-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, ANM3JMkPyW46uExzZyGw7wuV21oUFy+20p2DEalIT7OgH4WI+TZvVAgckevjayPE 5wbdpwI/3X9Le+CJCfyY1g== 0000912057-01-539060.txt : 20020410 0000912057-01-539060.hdr.sgml : 20020410 ACCESSION NUMBER: 0000912057-01-539060 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 20010930 FILED AS OF DATE: 20011113 FILER: COMPANY DATA: COMPANY CONFORMED NAME: AETNA LIFE INSURANCE & ANNUITY CO /CT CENTRAL INDEX KEY: 0000837010 STANDARD INDUSTRIAL CLASSIFICATION: LIFE INSURANCE [6311] IRS NUMBER: 710294708 STATE OF INCORPORATION: CT FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 033-23376 FILM NUMBER: 1783402 BUSINESS ADDRESS: STREET 1: 151 FARMINGTON AVE CITY: HARTFORD STATE: CT ZIP: 06156 BUSINESS PHONE: 2032737834 MAIL ADDRESS: STREET 1: 151 FARMINGTON AVENUE CITY: HARTFORD STATE: CT ZIP: 06156 10-Q 1 a2063236z10-q.txt 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Form 10-Q Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended September 30, 2001 ------------------ Commission file number 33-23376 -------- AETNA LIFE INSURANCE AND ANNUITY COMPANY - -------------------------------------------------------------------------------- (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) Connecticut 71-0294708 - -------------------------------------------------------------------------------- (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.) 151 Farmington Avenue, Hartford, Connecticut 06156 - -------------------------------------------------------------------------------- (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) Registrant's telephone number, including area code (860) 273-0123 ----------------------------- None - -------------------------------------------------------------------------------- FORMER NAME, FORMER ADDRESS AND FORMER FISCAL YEAR IF CHANGED SINCE LAST REPORT Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ---------------- ---------------- Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Shares Outstanding Title of Class at November 9, 2001 - -------------- ------------------- Common Stock, par value $50 55,000 The registrant meets the conditions set forth in General Instruction H(1)(a) and (b) of Form 10-Q and is therefore filing this Form with the reduced disclosure format. AETNA LIFE INSURANCE AND ANNUITY COMPANY AND SUBSIDIARIES (A wholly owned subsidiary of Aetna Retirement Holdings, Inc.) TABLE OF CONTENTS
PAGE ------- PART I. FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited): Consolidated Statements of Income 3 Consolidated Balance Sheets 4 Consolidated Statements of Changes in Shareholder's Equity 5 Consolidated Statements of Cash Flows 6 Condensed Notes to Consolidated Financial Statements 7 Independent Accountants' Review Report 17 Item 2. Management's Analysis of the Results of Operations 18 PART II. OTHER INFORMATION Item 1. Legal Proceedings 29 Item 5. Other Information 30 Item 6. Exhibits and Reports on Form 8-K 30 Signature 31
2 PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS AETNA LIFE INSURANCE AND ANNUITY COMPANY AND SUBSIDIARIES (A wholly owned subsidiary of Aetna Retirement Holdings, Inc.) Consolidated Statements of Income (Unaudited) (millions)
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30, ------------------------------------------------------------------------ 2001 2000 2001 2000 ---- ---- ---- ---- Revenue: Premiums $22.2 $41.8 $ 83.1 $117.1 Charges assessed against policyholders 92.7 119.9 290.2 351.0 Net investment income 222.4 231.9 662.1 681.5 Net realized capital gains (losses) 10.0 (11.2) 30.3 (23.1) Other income 39.9 44.0 128.9 117.5 ----------- ------------ ------------ ------------ Total revenue 387.2 426.4 1,194.6 1,244.0 Benefits and expenses: Current and future benefits 181.8 199.8 547.2 598.3 Operating expenses: Salaries and related benefits 48.3 52.3 135.2 144.0 Other 43.2 60.1 151.4 166.4 Amortization of deferred policy acquisition costs and value of business acquired 30.6 36.8 89.3 96.4 Amortization of goodwill 14.4 - 43.3 - ----------- ------------ ------------ ------------ Total benefits and expenses 318.3 349.0 966.4 1,005.1 ----------- ------------ ------------ ------------ Income from continuing operations before income taxes 68.9 77.4 228.2 238.9 Income taxes 27.1 22.7 94.4 75.9 ----------- ------------ ------------ ------------ Income from continuing operations 41.8 54.7 133.8 163.0 Discontinued operations, net of tax: Amortization of deferred gain on sale - 1.5 - 4.7 ----------- ------------ ------------ ------------ Net income $41.8 $ 56.2 $133.8 $167.7 =========== ============ ============ ============
See Condensed Notes to Consolidated Financial Statements. 3 Consolidated Balance Sheets (millions, except share data)
SEPTEMBER 30, DECEMBER 31, ASSETS 2001 2000 - ------ ---- ---- (UNAUDITED) Investments: Debt securities available for sale, at fair value (amortized cost: $12,712.8 and $11,120.0) $13,126.3 $11,244.7 Equity securities, at fair value: Nonredeemable preferred stock (cost: $28.5 and $109.0) 23.5 100.7 Investment in affiliated mutual funds (cost: $23.5 and $9.6) 24.8 12.7 Common stock (cost: $6.9 and $2.2) 4.7 3.5 Short-term investments 20.7 109.4 Mortgage loans 192.9 4.6 Policy loans 334.7 339.3 Other investments 15.4 13.4 Securities pledged to creditors (amortized cost: $812.8 and $126.8) 822.3 129.0 ---------------- ---------------- Total investments 14,565.3 11,957.3 Cash and cash equivalents 40.2 796.3 Short-term investments under securities loan agreement 851.4 131.8 Accrued investment income 179.7 147.2 Premiums due and other receivables 175.6 82.9 Reinsurance recoverable 2,989.7 3,005.8 Current income taxes - 40.6 Deferred policy acquisition costs 97.5 12.3 Value of business acquired 1,776.4 1,780.9 Goodwill 2,265.7 2,297.4 Other assets 161.3 154.7 Separate Accounts assets 30,668.7 36,745.8 ---------------- ---------------- Total assets $53,771.5 $57,153.0 ================ ================ LIABILITIES AND SHAREHOLDER'S EQUITY Liabilities: Future policy benefits $3,995.1 $ 3,977.7 Unpaid claims and claim expenses 25.0 29.6 Policyholders' funds left with the Company 12,006.6 11,125.6 ---------------- ---------------- Total insurance reserve liabilities 16,026.7 15,132.9 Payables under securities loan agreement 851.4 131.8 Current income taxes 76.8 - Deferred income taxes 263.6 248.0 Other liabilities 1,363.8 549.9 Separate Accounts liabilities 30,668.7 36,745.8 ---------------- ---------------- Total liabilities 49,251.0 52,808.4 ---------------- ---------------- Shareholder's equity: Common stock, par value $50 (100,000 shares authorized; 55,000 shares issued and outstanding) 2.8 2.8 Paid-in capital 4,303.8 4,303.8 Accumulated other comprehensive gain 67.5 25.4 Retained earnings 146.4 12.6 ---------------- ---------------- Total shareholder's equity 4,520.5 4,344.6 ---------------- ---------------- Total liabilities and shareholder's equity $53,771.5 $57,153.0 ================ ================
4 Consolidated Statements of Changes in Shareholder's Equity (Unaudited) (millions)
NINE MONTHS ENDED SEPTEMBER 30, -------------------------------- 2001 2000 ---- ---- Shareholder's equity, beginning of period $4,344.6 $1,385.7 Comprehensive income: Net income 133.8 167.7 Other comprehensive income, net of tax: Unrealized gains on securities ($64.8, $46.6 pretax) (1) 42.1 30.3 ------------- -------------- Total comprehensive income 175.9 198.0 ------------- -------------- Other changes - 0.9 Common stock dividends - (10.1) ------------- -------------- Shareholder's equity, end of period $4,520.5 $1,574.5 ============= ==============
(1) Net of reclassification adjustments. See Condensed Notes to Consolidated Financial Statements. 5 Consolidated Statements of Cash Flows (Unaudited) (millions)
NINE MONTHS ENDED SEPTEMBER 30, ---------------------------------------- 2001 2000 ---- ---- Cash Flows from Operating Activities: Net income $ 133.8 $ 167.7 Adjustments to reconcile net income to net cash (used for) provided by operating activities: Net accretion of discount on investments (9.9) (25.2) Amortization of deferred gain on sale - (4.7) Net realized capital (gains) losses (30.3) 23.1 Changes in assets and liabilities: (Increase) decrease in accrued investment income (32.5) 2.0 Decrease in premiums due and other receivables 77.9 13.2 Decrease (increase) in policy loans 4.6 (24.6) Increase in deferred policy acquisition costs (85.2) (108.8) Decrease in value of business acquired 4.5 - Goodwill amortization, net of adjustments 31.7 - Net increase in universal life account balances 19.1 21.0 (Decrease) increase in other insurance reserve liabilities (97.0) 84.6 Increase in other liabilities and other assets (171.0) (69.0) Increase in income taxes 111.5 36.6 ------------------ ------------------- Net cash (used for) provided by operating activities (42.8) 115.9 ------------------ ------------------- Cash Flows from Investing Activities: Proceeds from sales of: Debt securities available for sale 8,167.9 9,074.5 Equity securities 4.3 107.4 Mortgage loans 3.8 2.1 Investment maturities and collections of: Debt securities available for sale 824.8 488.0 Short-term investments 3,695.1 57.2 Cost of investment purchases in: Debt securities available for sale (10,046.6) (9,128.6) Equity securities (28.7) (16.5) Mortgages loans (192.2) - Short-term investments (3,602.8) (89.9) Increase (decrease) in property and equipment (33.0) 2.9 Other, net (1.8) (4.6) ------------------ ------------------- Net cash (used for) provided by investing activities (1,209.2) 492.5 ------------------ ------------------- Cash Flows from Financing Activities: Deposits and interest credited for investment contracts 1,464.2 1,275.1 Withdrawals of investment contracts (852.7) (1,606.9) Dividends paid to Shareholder - (10.1) Other, net (115.6) 24.4 ------------------ ------------------- Net cash provided by (used for) financing activities 495.9 (317.5) ------------------ ------------------- Net (decrease) increase in cash and cash equivalents (756.1) 290.9 Effect of exchange rate changes on cash and cash equivalents - 2.0 Cash and cash equivalents, beginning of period 796.3 694.4 ------------------ ------------------- Cash and cash equivalents, end of period $ 40.2 $ 987.3 ================== =================== Supplemental cash flow information: Income taxes (received) paid, net $ (26.8) $ 39.4 ================== ===================
