30, 2004. Net investment income is comprised
of income earned on our general account assets and income earned on assets held and managed by our
reinsurance ceding companies under modified coinsurance contracts, which we refer to as Funds
withheld.
Net investment income earned on our general account assets for the three and six months ended
June 30, 2005 was approximately $955,000 and $1,941,000, respectively, as compared to $1,396,000
and $2,951,000, respectively, for the three and six months ended June 30, 2004. The average
annualized yield rate earned on our general account assets for the three and six months ended June
30, 2005 was approximately 3.88% and 3.48%, respectively, as compared with approximately 3.39% and
3.24%, respectively, for the three and six months ended June 30, 2004. Because the amount of our
cash and
-19-
invested assets has decreased significantly due to payments associated with the novation of
certain life reinsurance agreements to Transamerica as of December 31, 2004, we expect our net
investment income earned on our general account assets for 2005 to be substantially less than 2004.
Net investment income earned on Funds withheld for the three and six months ended June 30,
2005 was approximately $655,000 and $1,334,000, respectively, as compared to approximately
$2,448,000 and $10,144,000, respectively, for the three and six months ended June 30, 2004. The
decrease in investment income on our Funds withheld was the result of our annuity reinsurance
agreement with Transamerica being recaptured as of December 1, 2004. Approximately $1.7 million and
$8.7 million, respectively, of net investment income earned on Funds withheld for the three and six
months ended June 30, 2004 related to our annuity reinsurance agreement with Transamerica. The
average annualized yield rates earned on Funds withheld were approximately 4.80% and 4.89%,
respectively, for the three and six months ended June 30, 2005, as compared with 4.99% and 4.50%,
respectively, for the three and six months ended June 30, 2004. For purposes of calculating the
average yield rates earned on our Funds withheld at interest, we include our share of the
investment income and net realized capital gains and losses as reported to us through our
settlements with our ceding companies.
Net Realized Investment (Losses) Gains. Net realized investment (losses) gains for the three
and six months ended June 30, 2005 were $(6) and $401,144, respectively, as compared with net
realized investment (losses) gains of $(137,885) and $541,040, respectively, for the three and six
months ended June 30, 2004. The level of net realized investment gains for both periods reflected
the transfer and sale of securities in our investment portfolio to ceding companies in connection
with the termination and recapture of certain of our reinsurance agreements in the first six months
of 2005 and 2004. Although we have moved a greater portion of our invested assets into longer
duration investments, we continue to hold a relatively large portion of our assets in short
duration investments. We will adjust our investment strategy based on developments in the markets
and our business and those adjustments may result in realized gains or losses being recognized. We
make decisions concerning the sales of invested assets based on a variety of market, business and
other factors.
Net Change in the Fair Value of Embedded Derivatives. Under SFAS No. 133, we have been
required to bifurcate and separately account for the embedded derivatives contained in our annuity
reinsurance agreement with Lafayette. Unrealized changes in the fair value of the embedded
derivative are reflected in our results of operations. For the three and six months ended June 30,
2005, the net change in fair value of our embedded derivatives was an unrealized (loss) gain of
$(35,736) and $451,409, respectively. For the three and six months ended June 30, 2004, the net
change in fair value of our embedded derivatives was an unrealized gain of $518,786 and $1,126,174,
respectively.
Surrender Fees and Other Revenue. Surrender fees and other revenue for the three and six
months ended June 30, 2005 were $30,677 and $61,313, respectively, as compared with $1,510,568 and
$2,585,500, respectively, for the three and six months ended June 30, 2004. For the six months
ended June 30, 2005, this income was solely derived from surrender fees related to our fixed
annuity agreement with Lafayette. Approximately $1.5 million and $2.5 million, respectively, of
surrender fee revenue was generated on account of our annuity reinsurance agreement with
Transamerica for the three and six months ended June 30, 2004. In light of the termination and
recapture of our annuity reinsurance agreement with Transamerica, effective as of December 1, 2004,
we do not expect to report significant surrender fee revenue in future periods.
Claims and Policy Benefits. Claims and policy benefits include both life and variable annuity
benefits, which, during the first half of 2004, included GMDB and GMIB. Claims and policy benefits
for the three months ended June 30, 2005 and 2004 were $1,587,086 and $8,769,049, or 54% and 85% of
net
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premiums, respectively. For the six months ended June 30, 2005 and 2004, claims and policy
benefits were $6,189,529 and $19,013,707, or 74% and 77% of net premiums, respectively. The
absolute decline in claims and policy benefits compared to the same period in 2004 was the result
of the significant reduction of life insurance in force from approximately $16.5 billion at June
30, 2004 to approximately $2.2 billion at June 30, 2005. This included the termination of our
GMDB/GMIB agreement with CIGNA which was effective July 1, 2004 as well as the novation of our life
reinsurance agreements with Scottish Re and F&G to Transamerica as of December 31, 2004. While the
novations of these life reinsurance agreements will reduce claims and policy benefits throughout
2005, they may increase volatility in the level of claims and policy benefits as a percentage of
premiums.
Interest Credited to Interest Sensitive Products. Interest credited to interest sensitive
products, which are liabilities we assume under certain annuity reinsurance agreements, was
$257,075 and $626,253, respectively, for the three and six months ended June 30, 2005, as compared
with $1,822,643 and $5,351,892, respectively, for the three and six months ended June 30, 2004.
