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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
Form 10-K
Annual report pursuant to Section 13 or 15(d)of the Securities Exchange Act
of 1934 for the fiscal year ended December 31, 1998
Commission File Number 1-11913
Aetna Inc.
(Exact name of registrant as specified in its charter)
Connecticut 02-0488491
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
151 Farmington Avenue, Hartford, Connecticut 06156 (860) 273-0123
(Address of principal executive offices) (ZIP Code) (Registrant's telephone
number, including area
code)
Title of each class Name of each exchange on which registered
- ------------------- -----------------------------------------
Common Stock $.01 par value New York Stock Exchange
6.25% Class C Voting Mandatorily Convertible New York Stock Exchange
Preferred Stock $.01 par value
9 1/2% Cumulative Monthly Income Preferred New York Stock Exchange
Securities, Series A (issued by a subsidiary)
6 3/8% Notes due August 15, 2003 New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by 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 by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
The aggregate market value of the voting stock held by nonaffiliates of the
registrant as of January 31, 1999 was $13,571,092,504.
As of January 31, 1999, 141,437,390 shares of the registrant's Common Stock $.01
par value were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant's 1998 Annual Report to Shareholders (the "Annual
Report"). (Parts I, II and IV)
Portions of the registrant's proxy statement to be filed on or about March 15,
1999 (the "Proxy Statement"). (Parts III and IV)
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TABLE OF CONTENTS
PART I Page
----
Item 1. Business.
A. Organization of Business. 3
B. Financial Information about Industry Segments. 3
C. Description of Industry Segments.
1. Aetna U.S. Healthcare. 4
2. Aetna Retirement Services. 13
3. Aetna International. 17
4. Large Case Pensions. 18
5. General Account Investments. 19
6. Other Matters.
a. Regulation. 20
b. NAIC IRIS Ratios. 23
c. Ratios of Earnings to Fixed Charges and
Earnings to Combined Fixed Charges and
Preferred Stock Dividends. 23
d. Trademarks. 23
e. Ratings. 24
f. Miscellaneous. 24
Item 2. Properties. 25
Item 3. Legal Proceedings. 25
Item 4. Submission of Matters to a Vote of Security Holders. 25
Executive Officers of Aetna Inc. 26
PART II
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters. 28
Item 6. Selected Financial Data. 28
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations. 28
Item 7A. Quantitative and Qualitative Disclosure About
Market Risk. 28
Item 8. Financial Statements and Supplementary Data. 28
Item 9. Changes in and disagreements with Accountants
on Accounting and Financial Disclosure. 28
PART III
Item 10. Directors and Executive Officers of the Registrant. 29
Item 11. Executive Compensation. 29
Item 12. Security Ownership of Certain Beneficial Owners and Management. 29
Item 13. Certain Relationships and Related Transactions. 29
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K. 29
Index to Financial Statement Schedules. 37
Signatures. 51
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PART I
Item 1. Business.
A. Organization of Business
Aetna Inc. and its subsidiaries (collectively, the "Company") constitute one of
the nation's largest health benefits companies, based on membership, and one of
the nation's largest insurance and financial services organizations centered
around three core businesses: health care, retirement services and
international.
Aetna Inc., a Connecticut corporation, became the parent corporation of Aetna
Services, Inc. ("Aetna Services") and Aetna U.S. Healthcare Inc. (formerly U.S.
Healthcare, Inc.) as a result of a merger transaction on July 19, 1996. The
merger was accounted for as a purchase of U.S. Healthcare. (See Note 3 of Notes
to Consolidated Financial Statements in the Annual Report.) Aetna sold its
property-casualty operations on April 2, 1996. (See Note 4 of Notes to
Consolidated Financial Statements in the Annual Report for a discussion of
certain indemnifications and other information related to the property-casualty
sale.) Aetna acquired New York Life Insurance Company's NYLCare health business
("NYLCare") on July 15, 1998 and Aetna sold its domestic individual life
insurance business on October 1, 1998.
The Company's business operations are conducted in the following segments: Aetna
U.S. Healthcare, Aetna Retirement Services, Aetna International and Large Case
Pensions. The principal products included in these segments are:
Aetna U.S. Healthcare:
Health products (including health maintenance organization,
point-of-service, preferred provider organization and indemnity products)
Group life and disability insurance
Long-term care insurance
Aetna Retirement Services:
Financial services (including annuity contracts, investment advisory
services, financial planning and pension plan administrative services)
Aetna International:
Primarily life and health insurance and financial retirement services
Large Case Pensions:
Retirement products (including pension and annuity products) primarily for
defined benefit and defined contribution plans
In addition, the Corporate segment includes interest expense and corporate
expenses not directly related to the Company's business segments, such as staff
area expenses, national advertising and contributions.
B. Financial Information about Industry Segments
Required financial information by industry segment is set forth in Notes 18, 19
and 20 of Notes to Consolidated Financial Statements, which is incorporated
herein by reference to the Annual Report. Revenue and income from continuing
operations attributable to each industry segment are incorporated herein by
reference to the Selected Financial Data in the Annual Report.
Certain reclassifications have been made to the 1997 and 1996 financial
information to conform to the 1998 presentation.
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C. Description of Industry Segments
1. Aetna U.S. Healthcare
Products and Services
Aetna U.S. Healthcare provides a full spectrum of health products (managed care
and indemnity) and group insurance products (life, disability and long-term
care) on both an insured and an employer-funded basis. Under insured plans, the
Company assumes all or a majority of health care cost, utilization, mortality,
morbidity or other risk depending on the product. Under employer-funded plans,
the plan sponsor, and not the Company, assumes all or a majority of these risks.
Aetna U.S. Healthcare consists of the Health Risk business and the Group
Insurance and Other Health business.
Health products include health maintenance organization, point-of-service,
preferred provider organization and indemnity products. The Health Risk business
includes health products offered on an insured basis.
The Group Insurance and Other Health business includes group life and disability
insurance and long-term care insurance, offered on both an insured and
employer-funded basis, and all health products offered on an employer-funded
basis.
The following table summarizes premiums and fees and other income for the Health
Risk and Group Insurance and Other Health businesses:
<TABLE>
<CAPTION>
(Millions) 1998(1) 1997 1996
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<S> <C> <C> <C>
Health Risk $ 11,815.8 $ 9,735.0 $ 6,749.5
Group Insurance and Other Health 2,666.5 2,573.5 2,511.6
- -------------------------------------------------------------------------------------------
Total Aetna U.S. Healthcare $ 14,482.3 $ 12,308.5 $ 9,261.1*
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U.S. Healthcare Pre Merger (historical amounts) N/A*** N/A*** $ 2,384.7**
===========================================================================================
</TABLE>
(1) Includes results for NYLCare since July 15, 1998.
* Includes U.S. Healthcare premiums and fees and other income from July 19,
1996 through December 31, 1996.
** Reflects premiums and fees and other income from January 1, 1996 through
July 18, 1996.
*** Not applicable.
Under insured plans, Aetna U.S. Healthcare charges a premium and under
employer-funded plans, Aetna U.S. Healthcare charges a fee for administrative
and claim services.
The principal Commercial health products offered by Aetna U.S. Healthcare are:
Health Maintenance Organization ("HMO") plans offer comprehensive managed care
benefits generally through participating network physicians, hospitals and other
providers. When an individual enrolls in one of the Company's HMOs, he or she
selects a primary care physician ("PCP") from among the physicians participating
in the Aetna U.S. Healthcare network. PCPs generally are family practitioners,
internists, general practitioners or pediatricians who provide necessary
preventive and primary medical care, and are generally responsible for
coordinating other necessary health care, including making referrals to
participating network specialists. Preventive care and quality improvement are
emphasized in these plans. The Company offers HMO plans with varying levels of
copayments which result in different levels of premium rates. HMO plans are
principally offered on an insured basis. Commercial HMO membership totaled 4.4
million as of December 31, 1998, 3.3 million as of December 31, 1997 and 3.0
million as of December 31, 1996.
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Point-of-Service ("POS") plans blend the characteristics of HMO and indemnity
plans. Members can have comprehensive HMO-style benefits through network
providers with minimum out-of-pocket expense (copayments) and also can go
directly, without a referral, to any provider they choose, subject to, among
other things, certain deductibles and coinsurance, with member cost sharing
limited by out-of-pocket maximums. POS plans are offered on both an insured and
employer-funded basis. Commercial POS membership totaled 4.1 million as of
December 31, 1998, 3.7 million as of December 31, 1997 and 3.5 million as of
December 31, 1996.
Preferred Provider Organization ("PPO") plans offer the member the ability to
select any health care provider, with benefits paid at a higher level when care
is received from a network provider. Coverage is subject to deductibles and
coinsurance, with member cost sharing limited by out-of-pocket maximums. PPO
plans are offered on both an insured and employer-funded basis. PPO membership
totaled 4.0 million as of December 31, 1998, 3.6 million as of December 31, 1997
and 3.7 million as of December 31, 1996.
Indemnity plans offer the member the ability to select any health care provider
for covered services. Some managed care and medical cost containment features
may be included in these plans, such as inpatient precertification, limiting
payments to reasonable and customary charges and benefits for preventive
services. Coverage is subject to deductibles and coinsurance, with member cost
sharing limited by out-of-pocket maximums. Indemnity plans are offered on both
an insured and employer-funded basis. Indemnity membership totaled 2.5 million
as of December 31, 1998, 2.6 million as of December 31, 1997 and 3.1 million as
of December 31, 1996.
In addition to Commercial health products, the Company also offers coverage for
Medicare beneficiaries and individuals eligible for Medicaid benefits and
subsidized children's health insurance programs. Such coverages include the
following:
Through annual contracts with the Health Care Financing Administration ("HCFA"),
Aetna U.S. Healthcare HMOs offer coverage for Medicare-eligible individuals in
certain geographic areas. Generally, services must be obtained through network
providers, with the exception of emergency and urgent care. Members generally
receive enhanced benefits over standard Medicare fee-for-service coverage,
including vision, hearing and pharmacy coverage. Such Medicare plans are offered
on an insured basis. Medicare membership totaled .5 million as of December 31,
1998, .4 million as of December 31, 1997 and .3 million as of December 31, 1996.
The Company exited certain unprofitable Medicare markets effective January 1,
1999. The Company will continue to review the profitability of its Medicare
business in certain markets.
The Company also served as an administrator of Medicare benefits in certain
states, providing claim services for physicians, hospitals, skilled nursing
facilities and home health agencies in exchange for a fee. The contract with
HCFA to provide these services expired on September 30, 1997.
The Company has contracts with certain state and local agencies to offer
coverage for individuals eligible for Medicaid and subsidized children's health
insurance programs. Benefits are determined by the contracting agencies. This
coverage is offered on an insured basis. This coverage membership totaled .1
million as of December 31, 1998, 1997 and 1996.
Aetna U.S. Healthcare offers a variety of specialty health care coverages
offered as either supplements to health products or as stand-alone products.
Such coverages include indemnity and managed dental plans and prescription drug
and vision programs.
These specialty health coverages and services are included in either Health Risk
or Group Insurance and Other Health business, with the exception of behavioral
health (including employee assistance programs) and network-based workers'
compensation case management services, which are included in Group Insurance and
Other Health.
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During 1997, the Company sold certain subsidiaries primarily to more effectively
focus its health business resources. On December 5, 1997, the Company sold Human
Affairs International ("HAI"), a behavioral health management business. Aetna
U.S. Healthcare continues to market HAI's behavioral health services, including
employee assistance programs, through a long-term strategic arrangement with the
acquiring company. During 1997, the Company also sold Healthcare Data
Interchange Corporation ("HDIC"), a provider of health care electronic data
interchange services, and Aetna Professional Management Corporation ("APMC"), a
physician practice management business.
Aetna U.S. Healthcare group insurance products consist primarily of the
following:
Group Life Insurance consists principally of renewable term coverage, the
amounts of which may be fixed or linked to individual employee wage levels.
Basic and supplemental term coverage and spouse and dependent coverages are
available. Group universal life and accidental death benefit coverages are also
available. Group life insurance is offered on an insured basis. Group life
insurance membership totaled 9.8 million as of December 31, 1998 and 1997 and
9.6 million as of December 31, 1996.
Group Disability Insurance provides coverage for disabled employees' income
replacement benefits for both short-term disability and long-term disability.
The Company also offers a managed disability product with additional case
management features. Group disability insurance coverages are offered on both an
insured and employer-funded basis. Group disability membership totaled 2.6
million as of December 31, 1998 and 1997 and 2.4 million as of December 31,
1996.
Long-Term Care Insurance provides coverage for long-term care expenses in a
nursing home, adult day care or home setting. Long-term care insurance is
offered on an insured basis. Long-term care membership totaled .1 million as of
December 31, 1998, 1997 and 1996.
Many group insurance members participate in more than one type of Aetna U.S.
Healthcare coverage and are counted in each.
Provider Networks
General
Aetna U.S. Healthcare provides members of its managed care plans with access to
health care services through networks of independent health care providers. The
Company contracts with providers to participate in its provider networks in
order to provide members with broad access to high quality, cost effective
medical care. The providers in the Company's networks are independent
contractors and are neither employees nor agents of the Company.
The HMOs operated by Aetna U.S. Healthcare most closely adhere to the individual
practice model. Under the individual practice model, the HMO contracts with
independent physicians who are broadly dispersed throughout a community and who
care for patients in their own offices. Participating physicians generally also
have patients who are not members of the Company's HMOs. In the Company's HMOs,
the primary care physician plays an important role in practicing preventive
medicine and acts on behalf of the HMO member to coordinate the care provided by
specialist physicians, hospitals, and other health care providers.
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Aetna U.S. Healthcare uses a variety of practices to help contain the rate of
increase in the cost of medical services. In addition to contracts with health
care providers, such procedures include the development and implementation of
standards for the appropriate utilization of health care resources and working
with health care providers to review data in order to help them improve
consistency and quality.
At December 31, 1998, Aetna U.S. Healthcare had approximately 385,000 providers
in its networks nationwide.
Contracting
Primary Care Physicians
Compensation by the Company's HMOs to directly contracted PCPs is principally on
a capitated basis, although fee-for-service contracts also exist. Under a
capitation arrangement, physicians receive a monthly fixed fee for each HMO
member, regardless of the medical services provided to the member. In some
instances, the capitation rate is subject to adjustment based on the attainment
of certain criteria including comprehensiveness of care, quality of care and
utilization. This quality-based incentive program is administered via the
Company's Quality Care Compensation System. In a fee-for-service arrangement,
network physicians are paid for health care services provided to the member
based upon a fee schedule.
Hospitals
The Company typically enters into contracts that provide for all-inclusive per
diem and per case, with fixed rates for ambulatory surgery and emergency room
services. Certain contracted hospitals' final compensation is based upon
attainment of agreed-upon quality and other measures. The Company has some
hospital contracts that pay a percentage of billed charges.
Aetna U.S. Healthcare HMOs generally require precertification of elective
admissions and monitoring of the length of hospital stays. Participating
physicians generally admit their HMO patients to participating hospitals using
referral procedures that direct the hospital to contact the Company's patient
management unit, which confirms the patient's membership status while obtaining
pertinent data. This unit also coordinates related activities, including the
subsequent transition to the home environment and home care, if necessary. Case
management assistance for complex or "catastrophic" cases is provided by a
special case unit.
Specialist and Ancillary Services
Specialist physicians participating in the Company's networks are generally
reimbursed at contracted rates per visit or procedure.
Aetna U.S. Healthcare's HMOs have capitated payment arrangements for most mental
health, substance abuse, laboratory, radiology, diagnostic imaging, podiatric
and physical therapy services.
Integrated Delivery Systems
Aetna U.S. Healthcare has developed contractual relationships with Integrated
Delivery Systems ("IDS") to provide comprehensive medical and hospital services.
Under these arrangements, the Company's HMOs contract with an IDS for a fixed,
per member fee or a percentage of premium. These arrangements cover most or all
of the care required by the member which is generally delivered by the IDS and
its affiliated PCPs, hospitals and specialists.
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Quality Assessment
Quality assessment programs begin with the initial selection of providers.
Physicians wanting to participate in the Company's HMO networks must satisfy an
extensive set of criteria, including licensing, hospital admission privileges,
demonstrated proficiency, written references, patient access, office standards,
after-hours coverage and many other factors. Hospitals also have an extensive
set of criteria, including HCFA and the Joint Commission on Accreditation of
Healthcare Organizations ("JCAHO") accreditation.
Participating physicians are recredentialed regularly. Recredentialing of PCPs
covers many aspects of patient care including an analysis of member grievances
filed with the Company, the transfer and termination rate of members from the
practice, on-site interviews, analysis of utilization patterns, extensive member
surveys and analysis of drug prescription patterns. Committees, each composed of
a peer group of participating private physicians, review participating PCPs
being considered for recredentialing.
The Company also offers quality and outcome measurement and improvement
programs, and health care data analysis systems for providers and purchasers of
health care.
The Company seeks accreditation for certain of its HMO plans from the National
Committee for Quality Assurance ("NCQA"), a national organization established to
review the quality and medical management systems of HMOs and other managed care
plans. Accreditation by NCQA is a nationally recognized standard. As of December
31, 1998, 20 of the Company's HMOs have received full 3 year accreditation by
NCQA.
Principal Markets and Sales
Total health membership is widely dispersed throughout the United States. The
Company offers a robust array of benefit plans, many of which are available in
all 50 states.
Products offered by the Group Insurance and Other Health business are available
in all 50 states. Depending on the product, the Company markets to small groups
up to National Accounts (i.e., those with at least 3,000 eligible lives).
The following table presents total health membership by region and funding
arrangement, for the years indicated:
<TABLE>
<CAPTION>
1998 (1) 1997 1996
-------------------------- --------------------------- ---------------------------
(Thousands) Risk Nonrisk Total Risk Nonrisk Total Risk Nonrisk Total
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Mid-Atlantic 1,759 1,268 3,027 1,863 1,159 3,022 1,911 1,115 3,026
Northeast 1,347 708 2,055 1,089 735 1,824 1,127 776 1,903
Southeast 1,320 1,723 3,043 752 1,717 2,469 594 1,784 2,378
Mid-West 715 1,916 2,631 503 1,915 2,418 459 1,966 2,425
West Central 1,184 1,648 2,832 405 1,862 2,267 484 1,823 2,307
West 978 1,099 2,077 723 1,011 1,734 730 969 1,699
- -------------------------------------------------------------------------------------------------------------------------
Total Health
Membership (2) 7,303 8,362 15,665 5,335 8,399 13,734 5,305 8,433 13,738
=========================================================================================================================
</TABLE>
(1) Health membership for NYLCare at the date of acquisition was 2,117
members.
(2) Includes the following products: Commercial, Medicare and Medicaid HMO,
POS, PPO and Indemnity.
For membership composition of Aetna U.S. Healthcare's products by funding
arrangement, see Management's Discussion and Analysis of Financial Condition and
Results of Operations ("MD&A") - Aetna U.S. Healthcare - Membership in the
Annual Report.
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For both Health Risk and Group Insurance and Other Health businesses, products
and services are marketed primarily to employers for the benefit of employees
and their dependents. Frequently, employers offer employees a choice of
coverages, from which the employee makes his or her selection during a
designated annual open enrollment period. In some instances, Aetna U.S.
Healthcare is the only health care coverage offered. Employers pay all or a
portion of the monthly premiums, and employees, through payroll deductions, pay
any premium not provided as an employee benefit.
Within the Health Risk business, Medicare coverage is sold on an individual
basis as well as through employer groups to their retirees. Medicaid and
subsidized children's health insurance programs are marketed to individuals
rather than employer groups.
Aetna U.S. Healthcare products are sold primarily through Company sales
personnel who frequently work with independent consultants and brokers who
assist in the production and servicing of business. Sales representatives also
sell to employers on a direct basis.
For large customers, independent consultants and brokers are frequently involved
in employer health plan selection decisions and sales.
Marketing and sales efforts are promoted by an advertising program which
includes television, radio, billboards and print media, supported by market
research and direct marketing efforts.
Health Pricing
For insured Commercial plans, customer contracts are generally established in
advance of the policy period, for a duration of one year. In determining the
premium rates to be charged to the customer, prospective and retrospective
rating methodologies are used.
Under prospective rating, a fixed premium rate is determined at the beginning of
the policy period. Unanticipated increases in medical costs cannot be recovered
in the current policy year; however, prior experience for a product in the
aggregate is considered, among other factors, in determining premium rates for
future periods. Federally-qualified HMOs are required to set premiums in this
manner.
Aetna U.S. Healthcare Commercial HMO plans establish premium rates prior to
contract inception, without regard to actual utilization of services incurred by
individual members, using one of three approved community rating methods. These
rates may vary from account to account to reflect projected family size and
contract mix, benefit levels, renewal date, and other factors. Under one of
these methods, "traditional community rating", an HMO establishes premium rates
based on its revenue requirements for its entire enrollment in a given
community. Under "community rating by class", an HMO establishes premium rates
based on its revenue requirements for broad classes of membership distinguished
by factors such as age and sex. Under "group specific community rating", an HMO
establishes premium rates based on the HMO's revenue requirements for providing
services to the group. State laws, in certain of the states in which the Company
operates HMOs, require the filing with and approval by the state of HMO premium
rates, and certain states may prohibit the use of one or more of these rating
methods. In addition to reviewing anticipated medical costs, some states also
review anticipated administrative costs as part of the approval process. Future
results of the Company could be affected if the premium rates requested by the
Company are not approved or are adjusted downward by state regulators.
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Under retrospective rating, a preliminary premium rate is determined at the
beginning of the policy period. Once the policy period has ended, the actual
experience is reviewed. If the experience is positive (i.e., actual claim costs
and other expenses are less than those expected) then a refund is credited to
the policy. If the experience is negative, then the resulting deficit may, in
certain instances, be recovered through contractual provisions; otherwise the
deficit is considered in setting future premium levels. If a customer elects to
terminate coverage, these deficits generally cannot be recovered. Retrospective
rating is often used for non-HMO, employee funded plans which exceed 300 lives.
Aetna U.S. Healthcare has contracts with HCFA to provide HMO coverage to
Medicare beneficiaries who choose health care coverage through an HMO. Under
these annual contracts, HCFA pays the HMO at a capitated rate based on
membership and adjusted for demographic factors and a user fee. Inflation,
changes in utilization patterns and benefit plans, demographic factors such as
age and sex, and both local county and national fee for service average per
capita Medicare costs are considered in the rate calculation process. Amounts
payable under Medicare risk arrangements are subject to annual unilateral
revision by HCFA. In addition to premiums received from HCFA, some of the
Medicare products offered by Aetna U.S. Healthcare require a modest premium to
be paid by the member. Under Medicare risk arrangements, Aetna U.S. Healthcare
assumes the risk of higher than expected medical expenses. Medicare contracts
generate higher per member per month revenues, but also higher per member per
month medical expenses, than Commercial plans.
Aetna U.S. Healthcare also has HMO contracts with a variety of federal
government employee groups under the Federal Employees Health Benefit Program.
Premium rates are subject to federal government review and audit. Premium rates
for these contracts are set prospectively but are subject to retrospective
adjustments.
Premiums and fees from the federal government accounted for 21% of Aetna U.S.
Healthcare's revenue in 1998. Contracts with HCFA accounted for 84% of these
premiums and fees, with the balance from federal employee related benefit
programs.
The Company has contracts with state and local agencies to provide fully-insured
health benefits to persons eligible for Medicaid and subsidized children's
health insurance program benefits. These contracts are generally for a period of
one to three years. Aetna U.S. Healthcare receives a fixed monthly payment based
on membership in return for the coverage of health care services. The rates are
subject to periodic unilateral revision by the contracting agencies. Aetna U.S.
Healthcare assumes the risk of higher than expected medical expenses.
Contracts with the customer to provide administrative services for
employer-funded plans are generally for a period of one year. Aetna U.S.
Healthcare has entered into certain guarantees with respect to certain functions
such as customer service response time, claim processing accuracy and claim
processing turnaround time, as well as certain guarantees that claim expenses to
be incurred by the customer will fall within a certain range. With any of these
guarantees, Aetna U.S. Healthcare is financially at risk if the conditions of
the arrangements are not met, though the maximum at risk is typically 10% - 30%
of fees for the customer involved.
Competition
Competition in the health care industry has intensified in recent years,
primarily due to more aggressive marketing and pricing, a proliferation of
competing products, including new products developed in an effort to contain
health care costs, and increased quality and price sensitivity. New entrants
into the marketplace as well as significant consolidation within the industry
have also contributed to the more intense competitive environment.
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Aetna U.S. Healthcare believes that the most significant factors which
distinguish competing health plans are quality of service and managed care
programs (including NCQA accreditation status), comprehensiveness of coverage,
cost (including both premium and member out-of-pocket costs), product design,
financial stability and the geographic scope of provider networks and the
providers available in such networks. Aetna U.S. Healthcare believes that it is
competitive in each of these areas. The ability to increase the number of
persons covered by Aetna U.S. Healthcare benefits or to increase revenues is
affected by competition in any particular area. In addition, the ability to
increase the number of persons enrolled in Health Risk products is affected by
the desire and ability of employers to self fund their health coverage.
Competition may also affect the availability of services from health care
providers, including primary care physicians, specialists and hospitals.
Within the Health Risk business, Aetna U.S. Healthcare competes with local and
regional managed care plans, in addition to managed care plans sponsored by
large health insurance companies and Blue Cross/Blue Shield plans. Additional
competitors include other types of medical and dental provider organizations,
various specialty service providers, integrated health care delivery
organizations, and in certain plans, with programs sponsored by the federal or
state governments.
Within the Other Health component of the Group Insurance and Other Health
business, Aetna U.S. Healthcare competes primarily with other commercial
insurance companies and third party administrators.
For the Group Insurance industry, Aetna U.S. Healthcare believes that the most
significant factors which distinguish competing companies are price, quality of
service, comprehensiveness of coverage, and product array and design. Specialty
carriers have increased market penetration in the life and disability business.
The deeply-penetrated group life market remains highly competitive.
Reserves
For the Health Risk business, medical claims payable reflects estimates of the
ultimate cost of claims that have been incurred but not yet reported and
reported but not yet paid. Medical claims payable are based on a number of
factors including those derived from historical claim experience. Medical claims
payable are estimated periodically, and any resulting adjustments are reflected
in current period results.
For Group Insurance products, reserves are established as premiums become due to
reflect the present value of expected future obligations net of the present
value of expected future premiums. Policy reserves for group paid-up life
insurance generally reflect long-term fixed obligations and are computed on the
basis of assumed or guaranteed yield and benefit payments. Assumptions are based
on the Company's historical claim experience. For long-term disability products,
reserves are established for (i) lives currently in payment status (using both
standard industry, as well as the Company's own morbidity and interest rate
assumptions), (ii) lives who have not yet satisfied the waiting period, but are
expected to do so and (iii) claims that have been incurred but not reported.
Long-term care reserves are a long-term obligation calculated using industry
data for morbidity and mortality assumptions. Reserves for unpaid claims for
other group health products (including short duration contracts) are estimated
periodically and any resulting adjustments are reflected in current earnings.
Group health and group insurance premiums are generally recorded as premium
revenue over the term of the coverage. Some group contracts allow for premiums
to be adjusted to reflect emerging experience. Such premiums are recognized as
the related experience emerges.
Page 11
<PAGE> 12
Reinsurance
Aetna U.S. Healthcare uses reinsurance agreements with nonaffiliated insurers
for Group Insurance businesses to control its exposure to large losses and
certain other risks. The Company maintains catastrophic life reinsurance which
provides protection against accidents involving five or more covered lives. For
disability business, certain reinsurance arrangements have been established to
reflect the circumstances of the specific disability risks. These include an
excess individual amount arrangement for a particular market segment of the
disability business, a quota share treaty for another market segment of the
disability business, and facultative treaties on a case by case basis. In
addition, the Company carries excess medical malpractice professional liability
insurance.
Group Life Insurance In Force and Other Statistical Data
The following table summarizes changes in group life insurance in force before
deductions for reinsurance ceded to other companies for the years indicated:
<TABLE>
<CAPTION>
(Dollars in Millions) 1998 1997 1996
- --------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
In force, end of year $ 378,727 $ 316,478 $ 309,999
- --------------------------------------------------------------------------------------------------
Terminations (lapses and all other) $ 14,018 $ 10,678 $ 10,714
- --------------------------------------------------------------------------------------------------
Number of policies and contracts in force, end of year:
Group Life Contracts (1) 14,044 13,849 15,288
Group Conversion Policies (2) 31,024 32,660 33,538
- --------------------------------------------------------------------------------------------------
</TABLE>
(1) Due to the diversity of coverages and size of covered groups, statistics
are not provided for average size of policies in force.
(2) Reflects conversion privileges exercised by insureds under group life
policies to replace those policies with individual life policies.
Factors Affecting Forward-Looking Information
For information regarding certain important factors that may materially affect
Aetna U.S. Healthcare's business, see MD&A - Forward-Looking Information/Risk
Factors, Aetna U.S. Healthcare - Outlook and financial results discussions in
the Annual Report.
Page 12
<PAGE> 13
2. Aetna Retirement Services
Products and Services
Aetna Retirement Services ("ARS") offers financial services products primarily
through Aetna Life Insurance and Annuity Company ("ALIAC") and Aetna Insurance
Company of America ("AICA") indirect, wholly owned subsidiaries of the Company.
Prior to October 1, 1998, ARS also offered individual life insurance products
through ALIAC. Investment advisory services are offered through ALIAC and Aeltus
Investment Management Inc. ("Aeltus"), registered investment advisers and
indirect, wholly owned subsidiaries of the Company. Aeltus is also an adviser to
Aetna mutual funds. Financial planning services are offered through Financial
Network Investment Corporation ("FNIC"), a broker/dealer acquired in 1997, and
Aetna Financial Services, Inc. ("AFSI"), indirect wholly owned subsidiaries of
the Company.
Financial Services
Financial services products principally include annuity contracts that offer a
variety of funding and payout options for individual and employer-sponsored
retirement plans qualified under Internal Revenue Code Sections 401, 403, 408
and 457 (collectively, "qualified plans") and nonqualified annuity contracts.
These contracts may be deferred or immediate ("payout annuities"). Financial
services also include investment advisory services, financial planning and
pension plan administrative services.
Individual Life Insurance
Individual life insurance products include universal life and variable universal
life, which have both life insurance and investment characteristics, traditional
whole life and term insurance. ARS' domestic individual life insurance business
was sold on October 1, 1998. The transaction was generally in the form of an
indemnity reinsurance arrangement. See MD&A - Overview and Aetna Retirement
Services in the Annual Report for more information.
Investment Options
ARS products provide annuity and certain life insurance customers with variable
and/or fixed investment options. Variable ("nonguaranteed") options provide for
full assumption by the customer of investment risks. Assets supporting variable
options are held in separate accounts that invest in Aetna mutual funds and/or
unaffiliated mutual funds. Aetna mutual funds include funds managed by Aeltus
and, beginning in 1997, funds managed by outside investment advisors under
subadvisory arrangements. Separate account investment income and realized
capital gains and losses are not reflected in the Company's consolidated results
of operations. Fixed options can be either "fully guaranteed" or "experience
rated". Fully guaranteed options provide guarantees on investment return,
maturity values, and if applicable, benefit payments. Experience rated options
require the customer to assume investment (including realized capital gains and
losses) and other risks subject, among other things, to certain minimum
guarantees. The effect of investment performance (as long as minimum guarantees
are not triggered) does not impact the Company's consolidated results.
Page 13
<PAGE> 14
Fees and Investment Margins
Insurance charges, investment management or other fees earned by ARS vary by
product and depend, among other factors, on the funding option selected by the
customer under the product. For variable annuities or life insurance products
where assets are allocated to variable funding options, ARS charges the separate
account an asset-based insurance fee and expense charge. In addition, where the
customer selects an Aetna mutual fund as a variable funding option, ARS receives
an asset-based investment management fee and, in the case of those funds
subadvised by outside managers, ARS pays a subadvisory fee to the fund manager.
For unaffiliated mutual funds, ARS receives distribution fees and/or expense
reimbursements. For fixed funding options, ARS derives an investment margin,
which is based on the difference between income earned on the investments
supporting the liability and interest credited to customers. Other fees or
charges, such as administrative fees, may be assessed depending on the nature of
the product.
ARS also provides direct investment advisory services to unaffiliated customers
through Aeltus and FNIC generally for fees based on assets under management.
FNIC provides financial planning services generally for fees which may or may
not be asset based.
Assets Under Management
The substantial portion of fees or other charges and investment margins are
based on assets under management. Assets under management are principally
affected by deposits, investment growth (i.e., interest credited to customer
accounts for fixed options or market performance for variable options) and
persistency (i.e., customer retention). Assets under management, excluding net
unrealized capital gains and losses on debt securities other than those held in
separate accounts, were $51.9 billion at December 31, 1998, $45.0 billion at
December 31, 1997 and $32.1 billion at December 31,1996. Approximately 95% of
assets under management at December 31, 1998 and 94% at December 31, 1997,
allowed for contractholder withdrawal. Approximately 84% at December 31, 1998
and 77% at December 31, 1997 are subject to market value adjustments and/or
deferred surrender charges.
To encourage customer retention and recover acquisition expenses, contracts
typically impose a surrender charge on policyholder balances withdrawn within a
period of time after the contract's inception which may be waived at the
Company's discretion. The period of time and level of the charge vary by
product. In addition, an approach incorporated into recent variable annuity
contracts with fixed funding options allows contractholders to receive an
incremental interest rate if withdrawals from the fixed account are spread over
a period of five years. Further, more favorable credited rates may be offered
after policies have been in force for a period of time. Existing tax penalties
on annuity distributions prior to age 59-1/2 provide further disincentive to
customers for premature surrenders of annuity balances, but generally do not
impede transfers of those balances to products of competitors.
Page 14
<PAGE> 15
Life Insurance In Force and Other Statistical Data
For individual life insurance products, life insurance in force is a key
determinant of earnings as contract charges for cost of insurance coverage are
typically based on amounts of coverage in force less accumulated policy
reserves. The key drivers of life insurance in force are new sales, surrenders
and mortality. The following table summarizes changes in life insurance in force
before deductions for reinsurance ceded to other companies:
(Amounts in millions, except number of policies and average size of policies in
force)
<TABLE>
<CAPTION>
(Millions) 1998 (1) 1997 1996
- -----------------------------------------------------------------------------------------
<S> <C> <C> <C>
Sales and additions:
Permanent:
Nonparticipating $ 3,522 $ 4,281 $ 4,357
Participating 13 13 12
Term:
Nonparticipating 513 1,586 1,382
Participating 18 53 133
- -----------------------------------------------------------------------------------------
Total $ 4,066 $ 5,933 $ 5,884
=========================================================================================
Terminations:
Surrenders and conversions $ 1,807 $ 1,865 $ 1,646
Lapses 2,046 2,126 2,098
Other 323 1,130 330
- -----------------------------------------------------------------------------------------
Total $ 4,176 $ 5,121 $ 4,074
=========================================================================================
In force, end of year:
Permanent $ 39,275 $ 36,614 $ 35,883
Term 10,410 13,181 13,100
- -----------------------------------------------------------------------------------------
Total $ 49,685 $ 49,795 $ 48,983
=========================================================================================
Number of policies in force, end of year:
Nonparticipating 554,776 597,221 627,233
Participating 90,904 97,533 105,098
- -----------------------------------------------------------------------------------------
Total 645,680 694,754 732,331
=========================================================================================
Average size of policies in force, end of year:
Nonparticipating $ 79,357 $ 72,654 $ 66,385
Participating 62,266 65,664 69,883
- -----------------------------------------------------------------------------------------
</TABLE>
(1) As a result of the sale of the individual life business on October 1,
1998, substantially all of the in force amounts are being ceded to an
outside company.
See Note 13 of Notes to Consolidated Financial Statements in the Annual Report
for a discussion of participating life insurance contracts.
The following table summarizes premiums and deposits for ARS:
<TABLE>
<CAPTION>
(Millions) 1998 (1) 1997 1996
- -----------------------------------------------------------------------------------------
<S> <C> <C> <C>
Premiums $ 131.9 $ 158.5 $ 180.7
Deposits 5,142.5 4,969.0 4,564.8
- -----------------------------------------------------------------------------------------
$5,274.4 $5,127.5 $ 4,745.5
=========================================================================================
</TABLE>
(1) 1998 amounts reflect the operations of the individual life business
through the sale date of October 1, 1998.
Page 15
<PAGE> 16
Principal Markets and Method of Distribution
ARS products and services are offered primarily to individuals, pension plans,
small businesses and employer-sponsored groups in the health care, government,
education (collectively "not-for-profit" organizations) and corporate markets.
ARS products generally are sold through pension professionals, independent
agents and brokers, third party administrators, banks, dedicated career agents
and financial planners.
Competition
ARS competes with other insurance companies, as well as an array of financial
services companies including banks, mutual funds and other investment managers.
Principal competitive factors are reputation for investment performance, product
features, service, cost and the perceived financial strength of the investment
manager or sponsor.
Competition may affect, among other matters, both business growth and the
pricing of ARS' products and services.
Reserves
Reserves for limited payment contracts (annuities with life contingent payout)
are computed on the basis of assumed investment yield, mortality, morbidity and
expenses and include a margin for adverse deviation. The assumptions vary by
plan, year of issue and policy duration. Reserves for investment contracts
(deferred annuities and immediate annuities without life contingent payouts) are
equal to cumulative deposits plus credited interest less withdrawals and charges
thereon. Of those investment contracts which are experience rated, the reserves
also reflect net realized capital gains/losses (which ARS reflects through
credited rates on an amortized basis) and unrealized capital gains/losses
related to Financial Accounting Standard ("FAS") No. 115.
Prior to the sale of the individual life business on October 1, 1998, reserves
for universal life products were equal to cumulative deposits less withdrawals
and charges plus credited interest thereon, plus/less net realized capital
gains/losses (which were reflected through credited rates on an amortized
basis). These reserves also included unrealized capital gains/losses related to
FAS No. 115. As a result of the sale and transfer of assets supporting the
business, reserves for universal life products will no longer include net
realized capital gains/losses and unrealized gains/losses related to FAS No. 115
for the years ended December 31, 1998 and beyond. Reserves for all other fixed
individual life contracts are computed on a basis consistent with that described
above for limited payment contracts.
Because the sale was substantially in the form of an indemnity reinsurance
agreement, the Company reported an addition to its reinsurance receivable
approximating the total ARS individual life reserves at the sale date.
Reserves, as described above, are computed amounts that, with additions from
premiums and deposits to be received and with interest on such reserves
compounded annually at assumed rates, are expected to be sufficient to meet the
Company's policy obligations at their maturities or to pay expected death or
retirement benefits or other withdrawal requests.
Factors Affecting Forward-Looking Information
For information regarding certain important factors that may materially affect
ARS' business, see MD&A - Forward-Looking Information/Risk Factors, Aetna
Retirement Services - Outlook and financial results discussions in the Annual
Report.
Page 16
<PAGE> 17
3. Aetna International
Aetna International, through subsidiaries and joint venture affiliates, sells
primarily life and health insurance and financial retirement services products
in markets outside of the United States.
The Company continues to increase its investments in emerging international and
financial services markets, where it believes demographic and other
characteristics afford the opportunity for long-term business growth. The
Company seeks to enter new emerging markets in their early stages of
development, seeking to be among the first foreign entrants, and then to build
sufficient scale of operations to compete with local and other foreign
companies. The Company also explores opportunities for additional investments,
or divestitures where appropriate, in markets where it has established
operations.
The Company may invest in a new market or increase its position in a market
through a combination of acquisitions, joint ventures and de novo initiatives.
Over the past 5 years, the Company has invested $1.1 billion in its
international operations, of which $245 million was invested in 1998, a majority
of which related to the acquisition of a 74.5% ownership interest in Cruz
Blanca, a private health insurance company in Chile.
Aetna International conducts its business in several major geographic locations:
o Asia Pacific - Operations are conducted through majority-owned
subsidiaries in Indonesia, Malaysia, New Zealand, the Philippines,
Taiwan and Thailand as well as through equity affiliates in China
and Hong Kong. The products and services sold by these businesses
include individual and group life and health insurance, deposit
administration and related financial products and services.
o Americas - Operations are conducted through wholly owned and
majority-owned subsidiaries in Argentina, Canada, Chile and equity
affiliates in Brazil, Mexico, Peru, and Venezuela. The products and
services sold by these businesses include individual and group life
and health insurance, annuities, personal and commercial
property-casualty insurance, and pension fund administration
services.
o Other - Includes general and other miscellaneous expenses.
Each of the affiliates through which Aetna International conducts business
operates within guidelines established by the Company. Methods of distributing
products vary by country and product depending on local laws, customs and the
needs of the particular customer segment. Distribution channels include career
agents, independent agents and brokers, financial institutions and direct sales.
Competition varies by country and includes well established local companies, as
well as foreign based companies with a strong international presence.
Page 17
<PAGE> 18
The following table sets forth Aetna International's revenue and operating
earnings or losses by major geographic location (including its share of net
income in minority owned affiliates and excluding Year 2000 costs in 1998 and
net realized capital gains or losses in all three years) and premiums, before
deductions for reinsurance ceded to other companies:
<TABLE>
<CAPTION>
Revenue Operating Earnings
----------------------------------- -------------------------------
(Millions) 1998 1997 1996 1998 1997 1996
- ------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Asia Pacific (1) $ 1,191.6 $ 1,092.6 $ 869.9 $ 65.2 $ 55.7 $ 53.8
Americas (2) 982.5 863.1 742.7 112.9 83.0 59.1
Other (3) 2.4 3.1 11.9 (12.4) (10.0) (7.4)
- ------------------------------------------------------------------------------------------------
$ 2,176.5 $ 1,958.8 $ 1,624.5 $ 165.7 $ 128.7 $ 105.5
================================================================================================
</TABLE>
(1) Includes China, Hong Kong, Indonesia, Malaysia, New Zealand, Philippines,
Taiwan and Thailand.
(2) Includes Argentina, Brazil, Canada, Chile, Mexico, Peru and Venezuela.
(3) Includes general and other miscellaneous expenses.
<TABLE>
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Premiums (included in
revenue above) $ 1,578.5 $ 1,434.1 $ 1,166.1
- --------------------------------------------------------------------------------
</TABLE>
Factors Affecting Forward-Looking Information
For information regarding certain important factors that may materially affect
Aetna International's business, see MD&A - Forward-Looking Information/Risk
Factors, Aetna International - Outlook and financial results discussions in the
Annual Report.
4. Large Case Pensions
Principal Products
Large Case Pensions manages a variety of retirement products (including pension
and annuity products) offered to IRC Section 401 qualified defined benefit and
defined contribution plans. Contracts provide nonguaranteed, partially
guaranteed (experience rated) and fully guaranteed investment options through
general and Separate Account products. The majority of Large Case Pensions'
products that use Separate Accounts provide contractholders with a vehicle for
investments under which the contractholders assume the investment risk as well
as the benefit of favorable performance. Large Case Pensions earns a management
fee on these Separate Accounts.
In 1993, the Company discontinued its fully guaranteed large case pension
products. (For additional information, see MD&A - Large Case Pensions in the
Annual Report.)
Factors Affecting Forward-Looking Information
For information regarding certain important factors that may materially affect
Large Case Pension's business, see MD&A - Forward-Looking Information/Risk
Factors, Large Case Pensions - Outlook and financial results discussions in the
Annual Report.
Page 18
<PAGE> 19
5. General Account Investments
Consistent with the nature of the contract obligations involved in the Company's
health, life, annuity and pension operations, the majority of general account
assets have been invested in intermediate and long-term, fixed-income
obligations such as treasury obligations, mortgage-backed securities, corporate
debt securities and mortgage loans.
For information concerning the valuation of investments, see Notes 1, 5, and 8
of Notes to Consolidated Financial Statements in the Annual Report.
The following table sets forth the distribution of invested assets, cash and
cash equivalents and accrued investment income of the Company's general account
portfolio (excluding Discontinued Operations) as of the end of the years
indicated: (1) (2)
<TABLE>
<CAPTION>
Millions 1998 1997 1996
- -----------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Debt securities:
Bonds:
U.S. government and government agencies and authorities $ 1,998.6 $ 3,928.6 $ 3,773.1
States, municipalities and political subdivisions 550.1 206.6 355.3
U.S. corporate securities:
Utilities 2,578.0 2,505.5 2,420.3
Financial 4,945.9 5,216.8 4,546.5
Transportation/capital goods 2,501.9 2,589.4 2,492.8
Health care/consumer products 2,656.3 1,735.3 1,803.7
Natural resources 1,550.7 1,559.9 1,317.9
Other corporate securities 1,355.8 1,506.2 1,519.8
- -----------------------------------------------------------------------------------------------------
Total U.S. corporate securities 15,588.6 15,113.1 14,101.0
- -----------------------------------------------------------------------------------------------------
Foreign:
Government, including political subdivisions 2,883.8 2,629.8 2,505.4
Utilities 676.6 689.1 790.2
Other 2,868.0 3,830.4 3,513.1
- -----------------------------------------------------------------------------------------------------
Total foreign securities 6,428.4 7,149.3 6,808.7
- -----------------------------------------------------------------------------------------------------
Residential mortgage-backed securities:
Pass-throughs 2,322.7 1,812.5 1,848.4
Collateralized mortgage obligations 2,041.2 2,710.4 2,764.7
- -----------------------------------------------------------------------------------------------------
Total residential mortgage-backed securities 4,363.9 4,522.9 4,613.1
- -----------------------------------------------------------------------------------------------------
Commercial/Multifamily mortgage-backed securities 2,123.2 1,622.0 1,144.3
Other asset-backed securities 971.0 1,635.1 1,464.6
- -----------------------------------------------------------------------------------------------------
Total bonds 32,023.8 34,177.6 32,260.1
Redeemable preferred stocks 157.0 67.4 76.2
- -----------------------------------------------------------------------------------------------------
Total debt securities 32,180.8 34,245.0 32,336.3
- -----------------------------------------------------------------------------------------------------
Equity securities:
Common stocks 566.9 866.4 1,185.3
Nonredeemable preferred stocks 233.6 175.0 147.5
- -----------------------------------------------------------------------------------------------------
Total equity securities 800.5 1,041.4 1,332.8
- -----------------------------------------------------------------------------------------------------
Short-term investments 942.2 1,003.9 723.2
Mortgage loans 3,553.0 4,207.8 6,700.9
Real estate 270.3 369.5 850.2
Policy loans 458.7 746.9 707.3
Other 1,264.5 947.4 835.5
- -----------------------------------------------------------------------------------------------------
Total investments $39,470.0 $42,561.9 $43,486.2
=====================================================================================================
Cash and cash equivalents $ 1,951.5 $ 1,805.8 $ 1,462.6
=====================================================================================================
Accrued investment income $ 537.1 $ 545.8 $ 598.6
=====================================================================================================
</TABLE>
(1) Excludes Separate Accounts.
(2) Includes $7.1 billion in 1998, $7.9 billion in 1997 and $8.7 billion in
1996 of investments supporting discontinued products.
Page 19
<PAGE> 20
The following table summarizes the Company's investment results: (1)
<TABLE>
<CAPTION>
(Dollar amounts in millions)
- ------------------------------------------------------------------------------------------
Net Earned Net Net Realized Change in Net
Investment Investment Capital Unrealized Capital
Income (2) Income Rate (3) Gains (4) Gains and Losses (5)
- ------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
For the year:
1998 $ 3,190.9 7.6% $ 211.8 $ (198.8)
1997 3,377.5 7.7 334.2 (50.7)
1996 3,565.2 8.0 134.4 10.8
- ------------------------------------------------------------------------------------------
</TABLE>
(1) Excludes Separate Accounts, investments in affiliates and Discontinued
Operations.
(2) Net investment income excludes net realized capital gains and losses, as
well as income taxes and includes investment expenses.
(3) The Earned Net Investment Income Rate for any given year is equal to (a)
net investment income divided by (b) the average amount of cash, invested
assets, excluding unrealized gains and losses, and accrued investment
income for the year.
(4) Net realized capital gains exclude income taxes and gains and losses
allocable to experience-rated pension contractholders.
(5) Net unrealized capital gains (losses) exclude federal income taxes and
changes in unrealized capital gains (losses) related to experience-rated
contractholders and discontinued products.
6. Other Matters
a. Regulation
General
The Company's operations are subject to comprehensive regulation throughout the
United States and the foreign jurisdictions in which it does business. The laws
of these jurisdictions establish supervisory agencies, including state health,
insurance and securities departments, with broad authority to grant licenses to
transact business and regulate many aspects of the products and services offered
by the Company, as well as solvency and reserve adequacy. Many agencies also
regulate investment activities on the basis of quality, diversification, and
other quantitative criteria. The Company's operations and accounts are subject
to examination at regular intervals by certain of these regulators.
Health Care
The federal government and the states in which the Company conducts its HMO and
other health operations have adopted laws and regulations that govern the
business activities of the Company to varying degrees. These laws and
regulations may restrict how the Company conducts its businesses and may result
in additional burdens and costs to the Company. Areas of governmental regulation
include licensure, premium rates, benefits, service areas, quality assurance
procedures, plan design, eligibility requirements, provider rates of payment,
surcharges on provider payments, provider contract forms, underwriting,
financial arrangements, financial condition (including reserves) and corporate
governance. These laws and regulations are subject to amendments and changing
interpretations in each jurisdiction.
States generally require HMOs to obtain a certificate of authority prior to
commencing operations. To establish an HMO in any state where it does not
presently operate an HMO, the Company generally has to obtain such a
certificate. The time necessary to obtain such a certificate varies from state
to state. Each HMO must file periodic financial and operating reports with the
states in which it does business. In addition, the HMOs are subject to state
examination and periodic license renewal.
Page 20
<PAGE> 21
The provision of services to certain employee health benefit plans is subject to
the Employee Retirement Income Security Act of 1974 ("ERISA"), a complex set of
laws and regulations subject to interpretation and enforcement by the Internal
Revenue Service and the Department of Labor ("DOL"). ERISA regulates certain
aspects of the relationships between the Company and employers who maintain
employee benefit plans subject to ERISA. Some of the administrative services and
other activities of the Company may also be subject to regulation under ERISA.
In addition, some states require licensure or registration of companies
providing third party claims administration services for benefit plans.
Many legislative and regulatory changes related to health products have recently
been enacted or are being seriously considered by the federal and state
governments. For a discussion of these matters see MD&A - Regulatory Environment
in the Annual Report. For information regarding regulation of pricing by the
Company's HMOs, see "Aetna U.S. Healthcare Health Pricing", on page 9.
Investment and Retirement Products and Services
Operations conducted by ARS and Large Case Pensions are subject to regulation by
various government agencies where the Company conducts business, in particular
the insurance departments of Connecticut and New York. Among other matters,
these agencies may regulate premium rates, trade practices, agent licensing,
policy forms, underwriting and claims practices, the maximum interest rates that
can be charged on life insurance policy loans, and the minimum rates that must
be provided for accumulation of surrender value.
The Securities and Exchange Commission ("SEC"), the National Association of
Securities Dealers ("NASD") and, to a lesser extent, the states regulate the
sales and investment management activities and operations of broker-dealer and
investment advisory subsidiaries of the Company. Regulations of the SEC, DOL and
Internal Revenue Service also impact certain of the Company's pension, annuity,
life insurance and other investment and retirement products. These products
involve Separate Accounts of ALIAC and AICA and mutual funds registered under
the Investment Company Act of 1940.
International
The nature and extent of regulations affecting the Company's international
operations varies by jurisdiction and line of business. Most operations are
subject to local insurance laws. These laws typically regulate the types of
business that can be written, policy forms and terms, currency, permitted
investments, reserves, taxation and other matters affecting the conduct of the
business. International operations are also subject to a variety of additional
investment and other controls that may be imposed by governments. Certain
jurisdictions may require that portions of the business be reinsured through
designated state-affiliated institutions. As a foreign investor, the Company is
also subject to a variety of restrictions regarding permitted levels of equity
ownership, remittance of foreign earnings, repatriation of capital, exchange of
currency, and entry into new lines of business. Regulation of international
operations may also be subject to other political factors not typically
associated with doing business in the United States, such as more rapid change
of regulatory policy, possible nationalization of businesses, hostilities and
unrest.
Page 21
<PAGE> 22
Federal Employee Benefit Regulation
ARS and Large Case Pensions also provide a variety of products and services to
employee benefit plans that are covered by ERISA.
In December 1993, in a case involving an employee benefit plan and an insurance
company, the United States Supreme Court ruled that assets in the insurance
company's general account that were attributable to a portion of a group pension
contract issued to the plan that was not a "guaranteed benefit contract" were
"plan assets" for purposes of ERISA and that the insurance company was an ERISA
fiduciary with respect to those assets. In reaching its decision, the Court
declined to follow a 1975 DOL interpretive bulletin that had suggested that
insurance company general account assets were not plan assets.
The Small Business Job Protection Act (the "Act") was signed into law in 1996.
The Act created a framework for resolving potential issues raised by the Supreme
Court decision. The Act provides that, absent criminal conduct, insurers
generally will not have liability with respect to general account assets held
under contracts that are not guaranteed benefit contracts based on claims that
those assets are plan assets. The relief afforded extends to conduct that
occurred before the date that is eighteen months after the DOL issues final
regulations required by the Act, except as provided in the anti-avoidance
portion of the regulations. The regulations, which were proposed by the DOL on
December 22, 1997, will address ERISA's application to the general account
assets of insurers attributable to contracts issued on or before December 31,
1998 that are not guaranteed benefit contracts. The conference report relating
to the Act states that contracts issued after December 31, 1998 that are not
guaranteed benefit contracts will be subject to ERISA's fiduciary obligations.
The Company is not currently able to predict how these matters may ultimately
affect its businesses.
HMO and Insurance Holding Company Laws
A number of states, including Connecticut, regulate affiliated groups of HMOs
and insurers such as the Company under holding company statutes. These laws may
require these companies to maintain certain levels of equity. For information
regarding restrictions on certain payments of dividends or other distributions
by HMO and insurance company subsidiaries of the Company, see MD&A - Liquidity
and Capital Resources in the Annual Report. Some of these laws also regulate
changes in control (as do Connecticut corporate laws), and other matters such as
transactions with affiliates. See also Note 17 of Notes to Consolidated
Financial Statements in the Annual Report.
Insurance Company Guaranty Fund Assessments
Under insurance guaranty fund laws existing in all states, insurers doing
business in those states can be assessed (up to prescribed limits) for certain
obligations of insolvent insurance companies to policyholders and claimants. The
after-tax charges to earnings for guaranty fund obligations were $3 million as
of December 31, 1998, $5 million as of December 31, 1997 and $4 million as of
December 31, 1996. While the Company has historically recovered more than half
of guaranty fund assessments through statutorily permitted premium tax offsets,
significant increases in assessments could jeopardize future efforts to recover
such assessments. For information regarding certain other potential regulatory
changes relating to the Company's businesses, see MD&A - Regulatory Environment
and Forward-Looking Information/Risk Factors. (See Note 1 of Notes to
Consolidated Financial Statements for future accounting standards related to
guaranty fund assessments.)
Page 22
<PAGE> 23
b. NAIC IRIS Ratios
The NAIC IRIS ratios cover 12 categories of financial data with defined usual
ranges for each category. The ratios are intended to provide insurance
regulators "early warnings" as to when a given company might warrant special
attention. An insurance company may fall out of the usual range for one or more
ratios and such variances may result from specific transactions that are in
themselves immaterial or eliminated at the consolidated level. In 1998, none of
Aetna Inc.'s significant insurance subsidiaries had more than two IRIS ratios
that were outside of the NAIC usual ranges.
Management does not expect that any of the Company's significant subsidiaries
will have more than two IRIS ratios outside of the NAIC usual ranges for 1999.
See MD&A - Liquidity and Capital Resources in the Annual Report for additional
discussion regarding solvency regulation.
c. Ratios of Earnings to Fixed Charges and Earnings to Combined Fixed Charges
and Preferred Stock Dividends
The following table sets forth the Company's and Aetna Services' ratios of
earnings to fixed charges and ratios of earnings to combined fixed charges and
preferred stock dividends for the years indicated:
<TABLE>
<CAPTION>
(Millions)
Aetna Inc. 1998 1997 1996 1995 1994
- ----------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Ratio of Earnings to Fixed Charges 4.96 5.74 2.45 4.97 4.74
Ratio of Earnings to Combined Fixed Charges
and Preferred Stock Dividends 3.94 4.46 2.10 4.97 4.74
</TABLE>
<TABLE>
<CAPTION>
(Millions)
Aetna Services, Inc. 1998 1997 1996
- ---------------------------------------------------------------------------
<S> <C> <C> <C>
Ratio of Earnings to Fixed Charges 4.31 5.78 2.44
Ratio of Earnings to Combined Fixed Charges
and Preferred Stock Dividends 4.31 5.78 2.44
</TABLE>
For purposes of computing both the ratio of earnings to fixed charges and the
ratio of earnings to combined fixed charges and preferred stock dividends,
"earnings" represent consolidated earnings from continuing operations before
income taxes, cumulative effect adjustments and extraordinary items plus fixed
charges and minority interest. "Fixed charges" consist of interest (and the
portion of rental expense deemed representative of the interest factor) and
include the dividends paid to preferred shareholders of a subsidiary. (See Note
15 of Notes to Consolidated Financial Statements in the Annual Report.) During
1994 and 1995, there was no preferred stock outstanding. As a result, the ratios
of earnings to combined fixed charges and preferred stock dividends were the
same as the ratios of earnings to fixed charges.
d. Trademarks
The trademarks Aetna (Registered Trademark), Aetna U.S. Healthcare (Registered
Trademark), U.S. Healthcare (Registered Trademark), and Aetna Retirement
Services (Registered Trademark), together with the corresponding design logos
are owned by the Company. The Company considers these trademarks and its other
trademarks and trade names important in the operation of its business. However,
the business of the Company is not dependent on any individual trademark or
trade name.
Page 23
<PAGE> 24
e. Ratings
The ratings of certain of Aetna Inc.'s subsidiaries follow:
<TABLE>
<CAPTION>
Rating Agencies
---------------------------------------------------
Moody's
Duff & Investors Standard
A.M. Best Phelps Service & Poor's
---------------------------------------------------
<S> <C> <C> <C> <C>
Aetna Services, Inc. (senior debt)**
November 3, 1998 * A A3 A
February 1, 1999 (1) * A A3 A
Aetna Services, Inc. (commercial paper)**
November 3, 1998 * D-1 P-2 A-1
February 1, 1999 (1) * D-1 P-2 A-1
Aetna Life Insurance Company (claims paying)
November 3, 1998 A AA- A1 A+
February 1, 1999 (1) A AA- A1 A+
Aetna Life Insurance and Annuity Company (claims paying)
November 3, 1998 A AA Aa3 AA-
February 1, 1999 (1) A AA Aa3 AA-
</TABLE>
* Nonrated by the agency.
** Fully and unconditionally guaranteed by Aetna Inc.
(1) These ratings are currently under review by certain rating agencies
pending completion of their analysis of the pending Prudential health care
acquisition. Duff and Phelps Credit Rating Company has the debt ratings of
Aetna on credit watch negative. Standard and Poor's has the debt and
claims paying ratings on credit watch negative. Moody's Investors Service
has the debt and claims paying ratings on outlook negative.
f. Miscellaneous
The Company had approximately 33,500 domestic employees at December 31, 1998. In
addition, the Company had approximately 7,600 international employees at
December 31, 1998 in its majority and wholly owned non-U.S. subsidiaries.
Management believes that the Company's computer facilities, systems and related
procedures are adequate to meet its business needs. The Company's data
processing systems and backup and security policies, practices and procedures
are regularly evaluated by the Company's management and its internal auditors
and are modified as considered necessary. See MD&A for information regarding the
Company's efforts to prepare its systems, applications and facilities to
accommodate Year 2000 date-sensitive information.
The federal government is a significant customer of the Aetna U.S. Healthcare
segment and the Company, accounting for approximately 15% of the Company's
consolidated revenue in 1998. No other customer accounted for 10% or more of the
Company's consolidated revenues in 1998. No other segment of the Company's
business is dependent upon a single customer or a few customers, the loss of
which would have a significant effect on the earnings of the segment. See Notes
18, 19 and 20 of Notes to Consolidated Financial Statements in the Annual Report
regarding segment information.
The loss of business from any one, or a few, independent brokers or agents would
not have a material adverse effect on the earnings of the Company or any of its
segments.
Page 24
<PAGE> 25
Item 2. Properties.
The home office of the Company is a building complex located at 151 Farmington
Avenue, Hartford, Connecticut, with approximately 1.6 million square feet. The
Company and certain of its subsidiaries also own or lease other space in the
greater Hartford area, Blue Bell, Pennsylvania and Fairfield, New Jersey, as
well as various field locations throughout the country. The Company believes its
properties are adequate and suitable for its business as presently conducted.
The foregoing does not include numerous investment properties held by the
Company in its general and Separate Accounts.
Item 3. Legal Proceedings.
Purported Class Action Complaints were filed in the United States District Court
for the Eastern District of Pennsylvania on November 5, 1997 by Eileen
Herskowitz and Michael Wolin, and on December 4, 1997 by Pamela Goodman and
Michael J. Oring. Other purported Class Action Complaints were filed in the
United States District Court for the District of Connecticut on November 25,
1997 by Evelyn Silvert, on November 26, 1997 by the Rainbow Fund, Inc., and on
December 24, 1997 by Terry B. Cohen. The Connecticut actions were transferred to
the United States District Court for the Eastern District of Pennsylvania (the
"Court") for consolidated pretrial proceedings with the cases pending there. The
plaintiffs filed a Consolidated and Amended Complaint (the "Complaint") seeking,
among other remedies, unspecified damages resulting from defendants' alleged
violations of federal securities laws. The Complaint alleged that the Company
and three of its current or former officers or directors, Ronald E. Compton,
Richard L. Huber, and Leonard Abramson, are liable for certain
misrepresentations and omissions regarding, among other matters, the integration
of the merger with U.S. Healthcare and the Company's medical claim reserves. The
Company and the individual defendants filed a motion to dismiss the Complaint on
July 31, 1998. On February 2, 1999, the Court dismissed the Complaint, but
granted the plaintiffs leave to file a second amended complaint. On February 22,
1999, the plaintiffs filed a second amended complaint against the Company,
Ronald E. Compton and Richard L. Huber. The litigation is still in the
preliminary stages, and the Company is defending the actions vigorously.
The Company is also involved in numerous other lawsuits arising, for the most
part, in the ordinary course of its business operations, including bad faith,
medical malpractice and other litigation in its health business. Aetna U.S.
Healthcare of California, Inc., an indirect subsidiary of the Company, is
currently a party to such an action brought by Teresa Goodrich, individually and
as successor in interest of David Goodrich. The action was originally filed in
March 1996 in Superior Court for the state of California, county of San
Bernardino. The action alleges damages for unpaid medical bills, punitive
damages and compensatory damages for wrongful death based upon alleged denial of
claims for services provided to David Goodrich by out of network providers
without prior authorization. On January 20, 1999 a jury rendered a verdict in
favor of the plaintiff for $750,000 for unpaid medical bills, $3.7 million for
wrongful death and $116 million for punitive damages. Aetna U.S. Healthcare of
California, Inc. intends to appeal the verdict and will continue to vigorously
defend this matter. While the ultimate outcome of these other lawsuits cannot be
determined at this time, after consideration of the defenses available to the
Company and any related reserves established, they are not 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 4. Submission of Matters to a Vote of Security Holders.
None.
Page 25
<PAGE> 26
EXECUTIVE OFFICERS OF AETNA INC.*
The Chairman of the Company is elected and all other executive officers listed
below are appointed by the Board of Directors of the Company at its Annual
Meeting each year to hold office until the next Annual Meeting of the Board or
until their successors are elected or appointed. None of these officers have
family relationships with any other executive officer or Director.
<TABLE>
<CAPTION>
Business Experience
Name of Officer Principal Position Age * During Past Five Years *
- --------------- ------------------ --- ----------------------
<S> <C> <C> <C>
Richard L. Huber Chairman, Chief Executive 62 (1)
Officer and President
Michael J. Cardillo Executive Vice President,
Aetna U.S. Healthcare 55 (2)
Frederick C. Copeland, Jr. Executive Vice President,
International 57 (3)
Timothy A. Holt Senior Vice President,
Aetna Investment Management 45 (4)
Group
Thomas J. McInerney Executive Vice President,
Aetna Retirement Services 42 (5)
Alan J. Weber Vice Chairman for Strategy
and Finance 49 (6)
</TABLE>
* As of February 26, 1999.
Page 26
<PAGE> 27
(1) Mr. Huber was named Chairman on March 1, 1998 and Chief Executive Officer
and President on July 28, 1997. He had served as Vice Chairman for
Strategy and Finance since February 1995. He served as President and Chief
Operating Officer of Grupo Wasserstein Perella from September 1994 to
February 1995 and as Vice Chairman of Continental Bank from 1990 to
September 1994.
(2) Mr. Cardillo has served in his current position since July 19, 1996. He
also serves as President of Aetna U.S. Healthcare Inc. a position he
assumed in March 1997 after serving as Co-President since July 19, 1996.
Mr. Cardillo had been Co-President of U.S. Healthcare, Inc. since 1995 and
Principal Marketing Officer since 1989.
(3) Mr. Copeland assumed his current position on July 19, 1996. He also serves
as President and Chief Executive Officer of Aetna International, Inc., a
position he assumed in April 1996, after having served as President of
Aetna International since July 1995. From January 1993 to July 1995, he
served as Chairman, President and Chief Executive Officer of Fleet Bank,
N.A., Connecticut. From September 1987 to January 1993, he served as
President and Chief Executive Officer of Citibank Canada.
(4) Mr. Holt assumed his current position on January 29, 1999, having served
as Vice President, Aetna Investment Management Group since September 1997.
From 1996 to September 1997, he served as Vice President and Chief
Financial Officer of Aetna Retirement Services. He served as Vice
President, Portfolio Management Group, from 1992 to 1996.
(5) Mr. McInerney assumed his current position on August 18, 1997, having
served as Vice President, Strategic Planning, since March 1997. He also
currently serves as President, Aetna Retirement Services, Inc. From 1996
to 1997, he served as Vice President, National Accounts, for Aetna Health
Plans and then as Vice President, National Accounts and Sales and
Marketing, for the successor business, Aetna U.S. Healthcare. During 1995
and 1996, he also served as Vice President, Corporate Strategy. From 1992
to 1996, Mr. McInerney served as Vice President, Large Case Pensions.
