<PAGE>
VARIABLE ANNUITY I
STATEMENT OF ADDITIONAL INFORMATION
MAY 1, 1997
GROUP ANNUITY CONTRACTS
FUNDED THROUGH THE SUB-ACCOUNTS OF
LINCOLN NATIONAL VARIABLE ANNUITY ACCOUNT L
OF
THE LINCOLN NATIONAL LIFE INSURANCE COMPANY
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Definitions................................................................ 2
Determination of Accumulation Unit Values.................................. 2
Determination of Variable Annuity Payments................................. 3
Performance Calculations................................................... 4
Tax Law Considerations..................................................... 9
Distribution of Contracts.................................................. 12
Independent Auditors....................................................... 12
Financial Statements....................................................... 12
Audited Financial Statements of Lincoln Life.............................
Audited Financial Statements of Variable Investment Division.............
</TABLE>
This Statement of Additional Information (SAI) is not a prospectus. It should
be read in conjunction with the prospectus for the Group Annuity Contracts
(the "Contracts"), dated May 1, 1997.
A copy of the prospectus to which this SAI relates is available at no charge
by writing to Lincoln Life at Lincoln National Life Insurance Company, P.O.
Box 9740, Portland, Maine 04104; or by calling Lincoln Life at 1-800-341-0441.
SPECIAL NOTICE TO CONTRACTOWNERS ABOUT THIS YEAR'S LINCOLN LIFE FINANCIAL
STATEMENTS. Each year Lincoln Life is required by law to prepare financial
statements for different purposes. Two of the most important purposes are
filing with state insurance departments and for inclusion in the securities
registration statements for our variable products, like this one. In the past
we have interpreted the prevailing regulations as requiring presentation of
these statements according to two different sets of accounting principles--one
for the insurance regulators (known as Statutory Accounting Principles, or
STAP) and one for the SEC (known as Generally Accepted Accounting Principles,
or GAAP).
When we create two sets of financial statements for the same insurer it
requires nearly double the time commitment of our internal accounting staff,
and two separate audits by our independent auditors. In an effort to control
costs and eliminate duplication of effort, we have reviewed the SEC's
requirements for the mode of presentation of the insurer's financial
statements in this registration statement. As a result of our review, and on
advice of counsel, we shall now begin to use the STAP-basis statements (which
we call Statutory Statements) exclusively, both for the insurance regulators
and for our securities registration statements.
We believe that both Statutory and GAAP statements fairly present the
financial position of Lincoln Life for the periods indicated, in accordance
with those respective accounting principles. However, between the two there
are some important differences in accounting theory and financial statement
presentation. FOR THAT REASON, IN THIS TRANSITION YEAR WE INCLUDE HERE BOTH
STATUTORY AND GAAP STATEMENTS. This should permit you to evaluate the
financial position of Lincoln Life from both points of view, and should help
you understand the differences between Statutory and GAAP statements.
BEGINNING NEXT YEAR WE SHALL PRESENT ONLY THE STATUTORY STATEMENTS.
90021
<PAGE>
DEFINITIONS
ANNUITY CONVERSION FACTOR: The factor applied to the Annuity Conversion Amount
in determining the dollar amount of an annuitant's annuity payments for
Guaranteed Annuities or the initial payment for Variable Annuities.
ANNUITY PAYMENT CALCULATION DATE: For Guaranteed Annuities, this is the first
day of a calendar month. For Variable Annuities, this is the Valuation Date
ten (10) business days prior to the first day of a calendar month.
ANNUITY UNIT: An accounting unit of measure that is used in calculating the
amounts of annuity payments to be made from a Sub-Account during the Annuity
Period.
ANNUITY UNIT VALUE: The dollar value of an Annuity Unit in a Sub-Account on
any Valuation Date.
CODE: The Internal Revenue Code of 1986, as amended.
For the purpose of determining whether a given day is a business day, as that
term is defined in the prospectus, local business holidays may include
Veteran's Day (November 11), and a Monday preceding, or Friday following, a
day on which the New York Stock Exchange is not customarily open for business.
DETERMINATION OF ACCUMULATION UNIT VALUES
As described more fully in the prospectus, Contributions are allocated to the
Divisions in accordance with directions from the Employer. A Participant who
makes Contributions which are allocated to the Variable Investment Division is
credited with Accumulation Units. The following examples illustrate the method
by which Lincoln Life determines the Net Investment Factor (NIF) for the
current Valuation Period and the Accumulation Unit Value as of the end of the
current Valuation Period.