The reduction in interest credited to Interest sensitive products for the three and six months
ended June 30, 2005 as compared to the same periods in 2004 was due to the recapture and
termination of our annuity reinsurance agreement with Transamerica which was effective December 1,
2004. For the three and six months ended June 30, 2005, Interest credited to interest sensitive
products related entirely to our fixed annuity agreement with Lafayette. Interest credited to
interest sensitive products for the three and six months ended June 30, 2004 included lifetime
minimum interest guarantee payments of approximately $3,583,000 and $5,411,000, respectively,
related to our Transamerica agreement.
Policy Acquisition Costs and Other Insurance Expenses. Policy acquisition costs and other
insurance expenses, consisting primarily of allowances and amortization and write downs of deferred
policy acquisition costs, for the three and six months ended June 30, 2005 were $1,008,209 and
$2,364,446, respectively, as compared with $4,654,527 and $12,835,524, respectively, for the three
and six months ended June 30, 2004. The decrease for the three and six months ended June 30, 2005
reflects the reduction in the size of our book of business as a result of the termination and
recapture of our annuity reinsurance agreement with Transamerica and the novation of our life
reinsurance agreements with Scottish Re and F&G to Transamerica.
Operating Expenses. Operating expenses for the three months ended June 30, 2005 were
$2,220,065 or 49% of total revenue (excluding the net change in fair value of embedded
derivatives), as compared with $7,268,575 or 47% of total revenue (excluding the net change in fair
value of embedded derivatives) for the three months ended June 30, 2004. Operating expenses for the
six months ended June 30, 2005 were $4,734,076 or 39% of total revenue (excluding the net change in
fair value of embedded derivatives), as compared to $10,035,937 or 25% of total revenue (excluding
the net change in fair value of embedded derivatives) for the six months ended June 30, 2004.
The decrease in expenses for the three and six months ended June 30, 2005 reflects the accrual
of $5,000,000 for the settlement of the purported shareholder class action lawsuit in June 2004.
Segment Results
We separately track financial results of our life and annuity operations in segments. Each
segment is defined by a dominant risk characteristic inherent in products in that segment. The life
segment consists of all products where the dominant risk characteristic is mortality risk. The
annuity segment comprises all products where the dominant risk characteristic is investment risk.
In addition, our remaining modified coinsurance annuity reinsurance agreement has features that
constitute embedded derivatives that require bifurcation and separate accounting under SFAS No. 133
Accounting for Derivative Instruments and Hedging Activities. The change in the fair value of
these embedded derivatives is included in the annuity
-21-
segment. Both the life and annuity segments have specific assets, liabilities, stockholders
equity, revenue, benefits and expenses that apply only to them. The corporate segment contains all
stockholders equity not otherwise deployed to the life or annuity segment. In addition, the
corporate segment includes all capital gains and losses from sales of securities in our portfolio
and investment income on undeployed invested assets. Operating expenses are generally allocated to
the segments proportionately based upon the amount of stockholders equity deployed to the segment.
Costs associated with our efforts to raise capital and pursue other strategic alternatives and the
costs of settling the shareholder class action lawsuit have been completely allocated to the
corporate segment. Segment results are reported in Note 4 to our unaudited condensed consolidated
financial statements.
Life Segment. Our life reinsurance segment is the reinsurance of ordinary life insurance,
primarily for mortality risks. Ordinary life reinsurance generally is the reinsurance of
individual term life insurance policies, whole life insurance policies and joint and survivor
insurance policies on a yearly renewable term basis. In addition, we reinsured the mortality risk
inherent in universal life insurance policies, variable universal life insurance policies and
variable life insurance policies.
Our life segment is our largest segment as measured by revenues. Life segment income for the
three months ended June 30, 2005 was $950,879, as compared with segment income of $734,366 for the
three months ended June 30, 2004. Segment income for the six months ended June 30, 2005 was
$1,130,561, as compared to segment income of $908,946 for the six months ended June 30, 2004.
Segment revenues for the three months ended June 30, 2005 declined 69% to $3,314,514 from
$10,515,041 for the three months ended June 30, 2004. Segment revenues for the six months ended
June 30, 2005 declined 63% to $9,282,433 from $25,130,541 for the six months ended June 30, 2004.
This decline reflects our reduced levels of life insurance in force as a result of novations of
life reinsurance agreements at the end of 2004. In addition, net investment income attributable to
the life segment for the first six months of 2005 decreased by approximately $907,000, as compared
with the first six months of 2004, reflecting reduced invested assets in the life segment as a
result of the novations to Transamerica at the end of 2004.
Segment policy benefits and expenses decreased 76% to $2,363,635 for the three months ended
June 30, 2005, as compared with $9,780,675 for the three months ended June 30, 2004. Segment policy
benefits and expenses for the six months ended June 30, 2005 decreased 66% to $8,151,872, as
compared to $24,221,596 for the six months ended June 30, 2004. The decline is attributable to the
significant reduction in life insurance in force at the end of 2004 when our agreements with F&G
and Scottish Re were novated to Transamerica. While novations of life reinsurance agreements in
2004 have reduced claims and policy benefits in the first six months of 2005, they may increase
volatility in the level of claims and policy benefits as a percentage of premiums in the future.
Annuity Segment. Our annuity reinsurance segment has historically consisted of the
reinsurance of general account fixed deferred annuities and certain minimum guarantees arising from
variable annuities. We currently have only one remaining annuity reinsurance agreement, which
covers individual general account single premium deferred annuity policies, which involve the
tax-deferred accumulation of interest on a single premium paid by the policyholder (accumulation
phase policies). Accumulation phase policies are subject primarily to investment risk and
persistency (lapse) risk. Historically, we have also reinsured certain guarantees associated with
variable annuity agreements, including GMDB and GMIB. At June 30, 2005, we no longer reinsured any
GMDB or GMIB due to the recapture of our reinsurance agreement with CIGNA in 2004.