(6) Mr. Weber assumed his current position on August 1, 1998. From July 1994
to July 1998 Mr. Weber served as Chairman of Citibank International and
from October 1988 to July 1994, he served as Executive Vice President,
Financial Institutions and Transaction Services, of Citibank, N.A.
Page 27
<PAGE> 28
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters.
Aetna Inc.'s common stock is listed on the New York Stock Exchange. Its symbol
is AET. As of January 31, 1999, there were 19,221 record holders of the common
stock.
The dividends declared and the high and low sales prices with respect to the
Company's common stock for each quarterly period for the past two years are
incorporated herein by reference from "Quarterly Data" in the Annual Report.
Information regarding restrictions on the Company's present and future ability
to pay dividends is incorporated herein by reference from Note 17 of Notes to
Consolidated Financial Statements and MD&A - Liquidity and Capital Resources in
the Annual Report.
Item 6. Selected Financial Data.
The information contained in "Selected Financial Data" in the Annual Report is
incorporated herein by reference.
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
The information contained in "Management's Discussion and Analysis of Financial
Condition and Results of Operations" in the Annual Report is incorporated herein
by reference.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
The information contained in "Management's Discussion and Analysis of Financial
Condition and Results of Operations-General Account Investments" in the Annual
Report is incorporated herein by reference.
Item 8. Consolidated Financial Statements and Supplementary Data.
The 1998 Consolidated Financial Statements and the report of the registrant's
independent auditors and the unaudited information set forth under the caption
"Quarterly Data" are incorporated herein by reference to the Annual Report.
Item 9. Changes in and disagreements with Accountants on Accounting and
Financial Disclosure.
None.
Page 28
<PAGE> 29
PART III
Item 10. Directors and Executive Officers of the Registrant.
Information concerning Executive Officers is included in Part I pursuant to
General Instruction G to Form 10-K.
Information concerning Directors and concerning compliance with Section 16 (a)
of the Securities Exchange Act of 1934 is incorporated herein by reference to
the Proxy Statement.
Item 11. Executive Compensation.
The information under the captions "Director Compensation in 1998" and
"Executive Compensation" in the Proxy Statement is incorporated herein by
reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management.
The information under the caption "Security Ownership of Certain Beneficial
Owners, Directors, Nominees and Executive Officers" in the Proxy Statement is
incorporated herein by reference.
Item 13. Certain Relationships and Related Transactions.
The information under the caption "Certain Transactions and Relationships" in
the Proxy Statement is incorporated herein by reference.
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K.*
(a) The following documents are filed as part of this report:
1. Financial statements:
The Consolidated Financial Statements and the report of the registrant's
independent auditors are incorporated herein by reference to the Annual Report.
2. Financial statement schedules:
The supporting schedules of the consolidated entity are included in this Item
14. See Index to Financial Statement Schedules on page 37.
3. Exhibits: *
(3) Articles of Incorporation and By-Laws.
Aetna Inc. Amended and Restated Certificate of Incorporation, incorporated
herein by reference to the Company's Registration Statement on Form S-4 (File
No. 333-5791) filed on June 12, 1996.
Aetna Inc. Bylaws, as amended, incorporated herein by reference to the Company's
Form 10-K filed on February 28, 1997.
Page 29
<PAGE> 30
PART IV (Continued)
3. Exhibits: * (Continued)
(4) Instruments defining the rights of security holders, including indentures.
Senior Indenture, dated July 1, 1996, between the Company, Aetna Services, Inc.
(formerly Aetna Life and Casualty Company), and State Street Bank and Trust
Company of Connecticut, National Association, as Trustee, incorporated herein
reference to the Company's Form 10-Q filed on October 25, 1996.
Form of Subordinated Indenture, dated as of July 1, 1996, among the Company,
Aetna Services, Inc., and State Street Bank and Trust Company of Connecticut,
National Association, as Trustee (including the forms of Subordinated Debt
Securities and Subordinated Debt Guarantees), incorporated herein by reference
to the Company's and Aetna Services, Inc.'s Amendment No. 1 to its Registration
Statement on Form S-3 (File Nos. 333-52321; 333-52321-01; 333-52321-02;
333-52321-03; 333-52321-04; 333-52321-05) filed on June 19, 1998.
Form of Junior Subordinated Indenture among the Company, Aetna Services, Inc.,
and The First National Bank of Chicago, as Trustee, incorporated herein by
reference to the Company's and Aetna Services, Inc.'s Amendment No. 1 to its
Registration Statement on Form S-3 (File Nos. 333-52321; 333-52321-01;
333-52321-02; 333-52321-03; 333-52321-04; 333-52321-05) filed on June 19, 1998.
Form of Supplemental Indenture to be used in connection with the issuance of
Junior Subordinated Debt Securities and Preferred Securities (including the
forms of the Junior Subordinated Debt Securities and Junior Subordinated Debt
Guarantees), incorporated herein by reference to the Company's and Aetna
Services, Inc.'s Amendment No. 1 to its Registration Statement on Form S-3 (File
Nos. 333-52321; 333-52321-01; 333-52321-02; 333-52321-03; 333-52321-04;
333-52321-05) filed on June 19, 1998.
Declaration of Trust of Aetna Capital Trust I, incorporated herein by reference
to the Company's and Aetna Services, Inc.'s Registration Statement on Form S-3
(File Nos. 333-52321; 333-52321-01; 333-52321-02; 333-52321-03; 333-52321-04;
333-52321-05) filed on May 11, 1998.
Declaration of Trust of Aetna Capital Trust II, incorporated herein by reference
to the Company's and Aetna Services, Inc.'s Registration Statement on Form S-3
(File Nos. 333-52321; 333-52321-01; 333-52321-02; 333-52321-03; 333-52321-04;
333-52321-05) filed on May 11, 1998.
Declaration of Trust of Aetna Capital Trust III, incorporated herein by
reference to the Company's and Aetna Services, Inc.'s Registration Statement on
Form S-3 (File Nos. 333-52321; 333-52321-01; 333-52321-02; 333-52321-03;
333-52321-04; 333-52321-05) filed on May 11, 1998.
Declaration of Trust of Aetna Capital Trust IV, incorporated herein by reference
to the Company's and Aetna Services, Inc.'s Registration Statement on Form S-3
(File Nos. 333-52321; 333-52321-01; 333-52321-02; 333-52321-03; 333-52321-04;
333-52321-05) filed on May 11, 1998.
Certificate of Trust of Aetna Capital Trust I, incorporated herein by reference
to the Company's and Aetna Services, Inc.'s Registration Statement on Form S-3
(File Nos. 333-52321; 333-52321-01; 333-52321-02; 333-52321-03; 333-52321-04;
333-52321-05) filed on May 11, 1998.
Certificate of Trust of Aetna Capital Trust II, incorporated herein by reference
to the Company's and Aetna Services, Inc.'s Registration Statement on Form S-3
(File Nos. 333-52321; 333-52321-01; 333-52321-02; 333-52321-03; 333-52321-04;
333-52321-05) filed on May 11, 1998.
Page 30
<PAGE> 31
PART IV (Continued)
3. Exhibits: * (Continued)
Certificate of Trust of Aetna Capital Trust III, incorporated herein by
reference to the Company's and Aetna Services, Inc.'s Registration Statement on
Form S-3 (File Nos. 333-52321; 333-52321-01; 333-52321-02; 333-52321-03;
333-52321-04; 333-52321-05) filed on May 11, 1998.
Certificate of Trust of Aetna Capital Trust IV, incorporated herein by reference
to the Company's and Aetna Services, Inc.'s Registration Statement on Form S-3
(File Nos. 333-52321; 333-52321-01; 333-52321-02; 333-52321-03; 333-52321-04;
333-52321-05) filed on May 11, 1998.
Form of Amended and Restated Declaration of Trust for each of Aetna Capital
Trust I, II, III, and IV (including the form of Preferred Securities),
incorporated herein by reference to the Company's and Aetna Services, Inc.'s
Amendment No. 1 to its Registration Statement on Form S-3 (File Nos. 333-52321;
333-52321-01; 333-52321-02; 333-52321-03; 333-52321-04; 333-52321-05) filed on
June 19, 1998.
Form of Guarantee Agreement among the Company, Aetna Services, Inc., and The
First National Bank of Chicago, as Trustee, with respect to each of Aetna
Capital Trust I, II, III and IV's Preferred Securities, incorporated herein by
reference to the Company's and Aetna Services, Inc.'s Amendment No. 1 to its
Registration Statement on Form S-3 (File Nos. 333-52321; 333-52321-01;
333-52321-02; 333-52321-03; 333-52321-04; 333-52321-05) filed on June 19, 1998.
Designations, Rights and Preferences of Class B Voting Preferred Stock; Class B
Voting Preferred Stock, Series A; and 6.25% Class C Voting Preferred Stock;
incorporated herein by reference to Exhibit 4.1 to the Company's Form 8-K filed
on July 26, 1996.
Aetna Inc. Rights Agreement, incorporated herein by reference to the Company's
Form 8-K filed on July 26, 1996.
Indenture, dated as of October 15, 1986, between Aetna Services, Inc. (formerly
Aetna Life and Casualty Company) and The First National Bank of Boston, Trustee.
First Indenture Supplement, dated as of August 1, 1996, to Indenture, dated as
of October 15, 1986, between Aetna Services, Inc. and State Street Bank and
Trust Company, as Successor Trustee, incorporated herein by reference to the
Company's Form 10-Q filed on October 25, 1996.
Indenture, dated as of August 1, 1993, between Aetna Services, Inc. and State
Street Bank and Trust Company of Connecticut, National Association, as Trustee,
incorporated herein by reference to Aetna Services, Inc.'s Registration
Statement on Form S-3 (File No. 33-50427).
First Indenture Supplement, dated as of August 1, 1996, to the Indenture dated
as of August 1, 1993 between Aetna Services, Inc. and State Street Bank and
Trust Company of Connecticut, National Association, as Trustee, incorporated
herein by reference to the Company's Form 10-Q filed on October 25, 1996.
Written Action, dated as of November 15, 1994, establishing the terms of Series
A Preferred Securities of Aetna Capital L.L.C., incorporated herein by reference
to Aetna Services, Inc.'s Form 8-K filed on November 22, 1994.
Subordinated Indenture, dated as of November 1, 1994, between Aetna Services,
Inc. and The First National Bank of Chicago, as Trustee, incorporated herein by
reference to Aetna Services, Inc.'s Form 8-K filed on November 22, 1994.
Page 31
<PAGE> 32
PART IV (Continued)
3. Exhibits: * (Continued)
First Indenture Supplement, dated as of August 1, 1996, to the Indenture, dated
as of November 1, 1994, between Aetna Services, Inc. and The First National Bank
of Chicago, as Trustee, incorporated herein by reference to the Company's Form
10-Q filed on October 25, 1996.
Payment and Guarantee Agreement, dated November 22, 1994, of Aetna Services,
Inc. with respect to Aetna Capital L.L.C., incorporated herein by reference to
Aetna Services, Inc.'s Form 8-K filed on November 22, 1994.
Payment and Guarantee Agreement, dated as of August 1, 1996, of Aetna Inc. with
respect to Aetna Capital L.L.C., incorporated herein by reference to the
Company's Form 10-Q filed on October 25, 1996.
Amendment No. 1, dated as of August 1, 1996, to the Fiscal Agency Agreement,
dated as of July 17, 1986, between Aetna Services, Inc. and State Street Bank
and Trust Company, as successor Fiscal Agent, incorporated herein by reference
to the Company's Form 10-Q filed on October 25, 1996.
(10) Material contracts.
Employment Agreement, dated as of March 30, 1996, by and between U.S.
Healthcare, Inc. and Michael Cardillo, incorporated herein by reference to the
Company's Form 10-Q filed on October 25, 1996.**
Stock Purchase Agreement, dated as of November 28, 1995, between The Travelers
Insurance Group Inc. and Aetna Services, Inc. relating to the purchase and sale
of 100% of the Common Stock of The Aetna Casualty and Surety Company and The
Standard Fire Insurance Company, incorporated herein by reference to Aetna
Services, Inc.'s 1995 Form 10-K.
Letter Agreement, dated as of January 19, 1995, between Aetna Services, Inc. and
Richard L. Huber, incorporated herein by reference to Aetna Services, Inc.'s
1995 Form 10-K.**
Employment Agreement, dated as of December 19, 1995, between Aetna Services,
Inc. and Daniel P. Kearney, incorporated herein by reference to Aetna Services,
Inc.'s 1995 Form 10-K.**
Letter Agreement, dated as of January 31, 1996, between Aetna Services, Inc. and
The Travelers Insurance Group Inc., incorporated herein by reference to Aetna
Services, Inc.'s Form 10-Q filed on April 26, 1996.
Amendment, dated as of April 2, 1996, to Stock Purchase Agreement, dated as of
November 28, 1995, between Aetna Services, Inc. and The Travelers Insurance
Group Inc., incorporated herein by reference to Aetna Services, Inc.'s Form 10-Q
filed on April 26, 1996.
Registration Rights Agreement, dated as of March 30, 1996, between the Company
and Leonard Abramson, incorporated herein by reference to Aetna Services, Inc.'s
Form 10-Q filed on April 26, 1996.
Amendment No. 1, dated as of May 30, 1996, to the Registration Rights Agreement,
dated as of March 30, 1996, between the Company and Leonard Abramson,
incorporated herein by reference to the Company's Registration Statement on Form
S-4 (Registration No. 333-5791) filed on June 12, 1996.
Amended and Restated Agreement, dated as of May 30, 1996, between the Company
and Leonard Abramson, incorporated herein by reference to the Company's
Registration Statement on Form S-4 (Registration No. 333-5791) filed on June 12,
1996.
Page 32
<PAGE> 33
PART IV (Continued)
3. Exhibits: * (Continued)
The Aetna Inc. 1996 Stock Incentive Plan, incorporated herein by reference to
the Company's Registration Statement on Form S-4 (Registration No. 333-5791)
filed on June 12, 1996.**
The Aetna Inc. Annual Incentive Plan, incorporated herein by reference to the
Company's Registration Statement on Form S-4 (Registration No. 333-5791) filed
on June 12, 1996.**
The Aetna Inc. Non-Employee Director Deferred Stock and Deferred Compensation
Plan, as amended, incorporated herein by reference to Company's Form 10-K filed
on February 28, 1997.**
The Supplemental Pension Benefit Plan for Certain Employees of Aetna Services,
Inc., incorporated herein by reference to the Company's Form 10-Q filed on
October 25, 1996.**
Amendment No. 1, dated March 1, 1996 to Letter Agreement, dated January 19,
1995, between Aetna Services, Inc. and Richard L. Huber, incorporated herein by
reference to the Company's Registration Statement on Form S-4 (Registration No.
333-5791) filed on June 12, 1996.**
Amended and Restated U.S. Healthcare, Inc. Savings Plan, incorporated herein by
reference to U.S. Healthcare, Inc.'s 1995 Form 10-K filed on March 25, 1996.**
Amended and Restated Pension Plan for Employees of U.S. Healthcare, Inc.,
incorporated herein by reference to U.S. Healthcare, Inc.'s 1995 Form 10-K filed
on March 25, 1996.**
Split Dollar Insurance Agreement, dated as of February 1, 1990, among Madlyn K.
Abramson, Marcy A. Shoemaker (formerly Marcy Abramson), Nancy Wolfson, Judith
Abramson and David B. Soll, and U.S. Healthcare, Inc., and the related
Collateral Assignment Agreement, dated as of February 1, 1990, among Madlyn K.
Abramson, Marcy A. Shoemaker (formerly Marcy Abramson), Nancy Wolfson, Judith
Abramson and David B. Soll, and U.S. Healthcare, Inc., incorporated herein by
reference to U.S. Healthcare, Inc.'s 1995 Form 10-K filed on March 25, 1996.
Split Dollar Insurance Agreement, dated as of January 21, 1991, among Marcy A.
Shoemaker (formerly Marcy Abramson), Nancy Wolfson, Judith Abramson, David B.
Soll, Jerome Goodman and Edward M. Glickman, and U.S. Healthcare, Inc., and the
related Collateral Assignment Agreement, dated as of January 21, 1991, among
Marcy A. Shoemaker (formerly Marcy Abramson), Nancy Wolfson, Judith Abramson,
David B. Soll, Jerome Goodman and Edward M. Glickman, and U.S. Healthcare, Inc.,
incorporated herein by reference to U.S. Healthcare, Inc.'s 1995 Form 10-K filed
on March 25, 1996.
Description of Deferred Compensation Plan, incorporated herein by reference to
U.S. Healthcare, Inc.'s 1995 Form 10-K filed on March 25, 1996.**
Voting Agreement, dated as of March 30, 1996, among Leonard Abramson, Aetna Life
Insurance Company and Aetna Life Insurance and Annuity Company, incorporated
herein by reference to Aetna Services, Inc.'s Form 10-Q filed on April 26, 1996.
Agreement and Plan of Merger, dated as of March 30, 1996, among Aetna Services,
Inc., U.S. Healthcare, Inc., the Company, Antelope Sub, Inc. and New Merger
Corporation, incorporated herein by reference to Aetna Services, Inc.'s Form
10-Q filed on April 26, 1996.
Page 33
<PAGE> 34
PART IV (Continued)
3. Exhibits: * (Continued)
Amendment No. 1, dated as of May 30, 1996, to the Agreement and Plan of Merger,
dated as of March 30, 1996, among Aetna Services, Inc., U.S. Healthcare, Inc.,
the Company, Antelope Sub. Inc. and New Merger Corporation, incorporated herein
by reference to the Company's Registration Statement on Form S-4 (Registration
No. 333-5791) filed on June 12, 1996.
Aetna Services, Inc. Credit Facility, incorporated herein by reference to Aetna
Services, Inc.'s Form 8-K filed on July 16, 1996.
Notification from Aetna Services, Inc. dated October 22, 1996 electing to reduce
Credit Facility to $1.5 billion, incorporated herein by reference to the
Company's Form 10-K filed on February 28, 1997.
Amendment, dated as of September 4, 1997, to the Amended and Restated Agreement,
dated as of May 30, 1996, between the Company and Leonard Abramson, incorporated
herein by reference to the Company's Form 10-Q filed on November 4, 1997.
Amendment, dated as of September 8, 1997, to Employment Agreement, as of
December 19, 1995, between Aetna Services, Inc. and Daniel P. Kearney,
incorporated herein by reference to the Company's Form 10-Q filed on November 4,
1997.**
Amendment No. 1, dated as of December 31, 1996, to the Supplemental Pension
Benefit Plan for Certain Employees of Aetna Services, Inc., incorporated herein
by reference to the Company's Form 10-Q filed on May 6, 1997.**
Amendment No. 2, dated as of February 28, 1997, to the Supplemental Pension
Benefit Plan for Certain Employees of Aetna Services, Inc., incorporated herein
by reference to the Company's Form 10-Q filed on May 6, 1997.**
Employment Agreement, dated as of March 6, 1997, by and between the Company and
Joseph Sebastianelli, incorporated herein by reference to the Company's Form
10-Q filed on May 6, 1997.**
Amendment dated as of April 9, 1997, to the Amended and Restated Agreement,
dated as of May 10, 996, between the Company and Leonard Abramson, incorporated
herein by reference to the Company's Form 10-Q filed on May 6, 1997.
Amendment dated as of July 22, 1996, to Letter Agreement, dated as of January
19, 1995, between the Company and Richard L. Huber incorporated herein by
reference to the Company's Form 10-Q filed on May 6, 1997.**
Amendment dated as of July 22, 1996, to Employment Agreement, dated as of
January 19, 1995, between the Company and Ronald E. Compton, incorporated herein
by reference to the Company's Form 10-Q filed on May 6, 1997.**
Amendment dated as of July 22, 1996, to Employment Agreement, dated as of
December 19, 1995, between Aetna Services, Inc. and Daniel P. Kearney,
incorporated herein by reference to the Company's Form 10-Q filed on May 6,
1997.**
Page 34
<PAGE> 35
PART IV (Continued)
3. Exhibits: * (Continued)
Employment Agreement, dated as of December 21, 1995, by and between Aetna
Services, Inc. and Frederick C. Copeland, Jr., as amended, incorporated herein
by reference to the Company's Form 10-K filed on March 3, 1998.**
Employment Agreement, dated as of December 21, 1995, by and between Aetna
Services, Inc. and Thomas McInerney, as amended, incorporated herein by
reference to the Company's Form 10-K filed on March 3, 1998.**
Description of certain arrangements not embodied in formal documents, as
described under the headings "Director Compensation" and "Executive
Compensation", are incorporated herein by reference to the Company's 1999
Proxy Statement.
Assignment dated June 29, 1998 of Credit Agreement dated as of June 28, 1996,
incorporated herein by reference to the Company's Form 10-Q filed on August 8,
1998.
The Aetna Inc. 1998 Stock Incentive Plan, incorporated herein by reference to
the Company's Registration Statement on Form S-8 (Registration No. 333-68881)
filed on December 14, 1998.
(11) Statement re: computation of per share earnings.
Incorporated herein by reference to Note 2 of Notes to Consolidated Financial
Statements in the Annual Report.
(12) Statement re: computation of ratios.
Statement re: computation of ratio of earnings to fixed charges for the Company
for the years ended December 31, 1998, 1997, 1996, 1995 and 1994 and Aetna
Services for the years ended December 31, 1998, 1997 and 1996.
Statement re: computation of ratio of earnings to combined fixed charges and
preferred stock dividends for the Company for the years ended December 31, 1998,
1997, 1996, 1995 and 1994 and Aetna Services for the years ended December 31,
1998, 1997 and 1996.
(13) Annual Report to security holders.
Selected Financial Data, Management's Discussion and Analysis of Financial
Condition and Results of Operations, Consolidated Financial Statements and the
report of the Company's independent auditors, and unaudited Quarterly Data are
incorporated herein by reference to the Annual Report.
(21) Subsidiaries of the registrant.
A listing of subsidiaries of Aetna Inc.
(23) Consents of experts and counsel.
Consent of Independent Auditors to Incorporation by Reference in the
Registration Statements on Form S-3 and Form S-8.
(24) Powers of attorney.
(27) Financial data schedule.
Page 35
<PAGE> 36
PART IV (Continued)
3. Exhibits: * (Continued)
(b) Reports on Form 8-K
The Company filed a report on Form 8-K on November 18, 1998 relating to the
Underwriting Agreement and Pricing Agreement for the Puttable Reset Securities
(PURS) issued by the Company. The Company also filed a report on Form 8-K on
December 9, 1998 related to the Prudential health care acquisition.
* Exhibits other than those listed are omitted because they are not required
or are not applicable. Copies of exhibits are available without charge by
writing to the Office of the Corporate Secretary, Aetna Inc., 151
Farmington Avenue, Hartford, Connecticut 06156.
** Management contract or compensatory plan or arrangement.
Page 36
<PAGE> 37
INDEX TO FINANCIAL STATEMENT SCHEDULES
AETNA INC.
Page
----
Independent Auditors' Report 38
I Summary of Investments - Other than Investments in Affiliates as of
December 31, 1998 39
II Condensed Financial Information of the Registrant:
Balance sheet of Aetna Inc. as of December 31, 1998 and
1997 and the related statements of income, shareholders'
equity and cash flows for the years ended December 31, 1998,
1997 and 1996. 40
III Supplementary Insurance Information as of and for the years ended
December 31, 1998, 1997 and 1996. 46
IV Reinsurance 49
V Valuation and Qualifying Accounts and Reserves for the years ended
December 31, 1998, 1997 and 1996 50
Certain of the required information is shown in the Consolidated Financial
Statements or Notes thereto in the Annual Report. Certain information has been
omitted from the schedules filed because the information is not applicable.
Certain reclassifications have been made to the 1997 and 1996 financial
information to conform to the 1998 presentation.
Page 37
<PAGE> 38
INDEPENDENT AUDITORS' REPORT
The Shareholders and Board of Directors
Aetna Inc.:
Under date of February 3, 1999, we reported on the consolidated balance sheets
of Aetna Inc. and Subsidiaries as of December 31, 1998 and 1997, and the related
consolidated statements of income, shareholders' equity, and cash flows for each
of the years in the three-year period ended December 31, 1998, as contained in
the 1998 annual report to shareholders. These consolidated financial statements
and our report thereon are incorporated by reference in the annual report on
Form 10-K for the year 1998. In connection with our audits of the aforementioned
consolidated financial statements, we also have audited the related financial
statement schedules as listed in the accompanying index. These financial
statement schedules are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statement schedules
based on our audits.
In our opinion, such financial statement schedules, when considered in relation
to the basic consolidated financial statements taken as a whole, present fairly,
in all material respects, the information set forth therein.
/s/ KPMG LLP
Hartford, Connecticut
February 3, 1999
Page 38
<PAGE> 39
AETNA INC. AND SUBSIDIARIES
SCHEDULE I
Summary of Investments - Other than Investments in Affiliates
As of December 31, 1998
<TABLE>
<CAPTION>
Amount
at which
shown in the
(Millions) Cost Value* balance sheet
- -------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Debt securities:
Bonds:
U.S. government and government agencies and authorities $ 1,863.8 $ 1,998.6 $ 1,998.6
States, municipalities and political subdivisions 531.8 550.1 550.1
U.S. corporate securities:
Utilities 2,454.8 2,578.0 2,578.0
Financial 4,739.1 4,945.9 4,945.9
Transportation/capital goods 2,313.7 2,501.9 2,501.9
Health care/consumer products 2,495.2 2,656.3 2,656.3
Natural resources 1,494.3 1,550.7 1,550.7
Other corporate securities 1,314.5 1,355.8 1,355.8
- -------------------------------------------------------------------------------------------------------
Total U.S. corporate securities 14,811.6 15,588.6 15,588.6
- -------------------------------------------------------------------------------------------------------
Foreign:
Government, including political subdivisions 2,722.6 2,883.8 2,883.8
Utilities 589.8 676.6 676.6
Other 2,802.2 2,868.0 2,868.0
- -------------------------------------------------------------------------------------------------------
Total foreign securities 6,114.6 6,428.4 6,428.4
- -------------------------------------------------------------------------------------------------------
Residential mortgage-backed securities:
Pass-throughs 2,248.8 2,322.7 2,322.7
Collateralized mortgage obligations 1,929.2 2,041.2 2,041.2
- -------------------------------------------------------------------------------------------------------
Total residential mortgage-backed securities 4,178.0 4,363.9 4,363.9
- -------------------------------------------------------------------------------------------------------
Commercial/Multifamily mortgage-backed securities 2,121.8 2,123.2 2,123.2
Other asset-backed securities 954.9 971.0 971.0
- -------------------------------------------------------------------------------------------------------
Total bonds 30,576.5 32,023.8 32,023.8
Redeemable preferred stocks 153.6 157.0 157.0
- -------------------------------------------------------------------------------------------------------
Total debt securities $30,730.1 $32,180.8 $32,180.8
=======================================================================================================
Equity securities:
Common stocks:
Public utilities $ 16.3 $ 20.4 $ 20.4
Banks, trust and insurance companies 16.5 19.5 19.5
Industrial, miscellaneous and all other 500.3 527.0 527.0
- -------------------------------------------------------------------------------------------------------
Total common stocks 533.1 566.9 566.9
Nonredeemable preferred stocks 229.5 233.6 233.6
- -------------------------------------------------------------------------------------------------------
Total equity securities $ 762.6 $ 800.5 $ 800.5
=======================================================================================================
Short-term investments $ 942.2 $ 942.2
Mortgage loans 3,553.0 3,553.0
Real estate 270.3 270.3
Policy loans 458.7 458.7
Other 771.4(1) 1,264.5(2)
- -------------------------------------------------------------------------------------------------------
Total investments $37,488.3 $39,470.0
=======================================================================================================
</TABLE>
* See Notes 1 and 5 of Notes to Consolidated Financial Statements in the
Company's 1998 Annual Report.
(1) Excludes investments in affiliates of $493.1 million.
(2) Includes investments in affiliates of $493.1 million.
Page 39
<PAGE> 40
AETNA INC. AND SUBSIDIARIES
SCHEDULE II
Condensed Financial Information
AETNA INC.
Statements of Income
<TABLE>
<CAPTION>
For the year ended December 31,
(Millions) 1998 1997 1996
- ----------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Net investment income $ 2.0 $ .5 $ 1.2
- ----------------------------------------------------------------------------------------------------
Total revenue 2.0 .5 1.2
Operating expenses -- -- .2
- ----------------------------------------------------------------------------------------------------
Total expenses -- -- .2
- ----------------------------------------------------------------------------------------------------
Income before income taxes and equity in earnings of affiliates 2.0 .5 1.0
Income taxes .6 .1 .5
Equity in earnings of affiliates 846.7 900.7 204.6
- ----------------------------------------------------------------------------------------------------
Income from continuing operations 848.1 901.1 205.1
Discontinued Operations, net of tax:
Income from operations -- -- 182.2
Gain on sale -- -- 263.7
- ----------------------------------------------------------------------------------------------------
Net income $ 848.1 $ 901.1 $ 651.0
====================================================================================================
</TABLE>
See Notes to Condensed Financial Statements.
Page 40
<PAGE> 41
AETNA INC. AND SUBSIDIARIES
SCHEDULE II
Condensed Financial Information
AETNA INC.
Balance Sheets
<TABLE>
<CAPTION>
As of December 31,
(Millions, except share data) 1998 1997
- --------------------------------------------------------------------------------------------
<S> <C> <C>
Assets:
Investments:
Short-term investments $ 3.1 $ 3.2
Investments in affiliates 11,400.7 11,049.2
- --------------------------------------------------------------------------------------------
Total investments 11,403.8 11,052.4
Cash and cash equivalents 15.8 22.1
Due from affiliates 2.2 5.4
Affiliate dividends receivable 50.0 200.0
Deferred income taxes 1.5 1.1
- --------------------------------------------------------------------------------------------
Total assets $11,473.3 $11,281.0
============================================================================================
Liabilities:
Dividends payable to shareholders $ 35.2 $ 36.1
Other liabilities 29.0 29.3
Current income taxes 20.2 20.2
- --------------------------------------------------------------------------------------------
Total liabilities 84.4 85.6
- --------------------------------------------------------------------------------------------
Shareholders' Equity:
Class C Voting Mandatorily Convertible Preferred Stock
($.01 par value; 15,000,000 shares authorized;
11,614,816 in 1998 and 11,655,206 in 1997 issued and outstanding) 862.1 865.4
Common stock ($.01 par value; 500,000,000 shares authorized,
141,272,628 in 1998 and 145,794,844 in 1997 issued and
outstanding) 3,292.4 3,644.4
Accumulated other comprehensive income 177.8 307.1
Retained earnings 7,056.6 6,378.5
- --------------------------------------------------------------------------------------------
Total shareholders' equity 11,388.9 11,195.4
- --------------------------------------------------------------------------------------------
Total liabilities and shareholders' equity $11,473.3 $11,281.0
============================================================================================
</TABLE>
See Notes to Condensed Financial Statements.
Page 41
<PAGE> 42
AETNA INC. AND SUBSIDIARIES
SCHEDULE II
Condensed Financial Information
AETNA INC.
Statements of Shareholders' Equity
<TABLE>
<CAPTION>
For the three years ended December 31, 1998
-----------------------------------------------------------------------------
Accumulated Other Class C
Comprehensive Income Voting
-------------------- Mandatorily
Unrealized Foreign Convertible
Retained Gains(Losses) Currency Preferred Common
(Millions, except share data) Total Earnings on Securities Gains(Losses) Stock Stock
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Balances at December 31, 1995 $ 7,272.8 $ 5,195.6 $ 797.0 $ (155.9) $ -- $ 1,436.1
====================================================================================================================================
Comprehensive income:
Net income 651.0 651.0
Other comprehensive loss, net of tax:
Unrealized losses on securities (($527.6)
pretax) (342.8) (342.8)
Foreign currency ($64.2 pretax) 41.7 41.7
---------
Other comprehensive loss (301.1)
---------
Total comprehensive income 349.9
=========
Issued for U.S. Healthcare merger:
Class C voting mandatorily convertible preferred
stock (11,655,546 shares) 865.4 865.4
Common shares (34,988,615 shares) 2,580.1 2,580.1
Stock options 24.8 24.8
Common stock issued for benefit plans
(1,563,491 shares) 75.1 75.1
Repurchase of common shares (1,194,400 shares) (83.3) (83.3)
Common stock dividends (170.0) (170.0)
Preferred stock dividends (25.1) (25.1)
- -----------------------------------------------------------------------------------------------------------------------------------
Balances at December 31, 1996 $10,889.7 $ 5,651.5 $ 454.2 $ (114.2) $ 865.4 $ 4,032.8
===================================================================================================================================
Comprehensive income:
Net income 901.1 901.1
Other comprehensive loss, net of tax:
Unrealized gains on securities ($81.8 pretax) 49.9 49.9
Foreign currency (($127.3) pretax) (82.8) (82.8)
---------
Other comprehensive loss (32.9)
---------
Total comprehensive income 868.2
=========
Common stock issued for benefit
plans (1,883,945 shares) 134.7 134.7
Repurchase of common shares (6,173,900 shares) (523.1) (523.1)
Common stock dividends (118.6) (118.6)
Preferred stock dividends (55.5) (55.5)
- -----------------------------------------------------------------------------------------------------------------------------------
Balances at December 31, 1997 $11,195.4 $ 6,378.5 $ 504.1 $ (197.0) $ 865.4 $ 3,644.4
===================================================================================================================================
Comprehensive income:
Net income 848.1 848.1
Other comprehensive loss, net of tax:
Unrealized losses on securities (($179.8) pretax) (116.9) (116.9)
Foreign currency (($19.1) pretax) (12.4) (12.4)
---------
Other comprehensive loss (129.3)
---------
Total comprehensive income 718.8
=========
Common stock issued for benefit
plans (576,387 shares) 39.6 39.6
Repurchase of common shares (5,131,700 shares) (394.9) (394.9)
Conversion of preferred securities (40,390 preferred -- (3.3) 3.3
shares converted to 33,097 shares)
Common stock dividends (114.7) (114.7)
Preferred stock dividends (55.3) (55.3)
- -----------------------------------------------------------------------------------------------------------------------------------
Balances at December 31, 1998 $11,388.9 $ 7,056.6 $ 387.2 $ (209.4) $ 862.1 $ 3,292.4
===================================================================================================================================
</TABLE>
See Notes to the Condensed Financial Statements.
Page 42
<PAGE> 43
AETNA INC. AND SUBSIDIARIES
SCHEDULE II
Condensed Financial Information
AETNA INC.
Statements of Cash Flows
<TABLE>
<CAPTION>
For the year ended December 31,
--------------------------------
(Millions) 1998 1997 1996
- -----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Cash Flows from Operating Activities:
Net income $ 848.1 $ 901.1 $ 651.0
Adjustments to reconcile net income to net cash (used for) provided by
operating activities:
Equity in earnings of affiliates (846.7) (900.7) (204.6)
Income from Discontinued Operations -- -- (182.2)
Gain on sale of Discontinued Operations -- -- (263.7)
Other, net 2.4 (8.4) 27.7
- -----------------------------------------------------------------------------------------------------------
Net cash provided by (used for) operating activities 3.8 (8.0) 28.2
- -----------------------------------------------------------------------------------------------------------
Cash Flows from Investing Activities:
Proceeds from sales of short-term investments 431.6 619.4 184.4
Cost of investments in short-term investments (431.5) (613.8) (193.2)
Cost of investment in U.S. Healthcare -- -- (5,243.9)
Capital contributions to affiliates -- (160.0) (500.0)
Dividends received from affiliates 520.0 746.2 5,938.0
Other, net (4.0) (25.3) 35.2
- -----------------------------------------------------------------------------------------------------------
Net cash provided by investing activities 516.1 566.5 220.5
- -----------------------------------------------------------------------------------------------------------
Cash Flows from Financing Activities:
Common stock issued under benefit plans 39.6 134.7 75.1
Common shares repurchased (394.9) (523.1) (83.3)
Dividends paid to shareholders (170.9) (174.9) (237.3)
- -----------------------------------------------------------------------------------------------------------
Net cash used for financing activities (526.2) (563.3) (245.5)
- -----------------------------------------------------------------------------------------------------------
Net (decrease) increase in cash and cash equivalents (6.3) (4.8) 3.2
Cash and cash equivalents, beginning of year 22.1 26.9 23.7
- -----------------------------------------------------------------------------------------------------------
Cash and cash equivalents, end of year $ 15.8 $ 22.1 $ 26.9
===========================================================================================================
Supplemental disclosure of cash flow information:
Interest paid $ -- $ -- $ --
Income taxes received, net $ 1.0 $ 1.0 $ .5
===========================================================================================================
</TABLE>
See Notes to Condensed Financial Statements.
Page 43
<PAGE> 44
AETNA INC. AND SUBSIDIARIES
SCHEDULE II
Condensed Financial Information
AETNA INC.
Notes to Condensed Financial Statements
1. Background of Organization
Aetna Inc. was incorporated under the Stock Corporation Act of the state of
Connecticut on March 25, 1996 for the purpose of effecting the combination of
Aetna Services, Inc. ("Aetna Services") (formerly Aetna Life and Casualty
Company) and Aetna U.S. Healthcare Inc. ("Aetna U.S. Healthcare") (formerly U.S.
Healthcare, Inc. ("U.S. Healthcare")) in accordance with the terms of the
Agreement and Plan of Merger dated as of March 30, 1996. The merger was
consummated on July 19, 1996. As a result, Aetna Services and Aetna U.S.
Healthcare are each direct wholly owned subsidiaries of Aetna Inc.
The accompanying condensed financial statements include for 1996, the results of
operations of Aetna Services from January 1, 1996 and of Aetna U.S. Healthcare
from July 19, 1996 which are reflected as Equity in Earnings of Affiliates on
the Statement of Income. These financial statements should be read in
conjunction with the Consolidated Financial Statements and Notes thereto in the
Annual Report.
2. Guarantee of Debt Securities
Aetna Inc. has fully and unconditionally guaranteed the payment of all
principal, premium, if any, and interest on all outstanding debt securities of
Aetna Services, including the $348 million 9.5% Subordinated Debentures due 2024
(the "Subordinated Debentures") issued to Aetna Capital L.L.C. ("ACLLC"), a
wholly owned subsidiary of Aetna Services. ACLLC has issued $275 million of
redeemable preferred stock and the Subordinated Debentures represent
substantially all of the assets of ACLLC. See Note 15 of Notes to Consolidated
Financial Statements in the Annual Report for a description of outstanding debt.
3. Dividends
Cash dividends paid to Aetna Inc. by Aetna Services were $.5 billion, $.4
billion and $5.3 billion in 1998, 1997 and 1996. Cash dividends paid to Aetna
Inc. by Aetna U.S. Healthcare were $.3 billion and $.6 billion in 1997 and 1996,
respectively. No dividends were paid by Aetna U.S. Healthcare in 1998. Also, in
1997 Aetna U.S. Healthcare made a non-cash dividend of $.3 billion to Aetna Inc.
The 1996 dividends included the dividend by Aetna Services of the net proceeds
from the sale of the property-casualty operations. The 1996 dividends from Aetna
Services were used to finance the cash portion of the U.S. Healthcare merger
consideration. See Note 17 of Notes to Consolidated Financial Statements in the
Annual Report for a description of dividend restrictions.
Page 44
<PAGE> 45
AETNA INC. AND SUBSIDIARIES
SCHEDULE II
Condensed Financial Information
AETNA INC.
Notes to Condensed Financial Statements (Continued)
4. New Accounting Standards
See Note 1 of Notes to Consolidated Financial Statements in the Annual Report
for a description of new accounting standards.
5. Discontinued Products
See Note 10 of Notes to Consolidated Financial Statements in the Annual Report
for a description of discontinued products.
6. Other Acquisitions and Dispositions
See Note 4 of Notes to Consolidated Financial Statements in the Annual Report
for a description of other acquisitions and dispositions.
7. Severance and Facilities Charges
See Note 9 of Notes to Consolidated Financial Statements in the Annual Report
for a description of the severance and facilities charges.
8. Income Taxes
See Note 11 of Notes to Consolidated Financial Statements in the Annual Report
for a description of income taxes.
Page 45
<PAGE> 46
AETNA INC. AND SUBSIDIARIES
SCHEDULE III
Supplementary Insurance Information
As of and for the year ended December 31, 1998
<TABLE>
<CAPTION>
Deferred Unpaid Policyholders'
policy Future claims funds left
acquisition policy and claims Unearned with the Premium
Segment costs benefits expenses premiums Company revenue
- -------------------------------------------------------------------------------------------------------------------------------
(Millions)
<S> <C> <C> <C> <C> <C> <C>
Aetna U.S. Healthcare $ 3.6 $ 1,165.8 $ 3,807.1 $ 306.3 $ 608.5 $ 13,006.2
Aetna Retirement Services 893.1 4,178.0 14.4 -- 11,473.9 131.9
Aetna International 871.9 4,429.3 131.0 122.6 343.7 1,578.5
Large Case Pensions -- 8,768.0 1.4 -- 5,206.4 122.7
- -------------------------------------------------------------------------------------------------------------------------------
Total $ 1,768.6 $ 18,541.1 $ 3,953.9 $ 428.9 $17,632.5 $ 14,839.3
===============================================================================================================================
</TABLE>
<TABLE>
<CAPTION>
Amortization
Other income of deferred
(including realized Current policy Other
Net investment capital gains and future acquisition operating Premiums
Segment income (1) and losses) benefits costs expenses (3) written (4)
- -------------------------------------------------------------------------------------------------------------------------------
(Millions)
<S> <C> <C> <C> <C> <C> <C>
Aetna U.S. Healthcare $ 537.2 $ 1,551.0 $ 11,161.5 $ .6 $ 3,133.3 $ 12,058.7
Aetna Retirement Services 1,024.5 731.0 918.2 128.3 408.6 --
Aetna International 459.8 109.3 1,336.6 86.4 532.7 594.7
Large Case Pensions 1,152.5 76.0 1,054.4(2) -- 24.4 --
Corporate 16.9 106.6 -- -- 410.8 --
- -------------------------------------------------------------------------------------------------------------------------------
Total $ 3,190.9 $ 2,573.9 $ 14,470.7 $ 215.3 $ 4,509.8 $ 12,653.4
===============================================================================================================================
</TABLE>
(1) The allocation of net investment income is based upon the investment year
method or specific identification of certain portfolios within specific
segments.
(2) Includes reductions of the loss on discontinued products.
(3) Includes operating expenses, interest expense, amortization of goodwill
and other acquired intangible assets and severance and facilities charges
(reserve reductions).
(4) Excludes life insurance business pursuant to Regulation S-X.
Page 46
<PAGE> 47
AETNA INC. AND SUBSIDIARIES
SCHEDULE III
Supplementary Insurance Information
As of and for the year ended December 31, 1997
<TABLE>
<CAPTION>
Deferred Unpaid Policyholders'
policy Future claims funds left
acquisition policy and claims Unearned with the Premium
Segment costs benefits expenses premiums Company revenue
- -------------------------------------------------------------------------------------------------------------------------------
(Millions)
<S> <C> <C> <C> <C> <C> <C>
Aetna U.S. Healthcare $ 19.5 $ 1,166.5 $ 3,163.5 $ 254.2 $ 556.9 $ 10,844.6
Aetna Retirement Services 1,645.3 4,111.9 40.4 -- 11,339.5 158.5
Aetna International 702.5 3,430.7 89.0 105.0 384.1 1,434.1
Large Case Pensions -- 9,128.0 1.5 -- 6,480.7 155.0
- -------------------------------------------------------------------------------------------------------------------------------
Total $ 2,367.3 $ 17,837.1 $ 3,294.4 $ 359.2 $18,761.2 $ 12,592.2
===============================================================================================================================
</TABLE>
<TABLE>
<CAPTION>
Amortization
Other income of deferred
(including realized Current policy Other
Net investment capital gains and future acquisition operating Premiums
Segment income (1) and losses) benefits costs expenses (3) written (4)
- -------------------------------------------------------------------------------------------------------------------------------
(Millions)
<S> <C> <C> <C> <C> <C> <C>
Aetna U.S. Healthcare $ 451.2 $ 1,605.6 $ 9,239.2 $ 20.3 $ 2,797.1 $ 10,001.9
Aetna Retirement Services 1,114.7 629.3 1,034.1 110.6 385.6 --
Aetna International 384.4 157.0 1,206.3 86.6 486.1 465.0
Large Case Pensions 1,408.7 58.8 1,199.9(2) -- 34.8 --
Corporate 18.5 119.8 -- -- 428.4 --
- -------------------------------------------------------------------------------------------------------------------------------
Total $3,377.5 $ 2,570.5 $ 12,679.5 $ 217.5 $ 4,132.0 $ 10,466.9
===============================================================================================================================
</TABLE>
(1) The allocation of net investment income is based upon the investment year
method or specific identification of certain portfolios within specific
segments.
(2) Includes reductions of the loss on discontinued products.
(3) Includes operating expenses, interest expense, amortization of goodwill
and other acquired intangible assets and severance and facilities charges
(reserve reductions).
(4) Excludes life insurance business pursuant to Regulation S-X.
Page 47
<PAGE> 48
AETNA INC. AND SUBSIDIARIES
SCHEDULE III
Supplementary Insurance Information
As of and for the year ended December 31, 1996
<TABLE>
<CAPTION>
Deferred Unpaid Policyholders'
policy Future claims funds left
acquisition policy and claims Unearned with the Premium
Segment costs benefits expenses premiums Company revenue
- -------------------------------------------------------------------------------------------------------------------------------
(Millions)
<S> <C> <C> <C> <C> <C> <C>
Aetna U.S. Healthcare $ 39.2 $ 1,309.2 $ 2,924.2 $ 252.8 $ 579.9 $ 7,765.2
Aetna Retirement Services 1,488.1 3,935.8 30.1 -- 10,868.1 180.7
Aetna International 699.6 3,370.1 73.5 80.8 434.0 1,166.1
Large Case Pensions -- 9,168.3 1.4 -- 8,019.7 214.1
- -------------------------------------------------------------------------------------------------------------------------------
Total $ 2,226.9 $ 17,783.4 $ 3,029.2 $ 333.6 $19,901.7 $ 9,326.1
===============================================================================================================================
</TABLE>
<TABLE>
<CAPTION>
Amortization
Other income of deferred
(including realized Current policy Other
Net investment capital gains and future acquisition operating Premiums
Segment income (1) and losses) benefits costs expenses (3) written (4)
- -------------------------------------------------------------------------------------------------------------------------------
(Millions)
<S> <C> <C> <C> <C> <C> <C>
Aetna U.S. Healthcare $ 414.6 $ 1,553.9 $ 6,622.4 $ 11.9 $ 2,973.9 $ 6,982.8
Aetna Retirement Services 1,086.7 494.8 1,035.9 74.3 386.5 --
Aetna International 334.2 130.7 996.8 73.9 388.4 292.0
Large Case Pensions 1,649.2 112.3 1,521.3(2) -- 58.6 --
Corporate 80.5 17.5 -- -- 717.9 --
- -------------------------------------------------------------------------------------------------------------------------------
Total $ 3,565.2 $ 2,309.2 $ 10,176.4 $ 160.1 $ 4,525.3 $ 7,274.8
===============================================================================================================================
</TABLE>
(1) The allocation of net investment income is based upon the investment year
method or specific identification of certain portfolios within specific
segments.
(2) Includes reductions of the loss on discontinued products.
(3) Includes operating expenses, interest expense, amortization of goodwill
and other acquired intangible assets and severance and facilities charges.
(4) Excludes life insurance business pursuant to Regulation S-X.
Page 48
<PAGE> 49
AETNA INC. AND SUBSIDIARIES
SCHEDULE IV
Reinsurance*
<TABLE>
<CAPTION>
For the years ended December 31,
(Millions)
- --------------------------------------------------------------------------------------------------------
Percentage
Ceded to Assumed of amount
Gross other from other Net assumed
amount companies companies amount to net
- --------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
1998 **
Premiums:
Life insurance $ 2,486.7 $ 299.6 $ 68.6 $ 2,255.7 3.0%
Accident and health insurance 12,344.3 78.0 279.0 12,545.3 2.2
Property-casualty insurance 75.3 38.9 1.9 38.3 5.0
- --------------------------------------------------------------------------------------------------------
Total premiums $14,906.3 $ 416.5 $ 349.5 $14,839.3 2.4%
========================================================================================================
1997**
Premiums:
Life insurance $ 2,209.5 $ 88.2 $ 29.5 $ 2,150.8 1.4%
Accident and health insurance 10,441.5 62.6 5.5 10,384.4 .1
Property-casualty insurance 82.5 30.9 5.4 57.0 9.5
- --------------------------------------------------------------------------------------------------------
Total premiums $12,733.5 $ 181.7 $ 40.4 $12,592.2 .3%
========================================================================================================
1996**
Premiums:
Life insurance $ 2,285.5 $ 85.6 $ 42.8 $ 2,242.7 1.9%
Accident and health insurance 7,073.2 62.1 23.5 7,034.6 .3
Property-casualty insurance 95.1 50.1 3.8 48.8 7.8
- --------------------------------------------------------------------------------------------------------
Total premiums $ 9,453.8 $ 197.8 $ 70.1 $ 9,326.1 .8%
========================================================================================================
</TABLE>
* Excludes intercompany transactions.
** Net life insurance in force was $445.2 billion at December 31, 1998,
$387.8 billion at December 31, 1997 and $381.4 billion at December 31,
1996.
Page 49
<PAGE> 50
AETNA INC. AND SUBSIDIARIES
SCHEDULE V
Valuation and Qualifying Accounts and Reserves
For the years ended December 31,
(Millions)
<TABLE>
<CAPTION>
Additions
-----------------------------------
Charged
Balance at Balance at Charged (credited) to Balance
beginning beginning of (credited) to costs other accounts- Deductions- at end of
of period Adjustments period as adjusted and expenses (1) describe (2) describe (3) period
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
1998
Asset valuation
reserves:
Mortgage loans $ 114.5 $ -- $ 114.5 $ (8.0) $ (34.3) $ (5.3) $ 66.9
Real Estate 101.3 -- 101.3 5.5 2.8 (18.5) 91.1
Other 2.8 -- 2.8 -- -- -- 2.8
- -----------------------------------------------------------------------------------------------------------------------------------
$ 218.6 $ -- $ 218.6 $ (2.5) $ (31.1) $ (24.4) $ 160.6
===================================================================================================================================
1997
Asset valuation
reserves:
Mortgage loans $ 247.0 $ -- $ 247.0 $ (10.6) $ (45.0) $ (76.9) $ 114.5
Real Estate 142.1 -- 142.1 6.1 14.8 (61.7) 101.3
Other 2.8 -- 2.8 -- -- -- 2.8
- -----------------------------------------------------------------------------------------------------------------------------------
$ 391.9 $ -- $ 391.9 $ (4.5) $ (30.2) $(138.6) $ 218.6
===================================================================================================================================
1996
Asset valuation
reserves:
Mortgage loans $ 604.9 $ -- $ 604.9 $ (33.0) $ (67.6) $(257.3) $ 247.0
Real Estate 130.6 52.9(4) 183.5 27.1 1.9 (70.4) 142.1
Other 2.8 -- 2.8 -- -- -- 2.8
- -----------------------------------------------------------------------------------------------------------------------------------
$ 738.3 $ 52.9 $ 791.2 $ (5.9) $ (65.7) $(327.7) $ 391.9
===================================================================================================================================
</TABLE>
(1) Charged (credited) to net realized capital (gains) losses in the
Consolidated Statements of Income.
(2) Reflects additions to (reductions of) reserves related to assets
supporting experience rated contracts and discontinued products for which
a corresponding reduction was included in Policyholders' Funds Left with
the Company in the Consolidated Balance Sheets and the reserve for future
losses, respectively.
(3) Reduction in reserves is primarily a result of related asset write-downs
(including foreclosures of real estate) and sales.
(4) As a result of the adoption of FAS No. 121, valuation reserves at January
1, 1996 were increased by $52.9 million in connection with the reversal of
previously recorded accumulated depreciation related to properties held
for sale.
Page 50
<PAGE> 51
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.
Date: February 26, 1999 AETNA INC.
By /s/ Alan M. Bennett
------------------------------
Alan M. Bennett
Vice President and
Corporate Controller
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities indicated on February 26, 1999.
* *
- ------------------------------------ ---------------------------------------
Richard L. Huber, Gerald Greenwald, Director
Chairman, Chief Executive Officer,
President and Director *
(Principal Executive Officer) ---------------------------------------
Ellen M. Hancock, Director
* *
- ------------------------------------ ---------------------------------------
Leonard Abramson, Director Michael H. Jordan, Director
* *
- ------------------------------------ ---------------------------------------
Betsy Z. Cohen, Director Jack D. Kuehler, Director
* *
- ------------------------------------ ---------------------------------------
William H. Donaldson, Director Frank R. O'Keefe, Jr., Director
* *
- ------------------------------------ ---------------------------------------
Barbara Hackman Franklin, Director Judith Rodin, Director
* *
- ------------------------------------ ---------------------------------------
Jerome S. Goodman, Director Alan J. Weber
Vice Chairman for Strategy and Finance
* (Principal Financial Officer)
- ------------------------------------
Earl G. Graves, Director
/s/ Alan M. Bennett
- ------------------------------------
Alan M. Bennett, Vice President
and Corporate Controller
*By /s/ Alan M. Bennett
--------------------------------
Alan M. Bennett
(Attorney-in-Fact)
Page 51
<PAGE> 52
INDEX TO EXHIBITS
Exhibit Filing
Number Description of Exhibit Method
- ------ ---------------------- ------
4 Instruments defining the rights of security holders,
including indentures. Electronic
Indenture, dated as of October 15, 1986, between Aetna
Services, Inc. (formerly Aetna Life and Casualty
Company) and The First National Bank of Boston,
Trustee.
12 Statement re: computation of ratios. Electronic
Statement re: computation of ratio of earnings to fixed
charges for the Company for the years ended December
31, 1998, 1997, 1996, 1995 and 1994 and Aetna Services
for the year ended December 31, 1998, 1997 and 1996.
Statement re: computation of ratio of earnings to
combined fixed charges and preferred stock dividends
for the Company for the years ended December 31, 1998,
1997, 1996, 1995, and 1994 and Aetna Services for the
year ended December 31, 1998, 1997 and 1996.
13 Annual Report to security holders. Electronic
Selected Financial Data, Management's Discussion and
Analysis of Financial Condition and Results of
Operations, Consolidated Financial Statements and the
report of the Company's independent auditors, and
unaudited Quarterly Data from the Annual Report.
21 Subsidiaries of the registrant. Electronic
A listing of subsidiaries of Aetna Inc.
23 Consents of experts and counsel. Electronic
Consent of Independent Auditors to Incorporation by
Reference in the Registration Statements on Form S-3
and Form S-8.
24 Powers of attorney. Electronic
27 Financial data schedule for December 31, 1998. Electronic
Page 52
<PAGE> 1
Exhibit 4
AETNA LIFE AND CASUALTY COMPANY
AND
THE FIRST NATIONAL BANK OF BOSTON,
Trustee
---------
INDENTURE
Dated as of October 15, 1986
---------
Debt Securities
<PAGE> 2
CROSS REFERENCE SHEET*
Between the provisions of the Trust Indenture Act of 1939 and an Indenture
dated as of October 15, 1986 between Aetna Life and Casualty Company (the
"Company") and The First National Bank of Boston, as Trustee.
Section of the Act Section of Indenture
- ------------------ --------------------
310(a)(1) and (2)..................................8.09
310(a)(3) and (4)..................................Inapplicable
310(b).............................................8.08 and 8.10(a), (b) and (d)
310(c).............................................Inapplicable
311(a).............................................8.13(a) and (c)(1) and (2)
311(b).............................................8.13(b)
311(c).............................................Inapplicable
312(a).............................................6.01 and 6.02(a)
312(b).............................................6.02(b)
312(c).............................................6.02(c)
313(a).............................................6.04(a)
313(b)(1)..........................................Inapplicable
313(b)(2)..........................................6.04(b)
313(c).............................................6.04(c)
313(d).............................................6.04(d)
314(a).............................................6.03
314(b).............................................Inapplicable
314(c)(1) and (2)..................................14.04
314(c)(3)..........................................Inapplicable
314(d).............................................Inapplicable
314(e).............................................14.04
314(f).............................................Inapplicable
315(a),(c) and (d).................................8.01
315(b).............................................7.10
315(e).............................................7.11
316(a)(1)..........................................7.09
316(a)(2)..........................................Not required
316(a)(last sentence)..............................9.04
316(b).............................................7.07
317(a).............................................7.02
317(b).............................................5.04(a)
318(a).............................................14.06
- --------
* This Cross Reference Sheet shall not for any purpose be deemed part of the
Indenture, as executed.
<PAGE> 3
TABLE OF CONTENTS*
Page
----
PARTIES......................................................................1
RECITALS.....................................................................1
ARTICLE ONE
DEFINITIONS
SECTION 1.01. Certain Terms Defined........................................1
Board of Directors...........................................2
Business day.................................................2
Commission...................................................2
Common Stock.................................................2
Company......................................................2
Control......................................................2
Corporate Trust Office.......................................3
Defaulted Interest...........................................3
Event of Default.............................................3
Fair Value...................................................3
Indenture....................................................3
Interest Payment Date........................................3
Non-Recourse Indebtedness....................................3
Officers' Certificate........................................4
Opinion of Counsel...........................................4
Original Issue Discount Security.............................4
<PAGE> 4
ii
Person.......................................................4
Predecessor Security.........................................4
Principal Insurance Subsidiary...............................4
Register.....................................................5
Regular Record Date..........................................4
Responsible officer..........................................4
Security; Outstanding........................................5
Security holder..............................................6
Sinking fund redemption price................................6
Special Record Date..........................................7
Subsidiary...................................................7
Trustee......................................................7
Trust Indenture Act of 1939..................................7
U.S. Government Obligations..................................7
Voting stock.................................................8
Yield to Maturity............................................8
ARTICLE TWO
ISSUE, EXECUTION, FORM AND REGISTRATION OF SECURITIES
SECTION 2.01. Generally....................................................8
SECTION 2.02. Form of Securities; Issuable in Series; Terms................8
SECTION 2.03. Denominations...............................................10
SECTION 2.04. Execution...................................................10
SECTION 2.05. Authentication and Dating...................................11
SECTION 2.06. Registration, Transfer and Exchange.........................13
SECTION 2.07. Mutilated, Destroyed, Lost and Stolen Securities............14
SECTION 2.08. Cancellation of Securities; Destruction Thereof.............15
SECTION 2.09. Temporary Securities........................................15
SECTION 2.10. Defaulted Interest..........................................16
ARTICLE THREE
REDEMPTION OF SECURITIES-OPTIONAL AND SINKING FUND REDEMPTIONS
SECTION 3.01. Applicability of Article....................................17
- ----------
* This Table of Contents shall not for any purpose be deemed part of the
Indenture, as executed.
<PAGE> 5
iii
Page
----
SECTION 3.02. Notice of Redemption; Partial Redemptions...................17
SECTION 3.03. Payment of Securities Called for Redemption.................18
SECTION 3.04. Sinking Fund Redemptions....................................19
SECTION 3.05. Exclusion of Company Owned Securities.......................21
ARTICLE FOUR
CONVERSION OF SECURITIES
SECTION 4.01. Applicability of Article....................................22
SECTION 4.02. Exercise of Conversion Privilege............................22
SECTION 4.03. No Fractional Shares........................................24
SECTION 4.04. Adjustment to Conversion Price..............................24
SECTION 4.05. Reservation of Shares of Common Stock.......................25
SECTION 4.06. Payment of Certain Taxes Upon Conversion....................25
SECTION 4.07. Nonassessability............................................25
SECTION 4.08. Effect of Consolidation or Merger on Conversion Privilege...26
SECTION 4.09. Duties of Trustee Regarding Conversion......................27
SECTION 4.10. Repayment of Certain Funds Upon Conversion..................28
ARTICLE FIVE
PARTICULAR COVENANTS OF THE COMPANY
SECTION 5.01. Payment of Principal of and Interest on Securities..........28
SECTION 5.02. Maintenance of Offices or Agencies for Registration,
Transfer, Exchange, Conversion and Payment of Securities....28
SECTION 5.03. Appointment To Fill a Vacancy in Office of Trustee..........29
SECTION 5.04. Paying Agents...............................................29
SECTION 5.05. Limitations on Liens on Common Stock of Principal
Insurance Subsidiaries......................................30
SECTION 5.06. Certificates to Trustee.....................................30
<PAGE> 6
iv
Page
----
ARTICLE SIX
LISTS OF SECURITY HOLDERS; REPORTS BY THE COMPANY AND THE TRUSTEE
SECTION 6.01. Company To Furnish Trustee Information as to Names
and Addresses of Security Holders...........................31
SECTION 6.02. Preservation of Information; Communications to Security
Holders.....................................................31
SECTION 6.03. Reports by the Company......................................33
SECTION 6.04. Reports by the Trustee......................................34
ARTICLE SEVEN
REMEDIES ON EVENT OF DEFAULT
SECTION 7.01. Event of Default Defined; Acceleration of Maturity;
Waiver of Default...........................................35
SECTION 7.02. Collection of Indebtedness by Trustee; Trustee May Prove
Debt........................................................40
SECTION 7.03. Application of Proceeds.....................................43
SECTION 7.04. Suits for Enforcement.......................................44
SECTION 7.05. Restoration of Rights on Abandonment of Proceedings.........44
SECTION 7.06. Limitations on Proceedings by Security Holders..............44
SECTION 7.07. Unconditional Right of Security Holders To Sue for
Principal and Interest......................................45
SECTION 7.08. Powers and Remedies Cumulative; Delay or Omission Not
Waiver of Default...........................................45
SECTION 7.09. Control by Security Holders; Waiver of Default..............46
SECTION 7.10. Trustee To Give Notice of Default; May Withhold Under
Certain Circumstances.......................................47
SECTION 7.11. Right of Court To Require Filing of Undertaking To Pay
Costs.......................................................48
ARTICLE EIGHT
CONCERNING THE TRUSTEE
SECTION 8.01. Duties and Responsibility of the Trustee: Prior to
Default; During Default.....................................48
<PAGE> 7
v
Page
----
SECTION 8.02. Certain Rights of the Trustee...............................50
SECTION 8.03. Recitals; Trustee Not Responsible for Disposition of
Securities or Application of Proceeds Thereof...............51
SECTION 8.04. Trustee May Hold Securities.................................51
SECTION 8.05. Moneys Held by Trustee......................................51
SECTION 8.06. Compensation of Trustee and Its Prior Claim.................52
SECTION 8.07. Right of Trustee To Rely on Officers' Certificate...........52
SECTION 8.08. Qualification of Trustee; Resignation of Trustee With
Conflicting Interests.......................................53
SECTION 8.09. Persons Eligible for Appointment as Trustee.................59
SECTION 8.10. Resignation and Removal; Appointment of Successor Trustee...59
SECTION 8.11. Acceptance of Appointment by Successor Trustee..............61
SECTION 8.12. Merger, Conversion or Consolidation of Trustee..............62
SECTION 8.13. Preferential Collection of Claims Against the Company.......63
SECTION 8.14. Limitation on Role of Trustee in Participating in
Solicitation of Consents, Authorizations, Etc. .............67
ARTICLE NINE
CONCERNING THE SECURITY HOLDERS
SECTION 9.01. Evidence of Action Taken by Security Holders................68
SECTION 9.02. Proof of Execution of Instruments and of Holding of
Securities..................................................69
SECTION 9.03. Holders of Securities May Be Treated as Owners..............69
SECTION 9.04. Securities Owned by Company Deemed Not Outstanding..........70
SECTION 9.05. Right of Revocation of Action Taken.........................70
<PAGE> 8
vi
Page
----
ARTICLE TEN
SECURITY HOLDERS' MEETINGS
SECTION 10.01. Purposes for Which Security Holders' Meetings May Be
Called......................................................71
SECTION 10.02. Trustee May Call Meeting....................................71
SECTION 10.03. Company and Security Holders May Call Meeting...............71
SECTION 10.04. Persons Entitled To Vote at Meeting.........................72
SECTION 10.05. Determination of Voting Rights; Conduct and Adjournment
of Meeting..................................................72
SECTION 10.06. Counting Vote and Recording Action of Meeting...............73
SECTION 10.07. Call of Meeting Not To Affect Rights of Trustee and
Security Holders............................................74
ARTICLE ELEVEN
SUPPLEMENTAL INDENTURES
SECTION 11.01. Supplemental Indentures Without Consent of Security
Holders.....................................................74
SECTION 11.02. Supplemental Indentures With Consent of Security Holders....76
SECTION 11.03. Effect of Supplemental Indentures...........................77
SECTION 11.04. Documents To Be Given to Trustee............................78
SECTION 11.05. Notation on Securities in Respect of Supplemental
Indentures..................................................78
SECTION 11.06. Waiver of Compliance by Security Holders....................78
ARTICLE TWELVE
CONSOLIDATION, MERGER OR SALE
SECTION 12.01. Company May Consolidate, Merge or Sell on Certain Terms.....78
SECTION 12.02. Officers' Certificate and Opinion Of Counsel To Be Given
to Trustee..................................................80
<PAGE> 9
vii
Page
----
ARTICLE THIRTEEN
SATISFACTION AND DISCHARGE OF INDENTURE; UNCLAIMED MONEYS
SECTION 13.01. Satisfaction and Discharge of Indenture.....................80
SECTION 13.02. Application by Trustee of Funds Deposited for Payment of
Securities..................................................81
SECTION 13.03. Repayment of Moneys Held by Paying Agent....................81
SECTION 13.04. Return of Moneys Held by Trustee and Unclaimed for
Three Years.................................................82
SECTION 13.05. Defeasance Upon Deposit of Moneys or U.S. Government
Obligations.................................................82
ARTICLE FOURTEEN
MISCELLANEOUS PROVISIONS
SECTION 14.01. Benefits of Indenture Restricted to Parties and Security
Holders.....................................................83
SECTION 14.02. Successors and Assigns......................................84
SECTION 14.03. Notices and Demands.........................................84
SECTION 14.04. Officers' Certificates and Opinions of Counsel;
Statements To Be Contained Therein..........................84
SECTION 14.05. Payments Due on Saturdays, Sundays and Holidays.............86
SECTION 14.06. Conflict of Any Provision of Indenture With Trust
Indenture Act of 1939.......................................86
SECTION 14.07. Personal Immunity from Liability of Incorporators,
Stockholders, Etc...........................................86
SECTION 14.08. Laws of State of New York To Govern.........................86
SECTION 14.09. Counterparts................................................87
SECTION 14.10. Acceptance of Trust by Trustee..............................87
SECTION 14.11. Effect of Headings..........................................87
TESTIMONIUM.................................................................87
SIGNATURES..................................................................87
ACKNOWLEDGMENTS.............................................................87
<PAGE> 10
1
Indenture, dated as of October 15, 1986, between AETNA LIFE AND CASUALTY
COMPANY, a Connecticut insurance corporation (the "Company"), and THE FIRST
NATIONAL BANK OF BOSTON, as trustee (the "Trustee").