See Condensed Notes to Consolidated Financial Statements. 6 CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. BASIS OF PRESENTATION The consolidated financial statements include Aetna Life Insurance and Annuity Company ("ALIAC") and its wholly owned subsidiaries, Aetna Insurance Company of America ("AICA"), Aetna Investment Adviser Holding Company, Inc. ("IA Holdco") and Aetna Investment Services, LLC ("AIS"). ALIAC, together with its wholly owned subsidiaries, is herein called the "Company". ALIAC is a wholly owned subsidiary of Aetna Retirement Holdings, Inc. ("HOLDCO"), which is a wholly owned subsidiary of Aetna Retirement Services, Inc. ("ARSI"). ARSI is indirectly owned by ING Groep N.V. ("ING"). On June 30, 2000, HOLDCO contributed AIS to the Company. (Refer to Note 6). The Company has three business segments: Worksite Products, Individual Products and Investment Management Services. On October 1, 1998, the Company sold its individual life insurance business to Lincoln National Corporation ("Lincoln") and accordingly, it is now classified as Discontinued Operations. These consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America and are unaudited. The contribution of AIS to the Company was accounted for in a manner similar to that of a pooling-of-interests and, accordingly, the Company's historical consolidated financial statements have been restated to include the accounts and results of operations of AIS. These interim financial statements necessarily rely heavily on estimates, including assumptions as to annualized tax rates. In the opinion of management, all adjustments necessary for a fair statement of results for the interim periods have been made. All such adjustments are of a normal, recurring nature. Certain reclassifications have been made to 2000 financial information to conform to the 2001 presentation. The accompanying condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes as presented in ALIAC's 2000 Annual Report on Form 10-K. Certain financial information that is normally included in annual financial statements prepared in accordance with accounting principles generally accepted in the United States of America, but that is not required for interim reporting purposes, has been condensed or omitted. Operating results for three and nine months ended September 30, 2001, are not necessarily indicative of the results that may be expected for the year ended December 31, 2001. 2. NEW ACCOUNTING STANDARD As of January 1, 2001, the Company adopted FAS No. 133, Accounting for Derivative Instruments and Hedging Activities, as amended and interpreted by FAS No. 137, Accounting for Derivative Instruments and Hedging Activities - Deferral of the Effective Date of FASB Statement No. 133, FAS No 138, Accounting for Certain Derivative Instruments and Certain Hedging Activities - an Amendment of FASB Statement No 133, and certain FAS No 133 implementation issues. This standard, as amended, requires companies to record all derivatives on the balance sheet as either 7 assets or liabilities and measure those instruments at fair value. The manner in which companies are to record gains or losses resulting from changes in the fair values of those derivatives depends on the use of the derivative and whether it qualifies for hedge accounting. Adoption of FAS No. 133 did not have a material effect on the Company's financial position or results of operations given the Company's limited derivative and embedded derivative holdings. (Refer to Note 7.) The Company utilizes futures contracts, options, interest rate floors and warrants in order to manage interest rate and price risk (collectively, market risk). These financial exposures are monitored and managed by the Company as an integral part of its overall risk management program. (Refer to Note 7.) Derivatives are recognized on the balance sheet at their fair value. The Company chose not to designate its derivative instruments as part of hedge transactions. Therefore changes in the fair value of the Company's derivative instruments are recorded immediately in the consolidated statements of income as part of realized capital gains and losses. Warrants are carried at fair value and are recorded as either derivative instruments or FAS No. 115 available for sale securities. Warrants that are considered derivatives are carried at fair value if they are readily convertible to cash. The values of these warrants can fluctuate given that the companies which underlie the warrants are non-public companies. At September 30, 2001, the estimated value of these warrants was immaterial. These warrants will be revalued each quarter and the change in the value of the warrants will be included in the consolidated statements of income. The Company, at times, may own warrants on common stock which are not readily convertible to cash as they contain certain conditions which preclude their convertibility and therefore, will not be included in assets or liabilities as derivatives. If conditions are satisfied and the underlying stocks become marketable, the warrants would be reclassified as derivatives and recorded at fair value as an adjustment through current period results of operations. The Company occasionally purchases a financial instrument that contains a derivative that is "embedded" in the instrument. In addition the Company's insurance products are reviewed to determine whether they contain an embedded derivative. The Company assesses whether the economic characteristics of the embedded derivative are clearly and closely related to the economic characteristics of the remaining component of the financial instrument or insurance product (i.e., the host contract) and whether a separate instrument with the same terms as the embedded instrument would meet the definition of a derivative instrument. When it is determined that the embedded derivative possesses economic characteristics that are not clearly and closely related to the economic characteristics of the host contract and that a separate instrument with the same terms would qualify as a derivative instrument, the embedded derivative is separated from the host contract and carried at fair value. However, in cases where the host contract is measured at fair value, with changes in fair value reported in current period earnings or the Company is unable to reliably identify and measure the embedded derivative for separation from its host contract, the entire contract is carried on the balance sheet at fair value and is not designated as a hedging instrument. The Company had approximately $1 million of embedded derivatives relating to investments at September 30, 2001. 8 3. FUTURE ACCOUNTING STANDARD ACCOUNTING FOR GOODWILL AND INTANGIBLE ASSETS In July 2001, the Financial Accounting Standards Board ("FASB") issued Financial Accounting Standard ("FAS") No. 142, Accounting for Goodwill and Intangible Assets. Under the new standard, goodwill and intangible assets deemed to have indefinite lives will no longer be amortized but will be subject to annual impairment tests in accordance with the new standard. Other intangible assets will continue to be amortized over their useful lives. The Company will apply the new rules on accounting for goodwill and other intangible assets beginning in the first quarter of 2002. Application of the nonamortization provisions of the new standard is expected to result in an increase in net income; however, the Company is still assessing the impact of the new standard. During 2002, the Company will perform the required impairment tests of goodwill as of January 1, 2002 and has not yet determined what the effect of these tests will be on the earnings and financial position of the Company. 4. SALE OF AETNA FINANCIAL SERVICES AND AETNA INTERNATIONAL On December 13, 2000, ING America Insurance Holdings, Inc., an indirect wholly owned subsidiary of ING, acquired Aetna Inc., comprised of the Aetna Financial Services business, of which the Company is a part, and the Aetna International business, for approximately $7.7 billion. The purchase price was comprised of approximately $5.0 billion in cash and the assumption of $2.7 billion of outstanding debt and other net liabilities. In connection with the acquisition, Aetna Inc. was renamed Lion Connecticut Holdings Inc. ("Lion"). At the time of the sale, Lion entered into certain transition services agreements with a former related party, Aetna U.S. Healthcare, which was renamed Aetna Inc. ("former Aetna"). For accounting purposes, the acquisition was accounted for as of November 30, 2000 using the purchase method. The application of the purchase method, including the recognition of goodwill, was pushed down and reflected on the financial statements of certain ARSI subsidiaries, including ALIAC. The purchase price was allocated to assets and liabilities based on their respective fair values. This revaluation resulted in a net increase to assets, excluding the effects of goodwill, of $592.0 million and a net increase to liabilities of $310.6 million. Additionally, the Company established goodwill of $2.3 billion. Goodwill is being amortized over a period of 40 years. The allocation of the purchase price to assets and liabilities is subject to further refinement. Unaudited proforma consolidated income from continuing operations and net income of the Company for the nine months ended September 30, 2000, assuming that the acquisition of the Company occurred at the beginning of 2000, would each have been approximately $119.0 million. 