- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
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 JUNE 30, 1998 COMMISSION FILE NUMBER 333-1087
--------------------------
VALLEY FORGE LIFE INSURANCE COMPANY
(Exact name of registrant as specified in its charter)
PENNSYLVANIA 23-6200031
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
CNA PLAZA
CHICAGO, ILLINOIS 60685
(Address of principal executive offices) (Zip Code)
(312) 822-5000
(REGISTRANT'S 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 periods 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.
CLASS OUTSTANDING AT AUGUST 1, 1998
------------------------------ -----------------------------
Common Stock, Par value $50.00 50,000
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 10-Q WITH THE
REDUCED DISCLOSURE FORMAT.
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
Page 1 of 20
<PAGE>
VALLEY FORGE LIFE INSURANCE COMPANY
INDEX
PART I. FINANCIAL INFORMATION PAGE NO.
- ------- --------------------- --------
CONDENSED FINANCIAL STATEMENTS:
BALANCE SHEET
JUNE 30, 1998 (Unaudited) AND DECEMBER 31, 1997................ 3
STATEMENT OF OPERATIONS (Unaudited)
FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 1998 AND 1997...... 4
STATEMENT OF STOCKHOLDER'S EQUITY (Unaudited)
FOR THE SIX MONTHS ENDED JUNE 30, 1998 AND 1997................ 5
STATEMENT OF CASH FLOWS (Unaudited)
FOR THE SIX MONTHS ENDED JUNE 30, 1998 AND 1997................ 6
NOTES TO CONDENSED FINANCIAL STATEMENTS (Unaudited)
JUNE 30,1998................................................... 7
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS............................ 10
PART II. OTHER INFORMATION
- -------- -----------------
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.............................. 18
SIGNATURES................................................................ 19
EXHIBIT 27 FINANCIAL DATA SCHEDULE....................................... 20
(2)
<PAGE>
<TABLE>
<CAPTION>
VALLEY FORGE LIFE INSURANCE COMPANY
BALANCE SHEET
- ---------------------------------------------------------------------------------------------------------
JUNE 30 DECEMBER 31
1998 1997
(Unaudited)
- ---------------------------------------------------------------------------------------------------------
(In thousands of dollars)
ASSETS:
<S> <C> <C>
Investments:
Fixed maturities available-for-sale (cost: $456,676 and $466,267) $ 465,068 $ 471,707
Equity securities available-for-sale (cost: $981 and $981) 2,508 2,260
Policy loans 70,300 66,971
Other invested assets 89 433
Short-term investments 35,477 4,597
---------- ----------
TOTAL INVESTMENTS 573,442 545,968
Cash 1,435 24,565
Receivables:
Reinsurance 2,079,060 1,586,471
Premium and other insurance 63,949 65,196
Less allowance for doubtful accounts (34) (285)
Deferred acquisition costs 102,326 95,354
Accrued investment income 5,759 5,245
Receivables for securities sold 24,664 744
Due from affiliates 6,433 35,999
Other 3,295 228
Separate Account business 42,724 8,941
- ---------------------------------------------------------------------------------------------------------
TOTAL ASSETS $2,903,053 $2,368,426
=========================================================================================================
LIABILITIES AND STOCKHOLDER'S EQUITY:
Liabilities:
Insurance reserves:
Future policy benefits $2,383,397 $1,906,899
Claims 105,447 81,242
Policyholders' funds 41,631 39,928
Payables for securities purchased 21,168 497
Federal income taxes payable 6,077 5,975
Deferred income taxes 8,815 4,098
Commissions and other payables 47,828 19,787
Other 20,719 84,799
Separate Account business 42,724 8,941
---------- ----------
TOTAL LIABILITIES 2,677,806 2,152,166
---------- ----------
Stockholder's Equity
Common stock ($50 par value; Authorized-200,000 shares;
Issued-50,000 shares) 2,500 2,500
Additional paid-in capital 39,150 39,150
Retained earnings 178,429 170,230
Accumulated other comprehensive income 5,168 4,380
---------- ----------
TOTAL STOCKHOLDER'S EQUITY 225,247 216,260
- ---------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY $2,903,053 $2,368,426
=========================================================================================================
<FN>
See accompanying Notes to Condensed Financial Statements (Unaudited).
</FN>
</TABLE>
(3)
<PAGE>
<TABLE>
<CAPTION>
VALLEY FORGE LIFE INSURANCE COMPANY
STATEMENT OF OPERATIONS
(Unaudited)
- ----------------------------------------------------------------------------------------------------
THREE MONTHS SIX MONTHS
PERIOD ENDED JUNE 30 1998 1997 1998 1997
- ----------------------------------------------------------------------------------------------------
(In thousands of dollars)
Revenues:
<S> <C> <C> <C> <C>
Premiums $73,025 $78,692 $154,580 $164,775
Net investment income 9,032 7,956 17,623 15,261
Realized investment gains (losses) 1,520 (162) 3,513 (133)
Other 2,595 1,476 4,156 2,751
------- ------- -------- --------
86,172 87,962 179,872 182,654
------- ------- -------- --------
Benefits and expenses:
Insurance claims and policyholders' benefits 70,228 73,080 145,381 154,836
Amortization of deferred acquisition costs 2,615 1,289 5,167 2,820
Other operating expenses 6,713 10,335 16,571 17,614
------- ------- -------- --------
79,556 84,704 167,119 175,270
------- ------- -------- --------
Income before income tax 6,616 3,258 12,753 7,384
Income tax expense 2,336 1,184 4,554 2,648
- ----------------------------------------------------------------------------------------------------
NET INCOME $ 4,280 $ 2,074 $ 8,199 $ 4,736
====================================================================================================
<FN>
See accompanying Notes to Condensed Financial Statements (Unaudited).