WHEREAS, the Company has duly authorized the execution and delivery of
this Indenture to provide for the issuance from time to time of its unsecured
debentures, notes or other evidences of indebtedness to be issued in one or more
series ("Securities"), and, in order to provide, among other things, for the
authentication and delivery thereof by the Trustee, the Company has duly
authorized the execution and delivery of this Indenture;
AND WHEREAS, the Company represents that all acts and things necessary to
constitute these presents a valid agreement according to its terms have been
done and performed, and the execution of this Indenture has in all respects been
duly authorized, and the Company, in the exercise of legal right and power in it
vested, executes this Indenture;
NOW, THEREFORE:
For and in consideration of the premises, of the purchase and acceptance
of the Securities by the holders thereof and of the sum of One Dollar to it duly
paid by the Trustee at the execution of these presents, the receipt whereof is
hereby acknowledged, the Company covenants and agrees with the Trustee, for the
equal and proportionate benefit of all holders of the Securities as follows:
ARTICLE ONE
DEFINITIONS
SECTION 1.01. Certain Terms Defined. The following terms (except as
otherwise expressly provided or unless the context otherwise requires) for all
purposes of this Indenture and of any indenture supplemental hereto shall have
the respective meanings specified in this Section 1.01. All other terms used in
this Indenture which are defined in the Trust Indenture Act of 1939 or the
definitions of which in the Securities Act of 1933 are referred to in the Trust
Indenture Act of 1939 (except as herein otherwise expressly provided or unless
the context otherwise requires), shall have the meanings assigned to such terms
in such Trust Indenture Act and in such Securities Act as in force at the date
as of which this Indenture was originally executed by the Company. All
accounting terms used herein not expressly defined shall have the meanings given
to them in
<PAGE> 11
2
accordance with generally accepted accounting principles, and the term
"generally accepted accounting principles" shall mean such accounting principles
as are generally accepted at the time of any computation. The singular shall
imply the plural and vice-versa.
Board of Directors:
The term "Board of Directors" shall mean the Board of Directors of the
Company, the Executive Committee of such Board or any other duly authorized
committee of directors and/or officers appointed by such Board or Executive
Committee.
Business day:
The term "business day" shall mean each Monday, Tuesday, Wednesday,
Thursday and Friday except any of such days on which banks are authorized to be
closed pursuant to the laws of the State of New York or of the Commonwealth of
Massachusetts.
Commission:
The term "Commission" shall mean the Securities and Exchange Commission or
any successor agency thereto.
Common Stock:
The term "Common Stock" shall mean, with respect to the Company, its
common capital stock, without par value, and with respect to any Principal
Insurance Subsidiary, stock of any class, however designated, except stock which
is non-participating beyond fixed dividend and liquidation preferences and the
holders of which have either no voting rights or limited voting rights entitling
them, only in the case of certain contingencies, to elect less than a majority
of the directors (or persons performing similar functions) of such Principal
Insurance Subsidiary, and shall include securities of any class, however
designated, which are convertible into such Common Stock.
Company:
The term "Company" shall mean AETNA LIFE AND CASUALTY COMPANY, a
Connecticut insurance corporation, and, subject to the provisions of Article
Twelve, shall also include its successors and assigns.
Control:
The term "control" shall mean the power to direct the management and
policies of a person, directly or indirectly or through one or more
<PAGE> 12
3
intermediaries, whether through the ownership of voting securities, by contract
or otherwise; and the terms "controlling" and "controlled" shall have meanings
correlative to the foregoing.
Corporate Trust Office:
The term "Corporate Trust Office" shall mean the office of the Trustee at
which the corporate trust business of the Trustee shall, at any particular time,
be principally administered, which office is, at the date of execution of this
Indenture, located at 100 Federal Street, Boston, Massachusetts 02110;
Attention: Corporate Trust Division.
Defaulted Interest:
The term "Defaulted Interest" shall have the meaning ascribed to it in
Section 2.10.
Event of Default:
The term "Event of Default" shall mean any event specified in Section 7.01
which shall have continued for the period of time and with the notice, if any,
therein designated.
Fair Value:
The term "Fair Value" when used with respect to Common Stock shall mean
the fair value as determined in good faith by the Board of Directors.
Indenture:
The term "Indenture" shall mean this instrument as originally executed,
or, if amended or supplemented as herein provided, as so amended or
supplemented.
Interest Payment Date:
The term "Interest Payment Date" shall mean the date on which interest on
a series of outstanding Securities is due and payable as provided in Section
2.02.
Non-Recourse Indebtedness:
The term "Non-Recourse Indebtedness" shall mean indebtedness for borrowed
money as to which the liability of the Company or its Principal Insurance
Subsidiaries is limited solely to specific assets.
<PAGE> 13
4
Officers' Certificate:
The term "Officers' Certificate" shall mean a certificate signed by the
chairman, the president, or any vice president and by any other vice president,
the treasurer, any assistant treasurer, the secretary or any assistant secretary
of the Company. Each such certificate shall include the statements provided for
in Section 14.04, if and to the extent required by the provisions thereof.
Opinion of Counsel:
The term "Opinion of Counsel" shall mean an opinion in writing signed by
legal counsel who may be an employee of or counsel to the Company or who may be
other counsel satisfactory to the Trustee. Each such opinion shall include the
statements provided for in Section 14.04, if and to the extent required by the
provisions thereof.
Original Issue Discount Security:
The term "Original Issue Discount Security" shall mean any Security which
provides for an amount less than the principal amount thereof to be due and
payable upon declaration of acceleration of maturity thereof pursuant to Section
7.01.
Person:
The term "person" shall mean an individual, a corporation, a partnership,
an association, a joint-stock company, a trust, an unincorporated organization
or a government or any agency or political subdivision thereof.
Predecessor Security:
The term "Predecessor Security" shall mean, in reference to any particular
Security, each and every previous Security evidencing all or a portion of the
same debt as that evidenced by such particular Security; and, for the purposes
of this definition any Security authenticated and delivered under Section 2.07
in lieu of a mutilated, destroyed, lost or stolen Security shall be deemed to
evidence the same debt as such mutilated, destroyed, lost or stolen Security.
Principal Insurance Subsidiary:
The term "Principal Insurance Subsidiary" shall mean only Aetna Life
Insurance Company and The Aetna Casualty and Surety Company,
<PAGE> 14
5
and any other subsidiary of the Company, including subsidiaries of subsidiaries,
which shall hereafter succeed by merger or otherwise to a major part of the
business of one or more of the Principal Insurance Subsidiaries. The decision as
to whether a subsidiary shall have succeeded to a major part of the business of
one or more of the Principal Insurance Subsidiaries shall be made in good faith
by the Board of Directors by the adoption of a resolution so stating, and the
Company shall within 30 days of the date of the adoption of such resolution
deliver to the Trustee a copy thereof, certified by the secretary or an
assistant secretary of the Company.
Register:
The term "register" shall mean the registry books of the Company, in which
are maintained the names and addresses of Security holders, and such other
information as is required by Section 2.06.
Regular Record Date:
The term "Regular Record Date" for the interest payable on any Interest
Payment Date on the Securities of any series shall mean the date specified for
that purpose as contemplated by Section 2.02.
Responsible officer:
The term "responsible officer" when used with respect to the Trustee shall
mean the chairman of the board of directors, the vice chairman of the board of
directors, the chairman of the trust committee, the president, any vice
president, the secretary, the treasurer, any trust officer, any assistant trust
officer, any second or assistant vice president, the cashier, any assistant
cashier, any assistant secretary, any assistant treasurer, or any other officer
or assistant officer of the Trustee customarily performing functions similar to
those performed by the persons who at the time shall be such officers or to whom
any corporate trust matter is referred because of his knowledge of and
familiarity with the particular subject.
Security; Outstanding:
The term "Security" shall mean any Security of any series authenticated
and delivered under this Indenture.
The term "outstanding," when used with reference to Securities, shall,
except as otherwise provided in Section 8.08 and subject to the
<PAGE> 15
6
provisions of Section 9.04, mean, as of any particular time, all Securities
authenticated and delivered by the Trustee under this Indenture, except
(a) Securities theretofore cancelled by the Trustee or delivered to
the Trustee for cancellation;
(b) Securities, or portions thereof, for the payment or redemption
of which moneys in the necessary amount shall have been deposited in trust
with the Trustee or with any paying agent (other than the Company) or
shall have been set aside, segregated and held in trust by the Company (if
the Company shall act as its own paying agent); provided, however, that if
such Securities are to be redeemed, notice of such redemption shall have
been given as in Article Three provided, or provision satisfactory to the
Trustee shall have been made for giving such notice; and
(c) Securities in substitution for which other Securities shall have
been authenticated and delivered pursuant to the terms of Section 2.07,
other than any such Securities with respect to which there has been
presented proof satisfactory to the Trustee that any of such Securities is
held by a holder as to whom such Security is a valid, binding and legal
obligation of the Company.
In determining whether the holders of the requisite principal amount of
Securities outstanding have given any direction, consent or waiver hereunder,
the principal amount of an Original Issue Discount Security that shall be deemed
to be outstanding for such purposes shall be the amount of the principal thereof
that would be due and payable as of the date of such determination upon the
declaration of acceleration of maturity thereof pursuant to Section 7.01.
Security holder:
The terms "Security holder," "holder of Securities," "registered holder,"
or other similar terms, shall mean the person in whose name the particular
Security shall at the time be listed in the register kept for that purpose in
accordance with the terms of this Indenture.
Sinking fund redemption price:
The term "sinking fund redemption price," when used with respect to any
Security to be redeemed pursuant to Section 3.04, shall mean the price at which
such Security is to be redeemed, as set forth in an indenture supplemental
hereto, a resolution of the Board of Directors or a written instrument executed
by one or more duly authorized officers of the
<PAGE> 16
7
Company setting forth the terms of such Security in accordance with Section
2.02.
Special Record Date:
The term "Special Record Date" shall mean that date fixed by the Trustee,
pursuant to Section 2.10.
Subsidiary:
The term "subsidiary" shall mean any corporation more than 50% of the
voting stock of which at the time is owned or controlled, directly or
indirectly, by the Company.
Trustee:
The term "Trustee" shall mean The First National Bank of Boston and,
subject to the provisions of Article Eight, shall also include any successor
trustee.
Trust Indenture Act of 1939:
Except as otherwise provided in Sections 11.01 and 11.02, the term "Trust
Indenture Act of 1939" shall mean the Trust Indenture Act of 1939 as in force at
the date as of which this Indenture was originally executed by the Company.
U.S. Government Obligations:
The term "U.S. Government Obligations" shall mean securities that are (i)
direct obligations of the United States of America for the payment of which its
full faith and credit is pledged or (ii) obligations of an entity controlled or
supervised by and acting as an agency or instrumentality of the United States of
America the payment of which is unconditionally guaranteed as a full faith and
credit obligation by the United States of America, which, in either case under
clause (i) or (ii), are not callable or redeemable at the option of the issuer
thereof, and shall also include a depository receipt issued by a bank or trust
company as custodian with respect to any such U.S. Government Obligation or a
specific payment of interest on or principal of any such U.S. Government
Obligation held by such custodian for the account of the holder of a depository
receipt, provided that (except as required by law) such custodian is not
authorized to make any deduction from the amount payable to the holder of such
depository receipt from any amount received by the custodian in respect of the
U.S. Government Obligation or the specific payment of interest on or
<PAGE> 17
8
principal of the U.S. Government Obligation evidenced by such depository
receipt.
Voting stock:
The term "voting stock" shall mean securities of any class or classes of a
corporation the holders of which are ordinarily, in the absence of
contingencies, entitled to elect a majority of the directors (or persons
performing similar functions) of such corporation.
Yield to Maturity:
The term "Yield to Maturity" shall mean the yield to maturity on a series
of Securities, calculated at the time of issuance of such series or, if
applicable, at the most recent redetermination of interest on such series, and
calculated in accordance with generally accepted financial practice.
ARTICLE TWO
ISSUE, EXECUTION, FORM AND REGISTRATION OF SECURITIES
SECTION 2.01. Generally. Upon the execution of this Indenture, or from
time to time thereafter, Securities may be authenticated and delivered under
this Indenture.
SECTION 2.02. Form of Securities; Issuable in Series; Terms. The
Securities may be issued in one or more series and shall be in substantially the
form as shall be established by or pursuant to one or more indentures
supplemental hereto, a resolution of the Board of Directors or a written
instrument executed by one or more duly authorized officers of the Company, in
each case with such appropriate insertions, omissions, substitutions and other
variations as are required or permitted by this Indenture, and may have such
letters, numbers or other marks of identification and such legends or
endorsements placed thereon as may be required to comply with any law or with
any rules made pursuant thereto or with any rules of any securities exchange or
as may, consistently herewith, be determined by the officers executing such
Securities, as evidenced by their execution of the Securities.
The definitive Securities shall be printed, lithographed or engraved on
steel engraved borders or may be produced in any other manner, all as determined
by the officers executing such Securities as evidenced by their execution of
such Securities.
<PAGE> 18
9
There shall be established in or pursuant to one or more indentures
supplemental hereto, a resolution of the Board of Directors or a written
instrument executed by one or more duly authorized officers of the Company,
prior to the issuance of Securities of any series:
(1) the title of the Securities of the series (which shall
distinguish the Securities of the series from all Securities of other
series);
(2) any limit upon the aggregate principal amount of the Securities
of the series that may be authenticated and delivered under this indenture
(except as provided in Section 2.07);
(3) the date or dates on which the principal and premium, if any, of
the Securities of the series is payable;
(4) the rate or rates at which the Securities of the series shall
bear interest, if any, or the method by which such rate or rates shall be
determined, the date or dates from which such interest shall accrue, the
interest payment dates on which such interest shall be payable (the
"Interest Payment Dates") and the record dates for the determination of
Security holders to whom interest is payable;
(5) the place or places where the principal of, and premium, if any,
and interest, if any, on Securities of the series shall be payable;
(6) the price or prices at which, the period or periods within which
and the terms and conditions upon which Securities of the series may be
redeemed, in whole or in part, at the option of the Company, pursuant to
any sinking fund or otherwise;
(7) the obligation, if any, of the Company to redeem or purchase
Securities of the series pursuant to any sinking fund or analogous
provisions or at the option of a registered holder thereof and the price
or prices at which and the period or periods within which and the terms
and conditions upon which Securities of the series shall be redeemed or
purchased in whole or in part, pursuant to such obligation;
(8) the obligation, if any, of the Company to repay Securities of
the series prior to the date on which the principal of the Security is due
as set forth in that Security and the period or periods within which, the
price or prices at which and the terms and conditions upon which
Securities of the series shall be repaid, in whole or in part, pursuant to
such obligation;
<PAGE> 19
10
(9) the terms of any right to convert Securities of the series into
shares of Common Stock of the Company, other securities or property;
(10) if other than denominations of $1,000 and any integral multiple
thereof, the denominations in which Securities of the series shall be
issuable;
(11) if other than the principal amount thereof, the portion of the
principal amount of Securities of the series which shall be payable upon
declaration of acceleration of the maturity thereof pursuant to Section
7.01 or provable in bankruptcy pursuant to Section 7.02;
(12) any Events of Default with respect to the Securities of the
series, if not set forth herein;
(13) any restriction or condition on the transferability of the
Securities of the series;
(14) any other terms of the series (which terms shall not be
inconsistent with the provisions of this Indenture); and
(15) any authenticating or paying agents, registrars, conversion
agents or any other agents with respect to the Securities of the series.
All Securities of any one series shall be substantially identical except
as to denomination and except as may otherwise be provided in or pursuant to any
such indenture supplemental hereto or any such resolution or written instrument.
SECTION 2.03. Denominations. The Securities of each series shall be
issuable in registered form without coupons in such denominations as shall be
specified in an indenture supplemental hereto, a resolution of the Board of
Directors or a written instrument executed by one or more duly authorized
officers of the Company. In the absence of any such specification with respect
to the Securities of any series, the Securities of that series shall be issuable
in denominations of $1,000 and any integral multiple thereof.
SECTION 2.04. Execution. The Securities shall be signed on behalf of the
Company by its chairman, its president, or any vice president and by any other
vice president, its treasurer, any assistant treasurer, its secretary or any
assistant secretary under its corporate seal. Such signatures may be manual or
facsimile signatures and may be imprinted or otherwise reproduced on the
Securities. The seal of the Company may be
<PAGE> 20
11
in the form of a facsimile thereof and may be impressed, affixed, imprinted or
otherwise reproduced on the Securities. In case any officer of the Company who
shall have signed any of the Securities either manually or by facsimile
signature shall cease to be such officer before the Securities so signed have
been authenticated and delivered by the Trustee, or disposed of by the Company,
such Securities nevertheless may be authenticated and delivered or disposed of
as though the person who signed such Securities had not ceased to be such
officer of the Company; and any Security may be signed on behalf of the Company
by such persons as, at the actual time of execution of such Security, shall be
the proper officers of the Company, although at the date of such Security or of
the execution of this Indenture any such person was not such officer. Minor
typographical and other minor errors in the text of any Security or minor
defects in the seal or facsimile signature on any Security shall not affect the
validity or enforceability of such Security if it has been duly authenticated
and delivered by the Trustee.
SECTION 2.05. Authentication and Dating. At any time and from time to time
after the execution and delivery of this Indenture, the Company may deliver
Securities of any series executed by the Company to the Trustee for
authentication. Except as otherwise provided in this Article Two, the Trustee
shall thereupon authenticate and deliver such Securities to or upon the written
order of the Company, signed by its chairman, president or any vice president.
In authenticating such Securities and accepting the additional responsibilities
under this Indenture in relation to such Securities, the Trustee shall be
entitled to receive, and (subject to Section 8.01) shall be fully protected in
relying upon:
(1) a copy of any resolution or resolutions of the Board of
Directors or of any written instrument executed by one or more duly
authorized officers of the Company relating thereto and, if applicable, an
appropriate record of any action taken pursuant to such resolution or
instrument, in each case certified by the Secretary or an Assistant
Secretary of the Company;
(2) an executed supplemental indenture, if any;
(3) an Officers' Certificate; and
<PAGE> 21
12
(4) an Opinion of Counsel which shall state
(a) that the form and terms of such Securities have been
established by or pursuant to a supplemental indenture, a resolution
of the Board of Directors or a written instrument executed by one or
more duly authorized officers of the Company as permitted by Section
2.02 in conformity with the provisions of this Indenture;
(b) that such Securities, when authenticated and delivered by
the Trustee and issued by the Company in the manner and subject to
any conditions specified in such Opinion of Counsel, will constitute
valid and legally binding obligations of the Company, enforceable in
accordance with their terms, subject to bankruptcy, insolvency,
reorganization, moratorium and other laws of general applicability
relating to or affecting the enforcement of creditors' rights
generally or the rights of creditors of insurance companies
generally and to general equity principles; and
(c) that all requirements under this Indenture for the
execution and delivery by the Company of the Securities have been
complied with and that authentication and delivery of the Securities
by the Trustee will not violate the terms of the Indenture.
The Trustee shall have the right to decline to authenticate and deliver
any Securities under this Section if the Trustee, being advised by counsel,
determines that such action may not lawfully be taken or if the Trustee in good
faith by its board of directors, executive committee, or a trust committee of
directors or responsible officers of the Trustee shall determine that such
action would expose the Trustee to personal liability to existing holders of
Securities.
Each Security shall be dated the date of its authentication.
The Trustee's certificate of authentication shall be substantially in the
following form:
This is one of the series of Securities described in the within-mentioned
Indenture.
THE FIRST NATIONAL BANK OF BOSTON, as
Trustee
By
Authorized Officer
<PAGE> 22
13
Only such Securities as shall bear thereon a certificate of authentication
substantially in the form provided in this Section 2.05, manually executed by
the Trustee shall be entitled to the benefits of this Indenture or be valid or
obligatory for any purpose. Such certificate of authentication of the Trustee
upon any Security executed by the Company shall be conclusive evidence that the
Security so authenticated was duly authenticated and delivered by the Trustee
hereunder.
SECTION 2.06. Registration, Transfer and Exchange. The Company shall keep
at the office or agency to be maintained for the purpose as provided in Section
5.02, a register in which, subject to such reasonable regulations as it may
prescribe, it shall register Securities and register the transfer of Securities,
as provided in this Article Two. At all reasonable times such register shall be
open for inspection by the Trustee.
Upon due presentation for registration of transfer of any Security at such
office or agency, the Company shall execute and the Trustee shall authenticate
and deliver in the name of the transferee or transferees a new Security of the
same series for a like aggregate principal amount.
Any Security may be exchanged for an equal aggregate principal amount of
Securities of the same series in other authorized denominations. Securities to
be exchanged shall be surrendered at the office or agency to be maintained by
the Company for such purpose, as provided in Section 5.02 and the Company shall
execute and the Trustee shall authenticate and deliver in exchange therefor the
Security which the Security holder making the exchange shall be entitled to
receive.
All Securities presented for registration of transfer, exchange,
redemption or payment shall (if so required by the Company or the Trustee) be
duly endorsed by, or be accompanied by a written instrument or instruments of
transfer in form satisfactory to the Company and the Trustee duly executed by,
the Security holder or his attorney duly authorized in writing.
The Company may require payment of a sum sufficient to cover any tax or
other governmental charge that may be imposed in connection with any exchange or
registration of transfer of Securities. No service charge shall be made to the
Security holder for any such transaction.
The Company shall not be required to exchange or register a transfer of
(i) any Securities of a series for a period of 15 days next preceding any
selection of Securities of such series to be redeemed, or (ii) any Securities
<PAGE> 23
14
selected, called or being called for redemption except, in the case of any
Security to be redeemed in part, the portion thereof not to be so redeemed.
All Securities issued upon any transfer or exchange of Securities shall be
valid obligations of the Company, evidencing the same debt, and entitled to the
same benefits under this Indenture, as the Securities surrendered upon such
transfer or exchange.
SECTION 2.07. Mutilated, Destroyed, Lost and Stolen Securities. In case
any temporary or definitive Security shall be mutilated, destroyed, lost or
stolen, the Company in its discretion may execute, and upon its request the
Trustee shall authenticate and deliver, a new Security of the same series in
substitution for the Security so mutilated, destroyed, lost or stolen. In every
case the applicant for a substitute Security shall furnish to the Company and to
the Trustee, any paying agent or any Security registrar, such security or
indemnity as any of them may require to save each of them harmless from all
risks, however remote. In every case of destruction, loss or theft, such
applicant shall also furnish to the Company and to the Trustee, any paying agent
and any Security registrar evidence to their satisfaction of the destruction,
loss or theft of such Security and of the ownership thereof, and in every case
of mutilation, such applicant shall surrender to the Trustee the Security so
mutilated.
The Trustee may authenticate any such substitute Security and deliver the
same upon the written request or authorization of the chairman, president, any
vice president, the treasurer or the secretary of the Company. Upon the issuance
of any substitute Security, the Company may require the payment of a sum
sufficient to cover any tax or other governmental charge that may be imposed in
relation thereto and any other expenses connected therewith.
In case any Security which has matured or is about to mature, or has been
called for redemption in full, shall become mutilated, destroyed, lost or
stolen, the Company may, instead of issuing a substitute Security, pay or
authorize the payment of the same (without surrender thereof except in the case
of a mutilated Security), if the applicant for such payment shall furnish to the
Company and to the Trustee, any paying agent or any Security registrar, such
security or indemnity as any of them may require to save each of them harmless
from all risks, however remote, and evidence to their satisfaction of the
mutilation, destruction, loss or theft of such Security and of the ownership
thereof.
<PAGE> 24
15
Every substitute Security issued pursuant to the provisions of this
Section 2.07 by virtue of the fact that any Security is mutilated, destroyed,
lost or stolen shall constitute an additional contractual obligation of the
Company, whether or not the mutilated, destroyed, lost or stolen Security shall
be at any time enforceable by anyone and shall be entitled to all the benefits
of this Indenture equally and proportionately with any and all other Securities
of such series duly issued hereunder. All Securities shall be held and owned
upon the express condition that, to the extent permitted by law, the foregoing
provisions are exclusive with respect to the replacement or payment of
mutilated, destroyed, lost or stolen Securities and shall preclude any and all
other rights or remedies notwithstanding any law or statute existing or
hereafter enacted to the contrary with respect to the replacement or payment of
negotiable instruments or other securities without their surrender.
SECTION 2.08. Cancellation of Securities; Destruction Thereof. All
Securities surrendered for payment, redemption, registration of transfer,
retirement or substitution, if surrendered to the Company or any paying agent or
Security registrar, shall be delivered to the Trustee for cancellation or, if
surrendered to the Trustee, shall be cancelled by it; and no Securities shall be
issued in lieu thereof except as expressly permitted by any of the provisions of
this Indenture. The Trustee shall destroy cancelled Securities and deliver a
certificate of destruction to the Company. Acquisition by the Company of any
Security shall not operate as a redemption or satisfaction of the indebtedness
represented by such Security unless and until the same is delivered to the
Trustee for cancellation.
SECTION 2.09. Temporary Securities. Pending the preparation of definitive
Securities of any series, the Company may execute and the Trustee shall
authenticate and deliver temporary Securities (printed, lithographed or
typewritten). Temporary Securities shall be issuable without coupons, as
registered Securities of any authorized denomination, and substantially in the
form of the definitive Securities of such series, but with such omissions,
insertions and variations as may be appropriate for temporary Securities, all as
may be determined by the Company. Temporary Securities may contain such
references to any provisions of this Indenture as may be appropriate. Every
temporary Security shall be executed by the Company and be authenticated by the
Trustee upon the same conditions and in substantially the same manner, and with
like
<PAGE> 25
16
effect, as the definitive Securities. As promptly as practicable, the Company
shall execute and shall furnish definitive Securities, and thereupon temporary
Securities of the same series may be surrendered in exchange therefor without
charge at the office or agency to be maintained by the Company for the purpose
pursuant to Section 5.02, and the Trustee shall authenticate and deliver in
exchange for such temporary Securities a like aggregate principal amount of
definitive Securities of the same series of authorized denominations. Until so
exchanged the temporary Securities shall be entitled to the same benefits under
this Indenture as definitive Securities of the same series.
SECTION 2.10. Defaulted Interest. Any interest on any Security which is
payable, but is not punctually paid or duly provided for, on any Interest
Payment Date (herein called "Defaulted Interest") shall forthwith cease to be
payable to the registered holder on the relevant Regular Record Date by virtue
of having been such holder, and such Defaulted Interest may be paid by the
Company, at its election in each case, as provided below:
(a) The Company may elect to make payment of any Defaulted Interest
to the persons in whose names such Security are registered in the register
at the close of business on a Special Record Date for the payment of such
Defaulted Interest, which shall be fixed in the following manner. The
Company shall notify the Trustee in writing of the amount of Defaulted
Interest to be paid on each such Security and the date of payment, and at
the same time the Company shall deposit with the Trustee an amount of
money equal to the aggregate amount proposed to be paid in respect of such
Defaulted Interest or shall make arrangements satisfactory to the Trustee
for such deposit prior to the date of payment, such money when deposited
to be held in trust for the benefit of the persons entitled to such
Defaulted Interest as herein provided. Thereupon the Trustee shall fix a
Special Record Date for the payment of such Defaulted Interest which shall
not be less than 15 days prior to the date of the proposed payment and not
less than 15 days after the receipt by the Trustee of the notice of the
proposed payment. The Trustee shall promptly notify the Company of the
Special Record Date and, in the name and at the expense of the Company,
shall give notice of the proposed payment of Defaulted Interest and the
Special Record Date therefor to each holder of such Securities at his
address as it appears in the register,
<PAGE> 26
17
not less than 10 days prior to the Special Record Date, and Defaulted
interest shall thereupon be paid to the persons in whose names such
Securities are registered in the register on the Special Record Date; or
(b) The Company may make payment of any Defaulted Interest in any
other lawful manner not inconsistent with the requirements of any
securities exchange on which such Securities may be listed, and upon such
notice as may be required by such exchange, if, after notice given by the
Company to the Trustee of its intention so to make payment, such method of
payment shall be deemed practicable by the Trustee.
ARTICLE THREE
REDEMPTION OF SECURITIES-OPTIONAL AND SINKING FUND
REDEMPTIONS
SECTION 3.01. Applicability of Article. The provisions of this Article
shall be applicable to the Securities of any series which are redeemable before
their maturity, and to any sinking fund for the retirement of a Security of a
series, except as otherwise specified as contemplated by Section 2.02 for the
Securities of such series.
SECTION 3.02. Notice of Redemption; Partial Redemptions. Notice of
redemption to the holders of Securities of any series to be redeemed in whole or
in part shall be given at least 30 days and not more than 60 days prior to the
date fixed for redemption, to such holders at their last addresses as they shall
appear in the register. Failure to give notice, or any defect in the notice, to
the holder of any Security of a series designated for redemption as a whole or
in part shall not affect the validity of the proceedings for the redemption of
any other Security of such series.
The notice of redemption to each holder shall specify the principal amount
of the Securities of such series held by such holder to be redeemed, the date
fixed for redemption, the redemption price, the place or places of payment, that
payment will be made upon presentation and surrender of such Securities, that
such redemption is pursuant to the mandatory or optional sinking fund, or both,
if such be the case, that interest accrued to the date fixed for redemption will
be paid as specified in said notice and that on and after said date interest
thereon or on the portions thereof to be redeemed will cease to accrue. In case
any Security is to be redeemed in part only, the notice of redemption shall
state the
<PAGE> 27
18
portion of the principal amount thereof to be redeemed and shall state that on
and after the date fixed for redemption, upon surrender of such Security, a new
Security of the same series in aggregate principal amount equal to the
unredeemed portion thereof will be issued.
Any notice of redemption of Securities at the option of the Company shall
be given by the Company or, at the Company's request, by the Trustee in the
name and at the expense of the Company.
If less than all the Securities of a series are to be redeemed, the
Trustee shall select the Securities of such series to be redeemed pro rata or
by lot. Securities may be redeemed in part in multiples equal to the minimum
authorized denomination for Securities of such series or any multiple thereof.
At least 45 days prior to the date fixed for redemption, the Trustee shall
notify the Company in writing of the Securities so selected for redemption and,
in the case of any such Securities selected for partial redemption, the
principal amount thereof to be redeemed. For all purposes of this Indenture,
unless the context otherwise requires, all provisions relating to the
redemption of Securities of a series shall relate, in the case of any such
Security redeemed or to be redeemed only in part, to the portion of the
principal amount of such Security which has been or is to be redeemed.
At least one business day prior to the redemption date specified in the
notice of redemption, the Company shall deposit with the Trustee or with one or
more paying agents, or, if the Company is acting as its own paying agent, set
aside, segregate and hold in trust as provided in paragraph (c) of Section 5.04,
an amount of money sufficient to redeem on the redemption date all the
Securities of such series so called for redemption at the appropriate redemption
price, together with interest accrued thereon to the date fixed for redemption.
If less than all the outstanding Securities of such series are to be redeemed,
the Company shall deliver to the Trustee at least 60 days prior to the date
fixed for redemption a written instrument stating the aggregate principal amount
of Securities of such series to be redeemed, and stating that no Event of
Default has occurred and is continuing or, if continuing, has not been waived.
SECTION 3.03. Payment of Securities Called for Redemption. If notice of
redemption has been given as above provided, the Securities or portions of
Securities specified in such notice shall become due and payable on the date and
at the place stated in such notice at the applicable redemption price, together
with any interest accrued thereon to the date
<PAGE> 28
19
fixed for redemption, and on and after such date (unless the Company shall
default in the payment of such Securities at the redemption price, together with
interest accrued thereon to such date) interest on the Securities or portions of
Securities so called for redemption shall cease to accrue, and, except as
provided in Sections 8.05 and 13.04, such Securities shall cease from and after
the date fixed for redemption to be entitled to any benefit or security under
this Indenture, and the holders thereof shall have no right in respect of such
Securities, except the right to receive the redemption price thereof and unpaid
interest to the date fixed for redemption. On presentation and surrender of such
Securities at a place of payment specified in said notice, such Securities or
the specified portions thereof shall be paid and redeemed by the Company at the
applicable redemption price, together with interest accrued thereon to the date
fixed for redemption; provided, however, that if the date fixed for redemption
is an Interest Payment Date, any payment of interest becoming due on such date
fixed for redemption shall be payable to the holders of such Securities
registered as such on the Regular Record Date therefor.
If any Security called for redemption shall not be so paid upon surrender
thereof for redemption, the principal shall, until paid or duly provided for,
bear interest from the date fixed for redemption at the rate of interest or
Yield to Maturity (in the case of an Original Issue Discount Security) borne by
the Security.
Upon presentation of any Security redeemed in part only, the Company shall
execute and the Trustee shall authenticate and deliver to or on the order of the
holder thereof, at the expense of the Company, a new Security or Securities of
the same series, of authorized denominations, in aggregate principal amount
equal to the unredeemed portion of the Security so presented.
SECTION 3.04. Sinking Fund Redemptions. The minimum amount of any sinking
fund payment provided for by the terms of Securities of any series is herein
referred to as a "mandatory sinking fund payment," and "any payment in excess of
such minimum amount provided for by the terms of Securities of any series is
herein referred to as an "optional sinking fund payment."
In lieu of making all or any part of any mandatory sinking fund payment
with respect to any series of Securities in cash, the Company may at its option
(i) deliver to the Trustee Securities of such series theretofore acquired by the
Company or receive credit for Securities of
<PAGE> 29
20
such series (not previously so credited) theretofore acquired (except upon
redemption pursuant to the mandatory sinking fund) by the Company and delivered
to the Trustee for cancellation pursuant to Section 2.08 or (ii) receive credit
for Securities of such series (not previously so credited) which have been
converted pursuant to Article 4 or redeemed either at the election of the
Company pursuant to the terms of such Security or through the application of
permitted optional sinking fund payments pursuant to the terms of such
Securities. Securities so delivered or credited shall be received or credited by
the Trustee at the sinking fund redemption price specified in such Securities.
On or before the fiftieth day next preceding the due date of each sinking
fund payment, the Company shall give to the Trustee (i) a written instrument
specifying the portions of such sinking fund payment to be satisfied by payment
of cash, by delivery of (or credit for previously cancelled), Securities of such
series theretofore acquired, by credit for optional sinking fund payments
previously made or by credit for Securities of such series converted pursuant to
Article 4 or optionally redeemed by the Company; stating that no such Securities
of such series or optional sinking fund payments have theretofore been made the
basis of any credit against any mandatory sinking fund payment; and stating that
no Event of Default has occurred and is continuing or, if continuing, has not
been waived; and (ii) such acquired, converted or redeemed Securities to the
extent not previously surrendered and cancelled. All Securities so delivered to
the Trustee shall be cancelled by the Trustee and no Securities shall be
authenticated in lieu thereof. In case of the failure of the Company to give
such notice at or before the time so required, the Company shall be permitted to
make such mandatory sinking fund payment only in cash.
If any sinking fund payment or payments (mandatory or optional or both)
with respect to the Securities of any particular series which is to be made in
cash shall amount to $50,000 or more (or a lesser sum if consented to by the
Trustee upon the written request of the Company), the Trustee shall select, in
the manner provided in Section 3.02, such an aggregate principal amount of
outstanding Securities of such series for redemption on the due date for such
sinking fund payment as will exhaust such moneys, as nearly as may be, at the
sinking fund redemption price, and the Trustee shall cause notice of redemption
of such Securities to be given in the name of the Company and in the manner
provided in Section
<PAGE> 30
21
3.02, except that the notice given hereunder shall state that such redemption is
for sinking fund purposes; and on and after such sinking fund payment date, if
the necessary funds have been deposited with it, the Trustee shall apply or
cause to be applied such sinking fund moneys in the manner and with the effect
provided in Section 3.03 to the redemption of the Securities so selected.
Any such sinking fund moneys not so applied by the Trustee to the
redemption of Securities of such series shall be added to the next cash sinking
fund payment with respect to Securities of such series received by the Trustee,
and together with such payment shall be applied in accordance with the preceding
paragraph. Any and all such sinking fund moneys held by the Trustee on the last
sinking fund payment date and not held for the payment or redemption of
particular Securities of such series shall be applied by the Trustee together
with other moneys, if necessary, to be deposited sufficient for the purpose, to
the payment of the principal of the Securities of such series at maturity.
The Trustee shall not redeem or cause to be redeemed any Securities of a
series with such sinking fund moneys or give any notice of redemption of
Securities for such series by operation of the sinking fund during the
continuance of a default in payment of interest on such Securities or of any
Event of Default with respect to such series of which the Trustee shall have
notice except that, where the mailing of notice of redemption of any Securities
shall theretofore have been made, the Trustee shall redeem or cause to be
redeemed such Securities; provided, however, that it shall have received from
the Company a sum sufficient for such redemption. Except as aforesaid, any
moneys in the sinking fund for such series at the time when any such default or
Event of Default shall occur, and any moneys thereafter paid into the sinking
fund, shall, during the continuance of such default or Event of Default, be held
as security for the payment of all Securities of such series. In case such
default or Event of Default shall have been remedied or waived as provided in
Section 7.09, such moneys shall thereafter be applied on the next sinking fund
payment date in accordance with this Section 3.04, to the redemption of such
Securities of the series with respect to which such sinking fund payments were
made.
SECTION 3.05. Exclusion of Company Owned Securities. Securities shall be
excluded from eligibility for selection for redemption if they are (a) (i) owned
of record by the Company, as shown by the register, or by any person known by
the Trustee to be directly or indirectly controlling
<PAGE> 31
22
or controlled by or under direct or indirect common control with the Company,
and (ii) not known by the Trustee to have been pledged or hypothecated by the
Company or any such person, or (b) identified by number in a written instrument
delivered by the Company to the Trustee at least 60 days prior to the date fixed
for redemption as being beneficially owned by, and not pledged or hypothecated
by, the Company, or by any person specifically identified in such written
instrument as directly or indirectly controlling or controlled by or under
direct or indirect common control with the Company. Delivery of such written
instrument shall be at the discretion of the Company. The Trustee shall not be
charged with any knowledge referred to in clause (a) of this Section 3.05,
unless a responsible officer of the Trustee assigned to its corporate trust
division shall, as such officer, have actual knowledge to such effect.
ARTICLE FOUR
CONVERSION OF SECURITIES
SECTION 4.01. Applicability of Article. The provisions of this Article
shall be applicable to the Securities of any series which are convertible into
shares of Common Stock of the Company, and the issuance of such shares of Common
Stock upon the conversion of such Securities, except as otherwise specified as
contemplated by Section 2.02 for the Securities of such series.
SECTION 4.02. Exercise of Conversion Privilege. In order to exercise a
conversion privilege, the holder of a Security of a series with such a privilege
shall surrender such Security to the Company at the office or agency maintained
for that purpose pursuant to Section 5.02, accompanied by written notice to the
Company that the holder elects to convert such Security or a specified portion
thereof. Such notice shall also state, if different from the name and address of
such holder, the name or names (with address) in which the certificate or
certificates for shares of Common Stock which shall be issuable on such
conversion shall be issued. Securities surrendered for conversion shall (if so
required by the Company or the Trustee) be duly endorsed by or accompanied by
instruments of transfer in forms satisfactory to the Company duly executed by
the registered holder or his attorney duly authorized in writing; and Securities
so surrendered for conversion during the period from the close of business on
any Regular Record Date to the opening of business on the next succeeding
Interest Payment Date (excluding Securities or portions
<PAGE> 32
23
thereof called for redemption during such period) shall also be accompanied by
payment in funds acceptable to the Company of an amount equal to the interest
payable on such Interest Payment Date on the principal amount of such Security
then being converted, and such interest shall be payable to such registered
holder notwithstanding the conversion of such Security. As promptly as
practicable after the receipt of such notice and of any payment required
pursuant to the supplemental indenture, resolutions of the Board of Directors or
written instruments executed by one or more duly authorized officers of the
Company setting forth the terms of such series of Security, and the surrender of
such Security in accordance with such reasonable regulations as the Company may
prescribe, the Company shall issue and shall deliver, at the office or agency at
which such Security is surrendered, to such holder or on his written order, a
certificate or certificates for the number of full shares of Common Stock
issuable upon the conversion of such Security (or specified portion thereof), in
accordance with the provisions of such supplemental indenture, resolution or
written instrument, and cash as provided therein in respect of any fractional
share of such Common Stock otherwise issuable upon such conversion. Such
conversion shall be deemed to have been effected immediately prior to the close
of business on the date on which such notice and such payment, if required,
shall have been received in proper order for conversion by the Company and such
Security shall have been surrendered as aforesaid (unless such holder shall have
so surrendered such Security and shall have instructed the Company to effect the
conversion on a particular date following such surrender and such holder shall
be entitled to convert such Security on such date, in which case such conversion
shall be deemed to be effected immediately prior to the close of business on
such date) and at such time the rights of the holder of such Security as such
Security holder shall cease and the person or persons in whose name or names any
certificate or certificates for shares of Common Stock of the Company shall be
issuable upon such conversion shall be deemed to have become the holder or
holders of record of the shares represented thereby. Subject to the requirement
for a payment in the event of conversion after the close of business on a
Regular Record Date, no payment or adjustment shall be made upon any conversion
on account of any interest accrued on the Securities surrendered for conversion
or on account of any dividends on the Common Stock of the Company issued upon
such conversion.
<PAGE> 33
24
In the case of any Security which is converted in part only, upon such
conversion the Company shall execute and the Trustee shall authenticate and
deliver to or on the order of the holder thereof, at the expense of the Company,
a new Security or Securities of the same series, of authorized denominations, in
aggregate principal amount equal to the unconverted portion of such Security.
SECTION 4.03. No Fractional Shares. No fractional share of Common Stock of
the Company shall be issued upon conversions of Securities of any series. If
more than one Security shall be surrendered for conversion at one time by the
same holder, the number of full shares which shall be issuable upon conversion
shall be computed on the basis of the aggregate principal amount of the
Securities (or specified portions thereof to the extent permitted hereby) so
surrendered. If, except for the provisions of this Section 4.03, any holder of a
Security or Securities would be entitled to a fractional share of Common Stock
of the Company upon the conversion of such Security or Securities, or specified
portions thereof, the Company shall pay to such holder an amount in cash equal
to the current market value of such fractional share, computed, (i) if such
Common Stock is at the time reported on the Composite Transactions tape, on the
basis of the last reported sale price regular way on the last business day prior
to the date of conversion upon which such a sale shall have been effected, as
reported on the Composite Transactions tape, or (ii) if such Common Stock is not
at the time reported on the Composite Transactions tape but is listed or
admitted to unlisted trading privileges on a national securities exchange, on
the basis of the last reported sale price regular way on such exchange on the
last business day prior to the date of conversion upon which such a sale shall
have been effected, or (iii) if such Common Stock is not at the time so reported
on the Composite Transactions tape or so listed or admitted to unlisted trading
privileges on a national securities exchange, on the basis of the average of the
bid and asked prices of such Common Stock in the over-the-counter market, on the
last business day prior to the date of conversion, as reported by the National
Quotation Bureau, Incorporated or similar organization if the National Quotation
Bureau, Incorporated is no longer reporting such information, or if not so
available, the fair market price as determined by the Board of Directors.
SECTION 4.04. Adjustment to Conversion Price. The conversion price of
Securities of any series that is convertible into Common Stock of the Company
shall be adjusted for any stock dividends, stock splits,
<PAGE> 34
25
reclassifications, combinations or similar transactions in accordance with the
terms of the supplemental indenture, resolutions of the Board of Directors or
written instrument executed by one or more duly authorized officers of the
Company, setting forth the terms of the Securities of such series.
Whenever the conversion price is adjusted, the Company shall compute the
adjusted conversion price in accordance with terms of the applicable
supplemental indenture, resolution or written instrument and shall prepare an
Officers' Certificate setting forth the adjusted conversion price and showing in
reasonable detail the facts upon which such adjustment is based, and such
certificate shall forthwith be filed at the office or agency maintained for the
purpose of conversion of Securities pursuant to Section 5.02 and, if different,
with the Trustee. The Company shall forthwith cause a notice setting forth the
adjusted conversion price to be mailed, first class postage prepaid, to each
holder of Securities of such series at his address appearing on the Security
register and to any conversion agent other than the Trustee.
SECTION 4.05. Reservation of Shares of Common Stock. The Company shall at
all times reserve and keep available, free from preemptive rights, out of its
authorized but unissued Common Stock, for the purpose of effecting the
conversion of Securities, the full number of shares of Common Stock of the
Company then issuable upon the conversion of all outstanding Securities of any
series that has conversion rights.
SECTION 4.06. Payment of Certain Taxes Upon Conversion. The Company will
pay any and all taxes that may be payable in respect of the issue or delivery of
shares of its Common Stock on conversion of Securities pursuant hereto. The
Company shall not, however, be required to pay any tax which may be payable in
respect of any transfer involved in the issue and delivery of shares of its
Common Stock in a name other than that of the holder of the Security or
Securities to be converted, and no such issue or delivery shall be made unless
and until the person requesting such issue has paid to the Company the amount of
any such tax, or has established, to the satisfaction of the Company, that such
tax has been paid.
SECTION 4.07. Nonassessability. The Company covenants that all shares of
its Common Stock which may be issued upon conversion of
<PAGE> 35
26
Securities will upon issue in accordance with the terms hereof be duly and
validly issued and fully paid and nonassessable.
SECTION 4.08. Effect of Consolidation or Merger on Conversion Privilege.
In case of any consolidation of the Company with, or merger of the Company into
or with any other corporation, or in case of any sale or transfer of all or
substantially all of the assets of the Company, the Company or the corporation
formed by such consolidation or the corporation into which the Company shall
have been merged or the corporation which shall have acquired such assets, as
the case may be, shall execute and deliver to the Trustee a supplemental
indenture providing that the holder of each Security then outstanding of any
series that is convertible into Common Stock of the Company shall have the
right, which right shall be the exclusive conversion right thereafter available
to said holder (until the expiration of the conversion right of such Security),
to convert such Security into the kind and amount of shares of stock or other
securities or property (including cash) receivable upon such consolidation,
merger, sale or transfer by a holder of the number of shares of Common Stock of
the Company into which such Security might have been converted immediately prior
to such consolidation, merger, sale or transfer, subject to compliance with the
other provisions of this Indenture, such Security and such supplemental
indenture. Such supplemental indenture shall provide for adjustments which shall
be as nearly equivalent as may be practicable to the adjustments provided for in
such Security. The above provisions of this Section shall similarly apply to
successive consolidations, mergers, sales or transfers. It is expressly agreed
and understood that anything in this Indenture to the contrary notwithstanding,
if, pursuant to such merger, consolidation, sale or transfer, holders of
outstanding shares of Common Stock of the Company do not receive shares of
common stock of the surviving corporation but receive other securities, cash or
other property or any combination thereof, holders of Securities shall not have
the right to thereafter convert their Securities into common stock of the
surviving corporation or the corporation which shall have acquired such assets,
but rather, shall have the right upon such conversion to receive the other
securities, cash or other property receivable by a holder of the number of
shares of Common Stock of the Company into which the Securities held by such
holder might have been converted immediately prior to such consolidation,
merger, sale or transfer, all as more fully provided in the first sentence of
this Section 4.08. Anything in this Section 4.08 to the contrary
notwithstanding, the provisions of this
<PAGE> 36
27
Section 4.08 shall not apply to a merger or consolidation of another with or
into the Company pursuant to which both of the following conditions are
applicable: (i) the Company is the surviving corporation and (ii) the
outstanding shares of the Common Stock of the Company are not changed or
converted into any other securities or properties (including cash) or changed in
number or character pursuant to the terms of such merger or consolidation.
As evidence of the kind and amount of shares of stock or other securities
or property (including cash) into which Securities may properly be convertible
after any such consolidation, merger, sale or transfer, or as to the appropriate
adjustments of the conversion prices applicable with respect thereto, the
Trustee shall be furnished with and may accept the certificate or opinion of an
independent certified public accountant with respect thereto; and, in the
absence of bad faith on the part of the Trustee, the Trustee may conclusively
rely thereon, and shall not be responsible or accountable to any holder of
Securities for any provision in conformity therewith or approved by such
independent certified accountant which may be contained in said supplemental
indenture.
SECTION 4.09. Duties of Trustee Regarding Conversion. Neither the Trustee
nor any conversion agent shall at any time be under any duty or responsibility
to any holder of Securities of any series that is convertible into Common Stock
of the Company to determine whether any facts exist which may require any
adjustment of the conversion price, or with respect to the nature or extent of
any such adjustment when made, or with respect to the method employed, whether
herein or in any supplemental indenture, any resolutions of the Board of
Directors or written instrument executed by one or more officers of the Company
provided to be employed in making the same. Neither the Trustee nor any
conversion agent shall be accountable with respect to the validity or value (or
the kind or amount) of any shares of Common Stock of the Company, or of any
securities or property, which may at any time be issued or delivered upon the
conversion of any Security and neither the Trustee nor any conversion agent
makes any representation with respect thereto. Subject to the provisions of
Section 8.01, neither the Trustee nor any conversion agent shall be responsible
for any failure of the Company to issue, transfer or deliver any shares of its
Common Stock or stock certificates or other securities or property upon the
surrender of any Security for the purpose of conversion or to comply with any of
the covenants of the Company
<PAGE> 37
28
contained in this Article Four or in the applicable supplemental indenture,
resolutions of the Board of Directors or written instrument executed by one or
more duly authorized officers of the Company.
SECTION 4.10. Repayment of Certain Funds Upon Conversion. Any funds which
at any time shall have been deposited by the Company or on its behalf with the
Trustee or any other paying agent for the purpose of paying the principal of,
and premium, if any, and interest, if any, on any of the Securities (including
funds deposited for the sinking fund referred to in Article Three hereof) and
which shall not be required for such purposes because of the conversion of such
Securities as provided in this Article Four shall after such conversion be
repaid to the Company by the Trustee upon the Company's written request.
ARTICLE FIVE
PARTICULAR COVENANTS OF THE COMPANY
The Company covenants and agrees as follows:
SECTION 5.01. Payment of Principal of and Interest on Securities. The
Company covenants and agrees for the benefit of each series of Securities that
it will duly and punctually pay or cause to be paid the principal of, and
premium, if any, and interest, if any, on the Securities of such series at the
times and places, and in the manner provided in such Securities. The principal
of, and premium, if any, and interest, if any, on the Securities shall be
payable only to or upon the written order of the holders thereof. At the option
of the Company, any installment of interest on the Securities may be paid by
mailing checks for such interest payable to or upon the written order of the
holders of Securities entitled thereto as such holders shall appear in the
register.
SECTION 5.02. Maintenance of Offices or Agencies for Registration,
Transfer, Exchange, Conversion and Payment of Securities. As long as any of the
Securities remain outstanding, the Company will maintain, in the Borough of
Manhattan, The City of New York, State of New York, an office or agency where
the Securities may be presented for payment, or for registration, registration
of transfer or exchange or conversion as in this Indenture provided, and where
notices and demands to or upon the Company in respect of the Securities or of
this Indenture may be served.
The Company will give to the Trustee notice of the location of each office
or agency required to be maintained by this Section 5.02 and of any
<PAGE> 38
29
change in the location thereof. With respect to each series of Securities whose
terms are established pursuant to Section 2.02 the Company hereby designates its
office or agency specified in accordance with Section 2.02, as its initial
office to be maintained by it for each such purpose. In case the Company shall
fail to maintain such offices or agencies or shall fail to give such notice of
the location or of any change in the location thereof, presentations may be made
and notices and demands may be served at the Trustee's agency office located at
BancBoston Clearance, Inc., One Exchange Place, 55 Broadway, Third Floor, New
York, New York 10006, Attention: Manager.
SECTION 5.03. Appointment To Fill a Vacancy in Office of Trustee. The
Company, whenever necessary to avoid or fill a vacancy in the office of Trustee,
will appoint, in the manner provided in Section 8.10, a Trustee, so that there
shall at all times be a Trustee with respect to each series of Securities
hereunder.
SECTION 5.04. Paying Agents. (a) Whenever the Company shall appoint a
paying agent other than the Trustee with respect to Securities of any series, it
will cause such paying agent to execute and deliver to the Trustee an instrument
in which, subject to the provisions of this Section 5.04, such agent shall agree
with the Trustee:
(1) that it will hold all sums received by it as such agent for the
payment of the principal of and premium, if any, and interest, if any, on
the Securities of such series (whether such sums have been paid to it by
the Company or by any other obligor on the Securities of such series) in
trust for the benefit of the holders of the Securities of such series or
of the Trustee, and
(2) that it will give to the Trustee notice of any failure by the
Company (or by any other obligor on the Securities of such series) to make
any payment of the principal of or premium, if any, or interest, if any,
on the Securities of such series when the same shall be due and payable.
(b) The Company will, prior to each due date of the principal of or
premium, if any, or interest, if any, on the Securities of any series, deposit
with the paying agent hereunder a sum sufficient to pay such principal, premium,
if any, or interest, if any, and (unless such paying agent is the Trustee) the
Company will promptly notify the Trustee of any failure to take such action.
<PAGE> 39
30
(c) If the Company shall act as its own paying agent with respect to the
Securities of any series, it will, on or before each due date of the principal
of, or premium, if any, or interest, if any, on the Securities of such series,
set aside, segregate and hold in trust for the benefit of the holders of the
Securities of such series a sum sufficient to pay such principal, or premium, if
any, or interest, if any, so becoming due. The Company will promptly notify the
Trustee of any failure to take such action.
(d) Anything in this Section 5.04 to the contrary notwithstanding, the
Company may at any time, for the purpose of obtaining a satisfaction and
discharge of this Indenture with respect to one or more or all series of
Securities hereunder, or for any other reason, pay or cause to be paid to the
Trustee all sums held in trust for any such series by the Company or any paying
agent hereunder, as required by this Section 5.04, such sums to be held by the
Trustee upon the trusts herein contained.
(e) Anything in this Section 5.04 to the contrary notwithstanding, the
agreement to hold sums in trust as provided in this Section 5.04 is subject to
the provisions of Sections 13.03 and 13.04.
SECTION 5.05. Limitations on Liens on Common Stock of Principal Insurance
Subsidiaries. As long as any of the Securities remain outstanding, the Company
will not, and will not permit any Principal Insurance Subsidiary to, issue,
assume, incur or guarantee any indebtedness for borrowed money secured by a
mortgage, pledge, lien or other encumbrance, directly or indirectly, on any of
the Common Stock of a Principal Insurance Subsidiary, which Common Stock is
owned by the Company or by any Principal Insurance Subsidiary, unless the
Securities and, if the Company so elects, any other indebtedness of the Company
ranking on a parity with the Securities, shall be secured equally and ratably
with, or prior to, such secured indebtedness for borrowed money so long as it is
outstanding.
SECTION 5.06. Certificates to Trustee. The Company will, on or before May
1 in each year, commencing with the year 1987, file with the Trustee a written
instrument, complying with the provisions of Section 14.04, covering the period
from the date hereof to December 31, 1986, in the case of the first such
certificate, and covering the preceding calendar year in the case of each
subsequent certificate, and stating whether, in the opinion of the signer, the
Company has complied with the covenants, agreements and obligations on its part
contained in Section 5.05, and, if
<PAGE> 40
31
the signer has obtained knowledge of any continuing default by the Company
in the performance, observance or fulfillment of any such covenant, agreement or
obligation, specifying each such default and the nature thereof.
ARTICLE SIX
LISTS OF SECURITY HOLDERS; REPORTS BY THE COMPANY
AND THE TRUSTEE
SECTION 6.01. Company To Furnish Trustee Information as to Names and
Addresses of Security Holders. The Company shall furnish or cause to be
furnished to the Trustee with respect to each series of Securities (i)
semi-annually, not more than 10 days after each Regular Record Date, a list in
such form as the Trustee may reasonably require of the names and addresses of
the holders of such series of Securities as of each such date, and (ii) at such
other times as the Trustee may request in writing, within 30 days after receipt
by the Company of any such request, a list of similar form and content as of a
date not more than 15 days prior to the time such list is furnished; provided,
however, in each case, that so long as the Trustee is the registrar for such
series, no such list shall be required to be furnished.
SECTION 6.02. Preservation of Information; Communications to Security
Holders. (a) The Trustee shall preserve, in as current a form as is reasonably
practicable, all information as to the names and addresses of the holders of
each series of Securities (1) contained in the most recent list furnished to it
as provided in Section 6.01, and (2) received by it in the capacity of paying
agent (if so acting) or Security registrar (if so acting) for such series
hereunder. The Trustee may destroy any list furnished to it as provided in
Section 6.01 upon receipt of a new list so furnished.
(b) In case three or more holders of Securities (hereinafter referred to
as "applicants") apply in writing to the Trustee, and furnish to the Trustee
reasonable proof that each such applicant has owned a Security for a period of
at least six months preceding the date of such application, and such application
states that the applicants desire to communicate with other holders of
Securities of a particular series (in which case the applicants must all hold
Securities of such series) or with holders of all Securities with respect to
their rights under this Indenture or under such Securities and is accompanied by
a copy of the form of proxy or other
<PAGE> 41
32
communication which such applicants propose to transmit, then the Trustee
shall, within five business days after the receipt of such application, at its
election, either
(1) afford such applicants access to the information preserved at
the time by the Trustee in accordance with the provisions of paragraph (a)
of this Section 6.02, or
(2) inform such applicants as to the approximate number of holders
of Securities of such series or of all Securities, as the case may be,
whose names and addresses appear in the information preserved at the time
by the Trustee, in accordance with the provisions of paragraph (a) of this
Section 6.02, and as to the approximate cost of mailing to such Security
holders the form of proxy or other communication, if any, specified in
such application.
If the Trustee shall elect not to afford such applicants access to such
information, the Trustee shall, upon the written request of such applicants,
mail to each holder of a Security of such series or all Securities, as the case
may be, whose name and address appear in the information preserved at the time
by the Trustee in accordance with the provisions of paragraph (a) of this
Section 6.02, a copy of the form of proxy or other communication which is
specified in such request, with reasonable promptness after a tender to the
Trustee of the material to be mailed and of payment, or provision for the
payment, of the reasonable expenses of mailing, unless within five days after
such tender the Trustee shall mail to such applicants, and file with the
Commission, together with a copy of the material to be mailed, a written
statement to the effect that, in the opinion of the Trustee, such mailing would
be contrary to the best interests of the holders of Securities of such series or
all Securities, as the case may be, or would be in violation of applicable law.
Such written statement shall specify the basis of such opinion. If the
Commission, after opportunity for a hearing upon the objections specified in the
written statement so filed, shall enter an order refusing to sustain any of such
objections or if, after the entry of an order sustaining one or more of such
objections, the Commission shall find, after notice and opportunity for hearing,
that all the objections so sustained have been met, and shall enter an order so
declaring, the Trustee shall mail copies of such material to all such Security
holders with reasonable promptness after the entry of such order and the renewal
of such tender; otherwise the Trustee shall be relieved of any obligations or
duty to such applicants respecting their application.
<PAGE> 42
33
(c) Each and every holder of the Securities, by receiving and holding the
same, agrees with the Company and the Trustee that neither the Company nor the
Trustee nor any paying agent shall be held accountable by reason of the
disclosure of any such information as to the names and addresses of the holders
of Securities in accordance with the provisions of paragraph (b) of this Section
6.02, regardless of the source from which such information was derived, and that
the Trustee shall not be held accountable by reason of mailing any material
pursuant to a request made under paragraph (b) of this Section 6.02.
SECTION 6.03. Reports by the Company. The Company covenants and agrees:
(a) To file with the Trustee, within 15 days after the Company is required
to file the same with the Commission, copies of the annual reports and of the
information, documents, and other reports (or copies of such portions of any of
the foregoing as the Commission may from time to time by rules and regulations
prescribe) which the Company may be required to file with the Commission
pursuant to Section 13 or Section 15(d) of the Securities Exchange Act of 1934,
or, if the Company is not required to file information, documents, or reports
pursuant to either of such Sections, then to file with the Trustee and the
Commission, in accordance with rules and regulations prescribed from time to
time by the Commission, such of the supplementary and periodic information,
documents, and reports which may be required pursuant to Section 13 of the
Securities Exchange Act of 1934 in respect of a security listed and registered
on a national securities exchange as may be prescribed from time to time in such
rules and regulations;
(b) To file with the Trustee and the Commission, in accordance with rules
and regulations prescribed from time to time by the Commission, such additional
information, documents, and reports with respect to compliance by the Company
with the conditions and covenants provided for in this Indenture as may be
required from time to time by such rules and regulations; and
(c) To transmit to the holders of Securities, within 30 days after the
filing thereof with the Trustee, in the manner and to the extent provided in
paragraph (c) of Section 6.04 with respect to reports pursuant to paragraph (a)
of Section 6.04, such summaries of any information, documents, and reports
required to be filed by the
<PAGE> 43
34
Company pursuant to paragraphs (a) and (b) of this Section 6.03 as may be
required by rules and regulations prescribed from time to time by the
Commission.
SECTION 6.04. Reports by the Trustee. (a) On or before July 15, 1987, and
on or before July 15, in every year thereafter, so long as any Securities are
outstanding hereunder, the Trustee shall transmit to the Security holders of
each Series, as hereinafter in this Section 6.04 provided, a brief report dated
as of the preceding May 15 with respect to:
(1) Its eligibility under Section 8.09 and its qualification under
Section 8.08, or in lieu thereof, if to the best of its knowledge it has
continued to be eligible and qualified under such Sections, a written
statement to such effect;
(2) The character and amount of any advances (and if the Trustee
elects so to state, the circumstances surrounding the making thereof) made
by the Trustee (as such) which remain unpaid on the date of such report
and for the reimbursement of which it claims or may claim a lien or
charge, prior to that of the Securities of any series, on any property or
funds held or collected by it as Trustee, except that the Trustee shall
not be required (but may elect) to report such advances if such advances
so remaining unpaid aggregate not more than 1/2 of 1% of the principal
amount of the Securities outstanding of such series on the date of such
report;
(3) The amount, interest rate, and maturity date of all other
indebtedness owing by the Company, (or by any other obligor on the
Securities) to the Trustee in its individual capacity on the date of such
report, with a brief description of any property held as collateral
security therefor, except an indebtedness based upon a creditor
relationship arising in any manner described in clauses (2), (3), (4) or
(6) of paragraph (b) of Section 8.13;
(4) The property and funds, if any, physically in the possession of
the Trustee (as such) on the date of such report;
(5) Any additional issue of Securities which the Trustee has not
previously reported; and
(6) Any action taken by the Trustee in the performance of its duties
under this Indenture which it has not previously reported and which in its
opinion materially affects the Securities, except action in
<PAGE> 44
35
respect of a default, notice of which has been or is to be withheld by it
in accordance with the provisions of Section 7.10.
(b) The Trustee shall transmit to the Security holders of each
series, as provided in paragraph (c) of this Section 6.04, a brief report
with respect to the character and amount of any advances (and if the
Trustee elects so to state, the circumstances surrounding the making
thereof) made by the Trustee (as such) since the date of the last report
transmitted pursuant to the provisions of paragraph (a) of this Section
6.04 (or if no such report has yet been so transmitted, since the date of
this Indenture), for the reimbursement of which it claims or may claim a
lien or charge, prior to that of the Securities of such series, on
property or funds held or collected by it as Trustee and which it has not
previously reported pursuant to this paragraph (b) of Section 6.04, except
that the Trustee shall not be required (but may elect) to report such
advances if such advances remaining unpaid at any time aggregate not more
than 10% of the principal amount of Securities of such series outstanding
at such time, such report to be transmitted within 90 days after such
time.
(c) Reports pursuant to this Section 6.04 shall be transmitted by
mail (i) to all registered holders of Securities, as the names and
addresses of such holders appear upon the register; (ii) to such holders
of Securities as have, within two years preceding such transmission,
filed their names and addresses with the Trustee for that purpose; and
(iii) except in the case of reports pursuant to paragraph (b) of this
Section 6.04, to each holder of Securities whose name and address is
preserved at the time by the Trustee, as provided in paragraph (a) of
Section 6.02.
(d) A copy of each such report shall, at the time of such
transmission to Security holders, be furnished to the Company and be filed
by the Trustee with each stock exchange upon which the Securities of any
applicable series are listed and also with the Commission. The Company
agrees to notify the Trustee when and as the Securities of any series
become listed on any stock exchange.
ARTICLE SEVEN
REMEDIES ON EVENT OF DEFAULT
SECTION 7.01. Event of Default Defined; Acceleration of Maturity; Waiver
of Default. "Event of Default" whenever used with respect to Securities of a
series means any one of the following events and such other
<PAGE> 45
36
events as may be established with respect to the Securities of such series as
contemplated by Section 2.02 hereof:
(a) Default in the payment of any installment of interest upon any
of the Securities of such series as and when the same shall become due and
payable, and continuance of such default for a period of 30 days; or
(b) Default in the payment of the principal of or premium, if any,
on any of the Securities of such series as and when the same shall become
due and payable either at maturity, upon redemption, by declaration or
otherwise; or
(c) Default in the making of any sinking fund payment, whether
mandatory or optional, as and when the same shall become due and payable
by the terms of the Securities of such series; or
(d) Failure on the part of the Company duly to observe or perform in
any material respect any other of the covenants or agreements on the part
of the Company contained in this Indenture (other than those set forth
exclusively in the terms of any other particular series of Securities
established as contemplated by this Indenture for the benefit of such
other series) and written notice of such failure, stating that such notice
is a notice of default hereunder, and requiring the Company to remedy the
same, shall have been given by registered or certified mail, return
receipt requested, to the Company by the Trustee, or to the Company and
the Trustee by the holders of at least 25% in aggregate principal amount
of the Securities at the time outstanding, and such failure shall have
continued unremedied for a period of 90 days after the date of the
Company's receipt of such notice; or
(e) An event of default, as defined in any indenture or instrument
evidencing or under which the Company or any Principal Insurance
Subsidiary has at the date of this Indenture or shall hereafter have
outstanding indebtedness for borrowed money in a principal amount in
excess of $10,000,000, shall happen and be continuing and such
indebtedness shall have been accelerated so that the same shall be or
become due and payable prior to the date on which the same would otherwise
have become due and payable (other than acceleration of Non-Recourse
Indebtedness which does not exceed in the aggregate 4% of the Company's
total shareholders'
<PAGE> 46
37
equity, as set forth in the most recently published audited
consolidated balance sheet of the Company), and such acceleration
shall not be waived, rescinded or annulled within ten business days after
written notice thereof, stating that such notice is a notice of default
hereunder, shall have been given to the Company by the Trustee (if such
event be known to it), or to the Company and the Trustee by the holders of
at least 25% in aggregate principal amount of the Securities at the time
outstanding; provided, however, that if such acceleration under such
indenture or instrument shall be remedied or cured by the Company or
Principal Insurance Subsidiary, or waived, rescinded or annulled by the
requisite holders of such indebtedness, then the Event of Default
hereunder by reason thereof shall be deemed likewise to have been
thereupon remedied, cured or waived without further action upon the part
of either the Trustee or any of the Security holders; and provided
further, that, subject to the provisions of Sections 7.10 and 8.01, the
Trustee shall not be charged with knowledge of any such default unless
written notice thereof shall have been given to the Trustee by the
Company, by the holder of any such indebtedness or an agent of the holder
of any such indebtedness, by the trustee then acting under any such
indenture or other instrument under which such default shall have
occurred, or by the holders of at least 25% in aggregate principal amount
of the Securities at the time outstanding.