9 The pro forma adjustments, which do not affect revenues, reflect primarily goodwill amortization, amortization of a favorable lease asset and the elimination of amortization of the deferred gain on the sale of the individual life business to Lincoln. 5. REVISION OF PRELIMINARY ALLOCATION OF PURCHASE PRICE ING America Insurance Holdings, Inc., an indirect wholly owned subsidiary of ING, acquired Aetna Inc., comprised of the Aetna Financial Services business, of which the Company is a part, and the Aetna International business, on December 13, 2000. The preliminary allocation of the purchase price did not reflect any market value adjustments related to the Company's investment portfolios. The Company, after giving consideration to certain exposures in the general market place which, while existing prior to the acquisition, subsequently took on more significance, determined that a reduction in carrying value was warranted. The preliminary allocation of the purchase price reflected the write down of certain fixed assets resulting from conforming accounting policies. Subsequent to the date of acquisition, the Company completed a full review of the fixed assets that existed at or prior to the acquisition and determined that an additional write down was necessary. The amount of the reductions in the carrying values of the investment portfolios and the fixed assets were accounted for as components of the purchase price and the amounts assigned to the Company's assets and liabilities in the allocation of the purchase price were adjusted appropriately. The adjustment was generally reflected as an adjustment to goodwill. The Company generally would be required to recognize a charge to income in its final preacquisition consolidated statement of income for the reduction in the carrying value of the fixed assets. 6. CONTRIBUTION OF AIS FROM HOLDCO On June 30, 2000, HOLDCO contributed AIS to the Company. AIS is registered with the Securities and Exchange Commission as a broker/dealer and is a member of the National Association of Securities Dealers, Inc. It is also registered with the appropriate state securities authorities as a broker/dealer and is a Registered Investment Advisor. The principal operation of AIS is the sale of fixed and variable annuities and mutual funds through its registered representatives. 7. DERIVATIVE INSTRUMENTS The Company enters into derivative instruments to manage interest rate and equity price risks. By using derivative instruments to manage exposures in these risks, the Company exposes itself to credit risk and market risk. Credit risk is the failure of the counterparty to perform under the terms of the derivative contract. When the fair value of a derivative contract is positive, the counterparty owes the Company, which creates credit risk for the Company. The Company generally does not 10 require collateral or other security to support the types of financial instruments presented below. However, the Company minimizes its credit risk exposure by entering into transactions with high credit quality counterparties, limiting the amount of exposure to each counterparty and monitoring the financial condition of its counterparties. At September 30, 2001, such counterparties' credit ratings averaged A- or higher. Market risk is the risk of change in the market price of the underlying instrument and the related derivative instrument. Such price changes result from movements in interest rates and equity markets as well as time value and volatility considerations. The Company's exposure to market risk for changes in interest rates and equity prices relates primarily to the Company's investment portfolio and debt obligations. The portfolio includes only marketable securities with active secondary or resale markets to ensure portfolio liquidity. The Company maintains an interest rate risk management strategy that uses derivatives instruments to minimize significant unanticipated earnings fluctuations caused by interest rate volatility. As a result of interest rate fluctuations, assets and liabilities will appreciate or depreciate in market value. Income or loss on the derivative instruments that are linked to the related assets or liabilities will generally offset the effect of this unrealized appreciation or depreciation. The Company views this strategy as a prudent management of interest rate sensitivity, such that earnings are not exposed to undue risk presented by changes in interest rates. The notional amounts, carrying amounts and estimated fair values of the Company's financial instruments at September 30, were as follows:
2001 2000 -------------------------------------------- --------------------------------------- NOTIONAL CARRYING ESTIMATED FAIR NOTIONAL CARRYING ESTIMATED (MILLIONS) AMOUNTS AMOUNTS VALUE AMOUNTS AMOUNTS FAIR VALUE ------------------------------------------------------------------------------------------------------------------------- Futures contracts to sell securities $ - $ - $ - $ 113.2 $ 0.6 $ 0.6 Interest Rate Floors 300.0 1.9 1.9 - - - Warrants - - - - 0.3 0.3 Embedded Derivatives - investments - 1.0 1.0 - 2.0 2.0 -------------------------------------------------------------------------------------------------------------------------
The fair value of these instruments was estimated based on quoted market prices, dealer quotations or internal price estimates believed to be comparable to dealer quotations. These fair value amounts reflect the estimated amounts that the Company would have to pay or would receive if the contracts were terminated. FUTURES CONTRACTS Futures contracts represent commitments to either purchase or sell securities at a specified future date and at a specified price or yield. Futures contracts trade on organized exchanges and, therefore, have minimal credit risk. Cash settlements are made daily based on changes in the prices of the underlying assets. 11 INTEREST RATE FLOORS Interest Rate Floors are over-the-counter contracts in which the purchaser pays a premium to reduce the risk associated with a decline in a reference rate or index. The amount of protection is based upon a nominal or notional amount over a set period of time. Interim interest payments are made to the purchaser when the reference rate or index falls below a specified level. OPTION CONTRACTS Options are contracts that grant the purchaser, for a fee, the right but not the obligation, to buy or sell a security at a contracted price on or before a specified date. The option writer is obligated to buy or sell the security if the purchaser chooses to exercise the option. The purchaser pays a nonrefundable fee (premium) to the writer of the option. The buyer of the option has limited risk. The maximum loss to the buyer is the premium paid. As of September 30, 2001, the Company did not have any investment income or loss for writing call options on underlying securities and, as of September 30, 2000, had a $1.1 million investment loss for writing call options on underlying securities. WARRANTS Warrants are instruments that give the holder the right, but not the obligation, to buy or sell a fixed amount of an underlying asset at a fixed price in the future. 8. ADDITIONAL INFORMATION - ACCUMULATED OTHER COMPREHENSIVE INCOME Changes in accumulated other comprehensive income related to changes in unrealized gains on securities (excluding those related to experience-rated contractholders) were as follows:
NINE MONTHS ENDED SEPTEMBER 30, ------------------------------------- (MILLIONS) 2001 2000 --------------------------------------------------------------------------------------------------------------------------- Unrealized holding gains arising during the period (1) $ 68.2 $ 31.7 Less: reclassification adjustments for accretion of net investment discounts and gains included in net income (2) 26.1 1.4 ------------------------------------------------------------------------------------- -------------------- ---------------- Net unrealized losses on securities $ 42.1 $ 30.3 ===================================================================================== ==================== ================
(1) Pretax unrealized holding gains arising during the period were $105.0 million and $48.7 million for the nine months ended September 30, 2001 and September 30, 2000, respectively. (2) Pretax reclassification adjustments for accretion of net investment discounts and gains included in net income for the period were $40.2 million and $2.1 million for the nine months ended September 30, 2001 and September 30, 2000, respectively. 12 9. VALUE OF BUSINESS ACQUIRED Value of business acquired ("VOBA") is an asset and represents the present value of estimated net cash flows embedded in the Company's contracts indirectly acquired by ING. VOBA is amortized in proportion to estimated gross profits and adjusted to reflect actual gross profits over the contracts (up to 30 years for annuity contracts and pension contracts). Activity for the nine months ended September 30, 2001 within VOBA was as follows:
(MILLIONS) ---------------------------------------------------------- -------------------- Balance at December 31, 2000 $ 1,780.9 Additions 79.4 Interest accrued at 7 % 86.8 Amortization (170.7) ---------------------------------------------------------- -------------------- Balance at September 30, 2001 $ 1,776.4 ========================================================== ====================
10. SEVERANCE In December 2000, the Company, in accounting for its acquisition by ING, established a severance liability related to actions taken or expected to be taken with respect to the integration of the Company's and ING's businesses. Activity for the nine months ended September 30, 2001 within the severance liability and positions eliminated related to such actions was as follows:
(MILLIONS) SEVERANCE LIABILITY POSITIONS ------------------------------------------------------------------------------------------------ Balance at December 31, 2000 $ 10.7 175 Actions taken (5.9) (89) ---------------------------------------------------------------------------- ------------------- Balance at September 30, 2001 $ 4.8 86 ================================================================================================
Severance actions are expected to be substantially complete by March 31, 2002. 13 11. SEGMENT INFORMATION Summarized financial information for the Company's principal operations for the three months ended September 30, was as follows:
INVESTMENT WORKSITE INDIVIDUAL MANAGEMENT DISCONTINUED (MILLIONS) PRODUCTS (1) PRODUCTS (1) SERVICES (1) OPERATIONS (1) OTHER (1) TOTAL --------------------------------------------------------------------------------------------------------------------------------- 2001 Revenues from external customers $ 100.9 $ 33.5 $ 28.0 $ - $ (7.6) $ 154.8 Net investment income 203.0 25.0 0.4 - (6.0) 222.4 --------------------------------------------------------------------------------------------------------------------------------- Total revenue excluding net realized capital gains $ 303.9 $ 58.5 $ 28.4 $ - $ (13.6) $ 377.2 ================================================================================================================================= Operating earnings (2) $ 41.3 $ 1.8 $ 6.2 $ - $ (13.9) $ 35.4 Net realized capital gains, net of tax 4.3 2.1 - - - 6.4 --------------------------------------------------------------------------------------------------------------------------------- Net income (loss) $ 45.6 $ 3.9 $ 6.2 $ $ (13.9) $ 41.8 ================================================================================================================================= 2000 Revenues from external customers $ 151.8 $ 30.6 $ 36.4 $ - $ (13.1) $ 205.7 Net investment income 200.5 29.5 0.9 - 1.0 231.9 --------------------------------------------------------------------------------------------------------------------------------- Total revenue excluding net realized capital losses $ 352.3 $ 60.1 $ 37.3 $ - $ (12.1) $ 437.6 ================================================================================================================================= Operating earnings (2) $ 40.7 $ 9.8 $ 9.2 $ - $ 2.3 $ 62.0 Net realized capital losses, net of tax (6.8) (0.5) - - - (7.3) --------------------------------------------------------------------------------------------------------------------------------- Income from continuing operations 33.9 9.3 9.2 - 2.3 54.7 Discontinued operations, net of tax: Amortization of deferred gain on sale - - - 1.5 - 1.5 --------------------------------------------------------------------------------------------------------------------------------- Net income $ 33.9 $ 9.3 $ 9.2 $ 1.5 $ 2.3 $ 56.2 =================================================================================================================================
(1) Worksite Products include deferred annuity contracts that fund defined contribution and deferred compensation plans; immediate annuity contracts; mutual funds; distribution services for annuities and mutual funds; programs offered to defined contribution and deferred compensation plans that package administrative and recordkeeping services along with a menu of investment options; wrapper agreements containing certain benefit responsive guarantees that are entered into with retirement plans, whose assets are not invested with the Company; investment advisory services and pension plan administrative services. Individual Products include deferred and immediate annuity contracts, both qualified and nonqualified, that are sold to individuals and provide variable or fixed investment options or a combination of both. Investment Management Services include: investment advisory services to affiliated and unaffiliated institutional and retail clients; underwriting; distribution for Company mutual funds and a former affiliate's separate accounts; and trustee, administrative and other services to retirement plans. Discontinued Operations include life insurance products. In 2001, Other includes consolidating adjustments, amortization of goodwill, ING corporate expense and taxes not allocated back to segment. In 2000, Other includes consolidating adjustments and taxes not allocated back to segment. (2) Operating earnings is comprised of net income (loss) excluding net realized capital gains and losses. While operating earnings is the measure of profit or loss used by the Company's management when assessing performance or making operating decisions, it does not replace net income as a measure of profitability. 14 Summarized financial information for the Company's principal operations for the nine months ended September 30, was as follows:
INVESTMENT WORKSITE INDIVIDUAL MANAGEMENT DISCONTINUED (MILLIONS) PRODUCTS (1) PRODUCTS (1) SERVICES (1) OPERATIONS (1) OTHER (1) TOTAL -------------------------------------------------------------------------------------------------------------------------------- 2001 Revenues from external customers $ 332.8 $ 106.7 $ 90.2 $ - $ (27.5) $ 502.2 Net investment income 595.1 76.9 1.3 - (11.2) 662.1 -------------------------------------------------------------------------------------------------------------------------------- Total revenue excluding net realized capital gains $ 927.9 $ 183.6 $ 91.5 $ - $ (38.7) $1,164.3 ================================================================================================================================ Operating earnings (2) $ 127.6 $ 21.2 $ 21.2 $ - $ (55.9) 114.1 Net realized capital gains, net of tax 13.8 5.8 0.1 - - 19.7 -------------------------------------------------------------------------------------------------------------------------------- Net income (loss) $ 141.4 $ 27.0 $ 21.3 $ - $ (55.9) $ 133.8 ================================================================================================================================ 2000 Revenues from external customers $ 433.8 $ 85.8 $ 104.2 $ - $ (38.2) $ 585.6 Net investment income 592.6 83.8 2.1 - 3.0 681.5 -------------------------------------------------------------------------------------------------------------------------------- Total revenue excluding net realized capital gains (losses) $1,026.4 $ 169.6 $ 106.3 $ - $ (35.2) $1,267.1 ================================================================================================================================ Operating earnings (2) $ 124.2 $ 25.6 $ 25.7 $ - $ 2.5 $ 178.0 Net realized capital (losses) gains , net of tax (12.8) (2.3) 0.1 - - (15.0) -------------------------------------------------------------------------------------------------------------------------------- Income from continuing operations 111.4 23.3 25.8 - 2.5 163.0 Discontinued operations, net of tax: Amortization of deferred gain on sale - - - 4.7 - 4.7 -------------------------------------------------------------------------------------------------------------------------------- Net income $ 111.4 $ 23.3 $ 25.8 $ 4.7 $ 2.5 $ 167.7 ================================================================================================================================
(1) Worksite Products include deferred annuity contracts that fund defined contribution and deferred compensation plans; immediate annuity contracts; mutual funds; distribution services for annuities and mutual funds; programs offered to defined contribution plans and deferred compensation plans that package administrative and recordkeeping services along with a menu of investment options; wrapper agreements containing certain benefit response guarantees that are entered into with retirement plans, whose assets are not invested with the Company; investment advisory services and pension plan administrative services. Individual Products include deferred and immediate annuity contracts, both qualified and nonqualified, that are sold to individuals and provide variable or fixed investment options or a combination of both. Investment Management Services include: investment advisory services to affiliated and unaffiliated institutional and retail clients; underwriting; distribution for Company mutual funds and a former affiliate's separate accounts; and trustee, administrative and other services to retirement plans. Discontinued Operations include life insurance products. In 2001, Other includes consolidating adjustments, amortization of goodwill, ING corporate expense and taxes not allocated back to the segment. In 2000, Other includes consolidating adjustments and taxes not allocated back to segment. (2) Operating earnings is comprised of net income (loss) excluding net realized capital gains and losses. While operating earnings is the measure of profit or loss used by the Company's management when assessing performance or making operating decisions, it does not replace net income as a measure of profitability. 15 12. COMMITMENTS AND CONTINGENT LIABILITIES COMMITMENTS Through the normal course of investment operations, the Company commits to either purchase or sell securities, money market instruments or commercial mortgages at a specified future date and at a specified price or yield. The inability of counterparties to honor these commitments may result in either higher or lower replacement cost. Also, there is likely to be a change in the value of the securities underlying the commitments between the time that the Company enters into the commitments and the specified future date on which the Company must purchase or sell the securities, as the case may be. As of September 30, 2001, there were off-balance sheet commitments of $41.8 million. LITIGATION In recent years, a number of life insurance companies have been named as defendants in class action lawsuits relating to life insurance sales practices. The Company is currently a defendant in one such lawsuit. A purported class action complaint was filed in the United States District Court for the Middle District of Florida on June 30, 2000, by Helen Reese, Richard Reese, Villere Bergeron and Allan Eckert against ALIAC (the "Reese Complaint"). The Reese Complaint seeks compensatory and punitive damages and injunctive relief from ALIAC. The Reese Complaint claims that ALIAC engaged in unlawful sales practices in marketing life insurance policies. ALIAC has moved to dismiss the Reese Complaint for failure to state a claim upon which relief can be granted. Certain discovery is underway. The Company intends to defend the action vigorously. The Company is also involved in other lawsuits arising, for the most part, in the ordinary course of its business operations. While the outcome of these other lawsuits cannot be determined at this time, after consideration of the defenses available to the Company, applicable insurance coverage and any related reserves established, these other lawsuits are not currently expected to result in liability for amounts material to the financial condition of the Company, although they may adversely affect results of operations in future periods. 