</FN>
</TABLE>
(4)
<PAGE>
<TABLE>
<CAPTION>
VALLEY FORGE LIFE INSURANCE COMPANY
STATEMENT OF STOCKHOLDER'S EQUITY
(Unaudited)
- -----------------------------------------------------------------------------------------------------------------------
Accumulated
Additional Comprehensive Other Total
Common Paid-in Income Retained Comprehensive Stockholder's
Stock Capital (Loss) Earnings Income (Loss) Equity
- -----------------------------------------------------------------------------------------------------------------------
(In thousands of dollars)
<S> <C> <C> <C> <C> <C> <C>
Balance, January 1, 1997 $2,500 $39,150 $156,900 $990 $199,540
Comprehensive income:
Net income - - $4,736 4,736 - 4,736
Other comprehensive income (loss):
Unrealized investment losses net of
reclassification adjustment and taxes - - (230) - (230) (230)
------
Total comprehensive income $4,506
======
- ---------------------------------------------------------------- --------------------------------------
BALANCE, JUNE 30, 1997 $2,500 $39,150 $161,636 $760 $204,046
================================================================ ======================================
Balance, January 1, 1998 $2,500 $39,150 $170,230 $4,380 $216,260
Comprehensive income:
Net income - - $8,199 8,199 - 8,199
Other comprehensive income (loss):
Unrealized investment gains net of
reclassification adjustment and taxes - - 788 - 788 788
------
Total comprehensive income $8,987
======
- ----------------------------------------------------------------- ---------------------------------------
BALANCE, JUNE 30, 1998 $2,500 $39,150 $178,429 $5,168 $225,247
================================================================= =======================================
<FN>
See accompanying Notes to Condensed Financial Statements (Unaudited).
</FN>
</TABLE>
(5)
<PAGE>
<TABLE>
<CAPTION>
VALLEY FORGE LIFE INSURANCE COMPANY
STATEMENT OF CASH FLOWS
(Unaudited)
- ---------------------------------------------------------------------------------------------------------------------
SIX MONTHS ENDED JUNE 30 1998 1997
- ---------------------------------------------------------------------------------------------------------------------
(In thousands of dollars)
CASH FLOWS FROM OPERATING ACTIVITIES
<S> <C> <C>
Net income $ 8,199 $ 4,736
-------- --------
Adjustments to reconcile net income to net cash flows from operating
activities:
Net realized investment (gains) losses, pre-tax (3,513) 133
Amortization of bond discount (1,955) (3,073)
Changes in:
Insurance receivables, net (491,676) (107,856)
Deferred acquisition costs (8,873) (12,526)
Accrued investment income (514) 483
Due from affiliates 29,566 46,867
Federal income taxes 102 923
Deferred income taxes 4,292 1,631
Insurance reserves 495,132 91,292
Commissions and other payables 28,041 3,774
Other, net (67,150) (1,416)
--------- ---------
Total adjustments (16,548) 20,232
--------- ---------
NET CASH FLOWS FROM OPERATING ACTIVITIES (8,349) 24,968
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of fixed maturities (190,742) (142,791)
Proceeds from fixed maturities:
Sales 173,683 135,382
Maturities, calls and redemptions 28,186 12,735
Change in short-term investments (29,854) (98,725)
Change in policy loans (3,329) (4,902)
--------- ---------
NET CASH FLOWS FROM INVESTING ACTIVITIES (22,056) (98,301)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES
Receipts from investment contracts credited to policyholder account balances 27,111 59,158
Return of policyholder account balances on investment contracts (19,836) (5,462)
--------- ---------
NET CASH FLOWS FROM FINANCING ACTIVITIES 7,275 53,696
--------- ---------
NET CASH FLOWS (23,130) (19,637)
Cash at beginning of period 24,565 24,759
- ---------------------------------------------------------------------------------------------------------------------
CASH AT END OF PERIOD $ 1,435 $ 5,122
=====================================================================================================================
Supplemental disclosures of cash flow information:
Federal income taxes received $ - $ 506
=====================================================================================================================
<FN>
See accompanying Notes to Condensed Financial Statements (Unaudited).