DETERMINATION OF NIF:
(a) Assumed Fund net asset value as of the close of the New York Stock
Exchange on June 1 = 10.45
(b) Assumed Fund net asset value as of the close of the New York Stock
Exchange on June 2 = 10.56 (no capital gains or dividend distributions
or deductions for taxes)
(c) The NIF for the current Valuation Period = (b) divided by (a) times (1 -
annual M & E) to the 1/365th power
(d) 1.010526 X .999966 = 1.0104916
DETERMINATION OF ACCUMULATION UNIT VALUE:
The Accumulation Unit Value as of the end of the current Valuation Period is
determined by multiplying the NIF for the current Valuation Period by the
Accumulation Unit Value as of the end of the immediately preceding Valuation
Period.
(a) Assumed Accumulation Unit Value as of the end of the immediately
preceding Valuation Period = 11.125674.
(b) Accumulation Unit Value as of the end of the current Valuation Period =
11.125674 X 1.0104916 (NIF) = 11.2424.
The number of Accumulation Units which are credited to the Participant's
Account for each Sub-Account on each Valuation Date equals the amount of
Contributions allocated to the Sub-Account on each Valuation Date divided by
the Accumulation Unit Value rounded to four decimal places. For example,
(a) Participant's assumed Contribution allocated to a Sub-Account on June 2
= $150.
(b) Number of Accumulation Units credited to Participant = $150 divided by
11.2424 = 13.3423.
2
<PAGE>
DETERMINATION OF VARIABLE ANNUITY PAYMENTS
As stated in the prospectus, the amount of each Variable Annuity payment will
vary depending on the investment experience of the selected Sub-Accounts.
The initial payment amount of the Annuitant's Variable Annuity for each Sub-
Account is determined by dividing his Annuity Conversion Amount in each Sub-
Account as of the initial Annuity Payment Calculation Date ("APCD") by the
Applicable Annuity Conversion Factor defined as follows:
The Annuity Conversion Factors which are used to determine the initial
payments are based on the 1983 Individual Annuity Mortality Table, set back
four (4) years, and an interest rate in an integral percentage ranging from
zero to six percent (0 to 6.00%) as selected by the Annuitant.
The amount of the Annuitant's subsequent Variable Annuity payment for each
Sub-Account is determined by:
(a) Dividing the Annuitant's initial Variable Annuity payment amount by the
Annuity Unit Value for that Sub-Account selected for his interest rate
option as described above as of his initial APCD; and
(b) Multiplying the resultant number of annuity units by the Annuity Unit
Values for the Sub-Account selected for his interest rate option for his
respective subsequent APCDs.
Each subsequent Annuity Unit Value for a Sub-Account for an interest rate
option is determined by:
Dividing the Accumulation Unit Value for the Sub-Account as of
subsequent APCD by the Accumulation Unit Value for the Sub-Account as of
the immediately preceding APCD;
Dividing the resultant factor by one (1.00) plus the interest rate
option to the n/365 power where n is the number of days from the
immediately preceding APCD to the subsequent APCD; and
Multiplying this factor times the Annuity Unit Value as of the
immediately preceding APCD.