16 INDEPENDENT ACCOUNTANTS' REVIEW REPORT The Board of Directors Aetna Life Insurance and Annuity Company We have reviewed the accompanying condensed consolidated balance sheet of Aetna Life Insurance and Annuity Company and Subsidiaries (the "Company") as of September 30, 2001, and the related condensed consolidated statements of income, changes in stockholder's equity and cash flows for the three-month and nine-month periods then ended. These financial statements are the responsibility of the Company's management. The financial statements of the Company for the three and nine-month periods ended September 30, 2000 were reviewed by other accountants whose report (dated October 31, 2000) stated that they were not aware of any material modifications that should be made to those statements for them to be in conformity with accounting principles generally accepted in the United States. We conducted our review in accordance with standards established by the American Institute of Certified Public Accountants. A review of interim financial information consists principally of applying analytical procedures to financial data, and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with auditing standards generally accepted in the United States, which will be performed for the full year with the objective of expressing an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion. Based on our review, we are not aware of any material modifications that should be made to the accompanying condensed consolidated financial statements at September 30, 2001, and for the three-month and nine-month periods then ended for them to be in conformity with accounting principles generally accepted in the United States. /s/ Ernst & Young LLP Hartford, Connecticut November 8, 2001 17 ITEM 2. MANAGEMENT'S ANALYSIS OF THE RESULTS OF OPERATIONS The following analysis presents a review of the Company for the three-month and nine-month periods ended September 30, 2001 and 2000. This review should be read in conjunction with the consolidated financial statements and other data presented herein as well as the "Management's Analysis of the Results of Operations" section contained in ALIAC's 2000 Annual Report on Form 10-K. OVERVIEW Sale of Aetna Financial Services and Aetna International On December 13, 2000, ING America Insurance Holdings, Inc., an indirect wholly owned subsidiary of ING Groep N.V. ("ING"), acquired Aetna Inc., comprised of the Aetna Financial Services business, of which the Company is a part, and the Aetna International business, for approximately $7.7 billion. The purchase price was comprised of approximately $5.0 billion in cash and the assumption of $2.7 billion of outstanding debt and other net liabilities. In connection with the acquisition, Aetna Inc. was renamed Lion Connecticut Holdings Inc. ("Lion"). At the time of the sale, Lion entered into certain transition services agreements with a former related party, Aetna U.S. Healthcare, which was renamed Aetna Inc. ("former Aetna"). Refer to Note 4 of Condensed Notes to Consolidated Financial Statements. As a result of ING's purchase of the Aetna Financial Services business, the Company's Financial Products segment was realigned into two new segments, Worksite Products and Individual Products. Accordingly, the financial results of all prior periods were restated. The Worksite Products segment offers annuity contracts that include a variety of funding and payout options for employer-sponsored retirement plans qualified under Internal Revenue Code Sections 401, 403, 408 and 457, as well as nonqualified deferred compensation plans. Annuity contracts may be deferred or immediate (payout annuities). These products also include programs offered to qualified plans and nonqualified deferred compensation plans that package administrative and recordkeeping services along with a menu of investment options, including Company and nonaffiliated mutual funds and variable and fixed investment options. The Worksite Products segment also includes wrapper agreements entered into with retirement plans which contain certain benefit responsive guarantees (i.e. liquidity guarantees of principal and previously accrued interest for benefits paid under the terms of the plan) with respect to portfolios of plan-owned assets not invested with the Company. The Worksite Products segment also offers pension plan administrative services. The Individual Products segment includes qualified and nonqualified annuity contracts that are offered for sale to individuals and may provide variable or fixed investment options, or a combination of both. These annuity contracts may be deferred or immediate (payout annuities). Investment Management Services provides investment advisory services to affiliated and unaffiliated institutional and retail clients on a fee-for-service basis; underwriting services to the Company funds; distribution services for other Company products; and trustee, administrative and other fiduciary services to retirement plans requiring or otherwise utilizing a trustee or custodian. 18 CONSOLIDATED RESULTS Consolidated results include results from continuing operations and discontinued operations. Results of continuing operations are comprised of the results of the Worksite Products, Individual Products and Investment Management Services segments and certain items not directly allocable to the business segments. Refer to Note 11 of Condensed Notes to Financial Statements. 19 Operating Summary
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30, -------------------------------------------------------------------- (MILLIONS) 2001 2000 2001 2000 - ---------------------------------------------------------------------------------------------------------------------------------- Premiums (1) $ 22.2 $ 41.8 $ 83.1 $ 117.1 Charges assessed against policyholders 92.7 119.9 290.2 351.0 Net investment income 222.4 231.9 662.1 681.5 Net realized capital gains (losses) 10.0 (11.2) 30.3 (23.1) Other income 39.9 44.0 128.9 117.5 - ---------------------------------------------------------------------------------------------------------------------------------- Total revenue 387.2 426.4 1,194.6 1,244.0 - ---------------------------------------------------------------------------------------------------------------------------------- Current and future benefits 181.8 199.8 547.2 598.3 Operating expenses: Salaries and related benefits 48.3 52.3 135.2 144.0 Other 43.2 60.1 151.4 166.4 Amortization of deferred policy acquisition costs and value of business acquired 30.6 36.8 89.3 96.4 Amortization of goodwill 14.4 - 43.3 - - ---------------------------------------------------------------------------------------------------------------------------------- Total benefits and expenses 318.3 349.0 966.4 1,005.1 - ---------------------------------------------------------------------------------------------------------------------------------- Income from continuing operations before income taxes 68.9 77.4 228.2 238.9 Income taxes 27.1 22.7 94.4 75.9 - ---------------------------------------------------------------------------------------------------------------------------------- Income from continuing operations 41.8 54.7 133.8 163.0 Discontinued operations, net of tax: Amortization of deferred gain on sale - 1.5 - 4.7 - ---------------------------------------------------------------------------------------------------------------------------------- Net Income $ 41.8 $ 56.2 $ 133.8 $ 167.7 ================================================================================================================================== Net realized capital gains (losses), net of tax (included above) $ 6.4 $ (7.3) $ 19.7 $ (15.0) ================================================================================================================================== Deposits (not included in premiums above) Annuities -fixed options $ 348.2 $ 337.1 $ 1,145.9 $ 1,151.7 Annuities -variable options 935.2 1,095.4 3,201.1 3,577.6 - ---------------------------------------------------------------------------------------------------------------------------------- Total - deposits $ 1,283.4 $ 1,432.5 $ 4,347.0 $ 4,729.3 ================================================================================================================================== Assets under management: Worksite Products $ 40,951.3 $ 47,687.2 Individual Products 7,442.1 8,871.2 Investment Management Services (2) 40,039.1 57,340.5 Consolidating adjustment (3) (22,797.8) (36,985.8) - ---------------------------------------------------------------------------------------------------------------------------------- Total assets under management (4) (5) 65,634.7 76,913.1 - ---------------------------------------------------------------------------------------------------------------------------------- Assets under administration: (6) Worksite Products 9,299.0 8,654.6 - ---------------------------------------------------------------------------------------------------------------------------------- Assets under management and administration $ 74,933.7 $ 85,567.7 ==================================================================================================================================