-22-
Our annuity segment has historically contained the majority of our assets and exposes us to
significant volatility in our results from operations due to the application of SFAS No. 133 -
Accounting for Derivative Instruments and Hedging Activities. We must currently bifurcate and
separately account for the embedded derivative associated with our annuity reinsurance agreement
with Lafayette, and we have had to do so for other annuity reinsurance agreements in the past. This
unrealized change in the value of the derivative is reported in our statement of operations each
quarter. The change in the value of the derivative can be large, and is driven by financial market
conditions, most notably credit risk related changes.
Annuity segment loss was $(42,212) for the three months ended June 30, 2005, as compared with
a loss of $(1,213,612) for the three months ended June 30, 2004. The segment loss for the three
months ended June 30, 2005 was largely the result of the net unrealized loss on our embedded
derivatives of $(35,736) on our agreement with Lafayette. The decline in segment loss is due to the
termination and recapture of the Transamerica annuity agreement at the end of 2004. During the
three months ended June 30, 2004, the Transamerica annuity reinsurance agreement incurred a loss of
approximately $(1,780,000). For the six months ended June 30, 2005, segment income was $394,948 as
compared to segment loss of $(245,958) for the six months ended June 30, 2004. The segment income
for the six months ended June 30, 2005 was largely the result of the net unrealized gain on our
embedded derivatives of $451,409 on our agreement with Lafayette.
Total revenue for our annuity segment declined 87% to $644,128 for the three months ended June
30, 2005, as compared with $5,002,269 for the three months ended June 30, 2004. Total revenue for
our annuity segment declined 88% to $1,837,937 for the six months ended June 30, 2005, as compared
with $14,922,344 for the six months ended June 30, 2004. This decline is due to the termination and
recapture of our annuity reinsurance agreement with Transamerica in 2004 and was primarily caused
by decreased investment income on our Funds withheld assets as a result of smaller asset base.
Approximately $1.7 million and $8.7 million, respectively, of net investment income earned on Funds
withheld for the three and six months ended June 30, 2004 was related to our annuity reinsurance
agreement with Transamerica.
Policy benefits and expenses for the annuity segment declined 89% to $686,340 for the three
months ended June 30, 2005, as compared with $6,215,881 for the three months ended June 30, 2004.
These expenses declined 90% to $1,442,989 for the six months ended June 30, 2005, as compared with
$14,802,342 for the six months ended June 30, 2004. The primary components of these expenses are
interest credited to policyholders, payments for minimum interest guarantees, payments and reserve
changes for minimum guarantees associated with variable annuity contracts and write downs and
amortization of deferred acquisition costs. The decline in policy benefits and expenses is
primarily due to the termination and recapture of our annuity reinsurance agreement with
Transamerica as of December 1, 2004. Policy benefits and expenses included minimum interest
guarantee payments on the Transamerica annuity reinsurance agreement of approximately $3,583,000
and $5,411,000, respectively, for the three and six months ended June 30, 2004.
Corporate Segment. The corporate segment includes all of our capital gains and losses,
investment income on undeployed invested assets, costs associated with our efforts to raise capital
and pursue other strategic alternatives, costs relating to the settlement of the shareholder class
action lawsuit and a proportionate share of operating expenses based upon how stockholders equity
is deployed to the life and annuity segments. As a result, the corporate segment, while small
relative to our total company, will likely have volatile results.
Segment losses of $(1,448,635) and $(2,834,140), respectively, were incurred for the three and
six months ended June 30, 2005, as compared with losses of $(5,951,132) and $(6,258,971),
respectively, for
-23-
the three and six months ended June 30, 2004. The decrease in segment loss for the three and
six months ended June 30, 2005 reflects the accrual of $5,000,000 for the settlement of the
purported shareholder class action lawsuit in June 2004. Revenues increased by 1% to $573,825 for
the three months ended June 30, 2005, as compared with $567,106 for the three months ended June 30,
2004, and declined by 24% to $1,485,303 for the six months ended June 30, 2005, as compared with
$1,954,152 for the six months ended June 30, 2004. This decrease in segment revenues was primarily
the result of lower investment income earned on general account assets as a result of the reduced
level of invested assets.
Segment benefits and expenses decreased significantly to $2,022,460 for the three months ended
June 30, 2005, as compared with $6,518,238 for the three months ended June 30, 2004. Segment
benefits and expenses decreased to $4,319,443 for the six months ended June 30, 2005, as compared
with $8,213,123 for the six months ended June 30, 2004. These decreases reflect the $5,000,000
accrual for the anticipated settlement of the purported shareholder class action lawsuit in June
2004.