ILLUSTRATION OF CALCULATION OF ANNUITY UNIT VALUE
<TABLE>
<S> <C>
1.Annuity Unit Value as of immediately preceding Annuity Payment Calculation Date................$11.0000
2.Accumlation Unit Value as of Annuity Payment Calculation Date..................................$20.0000
3.Accumulation Unit Value as of immediately preceding Annuity Payment Calculation Date...........$19.0000
4.Interest Rate.....................................................................................6.00%
5.Interest Rate Factor (30 days)...................................................................1.0048
6.Annuity Unit Value as of Annuity Payment Calculation Date =
1 times 2 divided by 3 divided by 5..........................................................$11.5236
</TABLE>
ILLUSTRATION OF ANNUITY PAYMENTS
<TABLE>
<S> <C>
1.Annuity Conversion Amount as of Participant's initial Annuity Payment Calculation
Date........................................................................................$100,000.00
2.Assumed Annuity Conversion Factor per $1 of Monthly Income for an individual age 65
selecting a Single Life Annuity with Assumed Interest Rate of 6%.............................$138.63
3.Participant's initial Annuity Payment = 1 divided by 2.........................................$721.34
4.Assumed Annuity Unit Value as of Participant's initial Annuity Payment Calculation Date.......$11.5236
5.Number of Annuity Units = 3 divided by 4.......................................................62.5968
6.Assumed Annuity Unit Value as of Participant's second Annuity Payment Calculation Date........$11.9000
7.Participant's second Annuity Payment = 5 times 6...............................................$744.90
</TABLE>
3
<PAGE>
PERFORMANCE CALCULATIONS
STANDARD TOTAL RETURN CALCULATION
The Variable Investment Division may advertise average annual total return
information calculated according to a formula prescribed by the Securities and
Exchange Commission ("SEC"). Average annual total return shows the average
annual percentage increase, or decrease, in the value of a hypothetical
Contribution allocated to a Sub-Account from the beginning to the end of each
specified period of time. The SEC standardized version of this performance
information is based on an assumed Contribution of $1,000 allocated to a Sub-
Account at the beginning of each period and surrender or withdrawal of the
value of that amount at the end of each specified period, giving effect to any
CDSC and all other charges and fees applicable under the Contract. The effect
of the Annual Administration Charge for a period is determined by dividing the
total amount of such charges collected in the previous year by the total
average net assets of the accounts for the previous year, as of the previous
month ended; accounts include accounts available under Variable Annuity I of
Lincoln Life and under corresponding accounts of UNUM Life Insurance Company
of America, pending assumption reinsurance by Lincoln Life of Variable Annuity
I contracts issued through such corresponding accounts. This method of
calculating performance further assumes that (i) a $1,000 Contribution was
allocated to a Sub-Account and (ii) no transfers or additional payments were
made. Premium taxes are not included in the term "charges" for purposes of
this calculation. Average annual total return is calculated by finding the
average annual compounded rates of return of a hypothetical Contribution that
would compare the Accumulation Unit value on the first day of the specified
period to the ending redeemable value at the end of the period according to
the following formula:
T = (ERV/C) 1/n - 1
Where T equals average annual total return, where ERV (the ending redeemable
value) is the value at the end of the applicable period of a hypothetical
Contribution of $1,000 made at the beginning of the applicable period, where C
equals a hypothetical Contribution of $1,000, and where n equals the number of
years.
NON-STANDARDIZED CALCULATION OF TOTAL RETURN PERFORMANCE
In addition to the standardized average annual total return information
described above, we may present total return information computed on bases
different from that standardized method. The Variable Investment Division may
present total return information computed on the same basis as the
standardized method except that charges deducted from the hypothetical
Contribution will not include any CDSC. Consistent with the long-term
investment and retirement objectives of the Contract, this total return
presentation assumes either (i) investment in the Contract continues beyond
the Accumulation Period and/or (ii) one or more of the conditions for Total or
Partial Withdrawal without incurring a CDSC are met. The Variable Investment
Division may also present total return information computed on the same basis
as the standardized method except that charges deducted from the hypothetical
Contribution will not include either the CDSC or the Annual Administration
Charge. The total return percentage under both of these non-standardized
methods will be higher than that resulting from the standardized method.
The Sub-Accounts also may present total return information calculated by
subtracting a Sub-Account's Accumulation Unit Value at the beginning of a
period from the Accumulation Unit Value of that Sub-Account at the end of the
period and dividing that difference (in that Sub-Account's Accumulation Unit
Value) by the Accumulation Unit Value of that Sub-Account at the beginning of
the period. This computation results in a total growth rate for the specified
period which we annualize in order to obtain the average annual percentage
change in the Accumulation Unit Value for the period used. This method of
calculating performance does not take into account CDSC, the Annual
Administration Charge and premium taxes, and assumes no transfers. Such
percentages would be lower if these charges were included in the calculation.
In addition, the Variable Investment Division may present actual aggregate
total return figures for various periods, reflecting the cumulative change in
value of an investment in the Variable Investment Division for the specified
period.