(1) Includes $15.1 million and $29.3 million for the three months ended September 30, 2001 and 2000, respectively, and $61.1 million and $84.5 million for the nine months ended September 30, 2001 and 2000, respectively, of annuity premiums on contracts converting from the accumulation phase to payout options with life contingencies. (2) Includes $3,851.9 million and $6,871.2 million as of September 30, 2001 and 2000, respectively, of assets managed for Aetna Life Insurance Company, a former affiliate of the Company. (3) Certain assets under management that are reported in the Worksite Products and the Individual Products segments are also reported in the Investment Management Services segment, because Investment Management Services reports a different component of the revenue generated by these particular assets under management. A consolidating adjustment, which eliminates the duplication of such assets, is recorded in order to determine consolidated assets under management of the Company. (4) Includes $10,030.8 million and $15,439.3 million at September 30, 2001 and 2000, respectively, of assets invested through the Company's products in unaffiliated mutual funds. (5) Excludes net unrealized capital gains of $423.0 million at September 30, 2001 and net unrealized capital losses of $117.2 million at September 30, 2000 on assets invested through annuities with fixed options. (6) Represents assets for which the Company provides administrative services only. 20 Continuing Operations Income from continuing operations decreased $13 million for the three months ended September 30, 2001 compared to the same period in 2000. Excluding goodwill amortization of $14 million in 2001 and net realized capital gains and losses, income from continuing operations for the three months ended September 30, 2001 decreased $12 million, or 20%, compared to the same period in 2000. Income from continuing operations decreased $29 million for the nine months ended September 30, 2001 compared to the same period in 2000. Excluding goodwill amortization of $43 million in 2001 and net realized capital gains and losses, income from continuing operations for the nine months ended September 30, 2001 decreased $21 million, or 12%, compared to the same period in 2000. The decrease in net income, excluding goodwill and net realized capital gains and losses, for the three-month and nine-month periods ended September 30, 2001 primarily reflects a decrease in charges assessed against policyholders resulting from lower levels of assets under management and administration and an increase in the effective tax rate partially offset by lower operating expenses. Substantially all of the charges assessed against policyholders and other income reported for continuing operations are derived from assets under management and administration. Compared to September 30, 2000, assets under management and administration at September 30, 2001 decreased 12% primarily due to a decline in the stock market partially offset by additional net deposits (i.e., deposits less surrenders). Annuity deposits relate to annuity contracts not containing life contingencies. Compared to the three months and nine months ended September 30, 2000, deposits for the three months and nine months ended September 30, 2001 decreased 10% and 8%, respectively. The decreases for the three and nine month periods are primarily due to a decrease in individual annuity sales. Operating expenses decreased $21 million and $24 million for the three and nine months ended September 30, 2001, respectively, compared to the same periods in 2000. These decreases primarily reflect management's continued focus on expense reduction initiatives partially offset by a lower level of policy acquisition expenses being deferred in the Individual Products segment in order to conform with ING's deferral practice. The increases in the effective tax rate for the three-month and nine-month periods ended September 30, 2001 primarily relate to the disallowance of goodwill amortization as a deduction and a decrease in the deduction for dividends received. Discontinued Operations Results of discontinued operations for the three and nine months ended September 30, 2000 represent the amortization of the deferred gain relating to the sale of the domestic individual life insurance business that occurred on October 1, 1998. In conjunction with the accounting for the acquisition of the Aetna Financial Services business, of which the Company is a part, the deferred gain was written off. 21 WORKSITE PRODUCTS Operating Summary
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, --------------------------------------------------------------- (MILLIONS) 2001 2000 2001 2000 - ------------------------------------------------------------------------------------------------------------------------------- Premiums (1) $ 15.1 $ 41.8 $ 61.1 $ 117.1 Charges assessed against policyholders 68.0 91.2 214.6 269.6 Net investment income 203.0 200.5 595.1 592.6 Net realized capital gains (losses) 6.6 (10.6) 21.2 (19.8) Other income 17.8 18.8 57.1 47.1 - ------------------------------------------------------------------------------------------------------------------------------- Total revenue 310.5 341.7 949.1 1,006.6 - ------------------------------------------------------------------------------------------------------------------------------- Current and future benefits 156.2 180.7 468.5 540.8 Operating expenses: Salaries and related benefits 31.9 35.4 96.5 97.8 Other 35.7 53.2 118.2 144.5 Amortization of deferred policy acquisition costs and value of business acquired 16.4 20.3 48.3 52.2 - ------------------------------------------------------------------------------------------------------------------------------- Total benefits and expenses 240.2 289.6 731.5 835.3 - ------------------------------------------------------------------------------------------------------------------------------- Income from operations before income taxes 70.3 52.1 217.6 171.3 Income taxes 24.7 18.2 76.2 59.9 - ------------------------------------------------------------------------------------------------------------------------------- Net income 45.6 33.9 141.4 111.4 =============================================================================================================================== Net realized capital gains (losses), net of tax (included above) 4.3 (6.8) 13.8 (12.8) =============================================================================================================================== Deposits (not included in premiums above) Annuities -fixed options $ 189.0 $ 120.5 $ 565.3 $ 456.6 Annuities -variable options 892.9 977.8 2,995.8 3,112.2 - ------------------------------------------------------------------------------------------------------------------------------- Total - deposits $ 1,081.9 $ 1,098.3 $ 3,561.1 $ 3,568.8 =============================================================================================================================== Assets Under Management (2) Annuities - fixed options (3) $ 10,963.2 $ 10,182.6 Annuities - variable options (4) 21,133.3 29,991.8 - ------------------------------------------------------------------------------------------------------------------------------- Subtotal - annuities $ 32,096.5 $ 40,174.4 Plan Sponsored and Other 8,854.8 7,512.8 - ------------------------------------------------------------------------------------------------------------------------------- Total - assets under management 40,951.3 47,687.2 Assets under administration (5) 9,299.0 8,654.6 - ------------------------------------------------------------------------------------------------------------------------------- Total assets under management and administration $ 50,250.3 $ 56,341.8 ===============================================================================================================================
(1) Includes $15.1 million and $29.3 million for the three months ended September 30, 2001 and 2000, respectively, and $61.1 million and $84.5 million for the nine months ended September 30, 2001 and 2000, respectively, for annuity premiums on contracts converting from the accumulation phase to payout options with life contingencies. (2) Includes $20,426.2 million at September 30, 2001 and $32,517.8 million at September 30, 2000 of assets under management that are also reported in the Investment Management Services segment (refer to "Consolidated Results-Continuing Operations"). (3) Excludes net unrealized capital gains of $368.6 million at September 30, 2001 and net unrealized capital losses of $107.2 million at September 30, 2000. (4) Includes $7,490.9 million at September 30, 2001 and $11,623.0 million at September 30, 2000 related to assets invested through the Company's products in unaffiliated mutual funds. (5) Represents assets for which the Company provides administrative services only. 22 Worksite Products' net income increased $12 million for the three months ended September 30, 2001 compared to the same period in 2000. Excluding net realized capital gains and losses, net income for the three months ended September 30, 2001 increased $1 million, or 1%, compared to the same period in 2000. Worksite Products' net income increased $30 million for the nine months ended September 30, 2001 compared to the same period in 2000. Excluding net realized capital gains and losses, net income increased $3 million, or 3%, compared to the same period in 2000. The increase in net income, excluding realized gains and losses, for the three-month period ended September 30, 2001 is primarily the result of a decrease in operating expenses and amortization costs substantially offset by a decrease in charges assessed against policyholders. The increase in net income, excluding realized gains and losses, for the nine-month period ended September 30, 2001 is primarily the result of a decrease in operating expenses and amortization costs, a decrease in current and future benefits and an increase in other income substantially offset by a decrease in charges assessed against policyholders. Operating expenses decreased $21 million and $28 million for the three and nine months ended September 30, 2001, respectively, compared to the same periods in 2000. These decreases primarily reflect management's continued focus on expense reduction initiatives. Substantially all of the charges assessed against policyholders and a majority of other income reported for the Worksite Products segment are calculated based on assets under management and administration. Assets under management and administration at September 30, 2001 decreased 11% compared to September 30, 2000. The decrease in 2001 is primarily due to a decline in the stock market partially offset by additional net deposits (i.e., deposits less surrenders). Annuity deposits relate to annuity contracts not containing life contingencies. Compared to the three months ended September 30, 2000, deposits for the three months ended September 30, 2001 decreased 1%. Compared to the first nine months of 2000, deposits decreased slightly for the nine months ended September 30, 2001. 23 INDIVIDUAL PRODUCTS Operating Summary