Financial Condition
Investments
At June 30, 2005 and December 31, 2004, a large portion of our invested assets, including cash
and cash equivalents, were posted as collateral to secure our obligations under reinsurance
agreements and letter of credit facilities or were required to maintain the statutory capital and
surplus requirements of our U.S. operating subsidiary. At June 30, 2005, our invested assets,
including cash and cash equivalents, had an aggregate fair value of $96,387,843, as compared with
an aggregate fair value of $138,428,894 at December 31, 2004. The decline in our invested assets
during the first six months of 2005 was primarily due to the payment to Transamerica of $18,500,000
as consideration for the novations of our agreements with Scottish Life and F&G to Transamerica,
$14,000,000 for the termination and recapture of our annuity reinsurance agreement with
Transamerica and approximately $7,100,000 for amounts due to Transamerica through November 30,
2004. At June 30, 2005, gross unrealized gains totaled $673,675, as compared to gross unrealized
gains of $1,266,517 at December 31, 2004. At June 30, 2005 and December 31, 2004, the weighted
average duration of the fixed income securities included in our invested assets was 2.6 and 2.9
years, respectively, and the weighted average investment quality rating was AA at the end of each
period.
Our investments are governed by investment guidelines established and approved by our Board of
Directors. Our investment objectives are to achieve above average risk-adjusted total returns,
maintain a high quality portfolio, maximize current income, maintain an adequate level of liquidity
in our portfolio and match the cash flows of our investments to our related insurance liabilities.
Our investment guidelines require our overall fixed income portfolio to maintain a minimum weighted
average credit quality of A and limit investment in fixed income securities that are non-rated or
below investment grade at the time of purchase to an aggregate of $3,000,000. In 2004, we invested
approximately $900,000 in securities that were non-rated at the time of their purchase. While any
investment carries some risk, the risks associated with non-rated or lower-rated securities
generally are greater than the risks associated with investment grade securities. A fixed income
security rated A by Standard & Poors is considered to be somewhat more susceptible to the
adverse effects of changes in circumstances and economic conditions than higher rated issuers;
however, the issuers capacity to meet its financial commitment on the security is still considered
to be strong. We currently do not invest in any fixed income securities in emerging markets.
Prudential Investment Corporation serves as our advisor for our general account investment
portfolio. Our management agreement with Prudential may be terminated by either party with 45 days
notice. Our Board of Directors periodically reviews the performance of Prudential and the fees
associated with this
-24-
arrangement.
We do not engage in trading activities to generate realized investment gains and, thus, do not
have a trading portfolio. However, we evaluate the desirability of continuing to hold a security
when market conditions, creditworthiness or other measurement factors change. These changes may
relate to a change in the credit risk of an issuer and a decision to sell may be made to avoid
further declines in realizable value. Securities also may be sold prior to maturity to provide
liquidity, as was the case in 2003 and 2004. As a result, our securities are classified as
available for sale and are carried at fair value on our balance sheet.
At both June 30, 2005 and at December 31, 2004, there was one below investment-grade security
held in the portfolio. The market value of non-rated securities held at June 30, 2005 was
approximately $838,000. The fair value of such investments varies depending on economic and market
conditions, the level of interest rates and the perceived creditworthiness of the issuer. As noted
above, our investment guidelines require our overall fixed income portfolio to maintain a minimum
weighted average credit quality of A and limit the amount of our investments in fixed income
securities that are non-rated or below investment grade at the time of purchase. We monitor the
creditworthiness of the portfolio as a whole, and when the fair market value of a security declines
for reasons other than changes in interest rates or other perceived temporary conditions, the
security is written down to its fair value. At June 30, 2005 and December 31, 2004, there were no
impaired securities in our portfolio.
At June 30, 2005, mortgage-backed securities represented approximately 4% of our invested
assets, including cash and cash equivalents, as compared with approximately 7% at December 31,
2004. Investors in these securities are compensated primarily for reinvestment risk rather than
credit quality risk. Investments in mortgage-backed securities include collateralized mortgage
obligations (CMOs) and mortgage-backed pass-through securities. Mortgage backed securities
generally are collateralized by mortgages issued by the Government National Mortgage Association
(GNMA), the Federal National Mortgage Association and the Federal Home Loan Mortgage Corporation.
Of these, only GNMA mortgages are backed by the full faith and credit of the U.S. government.
Credit risk generally is not a consideration when investing in agency mortgage backed securities.
Our mortgage backed securities portfolio had a weighted average investment quality rating of AAA
at both June 30, 2005 and December 31, 2004.
At June 30, 2005, approximately 46% of our mortgage-backed investment portfolio consisted of
securities with planned repayment schedules, as compared with 17% at December 31, 2004. These
investments are designed to amortize in a more predictable manner by shifting the primary risk of
prepayment of the underlying collateral to investors in other tranches of the CMO.
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The following table summarizes our investment results (excluding investment income on assets
held and managed by our ceding companies or others on their behalf) for the periods indicated:
Investment Results
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended June 30, |
|
|
Twelve Months Ended December 31, |
|
|
|
2005 |
|
|
2004 |
|
|
2004 |
|
|
2003 |
|
|
2002 |
|
|
|
(Dollars in thousands) |
|
Total invested assets,
including cash and
equivalents (1) |
|
$ |
96,388 |
|
|
$ |
166,893 |
|
|
$ |
138,429 |
|
|
$ |
197,881 |
|
|
$ |
306,346 |
|
Investment income, net
of related expenses |
|
$ |
1,941 |
|
|
$ |
2,951 |
|
|
$ |
5,335 |
|
|
$ |
5,924 |
|
|
$ |
25,931 |
|
Effective annualized
yield rate (2) |
|
|
3.48 |
% |
|
|
3.24 |
% |
|
|
3.51 |
% |
|
|
2.53 |
% |
|
|
5.28 |
% |
Realized investment gains |
|
$ |
401 |
|
|
$ |
541 |
|
|
$ |
440 |
|
|
$ |
6,407 |
|
|
$ |
19,749 |
|
|
|
|
(1) |
|
Fair value at end of the indicated period. |
|
(2) |
|
The effective yield rate equals (i) net investment income divided by (ii) the average of
total adjusted invested assets (fixed maturities at amortized cost, including assets on
deposit with reinsurers) at the end of each calendar quarter included in the indicated
period. |
Funds Withheld at Interest
As of June 30, 2005, our ceding companies had approximately $53.3 million in assets that were
held and managed by them under our modified coinsurance and coinsurance funds withheld
arrangements. Approximately $48.1 million of the funds withheld at interest relates to our modified
coinsurance annuity reinsurance agreement with Lafayette, with the remaining $5.2 million related
to a coinsurance funds withheld life reinsurance agreement.