</FN>
</TABLE>
(6)
<PAGE>
VALLEY FORGE LIFE INSURANCE COMPANY
NOTES TO CONDENSED FINANCIAL STATEMENTS
JUNE 30, 1998
(Unaudited)
NOTE 1. BASIS OF PRESENTATION:
Valley Forge Life Insurance Company (VFL) is a wholly-owned subsidiary of
Continental Assurance Company (Assurance). Assurance is a wholly-owned
subsidiary of Continental Casualty Company (Casualty) which is wholly-owned by
CNA Financial Corporation (CNAF). Loews Corporation owns approximately 84% of
the outstanding common stock of CNAF.
VFL sells a variety of individual and group insurance products. The
individual insurance products consist primarily of term, universal life,
annuity, variable annuity and variable universal life. Group insurance products
include life, accident and health consisting primarily of major medical and
hospitalization, variable annuities and pension products, such as guaranteed
investment contracts and annuities.
The operations, assets and liabilities of VFL and its parent, Assurance, are
managed, to a large extent, on a combined basis. Pursuant to a Reinsurance
Pooling Agreement, VFL cedes all of its business, excluding its separate account
business, to its parent, Assurance. This business is then pooled with the
business of Assurance, which excludes Assurance's participating contracts and
separate account business, and 10% of the combined pool is assumed by VFL.
The operating results for the interim periods are not necessarily indicative
of the results to be expected for the full year. These statements should be read
in conjunction with the financial statements and notes thereto included in VFL's
Form 10-K for the year ended December 31, 1997, filed with the Securities and
Exchange Commission on March 31, 1998.
The accompanying condensed financial statements have been prepared in
conformity with generally accepted accounting principles. Certain amounts
applicable to prior years have been reclassified to conform to classifications
followed in 1998.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates. In the
opinion of VFL's management, these statements include all adjustments,
consisting of normal recurring accruals, which are necessary for the fair
presentation of the financial position, results of operations and cash flows in
the accompanying condensed financial statements.
(7)
<PAGE>
VALLEY FORGE LIFE INSURANCE COMPANY
NOTES TO CONDENSED FINANCIAL STATEMENTS - CONTINUED
NOTE 2. REINSURANCE:
VFL assumes and cedes insurance with other insurers and reinsurers and
members of various reinsurance pools and associations. VFL utilizes reinsurance
arrangements to limit its maximum loss, to provide greater diversification of
risk and to minimize exposures on larger risks. The reinsurance coverages are
tailored to the specific risk characteristics of each product line with VFL's
retained amount varying by type of coverage. VFL's reinsurance includes quota
share, yearly renewable term and facultative programs. Amounts recoverable from
reinsurers are estimated in a manner consistent with the future policy benefits
reserves.
The ceding of insurance does not discharge the primary liability of the
original insurer. VFL places reinsurance with other carriers only after careful
review of the nature of the contract and a thorough assessment of the
reinsurers' credit quality and claim settlement performance. Further, for
carriers that are not authorized reinsurers in VFL's state of domicile, VFL
receives collateral, primarily in the form of bank letters of credit.
In the table below, the majority of life premium revenue is from long
duration type contracts, while the majority of accident and health earned
premiums is from short duration contracts. The effects of reinsurance on premium
revenues are shown in the following schedule:
<TABLE>
- -----------------------------------------------------------------------------------------------
PREMIUMS ASSUMED/NET
---------------------------------------------------
SIX MONTHS ENDED JUNE 30 DIRECT ASSUMED CEDED NET %
- -----------------------------------------------------------------------------------------------
(In thousands of dollars)
1998
<S> <C> <C> <C> <C> <C>
Life $319,982 $ 41,293 $322,973 $ 38,302 108%
Accident and Health 1,827 116,278 1,827 116,278 100
- ---------------------------------------------------------------------------------------------
TOTAL PREMIUMS $321,809 $157,571 $324,800 $154,580 102%
=============================================================================================
1997
Life $267,120 $ 40,342 $268,265 $ 39,197 103%
Accident and Health 1,271 125,578 1,271 125,578 100
- ---------------------------------------------------------------------------------------------
TOTAL PREMIUMS $268,391 $165,920 $269,536 $164,775 101%
=============================================================================================
</TABLE>
Transactions with Assurance, as part of the pooling agreement described in
Note 1, are reflected in the above table. Premium revenues ceded to
non-affiliated companies were $111.0 million for the six month period ended June
30, 1998 and $47.8 million for the same period in 1997, respectively.
Additionally, insurance claims and policyholders' benefits are net of
reinsurance recoveries from non-affiliated companies of $77.5 million for the
period ended June 30, 1998, and $1.5 million for the same period in 1997.
Reinsurance receivables reflected on the balance sheet are from reinsurers
related to insurance reserves. These balances, which were approximately $2.1
billion and $1.4 billion at June 30, 1998 and 1997, respectively, are
principally due from Assurance pursuant the Reinsurance Pooling Agreement.
NOTE 3. LEGAL PROCEEDINGS:
VFL is party to litigation in the ordinary course of business. The outcome of
this litigation will not, in the opinion of management, materially affect the
results of operations or equity of VFL.