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, --------------------------------------------------------------------- (MILLIONS) 2001 2000 2001 2000 - ------------------------------------------------------------------------------------------------------------------------------ Premiums $ 7.0 $ - $ 21.9 $ - Charges assessed against policyholders 24.7 28.8 75.6 81.5 Net investment income 25.0 29.5 76.9 83.8 Net realized capital gains (losses) 3.3 (0.7) 9.0 (3.5) Other income 1.8 1.8 9.2 4.3 - ------------------------------------------------------------------------------------------------------------------------------ Total revenue 61.8 59.4 192.6 166.1 - ------------------------------------------------------------------------------------------------------------------------------ Current and future benefits 25.6 19.0 78.7 57.5 Operating expenses: Salaries and related benefits 8.7 6.0 15.9 17.1 Other 10.1 6.6 24.3 20.3 Amortization of deferred policy acquisition costs and value of business acquired 11.3 13.4 32.1 35.3 - ------------------------------------------------------------------------------------------------------------------------------ Total benefits and expenses 55.7 45.0 151.0 130.2 - ------------------------------------------------------------------------------------------------------------------------------ Income from operations before income taxes 6.1 14.4 41.6 35.9 Income taxes 2.2 5.1 14.6 12.6 - ------------------------------------------------------------------------------------------------------------------------------ Net income $ 3.9 $ 9.3 $ 27.0 $ 23.3 ============================================================================================================================== Net realized capital gains (losses), net of tax (included above) $ 2.1 $ (0.5) $ 5.8 $ (2.3) ============================================================================================================================== Deposits (not included in premiums above) Annuities -fixed options $ 159.2 $ 216.6 $ 580.6 $ 695.1 Annuities -variable options 42.3 117.6 205.3 465.4 - ------------------------------------------------------------------------------------------------------------------------------ Total - deposits $ 201.5 $ 334.2 $ 785.9 $ 1,160.5 ============================================================================================================================== Assets Under Management (1) Annuities - fixed options (2) $ 2,210.1 $ 2,213.7 Annuities - variable options (3) 5,232.0 6,657.5 - ------------------------------------------------------------------------------------------------------------------------------ Total - assets under management $ 7,442.1 $ 8,871.2 ==============================================================================================================================
(1) Includes $2,371.6 million at September 30, 2001 and $4,468.0 million at September 30, 2000 of assets under management that are also reported in the Investment Management Services segment (refer to "Overview"). (2) Excludes net unrealized capital gains of $54.4 million at September 30, 2001 and net unrealized capital losses of $10.0 at September 30, 2000. (3) Includes $2,539.9 million at September 30, 2001 and $3,816.3 million at September 30, 2000 related to assets invested through the Company's products in unaffiliated mutual funds. Individual Products' net income decreased $5 million for the three months ended September 30, 2001 compared to the same period in 2000. Excluding net realized capital gains and losses, net income decreased $8 million, or 82%, for the three months ended September 30, 2001 compared to the same period in 2000. Net income increased $4 million for the nine months ended September 30, 2001 compared to the same period in 2000. Excluding net realized capital gains and losses, net income decreased $4 million, or 17%, for the nine months ended September 30, 2001 compared to the same period in 2000. The decreases in earnings for the three-month and nine-month periods ended September 30, 2001 are primarily due to an increase in operating expenses and a decrease in charges assessed against policyholders. 24 Operating expenses increased $6 million and $3 million for the three and nine months ended September 30, 2001, respectively, compared to the same periods in 2000. Operating expenses for both periods were affected by a lower level of policy acquisition expenses being deferred in order to conform with ING's deferral practice. The resulting increase in operating expenses was partially offset by lower overall operating expenses due to management's continued focus on expense reduction initiatives. Substantially all of the charges assessed against policyholders reported for the Individual Products segment are calculated based on assets under management. Assets under management at September 30, 2001 decreased 16% compared to September 30, 2000. This decrease is primarily due to a decline in the stock market partially offset by additional net deposits (i.e., deposits less surrenders). Annuity deposits relate to annuity contracts not containing life contingencies. Compared to the same periods in 2000, deposits for the three and nine months ended September 30, 2001 decreased 40% and 32%, respectively, due to a decrease in individual annuity sales. 25 INVESTMENT MANAGEMENT SERVICES Operating Summary
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, --------------------------------------------------------------------- (MILLIONS) 2001 2000 2001 2000 - ------------------------------------------------------------------------------------------------------------------------------ Net investment income $ 0.4 $ 0.9 $ 1.3 $ 2.1 Net realized capital gains 0.1 - 0.1 0.2 Other income (1) 28.0 36.4 90.2 104.2 - ------------------------------------------------------------------------------------------------------------------------------ Total revenue 28.5 37.3 91.6 106.5 - ------------------------------------------------------------------------------------------------------------------------------ Operating expenses: Salaries and related benefits 13.2 18.2 42.0 48.4 Other 5.6 5.0 16.2 17.5 - ------------------------------------------------------------------------------------------------------------------------------ Total operating expenses 18.8 23.2 58.2 65.9 - ------------------------------------------------------------------------------------------------------------------------------ Income from operations before income taxes 9.7 14.1 33.4 40.6 Income taxes 3.5 4.9 12.1 14.8 - ------------------------------------------------------------------------------------------------------------------------------ Net income $ 6.2 $ 9.2 $ 21.3 $ 25.8 =============================================================================================================================== Net realized capital gains, net of tax (included above) $ - $ - $ 0.1 $ 0.1 =============================================================================================================================== Assets under management: Plan sponsored (2) $ 13,659.6 $ 16,724.0 Collateralized bond obligations 1,617.6 2,023.2 Retail mutual funds 1,964.1 1,607.5 - ------------------------------------------------------------------------------------------------------------------------------ Subtotal 17,241.3 20,354.7 - ------------------------------------------------------------------------------------------------------------------------------ Invested through products offered by the Worksite Products and Individual Products segments: (3) Variable annuity mutual funds 14,199.0 17,450.8 Fixed annuities (4) (5) - 12,396.4 Plan sponsored and other 8,598.8 7,138.6 - ------------------------------------------------------------------------------------------------------------------------------ Subtotal 22,797.8 36,985.8 - ------------------------------------------------------------------------------------------------------------------------------ Total assets under management $ 40,039.1 $ 57,340.5 ===============================================================================================================================