Our remaining annuity reinsurance agreement covers general account fixed deferred annuity
policies and is structured as a modified coinsurance arrangement. In this type of arrangement, the
ceding company invests the premiums received from policyholders or engages an investment manager to
do so, credits interest to policyholders accounts, processes surrenders and engages in other
administrative activities. The ceding company is also required to carry reserves for these annuity
policies based upon certain statutory rules in the state in which the ceding company is domiciled.
The underlying investments purchased with the premiums received from policyholders support these
statutory reserves.
Historically, when a ceding company enters into an annuity reinsurance agreement structured as
a modified coinsurance arrangement with us, a portion of the ceding companys liability to the
policyholders is ceded to us. Our remaining modified coinsurance arrangement is on a quota share
basis, so the portion that is ceded to us is a fixed percentage of the liabilities arising from the
underlying policies. Our share of the ceding companys liability is included on our balance sheet
as interest sensitive contracts liabilities. However, unlike other reinsurance arrangements in
which we receive cash or investments as consideration for assuming a portion of the ceding
companys liability, under these types of arrangements, we have established a receivable called
funds withheld at interest that is equal to our fixed portion of the statutory reserves carried
by the ceding company. We are allocated our share of the investment income and realized capital
gains and losses that arise from the securities in the investment portfolio underlying the
statutory reserve.
The average yield rate earned on the invested premiums funding our annuity obligations to
Lafayette was approximately 4.8% and 4.9%, respectively, for the three and six months ended June
30, 2005 and approximately 4.9% and 4.5%, respectively, for the three and six months ended June 30,
2004. For
-26-
purposes of calculating the average yield rate earned on assets held and managed by our ceding
companies, we include our share of the investment income and net realized capital gains and losses
as reported to us through our settlements with our ceding companies.
The performance of the assets held and managed by our ceding companies depends to a great
extent on the ability of the ceding company and its investment managers to make appropriate
investments consistent with their investment guidelines. If these assets do not achieve investment
returns sufficient to meet our obligations on the underlying policies, we could experience
unexpected losses.
Lafayette Annuity Reinsurance Agreement
Approximately $48.1 million, or 90%, of our funds withheld at interest receivable,
approximately $53.8 million, or 100%, of our interest sensitive contracts liability, and
approximately $2.8 million, or 49%, of the deferred acquisition costs on our balance sheet related
to our annuity reinsurance agreement with Lafayette as of June 30, 2005. As a result of the
termination and recapture of our annuity reinsurance agreement with Transamerica effective as of
December 1, 2004, we expect that the assets and liabilities associated with the Lafayette agreement
will represent a significant portion of our total assets and liabilities in future periods. The
amount of deferred acquisition costs we record as an asset on our balance sheet related to our
agreement with Lafayette is based on a series of assumptions related to the investment performance
of the assets supporting our liabilities under the agreement, as well as future lapse rates for the
underlying policies. These assumed lapse rates include assumptions regarding future full
surrenders, partial withdrawals, annuitizations and policyholder deaths. While we believe our
investment and lapse estimates to be reasonable, they are estimates of future events and we cannot
assure you that they will prove to be accurate. If such assumptions turn out to be inaccurate, we
could be required to write off additional deferred acquisition costs, which would have a
significant adverse impact on our results of operations in future periods.
The assets funding the policyholder obligations under our annuity reinsurance agreement with
Lafayette have an average credit quality of A- and an average duration of 3.6 years. The average
yield rates on the assets held and managed by Lafayette was approximately 4.6% as of June 30, 2005.
At June 30, 2005, none of the assets were invested in below investment grade or non-rated
securities. The premiums paid in connection with the underlying policies have been invested in
investment grade bonds and mortgage backed securities.