(8)
<PAGE>
VALLEY FORGE LIFE INSURANCE COMPANY
NOTES TO CONDENSED FINANCIAL STATEMENTS - CONCLUDED
NOTE 4. ACCUMULATED OTHER COMPREHENSIVE INCOME:
Comprehensive income is comprised of all changes to stockholder's equity,
including net income, except those changes resulting from investments by owners
and distributions to owners. The change in the components of accumulated other
comprehensive income (loss) are reported net of income tax as shown below:
<TABLE>
- -----------------------------------------------------------------------------------------------------------------
PRE-TAX TAX (EXPENSE) NET
THREE MONTHS ENDED JUNE 30 AMOUNT BENEFIT AMOUNT
- -----------------------------------------------------------------------------------------------------------------
(In thousands of dollars)
1998
Net unrealized gains (losses) on investment securities:
<S> <C> <C> <C>
Net unrealized holding gains (losses) arising during the period $(3,606) $1,263 $(2,343)
Reclassification adjustment for (gains) losses
included in net income 5,428 (1,900) 3,528
=================================================================================================================
TOTAL OTHER COMPREHENSIVE INCOME $1,822 $ (637) $1,185
=================================================================================================================
1997
Net unrealized gains (losses) on investment securities:
Net unrealized holding gains (losses) arising during the period $5,158 $(1,805) $3,353
Reclassification adjustment for (gains) losses
included in net income 2,071 (725) 1,346
=================================================================================================================
TOTAL OTHER COMPREHENSIVE INCOME $7,229 $(2,530) $4,699
=================================================================================================================
- ------------------------------------------------------------------------------------------------------------------
PRE-TAX TAX (EXPENSE) NET
SIX MONTHS ENDED JUNE 30 AMOUNT BENEFIT AMOUNT
- ------------------------------------------------------------------------------------------------------------------
(In thousands of dollars)
1998
Net unrealized gains (losses) on investment securities:
Net unrealized holding gains (losses) arising during the period $(1,750) $ 613 $(1,137)
Reclassification adjustment for (gains) losses
included in net income 2,962 (1,037) 1,925
==================================================================================================================
TOTAL OTHER COMPREHENSIVE INCOME $1,212 $ (424) $ 788
==================================================================================================================
1997
Net unrealized gains (losses) on investment securities:
Net unrealized holding gains (losses) arising during the period $(1,476) $ 517 $ (959)
Reclassification adjustment for (gains) losses
included in net income 1,122 (393) 729
==================================================================================================================
TOTAL OTHER COMPREHENSIVE INCOME $ (354) $ 124 $ (230)
==================================================================================================================
</TABLE>
(9)
<PAGE>
VALLEY FORGE LIFE INSURANCE COMPANY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with the
condensed financial statements and notes thereto found on pages 3 to 9, which
contain additional information helpful in evaluating operating results and
financial condition.
VFL sells a variety of individual and group insurance products. The
individual insurance products consist primarily of term, universal life,
annuity, variable annuity and variable universal life. Group insurance products
include life, accident and health consisting primarily of major medical and
hospitalization, variable annuities and pension products, such as guaranteed
investment contracts and annuities.
The operations, assets and liabilities of VFL and its parent, Assurance, are
managed, to a large extent, on a combined basis. Pursuant to a Reinsurance
Pooling Agreement, VFL cedes all of its business, excluding its separate account
business, to its parent, Assurance. This business is then pooled with the
business of Assurance, which excludes Assurance's participating contracts and
separate account business, and 10% of the combined pool is assumed by VFL.
(10)
<PAGE>
VALLEY FORGE LIFE INSURANCE COMPANY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS -CONTINUED
RESULTS OF OPERATIONS:
The following table summarizes key components of VFL's operating results for
the three and six months ended June 30, 1998 and 1997.
<TABLE>
- ---------------------------------------------------------------------------------------------
THREE MONTHS SIX MONTHS
PERIOD ENDED JUNE 30 1998 1997 1998 1997
- ---------------------------------------------------------------------------------------------
(In thousands of dollars)
OPERATING SUMMARY
(excluding realized investment gains/losses):
Revenues:
<S> <C> <C> <C> <C>
Individual premium $10,476 $13,671 $ 26,927 $ 29,280
Group premium 62,549 65,021 127,653 135,495
------- ------- -------- -------
Total premiums 73,025 78,692 154,580 164,775
Net investment income 9,032 7,956 17,623 15,261
Other 2,595 1,476 4,156 2,751
------- ------- ------- -------
Total revenues 84,652 88,124 176,359 182,787
Benefits and expenses 79,556 84,704 167,119 175,270
------- ------- ------- -------
Operating income before income tax 5,096 3,420 9,240 7,517
Income tax expense (1,805) (1,214) (3,325) (2,668)
------- ------- ------- -------
Net operating income 3,291 2,206 5,915 4,849
Net realized investment gains (losses) 989 (132) 2,284 (113)
============================================================================================
NET INCOME $ 4,280 $2,074 $ 8,199 $ 4,736
============================================================================================
</TABLE>
VFL's revenues, excluding net realized investment gains/losses, were $176.4
million for the first six months of 1998, compared to $182.8 million for the
same period in 1997. Premiums were $154.6 million for the six months ended June
30, 1998, compared to $164.8 million for the same period in 1997. For the six
month period of 1998, individual premiums decreased by 8.0% to $26.9 million,
compared to $29.3 million for the same period in 1997. This decrease is
due in part to a decline in individual annuity premiums as CNA's marketing
efforts have shifted to more profitable products. Group premiums were $127.7
million for the first six months of 1998, compared to $135.5 million for the
same period in 1997. The decrease in group premiums is primarily due to lower
Federal Employee Health Benefit Plan (FEHBP) premiums and a reduction in group
health premiums. The decrease in FEHBP premiums is a result of improved claim
experience upon which the premiums are based and continues the trend from the
first quarter of this year.