(f) A decree or order by a court having jurisdiction in the premises
shall have been entered adjudging the Company a bankrupt or insolvent, or
approving as properly filed a petition seeking reorganization,
arrangement, adjustment or composition of the Company under any applicable
Federal or State bankruptcy or similar law, and such decree or order shall
have continued undischarged and unstayed for a period of 90 days; or a
decree or order of a court having jurisdiction in the premises for the
appointment of a receiver, liquidator, trustee, assignee, sequestrator or
similar official in bankruptcy or insolvency of the Company or of all or
substantially all of its property, or for the winding up or liquidation of
its affairs, shall have been entered, and such degree or order shall have
continued undischarged and unstayed for a period of 90 days; or
(g) The Company shall institute proceedings to be adjudicated a
voluntary bankrupt, or shall consent to the filing of a bankruptcy
proceeding against it, or shall file a petition or answer or consent
<PAGE> 47
38
seeking reorganization, arrangement, adjustment or composition under any
applicable Federal or State bankruptcy or similar law, or shall consent to
the filing of any such petition, or shall consent to the appointment of a
receiver, liquidator, trustee, assignee, sequestrator or similar official
in bankruptcy or insolvency of the Company or of all or substantially all
of its property, or shall make an assignment for the benefit of creditors,
or shall admit in writing its inability to pay its debts generally as they
become due and its willingness to be adjudged a bankrupt, or corporate
action shall be taken by the Company in furtherance of any of the
aforesaid purposes.
If an Event of Default described in clauses (a), (b) or (c) or established
pursuant to Section 2.02 with respect to Securities of any series at the time
outstanding occurs and is continuing, then and in each and every such case,
unless the principal of all the Securities of such series shall have already
become due and payable, either the Trustee or the holders of not less than 25
percent in aggregate principal amount of the Securities of such series then
outstanding hereunder, by notice in writing to the Company (and to the Trustee
if given by Security holders), may declare the principal amount (or such lesser
portion of the principal amount as may be specified in the terms of any
particular series of Securities as contemplated by Section 2.02, such series of
Securities being referred to herein as "Original Issue Discount Securities") of
all the Securities of such series and the interest, if any, accrued thereon to
be due and payable immediately, and upon any such declaration the same shall
become and shall be immediately due and payable, anything in this Indenture or
in the Securities of such series contained to the contrary notwithstanding. If
an Event of Default described in clauses (d), (e), (f) or (g) occurs and is
continuing, then and in each and every such case, unless the principal of all
the Securities shall have already become due and payable, either the Trustee or
the holders of not less than 25 percent in aggregate principal amount of all the
Securities then outstanding hereunder, by notice in writing to the Company (and
to the Trustee if given by Security holders), may declare the principal amount
(or, if any Securities are Original Issue Discount Securities, such portion of
the principal amount as may be specified in the terms thereof) of all the
Securities then outstanding hereunder and the interest, if any, accrued thereon
to be due and payable immediately and upon any such declaration the same shall
become and shall be immediately due and payable, anything in this Indenture or
in the Securities contained to the contrary notwithstanding.
<PAGE> 48
39
The foregoing provisions are, however, subject to the condition that if,
at any time after the principal (or, if the Securities of such series are
Original Issue Discount Securities, such portion of the principal amount as may
be specified in the terms of such series) of the Securities of any series (or of
all the Securities, as the case may be) shall have been so declared due and
payable, and before any judgment or decree for the payment of the moneys due
shall have been obtained or entered as hereinafter provided, the Company shall
pay or deposit with the Trustee a sum sufficient to pay all matured installments
of interest upon all the securities of such series (or of all the Securities, as
the case may be) and the principal of and premium, if any, on any and all
Securities of such series (or of all the Securities, as the case may be) which
shall have become due otherwise than by acceleration (with interest on overdue
installments of interest, to the extent that payment of such interest is
enforceable under applicable law, and on such principal and premium, if any, at
the rate of interest or Yield to Maturity (in the case of Original Issue
Discount Securities) specified in or determined in accordance with the
Securities of such series (or at the rates of interest or Yields to Maturity of
all the Securities, as the case may be), to the date of such payment or
deposit), and in addition thereto such further amount as shall be sufficient to
cover the costs and expenses of collection (including any claims arising in
respect of this Indenture for reasonable compensation to the Trustee, its
agents, attorneys and counsel, for any other expenses and liabilities incurred
and for advances made by the Trustee) except such costs and expenses as are a
result of negligence or bad faith on the part of the Trustee, and if any and all
defaults under the Indenture, other than the nonpayment of the principal of and
interest, if any, on the Securities of such series (or of all the Securities, as
the case may be) which shall have become due by acceleration, shall have been
waived by the holders of at least a majority in aggregate principal amount of
the then outstanding Securities of such series (or of all the Securities, as the
case may be) or remedied, then and in every such case the holders of at least a
majority in aggregate principal amount of the then outstanding Securities of
such series (or of all the Securities, as the case may be), by written notice to
the Company and to the Trustee, may rescind and annul such declaration and its
consequences, but no such rescission and annulment shall extend to or shall
affect any subsequent default or shall impair any right consequent thereon.
<PAGE> 49
40
For the purposes of this Indenture, if a portion of the principal of any
Original Issue Discount Securities shall have been accelerated and declared due
and payable pursuant to the provisions hereof, then, from and after such
declaration, unless such declaration has been rescinded and annulled, the
principal amount of such Original Issue Discount Securities shall be deemed, for
all purposes hereunder, to be such portion of the principal thereof as shall be
due and payable as a result of such acceleration, and payment of such portion of
the principal thereof as shall be due and payable as a result of such
acceleration, together with interest, if any, thereon and all other amounts
owing thereunder, shall constitute payment in full of such Original Issue
Discount Securities.
SECTION 7.02. Collection of Indebtedness by Trustee; Trustee May Prove
Debt. The Company covenants that (i) in case default shall be made in the
payment of any installment of interest on any of the Securities of any series
when such interest shall have become due and payable, and such default shall
have continued for a period of 30 days or (ii) in case default shall be made in
the payment of the principal of or premium, if any, on any of the Securities of
any series when the same shall have become due and payable, whether upon
maturity or upon redemption or by declaration or otherwise, then upon written
demand of the Trustee, the Company will pay to the Trustee for the benefit of
the holders of the Securities of such series the whole amount that then shall
have become due and payable on all such Securities for principal or premium, if
any, or interest, if any, as the case may be (with interest upon the overdue
principal and to the extent that payment of such interest is enforceable under
applicable law, on overdue installments of interest at the same rate as the rate
of interest, if any, or Yield to Maturity (in the case of Original Issue
Discount Securities) specified in or determined in accordance with such
Securities of such series to be in effect on the date such interest was due, to
the date of such payment) and in addition thereto, such further amount as shall
be sufficient to cover the costs and expenses of collection including any claims
arising in respect of this Indenture for reasonable compensation to the Trustee,
its agents, attorneys and counsel, for any other expenses and liabilities
incurred and for advances by the Trustee) except such costs and expenses, as are
a result of negligence or bad faith on the part of the Trustee.
Until such demand is made by the Trustee, the Company may pay the
principal of and premium, if any, and interest, if any, on the Securities
<PAGE> 50
41
of any series to the registered holders, whether or not the Securities of
such series are overdue.
In case the Company shall fail forthwith to pay such amounts upon such
demand, the Trustee, in its own name and as trustee of an express trust, shall
be entitled and empowered to institute any action or proceedings at law or in
equity for the collection of the sums so due and unpaid, and may prosecute any
such action or proceedings to judgment or final decree, and may enforce any such
judgment or final decree against the company or other obligor upon such
Securities and collect in the manner provided by law out of the property of the
Company or other obligor upon such Securities wherever situated the moneys
adjudged or decreed to be payable.
In case there shall be pending proceedings for the bankruptcy or for the
reorganization of the Company or any other obligor upon the Securities of any
series under any applicable Federal or State law, or in case a receiver or
trustee shall have been appointed for the property of the Company or such other
obligor, or in case of any other proceedings relative to the Company or other
obligor upon the Securities of any series, or to the creditors or property of
the Company or such other obligor, the Trustee, irrespective of whether the
principal of the Securities of any series shall then be due and payable as
therein expressed or by declaration or otherwise and irrespective of whether the
Trustee shall have made any demand pursuant to the provisions of this Section
7.02, shall be entitled and empowered, by intervention in such proceedings or
otherwise, to file and prove a claim or claims for the whole amount of
principal, premium, if any, and interest (or if the Securities of such series
are Original Issue Discount Securities, such portion of the principal as may be
specified in or determined in accordance with the terms of such series) owing
and unpaid in respect of the Securities of any series, and to file such other
papers or documents as may be necessary or advisable in order to have the claims
of the Trustee (including any claims arising in respect of this Indenture for
reasonable compensation to the Trustee, its agents, attorneys and counsel, for
reimbursement of any other expenses and liabilities incurred and for advances
made by the Trustee) except such claims as are a result of negligence or bad
faith on the part of the Trustee, and the claims of the Security holders of any
series allowed in any proceedings relative to the Company or other obligor upon
the Securities, or to the creditors or property of the Company or such other
obligor, and to collect and receive any moneys or other property payable or
deliverable on any such claims,
<PAGE> 51
42
and to distribute all amounts received with respect to the claims of the
Security holders of any series and of the Trustee on their behalf, and, unless
otherwise provided by law or applicable regulations, to vote on behalf of the
holders of Securities of any series in any election of a trustee in bankruptcy
or other person performing similar functions; provided, however, that nothing
herein shall be deemed to authorize the Trustee to authorize or consent to or
vote for or accept or adopt on behalf of any Security holder any plan of
reorganization, arrangement, adjustment or composition affecting the Securities
of any series or the rights of any holder thereof, or to authorize the Trustee
to vote in respect of the claim of any Security holder, except, as aforesaid,
for the election of a trustee in bankruptcy or other person performing similar
functions. Any receiver, assignee or trustee in bankruptcy or reorganization or
similar proceeding or other person performing similar functions is hereby
authorized by each of the Security holders to make payments to the Trustee, and,
in the event that the Trustee shall consent to the making of payments directly
to the Security holders, to pay to the Trustee such amount as shall be
sufficient to cover the claims of the Trustee (including any claims arising in
respect of this Indenture for reasonable compensation to the Trustee, its
agents, attorneys and counsel, for any other expenses and liabilities incurred
and for advances made by the Trustee) except such claims as are a result of
negligence or bad faith on the part of the Trustee.
All rights of action and of asserting claims under this Indenture, or
under any of the Securities may be enforced by the Trustee without the
possession of any of the Securities or the production thereof in any trial or
other proceedings relative thereto, and any such action or proceedings
instituted by the Trustee shall be brought in its own name as trustee of an
express trust, and any recovery of judgment (subject to the payment of such
expenses, disbursements and compensation, arising in respect of this Indenture,
of the Trustee, its agents and attorneys, as are not the result of negligence or
bad faith on the part of the Trustee) shall be for the ratable benefit of the
holders of the Securities in respect of which such action was taken.
In any proceedings brought by the Trustee (and also any proceedings
involving the interpretation of any provision of this Indenture to which the
Trustee shall be a party) the Trustee shall be held to represent all holders of
Securities in respect of which such action was taken, and it shall not be
necessary to make any holder of such Securities party to any such proceedings.
<PAGE> 52
43
SECTION 7.03. Application of Proceeds. Any moneys collected by the Trustee
pursuant to this Article Seven in respect of any series shall be applied in the
following order, at the date or dates fixed by the Trustee and, in case of the
distribution of such moneys on account of principal, or premium, if any, or
interest, if any, upon the presentation of the several Securities in respect of
which such moneys have been collected and the notation thereon of payment if
partially paid, or the surrender thereof if fully paid:
FIRST: To the payment of costs and expenses applicable to such
series (including any claims arising in respect of this Indenture for
reasonable compensation to the Trustee or any predecessor trustee, their
agents, attorneys and counsel, for reimbursement of all expenses and
liabilities incurred and for advances made by the Trustee and each
predecessor trustee) except such costs and expenses as are as a result of
negligence or bad faith on the part of the Trustee or of such predecessor
trustee;
SECOND: In case the principal of the Securities in respect of which
such moneys have been collected shall not have become and be then due and
payable, to the payment of interest, if any, on the Securities of such
series in default in the order of the maturity of the installments of such
interest, with interest (to the extent that payment of such interest is
enforceable under applicable law and has been collected by the Trustee)
upon the overdue installments of interest at the same rates as the rates
of interest, if any, or Yield to Maturity (in the case of Original Issue
Discount Securities) specified in or determined in accordance with the
Securities, such payments to be made ratably to the persons entitled
thereto, without discrimination or preference with respect to the holders
of the same series of Securities;
THIRD: In case the principal of any Securities in respect of which
such moneys have been collected shall have become and shall be then due
and payable, to the payment of the whole amount then owing and unpaid upon
all the Securities of such series for principal, premium, if any, and
interest, if any, with interest upon the overdue principal and (to the
extent that payment of such interest is enforceable under applicable law
and has been collected by the Trustee) upon overdue installments of
interest at the same rates as the rates of interest, if any, or Yield to
Maturity (in the case of Original Issue Discount
<PAGE> 53
44
Securities) specified in or determined in accordance with the Securities
of such series; and, except as otherwise provided in Section 3.04, in case
such moneys shall be insufficient to pay in full the whole amount so due
and unpaid upon the Securities of such series, then to the payment of such
principal, premium, if any, and interest, if any, without preference or
priority of principal and premium, if any, over interest, if any, or of
interest, if any, over principal and premium, if any, or of any
installment of interest over any other installment of interest, or of any
Security of such series over any other Security of such series, ratably to
the aggregate of such principal, premium, if any, and accrued and unpaid
interest, if any; and
FOURTH: To the payment of the remainder, if any, to the Company or
any other person lawfully entitled thereto.
SECTION 7.04. Suits for Enforcement. In case of an Event of Default
hereunder the Trustee may in its discretion proceed to protect and enforce the
rights vested in it by this Indenture by such appropriate judicial proceedings
as the Trustee shall deem most effective to protect and enforce any of such
rights, either at law or in equity or in bankruptcy or otherwise, whether for
the specific enforcement of any covenants or agreements contained in this
Indenture or in aid of the exercise of any power granted in this Indenture or to
enforce any other legal or equitable right vested in the Trustee by this
Indenture or by law.
SECTION 7.05. Restoration of Rights on Abandonment of Proceedings. In case
the Trustee shall have proceeded to enforce any right under this Indenture and
such proceedings shall have been discontinued or abandoned for any reason, or
shall have been determined adversely to the Trustee, then and in every such case
the Company and the Trustee shall be restored respectively to their former
positions and rights hereunder, and all rights, remedies and powers of the
Company, the Trustee and the Security holders shall continue as though no such
proceedings had been taken.
SECTION 7.06. Limitations on Proceedings by Security Holders. No holder of
any Security of any series shall have any right by virtue of any provision of
this Indenture to institute any action or proceeding at law or in equity or in
bankruptcy or otherwise upon or with respect to this Indenture, or for the
appointment of a receiver or trustee, or for any other remedy hereunder, unless
such holder previously shall have given to the
<PAGE> 54
45
Trustee written notice of default and of the continuance thereof, as
hereinbefore provided, and unless also the holders of not less than 25% in
aggregate principal amount of the Securities of any series then outstanding, or,
in the case of any Event of Default described in clause (d), (e), (f) or (g) of
Section 7.01, 25% in aggregate principal amount of all Securities then
outstanding, shall have made written request upon the Trustee to institute such
action or proceedings in its own name as trustee hereunder and shall have
offered to the Trustee such reasonable indemnity as it may require against the
costs, expenses and liabilities to be incurred therein or thereby, and the
Trustee for 60 days after its receipt of such notice, request and offer of
indemnity shall have failed to institute any such action or proceeding and no
direction inconsistent with such written request shall have been given to the
Trustee pursuant to Section 7.09; it being understood and intended, and being
expressly covenanted by the taker and holder of every Security with every other
taker and holder and with the Trustee, that no one or more holders of Securities
of any series shall have any right in any manner whatever by virtue of any
provision of this Indenture to affect, disturb or prejudice the rights of any
other holder of Securities of that or any other series, or to obtain or seek to
obtain priority over or preference to any other such holder or to enforce any
right under this Indenture, except in the manner herein provided and for the
equal, ratable and common benefit of all holders of Securities of the applicable
series and except as may be provided in accordance with Section 3.04. For the
protection and enforcement of the provisions of this Section 7.06, each and
every Security holder and the Trustee shall be entitled to such relief as can be
given either at law or in equity.
SECTION 7.07. Unconditional Right of Security Holders To Sue for Principal
and Interest. Notwithstanding any other provision in this Indenture, the right
of any holder of any Security to receive payment of the principal of and
premium, if any, and interest, if any, on such Security on or after the
respective due dates expressed in such Security, or to institute suit for the
enforcement of any such payment on or after such respective dates, shall not be
impaired or affected without the consent of such holder.
SECTION 7.08. Powers and Remedies Cumulative; Delay or Omission Not Waiver
of Default. All powers and remedies given by this Article Seven to the Trustee
or to the Security holders shall, to the extent permitted by law, be deemed
cumulative and not exclusive of any thereof
<PAGE> 55
46
or of any other powers and remedies available to the Trustee or the Securities
holders, by judicial proceedings or otherwise, to enforce the performance or
observance of the covenants and agreements contained in this Indenture.
No delay or omission of the Trustee or of any holder of any of the
Securities to exercise any right or power accruing upon any Event of Default
occurring and continuing as aforesaid shall impair any such right or power or
shall be construed to be a waiver of any such Event of Default or an
acquiescence therein; and, subject to the provisions of Section 7.06, every
power and remedy given by this Article Seven or by law to the Trustee or to the
Security holders may be exercised from time to time, and as often as shall be
deemed expedient, by the Trustee or by the Security holders.
SECTION 7.09. Control by Security Holders; Waiver of Default. The holders
of at least a majority in aggregate principal amount of the Securities of all
series affected (voting as one class) at the time outstanding shall have the
right to direct the time, method, and place of conducting any proceeding for any
remedy available to the Trustee, or exercising any trust or power conferred on
the Trustee by this Indenture; provided, however, that such direction shall not
be otherwise than in accordance with law and the provisions of this Indenture.
Nothing in this Indenture shall impair the right of the Trustee in its
discretion to take any action deemed proper by the Trustee and which is not
inconsistent with such direction by Security holders; provided, however, that
(subject to the provisions of Section 8.01) the Trustee shall have the right to
decline to follow any such direction if the Trustee, being advised by counsel,
shall determine that the action or proceeding so directed may not lawfully be
taken or if the Trustee in good faith by its board of directors, the executive
committee, or a trust committee of directors or responsible officers of the
Trustee shall determine that the action or proceedings so directed would involve
the Trustee in personal liability. Prior to the declaration of the maturity of
Securities of any series (or all the Securities, as the case may be) as provided
in Section 7.01, the holders of at least a majority in aggregate principal
amount of the Securities of such series at the time outstanding may on behalf of
the holders of all Securities of such series waive any past default or Event of
Default described in clauses (a), (b) or (c) of Section 7.01, or any other Event
of Default for such series specified in the terms thereof as contemplated by
Section 2.02 (or, in the case of
<PAGE> 56
47
any event specified in clause (d), (e), (f) or (g) of Section 7.01, the holders
of a majority in aggregate principal amount of all the Securities then
outstanding may waive any such default or Event of Default), its consequences,
except (unless theretofore remedied) a default in the payment of principal of or
premium, if any, or interest, if any, on any of the Securities or in respect of
a covenant or provision hereof which cannot be modified without the consent of
the holder of each Security affected. In the case of any such waiver, the
Company, the Trustee and the holders of the Securities shall be restored to
their former positions and rights hereunder, respectively; but no such waiver
shall extend to any subsequent or other default or impair any right consequent
thereon.
SECTION 7.10. Trustee To Give Notice of Default; May Withhold Under
Certain Circumstances. The Trustee shall give to the Securities holders of a
series in the manner and to the extent provided in paragraph (c) of Section 6.04
with respect to reports pursuant to paragraph (a) of Section 6.04, notice of
each default hereunder with respect to the Securities of such series known to
the Trustee within 90 days after the occurrence thereof, unless such default
shall have been remedied before the giving of such notice; provided, however,
that except in the case of default in the payment of the principal of or
premium, if any, or interest, if any, on any of the Securities, or in the making
of any sinking fund payment, the Trustee shall be protected in withholding such
notice if and so long as the board of directors, the executive committee, or a
trust committee of directors or responsible officers of the Trustee in good
faith determines that the withholding of such notice is in the interest of the
Security holders. To the extent permitted by the Trust Indenture Act of 1939,
for purposes of this Section 7.10, the Trustee shall not be deemed to have
knowledge of a default (other than a default described in Sections 7.01(a) or
(b), provided the Trustee is acting as paying agent) unless a responsible
officer of the Trustee assigned to its corporate trust division shall, as such
officer, have actual knowledge thereof.
The term "default," as used in this Section 7.10, shall mean the happening
of any of the Events of Default specified in Section 7.01, except that, for the
purposes of this Section 7.10 only, there shall be eliminated from the
specification of any such Event of Default any reference therein to (i) the
continuance of any default or of any failure upon the part of the Company to
act, or the continuance in force of any decree or order, for
<PAGE> 57
48
any period of days therein specified and (ii) the giving of notice referred to
in paragraphs (d) and (e) of Section 7.01.
SECTION 7.11. Right of Court To Require Filing of Undertaking To Pay
Costs. All parties to this Indenture agree, and each holder of any Security by
his acceptance thereof shall be deemed to have agreed, that any court may in its
discretion require, in any suit for the enforcement of any right or remedy under
this Indenture or in any suit against the Trustee for any action taken, suffered
or omitted by it as Trustee, the filing by any party litigant in such suit of an
undertaking to pay the costs of such suit, and that such court may in its
discretion assess reasonable costs, including reasonable attorneys' fees,
against any party litigant in such suit, having due regard to the merits and
good faith of the claims or defenses made by such party litigant; but the
provisions of this Section 7.11 shall not apply to any suit instituted by the
Trustee, to any suit instituted by any holder or group of holders of Securities
of a series holding in the aggregate more than 10% in aggregate principal amount
of the Securities of such series then outstanding (or, in the case of any suit
relating to or arising under clause (d), (e), (f) or (g) of Section 7.01, 10% in
aggregate principal amount of all Securities then outstanding) or to any suit
instituted by any Security holder for the enforcement of the payment of the
principal of or premium, if any, or interest, if any, on any Security on or
after the due date expressed in such Security.
ARTICLE EIGHT
CONCERNING THE TRUSTEE
SECTION 8.01. Duties and Responsibility of the Trustee: Prior to Default;
During Default. The Trustee, prior to the occurrence of an Event of Default and
after the remedy or waiver of all Events of Default which may have occurred,
undertakes to perform such duties and only such duties as are specifically set
forth in this Indenture. In case an Event of Default has occurred (which has not
been remedied or waived) the Trustee shall exercise such of the rights and
powers vested in it by this Indenture, and use the same degree of care and skill
in their exercise, as a prudent man would exercise or use under the
circumstances in the conduct of his own affairs.
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49
No provision of this Indenture shall be construed to relieve the Trustee
from liability for its own negligent action, its own negligent failure to act,
or its own wilful misconduct, except that
(a) Prior to the occurrence of an Event of Default and after the
remedy or waiver of all such Events of Default which may have occurred:
(1) The duties and obligations of the Trustee shall be
determined solely by the express provisions of this Indenture, and
the Trustee shall not be liable except for the performance of such
duties and obligations as are specifically set forth in this
Indenture, and no implied covenants or obligations shall be read
into this Indenture against the Trustee; and
(2) In the absence of bad faith on the part of the Trustee,
the Trustee may conclusively rely, as to the truth of the statements
and the correctness of the opinions expressed therein, upon any
certificates or opinions furnished to the Trustee and conforming to
the requirements of this Indenture; but in the case of any such
certificates or opinions which by any provision hereof are
specifically required to be furnished to the Trustee, the Trustee
shall be under a duty to examine the same to determine whether or
not they conform to the requirements of this Indenture;
(b) The Trustee shall not be liable for any error of judgment made
in good faith by a responsible officer of the Trustee, unless it shall be
proved that the Trustee was negligent in ascertaining the pertinent facts;
and
(c) The Trustee shall not be liable with respect to any action taken
or omitted to be taken by it in good faith in accordance with the
direction of the holders of Securities pursuant to Section 7.09 relating
to the time, method and place of conducting any proceeding for any remedy
available to the Trustee, or exercising any trust or power conferred upon
the Trustee, under this Indenture.
None of the provisions contained in this Indenture shall require the
Trustee to expend or risk its own funds or otherwise incur personal Financial
liability in the performance of any of its duties or in the exercise of any of
its rights or powers, if there is reasonable ground for believing that the
repayment of such funds or adequate indemnity against such liability is not
reasonably assured to it.
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SECTION 8.02. Certain Rights of the Trustee. Subject to Section 8.01:
(a) The Trustee may rely and shall be protected in acting or
refraining from acting upon any resolution, Officers' Certificate or any
other certificate, statement, instrument, opinion, report, notice,
request, consent, order, bond, security or other paper or document
believed by it to be genuine and to have been signed or presented by the
proper party or parties;
(b) Any request, direction, order or demand of the Company mentioned
herein shall be sufficiently evidenced by an Officers' Certificate (unless
other evidence in respect thereof be herein specifically prescribed); and
any resolution of the Board of Directors may be evidenced to the Trustee
by a copy thereof certified by the secretary or an assistant secretary of
the Company;
(c) The Trustee may consult with counsel and any advice or Opinion
of Counsel shall be full and complete authorization and protection in
respect of any action taken, suffered or omitted to be taken by it
hereunder in good faith and in accordance with such advice or Opinion of
Counsel;
(d) The Trustee shall be under no obligation to exercise any of the
trusts or powers vested in it by this Indenture at the request, order or
direction of any of the Security holders pursuant to the provisions of
this Indenture, unless such Security holders shall have offered to the
Trustee reasonable security or indemnity against the costs, expenses and
liabilities which might be incurred therein or thereby;
(e) The Trustee shall not be liable for any action taken or omitted
by it in good faith and believed by it to be authorized or within the
discretion, rights or powers conferred upon it by this Indenture;
(f) Prior to the occurrence of an Event of Default and after the
remedy or waiver of all Events of Default, the Trustee shall not be bound
to make any investigation into the facts or matters stated in any
resolution, certificate, statement, instrument, opinion, report, notice,
request, consent, order, approval, appraisal, bond, security, or other
paper or document unless requested in writing so to do by the holders of
not less than a majority in aggregate principal amount of
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51
the Securities then outstanding of all series affected; provided, however,
that, if the payment within a reasonable time to the Trustee of the costs,
expenses or liabilities likely to be incurred by it in the making of such
investigation is, in the opinion of the Trustee, not reasonably assured to
the Trustee by the security afforded to it by the terms of this Indenture,
the Trustee may require reasonable indemnity against such expenses or
liabilities as a condition to so proceeding. The reasonable expenses of
every such examination shall be paid by the Company or, if paid by the
Trustee, shall be repaid by the Company upon demand; and
(g) The Trustee may execute any of the trusts or powers hereunder or
perform any duties hereunder either directly or by or through agents or
attorneys not regularly in its employ and the Trustee shall not be
responsible for any misconduct or negligence on the part of any such agent
or attorney appointed with due care by it hereunder.
SECTION 8.03. Recitals; Trustee Not Responsible for Disposition of
Securities or Application of Proceeds Thereof. All recitals contained herein and
in the Securities, except the Trustee's certificates of authentication, shall be
taken as the statements of the Company, and the Trustee assumes no
responsibility for the correctness of such recitals. The Trustee makes no
representation as to the validity or sufficiency of this Indenture or of the
Securities. The Trustee shall not be accountable for the use or application by
the Company of any of the Securities or of the proceeds thereof.
SECTION 8.04. Trustee May Hold Securities. The Trustee or any paying
agent, Security registrar or other agent, in its individual or any other
capacity, may become the owner or pledgee of Securities and, subject to the
provisions of Sections 8.08 and 8.13, may otherwise deal with, and collect
obligations owed to it by, the Company (and retain such collections for its own
account) with the same rights it would have if it were not the Trustee, paying
agent or Security registrar.
SECTION 8.05. Moneys Held by Trustee. Subject to the provisions of Section
13.04, all moneys received by the Trustee or by any paying agent shall, until
used or applied as herein provided, be held in trust for the purposes for which
they were received, but need not be segregated from other funds except to the
extent required by law. Neither the
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52
Trustee nor any paying agent shall be under any liability for interest on any
moneys received by it hereunder, except such as it shall agree to pay thereon.
SECTION 8.06. Compensation of Trustee and Its Prior Claim. The Company
covenants and agrees to pay to the Trustee from time to time, and the Trustee
shall be entitled to, reasonable compensation (which shall not be limited by any
provision of law in regard to the compensation of a trustee of an express trust)
and, except as otherwise expressly provided, the Company covenants and agrees to
pay or reimburse the Trustee upon its written request for all reasonable
expenses, disbursements and advances incurred or made by the Trustee in
accordance with any of the provisions of this Indenture (including the
reasonable compensation and the reasonable expenses and disbursements of its
counsel and of all persons not regularly in its employ) except any such expense,
disbursement or advance as may arise from negligence or bad faith on the part of
the Trustee. The Company also covenants to indemnify the Trustee for, and to
hold it harmless against, any loss, liability or expense incurred without
negligence or bad faith on the part of the Trustee, arising out of or in
connection with the acceptance or administration of this trust, including the
reasonable costs and expenses of defending itself against any claim of liability
in the premises. The obligations of the Company under this Section 8.06 to
compensate and indemnify the Trustee and to pay or reimburse the Trustee for
expenses, disbursements and advances shall constitute additional indebtedness
hereunder and shall survive the satisfaction and discharge of this Indenture.
Such additional indebtedness shall be secured by a claim prior to that of the
Securities upon all property and funds held or collected by the Trustee as such,
except funds held in trust for the benefit of the holders of particular
Securities.
SECTION 8.07. Right of Trustee To Rely on Officers' Certificate. Subject
to Section 8.01, whenever in the administration of the trusts of this Indenture
the Trustee shall deem it necessary or desirable that a matter be proved or
established prior to taking or suffering or omitting any action hereunder, such
matter (unless other evidence in respect thereof be herein specifically
prescribed) may, in the absence of negligence or bad faith on the part of the
Trustee, be deemed to be conclusively proved and established by an Officers'
Certificates delivered to the Trustee and such certificate, in the absence of
negligence or bad faith on the part of the Trustee, shall be full warrant to the
Trustee for any action taken,
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53
suffered or omitted by it under the provisions of this Indenture upon the faith
thereof.
SECTION 8.08. Qualification of Trustee; Resignation of Trustee With
Conflicting Interests. (a) If the Trustee has or shall acquire any conflicting
interest with respect to Securities of any series, as defined in this Section
8.08, it shall, within 90 days after ascertaining that it has such conflicting
interest, either eliminate such conflicting interest or resign in the manner and
with the effect specified in Section 8.10.
(b) In the event that the Trustee shall fail to comply with the provisions
of paragraph (a) of this Section 8.08, the Trustee shall, within 10 days after
the expiration of such 90 day period, transmit notice of such failure to the
Security holders in the manner and to the extent provided in paragraph (c) of
Section 6.04 with respect to reports pursuant to paragraph (a) of such Section
6.04.
(c) For the purposes of this Section 8.08 the Trustee shall be deemed to
have a conflicting interest with respect to Securities of any series if
(1) The Trustee is trustee under this Indenture with respect to the
outstanding Securities of any other series or is a trustee under another
indenture under which any other securities, or certificates of interest or
participation in any other securities, of the Company are outstanding,
unless such other indenture is a collateral trust indenture under which
the only collateral consists of Securities issued under this Indenture;
provided, however, that there shall be excluded from the operations of
this paragraph, this Indenture with respect to the Securities of any other
series and any other indenture or indentures under which other securities,
or certificates of interest or participation in other securities, of the
Company are outstanding if
(i) this Indenture, with respect to the Securities of such
series, and this Indenture with respect to such other series and
such other indenture or indentures are wholly unsecured, and such
other indenture or indentures are hereafter qualified under the
Trust Indenture Act of 1939, unless the Commission shall have found
and declared by order pursuant to Section 305(b) or Section 307(c)
of said Trust Indenture Act of 1939 that differences exist between
the provisions of this Indenture with respect to Securities of such
series and one or more other series, or the provisions of this
Indenture and the provisions of such other indenture or indentures
which are so likely to involve a material
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54
conflict of interest as to make it necessary in the public interest
or for the protection of investors to disqualify the Trustee from
acting as such under this Indenture or such other indenture or
indentures, or
(ii) the Company shall have sustained the burden of proving,
on application to the Commission and after opportunity for hearing
thereon, that trusteeship under this Indenture and such other
indenture or indentures is not so likely to involve a material
conflict of interest as to make it necessary in the public interest
or for the protection of investors to disqualify the Trustee from
acting as such under one of such indentures;
(2) The Trustee or any of its directors or executive officers is an
obligor upon Securities of any series or an underwriter for the Company;
(3) The Trustee directly or indirectly controls or is directly or
indirectly controlled by or is under direct or indirect common control
with the Company or an underwriter for the Company.
(4) The Trustee or any of its directors or executive officers is a
director, officer, partner, employee, appointee, or representative of the
Company, or of an underwriter (other than the Trustee itself) for the
Company who is currently engaged in the business of underwriting, except
that (i) one individual may be a director or an executive officer, or
both, of the Trustee and a director or an executive officer, or both, of
the Company but may not be at the same time an executive officer of both
the Trustee and the Company; (ii) if and so long as the number of
directors of the Trustee in office is more than nine, one additional
individual may be a director or an executive officer, or both, of the
Trustee and a director of the Company; and (iii) the Trustee may be
designated by the Company or by any underwriter for the Company to act in
the capacity of transfer agent, registrar, custodian, paying agent, fiscal
agent, escrow agent, or depositary, or in any other similar capacity, or,
subject to the provisions of clause (1) of this paragraph (c) of Section
8.08, to act as trustee, whether under an indenture or otherwise;
(5) 10% or more of the voting securities of the Trustee is
beneficially owned either by the Company or by any director, partner or
executive officer thereof, or 20% or more of such voting securities
<PAGE> 64
55
is beneficially owned, collectively, by any two or more of such persons;
or 10% or more of the voting securities of the Trustee is beneficially
owned either by an underwriter for the Company or by any director,
partner, or executive officer thereof, or is beneficially owned,
collectively, by any two or more such persons;
(6) The Trustee is the beneficial owner of, or holds as collateral
security for an obligation which is in default, (i) 5% or more of the
voting securities or 10% or more of any other class of security of the
Company, not including the Securities and securities issued under any
other indenture under which the Trustee is also trustee, or (ii) 10% or
more of any class of security of an underwriter for the Company;
(7) The Trustee is the beneficial owner of, or holds as collateral
security for an obligation which is in default, 5% or more of the voting
securities of any person who, to the knowledge of the Trustee, owns 10% or
more of the voting securities of, or controls directly or indirectly or is
under direct or indirect common control with, the Company;
(8) The Trustee is the beneficial owner of, or holds as collateral
security for an obligation which is in default, 10% or more of any class
of security of any person who, to the knowledge of the Trustee, owns 50%
or more of the voting securities of the Company; or
(9) The Trustee owns on May 15 in any calendar year, in the capacity
of executor, administrator, testamentary or inter vivos trustee, guardian,
committee or conservator, or in any other similar capacity, an aggregate
of 25% or more of the voting securities, or of any class of security, of
any person, the beneficial ownership of a specified percentage of which
would have constituted a conflicting interest under clauses (6), (7) or
(8) of this paragraph (c) of Section 8.08. As to any such securities of
which the Trustee acquired ownership through becoming executor,
administrator, or testamentary trustee of an estate which included them,
the provisions of the preceding sentence shall not apply, for a period of
two years from the date of such acquisition, to the extent that such
securities included in such estate do not exceed 25% of such voting
securities or 25% of any such class of security. Promptly after May 15 in
each calendar year, the Trustee shall make a check of its holdings of such
securities in any of the above-mentioned capacities as of such May 15. If
the Company
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fails to make payment in full of principal of or interest on any of the
Securities when and as the same becomes due and payable, and such failure
continues for 30 days thereafter, the Trustee shall make a prompt check of
its holdings of such securities in any of the above-mentioned capacities
as of the date of the expiration of such 30-day period, and after such
date, notwithstanding the foregoing provisions of this paragraph, all such
securities so held by the Trustee, with sole or joint control over such
securities vested in it, shall, but only so long as such failure shall
continue, be considered as though beneficially owned by the Trustee for
the purposes of clauses (6), (7) or (8) of this paragraph (c) of Section
8.08.
The specification of percentages in clauses (5) to (9) inclusive of this
Paragraph (c) of Section 8.08 shall not be construed as indicating that the
ownership of such percentages of the securities of a person is or is not
necessary or sufficient to constitute direct or indirect control for the
purposes of clauses (3) or (7) of this paragraph (c) of Section 8.08.
For the purposes of clauses (6), (7), (8) and (9) only of this paragraph
(c) of Section 8.08, (i) the terms "security" and "securities" shall include
only such securities as are generally known as corporate securities, but shall
not include any note or other evidence of indebtedness issued to evidence an
obligation to repay moneys lent to a person by one or more banks, trust
companies, or banking firms, or any certificate of interest or participation in
any such note or evidence of indebtedness; (ii) an obligation shall be deemed to
be in default when a default in payment of principal shall have continued for 30
days or more and shall not have been remedied; and (iii) the Trustee shall not
be deemed to be the owner or holder of (A) any security which it holds as
collateral security, as trustee or otherwise, for an obligation which is not in
default as defined in clause (ii) above, or (B) any security which it holds as
collateral security under this Indenture, irrespective of any default hereunder,
or (C) any security which it holds as agent for collection, or as custodian,
escrow agent, or depositary, or in any similar representative capacity.
Except as provided above, the word "security" or "securities" as used in
this Indenture shall mean any note, stock, treasury stock, bond, debenture,
evidence of indebtedness, certificate of interest or participation in any
profit-sharing agreement, collateral trust certificate, preorganization
certificate or subscription, transferable share, investment contract, voting
trust certificate, certificate of deposit for a security, fractional undivided
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interest in oil, gas or other mineral rights, or, in general, any interest or
instrument commonly known as a security," or any certificate of interest or
participation in, temporary or interim certificate for, receipt for, guarantee
of, or warrant or right to subscribe to or purchase, any of the foregoing.
(d) For purposes of this Section 8.08:
(1) The term "underwriter" when used with reference to the
Company shall mean every person who, within three years prior to the
time as of which the determination is made, has purchased from the
Company with a view to, or has offered or sold for the Company in
connection with, the distribution of any security of the Company
outstanding at such time, or has participated or has had a direct or
indirect participation in any such undertaking, or has participated
or has had a participation in the direct or indirect underwriting of
any such undertaking, but such term shall not include a person whose
interest was limited to a commission from an underwriter or dealer
not in excess of the usual and customary distributors' or sellers'
commission;
(2) The term "director" shall mean any director of a
corporation or any individual performing similar functions with
respect to any organization whether incorporated or unincorporated;
(3) The term "person" shall mean an individual, a corporation,
a partnership, an association, a joint-stock company, a trust, an
unincorporated organization, or a government or political
subdivision thereof. As used in this paragraph (d) of Section 8.08,
the term "trust" shall include only a trust where the interest or
interests of the beneficiary or beneficiaries are evidenced by a
security;
(4) The term "voting security" shall mean any security
presently entitling the owner or holder thereof to vote in the
direction or management of the affairs of a person, or any security
issued under or pursuant to any trust, agreement or arrangement
whereby a trustee or trustees or agent or agents for the owner or
holder of such security are presently entitled to vote in the
direction or management of the affairs of a person;
(5) The term "Company" shall mean any obligor upon the
Securities; and
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(6) The term "executive officer" shall mean the president,
every vice president, every trust officer, the cashier, the
secretary, and the treasurer of a corporation, and any individual
customarily performing similar functions with respect to any
organization whether incorporated or unincorporated, but shall not
include the chairman of the board of directors.
(e) The percentages of voting securities and other securities
specified in this Section 8.08 shall be calculated in accordance with the
following provisions:
(1) A specified percentage of the voting securities of the
Trustee, the Company or any other person referred to in this Section
8.08 (each of whom is referred to as a "person" in this paragraph
(e)) means such amount of the outstanding voting securities of such
person as entities the holder or holders thereof to cast such
specified percentage of the aggregate votes which the holders of all
the outstanding voting securities of such person are entitled to
cast in the direction or management of the affairs of such person;
(2) A specified percentage of a class of securities of a
person means such percentage of the aggregate amount of securities
of the class outstanding;
(3) The term "amount," when used in regard to securities,
means the principal amount if relating to evidences of indebtedness,
the number of shares if relating to capital shares, and the number
of units if relating to any other kind of security;
(4) The term "outstanding" means issued and not held by or for
the account of the issuer. The following securities shall not be
deemed outstanding within the meaning of this definition:
(i) securities of an issuer held in a sinking fund
relating to securities of the issuer of the same class;
(ii) securities of an issuer held in a sinking fund
relating to another class of securities of the issuer, if the
obligation evidenced by such other class of securities is not
in default as to principal or interest or otherwise;
(iii) securities pledged by the issuer thereof as
security for an obligation of the issuer not in default as to
principal or interest or otherwise; and
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(iv) securities held in escrow if placed in escrow by
the issuer thereof;
Provided, however, that any voting securities of an issuer shall be
deemed outstanding if any person other than the issuer is entitled
to exercise the voting rights thereof; and
(5) a security shall be deemed to be of the same class as
another security if both securities confer upon the holder or
holders thereof substantially the same rights and privileges;
provided, however, that, in the case of secured evidences of
indebtedness, all of which are issued under a single indenture,
differences in the interest rates or maturity dates of various
series thereof shall not be deemed sufficient to constitute such
series different classes and provided, further, that, in the case of
unsecured evidences of indebtedness, differences in the interest
rates or maturity dates thereof shall not be deemed sufficient to
constitute them securities of different classes, whether or not they
are issued under a single indenture.
SECTION 8.09. Persons Eligible for Appointment as Trustee. The Trustee for
each series of Securities hereunder shall at all times be a corporation
organized and doing business under the laws of the United States of America or
of any State thereof, or of the District of Columbia, shall have a combined
capital and surplus of at least $100,000,000, shall be authorized under such
laws to exercise corporate trust powers and shall be subject to supervision or
examination by Federal, State or District of Columbia authority, if there be
such a corporation willing to act upon reasonable and customary terms and
conditions. If such corporation publishes reports of condition at least
annually, pursuant to law or to the requirements of the aforesaid supervising or
examining authority, then for the purposes of this Section 8.09, the combined
capital and surplus of such corporation shall be deemed to be its combined
capital and surplus as set forth in its most recent report of condition so
published. In case at any time the Trustee shall cease to be eligible in
accordance with the provisions of this Section 8.09, the Trustee shall resign
immediately in the manner and with the effect specified in Section 8.10.
SECTION 8.10. Resignation and Removal; Appointment of Successor Trustee.
(a) The Trustee may at any time resign with respect to one or more or all series
of Securities by giving written notice of resignation to the Company and to
holders of Securities of the applicable series at their
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addresses as they shall appear on the register. Upon receiving such notice of
resignation, the Company shall promptly appoint a successor trustee by written
instrument in duplicate, executed by order of the Board of Directors, or
pursuant to a written instrument executed by one or more duly authorized
officers of the Company, one copy of which instrument shall be given to the
resigning Trustee and one copy to the successor trustee. If no successor trustee
shall have been so appointed and have accepted appointment within 30 days after
the giving of such notice of resignation, the resigning trustee may petition any
court of competent jurisdiction for the appointment of a successor trustee, or
any Security holder who has been a bona fide holder of a Security of the
applicable series for at least six months may, subject to the provisions of
Section 7.1 1, on behalf of himself and all others similarly situated, petition
any such court for the appointment of a successor trustee. Such court may
thereupon, after such notice, if any, as it may deem proper and prescribe,
appoint a successor trustee.
In case at any time any of the following shall occur:
(1) The Trustee shall fail to comply with the provisions of
Paragraph (a) of Section 8.08 with respect to any series of Securities
after written request therefor by the Company or by any Security holder
who has been a bona fide holder of a Security of such series for at least
six months; or
(2) The Trustee shall cease to be eligible in accordance with the
provisions of Section 8.09 and shall fail to resign after written request
therefor by the Company or by any such Security holder; or
(3) The Trustee shall become incapable of acting, or shall be
adjudged a bankrupt or insolvent, or a receiver or similar official of the
Trustee or of its property shall be appointed, or any public officer shall
take charge or control of the Trustee or of its property or affairs for
the purpose of rehabilitation, conservation or liquidation;
then, in any such case, the Company may remove the Trustee with respect to
the applicable series and appoint a successor trustee by written instrument, in
duplicate, executed by order of the Board of Directors or pursuant to a written
instrument executed by one or more duly authorized officers of the Company, one
copy of which instrument shall be delivered to the Trustee so removed and one
copy to the successor trustee, or, subject to the provisions of Section 7.11,
any Security holder who has been a bona fide holder of a Security of such series
for at least six months may on behalf of himself and all others similarly
situated, petition any court of
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competent jurisdiction for the removal of the Trustee and the appointment of a
successor trustee. Such court may thereupon, after such notice, if any, as it
may deem proper and prescribe, remove the Trustee and appoint a successor
trustee.
(c) The holders of at least a majority in aggregate principal amount of
the Securities of one or more series (each series voting as a class) or all
series at the time outstanding (voting as one class) may at any time remove the
Trustee with respect to the applicable series or all series, as the case may be,
and appoint a successor trustee by delivering to the Trustee so removed, to the
successor trustee so appointed and to the Company the evidence provided for in
Section 9.01 of the action in that regard taken by the Security holders.
(d) Any resignation or removal of the Trustee with respect to any series
and any appointment of a successor trustee pursuant to any of the provisions of
this Section 8.10 shall become effective upon acceptance of appointment by the
successor trustee as provided in Section 8.11.
SECTION 8.11. Acceptance of Appointment by Successor Trustee. Any
successor trustee appointed as provided in Section 8.10 shall execute,
acknowledge and deliver to the Company and to its predecessor trustee an
instrument accepting such appointment hereunder, and thereupon the resignation
or removal of the predecessor trustee shall become effective and such successor
trustee, without any further act, deed or conveyance, shall become vested with
all rights, powers, duties and obligations of its predecessor hereunder, with
like effect as if originally named as trustee herein; but, nevertheless, on the
written request of the Company or of the successor trustee, upon payment of its
charges then unpaid, the trustee ceasing to act shall, subject to Section 13.04,
pay over to the successor trustee all moneys at the time held by it hereunder
and shall execute and deliver an instrument transferring to such successor
trustee all such rights, powers, duties and obligations. Upon request of any
such successor trustee, the Company shall execute any and all instruments in
writing for more fully and certainly vesting in and confirming to such successor
trustee all such rights and powers. Any trustee ceasing to act shall,
nevertheless, retain a prior claim upon all property or funds held or collected
by such trustee to secure any amounts then due it pursuant to the provisions of
Section 8.06.
No successor trustee with respect to any series of Securities shall accept
appointment as provided in this Section 8.11 unless at the time of
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such acceptance such successor trustee shall not have any conflicting interest
as set forth in Section 8.08 and shall be eligible under the provisions of
Section 8.09.
In case of the appointment hereunder of a successor trustee with respect
to Securities of one or more (but not all) series, the Company, the predecessor
trustee and each successor trustee with respect to the Securities of any
applicable series shall execute and deliver an indenture supplemental hereto
which shall contain such provisions as shall be deemed necessary or desirable to
confirm that all the rights, powers, trusts and duties of the predecessor
trustee with respect to the Securities of any series as to which the predecessor
trustee is not retiring shall continue to be vested in the predecessor trustee,
and shall add to or change any of the provisions of this Indenture as shall be
necessary to provide for or facilitate the administration of the trusts
hereunder by more than one trustee, it being understood that nothing herein or
in such supplemental indenture shall constitute such trustees co-trustees of the
same trust and that each such trustee shall be trustee of a trust or trusts
hereunder separate and apart from any trust or trusts hereunder administered by
any other such trustee.
Upon acceptance of appointment by a successor trustee as provided in this
Section 8.11, the Company shall give notice thereof to the holders of Securities
of any applicable series at their addresses as they shall appear on the
register. If the Company fails to give such notice within 15 days after
acceptance of appointment by the successor trustee, the successor trustee shall
cause such notice to be given at the expense of the Company.
SECTION 8.12. Merger, Conversion or Consolidation of Trustee. Any
corporation into which the Trustee may be merged or converted or with which it
may be consolidated, or any corporation resulting from any merger, conversion or
consolidation to which the Trustee shall be a party, or any corporation
succeeding to the corporate trust business of the Trustee, shall be the
successor of the Trustee hereunder, provided that such corporation shall not
have any conflicting interest as set forth in Section 8.08 and shall be eligible
under the provisions of Section 8.09, without the execution or filing of any
paper or any further act on the part of any of the parties hereto, anything
herein to the contrary notwithstanding.
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In case at the time such successor to the Trustee shall succeed to the
trusts created by this Indenture any of the Securities shall have been
authenticated but not delivered, any such successor to the Trustee may adopt the
certificate of authentication of any predecessor Trustee and deliver such
Securities so authenticated; and in case at that time any of the Securities
shall not have been authenticated, any successor to the Trustee may authenticate
such Securities either in the name of any predecessor hereunder or in the name
of the successor Trustee; and in all such cases such certificate shall have the
full force which it is anywhere in the Securities or in this Indenture provided
that the certificate of the Trustee shall have; provided, however, that the
right to adopt the certificate of authentication of any predecessor Trustee or
to authenticate Securities in the name of any predecessor Trustee shall apply
only to its successors by merger, conversion or consolidation.
SECTION 8.13. Preferential Collection of Claims Against the Company. (a)
Subject to the provisions of paragraph (b) of this Section 8.13, if the Trustee
shall be or shall become a creditor, directly or indirectly, secured or
unsecured, of the Company within four months prior to a default, as defined in
paragraph (c) of this Section 8.13, or subsequent to such a default, then,
unless and until such default shall be cured, the Trustee shall set apart and
hold in a special account for the benefit of the Trustee individually, the
holders of the Securities and the holders of other indenture securities (as
defined in paragraph (c) of this Section 8.13):
(1) An amount equal to any and all reductions in the amount due and
owing upon any claim as such creditor in respect of principal or interest,
effected after the beginning of such four months' period and valid as
against the Company and its other creditors, except any such reduction
resulting from the receipt or disposition of any property described in
clause (2) of this paragraph (a) of this Section 8.13, or from the
exercise of any right of set-off which the Trustee could have exercised if
a petition in bankruptcy had been filed by or against the Company upon the
date of such default; and
(2) All property received by the Trustee in respect of any claim as
such creditor, either as security therefor, or in satisfaction or
composition thereof, or otherwise, after the beginning of such four
months' period, or an amount equal to the proceeds of any such property,
if disposed of, subject, however, to the rights, if any, of the Company
and its other creditors in such property or such proceeds.
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Nothing herein contained, however, shall affect the right of the Trustee:
(A) to retain for its own account (i) payments made on account of
any such claim by any person (other than the Company) who is liable
thereon, and (ii) the proceeds of the bona fide sale of any such claim by
the Trustee to a third person, and (iii) distributions made in cash,
securities, or other property in respect of claims filed against the
Company in bankruptcy or receivership or in proceedings for reorganization
pursuant to the Bankruptcy Act or applicable State law;
(B) to realize, for its own account, upon any property held by it as
security for any such claim, if such property was so held prior to the
beginning of such four months' period;
(C) to realize, for its own account, but only to the extent of the
claim hereinafter mentioned, upon any property held by it as security for
any such claim, if such claim was created after the beginning of such four
months' period and such property was received as security therefor
simultaneously with the creation thereof, and if the Trustee shall sustain
the burden of proving that at the time such property was so received the
Trustee had no reasonable cause to believe that a default as defined in
paragraph (c) of this Section 8.13 would occur within four months; or
(D) to receive payment on any claim referred to in clause (B) or (C)
above, against the release of any property held as security for such claim
as provided in such clause (B) or (C), as the case may be, to the extent
of the fair value of such property.
For the purposes of clauses (B), (C) and (D) above, property
substituted after the beginning of such four months' period for property
held as security at the time of such substitution shall, to the extent of
the fair value of the property released, have the same status as the
property released, and, to the extent that any claim referred to in any of
such paragraphs is created in renewal of or in substitution for or for the
purpose of repaying or refunding any pre-existing claim of the Trustee as
such creditor, such claim shall have the same status as such pre-existing
claim.
If the Trustee shall be required to account, the funds and property
held in such special account and the proceeds thereof shall be apportioned
between the Trustee, the Security holders and the holders of other
indenture securities in such manner that the Trustee, the Security holders
and the holders of other indenture securities
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realize, as a result of payments from such special account and payments of
dividends on claims filed against the Company in bankruptcy or
receivership or in proceedings for reorganization pursuant to the
Bankruptcy Act or applicable State law, the same percentage of their
respective claims, figured before crediting to the claim of the Trustee
anything on account of the receipt by it from the Company of the funds and
property in such special account and before crediting to the respective
claims of the Trustee, the Security holders and the holders of other
indenture securities dividends on claims filed against the Company in
bankruptcy or receivership or in proceedings for reorganization pursuant
to the Bankruptcy Act or applicable State law, but after crediting thereon
receipts on account of the indebtedness represented by their respective
claims from all sources other than from such dividends and from the funds
and property so held in such special account. As used in this paragraph,
with respect to any claim, the term "dividends" shall include. any
distribution with respect to such claim, in bankruptcy or receivership or
in proceedings for reorganization pursuant to the Bankruptcy Act or
applicable State law, whether such distribution is made in cash,
securities or other property, but shall not include any such distribution
with respect to the secured portion, if any, of such claim. The court in
which such bankruptcy, receivership or proceeding for reorganization is
pending shall have jurisdiction (i) to apportion between the Trustee, the
Security holders and the holders of other indenture securities, in
accordance with the provisions of this paragraph, the funds and property
held in such special account and the proceeds thereof, or (ii) in lieu of
such apportionment, in whole or in part, to give to the provisions of this
paragraph due consideration in determining the fairness of the
distributions to be made to the Trustee, the Security holders and the
holders of other indenture securities with respect to their respective
claims, in which event it shall not be necessary to liquidate or to
appraise the value of any securities or other property held in such
special account or as security for any such claim, or to make a specific
allocation of such distributions as between the secured and unsecured
portions of such claims, or otherwise to apply the provisions of this
paragraph as a mathematical formula.
Any Trustee who has resigned or been removed after the beginning of
such four months' period shall be subject to the provisions of this
paragraph (a) of Section 8.13 as though such resignation or
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removal had not occurred. If any Trustee has resigned or been removed
prior to the beginning of such four months' period, it shall be subject to
the provisions of this paragraph (a) of Section 8.13 if and only if the
following conditions exist:
(i) the receipt of property or reduction of claim which would have
given rise to the obligation to account, if such Trustee had continued as
trustee, occurred after the beginning of such four months' period; and
(ii) such receipt of property or reduction of claim occurred within
four months after such resignation or removal.
(b) There shall be excluded from the operation of paragraph (a) of this
Section 8.13 a creditor relationship arising from
(1) The ownership or acquisition of securities issued under any
indenture, or any security or securities having a maturity of one year or
more at the time of acquisition by the Trustee;
(2) Advances authorized by a receivership or bankruptcy court of
competent jurisdiction or by this Indenture for the purpose of preserving
any property which shall at any time be subject to the lien of this
Indenture or of discharging tax liens or other prior liens or encumbrances
thereon, if notice of such advance and of the circumstances surrounding
the making thereof is given to the Security holders at the time and in the
manner provided in this Indenture;
(3) Disbursements made in the ordinary course of business in the
capacity of trustee under an indenture, transfer agent, registrar,
custodian, paying agent, fiscal agent or depositary, or other similar
capacity;
(4) An indebtedness created as a result of services rendered or
premises rented or an indebtedness created as a result Of goods or
securities sold in a cash transaction as defined in paragraph (c) of this
Section 8.13;
(5) The ownership of stock or of other securities of a corporation
organized under the provisions of Section 25(a) of the Federal Reserve
Act, as amended, which is directly or indirectly a creditor of the
Company; or
(6) The acquisition, ownership, acceptance or negotiation of any
drafts, bills of exchange, acceptance or obligations which
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fall within the classification of self-liquidating paper as defined in
paragraph (c) of this Section 8.13.
(c) As used in this Section 8.13:
(1) The term "default" shall mean any failure to make payment in
full of the principal of or interest upon any of the Securities or upon
the other indenture securities when and as such principal or interest
becomes due and payable;
(2) The term "other indenture securities" shall mean securities upon
which the Company is an obligor (as defined in the Trust Indenture Act of
1939) outstanding under any other indenture (i) under which the Trustee is
also trustee, (ii) which contains provisions substantially similar to the
provisions of paragraph (a) of this Section 8.13, and (iii) under which a
default exists at the time of the apportionment of the funds and property
held in said special account;
(3) The term "cash transaction" shall mean any transaction in which
full payment for goods or securities sold is made within seven days after
delivery of the goods or securities in currency or in checks or other
orders drawn upon banks or bankers and payable upon demand;
(4) The term "self-liquidating paper" shall mean any draft, bill of
exchange, acceptance or obligation which is made, drawn, negotiated or
incurred by the Company for the purpose of financing the purchase,
processing, manufacture, shipment, storage or sale of goods, wares or
merchandise and which is secured by documents evidencing title to,
possession of, or a lien upon the goods, wares or merchandise or the
receivables or proceeds arising from the sale of the goods, wares or
merchandise previously constituting the security; provided, however, that
the security is received by the Trustee simultaneously with the creation
of the creditor relationship with the Company arising from the making,
drawing, negotiating or incurring of the draft, bill of exchange,
acceptance or obligation; and
(5) The term "Company" shall mean any obligor upon the Securities.
SECTION 8.14. Limitation on Role of Trustee in Participating in
Solicitation of Consents, Authorizations, Etc. Subject to the provisions
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of paragraph (b) of Section 6.02 and the provisions of Section 8.01, if the
Company or any other person (other than the Trustee) shall wish to communicate
with holders of the Securities to solicit or obtain from them any consent,
amendment, authorization, proxy, waiver, approval of a plan of reorganization,
arrangement, adjustment or composition or other action each of which acts shall
herein be called a "Security holder Action"), the Trustee shall have no duty to
participate in such communication or solicitation or the processing of responses
in any manner except (a) to furnish the rules and regulations and to perform the
functions referred to in Sections 9.02, 10.02 and 10.05 and (b) to receive (i)
instruments evidencing the Security holder Action together with (ii) the
Officers' Certificate and Opinion of Counsel referred to below. The Company
hereby covenants that any and all communications and solicitations distributed
by it in connection with any Security holder Action will comply in all material
respects with applicable law, including without limitation laws concerning
adequacy of disclosure. The Trustee shall have no responsibility for the
accuracy or completeness of any materials circulated to solicit any Security
holder Action nor for any related communications nor for the compliance thereof
with applicable law. No Security holder Action shall become effective until the
Trustee shall have received from the Company or other person who solicited the
Security holder Action (a) the instruments evidencing such Action as provided in
Section 9.01, and (b) (i) (in the case of Security holder Action solicited by
the Company or the representative of the Company's estate if the Company is the
debtor in any bankruptcy or other insolvency proceeding) an Officers'
Certificate and (ii) (in all cases) an Opinion of Counsel, each specifying the
Security holder Action taken and stating that such Security holder Action has
been duly and validly taken in compliance with this Indenture in all material
respects. Such Officers' Certificate, if any, shall also certify that, after
giving effect to such Security holder Action, no Event of Default would have
occurred and would be continuing or, if continuing, would not have been waived.
ARTICLE NINE
CONCERNING THE SECURITY HOLDERS
SECTION 9.01. Evidence of Action Taken by Security Holders. Whenever in
this Indenture it is provided that the holders of a specified percentage in
aggregate principal amount of the Securities of any or all series may take any
action (including the making of any demand or
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request, the giving of any notice, consent or waiver or the taking of any other
action) the fact that at the time of taking any such action the holders of such
specified percentage have joined therein may be evidenced (i) by any instrument
or any number of instruments of similar tenor executed by Security holders in
person or by agent or proxy appointed in writing, or (ii) by the record of the
holders of Securities voting in favor thereof at any meeting of Security holders
duly called and held in accordance with the provisions of Article Ten, or (iii)
by a combination of such instrument or instruments and any such record of such a
meeting of Security holders.
SECTION 9.02. Proof of Execution of Instruments and of Holding of
Securities. Subject to the provisions of Section 8.01, 8.02, 9.01 and 10.05,
proof of the execution of any instrument by a Security holder or his agent or
proxy and proof of the holding by any person of any of the Securities shall be
sufficient if made in accordance with such reasonable rules and regulations as
may be prescribed by the Trustee or in such manner as shall be satisfactory to
the Trustee. The ownership of Securities shall be proven by the register or by a
certificate of the Security registrar.
The record of any Security holders' meeting shall be proved in the manner
provided in Section 10.06.
SECTION 9.03. Holders of Securities May Be Treated as Owners. Prior to due
presentation of any Security for registration of transfer, the Company, the
Trustee, any paying agent, any conversion agent and any Security registrar may
deem and treat the person in whose name such Security shall be registered in the
register as the absolute owner of such Security (whether or not such Security
shall be overdue and notwithstanding any notation of ownership or other writing
thereon made by anyone) for the purpose of receiving payment of or on account of
the principal of, premium, if any, on and (subject to the provisions of Section
2.10) interest, if any, on such Security and for all other purposes; and neither
the Company nor the Trustee nor any paying agent nor any conversion agent nor
any Security registrar shall be affected by any notice to the contrary. All such
payments so made to any such registered holder, or upon his order, shall be
valid and, to the extent of the sum or sums so paid, effectual to satisfy and
discharge the liability for moneys payable upon any such Security.
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SECTION 9.04. Securities Owned by Company Deemed Not Outstanding. In
determining whether the holders of the requisite aggregate principal amount of
Securities have concurred in any direction, consent or waiver under this
Indenture, Securities which are owned by the Company or any other obligor on the
Securities or by any person directly or indirectly controlling or controlled by
or under direct or indirect common control with the Company or any other obligor
on the Securities shall be disregarded and deemed not to be outstanding for the
purpose of any such determination, except that for the purpose of determining
whether the Trustee shall be protected in relying on any such direction, consent
or waiver only Securities which the Trustee knows are so owned shall be so
disregarded. Securities so owned which have been pledged in good faith may be
regarded as outstanding if the pledgee establishes to the satisfaction of the
Trustee the pledgee's right so to act with respect to such Securities and that
the pledgee is not the Company or any other obligor upon the Securities or any
person directly or indirectly controlling or controlled by or under direct or
indirect common control with the Company or any other obligor on the Securities.
In case of a dispute as to such right, the advice of counsel shall be full
protection in respect of any decision made by the Trustee in accordance with
such advice.
SECTION 9.05. Right of Revocation of Action Taken. At any time prior to
(but not after) the evidencing to the Trustee, as provided in Section 9.01, of
the taking of any action by the holders of the percentage in aggregate principal
amount of the Securities of any or all series, as the case may be, specified in
this Indenture in connection with such action, any holder of a Security the
serial number of which is shown by the evidence to be included among the serial
numbers of the Securities the holders of which have consented to such action
may, by filing written notice at the Corporate Trust Office of the Trustee and
upon proof of holding as provided in Section 9.02, revoke such action so far as
concerns such Security. Except as aforesaid any such action taken by the holder
of any Security shall be conclusive and binding
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upon the Company, the Trustee and the holders of all the Securities affected by
such action.
ARTICLE TEN
SECURITY HOLDERS' MEETINGS
SECTION 10.01. Purposes for Which Security Holders' Meetings May Be
Called. A meeting of holders of Securities of any or all series may be called at
any time and from time to time pursuant to the provisions of this Article Ten
for any of the following purposes:
(a) To give any notice to the Company or to the Trustee, or to give
any directions to the Trustee, or to waive any default hereunder and its
consequences, or to take any other action authorized to be taken by
Security holders, pursuant to any of the provisions of Article Seven;
(b) To remove the Trustee and appoint a successor trustee pursuant
to the provisions of Section 8.10;
(c) To consent to the execution of an indenture or indentures
supplemental hereto pursuant to the provisions of Section 11.02; or
(d) To take any other action authorized to be taken by or on behalf
of the holders of any specified aggregate principal amount of the
Securities of any or all series under any other provision of this
Indenture or under applicable law.
SECTION 10.02. Trustee May Call Meeting. The Trustee may at any time call
a meeting of Security holders of any or all series to take any action specified
in Section 10.01, to be held at such time and at such place in the Borough of
Manhattan, The City of New York, State of New York, as the Trustee shall
determine. Notice of each meeting of the Security holders of any or all series,
setting forth the time and the place of such meeting and in general terms the
action proposed to be taken at such meeting, shall be given to the holders of
Securities of each series affected, at their last addresses as they shall appear
on the register, not less than 20 nor more than 90 days prior to the date fixed
for such meeting.