According to information provided by Lafayette, at June 30, 2005, the assets funding the
policyholder obligations under our annuity reinsurance agreement were comprised of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
% of Total |
|
Type of Security |
|
Book Value(1) |
|
|
Market Value |
|
|
Market Value |
|
Investment grade US corporate bonds |
|
$ |
44,273,372 |
|
|
$ |
46,033,804 |
|
|
|
82.9 |
% |
Mortgage-backed securities |
|
|
5,800,969 |
|
|
|
6,306,895 |
|
|
|
11.4 |
% |
Government bonds |
|
|
3,186,099 |
|
|
|
3,186,099 |
|
|
|
5.7 |
% |
|
|
|
|
|
|
|
|
|
|
Total invested assets |
|
$ |
53,260,440 |
|
|
$ |
55,526,798 |
|
|
|
100.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
Accrued investment income |
|
|
|
|
|
|
769,702 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total market value, including
accrued investment income |
|
|
|
|
|
$ |
56,296,500 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
-27-
|
|
|
(1) |
|
Book values are statutory book values reported to us by Lafayette for the underlying
investments and represent the value of our Funds withheld at interest receivable. We
present statutory book values in the above table because that is the basis upon which we
settle with Lafayette. We believe this presents a better understanding of potential future
returns and cash flows under the agreement. |
According to information provided by Lafayette, at June 30, 2005, the credit ratings of
the assets (excluding accrued investment income) funding the policyholder obligations under our
annuity reinsurance agreement were approximately as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
% of Total |
|
Ratings(1) |
|
Book Value(2) |
|
|
Market Value |
|
|
Market Value |
|
AAA |
|
$ |
5,473,766 |
|
|
$ |
5,475,141 |
|
|
|
9.9 |
% |
AA |
|
|
3,287,147 |
|
|
|
3,447,999 |
|
|
|
6.2 |
% |
A |
|
|
14,376,284 |
|
|
|
15,040,999 |
|
|
|
27.1 |
% |
BBB |
|
|
30,123,243 |
|
|
|
31,562,659 |
|
|
|
56.8 |
% |
|
|
|
|
|
|
|
|
|
|
Total invested assets |
|
$ |
53,260,440 |
|
|
$ |
55,526,798 |
|
|
|
100.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
Accrued investment income |
|
|
|
|
|
|
769,702 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total market value,
including accrued
investment income |
|
|
|
|
|
$ |
56,296,500 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
As assigned by Standard & Poors, or, if unrated by Standard & Poors, based on an
equivalent rating assigned by the National Association of Insurance Commissioners. |
|
(2) |
|
Book values are statutory book values reported to us by Lafayette for the underlying
investments and represent the value of our Funds withheld at interest receivable. We
present statutory book values in the above table because that is the basis upon which we
settle with Lafayette. We believe this presents a better understanding of potential future
returns and cash flows under the agreement. |
According to information provided by Lafayette, at June 30, 2005, the maturity
distribution of the assets funding the policyholder obligations under our annuity reinsurance
agreement was as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
% of Total |
|
Maturity |
|
Book Value(1) |
|
|
Market Value |
|
|
Book Value |
|
Within one year |
|
$ |
10,596,958 |
|
|
$ |
10,659,512 |
|
|
|
19.2 |
% |
From one to five years |
|
|
21,160,922 |
|
|
|
22,321,940 |
|
|
|
40.2 |
% |
From six to ten years |
|
|
18,909,687 |
|
|
|
19,630,082 |
|
|
|
35.3 |
% |
More than ten years |
|
|
2,592,873 |
|
|
|
2,915,264 |
|
|
|
5.3 |
% |
|
|
|
|
|
|
|
|
|
|
Total all years |
|
$ |
53,260,440 |
|
|
$ |
55,526,798 |
|
|
|
100.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Book values are those statutory book values reported to us by Lafayette for the
underlying investments and represent the value of our Funds withheld at interest
receivable. We present statutory book values in the above table because that is the basis
upon which we settle with Lafayette. We believe this presents a better understanding of
potential future returns and cash flows under the agreement. |
Liquidity and Capital Resources
Our liquidity and capital resources are a measure of our overall financial strength and our
ability to generate cash flows from our operations to meet our operating and growth needs. Our
principal sources of
-28-
funds are premiums received, net investment income, proceeds from investments called, redeemed
or sold and cash and short-term investments. Our principal obligations and uses of the funds are to
post collateral for the statutory reserves ceded to us by U.S. based insurers and reinsurers, the
payment of policy benefits, acquisition and operating expenses and the purchase of investments.
Under the terms of our reinsurance agreements, we are required to provide letters of credit or
fund trust accounts with liquid assets to satisfy the collateral requirements of our ceding
companies. At June 30, 2005 and December 31, 2004, letters of credit totaling $10,500,000 and
$35,100,000, respectively, had been issued in the ordinary course of our business by our bankers in
favor of certain ceding insurance companies (including our U.S. operating subsidiary) to provide
security and meet regulatory requirements. At June 30, 2005 and December 31, 2004, cash and
investments of approximately $15,200,000 and $41,300,000, respectively, were pledged as collateral
for letters of credit. At June 30, 2005 and December 31, 2004, cash and investments of nil and
approximately $28,900,000, respectively, were held in trust for the benefit of certain of our
ceding insurance companies to provide security and to meet regulatory requirements. At June 30,
2005, we had satisfied the collateral requirements of all of our ceding companies.
We have two reinsurance operating subsidiaries, one of which is based in and operates out of
Bermuda, and the other of which is based in and operates out of the United States. Our Bermuda
operating subsidiary reinsures a large portion of the reinsurance business written by our U.S.
operating subsidiary. The primary purpose of this reinsurance is to provide reinsurance capacity to
our U.S. operating subsidiary so that it can compete in its market place. Our Bermuda operating
subsidiary also has made capital infusions into the U.S. operating subsidiary to allow the U.S.
Company to maintain targeted statutory surplus levels and to provide cash and securities as
collateral for the reinsurance cessions the U.S. operating subsidiary makes to the Bermuda
operating company. At June 30, 2005, approximately $50,800,000 of our cash and cash equivalents and
fixed income securities were held by the U.S. operating subsidiary and were not available to us or
our Bermuda operating subsidiary to fund our liquidity or collateral needs.