Premiums for the three months ended June 30, 1998 were $73.0 million,
compared to $78.7 million for the same period in 1997. Individual premiums
decreased by 23.4% to $10.5 million for the three months ended June 30, 1998,
compared to $13.7 million for the same period in 1997. For the three months
ended June 30, 1998, group premium decreased to $62.5 million from $65.0 million
for the same period in 1997. The decrease in net premiums for the three months
ended June 30, 1998 were primarily due to lower premiums for individual
annuity and FEHBP business, respectively.
(11)
<PAGE>
VALLEY FORGE LIFE INSURANCE COMPANY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS -CONTINUED
VFL's investment income for the six months ended June 30, 1998 was $17.6
million, an approximate increase of $2.3 million or 15.5% from the same period
for 1997 when investment income was $15.3 million. The increase is attributable
to a larger asset base of VFL's investment portfolio generated from increased
cash flows from premium growth in 1997. Investment income was $9.0 million and
$8.0 million for the three months ended June 30, 1998 and 1997, respectively.
Benefits and expenses were $167.1 million for the six month period ended
June 30, 1998, as compared to $175.3 million for the same period in 1997. The
decrease in benefits and expenses was more than offset by the decrease in
premiums, as noted above. The increase in pre-tax operating income of $1.7
million to $9.2 million for the six month period ended June 30, 1998 is
primarily due to higher net investment income as compared to the same period in
1997.
Realized investment gains, net of tax, for the first six months ended June
30, 1998 were $2.3 million, compared to net realized investment losses for the
same period in 1997 of $0.1 million. Realized investment gains, net of tax, for
the three months ended June 30, 1998 were $1.0 million, compared to net realized
investment losses of $0.1 million for the same period in 1997. The increase in
realized gains is the result of VFL taking advantage of favorable market
conditions.
FINANCIAL CONDITION:
Assets increased approximately $534.6 million from December 31, 1997 to
$2,903.1 million as of June 30, 1998. VFL's cash and invested assets increased
by approximately $4.3 million from December 31, 1997 to $574.9 million.
During the first six months of 1998, VFL's stockholder's equity increased by
$9.0 million, or 4.2%, to approximately $225.2 million. The increase in
stockholder's equity in 1998 is due to net income of approximately $8.2 million
and approximately $0.8 million of gains in accumulated other comprehensive
income. Accumulated other comprehensive income is comprised primarily of
unrealized gains and losses.
<TABLE>
- ----------------------------------------------------------------------------------------------------------
FINANCIAL POSITION JUNE 30 DECEMBER 31
1998 1997
- ----------------------------------------------------------------------------------------------------------
(In thousands of dollars)
<S> <C> <C>
Assets $2,903,053 $2,368,426
Stockholder's Equity 225,247 216,260
Accumulated Other Comprehensive Income (Included in Stockholder's Equity) 5,168 4,380
- ---------------------------------------------------------------------------------------------------------
</TABLE>
(12)
<PAGE>
VALLEY FORGE LIFE INSURANCE COMPANY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS -CONTINUED
INVESTMENTS:
The following table summarizes VFL's investments shown at cost or amortized
cost and carrying value at June 30, 1998 and December 31, 1997:
<TABLE>
- -------------------------------------------------------------------------------------------------
DISTRIBUTION OF INVESTMENTS JUNE 30 DECEMBER 31
1998 % 1997 %
- -------------------------------------------------------------------------------------------------
(In thousands of dollars)
Fixed maturity securities:
U.S. Treasury Securities and
<S> <C> <C> <C> <C>
obligations of government agencies $292,328 51.8% $299,066 55.4%
Asset backed securities 76,512 13.6 68,612 12.7
Corporate debt securities 63,777 11.3 51,355 9.5
Other debt securities 24,059 4.3 47,234 8.8
- -------------------------------------------------------------------------------------------------
Total fixed maturity securities 456,676 81.0 466,267 86.4
Common stocks 981 0.2 981 0.2
Policy loans 70,300 12.5 66,971 12.4
Other invested assets 524 0.1 579 0.1
Short-term investments 35,477 6.2 4,597 0.9
- -------------------------------------------------------------------------------------------------
INVESTMENTS AT AMORTIZED COST $563,958 100.0% $539,395 100.0%
=================================================================================================
INVESTMENTS AT CARRYING VALUE* $573,442 $545,968
=================================================================================================
<FN>
* As reported in the Balance Sheet
</FN>
</TABLE>
The operations, assets and liabilities of VFL and Assurance are, to a large
extent, managed on a combined basis. The investment portfolio is managed to
maximize after-tax investment return, while minimizing credit risks, with
investments concentrated in high quality securities to support insurance
underwriting operations. The investment portfolios are segregated for the
purpose of supporting policy liabilities for universal life, annuities and other
interest sensitive products.