SECTION 10.03. Company and Security Holders May Call Meeting. The Company,
pursuant to a resolution of its Board of Directors, or the holders of at least
10% in aggregate principal amount of Securities then outstanding of any or all
series, may at any time request the Trustee
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to call a meeting of Security holders of any or all series, as the case may be,
to take any action authorized in Section 10.01. Such request shall be in
writing, setting forth in reasonable detail the action proposed to be taken at
such meeting. If the Trustee shall not give notice of such meeting to the
Security holders of the appropriate series within 20 days after receipt of such
written request, then the Company or the holders, in the amount specified, may
determine the time and the place in the Borough of Manhattan, The City of New
York, State of New York for such meeting and may call such meeting by giving
notice thereof as provided in Section 10.02.
SECTION 10.04. Persons Entitled To Vote at Meeting. To be entitled to vote
at any meeting of Security holders a person shall (i) be a registered holder of
one or more Securities of a series with respect to which the meeting is being
held; or (ii) be a person appointed by an instrument in writing as proxy by a
registered holder of one or more securities of such series. The only persons who
shall be entitled to be present or to speak at any meeting of the Security
holders shall be the persons entitled to vote at such meeting and their counsel
and any representative of the Trustee and its counsel and any representative of
the Company and its counsel.
SECTION 10.05. Determination of Voting Rights; Conduct and Adjournment of
Meeting. Notwithstanding any other provisions of this Indenture, the Trustee may
make such reasonable regulations as it may deem advisable for any meeting of
Security holders in regard to proof of the holding of Securities and of the
appointment of proxies and in regard to the appointment and duties of inspectors
of votes, the submission and examination of proxies, certificates and other
evidence of the right to vote, and such other matters concerning the conduct of
the meeting as it shall think fit. The holding of Securities and the appointment
of any proxy shall be proved in the manner specified in Section 9.02.
The Trustee shall, by an instrument in writing, appoint a temporary
chairman of the meeting, unless the meeting shall have been called by the
Company or by Security holders as provided in Section 10.03, in which case the
Company or the Security holders calling the meeting, as the case may be, shall
in like manner appoint a temporary chairman. A permanent chairman and a
permanent secretary of the meeting shall be elected by vote of the holders of at
least a majority in principal amount of the Securities represented at the
meeting and entitled to vote.
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Subject to the provisions of Section 10.04, at any meeting each Security
holder or proxy shall be entitled to one vote for each $1,000 principal amount
(in the case of Original Issue Discount Securities, such principal amount for
all purposes of this Section 10.05 to be determined as provided in the last
paragraph of the definition of the term "outstanding" set forth in Section 1.01)
of Securities held or represented by him; provided, however, that no vote shall
be cast or counted at the meeting in respect of any Security challenged as not
outstanding and ruled by the chairman of the meeting to be not outstanding. The
chairman of the meeting shall have no right to vote except as a Security holder
or proxy. Any meeting of Security holders duly called pursuant to the provisions
of Section 10.02 or 10.03 may, by vote of the holders of at least a majority in
principal amount of the Securities represented at the meeting and entitled to
vote, be adjourned from time to time, and the meeting may be held as so
adjourned without further notice. At any meeting of Security holders, the
presence of persons holding or representing Securities in an aggregate principal
amount sufficient to take action on the business for the transaction of which
such meeting was called shall constitute a quorum, but if less than a quorum be
present, the persons holding or representing at least a majority in aggregate
principal amount of the Securities represented at the meeting and entitled to
vote may adjourn such meeting from time to time with the same effect, for all
intents and purposes, as though a quorum had been present; and the meeting may
be held as so adjourned without further notice.
SECTION 10.06. Counting Vote and Recording Action of Meeting. The vote
upon any resolution submitted to any meeting of Security holders shall be by
written ballots on which shall be subscribed the signatures of the Security
holders or proxies and the principal amounts of the Securities being voted by
them. The permanent chairman of the meeting shall appoint two inspectors of
votes who shall count all votes cast at the meeting for or against any
resolution and who shall make and file with the secretary of the meeting their
verified written reports in duplicate of all votes cast at the meeting. A record
in duplicate of the proceedings of each meeting of Security holders shall be
prepared by the secretary of the meeting and there shall be attached to said
record the original reports of the inspectors of votes on any vote by ballot
taken thereat and affidavits by one or more persons having knowledge of the
facts setting forth a copy of the notice of the meeting and showing that said
notice was mailed as provided in Section 10.02. The record shall be signed and
verified by the
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affidavits of the permanent chairman and secretary of the meeting and one of the
duplicates shall be delivered to the Company and the other to the Trustee to be
preserved by the Trustee, the latter to have attached thereto the ballots voted
at the meeting.
Any record so signed and verified shall be conclusive evidence of the
matters therein stated.
SECTION 10.07. Call of Meeting Not To Affect Rights of Trustee and
Security Holders. Nothing in this Article Ten contained shall be deemed or
construed to authorize or permit, by reason of any call of a meeting of Security
holders or any rights expressly or impliedly conferred hereunder to make such
call, any hindrance or delay in the exercise of any right or rights conferred
upon or reserved to the Trustee or to the Security holders under any of the
provisions of this Indenture or of the Securities.
ARTICLE ELEVEN
SUPPLEMENTAL INDENTURES
SECTION 11.01. Supplemental Indentures Without Consent of Security
Holders. The Company, when authorized by a resolution of its Board of Directors,
and the Trustee may from time to time and at any time enter into an indenture or
indentures supplemental hereto (which shall conform to the provisions of the
Trust Indenture Act of 1939 as in force at the date of the execution thereof)
for one or more of the following purposes:
(a) to convey, transfer, assign, mortgage or pledge to the Trustee
as security for the Securities of one or more series any property or
assets which the Company may desire or be required to convey, transfer,
assign, mortgage or pledge;
(b) to evidence the succession of another corporation to the
Company, or successive successions, and the assumption by the successor
corporation of the covenants, agreements and obligations of the Company
pursuant to Article Twelve;
(c) to add to the covenants of the Company such further covenants,
restrictions, conditions or provisions as its Board of Directors and the
Trustee shall consider to be for the protection of the holders of
Securities of any or all series of Securities (and if such covenants are
to be for the benefit of less than all series of Securities stating that
such covenants are expressly included for the benefit of such series
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only), and to make the occurrence, or the occurrence and continuance, of a
default in any such additional covenants, restrictions, conditions or
provisions an Event of Default permitting the enforcement of all or any of
the several remedies provided in this Indenture as herein set forth;
provided, however, that in respect of any such additional covenant,
restriction, condition or provision such supplemental indenture may
provide for a particular period of grace after default (which period may
be shorter or longer than that allowed in the case of other defaults) or
may provide for an immediate enforcement upon such an Event of Default or
may provide for notice or may limit the remedies available to the Trustee
upon such an Event of Default or may limit the right of the holders of at
least a majority in aggregate principal amount of the Securities of any or
all series at the time outstanding to waive such an Event of Default;
(d) to cure any ambiguity or to correct or supplement any provision
contained herein or in any supplemental indenture which may be defective
or inconsistent with any other provision contained herein or in any
supplemental indenture; or to make such other provisions in regard to
matters or questions arising under this Indenture or under any
supplemental indenture as the Board of Directors may deem necessary or
desirable and which shall not adversely affect the interests of the
holders of the Securities;
(e) to provide for the issuance under this Indenture of Securities
in coupon form (including Securities registrable as to principal only) and
to provide for exchangeability of such Securities with Securities issued
hereunder in fully registered form, and to make all appropriate changes
for such purpose;
(f) to establish the form or terms of Securities of any series as
permitted by Section 2.02;
(g) to evidence and provide for the acceptance of appointment
hereunder by a successor trustee with respect to the Securities of one or
more series and to add to or change any of the provisions of this
Indenture as shall be necessary to provide for or facilitate the
administration of the trusts hereunder by more than one trustee, pursuant
to the requirements of Section 8.11; and
(h) to conform to any mandatory provisions of law.
The Trustee is hereby authorized to join in the execution of any such
supplemental indenture, to make any further appropriate agreements and
<PAGE> 85
76
stipulations which may be therein contained and to accept the conveyance,
transfer, assignment, mortgage or pledge of any property thereunder, but the
Trustee shall not be obligated to enter into any such supplemental indenture
which affects the Trustee's own rights, duties or immunities under this
Indenture or otherwise.
Any supplemental indenture authorized by the provisions of this Section
11.01 may be executed without the consent of the holders of any of the
Securities at the time outstanding, notwithstanding any of the provisions of
Section 11.02.
SECTION 11.02. Supplemental Indentures With Consent of Security Holders.
With the consent (evidenced as provided in Section 9.01) of the holders of not
less than 662/3% in aggregate principal amount of the Securities at the time
outstanding of all series affected by such supplemental indenture (voting as a
single class), the Company, when authorized by a resolution of its Board of
Directors, and the Trustee may, from time to time and at any time, enter into an
indenture or indentures supplemental hereto (which shall conform to the
provisions of the Trust Indenture Act of 1939 as in force at the date of
execution thereof) for the purpose of adding any provisions to or changing in
any manner or eliminating any of the provisions of this Indenture or of any
supplemental indenture or of modifying in any manner the rights of the holders
of the Securities of each such series; provided, however, that no such
supplemental indenture shall (a) extend the final maturity of any Security, or
reduce the principal amount thereof, or reduce the rate or extend the time of
payment of interest thereon, or reduce any premium payable upon redemption
thereof, or reduce the amount of the principal of an Original Issue Discount
Security that would be due and payable upon acceleration of maturity thereof
pursuant to Section 7.01 of the Indenture or the amount thereof provable in
bankruptcy pursuant to Section 7.02 of the Indenture, or alter the provisions of
the Indenture relating to the conversion of any series of Securities so as to
affect the rights of any holder of such series adversely, or impair or affect
the right of the holder of any such Security to institute suit for the payment
of the principal of (including any sinking fund payment) and premium, if any,
and interest, if any, on any such Security on or after the due date thereof,
without the consent of the holder of each Security so affected, or (b) reduce
the aforesaid percentage of Securities, the consent of the holders of which is
required for any such
<PAGE> 86
77
supplemental indenture, without the consent of the holders of all Securities at
the time outstanding of each series affected.
Upon the request of the Company, accompanied by a copy of a resolution of
the Board of Directors certified by the secretary or an assistant secretary of
the Company authorizing the execution of any such supplemental indenture, and
upon the filing with the Trustee of evidence of the consent of Security holders
as aforesaid, the Trustee shall join with the Company in the execution of such
supplemental indenture unless such supplemental indenture affects the Trustee's
own rights, duties or immunities under this Indenture or otherwise, in which
case the Trustee may in its discretion, but shall not be obligated to, enter
into such supplemental indenture.
It shall not be necessary for the consent of the Security holders under
this Section 11.02 to approve the particular form of any proposed supplemental
indenture, but it shall be sufficient if such consent shall approve the
substance thereof.
Promptly after the execution by the Company and the Trustee of any
supplemental indenture pursuant to the provisions of this Section 11.02, the
Company shall give notice thereof to the holders of Securities of each series
affected thereby at their addresses as they shall appear on the register,
setting forth in general terms the substance of such supplemental indenture. Any
failure of the Company to give such notice, or any defect therein, shall not,
however, in any way impair or affect the validity of any such supplemental
indenture.
SECTION 11.03. Effect of Supplemental Indentures. Upon the execution of
any supplemental indenture pursuant to the provisions of this Article Eleven or
Section 12.01, this Indenture shall be and be deemed to be modified and amended
in accordance therewith and the respective rights, limitations of rights,
obligations, duties and immunities under this Indenture of the Trustee, the
Company and the holders of Securities of each series affected thereby shall
thereafter be determined, exercised and enforced hereunder subject in all
respects to such modifications and amendments, and all the terms and conditions
of any such supplemental indenture shall be and be deemed to be part of the
terms and conditions of this Indenture for any and all purposes.
<PAGE> 87
78
SECTION 11.04. Documents To Be Given to Trustee. The Trustee, subject to
the provisions of Section 8.01, may receive an Officers' Certificate and an
Opinion of Counsel as conclusive evidence that any such supplemental indenture
complies with the provisions of this Article Eleven.
SECTION 11.05. Notation on Securities in Respect of Supplemental
Indentures. Securities authenticated and delivered after the execution of any
supplemental indenture pursuant to the provisions of this Article Eleven or
after any action taken at a Security holders' meeting pursuant to Article Ten
may bear a notation in form approved by the Trustee as to any matter provided
for by such supplemental indenture or as to any action taken at any such
meeting. If the Company or the Trustee shall so determine, new Securities of any
series so modified as to conform, in the opinion of the Trustee and the Board of
Directors, to any modification of this Indenture contained in any such
supplemental indenture may be prepared by the Company, authenticated by the
Trustee and delivered in exchange for the Securities of such series then
outstanding.
SECTION 11.06. Waiver of Compliance by Security Holders. Anything in this
Indenture to the contrary notwithstanding, any of the acts which the Company is
required to do, or is prohibited from doing, by any of the provisions of this
Indenture may, to the extent that such provisions might be changed or eliminated
by a supplemental indenture pursuant to Section 11.02 upon consent of holders of
not less than 66 2/3% in aggregate principal amount of the then outstanding
Securities of the series affected, be omitted or done by the Company, if there
is obtained the prior consent or waiver (evidenced as provided in Section 9.01)
of the holders of at least 66 2/3% in aggregate principal amount of the then
outstanding Securities of such series.
ARTICLE TWELVE
CONSOLIDATION, MERGER OR SALE
SECTION 12.01. Company May Consolidate, Merge or Sell on Certain Terms.
Nothing contained in this Indenture or in the Securities shall be deemed to
prevent the consolidation or merger of the Company with or into any other
corporation organized under the laws of the United States, any State
<PAGE> 88
79
thereof or the District of Columbia, or the merger into the Company of any other
corporation, or the sale by the Company to any corporation organized under the
laws of the United States, any State thereof or the District of Columbia of its
property and assets as, or substantially as, an entirety, or otherwise;
provided, however, (a) that, in case of any such consolidation or merger, the
corporation resulting from such consolidation or any corporation other than the
Company into which such merger shall be made shall succeed to and be substituted
for the Company with the same effect as if it had been named herein as a party
hereto and shall become liable and be bound for, and shall expressly assume, by
a supplemental indenture hereto, executed and delivered to the Trustee, the due
and punctual payment of the principal of and premium, if any, and interest, if
any, on all the Securities then outstanding and the performance and observance
of each and every covenant and condition of this Indenture on the part of the
Company to be performed or observed and (b) that, as a condition of any such
sale of the property and assets of the Company as, or substantially as, an
entirety, the corporation to which such property and assets shall be sold shall
(i) expressly assume, as a part of the purchase price thereof, the due and
punctual payment of the principal of and premium, if any, and interest, if any,
on the Securities then outstanding and the performance and observance of all the
covenants and conditions of this Indenture on the part of the Company to be
performed or observed, and (ii) simultaneously with the delivery to it of the
conveyances or instruments of transfer of such property and assets, execute and
deliver to the Trustee a supplemental indenture hereto, in form satisfactory to
the Trustee, whereby such purchasing corporation shall so assume the due and
punctual payment of the principal of and premium, if any, and interest, if any,
on all the Securities then outstanding and the performance and observance of
each and every covenant and condition of this Indenture on the part of the
Company to be performed or observed, to the same extent that the Company is
bound and liable.
The Company shall not consolidate with any other corporation or accept a
merger of any other corporation into the Company or permit the Company to be
merged into any other corporation, or sell its properties and assets as, or
substantially as, an entirety, except upon the terms and conditions set forth in
this Section. Upon any consolidation or merger, or any sale of the properties
and assets of the Company as, or substantially as, an entirety in accordance
with the provisions of this Section, the corporation formed by such
consolidation or into which the Company shall have been merged or to which such
sale shall have been made shall succeed to and be substituted for the Company
with the same effect as if it had been named herein as a party hereto and
thereafter from time to time
<PAGE> 89
80
such successor corporation may exercise each and every right and power of the
Company under this Indenture, in the name of the Company or in its own name; and
any act or proceeding by any provision of this Indenture required or permitted
to be done by the Board of Directors or any officer of the Company may be done
with like force and effect by the like board or officer of any corporation that
shall at the time be the successor of the Company hereunder. In the event of the
sale by the Company of its properties and assets as, or substantially as, an
entirety upon the terms and conditions of this Section, the Company shall be
released from all its liabilities and obligations hereunder and under the
Securities.
SECTION 12.02. Officers' Certificate and Opinion Of Counsel To Be Given to
Trustee. The Trustee, subject to the provisions of Section 8.01, may receive an
Officers' Certificate and an Opinion of Counsel as conclusive evidence that any
such consolidation, merger or sale, and any such assumption, complies with the
provisions of this Article Twelve.
ARTICLE THIRTEEN
SATISFACTION AND DISCHARGE OF INDENTURE;
UNCLAIMED MONEYS
SECTION 13.01. Satisfaction and Discharge of Indenture. If at any time (i)
the Company shall pay or cause to be paid the principal of and premium, if any,
and interest, if any, on all the Securities outstanding of any series hereunder,
as and when the same shall become due and payable, or (ii) the Company shall
have delivered to the Trustee for cancellation all Securities of any series
theretofore authenticated (other than any Securities of such series which shall
have been destroyed, lost or stolen and which shall have been replaced or paid
as provided in Section 2.07), or (iii) all the Securities of any series not
theretofore delivered to the Trustee for cancellation shall have become due and
payable, or are by their terms to become due and payable within one year or are
to be called for redemption within one year under arrangements satisfactory to
the Trustee for the giving of notice of redemption, and the Company shall
deposit or cause to be deposited with the Trustee as trust funds the entire
amount sufficient to pay at maturity or upon redemption all of the Securities of
such series not theretofore delivered to the Trustee for cancellation, including
principal and premium, if any, and interest, if any, due or to become due to
such date of maturity or date fixed for redemption, as the case may be, and if,
in any such case, the Company shall also
<PAGE> 90
81
pay or cause to be paid all other sums payable hereunder by the Company, then
this Indenture shall cease to be of further effect with respect to Securities of
such series (except as to (i) remaining rights of registration of transfer,
substitution, conversion and exchange of Securities of such series, (ii) rights
hereunder of Security holders to receive payment of principal of and premium, if
any, and interest, if any, on the Securities of such series, and other rights,
duties and obligations of the Security holders as beneficiary hereof with
respect to the amounts, if any, so deposited with the Trustee, (iii) remaining
obligations of the Company to make payment hereunder, and (iv) the rights,
obligations and immunities of the Trustee hereunder), and the Trustee, on demand
of the Company accompanied by an Officers' Certificate and an Opinion of Counsel
as required by Section 14.04 and at the cost and expense of the Company, shall
execute proper instruments acknowledging satisfaction of and discharging this
Indenture with respect to Securities of such series. The Company agrees to
reimburse the Trustee for any costs or expenses thereafter reasonably and
properly incurred and to compensate the Trustee for any services thereafter
reasonably and properly rendered by the Trustee in connection with this
Indenture or the Securities of such series.
SECTION 13.02. Application by Trustee of Funds Deposited for Payment of
Securities. Subject to Section 13.04, all moneys or U.S. Government Obligations
deposited, in respect of Securities of a series, with the Trustee pursuant to
Section 13.01 or 13.05 shall be held in trust and applied by it to the payment,
either directly or through any paying agent (including the Company acting as its
own paying agent), to the holders of the particular Securities of such series
for the redemption or payment of which such moneys or U.S. Government
Obligations have been deposited with the Trustee, of all sums due and to become
due thereon for principal, premium, if any, and interest, if any; but such money
need not be segregated from other funds except to the extent required by law.
SECTION 13.03. Repayment of Moneys Held by Paying Agent. In connection
with the satisfaction and discharge of this Indenture with respect to Securities
of any series all moneys then held by any paying agent under the provisions of
this Indenture with respect to such series shall, upon demand of the Company, be
repaid to it or paid to the Trustee and thereupon such paying agent shall be
released from all further liability with respect to such moneys.
<PAGE> 91
82
SECTION 13.04. Return of Moneys Held by Trustee and Unclaimed for Three
Years. Any moneys deposited with the Trustee or any paying agent in trust for
the payment of the principal of or premium, if any, or interest, if any, on any
Securities of any series remaining unclaimed for three years after the date of
the maturity of the Securities of such series or the date fixed for the
redemption of all of the Securities of such series at the time outstanding or
the date such principal or premium, if any, or interest, if any, shall have
become due and payable, as the case may be, shall be repaid to the Company by
the Trustee or such paying agent on demand and all liability of the Trustee or
such paying agent with respect to such trust moneys shall thereupon cease and
the holder of any of the Securities of such series shall thereafter look only to
the Company for any payment which such holder may be entitled to collect.
SECTION 13.05. Defeasance Upon Deposit of Moneys or U.S. Government
Obligations. At the Company's option, either (a) the Company shall be deemed to
have been Discharged (as defined below) from its respective obligations with
respect to any series of Securities on the 91st Day after the applicable
conditions set forth below have been satisfied or (b) the Company shall cease to
be under any obligation to comply with any term, provision or condition set
forth in Sections 5.05 and 12.01 with respect to any series of Securities at any
time after the applicable conditions set forth below have been satisfied:
(1) the Company shall have deposited or caused to be deposited
irrevocably with the Trustee as trust funds in trust, specifically pledged
as security for, and dedicated solely to, the benefit of the holders of
the Securities of such series (i) money in an amount, or (ii) U.S.
Government Obligations which through the payment of interest and principal
in respect thereof in accordance with their terms will provide, not later
than one day before the due date of any payment, money in an amount, or
(iii) a combination of (i) and (ii), sufficient, in the opinion (with
respect to (ii) and (iii)) of a nationally recognized firm of independent
public accountants expressed in a written certification thereof delivered
to the Trustee, to pay and discharge each installment of principal
(including any mandatory sinking fund payments) of, premium, if any, and
interest, if any, on, the Securities outstanding of such series on the
dates such installments of interest or principal are due;
<PAGE> 92
83
(2) if the Securities of such series are then listed on the New York
Stock Exchange, the Company shall have delivered to the Trustee an opinion
of counsel of a law firm of nationally recognized standing to the effect
that the exercise of the option under this Section 13.05 would not cause
such Securities to be delisted;
(3) no Event of Default or event which with notice or lapse of time
would become an Event of Default with respect to the Securities of such
series shall have occurred and be continuing on the date of such deposit;
and
(4) the Company shall have delivered to the Trustee an opinion of
counsel of a law firm of nationally recognized standing to the effect that
holders of the Securities of such series will not recognize income, gain
or loss for United States Federal income tax purposes as a result of the
exercise of the option under this Section 13.05 and will be subject to
United States Federal income tax on the same amount and in the same manner
and at the same times as would have been the case if such option had not
been exercised.
"Discharged" means that the Company shall be deemed to have paid and discharged
the entire indebtedness represented by, and obligations under, the Securities of
such series and to have satisfied all the obligations under this Indenture
relating to the Securities of such series (and the Trustee, at the expense of
the Company, shall execute proper instruments acknowledging the same), except
(A) the rights of holders of Securities of such series to receive, from the
trust fund described in clause (1) above, payment of the principal of or
premium, if any, and the interest, if any, on such Securities when such payments
are due; (B) the Company's obligations with respect to such Securities under
Sections 2.06, 2.07, 4.02, 5.02 and 13.04; and (C) the rights, powers, trusts,
duties and immunities of the Trustee hereunder.
ARTICLE FOURTEEN
MISCELLANEOUS PROVISIONS
SECTION 14.01. Benefits of Indenture Restricted to Parties and Security
Holders. Except as provided in this Article Fourteen, nothing in this Indenture,
or in the Securities, express or implied, shall give or be construed to give to
any person, other than the parties hereto, and their successors and assigns,
and the Security holders, any legal or equitable right, remedy or claim under or
in respect of this Indenture, or under any
<PAGE> 93
84
covenant, condition and provision herein contained; and all its covenants,
conditions and provisions shall be for the sole benefit of the parties hereto
and of the holders of the Securities.
SECTION 14.02. Successors and Assigns. All the covenants, stipulations,
promises and agreements in this Indenture contained by or in behalf of the
Company shall bind and inure to the benefit of its successors and assigns,
whether so expressed or not.
SECTION 14.03. Notices and Demands. Except as provided in paragraph (d) of
Section 7.01, any notice or demand which by any provision of this Indenture is
required or permitted to be given or served by the Trustee or by the holders of
Securities to or on the Company may be given or served by first-class mail,
postage prepaid, addressed (until another address of the Company is filed by the
Company with the Trustee) to Aetna Life and Casualty Company, 151 Farmington
Avenue, Hartford, Connecticut 06156, and marked for the attention of the
Treasurer.
Any notice, direction, request or demand by the Company or any Security
holder to or upon the Trustee shall be deemed to have been sufficiently given or
made, for all purposes, if given or made at the Corporate Trust Office or at the
Trustee's agency office located at BancBoston Clearance, Inc., One Exchange
Place, 55 Broadway, Third Floor, New York, New York 10006. Attention: Manager.
Any notice, direction or request by the Company or the Trustee to or upon
any Security holder shall be given by first-class mail, postage prepaid,
addressed to the Security holders at their addresses as they appear in the
register; provided, however, that the Company or the Trustee, upon a good faith
determination that mailing is in the circumstances impractical, may give such
notice, direction, or request by any other method which, in the reasonable
belief of the Company or, in the case of the Trustee, of the Company and the
Trustee, is likely to be received by the Security holders.
Any notice, direction, request or demand, addressed as provided in this
Section 14.03, and given by first-class mail, postage prepaid, shall be
conclusively presumed given when mailed.
SECTION 14.04. Officers' Certificates and Opinions of Counsel; Statements
To Be Contained Therein. Upon any application or demand by the Company to the
Trustee to take any action under any of the provisions of this Indenture (unless
other evidence in respect thereof be
<PAGE> 94
85
herein specifically prescribed) the Company shall furnish to the Trustee an
Officers' Certificate stating that all conditions precedent provided for in this
Indenture relating to the proposed action have been complied with and an Opinion
of Counsel stating that in the opinion of such counsel all such conditions
precedent have been complied with, except that in the case of any such
application or demand as to which the furnishing of such documents is
specifically required by any provision of this Indenture relating to such
particular application or demand, no additional certificate or opinion need be
furnished.
Each Officers' Certificate or Opinion of Counsel provided for in this
Indenture and delivered to the Trustee with respect to compliance with a
condition or covenant provided for in this Indenture shall include (i) a
statement that the person making such Officers' Certificate or Opinion of
Counsel has read such covenant or condition, (ii) a brief statement as to the
nature and scope of the examination or investigation upon which the statements
or opinions contained in such Officers' Certificate or Opinion of Counsel are
based, (iii) a statement that, in the opinion of such person, he has made such
examination or investigation as is necessary to enable him to express an
informed opinion as to whether or not such covenant or condition has been
complied with, and (iv) a statement as to whether or not, in the opinion of such
person, such condition or covenant has been complied with.
Any certificate, statement or opinion of an officer of the Company may be
based, insofar as it relates to legal matters, upon an opinion of or
representation by counsel, unless such officer knows or in the exercise of
reasonable care should know that the opinion or representation with respect to
such legal matters upon which his certificate, statement or opinion may be based
is erroneous.
Any certificate, statement or opinion of counsel may be based, insofar as
it relates to factual matters (information with respect to which is in the
possession of the Company) upon the certificate, statement, opinion or
representation by an officer of the Company, unless such counsel knows or in the
exercise of reasonable care should know that the certificate, statement, opinion
or representation with respect to such factual matters upon which his
certificate, statement or opinion may be based is erroneous.
Any certificate, statement or opinion of an officer of the Company or of
counsel may be based, insofar as it relates to accounting matters, upon a
certificate, opinion or representation by an accountant or firm of
<PAGE> 95
86
accountants in the employ of the Company, unless such officer or counsel, as the
case may be, knows or in the exercise of reasonable care should know that the
certificate, opinion or representation with respect to such accounting matters
upon which his certificate, statement or opinion may be based is erroneous.
SECTION 14.05. Payments Due on Saturdays, Sundays and Holidays. In any
case where the date of maturity of principal of or premium, if any, or interest,
if any, on the Securities or the date fixed for redemption of any Securities or
the last day on which a Security holder has the right to convert his Security at
a particular conversion price shall not be a business day, then payment of
principal or premium, if any, or interest, if any, or conversion may be made on
the next succeeding business day with the same force and effect as if made on
the date of maturity or the date fixed for redemption or the last date for
conversion at such price and no interest shall accrue for the period after such
date.
SECTION 14.06. Conflict of Any Provision of Indenture With Trust Indenture
Act of 1939. If and to the extent that any provision of this Indenture limits,
qualifies or conflicts with another provision included in this Indenture which
is required to be included herein by any of Sections 310 to 317, inclusive, of
the Trust Indenture Act of 1939, such required provision shall control.
SECTION 14.07. Personal Immunity from Liability of Incorporators,
Stockholders, Etc. No recourse shall be had for the payment of the principal of
or premium, if any, or interest, if any, on any Security, or for any claim based
thereon, or otherwise in respect of any Security, or based on or in respect of
this Indenture or any indenture supplemental hereto, against any incorporator,
or against any past, present or future stockholder, director or officer, as
such, of the Company or of any successor corporation, whether by virtue of any
constitution, statute or rule of law, or by the enforcement of any assessment or
penalty or otherwise, all such liability being expressly waived and released as
a condition of, and as consideration for, the execution of this Indenture and
the issue of the Securities.
SECTION 14.08. Laws of State of New York To Govern. This Indenture and
each Security hereunder shall be deemed to be a contract made under the laws of
the State of New York and shall be construed for all purposes in accordance with
the laws of said State, except to the
<PAGE> 96
87
extent, if any, that Connecticut law applies under mandatory provisions of such
law.
SECTION 14.09. Counterparts. This Indenture may be executed in any number
of counterparts, each of which shall be an original; but such counterparts shall
together constitute but one and the same instrument.
SECTION 14.10. Acceptance of Trust by Trustee. The First National Bank of
Boston hereby accepts the trusts in this Indenture declared and provided, upon
the terms and conditions hereinabove set forth.
SECTION 14.11. Effect of Headings. The Article and Section headings herein
and the Table of Contents are for convenience only and shall not affect the
construction hereof.
IN WITNESS WHEREOF, the parties hereto have caused this Indenture to be
duly executed, and their respective corporate seals to be hereunto affixed and
attested, all as of the day and year first above written.
AETNA LIFE AND CASUALTY COMPANY
By /s/ GARY G. BENANAV
Vice President-Finance and Treasurer
[CORPORATE SEAL]
Attest: /s/ LOUISE L. MCCORMICK
Corporate Secretary
THE FIRST NATIONAL BANK OF BOSTON
By /s/ ROBERT J. DUNN
Assistant Vice President
[CORPORATE SEAL]
Attest: /s/ AMY M. AHLES
Assistant Cashier
<PAGE> 97
88
STATE OF CONNECTICUT ) ss.:
COUNTY OF HARTFORD )
On this 15th day of January, before me personally came GARY G. BENANAV, to
me known, who, being by me duly sworn, did depose and say that he resides at 20
Northmoor Rd., West Hartford, Ct.; that he is a Vice President-Finance and
Treasurer of AETNA LIFE AND CASUALTY COMPANY, the insurance corporation
described in and which executed the above instrument; that he knows the
corporate seal of such corporation; that the seal affixed to the said instrument
is such corporate seal; that it was so affixed by authority of the Board of
Directors of such corporation; and that he signed his name thereto by like
authority.
IN WITNESS WHEREOF, I have hereunto set my hand and affixed my official
seal the day and year in this certificate first above written.
[SEAL]
NOREEN M. O'CONNELL
Notary Public
COMMONWEALTH OF MASSACHUSETTS ) ss.:
COUNTY OF SUFFOLK )
On this 15th day of January, before me personally came ROBERT J. DUNN, to
me known, who, being by me duly sworn, did depose and say that he resides at
1956 Bay Road, Stoughton, Massachusetts; that he is an Assistant Vice President
of THE FIRST NATIONAL BANK OF BOSTON, the corporation described in and which
executed the above instrument; that he knows the corporate seal of such
corporation; that the seal affixed to the said instrument is such corporate
seal; that it was so affixed by authority of the Board of Directors of such
corporation; and that he signed his name thereto by like authority.
IN WITNESS WHEREOF, I have hereunto set my hand and affixed my official
seal the day and year in this certificate first above written.
[SEAL]
CATHY A. THORN
Notary Public
<PAGE> 1
Exhibit 12
AETNA INC.
COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES AND RATIO OF EARNINGS TO
COMBINED FIXED CHARGES AND PREFERRED STOCK DIVIDENDS
<TABLE>
<CAPTION>
Years Ended
December 31,
------------------------------------------------------
(Millions) 1998 1997 1996 1995 1994
- ---------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Pretax income from continuing operations $1,408.3 $1,511.2 $338.7 $726.2 $627.5
Add back fixed charges 358.5 321.9 245.1 187.0 170.8
Minority interest 10.7 14.7 16.4 16.1 11.4
- ---------------------------------------------------------------------------------------------------------------------
Income as adjusted $1,777.5 $1,847.8 $600.2 $929.3 $809.7
=====================================================================================================================
Fixed charges:
Interest on indebtedness (1) $ 250.9 $ 235.8 $168.3 $115.9 $ 98.6
Portion of rents representative of interest factor 107.6 86.1 76.8 71.1 72.2
- ---------------------------------------------------------------------------------------------------------------------
Total fixed charges $ 358.5 $ 321.9 $245.1 $187.0 $170.8
=====================================================================================================================
Preferred stock dividend requirements 92.2 92.4 41.1 -- --
- ---------------------------------------------------------------------------------------------------------------------
Total combined fixed charges
and preferred stock dividend requirements $ 450.7 $ 414.3 $286.2 $187.0 $170.8
=====================================================================================================================
Ratio of earnings to fixed charges 4.96 5.74 2.45 4.97 4.74
=====================================================================================================================
Ratio of earnings to combined fixed charges
and preferred stock dividends 3.94 4.46 2.10 4.97 4.74
=====================================================================================================================
</TABLE>
(1) Includes the dividends paid to preferred shareholders of a subsidiary.
(See Note 15 of Notes to Financial Statements in the Company's 1998 Annual
Report.)
Page 1
<PAGE> 2
Exhibit 12 (Continued)
AETNA SERVICES, INC. (1)
COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES AND RATIO OF EARNINGS TO
COMBINED FIXED CHARGES AND PREFERRED STOCK DIVIDENDS
<TABLE>
<CAPTION>
Years Ended
December 31,
-------------------------------
(Millions) 1998 1997 1996
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Pretax income from continuing operations $1,162.7 $1,505.2 $335.0
Add back fixed charges 354.3 318.1 243.8
Minority interest 10.8 15.7 16.4
- --------------------------------------------------------------------------------
Income as adjusted $1,527.8 $1,839.0 $595.2
================================================================================
Fixed charges:
Interest on indebtedness (2) $ 250.9 $ 234.0 $168.3
Portion of rents representative
of interest factor 103.4 84.1 75.5
- --------------------------------------------------------------------------------
Total fixed charges $ 354.3 $ 318.1 $243.8
================================================================================
Preferred stock dividend requirements -- -- --
- --------------------------------------------------------------------------------
Total combined fixed charges and preferred
stock dividend requirements $ 354.3 $ 318.1 $243.8
================================================================================
Ratio of earnings to fixed charges 4.31 5.78 2.44
================================================================================
Ratio of earnings to combined fixed charges
and preferred stock dividends 4.31 5.78 2.44
================================================================================
</TABLE>
(1) Aetna Inc. has fully and unconditionally guaranteed the payment of all
principal, premium, if any, and interest on all outstanding debt
securities of Aetna Services, Inc. (See Note 14 of Notes to Financial
Statements in the Company's 1998 Annual Report.)
(2) Includes the dividends paid to preferred shareholders of a subsidiary.
(See Note 15 of Notes to Financial Statements in the Company's 1998 Annual
Report.)
Page 2
<PAGE> 1
Exhibit 13
Selected Financial Data
<TABLE>
<CAPTION>
(Millions, except per common share data) 1998 1997 1996 1995 1994
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Premiums:
Aetna U.S. Healthcare $ 13,006.2 $10,844.6 $ 7,765.2 $ 5,949.7 $ 5,611.5
Aetna Retirement Services 131.9 158.5 180.7 260.2 235.7
Aetna International 1,578.5 1,434.1 1,166.1 1,038.5 887.1
Large Case Pensions 122.7 155.0 214.1 244.4 123.5
- -----------------------------------------------------------------------------------------------------------------------------------
Total premiums 14,839.3 12,592.2 9,326.1 7,492.8 6,857.8
- -----------------------------------------------------------------------------------------------------------------------------------
Net Investment Income, Fees and Other
Income, and Net Realized Capital Gains (Losses):
Aetna U.S. Healthcare 2,088.2 2,056.8 1,968.5 1,665.7 1,527.6
Aetna Retirement Services 1,755.5 1,744.0 1,581.5 1,445.9 1,269.1
Aetna International 569.1 541.4 464.9 421.3 409.9
Large Case Pensions 1,228.5 1,467.5 1,761.5 2,004.0 2,120.8
Corporate: Other 123.5 138.3 98.0 9.7 (9.7)
- -----------------------------------------------------------------------------------------------------------------------------------
Total net investment income, fees and other income,
and net realized capital gains (losses) 5,764.8 5,948.0 5,874.4 5,546.6 5,317.7
- -----------------------------------------------------------------------------------------------------------------------------------
Total revenue $ 20,604.1 $18,540.2 $15,200.5 $13,039.4 $12,175.5
===================================================================================================================================
Income from continuing operations:
Aetna U.S. Healthcare $ 431.0 $ 453.8 $ 58.7 $ 286.0 $ 341.7
Aetna Retirement Services 300.0 257.1 186.2 198.0 159.1
Aetna International 136.0 142.4 109.9 86.6 71.2
Large Case Pensions 169.9 234.2 258.4 89.2 54.4
Corporate: Interest (155.9) (147.5) (103.9) (70.4) (60.5)
Other (32.9) (38.9) (304.2) (115.5) (156.5)
- -----------------------------------------------------------------------------------------------------------------------------------
Income from continuing operations 848.1 901.1 205.1 473.9 409.4
- -----------------------------------------------------------------------------------------------------------------------------------
Net income 848.1 901.1 651.0 251.7 467.5
- -----------------------------------------------------------------------------------------------------------------------------------
Net realized capital gains (losses), net of tax (included above) 134.9 198.4 85.9 29.5 (41.2)
- -----------------------------------------------------------------------------------------------------------------------------------
Total assets 105,148.1 96,000.6 92,912.9 84,323.7 75,486.7
- -----------------------------------------------------------------------------------------------------------------------------------
Total long-term debt 2,521.2 2,346.2 2,380.0 989.1 1,079.2
- -----------------------------------------------------------------------------------------------------------------------------------
Aetna-obligated mandatorily redeemable preferred
securities of subsidiary limited liability company
holding primarily debentures guaranteed by Aetna 275.0 275.0 275.0 275.0 275.0
- -----------------------------------------------------------------------------------------------------------------------------------
Shareholders' equity 11,388.9 11,195.4 10,889.7 7,272.8 5,503.0
- -----------------------------------------------------------------------------------------------------------------------------------
Per Common Share Data:
Income from continuing operations
Basic $ 5.50 $ 5.67 $ 1.37 $ 4.18 $ 3.64
Diluted 5.41 5.60 1.36 4.14 3.62
Net Income
Basic 5.50 5.67 4.77 2.22 4.15
Diluted 5.41 5.60 4.72 2.20 4.14
Dividends declared .80 .80 1.29 2.76 2.76
Shareholders' equity 74.51 70.85 66.79 63.39 48.85
Market price at year end 78.63 70.56 80.00 69.25 47.13
- -----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Consolidated Financial Statements and Management's Discussion and
Analysis of Financial Condition and Results of Operations for significant events
affecting the comparability of current year results with 1997 and 1996 results.
Page 1
<PAGE> 2
Management's Discussion and Analysis of Financial Condition and Results of
Operations
Management's Discussion and Analysis of Financial Condition and Results of
Operations addresses the financial condition of Aetna Inc. and its subsidiaries
(collectively, the "Company") as of December 31, 1998 and 1997, and its results
of operations for 1998, 1997 and 1996. This Management's Discussion and Analysis
should be read in its entirety, since it contains detailed information that is
important to understand the Company's results and financial condition.
Overview
General
The Company's current operations include three core businesses --- Aetna U.S.
Healthcare, Aetna Retirement Services and Aetna International. Aetna U.S.
Healthcare provides a full spectrum of managed care, indemnity, other health and
group insurance products. Aetna Retirement Services offers a range of financial
services products including fixed and variable annuity contracts, investment
advisory services, financial services and pension plan administrative services.
Aetna International, through subsidiaries and joint venture operations, sells
primarily life insurance, health insurance and financial retirement services
products in markets outside of the United States. The Company also has a Large
Case Pensions business which manages a variety of retirement products for
defined benefit and defined contribution plans.
The Company sold its property-casualty operations on April 2, 1996. See Note 4
of Notes to Consolidated Financial Statements for a discussion of certain
indemnifications and other information related to this sale.
Consolidated Results
The Company reported income from continuing operations of $848 million in 1998,
$901 million in 1997 and $205 million in 1996. The 1998 results include a gain
related to the sale of the domestic individual life insurance business of $64
million and Year 2000 costs of $108 million. Results also include a benefit of
$29 million in 1997 and a charge of $588 million in 1996, primarily related to
severance and facilities actions. Reductions of the reserve for loss on
discontinued products for Large Case Pensions of $44 million in 1998, $108
million in 1997 and $132 million in 1996 also are included in net income.
Excluding these factors and net realized capital gains, income from continuing
operations would have been $714 million in 1998, $565 million in 1997 and $576
million in 1996.
Acquisition of the NYLCare Health Business
On July 15, 1998, the Company acquired New York Life Insurance Company's ("NYL")
NYLCare health business ("NYLCare") for a purchase price of $1.05 billion in
cash, subject to adjustment as provided in the transaction agreements.
Originally, in addition to the cash purchase price, payments totaling up to $300
million (up to $150 million in each of two years) were potentially payable to
the extent that predetermined earnings and membership targets in future periods
were achieved (the "Earnout").
On January 29, 1999, the Company and NYL agreed to resolve all purchase price
adjustments and obligations under the Earnout. Under this agreement, the Company
paid NYL an additional $50 million to resolve such matters. As a result, the
total purchase price is approximately $1.1 billion.
The Company funded the acquisition with cash made available from issuing
additional commercial paper. The Company issued $300 million of debt in the
fourth quarter of 1998 and expects to issue additional medium- or long-term
fixed income securities in 1999, subject to market conditions, to replace some
of the commercial paper.
Page 2
<PAGE> 3
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Overview (Continued)
Since the closing, the Company's results have been affected by, among other
things, the operating results of NYLCare, the costs of financing the transaction
and the amortization of intangible assets (primarily goodwill) created by the
transaction. The financing costs are reflected in the Corporate segment. See
"Aetna U.S. Healthcare" and "Corporate," as well as Note 4 of Notes to
Consolidated Financial Statements, for further discussion.
Agreement to Acquire Prudential Health Care Business
On December 9, 1998, the Company entered into definitive agreements with The
Prudential Insurance Company of America to acquire the Prudential health care
business ("PHC") for $1 billion. The Company currently expects to complete the
acquisition in the second quarter of 1999. The acquisition is subject to
approval by federal antitrust and state regulators, and other customary closing
conditions.
The Company expects to finance the transaction by issuing $500 million of
three-year senior notes to the seller and by using cash the Company expects to
receive as a result of issuing additional commercial paper prior to the closing.
The Company expects to issue additional fixed income securities to replace some
of this commercial paper.
After the closing, the Company's results will be affected by, among other
things, the operating results of the Prudential health care business, the costs
of financing the transaction and the amortization of intangible assets
(primarily goodwill) expected to be created as a result of the transaction. See
"Aetna U.S. Healthcare" and "Corporate," as well as Note 4 of Notes to
Consolidated Financial Statements, for further discussion.
Sale of Domestic Individual Life Insurance Business
On October 1, 1998, the Company sold its domestic individual life insurance
business to Lincoln National Corporation ("Lincoln") for $1 billion in cash. The
sale resulted in an after-tax gain of approximately $152 million. Since the
principal agreement to sell this business was generally in the form of an
indemnity reinsurance arrangement, the Company will defer approximately $88
million of the gain and will amortize it over approximately 15 years. The
Company recognized $64 million of the gain in the 1998 fourth quarter for the
portion that relates to the Company's agreement to provide Lincoln with access
to the agency sales force and brokerage distribution channel.
In the 1998 fourth quarter, the Company used approximately $300 million of the
sale proceeds to repay outstanding commercial paper incurred in connection with
the NYLCare acquisition. The Company expects to use the remaining sale proceeds
for general corporate purposes, including repayment of debt, internal growth,
acquisitions and share repurchases. For more details about the transaction and
the indemnity reinsurance arrangement, see "Aetna Retirement Services" and Note
4 of Notes to Consolidated Financial Statements.
Page 3
<PAGE> 4
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Aetna U.S. Healthcare
Operating Summary
<TABLE>
<CAPTION>
(Millions) 1998(1) 1997 1996(1)
- ---------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Premiums $13,006.2 $10,844.6 $7,765.2
Net investment income 537.2 451.2 414.6
Fees and other income 1,476.1 1,463.9 1,495.9
Net realized capital gains 74.9 141.7 58.0
- ---------------------------------------------------------------------------------------------------
Total revenue 15,094.4 12,901.4 9,733.7
- ---------------------------------------------------------------------------------------------------
Current and future benefits 11,161.5 9,239.2 6,622.4
Operating expenses 2,752.0 2,479.2 2,351.5
Amortization of goodwill and other acquired intangible assets 381.3 362.9 169.4
Amortization of deferred policy acquisition costs .6 20.3 11.9
Severance and facilities charges (reserve reductions) -- (45.0) 453.0
- ---------------------------------------------------------------------------------------------------
Income before income taxes 799.0 844.8 125.5
Income taxes 368.0 391.0 66.8
- ---------------------------------------------------------------------------------------------------
Net income (2) $ 431.0 $ 453.8 $ 58.7
===================================================================================================
Net realized capital gains, net of tax (included above) $ 49.2 $ 69.9 $ 37.9
===================================================================================================
</TABLE>
(1) Operating results include NYLCare since July 15, 1998 and U.S. Healthcare,
Inc. ("U.S. Healthcare") since July 19, 1996.
(2) Net income for 1998 includes a net benefit from capitalizing internal-use
software of $17.4 million.
Aetna U.S. Healthcare consists of the Health Risk business and the Group
Insurance and Other Health business. Health products include health maintenance
organization ("HMO"), point-of-service ("POS"), preferred provider organization
("PPO") and indemnity products. The Health Risk business includes health plans
offered on an insured basis. The Group Insurance and Other Health business
includes group life and disability insurance and long-term care insurance,
offered on both an insured and employer-funded basis, and all health plans
offered on an employer-funded basis. Under insured plans, the Company assumes
all or a majority of health care cost, utilization, mortality, morbidity or
other risk, depending on the product. Under employer-funded plans, the customer,
and not the Company, assumes all or a majority of these risks.
Results
Aetna U.S. Healthcare's net income decreased $23 million in 1998 and increased
$395 million in 1997. The 1998 results include costs related to Year 2000 of $64
million (after tax). The results also reflect benefits of $29 million in 1997
and expenses of $321 million in 1996, primarily related to severance and
facilities actions (see "Severance and Facilities Charges"), and net realized
capital gains in all three years. Excluding these items, results increased $92
million in 1998 while the 1997 results were comparable to 1996. These results
reflect the inclusion of NYLCare since July 15, 1998 and the inclusion of U.S.
Healthcare since July 19, 1996.
Net realized capital gains for 1997 include a $31 million after-tax gain from
the sale of three subsidiaries. These businesses were sold primarily to more
effectively focus health business resources. Net realized capital gains for 1996
include a $15 million after-tax gain from the sale of an HMO subsidiary. The
earnings of these subsidiaries were not material to the results of Aetna U.S.
Healthcare.
Page 4
<PAGE> 5
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Aetna U.S. Healthcare (Continued)
The remainder of the Aetna U.S. Healthcare discussion compares actual results
for 1998 to actual 1997 results and to 1996 results on a pro forma basis, as if
the merger with U.S. Healthcare had occurred at the beginning of 1996.
Operating Summary
<TABLE>
<CAPTION>
Pro forma(2)
(Millions) 1998(1) 1997 1996
- -------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Premiums $13,006.2 $10,844.6 $10,096.6
Net investment income 537.2 451.2 441.3
Fees and other income 1,476.1 1,463.9 1,549.2
Net realized capital gains 74.9 141.7 52.5
- -------------------------------------------------------------------------------------------------------
Total revenue 15,094.4 12,901.4 12,139.6
- -------------------------------------------------------------------------------------------------------
Current and future benefits 11,161.5 9,239.2 8,387.0
Operating expenses 2,752.0 2,479.2 2,683.3
Amortization of goodwill and other acquired intangible assets 381.3 362.9 364.6
Amortization of deferred policy acquisition costs .6 20.3 11.9
Severance and facilities charges (reserve reductions) -- (45.0) 453.0
- -------------------------------------------------------------------------------------------------------
Income before income taxes 799.0 844.8 239.8
Income taxes 368.0 391.0 146.7
- -------------------------------------------------------------------------------------------------------
Net income (3) $ 431.0 $ 453.8 $ 93.1
=======================================================================================================
Net realized capital gains, net of tax (included above) $ 49.2 $ 69.9 $ 34.4
=======================================================================================================
</TABLE>
(1) Operating results include NYLCare since July 15, 1998.
(2) Represents financial information as though the merger with U.S. Healthcare
occurred on January 1, 1996. The 1996 pro forma operating summary and
information derived from the summary are not necessarily indicative of
results of operations had the merger occurred at the beginning of 1996,
nor are they necessarily indicative of future results.
(3) Net income for 1998 includes a net benefit from capitalizing internal-use
software of $17.4 million.
In order to provide a comparison that management believes better reflects the
underlying performance of Aetna U.S. Healthcare, the operating earnings
discussion that follows excludes amortization of goodwill and other acquired
intangible assets (including the goodwill associated with the U.S. Healthcare
and NYLCare acquisitions), Year 2000 costs in 1998, the severance and facilities
actions in 1997 and 1996, and net realized capital gains in all three years.
<TABLE>
<CAPTION>
(Millions) 1998(1)(2) 1997(1) 1996(1)
- -------------------------------------------------------------------------------
<S> <C> <C> <C>
Operating earnings:
Health Risk $ 407.7 $ 312.9 $ 461.9
Group Insurance and Other Health 350.3 340.7 218.2
- -------------------------------------------------------------------------------
Total Aetna U.S. Healthcare $ 758.0 $ 653.6 $ 680.1
===============================================================================
Commercial HMO Medical Loss Ratio 82.1% 84.2% 79.3%
- -------------------------------------------------------------------------------
Commercial HMO Premium PMPM $134.68 $132.57 $130.89
- -------------------------------------------------------------------------------
Commercial HMO Medical Cost PMPM $110.61 $111.69 $103.83
- -------------------------------------------------------------------------------
Medicare HMO Medical Loss Ratio 93.0% 93.4% 89.7%
- -------------------------------------------------------------------------------
Medicare HMO Premium PMPM $474.67 $459.69 $437.34
- -------------------------------------------------------------------------------
Medicare HMO Medical Cost PMPM $441.63 $429.31 $392.14
- -------------------------------------------------------------------------------
</TABLE>
(1) Operating results include NYLCare since July 15, 1998 and U.S. Healthcare
since July 19, 1996.
(2) Includes a net benefit from capitalizing internal-use software of $17.4
million in 1998.
Page 5
<PAGE> 6
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Aetna U.S. Healthcare (Continued)
Health Risk
The increase in Health Risk earnings of $95 million for 1998 reflects favorable
HMO results due to membership growth, premium rate increases, the impact of
medical cost initiatives, higher net investment income and the acquisition of
NYLCare. These increases were partially offset by lower Indemnity and PPO
results and increased operating expenses related to customer service
enhancements. The 1997 Health Risk earnings reflected significantly increased
HMO medical costs, which more than offset the benefit of increased HMO
membership and HMO premium rate increases. The 1997 HMO medical cost increases
include a $103 million after-tax charge in the third quarter of 1997 for the
re-estimation of HMO medical claims reserves, a majority of which relates to
1997 claims.
Commercial HMO premiums per member per month ("PMPM") increased 2% in 1998, when
compared to 1997, and 1% in 1997, when compared to 1996. These increases were
due to premium rate increases, offset in part by customers selecting lower
premium plans and a shift in the geographic mix of membership growth.
Commercial HMO medical costs PMPM decreased by 1% in 1998, when compared to
1997, and increased 8% in 1997, when compared to 1996. The decrease in 1998 is
due primarily to favorable results of medical cost initiatives, geographic mix
and customer changes in benefit plans partially offset by higher pharmacy,
physician and outpatient utilization. The increase in 1997 was primarily due to
higher inpatient facility and physician costs.
The Commercial HMO medical loss ratio decreased in 1998, when compared to 1997,
as growth in premiums due to rate increases exceeded increases in medical costs,
reflecting the benefit of medical cost initiatives.
Medicare HMO premiums PMPM increased by 3% in 1998, when compared to 1997, and
5% in 1997, when compared to 1996, due to Health Care Financing Administration
("HCFA") rate increases and increases in supplemental premiums.
Medicare HMO medical costs PMPM increased by 3% in 1998 when compared to 1997
and 10% in 1997 when compared to 1996. The higher medical costs in 1998 were
primarily due to higher pharmacy, physician and outpatient utilization and
medical cost inflation. The higher medical costs were partially offset by the
impact of the NYLCare acquisition, geographic mix and benefit changes. The
higher medical costs in 1997 were primarily due to higher inpatient facility,
physician and pharmacy costs.
For the Health Risk business, medical claims payable reflect estimates of the
ultimate cost of claims that have been incurred but not yet reported and
reported but not yet paid. Medical claims payable are based on a number of
factors including those derived from historical claim experience. Medical claims
payable are estimated periodically, and any resulting adjustments are reflected
in current period results.
Group Insurance and Other Health
Group Insurance and Other Health results for 1998 reflect higher net investment
income and the acquisition of NYLCare. Results include comparable favorable
developments in claim benefit reserve estimates for life and disability products
in both 1998 (including the NYLCare group business) and 1997. Results in 1997
also reflect increased product sales, higher administrative service contract
fees resulting from rate increases and changes in product mix and lower
operating expenses as a percentage of revenue due to continued cost reduction
efforts.
Page 6
<PAGE> 7
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Aetna U.S. Healthcare (Continued)
Membership
Aetna U.S. Healthcare's membership was as follows:
<TABLE>
<CAPTION>
December 31, 1998 (1) December 31, 1997
---------------------------- ----------------------------
(Thousands) Risk Nonrisk Total Risk Nonrisk Total
- -----------------------------------------------------------------------------------------------
HMO
<S> <C> <C> <C> <C> <C> <C>
Commercial (2) 5,104 640 5,744 3,642 584 4,226
Medicare 535 -- 535 382 19 401
Medicaid 132 -- 132 98 -- 98
- -----------------------------------------------------------------------------------------------
Total HMO 5,771 640 6,411 4,122 603 4,725
POS (2) 261 2,509 2,770 310 2,473 2,783
PPO 1,089 2,943 4,032 609 3,012 3,621
Indemnity 182 2,270 2,452 294 2,311 2,605
- -----------------------------------------------------------------------------------------------
Total Health Membership 7,303 8,362 15,665 5,335 8,399 13,734
===============================================================================================
Group Insurance: (3)
Group Life 9,769 9,822
Disability 2,592 2,559
Long-Term Care 91 97
- -----------------------------------------------------------------------------------------------
</TABLE>
(1) Health membership for NYLCare at the date of acquisition was 2,117 members
including 1,186 Commercial HMO risk, 111 Medicare HMO risk, 56 Medicaid
HMO risk, 135 HMO nonrisk, 452 PPO risk and 177 PPO nonrisk. Group
Insurance NYLCare membership at the date of acquisition was 791 members.
(2) Commercial HMO includes POS members who access primary care physicians and
referred care through an HMO network of 1,329 at December 31, 1998 and 885
at December 31, 1997.
(3) Group Insurance membership as of December 31, 1997 reflects improved data
as a result of the conversion to a new membership reporting system.
December 31, 1997 membership reflects adjustments which continued to occur
through the first quarter of 1998, as applied to December 31, 1997
membership previously reported. Many Group Insurance members participate
in more than one type of Aetna U.S. Healthcare coverage and are counted in
each.
Total Health membership as of December 31, 1998 increased by approximately 2
million members when compared to December 31, 1997 due to the acquisition of
NYLCare. Excluding the impact of the NYLCare acquisition, the membership
increases in Commercial HMO, Medicare HMO, and POS were more than offset by
declines in Indemnity and PPO enrollment. Total HMO membership as of December
31, 1998 increased by 1.7 million members, or 36%, when compared to December 31,
1997.
Total Revenue and Expense
Aetna U.S. Healthcare's revenues increased by $2.3 billion in 1998 and $1.0
billion in 1997, excluding revenue in 1996 associated with investments in
primary care physician practices, as well as premiums related to the Civilian
Health and Medical Program of the Uniformed Services ("CHAMPUS") contract, which
was not renewed, revenue related to certain Medicare administrative services no
longer provided by Aetna U.S. Healthcare and also excluding net realized capital
gains. 1998 revenue growth was primarily due to the acquisition of NYLCare, as
well as premium rate increases and membership growth in Commercial and Medicare
HMO and POS products, partially offset by lower Indemnity and PPO membership.
Also during 1998, Aetna U.S. Healthcare recorded higher investment income due to
a higher investment portfolio balance (including the acquired assets of
NYLCare), a shift in strategy to higher yielding investments and an increase in
equity partnership income.
Page 7
<PAGE> 8
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Aetna U.S. Healthcare (Continued)
Aetna U.S. Healthcare's operating expenses increased by $333 million, or 14% in
1998, and decreased $14 million, or .6% in 1997, excluding operating expenses in
1996 associated with investments in primary care physician practices, as well as
operating expenses related to CHAMPUS and certain Medicare administrative
services no longer provided by Aetna U.S. Healthcare. The increase in 1998
reflects the acquisition of NYLCare, as well as HMO membership increases,
customer service enhancements and costs related to Year 2000. However, operating
expenses as a percentage of revenue decreased from 1997. The decrease in 1997
reflects the impact of continuing cost reduction efforts, which also resulted in
a reduction in operating expenses as a percentage of revenue.
Agreement to Acquire Prudential Health Care Business
On December 9, 1998, the Company entered into an agreement to acquire the
Prudential health care business. Included in the acquisition are the Prudential
health care HMO, POS, PPO and Indemnity health lines, as well as its dental
business. At December 31, 1998, the Prudential health care business had
approximately 6.2 million health members and 8 million dental members. See
"Overview" for a further discussion of the purchase.
Outlook
With the increased importance of managed care to the Company, the ability to
profitably grow the managed care risk business and obtain adequate pricing in an
increasingly competitive environment, while effectively managing medical costs
and operating expenses, is of critical importance.
Premiums in the Health Risk business are generally fixed by contract for
one-year periods and, accordingly, costs in excess of those reflected in pricing
cannot be recovered by prospectively or retrospectively raising premiums during
the year.
For 1999, the Company is targeting commercial premium increases that seek to
maintain or enhance margin. The Company is attempting to improve profitability
by increasing premiums and by addressing cost increases in its contracting with
providers and through other cost management efforts. However, the 1999 premium
rate increases set by the federal government for Medicare risk products averaged
approximately 2%, which the Company believes will be below the rate of medical
cost inflation. In an effort to improve its medical loss ratio, the Company has
made plan benefit changes and added premiums for supplemental benefits. In
addition, the Company has exited certain Medicare markets as of January 1, 1999.
The Company will continue to review the profitability of the Medicare business
in certain markets. There can be no assurances, however, that any premium
increases, benefit changes, or cost savings achieved through recontracting will
be sufficient to offset the increases in medical costs, as well as any increases
in other operating costs, due to potential governmental action (including rate
decreases or reduction of rate increases), business conditions (including
intensification of competition) and other factors.
Results for the Group Insurance and Other Health businesses are only expected to
be level or to increase slightly in 1999. See "Regulatory Environment" and
"Forward-Looking Information/Risk Factors" for information regarding other
important factors that may materially affect Aetna U.S. Healthcare.
Page 8
<PAGE> 9
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Aetna Retirement Services
Operating Summary
<TABLE>
<CAPTION>
(Millions) 1998(1) 1997 1996
- ------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Premiums (2) $ 131.9 $ 158.5 $ 180.7
Net investment income 1,024.5 1,114.7 1,086.7
Fees and other income 728.0 591.7 467.7
Net realized capital gains 3.0 37.6 27.1
- ------------------------------------------------------------------------------------------------
Total revenue 1,887.4 1,902.5 1,762.2
- ------------------------------------------------------------------------------------------------
Current and future benefits (2) 918.2 1,034.1 1,035.9
Operating expenses 407.1 385.6 337.5
Amortization of deferred policy acquisition costs 128.3 110.6 74.3
Severance and facilities charge, net 1.5 -- 49.0
- ------------------------------------------------------------------------------------------------
Income before income taxes 432.3 372.2 265.5
Income taxes 132.3 115.1 79.3
- ------------------------------------------------------------------------------------------------
Net income (3) $ 300.0 $ 257.1 $ 186.2
================================================================================================
Net realized capital gains, net of tax (included above) $ 2.0 $ 24.2 $ 17.8
================================================================================================
Deposits not included in premiums above:
Annuities - fixed options $ 1,125.6 $ 1,191.4 $ 1,362.3
Annuities - variable options 3,642.7 3,291.2 2,759.3
Individual life insurance 374.2 486.4 443.2
- ------------------------------------------------------------------------------------------------
Total $ 5,142.5 $ 4,969.0 $ 4,564.8
================================================================================================
Assets under management:(4)
Annuities - fixed options $12,131.1 $12,056.3 $11,692.4
Annuities - variable options (5) 25,527.0 20,076.9 14,468.1
Other investment advisory (6) 14,268.6 10,069.0 3,288.1
- ------------------------------------------------------------------------------------------------
Financial services 51,926.7 42,202.2 29,448.6
Individual life insurance -- 2,749.9 2,614.1
- ------------------------------------------------------------------------------------------------
Total $51,926.7 $44,952.1 $32,062.7
================================================================================================
</TABLE>
(1) Operating results reflect the operations of the individual life business
through the sale date of October 1, 1998.
(2) Includes $56.8 million in 1998, $59.1 million in 1997 and $71.8 million in
1996, for annuity premiums on contracts converting from the accumulation
phase to payout options with life contingencies.
(3) Net income for 1998 includes a net benefit from capitalizing internal-use
software of $8.6 million.
(4) Excludes net unrealized capital gains of $496.9 million at December 31,
1998, $551.6 million at December 31, 1997 and $366.0 million at December
31, 1996.
(5) Includes $7,467.5 million at December 31, 1998, $5,069.9 million at
December 31, 1997 and $4,633.2 million at December 31, 1996, related to
assets invested through Aetna Retirement Services' ("ARS") products in
unaffiliated mutual funds.
(6) The December 31, 1997 balance includes the transfer of $4,078.5 million of
assets under management that were previously reported in the Large Case
Pensions segment, reflecting the consolidation of the Company's investment
advisory services and migration of certain other pension products that
complement ARS' business strategy.
ARS offers financial services products, including fixed and variable annuity
contracts, investment advisory services, financial planning services and pension
plan administrative services. ARS' domestic individual life insurance business
was sold on October 1, 1998.
Page 9
<PAGE> 10
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Aetna Retirement Services (Continued)
ARS' net income increased $43 million in 1998 and $71 million in 1997. ARS' 1998
net income includes Year 2000 costs of $23 million and a gain related to the
sale of the Life business of $64 million (included in fees and other income) for
access to the agency sales force and brokerage distribution channel. Results
also include a net after-tax severance and facilities charge of $1 million in
1998 and $32 million in 1996. (See Note 9 of Notes to Consolidated Financial
Statements for additional information.) Excluding these factors and net realized
capital gains in all three years, ARS' results, as shown below, increased $25
million in 1998, $33 million in 1997 and $29 million in 1996.
<TABLE>
<CAPTION>
(Millions) 1998(1) 1997 1996
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Financial services $186.5 $157.8 $120.7
Individual life insurance 71.5 75.1 79.5
- --------------------------------------------------------------------------------
Total $258.0 $232.9 $200.2
================================================================================
</TABLE>
(1) Reflects the operations of the individual life business through the sale
date of October 1, 1998.
The increases in 1998 and 1997 earnings for financial services primarily reflect
increased fee income from higher levels of assets under management. Assets under
management increased by 23% in 1998 and 29% in 1997, excluding assets under
management that were previously reported in the Large Case Pensions segment.
Assets under management grew primarily because of appreciation in the stock
market and additional net deposits (i.e., deposits less surrenders) and, in
1997, the inclusion of assets from the acquisition of Financial Network
Investment Corporation ("FNIC") (discussed below). Operating expenses as a
percentage of assets under management declined in both years.
Premiums relate to traditional life insurance and annuity products containing
life contingencies. Premiums decreased by $27 million in 1998, following a
decrease of $22 million in 1997. The decrease in 1998 was due to the sale of the
domestic individual life insurance business on October 1, 1998. The decrease in
1997 was due to a shift from annuity products containing life contingencies to
annuity products not involving life contingencies, and in part, from ceasing to
write structured settlement business.
Annuity deposits increased 6% in 1998 and 9% in 1997, reflecting business
growth. Life deposits decreased by 23% in 1998 due to the sale of the Life
business on October 1, 1998 and increased 10% in 1997, reflecting business
growth.
Of the $12.1 billion at December 31, 1998 and December 31, 1997 and $11.7
billion at December 31, 1996 of fixed annuity assets under management, 25% were
fully guaranteed and 75% were experience rated. The average earned rate on
investments supporting fully guaranteed investment contracts was 7.6%, 7.8% and
7.9%, and the average earned rate on investments supporting experience rated
investment contracts was 7.8%, 7.9% and 8.0% for the years ended December 31,
1998, 1997 and 1996. The average credited rate on fully guaranteed investment
contracts was 6.5%, 6.6% and 6.7%, and the average credited rate on experience
rated investment contracts was 5.8%, 5.9% and 6.0% for the years ended December
31, 1998, 1997 and 1996. The resulting interest margins on fully guaranteed
investment contracts were 1.1%, 1.2% and 1.2% and on experience rated investment
contracts was 2.0% for the years ended December 31, 1998, 1997 and 1996.