In connection with the novations of the life reinsurance agreements, approximately $28,900,000
of collateral held in a trust established with respect to our life reinsurance agreement with
Scottish Re was transferred to Transamerica. In addition, $23,800,000 of letters of credit we
posted on behalf of our life reinsurance agreement with F&G was cancelled and the collateral
securing those letters of credit was released to us. Approximately $39,600,000 was paid to
Transamerica in connection with the novation and recapture transactions from this collateral,
including $18,500,000 as consideration for the novations, a $14,000,000 termination premium and
approximately $7,100,000 for amounts due to Transamerica as of December 1, 2004. Following those
payments, approximately $13,100,000 of cash and securities previously posted as collateral was
released to us. On March 30, 2005, we received a demand letter from Transamerica stating that
$7,000,000 was owed to Transamerica as an adjustment to the F&G policy benefit reserves. On June
14, 2005, we received an additional letter from Transamerica revising its original demand to
$6,000,000. Because we have been unable to resolve this issue through continued discussions with
Transamerica, we have sought adjudication of the dispute in accordance with the provisions of the
Master Agreement. While there can be no assurances, we do not believe that Transamerica is entitled
to this $6,000,000.
Although our liquidity position has improved following the novation and recapture transactions
we completed with Transamerica, a large portion of our cash and investments is held by our U.S.
operating subsidiary or is posted as collateral under our remaining life reinsurance agreements and
is unavailable to fund our operations or those of our Bermuda operating subsidiary.
-29-
At June 30, 2005, our total capitalization, which consisted entirely of equity, was
$65,016,137. During 2001, our Board of Directors approved a share repurchase program of up to an
aggregate of $25,000,000 of our common shares from time to time in the future if market conditions
so dictate. As of June 30, 2005, no shares had been repurchased under this program.
For the six months ended June 30, 2005, we utilized $41,566,790 of our cash and equivalents to
fund operating activities, as compared with using cash and equivalents of $28,450,290 from our
operating activities for the six months ended June 30, 2004. The utilization of our cash and
equivalents during the first six months of 2005 primarily reflects the $18,500,000 payment as
consideration for the novations of our agreements with Scottish Life and F&G to Transamerica, the
$14,000,000 premium paid to Transamerica for the termination and recapture of our annuity
reinsurance agreement and approximately $7,100,000 for amounts due to Transamerica for monthly
settlements under our annuity reinsurance agreement through November 30, 2004.
We have no material commitments for capital expenditures as of June 30, 2005. We continue to
receive premiums and pay claims under our remaining reinsurance treaties; however, we are not
currently underwriting any new treaties or accepting any new business from our existing treaties.
While we believe we have sufficient operating liquidity to sustain our operations through at least
the next twelve months, we continue to explore strategic alternatives to attempt to maximize
shareholder value. These alternatives include, but are not limited to, a merger, sale, joint
venture, sale of assets, including our remaining reinsurance agreements, or other comparable
transaction. We cannot make any assurance that these transactions will be completed on favorable
terms.
Both we and our Bermuda operating subsidiary, Annuity and Life Reassurance, are required to
comply with the provisions of the Bermuda Companies Act that regulate the payment of dividends and
the making of distributions from contributed surplus. Under the Act, neither we nor Annuity and
Life Reassurance may declare or pay a dividend, or make a distribution out of contributed surplus,
if there are reasonable grounds for believing that: (i) the relevant company is, or would be after
the payment, unable to pay its liabilities as they become due; or (ii) the realizable value of the
relevant companys assets would thereby be less than the aggregate of its liabilities and its
issued share capital and share premium accounts. As of and since December 31, 2002, we have not
declared a dividend to shareholders. The declaration and payment of future dividends to holders of
our common shares will be at the discretion of our Board of Directors and will depend upon our
earnings and financial condition, capital requirements of our subsidiaries, the ability of our
operating subsidiaries to pay dividends to us, regulatory considerations and other factors the
Board of Directors deems relevant.
Forward-Looking and Cautionary Statements
This report, together with other statements and information we may provide, contains
forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and
Section 21E of the Securities Exchange Act of 1934. These statements may include, but are not
limited to, projections of revenues, income or loss, capital expenditures, plans for future
operations and financing needs or plans, as well as assumptions relating to the foregoing. The
words expect, project, estimate, predict, anticipate, believe and similar expressions
are intended to identify forward-looking statements, although not all forward-looking statements
include these expressions. Forward-looking statements are inherently subject to risks and
uncertainties, some of which cannot be predicted or quantified. Future events and actual results,
performance and achievements could differ materially from those set forth in, contemplated by or
underlying the forward-looking statements. Factors that could materially and adversely affect our
operations and financial condition and/or cause our actual results of operations or financial
condition to differ from those expressed or implied in our forward-looking statements include,
-30-
but are not necessarily limited to, our ability to meet the obligations associated with our
current business and to fund our continuing operations; the loss of a key executive; our ability to
pursue strategic alternatives on favorable terms; the outcome of pending legal proceedings
involving us; the ability of our ceding companies to manage successfully assets they hold on our
behalf; our success in managing our investments; changes in mortality, morbidity and claims
experience; our ability to make accurate estimates and assumptions regarding future mortality,
persistency, lapses, expenses and investment performance based upon historical results and
information provided to us by our ceding companies; changes in market conditions, including changes
in interest rate levels; the competitive environment; the impact of recent and possible future
terrorist attacks and the U.S. governments response thereto; regulatory changes (such as changes
in U.S. tax law and insurance regulation that directly affect the competitive environment for our
products); and a prolonged economic downturn. Investors are also directed to consider the risks and
uncertainties discussed in other documents we have filed with the Securities and Exchange
Commission, and in particular, our Annual Report on Form 10-K for the year ended December 31, 2004.