VFL's investments in fixed maturity securities are carried at a fair value
of $465.1 million at June 30, 1998, compared with $471.7 million at December 31,
1997. At June 30, 1998, net unrealized gains on fixed maturity securities
amounted to approximately $8.4 million. This compares with net unrealized gains
of approximately $5.4 million at December 31, 1997. The gross unrealized gains
and losses for the fixed maturities portfolio at June 30, 1998 were $8.9 million
and $0.5 million, respectively, compared to $6.2 million and $0.8 million,
respectively, at December 31, 1997.
VFL's investments in equity securities are carried at a fair value of $2.5
million and $2.3 million at June 30, 1998 and December 31, 1997, respectively.
At June 30, 1998, unrealized gains on equity securities amounted to
approximately $1.5 million. This compares with unrealized gains of approximately
$1.3 million at December 31, 1997. There were no unrealized losses on equity
securities at June 30, 1998 and December 31, 1997.
(13)
<PAGE>
VALLEY FORGE LIFE INSURANCE COMPANY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS -CONTINUED
VFL has the capacity to hold its fixed maturity portfolio to maturity.
However, securities may be sold as part of VFL's asset/liability management
strategies or to take advantage of investment opportunities generated by
changing interest rates, tax and credit considerations or other similar factors.
Accordingly, the fixed maturity securities are classified as available-for-sale.
The following table summarizes the ratings of VFL's fixed maturity portfolio
at carrying value (market):
<TABLE>
- -------------------------------------------------------------------------------------------
JUNE 30 % DECEMBER 31 %
1998 1997
- -------------------------------------------------------------------------------------------
(In thousands of dollars)
<S> <C> <C> <C> <C>
U.S. government and affiliated securities $296,686 63.8% $300,676 63.8%
Other AAA rated 91,273 19.6 75,531 16.0
AA and A rated 53,070 11.4 61,404 13.0
BBB rated 24,039 5.2 27,292 5.8
Below investment grade - - 6,804 1.4
- -------------------------------------------------------------------------------------------
TOTAL $465,068 100.0% $471,707 100.0%
===========================================================================================
</TABLE>
Included in VFL's fixed maturity securities at June 30, 1998 are $77.5
million of asset-backed securities, consisting of approximately 51.4% in
collateralized mortgage obligations (CMOs), 40.2% in corporate mortgage-backed
pass-through certificates, 8.1% in corporate asset-backed obligations and 0.3%
in U.S. government agency issued pass-through certificates. The majority of CMOs
held are U.S. government agency issues, which are actively traded in liquid
markets and are priced by broker-dealers.
CMOs are subject to prepayment risk that tends to vary with changes in
interest rates. During periods of declining interest rates, CMOs generally
prepay faster as the underlying mortgages are prepaid and refinanced by the
borrowers in order to take advantage of the lower rates. Conversely, during
periods of rising interest rates, prepayments are generally slow. VFL limits the
risks associated with interest rate fluctuations and prepayments by
concentrating its CMO investments in planned amortization classes with
relatively short principal repayment windows. The fair value of asset-backed
securities was more than the amortized cost by $0.9 million and $0.1 million at
June 30, 1998 and December 31, 1997, respectively. VFL avoids investments in
complex mortgage derivatives and does not have any investments in mortgage loans
or real estate.
VFL invests from time to time in derivative financial instruments primarily
to reduce its exposure to market risk. VFL also uses derivatives to mitigate the
risk associated with certain guaranteed annuity contracts by purchasing certain
options in a notional amount equal to the original customer deposit. VFL's
derivatives are classified as other invested assets and VFL generally does not
hold or issue these instruments for trading purposes.
Derivative financial instruments consist of interest rate caps in the
general account and purchased options in the Separate Accounts at June 30, 1998.
The gross notional or contractual amounts of derivative financial instruments in
the general account totaled $50.0 million at both June 30, 1998 and December 31,
1997. The gross notional principal or contractual amounts of derivative
financial instruments in the Separate Accounts totaled $1.6 million and $1.5
million at June 30, 1998 and December 31, 1997, respectively.
(14)
<PAGE>
VALLEY FORGE LIFE INSURANCE COMPANY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS -CONTINUED
The fair value of derivative financial instruments in the general account
and Separate Accounts at June 30, 1998 totaled $0.1 million and $0.4 million,
respectively. The fair value of derivative financial instruments in the general
account and Separate Accounts at December 31, 1997 totaled $0.4 million and $0.3
million, respectively. Net realized losses on derivative financial instruments
held in the general account totaled $0.3 million for the period ended June 30,
1998, while net realized gains/losses on derivatives in the Separate Accounts
were $0 million for the same period. There were no investments in derivative
securities at June 30, 1997.