In 1997, in connection with the Company's efforts to expand its financial
planning business, the Company acquired FNIC. FNIC is a broker/dealer licensed
in all 50 states and includes more than 2,591 registered representatives and 179
branch offices in 36 states. The purchase price was not material to the Company.
Page 10
<PAGE> 11
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Aetna Retirement Services (Continued)
Sale of Domestic Individual Life Insurance Business
The Company's sale of its domestic individual life insurance business to Lincoln
on October 1, 1998 included approximately $50 billion of individual life
insurance in force, as well as access to the agency sales force and brokerage
distribution channel. The transaction was generally in the form of an indemnity
reinsurance arrangement and covers the following lines of insurance: traditional
life, universal life, participating life, sponsored life and corporate-owned
life insurance and pension life. Pension life results, which are reported in
Financial Services, are not material to ARS' results and, therefore, are not
included below. Revenues from the business lines sold were $399 million for 1998
through the sale date, $553 million for 1997 and $538 million for 1996. See
"Overview" and Note 4 of Notes to Consolidated Financial Statements for further
discussion of the sale.
Outlook
ARS' strategy is to increase assets under management and improve profitability
by focusing on strategic markets and products in the financial services
business. In doing so, ARS may take a variety of actions intended to improve its
investment and product management, marketing, distribution and customer service.
ARS also may seek acquisitions or divestitures in order to align its businesses
with strategic and financial targets or build scale.
See "Forward-Looking Information/Risk Factors" for information regarding other
important factors that may materially affect ARS.
Page 11
<PAGE> 12
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Aetna International
Operating Summary
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- -------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Premiums $1,578.5 $1,434.1 $1,166.1
Net investment income (1) 459.8 384.4 334.2
Fees and other income 138.2 140.3 124.2
Net realized capital gains (losses) (28.9) 16.7 6.5
- -------------------------------------------------------------------------------------------------------
Total revenue 2,147.6 1,975.5 1,631.0
- -------------------------------------------------------------------------------------------------------
Current and future benefits 1,336.6 1,206.3 996.8
Operating expenses 505.6 462.0 377.2
Interest expense 11.1 7.8 8.2
Amortization of goodwill and other acquired intangible assets 16.0 16.3 3.0
Amortization of deferred policy acquisition costs 86.4 86.6 73.9
- -------------------------------------------------------------------------------------------------------
Income before income taxes 191.9 196.5 171.9
Income taxes 55.9 54.1 62.0
- -------------------------------------------------------------------------------------------------------
Net income (2) $ 136.0 $ 142.4 $ 109.9
=======================================================================================================
Net realized capital gains (losses), net of tax (included above) $ (22.2) $ 13.7 $ 4.4
=======================================================================================================
</TABLE>
(1) Includes $96.5 million in 1998, $51.5 million in 1997 and $16.8 million in
1996 of earnings from Aetna International subsidiaries that are carried on
the equity basis.
(2) Net income for 1998 includes a net benefit from capitalizing internal-use
software of $2.0 million.
Aetna International, through subsidiaries and joint venture affiliates, sells
primarily life insurance and health insurance and financial retirement services
products in markets outside of the United States.
Earnings by major geographic location, excluding Year 2000 costs in 1998 and net
realized capital gains or losses in all three years, are as follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- -------------------------------------------------------------------------------
<S> <C> <C> <C>
Asia Pacific (1) $ 65.2 $ 55.7 $ 53.8
Americas (2) 112.9 83.0 59.1
Other (3) (12.4) (10.0) (7.4)
- -------------------------------------------------------------------------------
Total $165.7 $128.7 $105.5
===============================================================================
</TABLE>
(1) Includes China, Hong Kong, Indonesia, Malaysia, New Zealand, Philippines,
Taiwan and Thailand.
(2) Includes Argentina, Brazil, Canada, Chile, Mexico, Peru and Venezuela.
(3) Includes general and other miscellaneous expenses.
Aetna International's net income decreased $6 million in 1998 and increased $33
million in 1997. Results in 1998 include Year 2000 costs of $8 million.
Excluding Year 2000 costs and net realized capital gains or losses, earnings
increased $37 million in 1998 and $23 million in 1997. Results in 1998 primarily
reflect earnings growth from the Company's operations in Brazil, which were
acquired in April 1997, as well as from operations in Taiwan, Canada and the
Mexican pension business. These results were offset in part by other Mexican
operations and an overall weakening of foreign currencies versus the U.S.
dollar. Results in 1997 primarily reflect the Company's operations in Brazil,
earnings growth in Taiwan and Canada and favorable investment performance in
certain Asia Pacific and Latin American businesses. This earnings growth was
partially offset by increased losses related to start-up operations, primarily
those in the Philippines and Argentina, and fourth quarter weakening of foreign
currencies in Asia.
Page 12
<PAGE> 13
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Aetna International (Continued)
Premiums in 1998 were 10% higher than in 1997, following a 23% increase in 1997
premiums as compared with 1996. The premium growth rate in 1998 was adversely
affected by the overall weakening of foreign currencies versus the U.S. dollar.
The increases in premiums in 1997 were primarily due to increased insurance
product sales in Taiwan and Chile.
During 1998, Aetna International continued to grow with new and expanded
presence in China, Chile, Thailand, Venezuela and New Zealand. In January 1999,
Aetna International also acquired the largest health care company in Argentina
and entered into a pension joint venture in Poland. See Note 4 of Notes to
Consolidated Financial Statements for additional information.
Outlook
Aetna International seeks to invest in emerging markets outside the U.S. that
have the potential for attractive long-term returns. The Company also explores
opportunities for additional investments, or divestitures, where appropriate, in
certain mature markets where it currently has a presence. These investments are
generally made through the acquisition of part or all of an existing company or
a start-up investment.
Brazil has recently experienced a significant devaluation in its currency which
could also have a broader impact on growth in Latin America. Currency
devaluations in Brazil, or the Company's other established operations, could
adversely affect operating earnings when translated into U.S. dollars. This
effect may be offset somewhat by increased interest rate returns on investments
resulting from the economic conditions that lead to the devaluation. In
addition, currency devaluation could reduce losses from start-up operations when
translated into U.S. dollars.
See "Forward-Looking Information/Risk Factors" for information regarding other
important factors that may materially affect Aetna International.
Page 13
<PAGE> 14
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Large Case Pensions
Operating Summary
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- --------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Premiums $ 122.7 $ 155.0 $ 214.1
Net investment income 1,152.5 1,408.7 1,649.2
Fees and other income (1) 18.5 28.1 81.4
Net realized capital gains 57.5 30.7 30.9
- --------------------------------------------------------------------------------------------------
Total revenue 1,351.2 1,622.5 1,975.6
- --------------------------------------------------------------------------------------------------
Current and future benefits 1,122.4 1,372.4 1,723.6
Operating expenses (1) 24.4 34.8 58.6
Reductions of loss on discontinued products (68.0) (172.5) (202.3)
- --------------------------------------------------------------------------------------------------
Income before income taxes 272.4 387.8 395.7
Income taxes 102.5 153.6 137.3
- --------------------------------------------------------------------------------------------------
Net income $ 169.9 $ 234.2 $ 258.4
==================================================================================================
Net realized capital gains, net of tax (included above) $ 37.4 $ 20.8 $ 20.8
==================================================================================================
Deposits not included in premiums above:
Fully guaranteed discontinued products $ 17.7 $ 14.0 $ 17.7
Experience rated 251.3 735.4 789.0
Nonguaranteed 950.2 849.2 975.1
- --------------------------------------------------------------------------------------------------
Total $ 1,219.2 $ 1,598.6 $ 1,781.8
==================================================================================================
Assets under management: (1) (2)
Fully guaranteed discontinued products $ 6,737.9 $ 7,548.9 $ 8,477.1
Experience rated 9,546.9 11,114.7 16,103.2
Nonguaranteed 12,120.0 11,070.2 10,749.3
- --------------------------------------------------------------------------------------------------
Total $28,404.8 $29,733.8 $35,329.6
==================================================================================================
</TABLE>
(1) 1997 includes $7.0 million of fees and other income and $1.8 million of
operating expenses and, at December 31, 1997, assets of $285.2 million
that are currently reported in the ARS segment. 1996 includes $15.7
million of fees and other income and $12.7 million of operating expenses
and, at December 31, 1996, assets of $3,608.0 million that are currently
reported in the ARS segment. This reflects the consolidation of the
Company's investment advisory services and certain other products that
complement ARS' business strategy.
(2) Excludes net unrealized capital gains of $621.0 million at December 31,
1998, $645.4 million at December 31, 1997 and $321.4 million at December
31, 1996.
The Large Case Pensions segment manages a variety of retirement products
(including pension and annuity products) primarily for defined benefit and
defined contribution plans. These products provide a variety of funding and
benefit payment distribution options and other services. Certain products
provide investment guarantees.
Large Case Pensions' net income decreased $64 million in 1998 and $24 million in
1997. Primarily as a result of favorable investment performance during 1998, the
Company released $44 million (after tax) of the reserve related to discontinued
products. Also, as a result of continued favorable developments in real estate
markets, the Company released $108 million (after tax) in 1997 and $132 million
(after tax) in 1996 of the reserve related to discontinued products. Large Case
Pensions' earnings, excluding Year 2000 costs of approximately $1 million (after
tax) in 1998, the reductions of the reserve for loss on discontinued products
and net realized capital gains in all three years decreased $15 million in 1998
and decreased slightly in 1997. The 1998 and 1997 decreases continue to reflect
the redeployment of capital supporting this business and the consolidation into
the ARS segment of certain products and services, partially offset by lower
expenses in both years.
Page 14
<PAGE> 15
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Large Case Pensions (Continued)
Assets under management decreased during 1998 and 1997. The 1998 and 1997
decreases primarily resulted from the continuing runoff of underlying
liabilities and consolidation into the ARS segment of the Company's investment
advisory services and certain other products that complement ARS' business
strategy.
General account assets supporting experience rated products (where the customer,
not the Company, assumes investment and other risks) may be subject to
participant or contractholder withdrawal. Experience rated contractholder and
participant withdrawals and transfers were as follows (excluding contractholder
transfers to other Company products):
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Scheduled contract maturities and benefit payments (1) $935.5 $905.0 $1,089.1
Contractholder withdrawals other than scheduled contract maturities and
benefit payments (2) $431.8 $358.1 $ 506.2
Participant withdrawals (2) $ 98.3 $130.0 $ 170.8
- ---------------------------------------------------------------------------------------------------------
</TABLE>
(1) Includes payments made upon contract maturity and other amounts
distributed in accordance with contract schedules.
(2) At December 31, 1998, approximately $1.3 billion of experience rated
pension contracts allowed for unscheduled contractholder withdrawals,
subject to timing restrictions and formula-based market value adjustments.
Further, approximately $2.7 billion of such contracts supported by general
account assets could be withdrawn or transferred to other plan investment
options at the direction of plan participants, without market value
adjustment.
Outlook
Large Case Pensions' earnings are expected to continue to decline in 1999 as
reductions in investment income on capital supporting maturing obligations are
redeployed to other businesses of the Company.
See "Forward-Looking Information/Risk Factors" for information regarding other
important factors that may materially affect Large Case Pensions.
Discontinued Products
The Company discontinued the sale of its fully guaranteed large case pension
products (single-premium annuities ("SPAs") and guaranteed investment contracts
("GICs")) in 1993. The Company established a reserve for anticipated future
losses on these products based on the present value of the difference between
(a) the expected cash flows from the assets supporting these products and (b)
the cash flows expected to be required to meet the product obligations.
Results of operations of discontinued products, including net realized capital
gains or losses, are credited or charged to the reserve for anticipated losses.
The Company's results of operations would be adversely affected to the extent
that future losses on the products are greater than anticipated and positively
affected to the extent future losses are less than anticipated. Management
reviews the adequacy of the discontinued products reserve quarterly and, as a
result, $68 million (pretax) of the reserve was released in 1998, primarily due
to favorable investment performance. Similar reviews resulted in the Company's
release of $173 million (pretax) in 1997 and $202 million (pretax) in 1996 of
the reserve due to continued favorable developments in real estate markets. The
current reserve reflects management's best estimate of anticipated future
losses.
Page 15
<PAGE> 16
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Large Case Pensions (Continued)
The results of discontinued products were as follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- ----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Interest margin (1) $(22.7) $ 15.1 $ 26.3
Net realized capital gains (2) 75.8 175.4 79.2
Interest earned on receivable from continuing products 22.4 21.5 29.7
Other, net 3.6 2.8 16.3
- ----------------------------------------------------------------------------------------------------------
Results of discontinued products, after tax $ 79.1 $214.8 $151.5
==========================================================================================================
Results of discontinued products, pretax $130.4 $337.4 $230.3
==========================================================================================================
Net realized capital gains from sales of bonds, after tax, included above $ 52.5 $ 36.6 $ 7.7
==========================================================================================================
</TABLE>
(1) The interest margin is the difference between earnings on invested assets
and interest credited to contractholders.
(2) 1998 includes net realized capital gains of $27.9 million related to
continued favorable developments in real estate markets. 1997 includes net
realized capital gains of $100.4 million related to continued favorable
developments in real estate markets (including gains of $24.3 million
related to the securitization of commercial mortgage loans), as well as
$37.3 million resulting from the sale of investments in order to meet
liquidity needs. 1996 includes net realized capital gains of $72.7 million
related to favorable developments in real estate markets.
Total assets supporting discontinued products and the reserve include a
receivable from continuing products of $493 million (after tax) at December 31,
1998 and $515 million (after tax) at December 31, 1997. Interest income accrues
on this receivable at the discount rate used to calculate the reserve.
The activity in the reserve for anticipated future losses on discontinued
products was as follows (pretax):
<TABLE>
<CAPTION>
(Millions)
- -------------------------------------------------------------------------------
<S> <C>
Reserve at December 31, 1995 $ 958.8
Results of discontinued products 230.3
Reserve reduction (202.3)
- -------------------------------------------------------------------------------
Reserve at December 31, 1996 986.8
Results of discontinued products 337.4
Reserve reduction (172.5)
- -------------------------------------------------------------------------------
Reserve at December 31, 1997 1,151.7
Results of discontinued products 130.4
Reserve reduction (68.0)
- -------------------------------------------------------------------------------
Reserve at December 31, 1998 $1,214.1
===============================================================================
</TABLE>
Distributions on discontinued products were as follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- -----------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Scheduled contract maturities, settlements and benefit payments $1,433.5 $1,683.1 $2,609.0
Participant directed withdrawals $ 21.4 $ 36.4 $ 52.0
- -----------------------------------------------------------------------------------------------------
</TABLE>
Page 16
<PAGE> 17
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Large Case Pensions (Continued)
Cash required to fund these distributions was provided by earnings and scheduled
payments on, and sales of, invested assets.
At December 31, 1998, scheduled maturities, future benefit payments and other
expected payments, including future interest, were as follows:
<TABLE>
<CAPTION>
(Millions)
- --------------------------------------------------------------------------------
<S> <C>
1999 $1,255.0
2000 895.7
2001 816.8
2002 674.4
2003 531.7
2004 -- 2008 2,273.0
2009 -- 2013 1,966.3
2014 -- 2018 1,583.6
2019 -- 2023 1,182.9
Thereafter 2,097.7
- --------------------------------------------------------------------------------
</TABLE>
See Note 10 of Notes to Consolidated Financial Statements and "General Account
Investments" for additional information.
Page 17
<PAGE> 18
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Corporate
Operating Summary
<TABLE>
<CAPTION>
(Millions, after tax) 1998 1997 1996
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Interest expense $155.9 $147.5 $103.9
- --------------------------------------------------------------------------------
Other expense:
Severance and facilities charges (1) $ -- $ -- $235.5
Other operating expenses, net 106.7 108.7 110.5
Interest income on life sale (1998) and
property-casualty sale (1996) proceeds (5.3) -- (36.8)
Net realized capital gains (2) (68.5) (69.8) (5.0)
- --------------------------------------------------------------------------------
Total other expense $ 32.9 $ 38.9 $304.2
================================================================================
</TABLE>
(1) See Note 9 of Notes to Consolidated Financial Statements for additional
information.
(2) After-tax net realized capital gains in 1998 include gains of $74.4
million related to the sale of the Company's remaining investment in
Travelers Property Casualty Corporation ("TPCC"). After-tax net realized
capital gains in 1997 include gains of $98.1 million related to sales of
portions of the Company's investment in TPCC offset by an after-tax
realized capital loss of $28.6 million related to the write-down of
certain properties that the Company had classified as held for sale.
The Corporate segment includes interest expense and other expenses that are not
directly related to the Company's business segments. "Other expense" includes
corporate expenses, such as staff area expenses, advertising and contributions,
which are partially offset by net investment income.
The 1998 increase in interest expense primarily results from additional debt
incurred in connection with the NYLCare acquisition. The 1997 increase in
interest expense primarily results from additional debt incurred in connection
with the U.S. Healthcare merger.
Included in other operating expenses are Year 2000 costs of $11 million for
1998. Other operating expenses were comparable in 1998 and 1997.
Outlook
The Company continues to review its cost structure, in particular its corporate
operating expenses, for possible efficiencies and costs savings.
Interest expense is expected to increase in 1999 as a result of the additional
debt that will be incurred to finance the Prudential acquisition.
See "Forward-Looking Information/Risk Factors" for information regarding other
important factors that may materially affect the Company.
Severance and Facilities Charges
During 1996, the Company established severance and facilities reserves of $865
million (pretax) in the Aetna U.S. Healthcare, ARS and Corporate segments to
reflect the integration of the health businesses and certain other actions taken
or to be taken in order to make its businesses more competitive. During 1997,
the Company reduced the Aetna U.S. Healthcare severance and facilities reserve
by $45 million (pretax) due to higher attrition than was contemplated in the
establishment of the reserve. See Note 9 of Notes to Consolidated Financial
Statements for additional information.
Page 18
<PAGE> 19
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
General Account Investments
Investments disclosed in this section relate to the Company's total general
account portfolio (including assets supporting discontinued products and
experience rated products).
The Company's investment objective is to fund policyholder and other liabilities
in a manner that enhances shareholder and contractholder value, subject to
appropriate risk constraints. The Company seeks to meet this investment
objective through a mix of investments that reflect the characteristics of the
liabilities they support, diversify the types of investment risks by interest
rate, liquidity, credit and equity price risk, and achieve asset diversification
by investment type, industry, issuer and geographic location. The Company
regularly projects duration and cash flow characteristics of its liabilities and
makes appropriate adjustments in its investment portfolios.
Total Investments
<TABLE>
<CAPTION>
December 31,
------------------------------
(Millions) 1998 1997
- --------------------------------------------------------------------------------
<S> <C> <C>
Debt securities $32,180.8 $34,245.0
Equity securities 800.5 1,041.4
Short-term investments 942.2 1,003.9
Mortgage loans 3,553.0 4,207.8
Real estate 270.3 369.5
Policy loans 458.7 746.9
Other 1,264.5 947.4
- --------------------------------------------------------------------------------
Total investments $39,470.0 $42,561.9
================================================================================
</TABLE>
Debt Securities
Available for sale debt securities represented 82% of the Company's total
general account invested assets at December 31, 1998 and 80% at December 31,
1997 and supported the following types of businesses:
<TABLE>
<CAPTION>
(Millions) 1998 1997
- --------------------------------------------------------------------------------
<S> <C> <C>
Supporting discontinued products $ 5,890.5 $ 6,471.4
Supporting experience rated products 13,197.3 15,322.8
Supporting remaining products 13,093.0 12,450.8
- --------------------------------------------------------------------------------
Total debt securities $32,180.8 $34,245.0
================================================================================
</TABLE>
Debt securities reflect net unrealized capital gains of $1.5 billion at December
31, 1998 compared with $1.6 billion at December 31, 1997. Of the net unrealized
capital gains at December 31, 1998, $362 million relate to assets supporting
discontinued products and $576 million relate to experience rated pension
contractholders.
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 Company's
investments in debt securities had an average quality rating of A+ as of
December 31, 1998 and AA- as of December 31, 1997, (33% were AAA at December 31,
1998 and 36% were AAA at December 31, 1997). "Below investment grade" debt
securities carry a rating of below BBB-/Baa3 and represent 6% of the portfolio
at December 31, 1998 and December 31, 1997, of which 51% at December 31, 1998
and 62% at December 31, 1997 support discontinued and experience rated products.
See Note 5 of Notes to Consolidated Financial Statements for disclosures related
to debt securities by market sector.
Page 19
<PAGE> 20
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
General Account Investments (Continued)
Residential Collateralized Mortgage Obligations
Included in the Company's debt securities are residential collateralized
mortgage obligations ("CMOs") of $2.0 billion at December 31, 1998 and $2.7
billion at December 31, 1997. There are various categories of CMOs that are
subject to different degrees of risk from changes in interest rates and, for
nonagency-backed CMOs, defaults. Approximately 67% of the Company's residential
CMO holdings were backed by government agencies, such as GNMA, FNMA and FHLMC,
at December 31, 1998 and 76% at December 31, 1997. The principal risks inherent
in holding CMOs are prepayment and extension risks related to dramatic decreases
and increases in interest rates resulting in the repayment of principal from the
underlying mortgages either earlier or later than originally anticipated. At
December 31, 1998, approximately 2% and at December 31, 1997, approximately 3%
of the Company's CMO holdings were invested in amounts that are subject to more
prepayment and extension risk than traditional CMOs (such as interest- or
principal-only strips).
Mortgage Loans
At December 31, 1998 and 1997, the Company's mortgage loan investments, net of
impairment reserves, supported the following types of businesses:
<TABLE>
<CAPTION>
(Millions) 1998 1997
- --------------------------------------------------------------------------------
<S> <C> <C>
Supporting discontinued products $ 754.2 $ 976.9
Supporting experience rated products 1,183.3 1,671.9
Supporting remaining products 1,615.5 1,559.0
- --------------------------------------------------------------------------------
Total mortgage loans $3,553.0 $4,207.8
================================================================================
</TABLE>
During 1998, the Company continued to manage its mortgage loan portfolio to
reduce the balance in absolute terms, relative to invested assets, and to reduce
its overall risk. The $655 million decrease during 1998 in the total mortgage
loan portfolio primarily reflects loan prepayments and repayments of maturing
loans. In December 1997, the Company completed the sale and securitization of
approximately $803 million of commercial mortgage loans primarily supporting
discontinued fully guaranteed large case pension products, and retained
approximately $210 million of subordinate and residual certificates that were
classified as available-for-sale debt securities. The net proceeds from the sale
were approximately $635 million. Realized capital gains on the sale and
securitization were approximately $42 million (pretax), of which $37 million
(pretax) was recorded as part of the reserve for anticipated future losses on
discontinued products.
Problem, restructured and potential problem loans included in mortgage loans
were $301 million at December 31, 1998 and $388 million at December 31, 1997, of
which 86% at December 31, 1998 and 84% at December 31, 1997 support discontinued
and experience rated products. Specific impairment reserves on these loans were
$48 million at December 31, 1998 and $51 million at December 31, 1997. See Note
5 of Notes to Consolidated Financial Statements for additional information.
Page 20
<PAGE> 21
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
General Account Investments (Continued)
Mortgage Loans (Continued)
At December 31, 1998 scheduled mortgage loan principal repayments were as
follows:
<TABLE>
<CAPTION>
(Millions)
- --------------------------------------------------------------------------------
<S> <C>
1999 $ 418.4
2000 444.5
2001 121.6
2002 178.5
2003 647.7
Thereafter 1,806.3
- --------------------------------------------------------------------------------
</TABLE>
Risk Management and Market Sensitive Instruments
The Company regularly evaluates the appropriateness of investments relative to
its management approved investment guidelines (and operates within those
guidelines) and the business objective of the portfolios. The Company manages
interest rate risk by seeking to maintain a tight duration band, while credit
risk is managed by seeking to maintain high average quality ratings and
diversified sector exposure within the debt securities portfolio. In connection
with its investment and risk management objectives, the Company also uses
financial instruments whose market value is at least partially determined by,
among other things, levels of or changes in domestic and/or foreign interest
rates (short-term or long-term), duration, exchange rates, prepayment rates,
equity markets or credit ratings/spreads.
The Company's use of derivatives is generally limited to hedging purposes and
has principally consisted of using interest rate swap agreements, futures
contracts, warrants, foreign exchange forward contracts, currency swap
agreements and written options to hedge interest rate, equity price and foreign
exchange risks. These instruments, viewed separately, subject the Company to
varying degrees of interest rate, equity price, foreign exchange and credit
risk. However, when used for hedging, the expectation is that these instruments
would reduce overall risk. See Note 6 of Notes to Consolidated Financial
Statements for additional information.
The risks associated with investments supporting experience rated pension,
annuity and life products are assumed by those contractholders and not by the
Company (subject to, among other things, certain minimum guarantees).
Anticipated future losses associated with investments supporting discontinued
fully guaranteed large case pension products are provided for in the reserve for
anticipated future losses (see "Large Case Pensions -- Discontinued Products").
Risks associated with the investments and liabilities related to experience
rated pension, annuity and life products and discontinued fully guaranteed large
case pension products are not included in the analysis presented below.
The following discussion about the Company's risk management activities includes
forward-looking statements that involve risk and uncertainties. Set forth below
are management's projections of hypothetical net losses in fair value of
shareholders' equity of the Company's market sensitive instruments if certain
assumed changes in market rates and prices were to occur (sensitivity analysis).
These instruments are not leveraged and are held for purposes other than
trading. While the Company believes that the assumed market rate changes are
reasonably possible in the near term, actual results may differ, particularly as
a result of any management actions that would be taken to mitigate such
hypothetical losses in fair value of shareholders' equity. Based on the
Company's overall exposure to interest rate risk, equity price risk and foreign
exchange risk, the Company believes that these changes in market rates and
prices would not materially affect the consolidated near-term financial
position, results of operations or cash flows of the Company.
Page 21
<PAGE> 22
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
General Account Investments (Continued)
Interest Rate Risk
Assuming an immediate increase of 100 basis points in interest rates, the net
hypothetical loss in fair value of shareholders' equity related to financial and
derivative instruments is estimated to be $180 million (after tax), (1.6% of
total shareholders' equity) at December 31, 1998, and $79 million (after tax),
(.7% of total shareholders' equity) at December 31, 1997. The Company believes
that an interest rate shift of this magnitude represents a moderately adverse
scenario and is approximately equal to the historical annual volatility of
interest rate movements for the Company's intermediate-term available-for-sale
debt securities. The Company has included corresponding changes in certain
insurance liabilities in this sensitivity analysis.
The potential effect of interest rate risk on near-term net income, cash flow
and fair value was determined based on commonly used models. The models project
the impact of interest rate changes on a wide range of factors, including
duration, prepayment, put options and call options. Fair value was estimated
based on the net present value of cash flows or duration estimates using a
representative set of likely future interest rate scenarios.
Equity Price Risk
The Company's available-for-sale equity securities consist primarily of domestic
stocks, as well as certain foreign holdings. Assuming an immediate decrease of
10% in equity prices for domestic and foreign equity securities generally, and
25% for Southeast Asian and Latin American emerging market equity securities,
the hypothetical loss in fair value of shareholders' equity related to financial
and derivative instruments is estimated to be $77 million (after tax), (.7% of
total shareholders' equity) at December 31, 1998, and $92 million (after tax),
(.8% of total shareholders' equity) at December 31, 1997.
Foreign Exchange Risk
The Company selectively hedges to manage its foreign exchange risk. The Company
generally uses short-term foreign exchange forward contracts to hedge its
foreign exchange risk arising from certain non-dollar denominated investment
securities and investments in certain foreign affiliates.
Assuming a foreign exchange rate volatility of 10% generally, and 25% for
certain Southeast Asian and Latin American emerging market currencies, the net
hypothetical loss in fair value of shareholders' equity related to financial and
derivative instruments is estimated to be $206 million (after tax), (1.8% of
total shareholders' equity) at December 31, 1998, and $168 million (after tax),
(1.5% of total shareholders' equity) at December 31, 1997. Approximately 80% at
December 31, 1998 and 75% at December 31, 1997 of total foreign exchange risk is
comprised of Brazil, Mexico, Taiwan, Chile, Malaysia and Canada. Included in the
calculation of net hypothetical loss above is $129 million (after tax) at
December 31, 1998 and $77 million (after tax) at December 31, 1997 related to
equity investments in foreign affiliates, primarily Brazil and Mexico. Foreign
exchange exposure is calculated by: (1) translating the local reporting currency
into U.S. dollars using foreign exchange rates at December 31 and (2) applying
the market volatility rate to the translated amount.
Page 22
<PAGE> 23
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Liquidity and Capital Resources
Cash Flows
Generally, the Company meets its operating requirements by maintaining
appropriate levels of liquidity in its investment portfolio and using overall
cash flows from premiums, deposits and income received on investments. Overall
cash flows are used primarily for claim and benefit payments, contract
withdrawals and operating expenses.
The Company's current liquidity objectives are to maximize the use of available
cash to fund ongoing operating needs, pay shareholder dividends, strategically
invest in core businesses and meet any common stock repurchase objectives.
During 1998, net cash generated from investing, financing and operating
activities was used to make approximately $1.2 billion of investments in core
businesses and acquisitions, pay approximately $395 million for common stock
repurchases and pay approximately $171 million of dividends to shareholders. In
1997, net cash generated by investing, financing and operating activities was
used to make approximately $500 million of investments in core businesses, pay
approximately $523 million for common stock repurchases and pay approximately
$175 million of dividends to shareholders.
The Company monitors the duration of its debt securities portfolio (which is
highly marketable) and mortgage loans, and executes its purchases and sales of
these investments with the objective of having adequate funds available to
satisfy the Company's maturing liabilities.
Dividends
The Board of Directors (the "Board") reviews Aetna's common stock dividend each
quarter. Among the factors considered by the Board in determining the amount of
each dividend are the Company's results of operations and the capital
requirements, growth and other characteristics of its businesses.
Financings, Financing Capacity and Capitalization
Substantially all of the Company's borrowings and financings are conducted
through Aetna Services, Inc. and are fully and unconditionally guaranteed by
Aetna Inc. See Note 14 of Notes to Consolidated Financial Statements for
additional information.
The Company has significant short-term liquidity supporting its businesses. The
Company uses short-term borrowings from time to time to address timing
differences between cash receipts and disbursements and in 1998 used these
borrowings to finance acquisitions due to market conditions. The maximum amount
of domestic short-term borrowings outstanding was $1.8 billion in 1998, $858
million in 1997 and $483 million in 1996. Aetna Services, Inc. also has a
revolving credit facility in an aggregate amount of $1.5 billion with a
worldwide group of banks and other financing entities. The facility terminates
in June 2001. See Note 14 of Notes to Consolidated Financial Statements for
additional information.
The Company's total debt to capital ratio (total debt divided by total debt and
shareholders' equity, adjusted for unrealized gains or losses on
available-for-sale investment securities and redeemable preferred securities)
was 24.1% at the end of 1998, 19.1% at the end of 1997 and 19.9% at the end of
1996.
The Company continually monitors existing and alternative financing sources to
support the Company's capital and liquidity needs, including, but not limited
to, debt issuance, preferred or common stock issuance, intercompany borrowings
and pledging or selling of assets.
Page 23
<PAGE> 24
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Liquidity and Capital Resources (Continued)
Common Stock Transactions
In September 1997, the Board authorized the repurchase of 7.5 million shares of
its common stock. As of December 31, 1998, all 7.5 million shares of common
stock have been repurchased pursuant to this authorization at a cost of $578
million, of which 5.1 million shares at a cost of $395 million were repurchased
during 1998. In January 1999, the Board authorized the repurchase of an
additional 5.0 million shares of common stock.
The Company issued 576,387 shares in 1998, 1,883,945 shares in 1997 and
1,563,491 shares in 1996 for benefit plans. The Company issued 34,988,615 shares
of common stock on July 19, 1996 in connection with the U.S. Healthcare merger.
Restrictions on Certain Payments by the Company
The Company's business operations are conducted through Aetna Services, Inc. and
Aetna U.S. Healthcare Inc. and their respective subsidiaries (which principally
consist of HMOs and insurance companies). In addition to general state law
restrictions on payments of dividends and other distributions to shareholders
applicable to all corporations, HMOs and insurance companies are subject to
further state regulations that, among other things, may require those companies
to maintain certain levels of equity, and restrict the amount of dividends and
other distributions that may be paid to their parent corporations. These
regulations are not directly applicable to Aetna Services, Inc., Aetna U.S.
Healthcare Inc., or Aetna Inc., as none is an HMO or insurance company. The
additional regulations applicable to the Company's indirect HMO and insurance
company subsidiaries are not expected to affect the ability of Aetna Inc. to pay
dividends, or the ability of any of the Company's subsidiaries to service their
outstanding debt or preferred stock obligations.
Solvency Regulation
In recent years, state insurance regulators have adopted changes in statutory
accounting practices and other initiatives to strengthen solvency regulation.
The National Association of Insurance Commissioners ("NAIC") adopted risk-based
capital ("RBC") standards for life insurers that are designed to identify weakly
capitalized companies by comparing the company's adjusted surplus to its
required surplus ("RBC ratio"). The RBC ratio is designed to reflect the risk
profile of the company. Within certain ratio ranges, regulators have increasing
authority to take action as the RBC ratio decreases. There are four levels of
regulatory action, ranging from requiring insurers to submit a comprehensive
plan to the state insurance commissioner to requiring the state insurance
commissioner to place the insurer under regulatory control. The RBC ratio for
each of the Company's primary life insurance subsidiaries as measured at
December 31, 1998 was above the levels that would require regulatory action.
External rating agencies use their own RBC standards as part of determining a
company's rating. The RBC framework described above for life insurers was
recently extended by the NAIC to health organizations, including HMOs. Although
most states have not yet adopted these rules at December 31, 1998, each of
Aetna's HMOs has a surplus that exceeded the highest threshold specified by the
NAIC's RBC rules.
Page 24
<PAGE> 25
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Year 2000
The Company relies heavily on information technology ("IT") systems and other
systems and facilities, such as telephones, building access control systems and
heating and ventilation equipment ("embedded systems") to conduct its business.
The Company also has business relationships with health care providers,
financial institutions, financial intermediaries, public utilities and other
critical vendors, as well as regulators and customers who are themselves reliant
on IT and embedded systems to conduct their businesses.
State of Readiness
In 1997, the Company organized a multidisciplinary Year 2000 Project Team that
includes outside consultants. The Year 2000 Project Team and the Company's
businesses have developed and are currently executing a comprehensive plan
designed to make the Company's mission-critical IT systems and embedded systems
Year 2000 ready. Outside consultants have reviewed the Company's overall
process, plan and progress to date. The Company's plan for IT systems consists
of several phases: (i) inventory -- identifying all IT systems and risk rating
each according to its potential business impact; (ii) assessment -- identifying
IT systems that use date functions and assessing them for Year 2000
functionality; (iii) remediation -- reprogramming, or replacing where necessary,
inventoried items to make them Year 2000 ready; and (iv) testing and
certification -- testing the code modifications and new inventory with other
associated systems, including extensive date testing, and performing quality
assurance testing to determine if they will successfully operate in the
post-1999 environment.
The Company completed the inventory and assessment phases for substantially all
of its IT systems by year-end 1997. The Company's IT systems are currently in
the remediation and testing and certification phases. The Company has completed
the remediation of substantially all of its mission-critical IT systems and is
scheduled to complete the remediation of its other IT systems by March 30, 1999,
and the testing and certification of all of its IT systems by mid-1999.
The Company has inventoried and risk rated substantially all of its embedded
systems. The results of these processes indicate that embedded systems should
not present a material Year 2000 risk to the Company. The Company's remaining
steps include testing selected embedded systems and remediating and certifying
systems that exhibit Year 2000 issues. The Company is focusing its testing and
remediation efforts on select embedded systems of its mission-critical
facilities, such as data centers, service centers, communications centers and
select office locations. The Company plans to complete the testing of these
systems by mid-1999, and the remediation and certification of these systems by
year-end 1999.
The Company believes that its Year 2000 project generally is on schedule and
does not expect the pending acquisition of PHC to have a material impact on the
completion of its Year 2000 project.
External Relationships
The Company also faces the risk that one or more of its critical suppliers or
customers ("external relationships") will not be able to interact with the
Company due to the third party's inability to resolve its own Year 2000 issues,
including those associated with its own external relationships. The Company has
completed its inventory of external relationships and risk rated each external
relationship based upon the potential business impact, available alternatives
and cost of substitution. In the case of mission-critical suppliers, such as
banks, financial intermediaries (such as stock exchanges), telecommunications
providers and other utilities, mutual fund
Page 25
<PAGE> 26
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Year 2000 (Continued)
External Relationships (Continued)
companies, IT vendors, financial market data providers, national pharmacy
chains, electronic claims clearinghouses, major physician groups and major
hospitals, the Company is engaged in discussions with the third parties and is
attempting to obtain detailed information as to those parties' Year 2000 plans
and state of readiness. The Company, however, does not have sufficient
information at the current time to predict whether its external relationships
will be Year 2000 ready.
Year 2000 Costs
Total Year 2000 project costs were $108 million (after tax) in 1998 and are
currently estimated to be at least $85 million (after tax) in 1999. A large
majority of these costs are expected to be incremental expenses that will not
recur in the year 2000 or thereafter. Year 2000 costs were not material in 1997.
The Company expenses these costs as incurred and funds these costs through
operating cash flows.
Year 2000 readiness is critical to the Company. The Company has redeployed some
resources from noncritical system enhancements to address Year 2000 issues. Due
to the importance of IT systems to the Company's business, management has not
deferred mission-critical systems enhancements to become Year 2000 ready. The
Company does not expect these redeployments and deferrals to have a material
impact on the Company's financial condition or results of operations.
Risks and Contingency/Recovery Planning
If the Company's Year 2000 issues were unresolved, potential consequences would
include, among other possibilities, the inability to accurately and timely
process benefits claims; update customers' accounts; process financial
transactions; bill customers; assess exposure to risks; determine liquidity
requirements or report accurate data to management, shareholders, customers,
regulators and others; as well as business interruptions or shutdowns; financial
losses; reputational harm; increased scrutiny by regulators; and litigation
related to Year 2000 issues. The Company's international affiliates face
additional Year 2000 risk due to the diverse environments in which they operate.
The Company is attempting to limit the potential impact of the Year 2000 by
monitoring the progress of its own Year 2000 project and those of its critical
external relationships and by developing contingency/recovery plans. The Company
cannot guarantee that it will be able to resolve all of its Year 2000 issues.
Any critical unresolved Year 2000 issues at the Company or its external
relationships, however, could have a material adverse effect on the Company's
results of operations, liquidity or financial condition.
The Company has begun to develop contingency/recovery plans aimed at affecting
the continuity of critical business functions before and after December 31,
1999. As part of that process, the Company has begun to develop reasonably
possible failure scenarios for its critical IT systems and external
relationships, and the embedded systems in its critical facilities. Once these
scenarios are identified, the Company will develop plans that are designed to
reduce the impact on the Company, and provide methods of returning to normal
operations, if one or more of those scenarios occur. The Company expects
contingency/recovery planning to be substantially complete by September 1999.
See "Forward-Looking Information/Risk Factors" for factors that could cause
actual Year 2000 results to differ from the Company's expectations.
Page 26
<PAGE> 27
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Regulatory Environment
The federal and state governments continue to enact and seriously consider many
legislative and regulatory proposals that have or would materially impact
various aspects of the health care system. Many of these changes are described
below. While we anticipate that certain of these measures would adversely affect
us, at this time we cannot predict the extent of this impact.
Medicare
In 1997, the federal government passed legislation related to Medicare that
changed the method for determining premiums that the government pays to HMOs for
Medicare members. In general, the new method has and will reduce the premiums
payable to us compared to the old method, although the level and extent of the
reductions varies by geographic market and depends on other factors. The
legislation also requires us to pay a "user fee." The changes began to be phased
in on January 1, 1998 and will continue over five years. While the phase-in
provisions provide us with an opportunity to offset some of the premium
reductions and the user fee by adjusting the supplemental premiums that members
pay to us and by adjusting the benefits included in our products, because of
competition and other factors, the adjustments we can make may not fully offset
the reductions in premiums from the government. Because of these reduced
premiums and the user fee, as well as other factors including new Medicare +
Choice regulations issued by HCFA, we decided not to renew our Medicare HMO
contracts in certain areas effective January 1, 1999. The federal government
also announced in January 1999 that it planned to begin to phase in risk
adjustments to its premium payments over a five-year period commencing January
1, 2000. It is anticipated that the net impact of these risk adjustments will be
to reduce the premiums payable to the Company. It is uncertain whether we can
fully offset or recoup, through higher supplemental premiums, reduced benefits,
or market withdrawals, the impact of such reduced premiums.
HIPAA and Related Federal Legislation
The federal government enacted the Health Insurance Portability and
Accountability Act of 1996 ("HIPAA") in 1997. The legislation has three main
effects:
o It limits pre-existing condition exclusions that apply to individuals
changing jobs or moving to individual coverage;
o It guarantees that employees in the small group market have available
health coverage; and
o It prevents exclusion of individuals from coverage under group plans based
on health status.
Other federal legislation, effective January 1, 1998, mandates minimum hospital
stays after childbirth and that health plans apply lifetime limits to mental
health benefits with parity.
Page 27
<PAGE> 28
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Other Legislation and Regulation
The federal government and many states, including states in which we have
substantial managed care membership, have enacted or are seriously considering
additional legislation or regulation related to managed care. This legislation
or regulation includes, among other things, the following:
o Assessments, surcharges or taxes on premiums or provider payments to fund
uncompensated care, graduate medical education, high risk pools, guaranty
funds, or government programs
o Changes to licensure or certification requirements
o Eliminating or reducing the scope of ERISA pre-emption of state medical
and bad faith liability laws, exposing health plans to expanded liability
to punitive and other extra-contractual damages
o Extension of malpractice and other liability for medical and other
decisions from providers to health plans
o Hearings and limitations on termination of providers from networks
o Increased reserve and capital requirements
o Liability for negligent denials or delays in coverage
o Mandatory coverage of experimental procedures and drugs
o Mandatory direct access to specialists for patients with chronic
conditions
o Mandatory direct access to specialists (including OB/GYNs) and
chiropractors
o Mandated expanded consumer disclosures and notices
o Mandatory expanded coverage for emergency services
o Mandated liberalized definitions of medical necessity
o Mandated liberalized internal and external grievance and appeal procedures
(including expedited decision making)
o Mandatory maternity and other lengths of hospital inpatient stay
o Mandatory point-of-service benefits for HMO plans
o Prohibition of so-called "gag" and similar clauses
o Prohibitions on incentives based on utilization
o Prohibition or limitation of arrangements designed to manage medical costs
and improve quality of care, such as capitated arrangements with providers
or provider financial incentives
o Regulation of and restrictions on utilization management and review
o Regulation of the composition of provider networks, such as any willing
provider and pharmacy laws
o Required payment levels for out-of-network care
o Third party review of denials of benefits (including denials based on a
lack of medical necessity)
It is uncertain whether we can recoup, through higher premiums or other
measures, the increased costs of mandated benefits or the other increased costs
caused by such legislation or regulation.
The health business also may be adversely impacted by court and regulatory
decisions that expand the interpretations of existing statutes and regulations,
impose medical or bad faith liability, increase our responsibilities under
ERISA, or reduce the scope of ERISA pre-emption.
For other important information regarding regulation of our health and other
businesses, see "Forward-Looking Information/Risk Factors" and our 1998 Annual
Report on Form 10-K.
Page 28
<PAGE> 29
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Forward-Looking Information/Risk Factors
The Private Securities Litigation Reform Act of 1995 (the "1995 Act") provides a
"safe harbor" for forward-looking statements, so long as (1) those statements
are identified as forward-looking, and (2) the statements are accompanied by
meaningful cautionary statements that identify important factors that could
cause actual results to differ materially from those discussed in the statement.
We want to take advantage of these safe harbor provisions.
Certain information contained in this Management's Discussion and Analysis is
forward-looking within the meaning of the 1995 Act or Securities and Exchange
Commission rules. This information includes, but is not limited to: (1) the
information that appears under the headings "Outlook" in the discussion of
results of operations of each of our businesses, (2) "General Account
Investments - Risk Management and Market Sensitive Instruments" and (3) "Year
2000." In writing this Management's Discussion and Analysis, we also used the
following words, or variations of these words and similar expressions, where we
intended to identify forward-looking statements:
o Expects o Anticipates o Plans o Seeks
o Projects o Intends o Believes o Estimates
These forward-looking statements rely on a number of assumptions concerning
future events, and are subject to a number of significant uncertainties and
other factors, many of which are outside our control, that could cause actual
results to differ materially from these statements. You should not put undue
reliance on these forward-looking statements. We disclaim any intention or
obligation to update or revise forward-looking statements, whether as a result
of new information, future events or otherwise.
Set forth below are certain important risk factors that, in addition to general
economic conditions and other factors (some of which are discussed elsewhere in
this Annual Report), may affect these forward-looking statements and our
businesses generally. In addition, you may read our reports filed with the
Securities and Exchange Commission, including our 1998 Form 10-K, for a more
detailed description of certain uncertainties and factors that could cause
actual results to differ materially from these forward-looking statements.
Certain Factors Particular to Health Operations
Medical costs could increase beyond our expectations for a contract year.
Premiums in our Health Risk business are generally fixed by contract for
one-year periods. We cannot recover actual costs for the contract year that are
higher than those estimated and reflected in pricing through higher premiums
from customers. However, contracts renew periodically during the year and the
Company may be able to reflect increased costs as these contracts renew.
Factors that may increase medical costs for the contract year include increased
utilization, increases in provider contract rates, increases in noncontracted
provider charges, adverse changes in legislation and regulation, changes in
health practices and medical technologies, price increases in pharmaceuticals
and durable medical equipment and other factors.
Actual costs of medical claims could exceed the estimates reflected in our
reserves. For the Health Risk business, our medical claims payable reflect
estimates of the ultimate cost of claims incurred by members but not yet
reported to us, and claims reported to us but not yet paid. Estimates of medical
claims payable are based on a number of factors, including those derived from
historical claim experience. We estimate medical claims payable periodically,
and we reflect any adjustments to our estimates in our current period results.
Page 29
<PAGE> 30
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Forward-Looking Information/Risk Factors (Continued)
We establish reserves for Group Insurance products as premiums become due. These
reserves reflect the present value of expected future obligations net of the
present value of expected future premiums. Policy reserves for group paid-up
life insurance generally reflect long-term fixed obligations. We compute these
reserves on the basis of assumed or guaranteed yield and benefit payments. Our
assumptions are based on our historical claim experience. For long-term
disability products, we establish reserves for: (1) lives currently in payment
status (using standard industry, as well as our own, morbidity and interest rate
assumptions), (2) lives who have not yet satisfied the waiting period, but who
we expect will do so, and (3) claims that have been incurred but not reported to
us. Long-term care reserves are a long-term obligation, and we calculate them
using industry data for morbidity and mortality assumptions.
Federal and state governments may adopt legislation and regulations that
adversely affect our health business. As discussed above (see "Regulatory
Environment"), the federal and many state governments have enacted or are
actively considering certain legislative and regulatory changes related to
health products. At this time we are unable to predict the impact of future
changes, although we anticipate that certain of these measures, if enacted,
could adversely affect health operations through:
o reducing premiums
o reducing our ability to manage medical costs
o increasing medical costs and operating expenses
o regulating levels and permitted lines of business
o imposing financial assessments
o regulating business practices
Our profitability growth depends in part on an efficient integration of acquired
health operations. We acquired the NYLCare health business in July 1998 and
agreed to acquire the Prudential health care business in December 1998 (we
currently expect to close the PHC transaction in the second quarter of 1999).
Factors that can affect the efficiency of our integration include, but are not
limited to, our success in: (1) integrating management, products, legal
entities, networks and information systems on a timely basis, (2) applying
managed care expertise and techniques throughout a broader membership base and
(3) eliminating duplicative administrative and customer service functions.
Changes in our business mix can affect our profitability. If employers and
individuals select plans with higher copayments, deductibles or coinsurance then
certain of our medical costs would be lower, but we also would receive lower
premiums for these plans. In addition, our profitability may become more
sensitive to changes in medical costs and premiums if:
o more employers switch to self-funded coverage (where the employer
bears most or all of the medical cost risk);
o our Medicare risk membership increases relative to our commercial
risk membership (Medicare plans have both relatively higher premiums
and medical costs); and/or
o health products with relatively higher medical loss ratios are
purchased.
Also, adverse publicity, like the kind currently occurring, regarding managed
care may negatively influence participants' or employers' decisions to select
managed care plans generally, and our health plans, specifically.
Government payors can determine premiums. In government-funded health programs
such as Medicare and Medicaid, the government payor determines the premium
levels. If the government payor reduces the premium levels or increases premiums
by less than our cost increases and the Company cannot offset these with
supplemental premiums and changes in benefit plans, then we could be adversely
affected.
Page 30
<PAGE> 31
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Forward-Looking Information/Risk Factors (Continued)
Changes in accreditation of our health plans could affect our competitiveness.
Accreditation by independent quality accrediting agencies, such as the National
Committee for Quality Assurance, is an important competitive factor for certain
of our HMO plans. If our plans were to lose or be denied accreditation it could
adversely affect customer selection of our health products, and, in some
jurisdictions, could affect our licensure status.
Certain Factors Particular to Financial Services Operations
Significant changes in financial markets could affect earnings. Significant
changes in financial markets could impact the level of assets under management
in our Aetna Retirement Services, Large Case Pensions and Aetna International
businesses, and, in turn, our level of asset-based fees in those businesses. For
example, significant increases in interest rates or decreases in equity markets
would directly affect the level of assets under management and, in addition, may
increase the level of withdrawals and decrease the level of deposits by
customers. Customers under those circumstances may seek to diversify among asset
managers or seek investment alternatives that we do not offer. Significant
declines in the value of investments also may affect our ability to pass through
investment losses to certain experience rated customers, whether due to
triggering minimum guarantees or other business reasons.
Decreases in ratings could affect assets under management. Decreases in the
claims-paying ratings of our domestic financial services subsidiaries could have
the effect of decreasing new sales and deposits and increasing withdrawals and
surrenders in our Aetna Retirement Services and Large Case Pensions businesses.
Such changes in sales and deposits, withdrawals and surrenders would adversely
affect the level of asset-based fees of those businesses. The claims-paying
ratings of these subsidiaries are currently under review by certain rating
agencies pending completion of their analysis of the pending Prudential health
care acquisition.
Early withdrawal of assets could affect earnings. We incur up-front costs, such
as commissions, when we sell our annuity, life insurance and other financial
services products, including international financial services products. We
generally defer these costs and recognize them over time. As a result, the
retention of assets under those products is an important component of
profitability. We generally seek to structure our products and sales to
encourage retention of assets under management or recover costs, through
surrender charges, higher credited rates to customers if we retain their assets
for longer periods, paying renewal commissions, paying service fees or other
terms. However, if customers withdraw assets earlier than we anticipated when we
priced the products, it would adversely affect profitability. We also may
experience competitive pressure to lower margins.
Certain Factors Particular to International Operations
Devaluation of foreign currencies reduces earnings calculated in U.S. dollars.
We hedge our foreign exchange risk on a selective basis. However, we generally
do not hedge the currency exposure of our investments in foreign affiliates,
since we view these investments as long term. In preparing our consolidated
financial statements, we translate our results from the foreign currency in
which we operate in a particular country into U.S. dollars. Devaluation of a
country's currency, however, could adversely affect our results of operations
when translated into U.S. dollars. Also, when economies are considered highly
inflationary (generally, cumulative inflation levels in excess of 100% over a
three-year period), we then recognize changes in the value of net monetary
assets or liabilities currently in earnings, rather than through shareholders'
equity. This would potentially make our reported earnings more volatile. In
addition, although we consider foreign exchange trends when deciding to invest
in particular countries, currency devaluation also may affect the value of our
international investments when translated into U.S. dollars. See "Aetna
International - Outlook" for a discussion of the recent currency devaluation in
Brazil.
Page 31
<PAGE> 32
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Forward-Looking Information/Risk Factors (Continued)
International markets are subject to additional risks. Our Aetna International
operations involve certain other risks not typically associated with doing
business in the United States. These risks include investment and other controls
that may be imposed by governments, such as:
o Permitted levels of equity ownership of companies by foreign persons
o Restrictions on remittances of foreign earnings or repatriation of capital
o Currency exchange controls
o Restrictions on entry into new lines of business
o Requirements that portions of business be reinsured through
state-affiliated institutions
o Other restrictions affecting the conduct of business
Additionally, it may be more difficult for us to manage interest rate risk
because of the relatively short duration of investments that are available in
currencies that match long-term liabilities for international fixed-rate
products. Foreign economies may also experience increased volatility of equity
markets and high rates of inflation. They also may be subject to other political
and economic factors, such as more rapid change of regulatory policy. We
generally do not insure against foreign political risks.
Other Factors Affecting All of Our Businesses
Retention of our key senior executives is important to our operations. Our
success is dependent, in part, on our ability to attract and retain key senior
executives. We entered into employment agreements with certain of these
executives, although an employment agreement does not guarantee that an
executive's services with us will continue.
Adverse changes in regulation could affect the operations of each of our
businesses. In addition to our health business, each of our other businesses is
subject to comprehensive regulation. These businesses could be adversely
affected by:
o Increases in minimum capital and other financial viability requirements
for health and other insurance operations.
o Removal of barriers preventing banks from engaging in insurance and mutual
fund businesses.
o Changes in the taxation of insurance companies. For example, the President
of the United States' revenue proposal would require life insurance
companies to pay tax on certain income earned prior to 1984. Under current
law, that income is deferred for tax purposes. If this tax change, which
is currently just a proposal, were enacted then we would recognize a
one-time charge to income in the amount of the tax.
o Changes in the tax treatment of annuity, pension and other insurance
products as well as changes in capital gains tax rates. Certain of these
changes, should they occur, could affect the attractiveness to customers
of our retirement services products compared to investment alternatives
offered by our competitors.
Page 32
<PAGE> 33
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Continued)
Forward-Looking Information/Risk Factors (Continued)
Successful completion of our Year 2000 Project is important to operations. If we
do not resolve critical Year 2000 issues, or if third parties with whom we have
external relationships do not resolve critical Year 2000 issues, then those
issues could have a material adverse effect on our results of operations,
liquidity or financial condition. In addition, our expectations about the future
costs and timely and successful completion of our Year 2000 program are subject
to uncertainties that could cause actual results to differ materially from what
we discussed under "Year 2000." Factors that could influence our future costs
and the completion dates and effectiveness of our remediation, testing and
certification and contingency planning efforts include our success in
identifying IT systems and embedded systems that contain two-digit year codes,
the nature and amount of required reprogramming, testing and certification, the
rate and magnitude of related labor and consulting costs, the availability of
qualified personnel and the success of our external relationships in addressing
their own Year 2000 issues. See "Year 2000."
Litigation can increase our expenses. Litigation also could adversely affect us,
both through costs of defense and adverse results or settlements. See Note 21 of
Notes to Consolidated Financial Statements and our 1998 Form 10-K for
information regarding litigation, including current shareholder litigation and
certain litigation related to our health business.
Page 33
<PAGE> 34
Consolidated Statements of Income
<TABLE>
<CAPTION>
For the years ended December 31,
(Millions, except per common share data) 1998 1997 1996
- ----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Revenue:
Premiums $14,839.3 $12,592.2 $ 9,326.1
Net investment income 3,190.9 3,377.5 3,565.2
Fees and other income 2,362.1 2,236.3 2,174.8
Net realized capital gains 211.8 334.2 134.4
- ----------------------------------------------------------------------------------------------------------
Total revenue 20,604.1 18,540.2 15,200.5
- ----------------------------------------------------------------------------------------------------------
Benefits and Expenses:
Current and future benefits 14,538.7 12,852.0 10,378.7
Operating expenses 3,857.3 3,561.2 3,319.8
Interest expense 250.9 235.8 168.3
Amortization of goodwill and other acquired intangible assets 400.1 380.0 172.5
Amortization of deferred policy acquisition costs 215.3 217.5 160.1
Reductions of loss on discontinued products (68.0) (172.5) (202.3)
Severance and facilities charges (reserve reductions), net 1.5 (45.0) 864.7
- ----------------------------------------------------------------------------------------------------------
Total benefits and expenses 19,195.8 17,029.0 14,861.8
- ----------------------------------------------------------------------------------------------------------
Income from continuing operations before income taxes 1,408.3 1,511.2 338.7
Income taxes 560.2 610.1 133.6
- ----------------------------------------------------------------------------------------------------------
Income from continuing operations 848.1 901.1 205.1
Discontinued Operations, net of tax:
Income from operations -- -- 182.2
Gain on sale -- -- 263.7
- ----------------------------------------------------------------------------------------------------------
Net income $ 848.1 $ 901.1 $ 651.0
==========================================================================================================
Net income applicable to common ownership $ 792.8 $ 845.6 $ 625.9
==========================================================================================================
Results Per Common Share:
Income from continuing operations:
Basic $ 5.50 $ 5.67 $ 1.37
Diluted 5.41 5.60 1.36
Net income:
Basic $ 5.50 $ 5.67 $ 4.77
Diluted 5.41 5.60 4.72
- ----------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Consolidated Financial Statements.
Page 34
<PAGE> 35
Consolidated Balance Sheets
<TABLE>
<CAPTION>
As of December 31,
(Millions, except per common share data) 1998 1997
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Assets:
Investments:
Debt securities available for sale, at fair value (amortized cost $30,730.1 and $32,694.0) $ 32,180.8 $34,245.0
Equity securities, at fair value (cost $762.6 and $824.4) 800.5 1,041.4
Short-term investments 942.2 1,003.9
Mortgage loans 3,553.0 4,207.8
Real estate 270.3 369.5
Policy loans 458.7 746.9
Other 1,264.5 947.4
- -------------------------------------------------------------------------------------------------------------------------
Total investments 39,470.0 42,561.9
- -------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents 1,951.5 1,805.8
Short-term investments under securities loan agreement 753.6 --
Accrued investment income 537.1 545.8
Premiums due and other receivables 1,478.1 1,205.8
Reinsurance recoverables 3,897.2 175.2
Deferred income taxes 53.0 --
Deferred policy acquisition costs 1,768.6 2,367.3
Goodwill and other acquired intangible assets 9,155.3 8,506.3
Other assets 1,111.9 875.1
Separate Accounts assets 44,971.8 37,957.4
- -------------------------------------------------------------------------------------------------------------------------
Total assets $105,148.1 $96,000.6
=========================================================================================================================
Liabilities:
Future policy benefits $ 18,541.1 $17,837.1
Unpaid claims 3,953.9 3,294.4
Unearned premiums 428.9 359.2
Policyholders' funds left with the Company 17,632.5 18,761.2
- -------------------------------------------------------------------------------------------------------------------------
Total insurance liabilities 40,556.4 40,251.9
Dividends payable to shareholders 35.2 36.1
Short-term debt 1,063.4 252.1
Long-term debt 2,521.2 2,346.2
Payables under securities loan agreement 753.6 --
Current income taxes 444.8 320.5
Deferred income taxes -- 223.3
Other liabilities 3,025.2 2,931.9
Minority and participating policyholders' interests 148.4 237.7
Separate Accounts liabilities 44,936.0 37,930.5
- -------------------------------------------------------------------------------------------------------------------------
Total liabilities 93,484.2 84,530.2
- -------------------------------------------------------------------------------------------------------------------------
Aetna-obligated mandatorily redeemable preferred securities of subsidiary limited liability
company holding primarily debentures guaranteed by Aetna 275.0 275.0
- -------------------------------------------------------------------------------------------------------------------------
Commitments and Contingent Liabilities (Notes 4, 6 and 21)
Shareholders' Equity:
Class C voting mandatorily convertible preferred stock ($.01 par value; 15,000,000 shares
authorized; 11,614,816 in 1998 and 11,655,206 in 1997 issued and outstanding) 862.1 865.4
Common stock ($.01 par value; 500,000,000 shares authorized; 141,272,628 in 1998 and
145,794,844 in 1997 issued and outstanding) 3,292.4 3,644.4
Accumulated other comprehensive income 177.8 307.1
Retained earnings 7,056.6 6,378.5
- -------------------------------------------------------------------------------------------------------------------------
Total shareholders' equity 11,388.9 11,195.4
- -------------------------------------------------------------------------------------------------------------------------
Total liabilities, redeemable preferred securities and shareholders' equity $105,148.1 $96,000.6
=========================================================================================================================
Shareholders' equity per common share $ 74.51 $ 70.85
=========================================================================================================================
</TABLE>
See Notes to Consolidated Financial Statements.
Page 35
<PAGE> 36
Consolidated Statements of Shareholders' Equity
<TABLE>
<CAPTION>
Three years ended December 31, 1998
---------------------------------------------------------------------------
Accumulated Other
Comprehensive Income
Class C Voting ------------------------
Mandatorily Unrealized
Convertible Common Gains (Losses) Foreign Retained
(Millions, except share data) Total Preferred Stock Stock on Securities Currency Earnings
- --------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Balances at December 31, 1995 $ 7,272.8 $ -- $1,436.1 $ 797.0 $(155.9) $5,195.6
- --------------------------------------------------------------------------------------------------------------------------
Comprehensive income:
Net income 651.0 651.0
Other comprehensive loss, net of tax:
Unrealized losses on securities
($(527.6) pretax)(1) (342.8) (342.8)
Foreign currency ($64.2 pretax) 41.7 41.7
---------
Other comprehensive loss (301.1)
---------
Total comprehensive income 349.9
=========
Issued for U.S. Healthcare merger:
Class C voting mandatorily convertible
preferred stock (11,655,546 shares) 865.4 865.4
Common shares (34,988,615 shares) 2,580.1 2,580.1
Stock options 24.8 24.8
Common stock issued for benefit plans
(1,563,491 shares) 75.1 75.1
Repurchase of common shares
(1,194,400 shares) (83.3) (83.3)
Common stock dividends (170.0) (170.0)
Preferred stock dividends (25.1) (25.1)
- --------------------------------------------------------------------------------------------------------------------------
Balances at December 31, 1996 10,889.7 865.4 4,032.8 454.2 (114.2) 5,651.5
==========================================================================================================================
Comprehensive income:
Net income 901.1 901.1
Other comprehensive loss, net of tax:
Unrealized gains on securities
($81.8 pretax)(1) 49.9 49.9
Foreign currency ($(127.3) pretax) (82.8) (82.8)
---------
Other comprehensive loss (32.9)
---------
Total comprehensive income 868.2
=========
Common stock issued for benefit plans
(1,883,945 shares) 134.7 134.7
Repurchase of common shares
(6,173,900 shares) (523.1) (523.1)
Common stock dividends (118.6) (118.6)
Preferred stock dividends (55.5) (55.5)
- --------------------------------------------------------------------------------------------------------------------------
Balances at December 31, 1997 11,195.4 865.4 3,644.4 504.1 (197.0) 6,378.5
==========================================================================================================================
Comprehensive income:
Net income 848.1 848.1
Other comprehensive loss, net of tax:
Unrealized losses on securities
($(179.8) pretax)(1) (116.9) (116.9)
Foreign currency ($(19.1) pretax) (12.4) (12.4)
---------
Other comprehensive loss (129.3)
---------
Total comprehensive income 718.8
=========
Common stock issued for benefit plans
(576,387 shares) 39.6 39.6
Repurchase of common shares
(5,131,700 shares) (394.9) (394.9)
Conversion of preferred securities
(40,390 preferred shares converted to
33,097 common shares) -- (3.3) 3.3
Common stock dividends (114.7) (114.7)
Preferred stock dividends (55.3) (55.3)
- --------------------------------------------------------------------------------------------------------------------------
Balances at December 31, 1998 $11,388.9 $862.1 $3,292.4 $ 387.2 $(209.4) $7,056.6
==========================================================================================================================
</TABLE>
(1) Net of reclassification adjustments.
See Notes to Consolidated Financial Statements.
Page 36
<PAGE> 37
Consolidated Statements of Cash Flows
<TABLE>
<CAPTION>
For the years ended December 31,
(Millions, except per common share data) 1998 1997 1996
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Cash Flows from Operating Activities:
Net income $ 848.1 $ 901.1 $ 651.0
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization (including investment discounts
and premiums) 451.4 374.2 207.4
Gain related to sale of life business (98.9) -- --
Gain on sale of Discontinued Operations -- -- (263.7)
Income from Discontinued Operations -- -- (182.2)
-------- ---------- ----------
Cash flows provided by operating activities and net realized
capital gains before changes in assets and liabilities 1,200.6 1,275.3 412.5
Net realized capital gains (211.8) (334.2) (134.4)
-------- ---------- ----------
Cash flows provided by operating activities before changes
in assets and liabilities 988.8 941.1 278.1
Changes in assets and liabilities:
Decrease in accrued investment income 8.5 46.0 24.9
(Increase) Decrease in premiums due and other receivables (92.6) (245.8) 12.0
Increase in deferred policy acquisition costs (278.9) (302.4) (275.1)
(Decrease) Increase in income taxes (97.6) 323.3 (155.8)
Net (increase) decrease in other assets and other liabilities (244.0) (193.0) 209.8
Increase in other insurance liabilities 598.4 656.4 673.7
Other, net (2.2) 4.9 5.5
- ----------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 880.4 1,230.5 773.1
- ----------------------------------------------------------------------------------------------------------------------
Cash Flows from Investing Activities:
Proceeds from sales of:
Debt securities available for sale 20,254.6 16,247.8 13,625.6
Equity securities 833.4 961.4 565.6
Mortgage loans 90.4 1,078.8 154.9
Real estate 136.5 626.8 689.5
Other investments 579.1 924.7 838.6
Short-term investments 21,229.1 19,957.0 34,679.2
Discontinued Operations -- -- 4,134.1
Life business 1,000.0 -- --
Investment maturities and repayments of:
Debt securities available for sale 2,849.4 3,913.9 3,567.0
Mortgage loans 918.4 1,726.5 1,569.7
Cost of investments in:
Debt securities available for sale (20,602.6) (21,310.1) (16,922.5)
Equity securities (481.5) (626.1) (859.5)
Mortgage loans (319.2) (255.3) (360.5)
Real estate (38.5) (66.8) (116.4)
Other investments (5,295.4) (1,544.6) (1,090.7)
Short-term investments (21,126.0) (20,291.7) (34,703.0)
U.S. Healthcare -- -- (5,243.9)
Increase in property and equipment (123.2) (92.4) (78.2)
(Increase) Decrease in Separate Accounts (9.1) 38.1 (3.2)
Other, net (97.4) 83.0 (46.7)
- ----------------------------------------------------------------------------------------------------------------------
Net cash (used for) provided by investing activities (202.0) 1,371.0 399.6
- ----------------------------------------------------------------------------------------------------------------------
Cash Flows from Financing Activities:
Deposits and interest credited for investment contracts 2,046.4 1,872.5 1,968.1
Withdrawals of investment contracts (3,150.9) (3,481.1) (5,191.6)
Issuance of long-term debt 332.4 4.7 1,389.3
Repayment of long-term debt (153.0) (34.3) --
Net increase (decrease) in short-term debt 815.6 (46.7) (109.4)
Common stock issued under benefit plans 39.6 134.7 75.1
Common stock acquired (394.9) (523.1) (83.3)
Dividends paid to shareholders (170.9) (174.9) (237.3)
- ----------------------------------------------------------------------------------------------------------------------
Net cash used for financing activities (635.7) (2,248.2) (2,189.1)
- ----------------------------------------------------------------------------------------------------------------------
Effect of exchange rate changes on cash and cash equivalents (5.8) (10.1) (0.3)
- ----------------------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash and cash equivalents 36.9 343.2 (1,016.7)
Cash from acquisitions 108.8 -- 766.6
Cash and cash equivalents, beginning of year 1,805.8 1,462.6 1,712.7
- ----------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents, end of year $ 1,951.5 $ 1,805.8 $ 1,462.6
======================================================================================================================
</TABLE>
See Notes to Consolidated Financial Statements.