(1) Primarily includes investment advisory fees earned on assets under management. (2) Includes $3,851.9 million and $6,871.2 million of assets managed for Aetna Life Insurance Company, a former affiliate of the Company, as of September 30, 2001 and 2000, respectively. (3) The Investment Management Services segment earns investment advisory fees on these assets, which are also reported in either the Worksite Products or the Individual Products segments. (4) In accordance with a new advisory agreement effective April 1, 2001, ING Investment Management, LLC, an affiliate of the Company, manages the investments supporting the Company 's fixed annuity products. (5) Excludes net unrealized capital losses of $117.2 million at September 30, 2000. For the three months ended September 30, 2001, the Investment Management Services segment's net income decreased $3 million, or 33%, compared to the same period in 2000. For the nine months ended September 30, 2001, the Investment Management Services segment's net income decreased $5 million, or 17%, compared to the same period in 2000. The decrease in net income for the three and nine month periods ended September 30, 2001 primarily reflects a decrease in investment advisory fee income partially offset by a decrease in other operating expenses. Investment advisory fees are calculated based on assets under management. The decrease in advisory fee income is due to lower levels of assets under management. At September 30, 2001, assets under management decreased 30% compared to those reported at September 30, 2000. This decrease was primarily due to a change in the advisory agreements relating to the Company's fixed annuity and collateralized bond obligation assets under management and a decline in the stock market. 26 Effective April 1, 2001, ING Investment Management, LLC, an affiliate of the Company, replaced Aeltus Investment Management, Inc. ("Aeltus"), an indirect wholly owned subsidiary of the Company, as the advisor for the investments supporting the Company's fixed annuity products. Aeltus, along with its subsidiaries, comprises the Investment Management Services segment. Subsequent to the effective date of the new advisory agreement, the Company no longer received advisory fees relating to these assets under management. Operating expenses decreased $5 million and $7 million for the three and nine months ended September 30, 2001, respectively, compared to the same periods in 2000. The decreases in operating expenses are primarily due to the implementation of new long-term compensation agreements by Aeltus at the beginning of the year. DISCONTINUED OPERATIONS - DOMESTIC INDIVIDUAL LIFE INSURANCE Results of discontinued operations represents the amortization of the deferred gain relating to the sale of the domestic individual life insurance business to Lincoln. The after tax amortization recognized during the three and nine months ended September 30, 2000 was $1.5 million and $4.7 million, respectively. In conjunction with the accounting for the acquisition of the Aetna Financial Services business, of which the Company is a part, the deferred gain relating to the sale of the domestic individual life insurance business was written off. Individual life insurance coverage in force was approximately $37 billion at September 30, 2001. The entire amount of this coverage in force has been ceded to Lincoln under the indemnity reinsurance arrangement entered into as part of the sale. For more details about the transaction and the indemnity reinsurance arrangement, refer to Note 3 of Condensed Notes to Consolidated Financial Statements in the Company's 2000 Annual Report on Form 10-K. 27 GENERAL ACCOUNT INVESTMENTS The Company's invested assets were comprised of the following:
(MILLIONS) SEPTEMBER 30, 2001 DECEMBER 31, 2000 - -------------------------------------------------------------------------------------------------------------- Debt securities, available for sale, at fair value (1) $ 13,948.6 $ 11,371.4 Equity securities, at fair value: Nonredeemable preferred stock 23.5 100.7 Investment in affiliated mutual funds 24.8 12.7 Common stock 4.7 3.5 Short-term investments (2) 20.7 111.7 Mortgage loans 192.9 4.6 Policy loans 334.7 339.3 Other investments 15.4 13.4 - -------------------------------------------------------------------------------------------------------------- Total Investments $ 14,565.3 $ 11,957.3 ==============================================================================================================
(1) At September 30, 2001 and December 31, 2000, $822.3 million and $126.7 million, respectively, of debt securities were pledged to creditors. (2) At December 31, 2000, $2.3 million of short-term investments were pledged to creditors; and, at September 30, 2001, there were no short-term investments pledged to creditors. Debt Securities At September 30, 2001 and December 31, 2000, the Company's carrying value of available for sale debt securities including debt securities pledged to creditors (herein after referred to as "total debt securities") represented 96% and 95% of the total general account invested assets, respectively. At September 30, 2001 and December 31, 2000, $11.4 billion, or 82% of total debt securities, and $8.9 billion, or 79% of total debt securities, respectively, supported experience-rated contracts. The carrying value of the Company's total debt securities included net unrealized capital gains of $423.0 million and $126.9 million at September 30, 2001 and December 31, 2000, respectively. It is management's objective that the portfolio of debt securities be of high quality and be well diversified by market sector. The debt securities in the Company's portfolio are generally rated by external rating agencies and, if not externally rated, are rated by the Company on a basis believed to be similar to that used by the rating agencies. The average quality rating of the Company's debt security portfolio was AA- at September 30, 2001 and AA at December 31, 2000. 28 The percentage of total debt securities by quality rating category is as follows:
SEPTEMBER 30, 2001 DECEMBER 31, 2000 - ----------------------------------------------------------------------------------------------------- AAA 54.3% 53.2% AA 6.9 9.1 A 20.7 23.5 BBB 13.0 9.9 BB 2.8 1.5 B and Below 2.3 2.8 - ----------------------------------------------------------------------------------------------------- Total 100.0% 100.0% =====================================================================================================
The percentage of total debt securities by market sector is as follows:
SEPTEMBER 30, 2001 DECEMBER 31, 2000 - ----------------------------------------------------------------------------------------------------- U.S. Corporate 42.5% 43.0% Residential Mortgage-backed 32.1 27.1 Commercial/Multi-family Mortgage-backed 9.5 9.8 Foreign (1) 8.5 5.0 Asset-backed 6.1 6.7 U.S. Treasuries/Agencies 1.3 8.4 - ------------------------------------------------------------------------ ----------------------------- Total 100.0% 100.0% ======================================================================================================
(1) Primarily U.S. dollar denominated FORWARD-LOOKING INFORMATION/RISK FACTORS The "Forward-Looking Information/Risk Factors" section of ALIAC's 2000 Annual Report on Form 10-K contains discussions of important risk factors related to the Company's businesses. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS In recent years, a number of life insurance companies have been named as defendants in class action lawsuits relating to life insurance sales practices. The Company is currently a defendant in one such lawsuit. A purported class action complaint was filed in the United States District Court for the Middle District of Florida on June 30, 2000, by Helen Reese, Richard Reese, Villere Bergeron and Allan Eckert against ALIAC (the "Reese Complaint"). The Reese Complaint seeks compensatory and punitive damages and injunctive relief from ALIAC. The Reese Complaint claims that ALIAC engaged in unlawful sales practices in marketing life insurance policies. ALIAC has moved to dismiss the Reese Complaint for failure to state a claim upon which relief can be granted. Certain discovery is underway. The Company intends to defend the action vigorously. 29 The Company is also involved in other lawsuits arising, for the most part, in the ordinary course of its business operations. While the outcome of these other lawsuits cannot be determined at this time, after consideration of the defenses available to the Company, applicable insurance coverage and any related reserves established, these other lawsuits are not currently expected to result in liability for amounts material to the financial condition of the Company, although they may adversely affect results of operations in future periods. ITEM 5. OTHER INFORMATION RATINGS The Company's financial strength ratings at November 9, 2001 and August 9, 2001 are as follows:
RATING AGENCIES ------------------------------------------------------------------------------------------- MOODY'S INVESTORS STANDARD & POOR'S A.M. BEST FITCH SERVICE - -------------------------------------------------------------------------------------------------------------------- November 9, 2001 A+ AA+ Aa2 AA+ August 9, 2001 A+ AA+ Aa2 AA+ - --------------------------------------------------------------------------------------------------------------------
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits 4. Instruments Defining the Rights of Security Holders, Including Indentures (Annuity Contracts) Incorporated by reference to the Registration Statement on Form S-2 (File No. 33-64331), as filed on November 16, 1995. Incorporated by reference to Pre-Effective Amendment No. 2 to the Registration Statement on Form S-2 (File No. 33-64331), as filed on January 17, 1996. (b) Reports on Form 8-K. None 30 SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. AETNA LIFE INSURANCE AND ANNUITY COMPANY ---------------------------------------- (Registrant) NOVEMBER 13, 2001 By /s/ Deborah Koltenuk - ---------------------- --------------------------------------- (Date) Deborah Koltenuk Vice President and Corporate Controller (Chief Accounting Officer) 31 -----END PRIVACY-ENHANCED MESSAGE-----