High yield securities are bonds rated below investment grade by bond rating
agencies, and other unrated securities which, in the opinion of management, are
below investment grade (below BBB). High yield securities generally involve a
greater degree of risk than that of investment grade securities. Returns are
expected to compensate for the added risk. The risk is also considered in the
interest rate assumptions in the underlying insurance products. VFL's
concentration in high yield bonds was approximately 0.3% of total assets as of
December 31, 1997. At June 30, 1998, VFL did not hold any high yield bonds.
IMPACT OF YEAR 2000 ON VFL:
The widespread use of computer programs, both in the United States and
internationally, that rely on two digit date fields to perform computations and
decision making functions may cause computer systems to malfunction when
processing information involving dates beginning in 1999. Such malfunctions
could lead to business delays and disruptions. All subsidiaries of CNAF,
including VFL, utilize the same systems in conducting day-to-day operations. VFL
is in the process of renovating or replacing many of its legacy systems and is
upgrading its systems to accommodate business for the year 2000 and beyond. In
addition, VFL is checking embedded systems in computer hardware and other
infrastructure such as elevators, heating and ventilating systems and security
systems. VFL believes that it will be able to resolve the year 2000 issue in a
timely manner. VFL's cost to upgrade and replace its systems will be included as
part of the total cost incurred by CNAF to replace and upgrade its systems.
Based upon its current assessment, CNAF estimates that the total cost to replace
and upgrade its systems to accommodate year 2000 processing will be
approximately $60 to $70 million. VFL will be allocated its proportionate share
of this cost upon completion of the upgrade; however, a reasonable estimate of
this cost is not currently available. Due to the interdependent nature of
computer systems, VFL may be adversely impacted depending upon whether it or
other entities not affiliated with VFL (vendors and business partners) address
this issue successfully. To mitigate this impact, CNAF is communicating with its
vendors and business partners to coordinate year 2000 conversion. At this time,
management is unable to determine whether the adverse impact, if any, in
connection with the foregoing circumstances would be material to VFL.
LIQUIDITY AND CAPITAL RESOURCES:
VFL's principal cash flow sources are premiums, investment income, receipts
for investment contracts sold and sales and maturities of investment. The
primary cash flow uses are payments for claims, policy benefits, payments on
matured policyholder contracts and operating expenses.
For the six months of 1998, VFL's operating activities generated net
negative cash flows of $8.3 million, compared with net positive cash flows of
$25.0 million for the same period in 1997.
(15)
<PAGE>
VALLEY FORGE LIFE INSURANCE COMPANY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS -CONTINUED
Management believes that future liquidity needs will be met primarily by
cash generated from operations. Net cash flows from operations are generally
invested in marketable securities. Investment strategies employed by VFL
consider the cash flow requirements of the insurance products sold and the tax
attributes of the various types of marketable investments.
ACCOUNTING STANDARDS:
In June 1997, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 131, "Disclosures about
Segments of an Enterprise and Related Information," which establishes standards
for the way that public business enterprises report information about operating
segments in interim and annual financial statements. It requires that those
enterprises report a measure of segment profit or loss, certain specific revenue
and expense items and segment assets, and that the enterprises reconcile the
total of those amounts to the general-purpose financial statements. It also
establishes standards for related disclosures about products and services,
geographic areas and major customers. This Statement is effective for financial
statements for periods beginning after December 15, 1997. This Statement need
not be applied to interim financial statements in the initial year of its
application. This Statement will redefine VFL's business segment disclosure.
In December 1997, the American Institute of Certified Public Accountants'
Accounting Standards Executive Committee issued Statement of Position (SOP)
97-3, "Accounting by Insurance and Other Enterprises for Insurance-Related
Assessments," which provides guidance on accounting by entities that are subject
to insurance-related assessments. It requires that entities recognize
liabilities for insurance-related assessments when all of the following criteria
have been met: an assessment has been imposed or a probable assessment will be
imposed; the event obligating an entity to pay an imposed or probable assessment
has occurred on or before the date of the financial statements; and the amount
of the assessment can be reasonably estimated. This SOP is effective for
financial statements for fiscal years beginning after December 15, 1998. VFL is
currently evaluating the effects of this SOP on its accounting for
insurance-related assessments.
In February 1998, the FASB issued SFAS No. 132, "Employers' Disclosures
about Pensions and Other Postretirement Benefits," which standardizes disclosure
requirements for pension and other postretirement benefits to the extent
practicable, and requires additional information on changes in the benefit
obligations and fair values of plan assets that will facilitate financial
analysis. The Statement also suggests combined formats for presentation of
pension and other postretirement benefit disclosures. The Statement changes
disclosure only and does not address measurement or recognition. It is effective
for fiscal years beginning after December 15, 1997. VFL has no employees,
however, expenses are allocated to VFL for services provided by Casualty
employees. VFL is currently evaluating the effects of this Statement on its
benefit plan disclosures.