Page 37
<PAGE> 38
Notes to Consolidated Financial Statements
1. Summary of Significant Accounting Policies
Aetna Inc., through its subsidiaries, provides health care benefits, group
insurance and financial services. Aetna Inc. has four reportable segments: Aetna
U.S. Healthcare, Aetna Retirement Services, Aetna International and Large Case
Pensions. Aetna U.S. Healthcare provides a full spectrum of managed care,
indemnity, other health and group insurance products. Aetna Retirement Services
offers financial services. Aetna International, through subsidiaries and joint
venture operations, sells primarily life insurance, health insurance and
financial retirement services products in markets outside of the United States.
Large Case Pensions manages a variety of retirement products for primarily
defined benefit and defined contribution plans in the U.S. These segments are
distinct businesses that offer different products and services. They are managed
separately as each business requires different market strategies, technology and
capital allocation. The accounting policies of the segments are the same as
those described in the summary of significant accounting policies. Aetna Inc.
evaluates performance of these business segments based on operating earnings
(net income excluding net realized capital gains and losses and any unusual
items such as Year 2000 costs, severance and facilities actions, reduction of
the reserve for discontinued products, etc.). All footnote disclosures reflect
continuing operations unless otherwise noted.
Principles of Consolidation
The consolidated financial statements include Aetna Inc. and its majority-owned
subsidiaries (collectively, the "Company"), including Aetna Services, Inc.
("Aetna Services") and, from July 19, 1996, Aetna U.S. Healthcare Inc. (Refer to
Note 3.) Less than majority-owned entities in which the Company has at least a
20% interest are reported on the equity basis. These consolidated financial
statements have been prepared in accordance with generally accepted accounting
principles. Certain reclassifications have been made to 1997 and 1996 financial
information to conform to the 1998 presentation.
New Accounting Standards
Employers' Disclosure about Pensions and Other Postretirement Benefits
As of December 31, 1998, the Company adopted Financial Accounting Standard
("FAS") No. 132, Employers' Disclosure about Pensions and Other Postretirement
Benefits. This statement amends Financial Accounting Standards Board ("FASB")
Statements Nos. 87, 88 and 106 and standardizes the disclosure requirements for
pensions and other postretirement benefits to provide additional information,
primarily relating to plan assets and benefit obligations. (Refer to Note 12.)
Disclosures about Segments of an Enterprise and Related Information
As of December 31, 1998, the Company adopted FAS No. 131, Disclosures about
Segments of an Enterprise and Related Information. This statement establishes
standards for the reporting of information relating to operating segments. This
statement supersedes FAS No. 14, Financial Reporting for Segments of a Business
Enterprise, which requires reporting segment information by industry and
geographic area (industry approach). Under FAS No. 131, operating segments are
defined as components of a company for which separate financial information is
available and is used by management to allocate resources and assess performance
(management approach). The adoption of this statement did not change the
composition or the results of operations of any of the operating segments of the
Company, which are consistent with the management approach. (Refer to Notes 18,
19 and 20.)
Page 38
<PAGE> 39
Notes to Consolidated Financial Statements (Continued)
1. Summary of Significant Accounting Policies (Continued)
New Accounting Standards (Continued)
Accounting for the Costs of Computer Software Developed or Obtained for Internal
Use
On January 1, 1998, the Company adopted Statement of Position ("SOP") 98-1,
Accounting for the Costs of Computer Software Developed or Obtained for Internal
Use, issued by the American Institute of Certified Public Accountants ("AICPA").
This statement requires that certain costs incurred in developing internal-use
computer software (in process at, and subsequent to the adoption date) be
capitalized and provides guidance for determining whether computer software is
considered to be for internal use. The Company is amortizing these costs over a
period of three to five years. Previously, the Company expensed the cost of
internal-use computer software as incurred. The adoption of this statement
resulted in a net after-tax increase to the results of operations of $33
million, or $0.22 per diluted common share, for the year ended December 31,
1998.
Accounting for Transfers and Servicing of Financial Assets and Extinguishments
of Liabilities
In June 1996, the FASB issued FAS No. 125, Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities, that provides
accounting and reporting standards for transfers of financial assets and
extinguishments of liabilities. FAS No. 125 was effective for 1997 financial
statements, however, certain provisions relating to accounting for repurchase
agreements and securities lending were not effective until January 1, 1998. The
adoption of those provisions effective in 1998 did not have a material effect on
the Company's financial position or results of operations.
Future Application of Accounting Standards
Deposit Accounting: Accounting for Insurance and Reinsurance Contracts That Do
Not Transfer Insurance Risk
In October 1998, the AICPA issued SOP 98-7, Deposit Accounting: Accounting for
Insurance and Reinsurance Contracts That Do Not Transfer Insurance Risk, which
provides guidance on how to account for all insurance and reinsurance contracts
that do not transfer insurance risk, except for long-duration life and health
insurance contracts. This statement is effective for the Company's financial
statements beginning January 1, 2000, with early adoption permitted. The Company
is currently evaluating the impact of the adoption of this statement and the
potential effect on its financial position and results of operations.
Accounting for Derivative Instruments and Hedging Activities
In June 1998, the FASB issued FAS No. 133, Accounting for Derivative Instruments
and Hedging Activities. This standard requires companies to record all
derivatives on the balance sheet as either 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 values of those derivatives
depends on the use of the derivative and whether it qualifies for hedge
accounting. This standard is effective for the Company's financial statements
beginning January 1, 2000, with early adoption permitted. The Company is
currently evaluating the impact of the adoption of this statement and the
potential effect on its financial position and results of operations.
Accounting by Insurance and Other Enterprises for Insurance-Related Assessments
In December 1997, the AICPA issued SOP 97-3, Accounting by Insurance and Other
Enterprises for Insurance-Related Assessments, which provides guidance for
determining when an insurance or other enterprise should recognize a liability
for guaranty-fund and other insurance-related assessments and guidance for
measuring the liability. This statement is effective for the Company's 1999
financial statements with early adoption permitted. The Company does not expect
adoption of this statement to have a material effect on its financial position
or results of operations.
Page 39
<PAGE> 40
Notes to Consolidated Financial Statements (Continued)
1. Summary of Significant Accounting Policies (Continued)
Use of Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the financial statements and accompanying notes.
Actual results could differ from reported results using those estimates.
Cash and Cash Equivalents
Cash and cash equivalents include cash on hand, money market instruments and
other debt issues with a maturity of 90 days or less when purchased.
Investments
Debt and equity securities are classified as available for sale and carried at
fair value. These securities are written down (as realized capital losses) for
other than temporary declines in value. Unrealized capital gains and losses
related to available-for-sale investments, other than amounts allocable to
experience-rated contractholders (where the contractholder and not the company
assumes the investment risk) and discontinued products, are reflected in
shareholders' equity, net of related income taxes. Purchases and sales of debt
and equity securities are recorded on the trade date. Sales of mortgage loans
and real estate are recorded on the closing date.
Fair values for debt and equity securities are based on quoted market prices or
dealer quotations. Where quoted market prices or dealer quotations are not
available, fair values are measured utilizing quoted market prices for similar
securities or by using discounted cash flow methods. Cost for mortgage-backed
securities is adjusted for unamortized premiums and discounts, which are
amortized using the interest method over the estimated remaining term of the
securities, adjusted for anticipated prepayments. The Company does not accrue
interest on problem debt securities when management believes the collection of
interest is unlikely.
The Company engages in securities lending whereby certain securities from its
portfolio are loaned to other institutions for short periods of time. Initial
collateral, primarily cash, is required at a rate of 102% of the market value of
a loaned domestic security and 105% of the market value of a loaned foreign
security. The collateral is deposited by the borrower with a lending agent, and
retained and invested by the lending agent according to the Company's guidelines
to generate additional income. The market value of the loaned securities is
monitored on a daily basis, with additional collateral obtained or refunded as
the market value of the loaned securities fluctuates.
Mortgage loans and policy loans are carried at unpaid principal balances, net of
impairment reserves. A mortgage loan is considered impaired when it is probable
that the Company will be unable to collect amounts due according to the
contractual terms of the loan agreement (delays of up to 60 days may not result
in a loan being considered impaired). The Company accrues interest income on
impaired loans to the extent it is deemed collectible and the loan continues to
perform under its original or restructured terms. Interest income on problem
loans is generally recognized on a cash basis. Cash payments on loans in the
process of foreclosure are generally treated as a return of principal. For
impaired loans, a specific impairment reserve is established for the difference
between the recorded investment in the loan and the estimated fair value of the
collateral. The Company applies this loan impairment policy individually to all
loans in the portfolio and does not aggregate loans for the purpose of applying
such provisions. The Company records full or partial charge-offs of loans at the
time an event occurs affecting the legal status of the loan, typically at the
time of foreclosure (actual or in-substance) or upon a loan modification giving
rise to forgiveness of debt. A general reserve is established for losses
management believes are likely to arise from loans in the portfolio, other than
for those losses that have been specifically reserved. The Company does not
accrue interest on impaired loans when management believes the collection of
interest is unlikely.
Page 40
<PAGE> 41
Notes to Consolidated Financial Statements (Continued)
1. Summary of Significant Accounting Policies (Continued)
Investments (Continued)
Investment real estate, which the Company has the intent to hold for the
production of income, is carried at depreciated cost, including capital
additions, net of write-downs for other than temporary declines in fair value.
Properties held for sale (primarily acquired through foreclosure) are carried at
the lower of cost or fair value less estimated selling costs. Adjustments to the
carrying value of properties held for sale are recorded in a valuation reserve
when the fair value less estimated selling costs is below cost. Fair value is
generally estimated using a discounted future cash flow analysis in conjunction
with comparable sales information. Property valuations are reviewed regularly by
the Company's investment management group.
Short-term investments, consisting primarily of money market instruments and
other debt purchased with an original maturity of 91 days to one year, are
considered available for sale and are carried at fair value, which approximates
amortized cost.
Other invested assets consist primarily of partnerships and equity subsidiaries.
Partnerships and equity subsidiaries are carried on an equity basis.
The Company utilizes foreign exchange forward contracts, futures contracts, swap
agreements, warrants and written options for other than trading purposes in
order to hedge interest rate, equity price and foreign exchange risks
(collectively, market risk). (Refer to Note 6.)
Foreign exchange forward contracts, which are designated at inception and are
effective as hedges of foreign translation and transaction exposures related to
investments classified as available for sale, are accounted for using the
deferral method. Accordingly, realized and unrealized gains and losses from
these foreign exchange forward contracts are deferred on the Consolidated
Balance Sheets, net of tax, in accumulated other comprehensive income. Upon
disposal of the hedged item, deferred gains and losses are recognized in net
realized capital gains or losses. Excess realized or unrealized gain or loss, if
any, from the foreign exchange forward contract compared to the foreign
investment being hedged, is reported as a net realized capital gain or loss.
Futures contracts are carried at fair value and require daily cash settlement.
Changes in the fair value of futures contracts that qualify as hedges are
deferred and recognized as an adjustment to the hedged asset or liability.
Deferred gains or losses on such futures contracts are amortized over the life
of the acquired asset or liability as a yield adjustment or through net realized
capital gains or losses upon disposal of an asset. Changes in the fair value of
futures contracts that do not qualify as hedges are recorded in net realized
capital gains or losses. Hedge designation requires specific asset or liability
identification, a probability at inception of high correlation with the position
underlying the hedge, and that such high correlation be maintained throughout
the hedge period. If a hedging instrument ceases to be highly correlated with
the position underlying the hedge, hedge accounting ceases at that date and
excess gains and losses on the hedging instrument are reflected in net realized
capital gains or losses.
Interest rate and currency swap agreements, which are designated as interest
rate or currency risk management instruments at inception, are accounted for
using the accrual method. Accordingly, the difference between amounts paid and
received on such agreements is reported in net investment income. There is no
recognition in the Consolidated Balance Sheets of changes in the fair value of
these agreements.
Warrants represent the right to purchase specific securities and are accounted
for as hedges. Upon exercise, the cost of the warrants is added to the basis of
the securities purchased.
Written options are contracts that grant the purchaser, for a fee, the right but
not the obligation, to buy or sell a financial instrument at a contracted price
within a specified period of time. Changes in the fair value of the option are
reported in realized capital gains.
Page 41
<PAGE> 42
Notes to Consolidated Financial Statements (Continued)
1. Summary of Significant Accounting Policies (Continued)
Foreign Currency Translation
The financial statements of the Company's foreign subsidiaries, where the local
currency is the functional currency, are translated into U.S. dollars at the
exchange rate in effect at each year end for assets and liabilities and average
exchange rates during the year for results of operations. The related unrealized
gains or losses resulting from translation of the net assets are included in
accumulated other comprehensive income. If the economy of the country where a
foreign subsidiary is located is considered highly inflationary (generally,
cumulative inflation levels in excess of 100% over a three-year period), changes
in the value of net monetary assets or liabilities would be recognized currently
in earnings.
Goodwill and Other Acquired Intangible Assets
Goodwill, which represents the excess of cost over the fair value of net assets
acquired, is amortized on a straight-line basis over periods not exceeding 40
years. Other acquired intangible assets, which are primarily customer lists,
health provider networks and computer systems, are amortized on a straight-line
basis over various periods not exceeding 25 years.
The Company regularly evaluates the recoverability of goodwill and other
acquired intangible assets. The carrying value of such assets would be reduced
through a direct write-off if, in management's judgment, it was probable that
projected future operating income (before amortization of goodwill and other
acquired intangible assets) would not be sufficient on an undiscounted basis to
recover the carrying value. Operating earnings considered in such an analysis
are those of the entity acquired, if separately identifiable, or the business
segment that acquired the entity if the entity's earnings are not separately
identifiable.
Deferred Policy Acquisition Costs
Certain costs of acquiring insurance business are deferred. These costs, all of
which vary with and are primarily related to the production of new and renewal
business, consist principally of commissions, certain expenses of underwriting
and issuing contracts, and certain agency expenses. For certain annuity and
pension contracts, such costs are amortized in proportion to estimated gross
profits and adjusted to reflect actual gross profits over the life of the
contracts (up to 20 years for annuity and pension contracts). Deferred policy
acquisition costs are written off to the extent that it is determined that
future policy premiums and investment income or gross profits are not adequate
to cover related expenses.
Separate Accounts
Separate Accounts assets and liabilities generally represent funds maintained to
meet specific investment objectives of contractholders who bear the investment
risk, subject, in some cases, to minimum guaranteed rates. Investment income and
investment gains and losses generally accrue directly to such contractholders.
The assets of each account are legally segregated and are not subject to claims
that arise out of any other business of the Company. The assets and liabilities
are carried at market value. Deposits, net investment income and realized
capital gains and losses on Separate Accounts assets are not reflected in the
Consolidated Statements of Income. Management fees charged to contractholders
are included in fees and other income.
Page 42
<PAGE> 43
Notes to Consolidated Financial Statements (Continued)
1. Summary of Significant Accounting Policies (Continued)
Insurance Liabilities
Future policy benefits include reserves for limited payment and traditional life
insurance contracts. (Refer to Note 4 for further discussion on the sale of the
individual life insurance business.) Reserves for universal life contracts are
equal to cumulative premiums less charges plus credited interest thereon.
Reserves for limited payment and traditional life insurance contracts are
computed on the basis of assumed investment yield, mortality, morbidity and
expenses, including a margin for adverse deviation. Such assumptions generally
vary by plan, year of issue and policy duration. Reserve interest rates averaged
6.56% in 1998. Investment yield is based on the Company's experience. Mortality,
morbidity and withdrawal rate assumptions are based on the Company's experience
and are periodically reviewed against both industry standards and experience.
Policyholders' funds left with the Company include reserves for pension and
annuity investment contracts. Reserves on such contracts are equal to cumulative
deposits less charges plus credited interest thereon (rates averaged 9.19% in
1998), net of adjustments for investment experience that the Company is entitled
to reflect in future credited interest. Reserves on contracts subject to
experience rating reflect the rights of contractholders, plan participants and
the Company.
Unpaid claims related to the Company's prepaid health care services (primarily
health maintenance organizations) consist principally of medical claims and
capitation costs. Medical claims include estimates of payments to be made on
claims reported and estimates of health care services rendered but not reported
to the Company as of the balance sheet date. Such estimates include the cost of
services that will continue to be rendered after the balance sheet date if the
Company is obligated to pay for such services in accordance with contract
provisions or regulatory requirements. Reserves for unpaid claims for other
group health products (including short-duration contracts) and medical claims
payable reflect estimates, derived from past experience, of the ultimate cost of
incurred claims, including claims that have been incurred but not reported, and
claims that have been reported, but not settled. Unpaid claims payable are
estimated periodically and any resulting adjustments are reflected in results of
operations.
Premium deficiency losses are recognized when it is probable that expected claim
expenses will exceed future premiums on existing health and other insurance
contracts. For purposes of premium deficiency losses, contracts are grouped in a
manner consistent with the Company's method of acquiring, servicing and
measuring the profitability of such contracts.
Intersegment Transactions
The Company accounts for intersegment loans as if the loans were to third
parties, that is, at current market rates. The intersegment loans and related
interest are eliminated in consolidation.
Revenue Recognition
For certain annuity contracts, charges assessed against policyholders' funds for
the cost of insurance, surrender charges, actuarial margin and other fees are
recorded as revenue in fees and other income. Other amounts received for these
contracts are reflected as deposits and are not recorded as revenue. Related
policy benefits are recorded in relation to the associated premiums or gross
profit so that profits are recognized over the expected lives of the contracts.
When annuity payments with life contingencies begin under contracts that were
initially investment contracts, the accumulated balance in the account is
treated as a single premium for the purchase of an annuity, reflected as an
offsetting amount in both premiums and current and future benefits in the
Consolidated Statements of Income.
Page 43
<PAGE> 44
Notes to Consolidated Financial Statements (Continued)
1. Summary of Significant Accounting Policies (Continued)
Revenue Recognition (continued)
Group health and group insurance premiums are generally recorded as premium
revenue over the term of the coverage. Some group contracts allow for premiums
to be adjusted to reflect actual experience. Such premiums are recognized as the
experience emerges.
Fees and other income are derived primarily from contracts for claim processing
or other administrative services and are recorded over the period the service is
provided.
Allocations of Expenses
The Company allocates centrally incurred costs associated with specific internal
goods or services provided to a segment, such as employee services, technology
services and rent, to the business segments based on a reasonable method of each
specific cost (e.g., usage, headcount, compensation or square footage occupied).
Interest expense on third-party borrowings is not currently allocated to the
reporting segments, since it is not used as a basis for measuring the operating
performance of the segment.
Income Taxes
The Company is taxed at regular corporate rates after adjusting income reported
for financial statement purposes for certain items. The Company files a
consolidated federal income tax return. Foreign subsidiaries and U.S.
subsidiaries operating outside of the United States are taxed under applicable
foreign statutes. Deferred income tax expenses/benefits result from changes
during the year in cumulative temporary differences between the tax basis and
book basis of assets and liabilities.
Reinsurance
The Company utilizes reinsurance agreements to reduce exposure to large losses
in certain aspects of its insurance business. Reinsurance permits recovery of a
portion of losses from reinsurers, although it does not discharge the primary
liability of the Company as direct insurer of the risks reinsured. Only those
reinsurance recoverables deemed probable of recovery are reflected as assets.
(Refer to Note 4.)
Page 44
<PAGE> 45
Notes to Consolidated Financial Statements (Continued)
2. Earnings Per Common Share
A reconciliation of the numerator and denominator of the basic and diluted
earnings per common share ("EPS") is as follows:
<TABLE>
<CAPTION>
Per Common
Income Shares Share
(Millions, except per common share data) (Numerator) (Denominator) Amount
- --------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
1998
Net income $848.1
Less: Preferred stock dividends 55.3
------
Basic EPS
Income applicable to common ownership 792.8 144.1 $5.50
Effect of dilutive securities: =====
Stock options and other (1) 1.1
Convertible preferred stock 55.3 11.6
------ -----
Diluted EPS
Income applicable to common ownership and assumed conversions $848.1 156.8 $5.41
=======================================================================================================
1997
Net income $901.1
Less: Preferred stock dividends 55.5
------
Basic EPS
Income applicable to common ownership 845.6 149.2 $5.67
Effect of dilutive securities: =====
Stock options and other (1) 1.5
Convertible preferred stock 55.5 10.2
------ -----
Diluted EPS
Income applicable to common ownership and assumed conversions $901.1 160.9 $5.60
=======================================================================================================
1996(2)(3)
Income from continuing operations $205.1
Less: Preferred stock dividends 25.1
------
Basic EPS
Income applicable to common ownership $180.0 131.3 $1.37
====== =====
Effect of dilutive securities:
Stock options and other (1) 1.2
-----
Diluted EPS
Income applicable to common ownership and assumed conversions $180.0 132.5 $1.36
=======================================================================================================
</TABLE>
(1) Options to purchase shares of common stock in 1998, 1997 and 1996 of 3.0
million shares, .2 million shares and 1.2 million shares, respectively,
(with exercise prices ranging from $71.50 - $112.63) were not included in
the calculation of diluted earnings per common share because the options'
exercise price was greater than the average market price of common shares.
(2) The issuable common stock related to Class C voting mandatorily
convertible preferred stock (5.3 million weighted average shares) was not
included in the computation of diluted earnings per common share in 1996
because to do so would be anti-dilutive.
(3) In 1996, basic and diluted earnings per common share related to
Discontinued Operations were $3.40 and $3.36, respectively.
Page 45
<PAGE> 46
Notes to Consolidated Financial Statements (Continued)
3. Merger with U.S. Healthcare
The merger with U.S. Healthcare was consummated on July 19, 1996. As a result of
the merger, each outstanding share of Aetna Services common stock became a share
of common stock of Aetna Inc. Each outstanding share of U.S. Healthcare common
stock and Class B Stock became a right to receive $34.20 in cash, 0.2246 shares
of Aetna Inc. common stock and 0.0749 shares of Aetna Inc. Class C Voting
Preferred Stock. The Company's consolidated results of operations include U.S.
Healthcare from July 19, 1996.
The merger was accounted for as a purchase. Total consideration of approximately
$8.9 billion resulted in $7.9 billion, net of related deferred taxes,
representing the excess of the purchase price over the fair values of the net
assets acquired, being allocated to goodwill and other acquired intangible
assets and is being amortized over a 40-year period for goodwill and over a
range of five to 25 years for other acquired intangible assets.
4. Other Acquisitions and Dispositions
Aetna U.S. Healthcare
On December 9, 1998, the Company entered into definitive agreements with The
Prudential Insurance Company of America to acquire the Prudential health care
business for $1 billion. The Company currently expects to complete the
acquisition in the second quarter of 1999. The acquisition is subject to
approval by federal antitrust and state regulators, and other customary closing
conditions.
On July 15, 1998, the Company acquired New York Life Insurance Company's ("NYL")
NYLCare health business for a purchase price of $1.05 billion in cash, subject
to adjustment as provided in the transaction agreements. The acquisition was
accounted for as a purchase. The excess of the cash payment over the fair value
of the net assets acquired resulted in approximately $950 million, net of
related deferred taxes, being allocated to goodwill and other acquired
intangible assets, which is being amortized over a 40-year period for goodwill
and over a range of three to 20 years for other acquired intangible assets. The
Company's consolidated results of operations include the NYLCare health business
from July 15, 1998. Originally, in addition to the cash purchase price, payments
totaling up to $300 million (up to $150 million in each of two years) were
potentially payable to the extent that predetermined earnings and membership
targets in future periods were achieved (the "Earnout"). On January 29, 1999,
the Company and NYL agreed to resolve all purchase price adjustments and
obligations under the Earnout. Under this agreement, the Company paid NYL an
additional $50 million to resolve such matters. As a result, the total purchase
price is approximately $1.1 billion.
During 1997, the Company's health business sold subsidiaries that were involved
in physician practice management, health electronic data interchange services
and behavioral health management. The sale of these entities resulted in a net
after-tax realized capital gain of $31 million ($82 million pretax). At the time
of the sale of the behavioral health management business, Human Affairs
International ("HAI"), the Company entered into a long-term strategic provider
relationship that will provide its health members continued access to HAI's, as
well as the purchaser's, participating behavioral health professionals. Under
the terms of this long-term strategic relationship, the Company may receive
incentive-related compensation payments of up to $300 million during the period
from the closing date through the year 2004.
Page 46
<PAGE> 47
Notes to Consolidated Financial Statements (Continued)
4. Other Acquisitions and Dispositions (Continued)
Aetna Retirement Services
On October 1, 1998, the Company sold its domestic individual life insurance
business to Lincoln National Corporation ("Lincoln") for $1 billion in cash,
subject to adjustment as provided by the related agreements. The transaction was
generally in the form of an indemnity reinsurance arrangement, under which
Lincoln contractually assumed from the Company certain policyholder liabilities
and obligations, although the Company remains directly obligated to
policyholders. Assets related to and supporting the life policies were
transferred to Lincoln and the Company recorded a reinsurance receivable from
Lincoln. The transaction resulted in an after-tax gain on the sale of
approximately $152 million, of which $88 million will be deferred and amortized
over approximately 15 years.
Revenues for the business lines sold to Lincoln were $399 million, $553 million
and $538 million for 1998 (through the sale date), 1997 and 1996, respectively.
Net income for these business lines, excluding Year 2000 costs in 1998 and net
realized capital gains in all periods, was $72 million, $75 million and $80
million for 1998 (through the sale date), 1997 and 1996, respectively. Premiums
ceded and reinsurance recoveries made in 1998 totaled $153 million and $58
million, respectively.
Aetna International
On September 1, 1998, the Company acquired a 74.5% ownership interest in Cruz
Blanca, a private health insurance company in Chile, for approximately $92
million.
The total amount of Aetna International's investments in 1998, excluding its
investment in Cruz Blanca, was approximately $150 million. These investments
were individually not material.
In April 1997, the Company acquired a 49% ownership interest for approximately
$300 million in a Brazilian joint venture that provides health and life
insurance, as well as private pension plan products. The joint venture is being
accounted for on the equity basis. In late 1996, the Company acquired certain
interests in two similar joint ventures with its Mexican partner, in addition to
increasing its existing equity ownership in Mexico. The total amount of these
investments was $171 million. Additional investments in the pension products
joint venture totalled $50 million in 1997.
Other
The Company also acquired the following entities during 1997: Financial Network
Investment Corporation; Virginia Mason Health Plan, Inc.; Frontier Health
Holdings, Inc.; and Financial Life Assurance Company of Canada. The purchase
price of these acquisitions, both individually and in the aggregate, were not
material.
On April 2, 1996, the Company sold its property-casualty operations to an
affiliate of The Travelers Insurance Group Inc. ("Travelers") for approximately
$4.1 billion in cash. The sale resulted in an after-tax gain of $264 million
($218 million pretax). The operating results of the property-casualty operations
are presented as Discontinued Operations through the sale date. Operating
results for the period from January 1 to April 2, 1996 included total revenue of
$1.5 billion, income before income taxes of $263 million, income taxes of $81
million and income of $182 million.
As a result of the sale, the Company retained no property-casualty liabilities
other than those associated with indemnifying Travelers for a portion of certain
potential liability exposures. While there can be no assurances, management
currently does not believe that the aggregate ultimate loss arising from these
indemnifications, if any, will be material to the annual net income, liquidity
or financial condition of the Company, although it is reasonably possible.
Page 47
<PAGE> 48
Notes to Consolidated Financial Statements (Continued)
5. Investments
Debt securities available for sale at December 31 were as follows:
<TABLE>
<CAPTION>
Gross Gross
Amortized Unrealized Unrealized Fair
1998 (Millions) Cost Gains Losses Value
- -----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Bonds:
U.S. government and government agencies and authorities $ 1,863.8 $ 136.4 $ 1.6 $ 1,998.6
States, municipalities and political subdivisions 531.8 18.6 .3 550.1
U.S. corporate securities:
Utilities 2,454.8 135.6 12.4 2,578.0
Financial 4,739.1 215.6 8.8 4,945.9
Transportation/capital goods 2,313.7 193.7 5.5 2,501.9
Health care/consumer products 2,495.2 167.6 6.5 2,656.3
Natural resources 1,494.3 72.9 16.5 1,550.7
Other corporate securities 1,314.5 86.0 44.7 1,355.8
- -----------------------------------------------------------------------------------------------------------------------
Total U.S. corporate securities 14,811.6 871.4 94.4 15,588.6
- -----------------------------------------------------------------------------------------------------------------------
Foreign:
Government, including political subdivisions 2,722.6 243.1 81.9 2,883.8
Utilities 589.8 92.0 5.2 676.6
Other 2,802.2 126.6 60.8 2,868.0
- -----------------------------------------------------------------------------------------------------------------------
Total foreign securities 6,114.6 461.7 147.9 6,428.4
- -----------------------------------------------------------------------------------------------------------------------
Residential mortgage-backed securities:
Pass-throughs 2,248.8 78.9 5.0 2,322.7
Collateralized mortgage obligations 1,929.2 122.4 10.4 2,041.2
- -----------------------------------------------------------------------------------------------------------------------
Total residential mortgage-backed securities 4,178.0 201.3 15.4 4,363.9
- -----------------------------------------------------------------------------------------------------------------------
Commercial/Multifamily mortgage-backed securities (1) 2,121.8 44.3 42.9 2,123.2
Other asset-backed securities (2) 954.9 17.2 1.1 971.0
- -----------------------------------------------------------------------------------------------------------------------
Total bonds 30,576.5 1,750.9 303.6 32,023.8
Redeemable preferred stocks 153.6 4.4 1.0 157.0
- -----------------------------------------------------------------------------------------------------------------------
Total debt securities $30,730.1 $1,755.3 $304.6 $32,180.8
=======================================================================================================================
1997 (Millions)
- -----------------------------------------------------------------------------------------------------------------------
Bonds:
U.S. government and government agencies and authorities $ 3,762.3 $ 168.0 $ 1.7 $ 3,928.6
States, municipalities and political subdivisions 190.7 16.1 .2 206.6
U.S. corporate securities:
Utilities 2,382.6 125.1 2.2 2,505.5
Financial 5,049.4 169.8 2.4 5,216.8
Transportation/capital goods 2,417.7 174.7 3.0 2,589.4
Health care/consumer products 1,641.5 97.7 3.9 1,735.3
Natural resources 1,467.1 93.5 .7 1,559.9
Other corporate securities 1,418.9 88.2 .9 1,506.2
- -----------------------------------------------------------------------------------------------------------------------
Total U.S. corporate securities 14,377.2 749.0 13.1 15,113.1
- -----------------------------------------------------------------------------------------------------------------------
Foreign:
Government, including political subdivisions 2,514.7 161.6 46.5 2,629.8
Utilities 612.4 76.9 .2 689.1
Other 3,714.8 188.5 72.9 3,830.4
- -----------------------------------------------------------------------------------------------------------------------
Total foreign securities 6,841.9 427.0 119.6 7,149.3
- -----------------------------------------------------------------------------------------------------------------------
Residential mortgage-backed securities:
Pass-throughs 1,707.5 107.3 2.3 1,812.5
Collateralized mortgage obligations 2,549.6 162.8 2.0 2,710.4
- -----------------------------------------------------------------------------------------------------------------------
Total residential mortgage-backed securities 4,257.1 270.1 4.3 4,522.9
- -----------------------------------------------------------------------------------------------------------------------
Commercial/Multifamily mortgage-backed securities (1) 1,586.2 42.0 6.2 1,622.0
Other asset-backed securities (2) 1,612.9 23.0 .8 1,635.1
- -----------------------------------------------------------------------------------------------------------------------
Total bonds 32,628.3 1,695.2 145.9 34,177.6
Redeemable preferred stocks 65.7 1.7 -- 67.4
- -----------------------------------------------------------------------------------------------------------------------
Total debt securities $32,694.0 $1,696.9 $145.9 $34,245.0
=======================================================================================================================
</TABLE>
(1) Includes approximately $178.1 million and $209.6 million of subordinate
and residual certificates at December 31, 1998 and 1997, respectively,
from a securitization of approximately $802.7 million of commercial
mortgage loans in 1997 (proceeds of approximately $635.1 million) which
were retained by the Company.
(2) Includes approximately $89.2 million and $97.9 million of subordinate and
residual certificates at December 31, 1998 and 1997, respectively, from a
1995 mortgage loan securitization which were retained by the Company.
Page 48
<PAGE> 49
Notes to Consolidated Financial Statements (Continued)
5. Investments (Continued)
At December 31, 1998 and 1997, net unrealized appreciation on available-for-sale
debt securities included $576 million and $678 million, respectively, related to
experience-rated contracts and $362 million and $388 million, respectively,
related to discontinued products (refer to Note 10), which were not reflected in
shareholders' equity.
The carrying and fair value of debt securities are shown below by contractual
maturity. Actual maturities may differ from contractual maturities because
securities may be restructured, called or prepaid.
<TABLE>
<CAPTION>
Amortized Fair
1998 (Millions) Cost Value
- --------------------------------------------------------------------------------
<S> <C> <C>
Due to mature:
One year or less $ 1,734.9 $ 1,762.7
After one year through five years 6,934.0 7,107.9
After five years through ten years 7,169.1 7,420.9
After ten years 7,637.4 8,431.2
Mortgage-backed securities 6,299.8 6,487.1
Other asset-backed securities 954.9 971.0
- --------------------------------------------------------------------------------
Total $30,730.1 $32,180.8
================================================================================
</TABLE>
Investments in equity securities at December 31 were as follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997
- -------------------------------------------------------------------------------
<S> <C> <C>
Cost $762.6 $ 824.4
Gross unrealized capital gains 81.1 287.6
Gross unrealized capital losses (43.2) (70.6)
- -------------------------------------------------------------------------------
Fair value $800.5 $1,041.4
===============================================================================
</TABLE>
Real estate holdings at December 31 were as follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997
- -------------------------------------------------------------------------------
<S> <C> <C>
Properties held for sale $223.8 $ 328.3
Investment real estate 137.6 142.5
- -------------------------------------------------------------------------------
361.4 470.8
Valuation reserve (91.1) (101.3)
- -------------------------------------------------------------------------------
Net carrying value of real estate $270.3 $ 369.5
===============================================================================
</TABLE>
Accumulated depreciation for investment real estate was $60 million at December
31, 1998 and 1997.
Total real estate write-downs included in the net carrying value of the
Company's real estate holdings at December 31, 1998 and 1997 were $122 million
and $160 million, respectively, (including $104 million and $116 million,
respectively, attributable to assets supporting discontinued products).
At December 31, 1998 and 1997, the total recorded investment in mortgage loans
that are considered to be impaired (including problem loans, restructured loans
and potential problem loans) and related specific reserves were as follows:
<TABLE>
<CAPTION>
1998 1997
------------------------- -------------------------
Total Total
Recorded Specific Recorded Specific
(Millions) Investment Reserves Investment Reserves
- -------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Supporting discontinued products $161.9 $22.9 $206.5 $25.8
Supporting experience-rated products 95.7 21.7 110.8 16.7
Supporting remaining products 43.6 3.2 70.2 8.7
- -------------------------------------------------------------------------------------------
Total impaired loans $301.2(1) $47.8 $387.5(1) $51.2
===========================================================================================
</TABLE>
(1) Includes impaired loans of $96.0 million and $127.7 million, respectively,
for which no specific reserves are considered necessary.
Page 49
<PAGE> 50
Notes to Consolidated Financial Statements (Continued)
5. Investments (Continued)
The activity in the specific and general mortgage loan impairment reserves for
the periods indicated is summarized below:
<TABLE>
<CAPTION>
Supporting
Supporting Experience- Supporting
Discontinued Rated Remaining
(Millions) Products Products Products Total
- -----------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Balance at December 31, 1996 $136.7 $ 74.7 $ 35.6 $247.0
- -----------------------------------------------------------------------------------------------------
Credited to net realized capital gains -- -- (10.6) (10.6)
Credited to other accounts (25.0)(1) (20.0)(1) -- (45.0)
Principal write-offs (43.0) (23.1) (10.8) (76.9)
- -----------------------------------------------------------------------------------------------------
Balance at December 31, 1997 (2) 68.7 31.6 14.2 114.5
- -----------------------------------------------------------------------------------------------------
Credited to net realized capital gains -- -- (8.0) (8.0)
(Credited) Charged to other accounts (37.0)(1) (2.0)(1) 4.7 (34.3)
Principal write-offs (2.2) -- (3.1) (5.3)
- -----------------------------------------------------------------------------------------------------
Balance at December 31, 1998 (2) $ 29.5 $ 29.6 $ 7.8 $ 66.9
=====================================================================================================
</TABLE>
(1) Reflects adjustments to reserves related to assets supporting
experience-rated products and discontinued products, which do not affect
the Company's results of operations.
(2) Total reserves at December 31, 1998 and 1997 include $47.8 million and
$51.2 million of specific reserves and $19.1 million and $63.3 million of
general reserves, respectively.
Income earned (pretax) and cash received on the average recorded investment in
impaired loans for the twelve months ended December 31 were as follows:
<TABLE>
<CAPTION>
1998 1997
-------------------------------- --------------------------------
Average Average
Impaired Income Cash Impaired Income Cash
(Millions) Loans Earned Received Loans Earned Received
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Supporting discontinued products $172.8 $13.5 $13.8 $343.1 $36.9 $30.2
Supporting experience-rated products 104.1 9.9 10.1 195.3 17.6 14.5
Supporting remaining products 47.9 3.4 3.0 112.2 12.5 10.3
- ----------------------------------------------------------------------------------------------------------------
Total $324.8 $26.8 $26.9 $650.6 $67.0 $55.0
================================================================================================================
</TABLE>
Significant noncash investing and financing activities include the acquisition
of real estate through foreclosures of mortgage loans amounting to $13 million
and $33 million for 1998 and 1997, respectively.
At December 31, 1998 and 1997, the Company's mortgage loan balances net of
specific impairment reserves by geographic region and property type were as
follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997
- --------------------------------------------------------------------------------
<S> <C> <C>
South Atlantic $ 554.3 $ 790.0
Middle Atlantic 760.7 948.4
New England 294.3 417.9
South Central 92.5 116.0
North Central 410.3 522.8
Pacific and Mountain 636.8 886.6
Non-U.S 823.2 589.4
- --------------------------------------------------------------------------------
Total 3,572.1 4,271.1
Less: general impairment reserve 19.1 63.3
- --------------------------------------------------------------------------------
Net mortgage loan balance $3,553.0 $4,207.8
================================================================================
</TABLE>
<TABLE>
<CAPTION>
(Millions) 1998 1997
- --------------------------------------------------------------------------------
<S> <C> <C>
Office $1,519.4 $2,009.2
Retail 647.2 901.9
Apartment 123.0 140.0
Hotel/Motel 182.6 239.6
Industrial 267.9 325.1
Mixed Use 238.4 263.8
Other 593.6 391.5
- --------------------------------------------------------------------------------
Total 3,572.1 4,271.1
Less: general impairment reserve 19.1 63.3
- --------------------------------------------------------------------------------
Net mortgage loan balance $3,553.0 $4,207.8
================================================================================
</TABLE>
Page 50
<PAGE> 51
Notes to Consolidated Financial Statements (Continued)
6. Financial Instruments
Estimated Fair Value
The carrying values and estimated fair values of certain of the Company's
financial instruments at December 31, 1998 and 1997 were as follows:
<TABLE>
<CAPTION>
1998 1997
----------------------------- -----------------------------
Carrying Estimated Fair Carrying Estimated Fair
(Millions) Value Value Value Value
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Assets:
Mortgage loans $ 3,553.0 $ 3,597.1 $ 4,207.8 $ 4,327.0
Liabilities:
Investment contract liabilities:
With a fixed maturity $ 4,758.4 $ 4,814.1 $ 5,897.1 $ 6,022.6
Without a fixed maturity 11,812.1 11,194.9 11,932.0 11,438.8
Long-term debt 2,521.2 2,569.0 2,346.2 2,390.6
- ------------------------------------------------------------------------------------------------------------
</TABLE>
Fair value estimates are made at a specific point in time, based on available
market information and judgments about the financial instrument, such as
estimates of timing and amount of future cash flows. Such estimates do not
reflect any premium or discount that could result from offering for sale at one
time the Company's entire holdings of a particular financial instrument, nor do
they consider the tax impact of the realization of unrealized capital gains or
losses. In many cases, the fair value estimates cannot be substantiated by
comparison to independent markets, nor can the disclosed value be realized in
immediate settlement of the instrument. In evaluating the Company's management
of interest rate, equity price, liquidity, and foreign exchange risks, the fair
values of all assets and liabilities should be taken into consideration, not
only those presented above.
The following valuation methods and assumptions were used by the Company in
estimating the fair value of the above financial instruments:
Mortgage loans: Fair values are estimated by discounting expected mortgage loan
cash flows at market rates that reflect the rates at which similar loans would
be made to similar borrowers. The rates reflect management's assessment of the
credit quality and the remaining duration of the loans. The fair value estimates
of mortgage loans of lower credit quality, including problem and restructured
loans, are based on the estimated fair value of the underlying collateral.
Investment contract liabilities (included in policyholders' funds left with the
Company):
With a fixed maturity: Fair value is estimated by discounting cash flows at
interest rates currently being offered by, or available to, the Company for
similar contracts.
Without a fixed maturity: Fair value is estimated as the amount payable to the
contractholder upon demand. However, the Company has the right under such
contracts to delay payment of withdrawals that may ultimately result in paying
an amount different than that determined to be payable on demand.
Long-term debt: Fair value is based on quoted market prices for the same or
similar issued debt or, if no quoted market prices are available, on the current
rates estimated to be available to the Company for debt of similar terms and
remaining maturities.
Page 51
<PAGE> 52
Notes to Consolidated Financial Statements (Continued)
6. Financial Instruments (Continued)
Off-Balance-Sheet and Other Financial Instruments
The notional amounts, carrying values and estimated fair values of the Company's
off-balance-sheet and other financial instruments at December 31 were as
follows:
<TABLE>
<CAPTION>
1998 1997
----------------------------------- --------------------------------
Carrying Carrying
Value Estimated Value Estimated
Notional Asset Fair Notional Asset Fair
(Millions) Amount (Liability) Value Amount (Liability) Value
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Foreign exchange forward contracts - sell:
Related to net investments in foreign affiliates $192.4 $(2.7) $(3.3) $157.8 $ .8 $1.0
Related to investments in nondollar-
denominated assets 33.6 (.1) (.1) 42.7 .6 .6
Foreign exchange forward contracts - buy:
Related to net investments in foreign affiliates -- -- -- 11.9 -- --
Related to investments in nondollar-
denominated assets 2.3 -- -- 25.0 1.5 1.5
Futures contracts to purchase securities 293.4 (4.3) (4.3) 8.5 .1 .1
Futures contracts to sell securities 966.4 10.9 10.9 10.0 .2 .2
Interest rate swaps 43.0 -- 8.5 43.0 -- 7.2
Currency swaps 19.8 -- .5 -- -- --
Warrants to purchase securities 26.5 1.6 1.6 19.6 6.7 6.7
Written options 50.0 .1 .1 -- -- --
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
The notional amounts of these instruments do not represent the Company's risk of
loss. 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.
The Company engages in hedging activities to manage interest rate, equity price
and foreign exchange risks. Such hedging activities have principally consisted
of using off-balance-sheet instruments that involve, to varying degrees,
elements of market risk and credit risk in excess of the amounts recognized in
the Consolidated Balance Sheets. The Company evaluates the risks associated with
these instruments in a manner similar to that used to evaluate the risks
associated with on-balance-sheet financial instruments. Unlike on-balance-sheet
financial instruments, where credit risk is generally represented by the
notional or principal amount, the off-balance-sheet financial instruments' risk
of credit loss generally is significantly less than the notional value of the
instrument and is represented by the positive fair value of the instrument. The
Company generally does not require collateral or other security to support the
financial instruments discussed below. However, the Company controls its credit
risk exposure through credit approvals, credit limits and regular monitoring
procedures. There were no material concentrations of off-balance-sheet financial
instruments at December 31, 1998 or December 31, 1997.
Foreign Exchange Forward Contracts:
Foreign exchange forward contracts are agreements to exchange fixed amounts of
two different currencies at a specified future date and at a specified price.
The Company selectively hedges to manage its foreign exchange risk. The Company
generally utilizes short-term foreign exchange forward contracts to hedge its
foreign exchange exposure arising from certain investments in foreign affiliates
and nondollar-denominated investment securities.
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.
Page 52
<PAGE> 53
Notes to Consolidated Financial Statements (Continued)
6. Financial Instruments (Continued)
Off-Balance-Sheet and Other Financial Instruments (Continued)
Interest Rate and Currency Swaps:
The Company utilizes interest rate swaps to manage certain exposures related to
changes in interest rates primarily by exchanging variable-rate returns for
fixed-rate returns. The Company also utilizes currency swaps to manage certain
exposures related to changes in foreign currency values primarily by exchanging
currencies and agreeing to re-exchange the currencies at the same rate of
exchange at a specified future date.
Warrants:
Warrants are instruments giving the Company the right, but not the obligation to
buy a security at a given price during a specified period.
Written Options:
Written options are contracts that give the holder the right, but not the
obligation to buy a financial instrument at a given price during a specified
period. Written options may be used to manage certain exposure to changes in
interest rates.
7. Net Investment Income
Sources of net investment income were as follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Debt securities $2,387.4 $2,365.3 $2,313.3
Equity securities 38.5 42.1 34.0
Short-term investments 71.5 51.8 61.3
Mortgage loans 353.1 610.1 761.8
Real estate 86.3 182.6 300.2
Policy loans 36.4 39.9 37.2
Other 240.3 175.5 155.2
Cash equivalents 127.3 114.9 135.1
- --------------------------------------------------------------------------------
Gross investment income 3,340.8 3,582.2 3,798.1
Less: investment expenses 149.9 204.7 232.9
- --------------------------------------------------------------------------------
Net investment income (1)(2) $3,190.9 $3,377.5 $3,565.2
- --------------------------------------------------------------------------------
</TABLE>
(1) Includes $10.1 million, $15.6 million and $67.1 million from real estate
held for sale during 1998, 1997 and 1996, respectively.
(2) Includes amounts allocable to experience-rated contractholders of $1.2
billion, $1.3 billion and $1.4 billion during 1998, 1997 and 1996,
respectively. Interest credited to contractholders is included in current
and future benefits.
Page 53
<PAGE> 54
Notes to Consolidated Financial Statements (Continued)
8. Capital Gains and Losses on Investment Operations and Other
Realized capital gains or losses are the difference between the carrying value
and sale proceeds of specific investments sold. Provisions for impairments and
changes in the fair value of real estate held for sale are also included in net
realized capital gains or losses.
Net realized capital gains (losses), excluding amounts allocable to
experience-rated contractholders and discontinued products, on investments were
as follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- -------------------------------------------------------------------------------
<S> <C> <C> <C>
Debt securities $ 51.7 $ 49.8 $(11.8)
Equity securities (1) 166.2 231.2 46.3
Mortgage loans 19.9 19.2 33.9
Real estate 3.2 13.5 4.7
Sales of subsidiaries (2) -- 82.3 60.1
Other (3) (29.2) (61.8) 1.2
- -------------------------------------------------------------------------------
Pretax realized capital gains $211.8 $334.2 $134.4
===============================================================================
After-tax realized capital gains $134.9 $198.4 $ 85.9
===============================================================================
</TABLE>
(1) Includes pretax realized capital gains of $74.4 million and $151.0 million
in 1998 and 1997, respectively, related to the sale of the Company's
investment in Travelers Property Casualty Corp.
(2) Realized capital gains in 1997 include net pretax gains associated with
the sale of certain health subsidiaries. (Refer to Note 4.) Realized
capital gains in 1996 include pretax gains of $39.3 million from the sale
of Aetna Realty Investors and $20.8 million from the sale of Aetna Health
Plans of Western Pennsylvania.
(3) Includes pretax realized capital losses of $12.7 million in 1998 for
futures contracts related to investments sold as part of the sale of the
individual life business and $44.0 million in 1997 related to the
write-down of certain properties that the Company had classified as held
for sale.
Net realized capital gains of $125 million, $221 million and $199 million for
1998, 1997 and 1996, respectively, allocable to experience-rated contractholders
were deducted from net realized capital gains and an offsetting amount was
reflected in policyholders' funds left with the Company.
Proceeds from the sale of available-for-sale debt securities and the related
gross gains and losses were as follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Proceeds on sales $20,254.6 $16,247.8 $13,625.6
Gross gains 174.8 90.2 77.6
Gross losses 123.1 40.4 89.4
- --------------------------------------------------------------------------------
</TABLE>
Changes in shareholders' equity related to changes in accumulated other
comprehensive income (unrealized capital gains and losses on securities and
foreign currency) (excluding those related to experience-rated contractholders
and discontinued products) were as follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- ---------------------------------------------------------------------------------------
<S> <C> <C> <C>
Continuing Operations:
Debt securities $ 28.2 $ 194.5 $(225.8)
Equity securities (179.1) (152.4) 307.5
Foreign exchange and other, net (47.9) (92.8) (70.9)
Discontinued Operations -- -- (474.0)
- ---------------------------------------------------------------------------------------
Subtotal (198.8) (50.7) (463.2)
Decrease in deferred income taxes (69.5) (17.8) (162.1)
- ---------------------------------------------------------------------------------------
Net changes in accumulated other comprehensive income $(129.3) $ (32.9) $(301.1)
=======================================================================================
</TABLE>
Page 54
<PAGE> 55
Notes to Consolidated Financial Statements (Continued)
8. Capital Gains and Losses on Investment Operations and Other (Continued)
Shareholders' equity included the following accumulated other comprehensive
income which are net of amounts allocable to experience-rated contractholders
and discontinued products at December 31:
<TABLE>
<CAPTION>
(Millions) 1998 1997
- --------------------------------------------------------------------------------
<S> <C> <C>
Debt securities available for sale:
Gross unrealized capital gains $ 678.5 $ 563.0
Gross unrealized capital losses (164.9) (77.6)
- --------------------------------------------------------------------------------
513.6 485.4
- --------------------------------------------------------------------------------
Equity securities:
Gross unrealized capital gains 81.1 287.6
Gross unrealized capital losses (43.2) (70.6)
- --------------------------------------------------------------------------------
37.9 217.0
- --------------------------------------------------------------------------------
Foreign exchange and other, net (277.9) (230.0)
Deferred income taxes (95.8) (165.3)
- --------------------------------------------------------------------------------
Net accumulated other comprehensive income $ 177.8 $ 307.1
================================================================================
</TABLE>
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 and discontinued products) were as follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- ------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Unrealized holding gains (losses) arising during the period (1) $ 107.6 $385.3 $(189.0)
Less: reclassification adjustment for gains and other items included in net income (2) 224.5 335.4 153.8
- ------------------------------------------------------------------------------------------------------------------------
Net unrealized gains (losses) on securities $(116.9) $ 49.9 $(342.8)
- ------------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Pretax unrealized holding gains (losses) arising during the period were
$165.6 million, $592.8 million and ($290.8) million for 1998, 1997 and
1996, respectively.
(2) Pretax reclassification adjustments for gains and other items included in
net income were $345.4 million, $511.0 million and $236.8 million for
1998, 1997 and 1996, respectively.
Page 55
<PAGE> 56
Notes to Consolidated Financial Statements (Continued)
9. Severance and Facilities Charges
In 1996, the Company recorded severance and facilities reserves in connection
with the integration of its acquired health businesses and certain other actions
taken or to be taken in order to make its businesses more competitive. The Aetna
U.S. Healthcare and Aetna Retirement Services severance and facilities actions
were substantially completed by December 31, 1998. The Corporate severance
actions and vacating of certain leased office space were substantially completed
in 1997. The severance and facilities reserves established with the original
plan in 1996 were an accurate estimation of costs incurred, including any
refinements (and adjustments disclosed below) among the associated activities as
the original plan was completed. In connection with the sale of the Company's
property-casualty operations, the Company vacated, and the purchaser subleased,
at market rates for a period of eight years, the space that the Company occupied
in the CityPlace office facility in Hartford. (Refer to Note 21.)
Activity for 1998, 1997 and 1996 within the severance and facilities reserves
(pretax) was as follows:
<TABLE>
<CAPTION>
(Millions) Reserve
- --------------------------------------------------------------------------------
<S> <C>
Balance at December 31, 1995 $ --
Severance and facilities charges 864.7
Actions taken (1) (139.5)
- --------------------------------------------------------------------------------
Balance at December 31, 1996 725.2
Actions taken (1) (274.8)
Adjustments (2) (45.0)
- --------------------------------------------------------------------------------
Balance at December 31, 1997 405.4
Severance and facilities charges (3) 4.0
Actions taken (1) (114.5)
Adjustments (2) (2.5)
Other (4) (287.5)
- --------------------------------------------------------------------------------
Balance at December 31, 1998 $ 4.9
================================================================================
</TABLE>
(1) Includes $45.8 million, $120.8 and $84.6 million in 1998, 1997 and 1996,
respectively, of severance-related actions (including reductions of 1,144,
2,802 and 2,421 positions, respectively). Other actions include asset
write-offs, vacated leased property payments and other exit costs.
(2) Reflects reductions in anticipated severance actions resulting from higher
attrition than was contemplated in the establishment of the reserve in the
Aetna U.S. Healthcare segment in 1997 (approximately 1,200 positions), and
reduction of the reserve in the Aetna Retirement Services segment in 1998
upon substantial completion of anticipated actions, recorded as severance
and facilities reserve reductions in the Consolidated Statements of
Income.
(3) Relates to anticipated severance actions as a result of the sale of the
domestic life business, which includes approximately 55 positions expected
to be eliminated in 1999.
(4) Reflects the amount for actions associated with vacating the CityPlace
office facility, which occurred in 1996. Refer to Note 21 for further
discussion.
10. Discontinued Products
The Company discontinued the sale of its fully guaranteed large case pension
products (single-premium annuities ("SPAs") and guaranteed investment contracts
("GICs")) in 1993. Under the Company's accounting for these discontinued
products, a reserve for anticipated future losses from these products was
established, and the reserve is reviewed by management quarterly. As long as the
reserve continues to represent management's then best estimate of expected
future losses, results of operations of the discontinued products, including net
realized capital gains and losses, are credited/charged to the reserve and do
not affect the Company's results of operations. Primarily as a result of
favorable investment performance in 1998 the Company released $68 million
(pretax) of the reserve. Also, as a result of continued favorable developments
in real estate markets, the Company released $173 million (pretax) in 1997, and
$202 million (pretax) in 1996 of the reserve. The current reserve reflects
management's best estimate of anticipated future losses. The Company's results
of operations would be adversely affected to the extent that future losses on
the products are greater than anticipated and positively affected to the extent
that future losses are less than anticipated.
Page 56
<PAGE> 57
Notes to Consolidated Financial Statements (Continued)
10. Discontinued Products (Continued)
At the time of discontinuance, a receivable from Large Case Pensions' continuing
products equivalent to the net present value of the anticipated cash flow
shortfalls was established for the discontinued products. Interest on the
receivable is accrued at the discount rate that was used to calculate the loss
on discontinuance. The offsetting payable, on which interest is similarly
accrued, is reflected in continuing products. Interest on the payable generally
offsets the investment income on the assets available to fund the shortfall. At
December 31, 1998, the receivable from continuing products, net of related
deferred taxes payable of $55 million on the accrued interest income, was $493
million. At December 31, 1997, the receivable from continuing products, net of
the related deferred taxes payable of $43 million on the accrued interest income
was $515 million. This amount is eliminated in consolidation.
Results of discontinued products were as follows (pretax):
<TABLE>
<CAPTION>
Charged (Credited)
to Reserve for
(Millions) Results Future Losses Net(1)
- -----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
1998
Net investment income $ 530.9 $ -- $530.9
Net realized capital gains 116.6 (116.6) --
Interest earned on receivable from continuing products 34.4 -- 34.4
Other income 28.5 -- 28.5
- -----------------------------------------------------------------------------------------------------------
Total revenue 710.4 (116.6) 593.8
- -----------------------------------------------------------------------------------------------------------
Current and future benefits 565.8 13.8 579.6
Operating expenses 14.2 -- 14.2
- -----------------------------------------------------------------------------------------------------------
Total benefits and expenses 580.0 13.8 593.8
- -----------------------------------------------------------------------------------------------------------
Results of discontinued products $ 130.4 $(130.4) $ --
===========================================================================================================
1997
Net investment income $ 675.5 $ -- $675.5
Net realized capital gains (2) 269.9 (269.9) --
Interest earned on receivable from continuing products 33.1 -- 33.1
Other income 25.3 -- 25.3
- -----------------------------------------------------------------------------------------------------------
Total revenue 1,003.8 (269.9) 733.9
- -----------------------------------------------------------------------------------------------------------
Current and future benefits 652.3 67.5 719.8
Operating expenses 14.1 -- 14.1
- -----------------------------------------------------------------------------------------------------------
Total benefits and expenses 666.4 67.5 733.9
- -----------------------------------------------------------------------------------------------------------
Results of discontinued products $ 337.4 $(337.4) $ --
===========================================================================================================
1996
Net investment income $ 818.3 $ -- $818.3
Net realized capital gains 121.8 (121.8) --
Interest earned on receivable from continuing products 45.7 -- 45.7
Change in accounting policy - FAS No. 121 8.3 -- 8.3
Other income 31.5 -- 31.5
- -----------------------------------------------------------------------------------------------------------
Total revenue 1,025.6 (121.8) 903.8
- -----------------------------------------------------------------------------------------------------------
Current and future benefits 777.8 108.5 886.3
Operating expenses 17.5 -- 17.5
- -----------------------------------------------------------------------------------------------------------
Total benefits and expenses 795.3 108.5 903.8
- -----------------------------------------------------------------------------------------------------------
Results of discontinued products $ 230.3 $(230.3) $ --
===========================================================================================================
</TABLE>
(1) Amounts are reflected in the 1998, 1997 and 1996 Consolidated Statements
of Income, except for interest earned on the receivable from continuing
products, which is eliminated in consolidation.
(2) Includes net realized capital gains of $154.4 million (pretax) related to
continued favorable developments in real estate markets (including gains
of $37.4 million (pretax) related to the securitization of commercial
mortgage loans), as well as $57.4 million (pretax) resulting from the sale
of investments in order to meet liquidity needs.
Page 57
<PAGE> 58
Notes to Consolidated Financial Statements (Continued)
10. Discontinued Products (Continued)
Net realized capital gains from the sale of bonds supporting discontinued
products were $81 million, $56 million and $12 million (pretax) for 1998, 1997
and 1996, respectively.
Assets and liabilities supporting discontinued products at December 31 were as
follows: (1)
<TABLE>
<CAPTION>
(Millions) 1998 1997
- ------------------------------------------------------------------------------------------
<S> <C> <C>
Debt securities available for sale $5,890.5 $6,471.4
Mortgage loans 754.2 976.9
Real estate 104.2 116.9
Short-term and other investments 494.6 371.3
- ------------------------------------------------------------------------------------------
Total investments 7,243.5 7,936.5
Current and deferred income taxes 187.5 165.6
Receivable from continuing products (2) 548.0 557.8
- ------------------------------------------------------------------------------------------
Total assets $7,979.0 $8,659.9
==========================================================================================
Future policy benefits $4,653.5 $4,763.0
Policyholders' funds left with the Company 1,546.0 2,321.4
Reserve for anticipated future losses on discontinued products 1,214.1 1,151.7
Other 565.4 423.8
- ------------------------------------------------------------------------------------------
Total liabilities $7,979.0 $8,659.9
==========================================================================================
</TABLE>
(1) Assets supporting the discontinued products are distinguished from other
continuing operations assets.
(2) The receivable from continuing products is eliminated in consolidation.
Net unrealized capital gains on available-for-sale debt securities are included
above in other liabilities and are not reflected in consolidated shareholders'
equity. The reserve for anticipated future losses is included in future policy
benefits on the Consolidated Balance Sheets.
The reserve for anticipated future losses on discontinued products represents
the present value (at the risk-free rate at the time of discontinuance,
consistent with the duration of the liabilities) of the difference between (a)
the expected cash flows from the assets supporting discontinued products, and
(b) the cash flows expected to be required to meet the obligations of the
outstanding contracts. Calculation of the reserve for anticipated future losses
requires projection of both the amount and the timing of cash flows over
approximately the next 30 years, including consideration of, among other things,
future investment results, participant withdrawal and mortality rates, and cost
of asset management and customer service. Projections of future investment
results consider both industry and Company data and are based on performance of
mortgage loan and real estate assets, projections regarding levels of future
defaults and prepayments, and assumptions regarding future real estate market
conditions, which assumptions management believes are reasonable. Management
believes that the reserve for anticipated future losses is adequate to provide
for the future losses associated with the runoff of the liabilities.
Page 58
<PAGE> 59
Notes to Consolidated Financial Statements (Continued)
10. Discontinued Products (Continued)
At December 31, 1998 and 1997, estimated future net realized capital losses
attributable to mortgage loans and real estate expected to be charged to the
reserve for anticipated future losses were $30 million and $69 million (pretax),
respectively.
The activity in the reserve for anticipated future losses on discontinued
products was as follows (pretax):
<TABLE>
<CAPTION>
(Millions)
- --------------------------------------------------------------------------------
<S> <C>
Reserve at December 31, 1995 $ 958.8
Results of discontinued products 230.3
Reserve reduction (202.3)
- --------------------------------------------------------------------------------
Reserve at December 31, 1996 986.8
Results of discontinued products 337.4
Reserve reduction (172.5)
- --------------------------------------------------------------------------------
Reserve at December 31, 1997 1,151.7
Results of discontinued products 130.4
Reserve reduction (68.0)
- --------------------------------------------------------------------------------
Reserve at December 31, 1998 $1,214.1
================================================================================
</TABLE>
11. Income Taxes
Income taxes (benefits) for continuing operations consist of the following:
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Current taxes:
Federal $601.7 $407.1 $ 231.9
State 39.9 34.6 15.6
Foreign 21.0 25.1 10.4
- --------------------------------------------------------------------------------
662.6 466.8 257.9
- --------------------------------------------------------------------------------
Deferred taxes (benefits):
Federal (111.4) 141.2 (139.9)
State (.2) 4.4 2.4
Foreign 9.2 (2.3) 13.2
- --------------------------------------------------------------------------------
(102.4) 143.3 (124.3)
- --------------------------------------------------------------------------------
Total $560.2 $610.1 $ 133.6
================================================================================
</TABLE>
Income taxes were different from the amount computed by applying the federal
income tax rate to income from continuing operations before income taxes as
follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Income from U.S. operations $1,196.4 $1,261.8 $155.9
Income from non-U.S. operations 211.9 249.4 182.8
- --------------------------------------------------------------------------------
Income before income taxes 1,408.3 1,511.2 338.7
Tax rate 35% 35% 35%
- --------------------------------------------------------------------------------
Application of the tax rate 492.9 528.9 118.5
Tax effect of:
Tax-exempt interest (4.1) (2.6) (4.4)
Foreign operations (11.4) (18.3) (4.9)
Excludable dividends (11.7) (10.1) (10.5)
Goodwill amortization 67.8 66.5 30.7
State income taxes 25.9 25.4 11.7
Other, net .8 20.3 (7.5)
- --------------------------------------------------------------------------------
Income taxes $ 560.2 $ 610.1 $133.6
- --------------------------------------------------------------------------------
</TABLE>
Page 59
<PAGE> 60
Notes to Consolidated Financial Statements (Continued)
11. Income Taxes (Continued)
The tax effects of temporary differences that give rise to deferred tax assets
and deferred tax liabilities at December 31, are as follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997
- ------------------------------------------------------------------------------------------
<S> <C> <C>
Deferred tax assets:
Insurance reserves $ 360.6 $ 325.4
Reserve for anticipated future losses on discontinued products 407.0 392.3
Reserve for severance and facilities charges 126.7 167.4
Impairment reserves 32.8 38.0
Other postretirement benefits 188.5 191.3
Net operating loss carryforward 25.3 27.7
Deferred compensation and other 106.0 64.3
Other 10.8 24.1
- ------------------------------------------------------------------------------------------
Total gross assets 1,257.7 1,230.5
Less: valuation allowance 21.4 20.2
- ------------------------------------------------------------------------------------------
Assets, net of valuation allowance 1,236.3 1,210.3
- ------------------------------------------------------------------------------------------
Deferred tax liabilities:
Deferred policy acquisition costs 542.3 651.5
Acquired intangibles other than goodwill 382.2 432.8
Accumulated other comprehensive income 91.6 132.2
Market discount 54.4 56.3
Other 112.8 160.8
- ------------------------------------------------------------------------------------------
Total gross liabilities 1,183.3 1,433.6
- ------------------------------------------------------------------------------------------
Net deferred tax asset (liability) $ 53.0 $ (223.3)
==========================================================================================
</TABLE>
Valuation allowances are provided when it is considered unlikely that deferred
tax assets will be realized. The valuation allowance relates to future tax
benefits on certain purchased domestic and foreign net operating losses.
Management believes that it is more likely than not that the Company will
realize the benefit of the net deferred tax asset of $53 million. The Company
expects sufficient taxable income in the future to realize the net deferred tax
asset because of the Company's long-term history of having taxable income, which
is projected to continue.