We do not undertake to update any forward-looking statement that may be made from time to time by
or on our behalf.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
There have been no material changes since December 31, 2004 with respect to our market risk
exposure described in our Annual Report on Form 10-K for the year ended December 31, 2004. Please
refer to Item 7A: Quantitative and Qualitative Disclosures about Market Risk in our Annual Report
on Form 10-K for the year ended December 31, 2004.
Item 4. Controls and Procedures
Evaluation of disclosure controls and procedures
The Companys principal executive officer and its principal financial officer, based on their
evaluation of the Companys disclosure controls and procedures (as defined in Rule 13a-15(e) under
the Securities Exchange Act of 1934, as amended (the Exchange Act)), have concluded that the
Companys disclosure controls and procedures were effective for the purposes set forth in the
definition thereof in Exchange Act Rule 13a-15(e) as of June 30, 2005.
Changes in internal control over financial reporting
In April 2005, the Company resolved one of the material weaknesses that had been identified in
its system of internal control caused by a lack of segregation of duties by transferring its
computer network administrator responsibilities to an external network management firm.
There were no other changes to the Companys system of internal control during the three
months ended June 30, 2005 that have materially affected, or are reasonably likely to materially
affect, the Companys internal control over financial reporting. Please refer to Item 9a. Controls
and Procedures in our Annual Report on Form 10-K for the year ended December 31, 2004.
-31-
PART II
OTHER INFORMATION
Item 1. Legal Proceedings
On October 8, 2003, we were served with a statutory demand for $640,000 from Imagine Group
Holdings Limited (Imagine), a Bermuda based reinsurance company, which was subsequently
withdrawn. Imagine has since instituted a civil proceeding in the Bermuda Supreme Court against us,
alleging that we are obligated to reimburse it for $640,000 of expenses incurred by Imagine in
connection with a proposed December 2002 capital raising transaction that was not consummated. On
March 11, 2004, we filed an amended defense with the court to which Imagine responded on April 26,
2004. We do not believe that Imagine is entitled to reimbursement of these expenses under the
applicable agreement and intend to defend ourselves against Imagine Res claims.
On April 15, 2005 the Company and its wholly owned subsidiary Annuity and Life Reassurance,
Ltd. were served with a Writ of Summons from the Bermuda Supreme Court, whereby Rodney Cordle, a
former employee of the Company, alleges that the Company and its subsidiary failed to pay a monthly
housing allowance to him in accordance with the terms of his employment agreement. Mr. Cordle is
seeking $287,403 plus damages, interest and costs. The Company and its subsidiary have engaged
attorneys to defend the litigation, and cannot predict the outcome of this case at this time.
There are no other material arbitration or other legal proceedings currently in process in
which we are involved.
-32-
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
The following table summarizes our equity security repurchases during the three months ended
June 30, 2005:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Number of |
|
|
Approximate Dollar |
|
|
|
|
|
|
|
|
|
|
|
Shares Purchased as |
|
|
Value of Shares that |
|
|
|
|
|
|
|
|
|
|
|
Part of Publicly |
|
|
May Yet Be Purchased |
|
|
|
Total Number of |
|
|
Average Price Paid |
|
|
Announced Plans or |
|
|
Under the |
|
Period |
|
Shares Purchased |
|
|
per Share |
|
|
Programs |
|
|
Plans or Programs (1) |
|
April 1
April 30, 2005 |
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
25,000,000 |
|
May 1 May 31, 2005 |
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
25,000,000 |
|
June 1 June 30, 2005 |
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
25,000,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
25,000,000 |
|
|
|
|
(1) |
|
During 2001, the Companys Board of Directors approved a share repurchase program to allow
the Company to repurchase up to an aggregate $25,000,000 of its common shares in the future if
market conditions so dictate. As of June 30, 2005, no shares had been repurchased under the
program. |
Item 6. Exhibits
|
31.1 |
|
Rule 13a-14(a)/15d-14(a) Certification of the Companys Chief Executive Officer. |
|
|
31.2 |
|
Rule 13a-14(a)/15d-14(a) Certification of the Companys Chief Financial Officer. |
|
|
32.1 |
|
Section 1350 Certification of the Companys Chief Executive Officer. |
|
|
32.2 |
|
Section 1350 Certification of the Companys Chief Financial Officer. |
-33-
ANNUITY AND LIFE RE (HOLDINGS), LTD.
SIGNATURES
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.
|
|
|
|
|
|
|
ANNUITY AND LIFE RE (HOLDINGS), LTD. |
|
|
|
|
|
|
|
/s/ John F. Burke |
|
|
|
|
|
|
|
|
|
Name: John F. Burke |
|
|
Date: August 5, 2005
|
|
Title: Chief Executive Officer |
|
|
|
|
|
|
|
|
|
/s/ John W. Lockwood |
|
|
|
|
|
|
|
|
|
Name: John W. Lockwood |
|
|
Date: August 5, 2005
|
|
Title: Chief Financial Officer |
|
|
-34-
Exhibit Index
|
31.1 |
|
Rule 13a-14(a)/15d-14(a) Certification of the Companys Chief Executive Officer. |
|
|
31.2 |
|
Rule 13a-14(a)/15d-14(a) Certification of the Companys Chief Financial Officer. |
|
|
32.1 |
|
Section 1350 Certification of the Companys Chief Executive Officer. |
|
|
32.2 |
|
Section 1350 Certification of the Companys Chief Financial Officer. |
-35-