(16)
<PAGE>
VALLEY FORGE LIFE INSURANCE COMPANY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS -CONCLUDED
In March 1998, the American Institute of Certified Public Accountants'
Accounting Standards Executive Committee issued SOP 98-1, "Accounting for the
Costs of Computer Software Developed or Obtained for Internal Use," which
provides guidance on accounting for costs of computer software developed or
obtained for internal use and for determining whether computer software is for
internal use. For purposes of this SOP, internal-use software is software
acquired, internally developed or modified solely to meet the entity's internal
needs for which no substantive plan exists or is being developed to market the
software externally during the software's development or modification.
Accounting treatment for costs associated with software developed or obtained
for internal use, as defined by this SOP, is based upon a number of factors,
including the point in time during the project that costs are incurred as well
as the types of costs incurred. This SOP is effective for financial statements
for fiscal years beginning after December 15, 1998. VFL is currently evaluating
the effects of this SOP.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," which establishes standards for the
accounting and reporting for derivative instruments and for hedging activities.
It requires that an entity recognize all derivatives as either assets or
liabilities in the statement of financial position and measure those instruments
at fair value. If certain conditions are met, a derivative may be specifically
designated as (a) a hedge of the exposure to changes in the fair value of a
recognized asset or liability or an unrecognized firm commitment, (b) a hedge of
the exposure to variable cash flows of a forecasted transaction, or (c) a hedge
of the foreign currency exposure of a net investment in a foreign operation, an
unrecognized firm commitment, an available-for-sale security, or a
foreign-currency-denominated forecasted transaction. The accounting for changes
in the fair value of a derivative depends on the intended use of the derivative
and the resulting designation. This Statement is effective for all fiscal
quarters of fiscal years beginning after June 15, 1999. VFL is currently
evaluating the effects of this Statement on its accounting and reporting for
derivatives and hedges.
FORWARD-LOOKING STATEMENTS
When included in management's discussion and analysis, the words "expects,"
"intends," "anticipates," "estimates" and analogous expressions are intended to
identify forward-looking statements. Such statements inherently are subject to a
variety of risks and uncertainties that could cause actual results to differ
materially from those projected. Such risks and uncertainties include, among
others, general economic and business conditions, competition, changes in
financial markets (credit, currency, commodities and stocks) changes in foreign,
political, social and economic conditions, regulatory initiatives and compliance
with governmental regulations, judicial decisions and rulings, and various other
matters, many of which are beyond VFL's control. See discussions elsewhere in
this report on how these risks may affect VFL. These forward-looking statements
speak only as of the date of this Report. VFL expressly disclaims any obligation
or undertaking to release publicly any updates or revisions to any
forward-looking statement contained herein to reflect any change in VFL's
expectations with regard thereto or any change in events, conditions or
circumstances on which any statement is based.
(17)
<PAGE>
VALLEY FORGE LIFE INSURANCE COMPANY
PART II OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS:
Description of Exhibit
Exhibit Page
Number Number
------- ------
(27) Financial Data Schedule 27 20
(b) REPORTS ON FORM 8-K:
There were no reports on Form 8-K for the three months ended June 30,
1998.
(18)
<PAGE>
VALLEY FORGE LIFE INSURANCE COMPANY
PART II OTHER INFORMATION - CONCLUDED
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
Valley Forge Life Insurance Company
By \S\ W. JAMES MACGINNITIE
-------------------------------
W. James MacGinnitie
Director, Senior Vice President
and Chief Financial Officer
Date: August 14, 1998
(19)
<TABLE> <S> <C>
<ARTICLE> 7
<CIK> 0001007008
<NAME> VALLEY FORGE LIFE INSURANCE COMPANY
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> JUN-30-1998
<DEBT-HELD-FOR-SALE> 465,068
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 2,508
<MORTGAGE> 0
<REAL-ESTATE> 0
<TOTAL-INVEST> 573,442
<CASH> 1,435
<RECOVER-REINSURE> 2,079,060
<DEFERRED-ACQUISITION> 102,326
<TOTAL-ASSETS> 2,903,053
<POLICY-LOSSES> 2,488,844
<UNEARNED-PREMIUMS> 0
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 41,631
<NOTES-PAYABLE> 0
0
0
<COMMON> 2,500
<OTHER-SE> 222,747
<TOTAL-LIABILITY-AND-EQUITY> 2,903,053
154,580
<INVESTMENT-INCOME> 17,623
<INVESTMENT-GAINS> 3,513
<OTHER-INCOME> 4,156
<BENEFITS> 145,381
<UNDERWRITING-AMORTIZATION> 5,167
<UNDERWRITING-OTHER> 16,571
<INCOME-PRETAX> 12,753
<INCOME-TAX> 4,554
<INCOME-CONTINUING> 8,199
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 8,199
<EPS-PRIMARY> 163.98
<EPS-DILUTED> 163.98
<RESERVE-OPEN> 0
<PROVISION-CURRENT> 0
<PROVISION-PRIOR> 0
<PAYMENTS-CURRENT> 0
<PAYMENTS-PRIOR> 0
<RESERVE-CLOSE> 0
<CUMULATIVE-DEFICIENCY> 0
<FN>
(20)
</FN>
</TABLE>