The Company has not recognized U.S. deferred taxes related to an estimated
cumulative amount of undistributed earnings of approximately $467 million on its
foreign corporations because the Company does not expect to repatriate these
earnings. A U.S. deferred tax liability will be recognized when the Company
expects that it will recover these undistributed earnings in a taxable manner,
such as through a receipt of dividends or a sale of the investment.
The "Policyholders' Surplus Account," which arose under prior tax law, is
generally that portion of a life insurance company's statutory income that has
not been subject to taxation. As of December 31, 1983, no further additions
could be made to the Policyholders' Surplus Account for tax return purposes
under the Deficit Reduction Act of 1984. The balance in such account was $935
million at December 31, 1998, adjusted for Internal Revenue Service (the
"Service") audits finalized to date. This amount would be taxed only under
certain conditions. No income taxes have been provided on this amount, since
management believes under current tax law the conditions under which such taxes
would become payable are remote.
The Service has completed its examination of the consolidated federal income tax
returns of Aetna Services and affiliated companies through 1990 and U.S.
Healthcare through 1994. Discussions are being held with the Service with
respect to proposed adjustments. Management believes there are adequate defenses
against, or sufficient reserves to provide for, any such adjustments. The
Service is continuing its examination for the years 1991 through 1994 for Aetna
Services.
The Company paid net income taxes of $553 million, $378 million and $249 million
in 1998, 1997 and 1996, respectively.
Page 60
<PAGE> 61
Notes to Consolidated Financial Statements (Continued)
12. Benefit Plans
The Company has noncontributory defined benefit pension plans covering
substantially all Aetna Services employees and certain agents. The plan provides
pension benefits based on years of service and average annual compensation
(measured over 60 consecutive months of highest earnings in a 120 month period).
Contributions are determined by using the Projected Unit Credit Method and, for
qualified plans subject to ERISA requirements, are limited to amounts that are
tax deductible.
Plans assets, primarily investments in domestic equities and fixed-income
instruments, are held in trust, and benefit payments are administered by Aetna
Life Insurance Company and affiliates. Approximately 7% of the plan assets at
December 31, 1998 are held in the general account of Aetna Life Insurance
Company.
Components of the net periodic benefit cost in continuing operations were as
follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Actual return on plan assets $ 70.2 $ 731.4 $ 373.1
Service cost (76.0) (74.9) (77.7)
Interest cost (239.0) (231.4) (217.0)
Net amortization and deferral 255.6 (476.1) (128.8)
- --------------------------------------------------------------------------------
Net periodic benefit income (cost) (1) $ 10.8 $ (51.0) $ (50.4)
================================================================================
</TABLE>
(1) A curtailment loss of $95.6 million (pretax) is included in the gain on
the sale of Discontinued Operations in 1996.
As of the measurement date (September 30), the status of the defined benefit
pension plans was as follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997
- -----------------------------------------------------------------------------------------------------------
<S> <C> <C>
Projected benefit obligation, beginning of year $3,273.7 $3,149.8
Service cost 76.0 74.9
Interest cost 239.0 231.4
Actuarial loss (gain) 254.6 (33.3)
Benefits paid (171.1) (149.1)
- -----------------------------------------------------------------------------------------------------------
Projected benefit obligation, end of year $3,672.2 $3,273.7
- -----------------------------------------------------------------------------------------------------------
Fair value of plan assets, beginning of year $3,587.5 $2,932.3
Actual return on plan assets 70.2 731.4
Employer contribution 79.7 72.9
Benefits paid (171.1) (149.1)
- -----------------------------------------------------------------------------------------------------------
Fair value of plan assets, end of year $3,566.3 $3,587.5
- -----------------------------------------------------------------------------------------------------------
Fair value of plan assets in excess of (less than) projected benefit obligation $ (105.9) $ 313.8
Unrecognized net loss (gain) 97.9 (413.0)
Unrecognized prior service cost/other 3.7 (.1)
Unrecognized net asset at date of adoption of FAS No. 87 (.2) 4.7
- -----------------------------------------------------------------------------------------------------------
Accrued pension cost $ (4.5) $ (94.6)
===========================================================================================================
Weighted average discount rate 7.0% 7.5%
Expected return on plan assets 9.0% 9.0%
Rate of compensation increase 4.0% 4.5%
- -----------------------------------------------------------------------------------------------------------
</TABLE>
The defined benefit plans included above with benefit obligations in excess of
assets (unfunded plans) had projected benefit obligations of $206 million and
$176 million for 1998 and 1997, respectively. The 1998 and 1997 accumulated
benefit obligations for these plans were $173 million and $148 million,
respectively.
The Company also has a defined contribution pension plan which covers
substantially all of its former U.S. Healthcare employees, subject to certain
age and service requirements. The Company's contribution for each eligible
employee is a percentage of the employee's compensation, as defined. Pretax
charges for this defined contribution pension plan were $16 million in 1998 and
1997 and $7 million for the period from July 19, 1996 through December 31, 1996.
Page 61
<PAGE> 62
Notes to Consolidated Financial Statements (Continued)
12. Benefit Plans (Continued)
In addition to providing pension benefits, the Company currently provides
certain health care and life insurance benefits for retired employees of Aetna
Services. A comprehensive medical and dental plan is offered to all full-time
employees retiring at age 50 with 15 years of service or at age 65 with 10 years
of service. There is a cap on the portion of the cost paid by the Company
relating to medical and dental benefits. Retirees are generally required to
contribute to the plans based on their years of service with the Company. The
plan assets are held in trust and administered by Aetna Life Insurance Company.
Components of the net periodic postretirement benefit cost in continuing
operations were as follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Actual return on plan assets $ 2.6 $ 2.4 $ 1.4
Service cost (5.7) (5.9) (7.3)
Interest cost (30.7) (30.2) (34.7)
Net amortization 24.1 24.9 26.4
- --------------------------------------------------------------------------------
Net periodic benefit cost (1) $ (9.7) $ (8.8) $(14.2)
================================================================================
</TABLE>
(1) A curtailment gain of $77.4 million (pretax) is included in the gain on
the sale of Discontinued Operations in 1996.
As of the measurement date (September 30), the status of the postretirement
benefit plans (other than pensions) was as follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997
- ---------------------------------------------------------------------------------------------
<S> <C> <C>
Accumulated benefit obligation, beginning of year $426.5 $417.2
Service cost 5.7 5.9
Interest cost 30.7 30.2
Actuarial loss 36.4 .8
Benefits paid (35.2) (27.6)
- ---------------------------------------------------------------------------------------------
Accumulated benefit obligation, end of year $464.1 $426.5
- ---------------------------------------------------------------------------------------------
Fair value of plan assets, beginning of year $ 55.7 $ 54.0
Actual return on plan assets 2.6 2.4
Employer contribution 33.9 26.9
Benefits paid (35.2) (27.6)
- ---------------------------------------------------------------------------------------------
Fair value of plan assets, end of year $ 57.0 $ 55.7
- ---------------------------------------------------------------------------------------------
Accumulated benefit obligation in excess of fair value of plan assets $407.1 $370.8
Unrecognized net gain 39.3 78.8
Prior service cost 57.2 78.5
- ---------------------------------------------------------------------------------------------
Accrued postretirement benefit costs $503.6 $528.1
- ---------------------------------------------------------------------------------------------
Weighted average discount rate 7.0% 7.5%
Expected return on plan assets 7.0% 7.0%
- ---------------------------------------------------------------------------------------------
</TABLE>
Page 62
<PAGE> 63
Notes to Consolidated Financial Statements (Continued)
12. Benefit Plans (Continued)
The health care cost trend rate for the 1998 valuation decreased gradually from
8.5% for 1999 to 5.5% by the year 2005. For the 1997 valuation, the rates
decreased gradually from 9.0% for 1998 to 5.5% by the year 2005. A
one-percentage-point change (increase or decrease) in assumed health care cost
trend rates would have the following effects:
<TABLE>
<CAPTION>
(Millions) Increase Decrease
- --------------------------------------------------------------------------------
<S> <C> <C>
Effect on total of service and interest cost components $ 1.6 $ (1.3)
Effect on postretirement benefit obligation $21.8 $(18.4)
- --------------------------------------------------------------------------------
</TABLE>
It is the Company's practice to fund amounts for postretirement life insurance
benefits to the extent the contribution is deductible for federal income taxes.
The plan assets are held in trust and administered by Aetna Life Insurance
Company. The assets are in the general account of Aetna Life Insurance Company,
and the expected rate of return on the plan assets was 7% for 1998, 1997 and
1996.
The Company's retiree health benefit plan for former U.S. Healthcare employees
is a defined contribution plan which covers substantially all such employees,
subject to certain age and service requirements. Contributions are at the
Company's sole discretion. Accumulated contributions and interest thereon are
used to fund all or a portion of the premiums for health care benefit coverage
for eligible retired employees and their eligible spouses. When funds are
exhausted, the Company has no obligation to make any further contributions or
payments. No contributions have been made to this retiree health benefit plan
since July 19, 1996.
Effective January 1, 1999, the Company terminated the defined contribution
pension plan related to former U.S. Healthcare employees and provided for
eligibility for those employees in its noncontributory defined pension and
postretirement benefit plans, as well as extended eligibility to employees of
the acquired NYLCare health business in such plans.
Also, effective January 1, 1999, the Company changed the formula for providing
pension benefits from the existing final average pay formula to a cash balance
formula, which will credit employees annually with an amount equal to a
percentage of eligible pay based on age and years of service as well as an
interest credit based on individual account balances. The formula also provides
for a transition period until December 31, 2006, which allows certain employees
to receive vested benefits at the higher of the final average pay or cash
balance formula. The changing of this formula will not have a material effect on
the Company's results of operations, liquidity or financial condition.
Incentive Savings Plans - Substantially all Aetna Services employees are
eligible to participate in a savings plan under which designated contributions,
which may be invested in common stock of Aetna Inc. or certain other
investments, are matched, up to 5% of compensation, by the Company. The U.S.
Healthcare savings plan provides for a match of up to 2% of compensation in
common stock of Aetna Inc. Effective January 1, 1999, contributions to this plan
ceased and such employees became eligible to participate in the Company's
incentive savings plan. Pretax charges to operations (including continuing and
Discontinued Operations in 1996) for the incentive savings plans were $42
million, $39 million and $50 million for 1998, 1997 and 1996, respectively. Plan
trustees held 3,795,808 shares, 4,177,786 shares and 4,514,258 shares of the
Company's common stock for plan participants at the end of 1998, 1997 and 1996,
respectively.
Stock Incentive Plans - The Company's Stock Incentive Plans (the "Plans")
provides for stock options (see "Stock Options" below), deferred contingent
common stock or equivalent cash awards (see "Incentive Units" below) or
restricted stock to employees. The maximum number of shares of common stock
initially issuable under the Plans is 23,270,000. At December 31, 1998,
13,936,244 shares were available for grant under the Plans.
Page 63
<PAGE> 64
Notes to Consolidated Financial Statements (Continued)
12. Benefit Plans (Continued)
The compensation expense charged to operations related to the Incentive Units
was $20 million, $22 million, and $27 million, pretax, for 1998, 1997 and 1996,
respectively. The Company does not recognize compensation expense for stock
options granted at or above the market price on the date of grant under its
stock incentive plans. FAS No. 123, Accounting for Stock-Based Compensation,
requires disclosure of pro forma net income as if the fair value method of
valuing stock option grants were applied to such grants (disclosure
alternative). The Company's net income and earnings per common share, on a pro
forma basis, which may not be indicative of pro forma effects in future years,
would have been as follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Net income:
As reported $848.1 $901.1 $651.0
Pro forma $820.7 $886.3 $643.1
Basic earnings per common share:
As reported $ 5.50 $ 5.67 $ 4.77
Pro forma $ 5.33 $ 5.57 $ 4.71
Diluted earnings per common share:
As reported $ 5.41 $ 5.60 $ 4.72
Pro forma $ 5.25 $ 5.51 $ 4.67
- --------------------------------------------------------------------------------
</TABLE>
The fair value of the stock options included in the pro forma amounts shown
above was estimated as of the grant date using the Black-Scholes option-pricing
model with the following weighted-average assumptions:
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Dividend yield 1% 1% 2%
Expected volatility 30% 30% 26%
Risk-free interest rate 6% 7% 6%
Expected life 3 years 4 years 4 years
- --------------------------------------------------------------------------------
</TABLE>
The weighted-average grant date fair values for options granted in 1998, 1997
and 1996 were $22.17, $29.17, and $17.00, respectively.
Stock Options - Executive, middle management and non-management employees may be
granted options to purchase common stock of the Company at or above the market
price on the date of grant. Options generally become 100% vested three years
after the grant is made, with one-third of the options vesting each year. From
time to time, the Company has issued options with different vesting provisions.
Vested options may be exercised at any time during the 10 years after grant,
except in certain circumstances generally related to employment termination or
retirement. At the end of the 10-year period, any unexercised options expire.
Stock option transactions for 1998, 1997 and 1996 were as follows:
<TABLE>
<CAPTION>
1998 1997 1996
------------------------- ------------------------- -------------------------
Weighted Average Weighted Average Weighted Average
Number Exercise Number Exercise Number Exercise
of Shares Price of Shares Price of Shares Price
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding, beginning of year 5,267,294 $63.12 7,228,550 $58.99 4,883,661 $53.72
Granted 3,684,854 $86.18 385,025 $94.22 3,185,180 $70.78
Exchanged for U.S. Healthcare options (1) -- $ -- -- $ -- 800,610 $32.72
Exercised (572,715) $58.07 (1,821,113) $51.94 (1,438,730) $51.94
Expired or forfeited (468,665) $80.50 (525,168) $68.55 (202,171) $62.02
- ------------------------------------------------------------------------------------------------------------------------------------
Outstanding, end of year 7,910,768 $73.20 5,267,294 $63.12 7,228,550 $58.99
====================================================================================================================================
Options exercisable at year end 4,020,928 $63.53 2,614,399 $54.90 2,749,017 $47.47
====================================================================================================================================
</TABLE>
(1) Effective with the merger, stock options of Aetna Inc. were substituted
for that portion of options outstanding under the previous U.S. Healthcare
plans that were not satisfied in cash in the merger.
Page 64
<PAGE> 65
Notes to Consolidated Financial Statements (Continued)
12. Benefit Plans (Continued)
The following is a summary of information regarding options outstanding and
options exercisable at December 31, 1998:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
------------------------------------------------- -----------------------------
Weighted
Average Weighted Weighted
Remaining Average Average
Number Contractual Exercise Number Exercise
Range of Exercise Prices Outstanding Life (Years) Price Exercisable Price
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$14.83 -- $ 38.72 402,440 7 $34.31 402,440 $34.31
$41.50 -- $ 46.75 250,651 5 $44.95 250,651 $44.95
$50.50 -- $ 57.00 1,194,014 6 $54.74 1,121,014 $54.60
$61.63 -- $ 78.96 2,620,040 8 $70.68 1,587,163 $70.23
$80.19 -- $112.63 3,443,623 10 $88.11 659,660 $87.48
- ----------------------------------------------------------------------------------------------------------------------
7,910,768 4,020,928
======================================================================================================================
</TABLE>
Incentive Units - Executives may, from time to time, be granted incentive units,
which are rights to receive common stock or an equivalent value in cash. Of the
two cycles of incentive unit grants outstanding, each vests at the end of a
four-year vesting period (currently 1998 and 2000), conditioned upon the
employee's continued employment during that period and achievement of specified
Company performance goals related to the Company's total return to shareholders
over the four-year measurement period. The incentive units may vest within a
range from 0% to 175% at the end of the four-year period based on the attainment
of these performance goals. The incentive unit holders are not entitled to
dividends during the vesting period.
Incentive unit transactions related to the 1996 Plan under which holders may be
entitled to receive common stock, are as follows:
<TABLE>
<CAPTION>
Number of Incentive Units
-------------------------------------
1998 1997 1996
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Outstanding, beginning of year 575,145 368,217 564,920
Granted 28,625 433,500 3,425
Vested -- (202,852) (191,928)
Expired or forfeited (11,950) (23,720) (8,200)
- --------------------------------------------------------------------------------
Outstanding, end of year 591,820 575,145 368,217
- --------------------------------------------------------------------------------
</TABLE>
The weighted-average grant date fair values for incentive units granted in 1998,
1997 and 1996 were $80.64, $85.17 and $71.88, respectively.
13. Participating Policyholders' Interests
Under participating life insurance contracts issued by the Company, the
policyholder is entitled to share in the earnings of such contracts. This
business is accounted for in the Company's consolidated financial statements on
a statutory basis, since any adjustments to policy acquisition costs and
reserves on this business would have no effect on the Company's net income or
shareholders' equity. Statutory premiums, assets and liabilities allocable to
the participating policyholders were as follows:
<TABLE>
<CAPTION>
(Millions) 1998(1) 1997 1996
<S> <C> <C> <C>
- --------------------------------------------------------------------------------
Premiums $ 44.4 $ 63.8 $ 48.4
Assets $124.2 $733.5 $702.1
Liabilities $ 81.7 $640.3 $613.3
- --------------------------------------------------------------------------------
</TABLE>
(1) The domestic individual life business was sold on October 1, 1998 (refer
to Note 4 for further discussion).
Page 65
<PAGE> 66
Notes to Consolidated Financial Statements (Continued)
14. Debt and Guarantee of Debt Securities
<TABLE>
<CAPTION>
(Millions) 1998 1997
- -----------------------------------------------------------------------------------------
<S> <C> <C>
Long-term debt:
Domestic:
Notes, 8.625% due 1998 $ -- $ 99.9
Notes, 6.75% due 2001 299.8 299.7
Notes, 6.375% due 2003 199.4 199.2
Notes, 7.125% due 2006 348.0 347.8
Debentures, 6.75% due 2013 199.9 199.8
Eurodollar Notes, 7.75% due 2016 63.5 63.6
Debentures, 8% due 2017 (1) 140.0 170.0
Note, 3% due 2009 1.6 5.6
Puttable Reset Securities, 5.66% due 2009 306.7 --
Debentures, 7.25% due 2023 199.9 200.0
Debentures, 7.625% due 2026 446.1 446.0
Debentures, 6.97% due 2036 (puttable at par in 2004) 300.0 300.0
International:
Mortgage Notes, 6.5%-11.875% due in varying amounts to 2006 16.3 14.6
Total $2,521.2 $2,346.2
- -----------------------------------------------------------------------------------------
</TABLE>
(1) Subject to various redemption options which began on January 15, 1997.
Aetna Inc. has fully and unconditionally guaranteed the payment of all
principal, premium, if any, and interest on all outstanding debt securities of
Aetna Services, including the $348 million 9.5% Subordinated Debentures due 2024
(the "Subordinated Debentures") issued to Aetna Capital L.L.C., a wholly owned
subsidiary of Aetna Services (refer to Note 15) (collectively, the "Aetna
Services Debt"). Aggregate maturities of long-term debt and sinking fund
requirements for 1999 through 2001 are $1 million, $1 million, $306 million,
respectively, no maturities in 2002, $199 million in 2003 and $2,013 million,
thereafter.
On November 18, 1998, Aetna Services issued $300 million of 5.66% Puttable Reset
Securities ("PURS") due 2009. The PURS are structured such that, on November 29,
1999 (the "Reset Date") the remarketing agents may elect to remarket the PURS,
whereby the annual interest rate on the securities will be reset to a specified
base rate (10-year Treasury rate plus a defined spread). If the remarketing
agents elect not to remarket the securities, Aetna Services will be required to
repurchase the PURS in full on November 29, 1999, unless at least 10% of the
holders elect to hold the PURS to maturity (subject to the interest reset
described above). The PURS cannot be redeemed prior to the Reset Date. The
Company received a premium for the remarketing component of the securities.
At December 31, 1998, $1.1 billion of short-term borrowings were outstanding. In
addition, Aetna Services has a revolving credit facility in an aggregate amount
of $1.5 billion with a worldwide group of banks that terminates in June 2001.
Various interest rate options are available under the facility and any
borrowings mature on the expiration date of the applicable credit commitment.
Aetna Services pays facility fees ranging from .065% to .2% per annum, depending
upon its long-term senior unsecured debt rating. The facility fee at December
31, 1998 is at an annual rate of .08%. The facility also supports Aetna
Services' commercial paper borrowing program. As a guarantor to the credit
facility, Aetna Inc. is required to maintain shareholders' equity, excluding
accumulated other comprehensive income, of at least $7.5 billion.
Page 66
<PAGE> 67
Notes to Consolidated Financial Statements (Continued)
14. Debt and Guarantee of Debt Securities (Continued)
Total interest paid by the Company was $212 million, $239 million and $130
million in 1998, 1997 and 1996, respectively.
Consolidated financial statements of Aetna Services have not been presented
herein or in any separate reports filed with the Securities and Exchange
Commission because management has determined that such financial statements
would not be material to holders of the Aetna Services Debt. Summarized
consolidated financial information for Aetna Services at December 31 and for the
year then ended, is as follows (in millions):
<TABLE>
<CAPTION>
Balance Sheets Information:
1998 1997
- --------------------------------------------------------------------------------
<S> <C> <C>
Total investments (excluding Separate Accounts) $38,313.9 $41,020.9
- --------------------------------------------------------------------------------
Total assets $93,190.9 $85,138.9
- --------------------------------------------------------------------------------
Total insurance liabilities $38,566.9 $38,620.0
- --------------------------------------------------------------------------------
Total liabilities $90,770.3 $82,160.2
- --------------------------------------------------------------------------------
Total redeemable preferred stock $ 275.0 $ 275.0
- --------------------------------------------------------------------------------
Total shareholder's equity $ 2,145.6 $ 2,703.7
- --------------------------------------------------------------------------------
Statements of Income Information:
Total revenue $10,616.9 $10,390.7
- --------------------------------------------------------------------------------
Total benefits and expenses $ 9,454.2 $ 8,885.5
- --------------------------------------------------------------------------------
Income before income taxes $ 1,162.7 $ 1,505.2
- --------------------------------------------------------------------------------
Net income $ 766.4 $ 975.9
- --------------------------------------------------------------------------------
</TABLE>
15. Aetna-Obligated Mandatorily Redeemable Preferred Securities of Subsidiary
Limited Liability Company Holding Primarily Debentures Guaranteed by Aetna
On November 22, 1994, Aetna Capital L.L.C. ("ACLLC"), a wholly owned subsidiary
of Aetna Services, issued $275 million (11,000,000 shares) of 9.5% Cumulative
Monthly Income Preferred Securities, Series A. The securities are redeemable, at
the option of ACLLC with Aetna Services' consent, in whole or in part, from time
to time, on or after November 30, 1999, or at any time under certain limited
circumstances related to tax events, at a redemption price of $25 per security
plus accumulated and unpaid dividends to the redemption date. The securities are
scheduled to become due and payable in 2024. The maturity date may be changed
under certain circumstances.
ACLLC loaned the proceeds from the preferred stock issuance and the common
capital contributions to Aetna Services. In return, Aetna Services issued to
ACLLC approximately $348 million principal amount of 9.5% Subordinated
Debentures due in 2024, which are fully and unconditionally guaranteed by Aetna
Inc. on a subordinated basis. (Refer to Note 14.) These Subordinated Debentures
represent substantially all of the assets of ACLLC. Interest on these debentures
is payable monthly, and under certain circumstances, principal may be due prior
to or later than the original maturity date. This loan is eliminated in the
Consolidated Balance Sheets. The interest and other payment dates on the
debentures correspond to the distribution and other payment dates on the
preferred and common securities of ACLLC. Aetna Inc.'s obligations under the
debentures and related agreements, taken together, constitute a full and
unconditional guarantee of payments due on the preferred securities of ACLLC.
Page 67
<PAGE> 68
Notes to Consolidated Financial Statements (Continued)
16. Capital Stock
In addition to the capital stock disclosed on the Consolidated Balance Sheets,
Aetna Inc. has the following authorized capital stock: 15,000,000 shares of
Class A Voting Preferred Stock, $.01 par value per share; 15,000,000 shares of
Class B Voting Preferred Stock, $.01 par value per share; and 15,000,000 shares
of Class D Non-Voting Preferred Stock, par value $.01 per share. At December 31,
1998 and 1997, 12,424,092 and 12,585,929 common shares, respectively, were
reserved for issuance under Aetna Inc.'s stock option plans.
Each share of Class C Stock is mandatorily convertible into one share of common
stock on July 19, 2000. Dividends accrue on a daily basis at an annual rate of
$4.7578 per share and are payable upon declaration by Aetna Inc.'s Board of
Directors (the "Board"). Aetna Inc. may, at its option, redeem the Class C Stock
during the period July 19, 1999 to July 18, 2000 for shares of Aetna Inc. common
stock based on specified formulas. The number of shares of common stock to be
issued for each share of Class C Stock pursuant to an optional redemption will
be based on a ratio, calculated as the greater of: (a) $76.125 (plus any accrued
but unpaid dividends) divided by the then current market price of the common
stock determined two trading days prior to the notice date of the intent to
redeem; or (b) .8197 of a share of common stock. Each share of Class C Stock is
also convertible, prior to the mandatory redemption date in whole or part, at
the option of the holder, into .8197 of a share of common stock.
Pursuant to Aetna Inc.'s Rights Agreement, one share purchase right (a "Right")
is attached to each share of outstanding common stock and common stock
subsequently issued, prior to the time at which the Rights become exercisable,
expire or are redeemed.
The Rights trade with the common stock until they become exercisable. The Rights
become exercisable 10 days after: (i) a public announcement that a person or
group ("person") has acquired 15% or more of the outstanding shares of common
stock or 10% or more of the outstanding shares of common stock if such person is
declared by the Board to be an "adverse person" (a "triggering acquisition"); or
(ii) a person commences a tender offer or exchange offer, the consummation of
which could result in such person owning 15% or more of the common stock; or
(iii), in either event, such later date as the Board may determine.
Upon becoming exercisable, each Right will entitle the holder thereof (the
"Holder") to purchase one one-hundredth of a share of Aetna Inc.'s Class B
Voting Preferred Stock, Series A (a "Fractional Preferred Share") at a price of
$200 (the "Exercise Price"). Each Fractional Preferred Share has dividend,
voting and liquidation rights designed to make it approximately equal in value
to one share of common stock. Under certain circumstances, including a
triggering acquisition, each Right (other than Rights that were or are owned by
the acquirer, which are void) thereafter will entitle the Holder to purchase
common stock (or economically equivalent securities, under certain
circumstances) worth twice the Exercise Price. Under certain circumstances,
including certain acquisitions of Aetna Inc. in a merger or sale of its assets,
each Right thereafter will entitle the Holder to purchase equity securities of
the acquirer at a 50% discount.
Under certain circumstances, Aetna Inc. may redeem all of the Rights at a price
of $.01 per Right. The Rights will expire on November 7, 1999, unless earlier
redeemed. The Rights have no dilutive effect on earnings per share until
exercised.
Page 68
<PAGE> 69
Notes to Consolidated Financial Statements (Continued)
17. Dividend Restrictions and Shareholders' Equity
The Company's business operations are conducted through Aetna Services and Aetna
U.S. Healthcare and their respective subsidiaries (which principally consist of
HMOs and insurance companies). In addition to general state law restrictions on
payments of dividends and other distributions to shareholders applicable to all
corporations, HMOs and insurance companies are subject to further state
regulations that, among other things, may require such companies to maintain
certain levels of equity, and restrict the amount of dividends and other
distributions that may be paid to their parent corporations. These regulations
are not directly applicable to Aetna Services, Aetna U.S. Healthcare or Aetna
Inc., as none is an HMO or insurance company. The additional regulations
applicable to the Company's indirect HMO and insurance company subsidiaries are
not expected to affect the ability of Aetna Inc. to pay dividends, or the
ability of any of the Company's subsidiaries to service their outstanding debt
or preferred stock obligations.
The amount of dividends that may be paid to Aetna Services or Aetna U.S.
Healthcare by their domestic insurance and HMO subsidiaries at December 31, 1998
without prior approval by state regulatory authorities is limited to
approximately $501 million in the aggregate. There are no such restrictions on
distributions from Aetna Services or Aetna U.S. Healthcare to Aetna Inc. or on
distributions from Aetna Inc. to its shareholders.
The combined statutory net income for the years ended and statutory surplus as
of December 31 for the domestic insurance and HMO subsidiaries of the Company,
reflecting intercompany eliminations, were as follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997
- --------------------------------------------------------------------------------
<S> <C> <C>
Statutory net income $ 591.0 $ 759.5
Statutory surplus $2,993.2 $3,361.3
- --------------------------------------------------------------------------------
</TABLE>
As of December 31, 1998, the Company does not utilize any statutory accounting
practices which are not prescribed by state regulatory authorities that,
individually or in the aggregate, materially affect statutory surplus.
18. Segment Information
Summarized financial information for the Company's principal operations was as
follows:
<TABLE>
<CAPTION>
Aetna
Aetna U.S. Retirement Aetna Large Case Corporate Total
1998 (Millions) Healthcare Services International Pensions and Other(1) Company
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Revenues from external customers $14,482.3 $ 859.9 $1,716.7 $ 141.2 $ 1.3 $ 17,201.4
Net investment income 537.2 1,024.5 363.3 1,152.5 16.9 3,094.4
Equity in earnings of subsidiaries -- -- 96.5 -- -- 96.5
- -----------------------------------------------------------------------------------------------------------------------------------
Total revenue excluding realized
capital gains (losses) $15,019.5 $ 1,884.4 $2,176.5 $ 1,293.7 $ 18.2 $ 20,392.3
===================================================================================================================================
Interest expense $ -- $ -- $ 11.1 $ -- $ 239.8 $ 250.9
- -----------------------------------------------------------------------------------------------------------------------------------
Amortization $ 381.9 $ 131.1 $ 102.4 $ -- $ -- $ 615.4
- -----------------------------------------------------------------------------------------------------------------------------------
Income taxes (benefits) $ 368.0 $ 132.3 $ 55.9 $ 102.5 $ (98.5) $ 560.2
- -----------------------------------------------------------------------------------------------------------------------------------
Operating earnings (losses) (2) $ 446.1 $ 258.0 $ 165.7 $ 89.7 $(245.9) $ 713.6
Unusual items (3) (64.3) 40.0 (7.5) 42.8 (11.4) (.4)
Realized capital gains (losses), net of tax 49.2 2.0 (22.2) 37.4 68.5 134.9
- -----------------------------------------------------------------------------------------------------------------------------------
Net income (loss) $ 431.0 $ 300.0 $ 136.0 $ 169.9 $(188.8) $ 848.1
===================================================================================================================================
Segment assets (4) $18,619.0 $47,843.3 $8,017.4 $30,651.1 $ 17.3 $105,148.1
- -----------------------------------------------------------------------------------------------------------------------------------
Investment in equity subsidiaries $ -- $ -- $ 493.1 $ -- $ -- $ 493.1
- -----------------------------------------------------------------------------------------------------------------------------------
Expenditures for long-lived assets $ 9.6 $ 10.4 $ 42.5 $ .2 $ -- $ 62.7
- -----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Corporate includes corporate interest, staff area expenses, advertising,
contributions, net investment income and consolidating adjustments.
(2) Operating earnings are net income (loss) excluding net realized capital
gains and losses and any unusual items.
(3) Unusual items excluded from operating earnings include Year 2000 costs for
all segments, an after-tax gain related to the sale of the domestic life
insurance business of $64.0 million and a net after-tax severance and
facilities charge of $1.0 million in the Aetna Retirement Services segment
and an after-tax benefit of $44.2 million from reductions of the reserve
for anticipated future losses on discontinued products in the Large Case
Pensions segment.
(4) Large Case Pensions assets include $7.2 billion attributable to
discontinued products.
Page 69
<PAGE> 70
Notes to Consolidated Financial Statements (Continued)
18. Segment Information (Continued)
<TABLE>
<CAPTION>
Aetna
Aetna U.S. Retirement Aetna Large Case Corporate Total
1997 (Millions) Healthcare Services International Pensions and Other(1) Company
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Revenues from external customers $12,308.5 $ 750.2 $1,574.4 $ 183.1 $ 12.3 $14,828.5
Net investment income 451.2 1,114.7 332.9 1,408.7 18.5 3,326.0
Equity in earnings of subsidiaries -- -- 51.5 -- -- 51.5
- -----------------------------------------------------------------------------------------------------------------------------------
Total revenue excluding realized capital gains
(losses) $12,759.7 $ 1,864.9 $1,958.8 $ 1,591.8 $ 30.8 $18,206.0
===================================================================================================================================
Interest expense $ .6 $ .5 $ 7.8 $ -- $ 226.9 $ 235.8
- -----------------------------------------------------------------------------------------------------------------------------------
Amortization $ 383.2 $ 111.4 $ 102.9 $ -- $ -- $ 597.5
- -----------------------------------------------------------------------------------------------------------------------------------
Income taxes (benefits) $ 391.0 $ 115.1 $ 54.1 $ 153.6 $(103.7) $ 610.1
- -----------------------------------------------------------------------------------------------------------------------------------
Operating earnings (losses) (2) $ 354.6 $ 232.9 $ 128.7 $ 105.0 $(256.2) $ 565.0
Unusual items (3) 29.3 -- -- 108.4 -- 137.7
Realized capital gains, net of tax 69.9 24.2 13.7 20.8 69.8 198.4
- -----------------------------------------------------------------------------------------------------------------------------------
Net income (loss) $ 453.8 $ 257.1 $ 142.4 $ 234.2 $(186.4) $ 901.1
===================================================================================================================================
Segment assets (4) $15,938.5 $40,916.6 $6,521.5 $32,325.2 $ 298.8 $96,000.6
- -----------------------------------------------------------------------------------------------------------------------------------
Investment in equity subsidiaries $ -- $ -- $ 372.6 $ -- $ -- $ 372.6
- -----------------------------------------------------------------------------------------------------------------------------------
Expenditures for long-lived assets $ 9.5 $ 11.2 $ 43.4 $ .2 $ -- $ 64.3
- -----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Corporate includes corporate interest, staff area expenses, advertising,
contributions, net investment income and consolidating adjustments.
(2) Operating earnings are net income (loss) excluding net realized capital
gains and losses and any unusual items.
(3) Unusual items excluded from operating earnings include an after-tax
benefit of $29.3 million from the reduction of the severance and
facilities reserve in the Aetna U.S. Healthcare segment and a $108.4
million after-tax benefit from reductions of the reserve for anticipated
future losses on discontinued products in the Large Case Pensions segment.
(4) Large Case Pensions assets include $7.9 billion of assets attributable to
discontinued products.
<TABLE>
<CAPTION>
Aetna
Aetna U.S. Retirement Aetna Large Case Corporate Total
1996 (Millions) Healthcare Services International Pensions and Other(1) Company
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Revenues from external customers $9,261.1 $ 648.4 $1,290.3 $ 295.5 $ 5.6 $11,500.9
Net investment income 414.6 1,086.7 317.4 1,649.2 80.5 3,548.4
Equity in earnings of subsidiaries -- -- 16.8 -- -- 16.8
- -----------------------------------------------------------------------------------------------------------------------------------
Total revenue excluding realized capital gains
(losses) $9,675.7 $1,735.1 $1,624.5 $1,944.7 $ 86.1 $15,066.1
===================================================================================================================================
Interest expense $ .2 $ -- $ 8.2 $ -- $ 159.9 $ 168.3
- -----------------------------------------------------------------------------------------------------------------------------------
Amortization $ 181.3 $ 74.4 $ 76.9 $ -- $ -- $ 332.6
- -----------------------------------------------------------------------------------------------------------------------------------
Income taxes (benefits) $ 66.8 $ 79.3 $ 62.0 $ 137.3 $(211.8) $ 133.6
- -----------------------------------------------------------------------------------------------------------------------------------
Operating earnings (losses) (2) $ 341.3 $ 200.2 $ 105.5 $ 106.1 $(177.6) $ 575.5
Discontinued operations, net of tax -- -- -- -- 445.9 445.9
Unusual items (3) (320.5) (31.8) -- 131.5 (235.5) (456.3)
Realized capital gains, net of tax 37.9 17.8 4.4 20.8 5.0 85.9
- -----------------------------------------------------------------------------------------------------------------------------------
Net income (loss) $ 58.7 $ 186.2 $ 109.9 $ 258.4 $ 37.8 $ 651.0
===================================================================================================================================
</TABLE>
(1) Corporate includes corporate interest, staff area expenses, advertising,
contributions, net investment income and consolidating adjustments.
(2) Operating earnings are net income (loss) excluding net realized capital
gains and losses and any unusual items.
(3) Unusual items excluded from operating earnings include an after-tax
benefit of $131.5 million from reductions of the reserve for anticipated
future losses on discontinued products in the Large Case Pensions segment
and after-tax severance and facilities and other charges of $320.5 million
in the Aetna U.S. Healthcare segment, $31.8 million in the Aetna
Retirement Services segment and $235.5 million in the Corporate segment.
Page 70
<PAGE> 71
Notes to Consolidated Financial Statements (Continued)
19. Geographic Information
Selected financial information by country was as follows:
<TABLE>
<CAPTION>
1998 1997 1996
-------------------------------- ---------------------------------- -------------
Revenues from Expenditures for Revenues from Expenditures for Revenues from
External Long-Lived External Long-Lived External
(Millions) Customers Assets Customers Assets Customers
- ------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
United States $15,484.7 $20.2 $13,254.1 $20.9 $10,210.6
Taiwan 780.1 5.8 697.1 14.5 525.5
Chile 349.0 6.8 322.0 7.4 273.5
Canada 306.5 .6 273.1 .2 237.0
Malaysia 165.8 16.1 215.8 11.8 218.6
New Zealand 48.5 3.7 -- -- --
Argentina 12.1 1.6 6.8 2.5 4.3
Other foreign countries 54.7 7.9 59.6 7.0 31.4
- ------------------------------------------------------------------------------------------------------------------------
Total $17,201.4 $62.7 $14,828.5 $64.3 $11,500.9
========================================================================================================================
</TABLE>
20. Revenues from External Customers by Product
Revenues from external customers by product were as follows:
<TABLE>
<CAPTION>
(Millions) 1998 1997 1996
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Health risk $12,014.4 $ 9,813.9 $ 6,803.0
Group insurance and other health 2,923.0 2,812.0 2,720.4
Individual life (1) 1,194.7 1,219.4 1,037.0
Financial services 761.3 608.0 497.2
Large case pensions 141.2 183.1 295.5
Other 166.8 192.1 147.8
- --------------------------------------------------------------------------------
Total revenue from external customers $17,201.4 $14,828.5 $11,500.9
================================================================================
</TABLE>
(1) The domestic individual life business was sold on October 1, 1998 (refer
to Note 4 for further discussion).
21. Commitments and Contingent Liabilities
Commitments
In January 1999, the Company acquired Asistencia Medica Social Argentina,
Argentina's largest health maintenance organization, for approximately $100
million. The Company also announced the formation of a pension joint venture
with Poland's sixth-largest bank. The Company's interest in the joint venture is
not material.
Leases
The Company has entered into operating leases for office space and certain
computer and other equipment. Rental expenses for these items were $224 million,
$192 million and $179 million for 1998, 1997 and 1996, respectively. The future
net minimum payments under noncancelable leases for 1999 through 2003 are
estimated to be $247 million, $183 million, $127 million, $106 million and $89
million, respectively, and $307 million thereafter.
In connection with the property-casualty sale, the Company vacated, and the
purchaser subleased, at market rates for a period of eight years, the space that
the Company occupied in the CityPlace office facility in Hartford. In 1996, the
Company recorded a charge of $292 million pretax ($190 million after tax) which
represents the present value of the difference between rent required to be paid
by the Company under the lease and future rentals expected to be received by the
Company. At December 31, 1998, the balance in this facilities reserve was $288
million. Future payments under the lease, net of expected subrentals (which are
to be applied against the reserve and are not included in the future net minimum
payments above), are $179 million and $197 million, attributable to the next
five and subsequent five years, respectively.
Page 71
<PAGE> 72
Notes to Consolidated Financial Statements (Continued)
Litigation
Purported Class Action Complaints were filed in the United States District Court
for the Eastern District of Pennsylvania on November 5, 1997 by Eileen
Herskowitz and Michael Wolin, and on December 4, 1997 by Pamela Goodman and
Michael J. Oring. Other purported Class Action Complaints were filed in the
United State District Court for the District of Connecticut on November 25, 1997
by Evelyn Silvert, on November 26, 1997 by the Rainbow Fund, Inc., and on
December 24, 1997 by Terry B. Cohen. The Connecticut actions were transferred to
the United States District Court for the Eastern District of Pennsylvania (the
"Court") for consolidated pretrial proceedings with the cases pending there. The
plaintiffs filed a Consolidated and Amended Complaint (the "Complaint") seeking,
among other remedies, unspecified damages resulting from defendants' alleged
violations of federal securities laws. The Complaint alleged that the Company
and three of its current or former officers or directors, Ronald E. Compton,
Richard L. Huber, and Leonard Abramson, are liable for certain
misrepresentations and omissions regarding, among other matters, the integration
of the merger with U.S. Healthcare and the Company's medical claim reserves. The
Company and the individual defendants filed a motion to dismiss the Complaints
on July 31, 1998. On February 2, 1999, the Court dismissed the Complaints, but
granted the plaintiffs leave to file a second amended complaint. On February 22,
1999, the plaintiffs filed a second amended complaint against the Company,
Ronald E. Compton and Richard L. Huber. The litigation is still in the
preliminary stages, and the Company is defending the actions vigorously.
The Company is also involved in numerous other lawsuits arising, for the most
part, in the ordinary course of its business operations, including bad faith,
medical malpractice and other litigation in its health business. Aetna U.S.
Healthcare of California, Inc., an indirect subsidiary of the Company, is
currently a party to such an action brought by Teresa Goodrich, individually and
as successor in interest of David Goodrich. The action was originally filed in
March 1996 in Superior Court for the state of California, county of San
Bernardino. The action alleges damages for unpaid medical bills, punitive
damages and compensatory damages for wrongful death based upon alleged denial of
claims for services provided to David Goodrich by out of network providers
without prior authorization. On January 20, 1999 a jury rendered a verdict in
favor of the plaintiff for $750,000 for unpaid medical bills, $3.7 million for
wrongful death and $116 million for punitive damages. Aetna U.S. Healthcare of
California, Inc. intends to appeal the verdict and will continue to vigorously
defend this matter. While the ultimate outcome of these other lawsuits cannot be
determined at this time, after consideration of the defenses available to the
Company and any related reserves established, they are not 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.
Page 72
<PAGE> 73
Management's Responsibility for Financial Statements
Management is responsible for the financial statements of Aetna Inc., which have
been prepared in accordance with generally accepted accounting principles. The
financial statements are the product of a number of processes that include the
gathering of financial data developed from the records of the Company's
day-to-day business transactions. Informed judgments and estimates are used for
those transactions not yet complete or for which the ultimate effects cannot be
measured precisely. The Company emphasizes the selection and training of
personnel who are qualified to perform these functions. In addition, Company
personnel are subject to rigorous standards of ethical conduct that are widely
communicated throughout the organization.
The Company's internal controls are designed to reasonably assure that Company
assets are safeguarded from unauthorized use or disposition and that Company
transactions are authorized, executed and recorded properly. Company personnel
maintain and monitor these internal controls on an ongoing basis. In addition,
the Company's internal auditors review and report upon the functioning of these
controls with the right of full access to all Company personnel.
The Company engages KPMG LLP as independent auditors to audit its financial
statements and express their opinion thereon. Their audits include reviews and
tests of the Company's internal controls to the extent they believe necessary to
determine and conduct the audit procedures that support their opinion. Members
of that firm also have the right of full access to each member of management in
conducting their audits. The report of KPMG LLP appears below.
Aetna's Board of Directors has an Audit Committee composed solely of independent
directors. The Committee meets periodically with management, the internal
auditors and KPMG LLP to oversee and monitor the work of each and to inquire of
each as to their assessment of the performance of the others in their work
relating to the Company's financial statements. Both the independent and
internal auditors have, at all times, the right of full access to the Audit
Committee, without management present, to discuss any matter they believe should
be brought to the attention of the Committee.
Page 73
<PAGE> 74
Independent Auditors' Report
The Shareholders and Board of Directors
Aetna Inc.:
We have audited the accompanying consolidated balance sheets of Aetna Inc. and
Subsidiaries as of December 31, 1998 and 1997, and the related consolidated
statements of income, shareholders' equity, and cash flows for each of the years
in the three-year period ended December 31, 1998. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the aforementioned consolidated financial statements present
fairly, in all material respects, the financial position of Aetna Inc. and
Subsidiaries at December 31, 1998 and 1997, and the results of their operations
and their cash flows for each of the years in the three-year period ended
December 31, 1998, in conformity with generally accepted accounting principles.
/s/ KPMG LLP
Hartford, Connecticut
February 3, 1999, except as to
the fourth paragraph of Note 21,
which is as of February 22, 1999
Page 74
<PAGE> 75
Quarterly Data (Unaudited)
<TABLE>
<CAPTION>
1998(1)(2) (Millions, except per common share data) First Second Third Fourth
- ----------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Total revenue $4,633.5 $4,828.1 $5,439.2 $5,703.3
- ----------------------------------------------------------------------------------------------------
Income before income taxes $ 279.2 $ 432.8 $ 350.3 $ 346.0
Income taxes 111.7 167.1 137.9 143.5
- ----------------------------------------------------------------------------------------------------
Net income $ 167.5 $ 265.7 $ 212.4 $ 202.5
====================================================================================================
Net income applicable to common shareholders $ 153.6 $ 251.8 $ 198.6 $ 188.8
====================================================================================================
Per Common Share Results: (3)
Net income
Basic $ 1.05 $ 1.74 $ 1.38 $ 1.33
Diluted 1.05 1.69 1.36 1.31
- ----------------------------------------------------------------------------------------------------
Common Stock Data:
Dividends declared $ .20 $ .20 $ .20 $ .20
Common stock prices, high 87.69 88.19 80.31 82.13
Common stock prices, low 69.63 71.31 60.19 63.56
- ----------------------------------------------------------------------------------------------------
</TABLE>
(1) Third quarter includes a benefit of $44.2 million after tax ($68.0 million
pretax) from a reduction of the reserve for loss on discontinued products.
(2) Fourth quarter includes a gain related to the sale of the life business of
$64 million after tax ($98.9 million pretax) and a net after-tax severance
and facilities charge of $1 million.
(3) Calculation of the earnings per share is based on weighted average shares
outstanding during each quarter and, accordingly, the sum may not equal
the total for the year.
<TABLE>
<CAPTION>
1997(1)(2)(3) (Millions, except per common share data) First Second Third Fourth
- ----------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Total revenue $4,486.7 $4,628.3 $4,632.3 $4,792.9
- ----------------------------------------------------------------------------------------------------
Income before income taxes $ 487.9 $ 370.1 $ 211.2 $ 442.0
Income taxes 208.6 140.0 93.4 168.1
- ----------------------------------------------------------------------------------------------------
Net income $ 279.3 $ 230.1 $ 117.8 $ 273.9
====================================================================================================
Net income applicable to common shareholders $ 265.4 $ 216.2 $ 104.0 $ 260.0
====================================================================================================
Per Common Share Results: (4)
Net income
Basic $ 1.77 $ 1.44 $ .70 $ 1.76
Diluted 1.72 1.43 .69 1.71
- ----------------------------------------------------------------------------------------------------
Common Stock Data:
Dividends declared $ .20 $ .20 $ .20 $ .20
Common stock prices, high 92.88 112.75 117.00 80.38
Common stock prices, low 74.00 83.63 81.00 67.00
- ----------------------------------------------------------------------------------------------------
</TABLE>
(1) First quarter includes a benefit of $108.4 million after tax ($172.5
million pretax) from a reduction of the reserve for loss on discontinued
products.
(2) First and second quarters include after-tax reductions of the severance
and facilities reserves of $9.1 million and $20.2 million, respectively.
(3) The third quarter includes an increase in the reserve for HMO medical
claims of $103.0 million after tax ($161 million pretax), the majority of
which relates to the first two quarters of 1997.
(4) Calculation of the earnings per share is based on weighted average shares
outstanding during each quarter and, accordingly, the sum may not equal
the total for the year.
Page 75
<PAGE> 1
Exhibit 21
<TABLE>
<CAPTION>
State of
Subsidiary Incorporation Ownership (1)
- ---------- ------------- -------------
<S> <C> <C>
Aetna Inc. CT --
Aetna Services, Inc. CT 100% owned by Aetna Inc.
Aetna U.S. Healthcare Inc. PA 100% owned by Aetna Inc.
Aetna Risk Indemnity Company Limited Bermuda 100% owned by Aetna Inc.
Aetna Life Insurance Company CT 100% owned by Aetna Services, Inc.
Aetna Retirement Services, Inc. CT 100% owned by Aetna Services, Inc.
Aetna Health and Life Insurance Company CT 100% owned by Aetna Services, Inc.
Aetna Capital L.L.C. DE 95% owned by Aetna Services, Inc. (2)
Imperial Fire & Marine Re-Insurance United
Company Limited Kingdom 10% owned by Aetna Services, Inc.
Aetna International, Inc. CT 100% owned by Aetna Services, Inc.
AUSHC Holdings, Inc. CT 100% owned by Aetna Services, Inc
Aetna U.S. Healthcare Dental Plan Inc. PA 100% owned by Aetna U.S. Healthcare Inc.
U.S. Healthcare Dental Plan, Inc. NJ 100% owned by Aetna U.S. Healthcare Inc.
U.S. Healthcare Dental Plan, Inc. DE 100% owned by Aetna U.S. Healthcare Inc.
U.S. Health Insurance Company NY 100% owned by Aetna U.S. Healthcare Inc.
Primary Holdings, Inc. DE 100% owned by Aetna U.S. Healthcare Inc.
Corporate Health Insurance Company PA 100% owned by Aetna U.S. Healthcare Inc.
Aetna U.S. Healthcare Inc. NJ 100% owned by Aetna U.S. Healthcare Inc.
U.S. Healthcare, Inc. NY 100% owned by Aetna U.S. Healthcare Inc.
Aetna U.S. Healthcare Inc. CT 100% owned by Aetna U.S. Healthcare Inc.
Aetna U.S. Healthcare Inc. MA 100% owned by Aetna U.S. Healthcare Inc.
Aetna U.S. Healthcare Inc. (DE) DE 100% owned by Aetna U.S. Healthcare Inc.
Aetna U.S. Healthcare Inc. NH 100% owned by Aetna U.S. Healthcare Inc.
U.S. Healthcare Financial Services, Inc. DE 100% owned by Aetna U.S. Healthcare Inc.
Aetna Health Management, Inc. DE 100% owned by Aetna U.S. Healthcare Inc.
NYLCare Health Plans, Inc. DE 100% owned by Aetna U.S. Healthcare Inc.
CMBS Holdings, Inc. TX 100% owned by Aetna Life Insurance Company
AHP Holdings, Inc. CT 100% owned by Aetna Life Insurance Company
CMBS Holdings, Inc. - II CT 100% owned by Aetna Life Insurance Company
CMBS Holdings, L.L.C. CT 99% owned by Aetna Life Insurance Company (3)
CDI Equity, Inc. DE 100% owned by Aetna Life Insurance Company
Bay Area Mall, Inc. DE 100% owned by Aetna Life Insurance Company
Aetna Affordable Housing, Inc. CT 100% owned by Aetna Life Insurance Company
Azalea Mall L.L.C. DE 100% owned by Aetna Life Insurance Company
85 L.L.C. DE 100% owned by Aetna Life Insurance Company
PHPSNE Parent Corporation DE 55% owned by AUSHC Holdings Inc.
Aetna Retirement Holdings, Inc. CT 100% owned by Aetna Retirement Services, Inc.
Aetna Canada Holdings Limited Canada 100% owned by Aetna International, Inc.
Aetna Life Insurance Company of America CT 100% owned by Aetna International, Inc.
Aetna Capital Holdings, Inc. CT 100% owned by Aetna International, Inc.
Aetna Life & Casualty (Bermuda) Ltd. Bermuda 100% owned by Aetna International, Inc.
Pacific-Aetna Life Insurance Co. Ltd. PRC 50% owned by Aetna International, Inc. (4)
Primary Investments, Inc. DE 100% owned by Primary Holdings, Inc.
Aetna U.S. Healthcare Inc. OH 100% owned by Aetna Health Management, Inc.
Aetna U.S. Healthcare Inc. VA 74% owned by Aetna Health Management, Inc. (5)
Aetna U.S. Healthcare Inc. FL 100% owned by Aetna Health Management, Inc.
Aetna Health Plans of the Carolinas, Inc. NC 100% owned by Aetna Health Management, Inc.
Aetna Dental Care of Kentucky, Inc. KY 100% owned by Aetna Health Management, Inc.
Aetna U.S. Healthcare of California, Inc. CA 100% owned by Aetna Health Management, Inc.
Aetna Health Plans of Central and
Eastern Pennsylvania, Inc. DE 100% owned by Aetna Health Management, Inc.
AUSHC Holdings, Inc. DE 100% owned by Aetna Health Management, Inc.
Aetna U.S. Healthcare Inc. LA 100% owned by Aetna Health Management, Inc.
Aetna Government Health Plans, Inc. CA 100% owned by Aetna Health Management, Inc.
Aetna U.S. Healthcare Inc. AZ 100% owned by Aetna Health Management, Inc.
Med Southwest, Inc. TX 55% owned by Aetna Health Management, Inc.
Informed Health, Inc. DE 100% owned by Aetna Health Management, Inc.
Aetna U.S. Healthcare of Georgia, Inc. GA 37% owned by Aetna Health Management, Inc. (6)
Aetna U.S. Healthcare Dental Plan of
California Inc. CA 100% owned by Aetna Health Management, Inc.
Aetna U.S. Healthcare of Illinois, Inc. IL 100% owned by Aetna Health Management, Inc.
</TABLE>
Page 1
<PAGE> 2
Exhibit 21 (Continued)
<TABLE>
<CAPTION>
State of
Subsidiary Incorporation Ownership (1)
- ---------- ------------- -------------
<S> <C> <C>
Aetna U.S. Healthcare Inc. TX 100% owned by Aetna Health Management, Inc.
Aetna U.S. Healthcare Inc. TN 100% owned by Aetna Health Management, Inc.
Aetna Dental Care of Texas, Inc. TX 100% owned by Aetna Health Management, Inc.
Lonestar Holding Co. DE 100% owned by NYLCare Health Plans, Inc.
NYLCare Health Plans of the Mid-Atlantic, Inc. MD 80% owned by NYLCare Health Plans, Inc. (7)
Benefit Panel Services, Inc. CA 50% owned by NYLCare Health Plans, Inc.
NYLCare Dental Plans of the Southwest, Inc. TX 100% owned by NYLCare Health Plans, Inc.
NYLCare Health Plans of Louisiana, Inc. LA 100% owned by NYLCare Health Plans, Inc.
Aetna U.S. Healthcare Inc. ME 100% owned by NYLCare Health Plans, Inc.
NYLCare Health Plans of the Southwest, Inc. TX 100% owned by NYLCare Health Plans, Inc.
NYLCare Health Plans of the Midwest, Inc. IL 100% owned by NYLCare Health Plans, Inc.
The Ethix Corporation DE 100% owned by NYLCare Health Plans, Inc.
NYLCare Health Plans of New York, Inc. NY 100% owned by NYLCare Health Plans, Inc.
NYLCare Health Plans of New Jersey, Inc. NJ 100% owned by NYLCare Health Plans, Inc.
NYLCare Health Plans of Connecticut, Inc. CT 100% owned by NYLCare Health Plans, Inc.
New York Life and Health Insurance Company DE 100% owned by NYLCare Health Plans, Inc.
NYLCare of Texas, Inc. TX 100% owned by NYLCare Health Plans, Inc.
Aetna Life Insurance and Annuity Company CT 100% owned by Aetna Retirement Holdings, Inc.
Aetna Retail Holding Company, Inc. CT 100% owned by Aetna Retirement Holdings, Inc.
Aetna Investment Adviser Holding Company, Inc. CT 100% owned by Aetna Retirement Holdings, Inc.
Aetna Services Holding Company, Inc. CT 100% owned by Aetna Retirement Holdings, Inc.
Aetna Life Insurance Company of Canada Canada 100% owned by Aetna Canada Holdings Limited
Aetna Health Plans of Southern
New England, Inc. CT 100% owned by PHPSNE Parent Corporation
U.S. Healthcare, Inc. MO 100% owned by Primary Investments, Inc.
United States Health Care Systems of
Pennsylvania, Inc. PA 100% owned by Primary Investments, Inc.
Aetna U.S. Healthcare, Inc. VA 26% owned by Primary Investments, Inc. (5)
Aetna U.S. Healthcare of the Carolinas, Inc. NC 100% owned by Primary Investments, Inc.
Aetna U.S. Healthcare of Georgia, Inc. GA 63% owned by Primary Investments, Inc. (6)
U.S. Health Insurance Company CT 100% owned by Primary Investments, Inc.
Aetna U.S. Healthcare Holdings, Inc. DE 100% owned by Primary Investments, Inc.
Aetna U.S. Healthcare, Inc. WA 100% owned by Primary Investments, Inc.
Aetna U.S. Healthcare, Inc. MI 100% owned by Primary Investments, Inc.
Aetna U.S. Healthcare, Inc. OK 100% owned by Primary Investments, Inc.
Aetna Insurance Company of Connecticut CT 100% owned by AHP Holdings, Inc.
Aetna Health Plans of New York, Inc. NY 100% owned by AUSHC Holdings, Inc.
Aetna Health Plans of New Jersey, Inc. NJ 100% owned by AUSHC Holdings, Inc.
Southwest Physicians Life Insurance Company TX 100% owned by Med Southwest, Inc.
Aetna U.S. Healthcare of North Texas, Inc. TX 100% owned by Med Southwest, Inc.
Lone Star Health Plan, Inc. TX 90% owned by Lonestar Holding Co. (8)
Physicians Health Services Foundation, Inc. MD 100% owned by NYLCare Health Plans of the Mid-Atlantic, Inc.
Viva Health Incorporated CA 100% owned by Benefit Panel Services, Inc.
ETHIX Northwest, Inc. WA 100% owned by the Ethix Corporation
Aetna Get Fund MA 100% owned by Aetna Life Insurance and Annuity Company
Aetna Variable Encore Fund MA 100% owned by Aetna Life Insurance and Annuity Company
Aetna Variable Fund MA 99% owned by Aetna Life Insurance and Annuity Company (9)
Aetna Income Shares MA 99% owned by Aetna Life Insurance and Annuity Company
Aetna Insurance Company of America CT 100% owned by Aetna Life Insurance and Annuity Company
Aetna Series Fund, Inc. MD 39% owned by Aetna Life Insurance and Annuity Company (9)
</TABLE>
Page 2
<PAGE> 3
Exhibit 21 (Continued)
<TABLE>
<CAPTION>
State of
Subsidiary Incorporation Ownership (1)
- ---------- ------------- -------------
<S> <C> <C>
Aetna Balance VP Inc. MD 100% owned by Aetna Life Insurance and Annuity Company
Aetna Variable Portfolios, Inc. MD 99% owned by Aetna Life Insurance and Annuity Company (9)
Aetna Generation Portfolios, Inc. MD 100% owned by Aetna Life Insurance and Annuity Company
Portfolio Partners, Inc. MD 97% owned by Aetna Life Insurance and Annuity Company (9)
Aetna New Series Fund, Inc. MD 100% owned by Aetna Life Insurance and Annuity Company
Aetna Investment Services, Inc. CT 100% owned by Aetna Retail Holding, Inc.
FNI International, Inc. CA 100% owned by Aetna Retail Holding, Inc.
Aetna Financial Services, Inc. CT 100% owned by Aetna Retail Holding, Inc.
Aeltus Investment Management, Inc. CT 100% owned by Aetna Investment Adviser Holding Company, Inc.
Systematized Benefits Administrators, Inc. CT 100% owned by Aetna Services Holding Company, Inc.
Financial Life Assurance Company of Canada Canada 100% owned by Aetna Life Insurance Company of Canada
Aetna U.S. Healthcare, Inc. CO 100% owned by Aetna U.S. Healthcare Holdings, Inc.
NYLCare Health Plans of the Gulf Coast, Inc. TX 100% owned by Lone Star Health Plan, Inc.
Aetna U.S. Healthcare of Washington Inc. WA 100% owned by Ethix Northwest, Inc.
Aeltus Capital, Inc. CT 100% owned by Aeltus Investment Management, Inc.
Aeltus Trust Company CT 100% owned by Aeltus Investment Management, Inc.
Financial Network Investment Corporation CA 100% owned by FNI International, Inc.
</TABLE>
(1) Percentages are rounded to the nearest whole percent and are based on
ownership of voting rights.
(2) Aetna Capital Holdings, Inc. owns 5% of Aetna Capital L.L.C.
(3) CMBS Holdings, Inc. - II owns 1% of CMBS Holdings, L.L.C.
(4) Aetna Life Insurance Company owns 1% of Pacific - Aetna Life Insurance Co.
Ltd.
(5) Aetna Health Management, Inc. owns 74% and Primary Investments, Inc. owns
26% of Aetna U. S. Healthcare Inc. (VA)
(6) Primary Investments, Inc. owns 63% and Aetna Health Management, Inc. owns
37% of Aetna U.S. Healthcare of Georgia, Inc.
(7) Physicians Health Services Foundation, Inc. owns 20% of this company.
(8) NYLCare Health Plans, Inc. owns 10% of this company.
(9) Aetna Life Insurance Company owns 1% of Aetna Variable Fund, 2% of Aetna
Series Fund, Inc., 1% of Aetna Variable Portfolios, Inc. and 3% of
Portfolio Partners, Inc.
Page 3
<PAGE> 1
Exhibit 23
Consent of Independent Auditors
The Board of Directors
Aetna Inc.:
We consent to incorporation by reference in the Registration Statements (No.
333-07169 on Form S-3, No. 333-08427 on Form S-8, No. 333-08429 on Form S-8, No.
333-08431 on Form S-8, No. 333-68881 on Form S-8, No. 333-52321 on Form S-3, No.
333-52321-01 on Form S-3, No. 333-52321-02 on Form S-3, No. 333-52321-03 on Form
S-3, No. 333-52321-04 on Form S-3 and No. 333-52321-05 on Form S-3) of Aetna
Inc. of our reports dated February 3, 1999, relating to the consolidated balance
sheets of Aetna Inc. and Subsidiaries as of December 31, 1998 and 1997 and the
related consolidated statements of income, shareholders' equity, and cash flows
and related schedules for each of the years in the three-year period ended
December 31, 1998, which reports appear in or are incorporated by reference in
the December 31, 1998 annual report on Form 10-K of Aetna Inc.
/s/ KPMG LLP
Hartford, Connecticut
February 26, 1999
<PAGE> 1
Exhibit 24
POWER OF ATTORNEY
We, the undersigned directors and officers of Aetna Inc. (the "Company"), hereby
severally constitute and appoint William J. Casazza and Alan M. Bennett, and
each of them individually, our true and lawful attorneys, with full power to
them and each of them to sign for us, and in our names and in the capacities
indicated below, the Company's 1998 Form 10-K and any and all amendments thereto
to be filed with the Securities and Exchange Commission under the Securities
Exchange Act of 1934, hereby ratifying and confirming our signatures as they may
be signed by our said attorneys to the Form 10-K and to any and all amendments
thereto.
Dated as of February 26, 1999.
/s/ Richard L. Huber /s/ Gerald Greenwald
- ------------------------------------ ----------------------------------------
Richard L. Huber Gerald Greenwald
Chairman, Chief Executive Officer, Director
President and Director
(Principal Executive Officer)
/s/ Leonard Abramson /s/ Ellen M. Hancock
- ------------------------------------ ----------------------------------------
Leonard Abramson Ellen M. Hancock
Director Director
/s/ Betsy Z. Cohen /s/ Michael H. Jordan
- ------------------------------------ ----------------------------------------
Betsy Z. Cohen Michael H. Jordan
Director Director
/s/ William H. Donaldson /s/ Jack D. Kuehler
- ------------------------------------ ----------------------------------------
William H. Donaldson Jack D. Kuehler
Director Director
/s/ Barbara Hackman Franklin /s/ Frank R. O'Keefe, Jr.
- ------------------------------------ ----------------------------------------
Barbara Hackman Franklin Frank R. O'Keefe, Jr.
Director Director
/s/ Jerome S. Goodman /s/ Judith Rodin
- ------------------------------------ ----------------------------------------
Jerome S. Goodman Judith Rodin
Director Director
/s/ Earl G. Graves /s/ Alan J. Weber
- ------------------------------------ ----------------------------------------
Earl G. Graves Alan J. Weber
Director Vice Chairman for Strategy and Finance
(Principal Financial Officer)
<TABLE> <S> <C>
<ARTICLE> 7
<LEGEND>
This schedule contains summary financial information extracted from the
financial statements contained in the Form 10-K for the fiscal year ended
December 31, 1998 for Aetna Inc. and is qualified in its entirety by reference
to such statements.
</LEGEND>
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> DEC-31-1998
<DEBT-HELD-FOR-SALE> 32,181
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 801
<MORTGAGE> 3,553
<REAL-ESTATE> 270
<TOTAL-INVEST> 39,470
<CASH> 1,952
<RECOVER-REINSURE> 0
<DEFERRED-ACQUISITION> 1,769
<TOTAL-ASSETS> 105,148
<POLICY-LOSSES> 18,541
<UNEARNED-PREMIUMS> 429
<POLICY-OTHER> 3,954
<POLICY-HOLDER-FUNDS> 17,633
<NOTES-PAYABLE> 2,521
862
0
<COMMON> 3,292
<OTHER-SE> 7,234
<TOTAL-LIABILITY-AND-EQUITY> 105,148
14,839
<INVESTMENT-INCOME> 3,191
<INVESTMENT-GAINS> 212
<OTHER-INCOME> 2,362
<BENEFITS> 14,539
<UNDERWRITING-AMORTIZATION> 215
<UNDERWRITING-OTHER> 0
<INCOME-PRETAX> 1,408
<INCOME-TAX> 560
<INCOME-CONTINUING> 848
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 848
<EPS-PRIMARY> 5.50<F1>
<EPS-DILUTED> 5.41<F2>
<RESERVE-OPEN> 0
<PROVISION-CURRENT> 0
<PROVISION-PRIOR> 0
<PAYMENTS-CURRENT> 0
<PAYMENTS-PRIOR> 0
<RESERVE-CLOSE> 0
<CUMULATIVE-DEFICIENCY> 0
<FN>
<F1>The EPS-Primary tag represents basic EPS unders SFAS 128.
<F2>The EPS-Diluted tag represents diluted EPS under SFAS 128.
</FN>
</TABLE>