4
<PAGE>
PERFORMANCE INFORMATION
The tables below provide performance information for each Sub-Account for
specified periods ending December 31, 1996. For the periods prior to the date
the Sub-Accounts commenced operations, performance information for the
Contracts will be calculated based on the performance of the fund portfolios
and the assumption that the Sub-Accounts were in existence for the same
periods as those indicated for the fund portfolios, with the level of Contract
charges that were in effect at the inception of the Sub-Accounts (this is
referred to as "hypothetical performance data"). This information does not
indicate or represent future performance.
TOTAL RETURN
Total returns quoted in sales literature or advertisements reflect all aspects
of a Sub-Account's return. Average annual returns are calculated by
determining the growth or decline in value of a hypothetical historical
investment in the Sub-Account over a stated period of time, and then
calculating the annually compounded percentage rate that would have produced
the same result if the rate of growth or decline had been constant over the
period. Contractholders and participants should recognize that average annual
returns represent averaged returns rather than actual year-to-year
performance.
The respective underlying funds in which the Sub-Accounts invest had
performance history prior to the Sub-Accounts' inception. Performance
information covering those periods reflects a hypothetical performance as if
the funds were part of the Variable Annuity Account L at that time, using the
charges applicable to the Contracts.
5
<PAGE>
Table 1A below assumes a hypothetical investment of $1,000 at the beginning of
the period via the Sub-Account investing in the applicable fund and withdrawal
of the investment on 12/31/96. The rates thus reflect the mortality and
expense risk charge, the withdrawal charge and a pro rata portion of the
Annual Administrative Charge. Table 1B shows the cumulative total return on
the same basis.
TABLE 1A -- SUB-ACCOUNT STANDARDIZED "HYPOTHETICAL" AVERAGE ANNUAL TOTAL
RETURN
<TABLE>
<CAPTION>
LIFE
FUND 1 YEAR 3 YEARS 5 YEARS 10 YEARS OF FUND
INCEPTION ENDING ENDING ENDING ENDING ENDING
DATE 12/31/96 12/31/96 12/31/96 12/31/96 12/31/96
<S> <C> <C> <C> <C> <C> <C>
Fidelity VIP II: Asset
Manager 09/06/89 7.52 4.82 8.75 N/A 9.77
(Asset Manager)
Calvert Responsibly
Invested Balanced
Portfolio 09/02/86 5.66 8.98 7.96 9.71 8.98
(Socially Responsible)
American Century VP
Balanced 05/01/91 5.25 7.76 4.30 N/A 7.86
(Balanced)
VIP Equity-Income 10/09/86 7.22 14.79 15.32 12.31 11.99
(Equity-Income)
Dreyfus Stock Index 09/29/89 14.96 15.66 12.01 N/A 11.71
(Index Account)
Fidelity VIP Growth 10/09/86 7.61 12.42 12.57 13.70 13.36
(Growth I)
American Century VP
Capital Appreciation 11/20/87 -10.34 4.25 3.76 N/A 9.25
(Growth II)
T. Rowe Price
International Stock
Portfolio 03/31/94 7.61 N/A N/A N/A 6.56
(International Stock)
Dreyfus Small Cap 08/31/90 9.38 14.15 33.13 N/A 46.00
(Small Cap)
</TABLE>
TABLE 1B -- SUB-ACCOUNT "HYPOTHETICAL" CUMULATIVE TOTAL RETURN
<TABLE>
<CAPTION>
LIFE
FUND YEAR TO 1 YEAR 3 YEARS 5 YEARS 10 YEARS OF FUND
INCEPTION QUARTER DATE ENDING ENDING ENDING ENDING ENDING
DATE 12/31/96 12/31/96 12/31/96 12/31/96 12/31/96 12/31/96 12/31/96
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Fidelity VIP
II: Asset
Manager 09/06/89 0.43 7.52 7.52 15.18 52.11 N/A 97.90
(Asset
Manager)
Calvert
Responsibly
Invested
Balanced
Portfolio 09/02/86 -1.90 5.66 5.66 29.42 46.67 152.58 143.30
(Socially
Responsible)
American
Century VP
Balanced 05/01/91 -1.81 5.25 5.25 25.11 23.41 N/A 53.58
(Balanced)
VIP Equity-
Income 10/09/86 0.97 7.22 7.22 51.27 103.95 219.14 218.56
(Equity-
Income)
Dreyfus Stock
Index 09/29/89 2.47 14.96 14.96 54.73 76.33 N/A 123.20
(Index)
Fidelity VIP
Growth 10/09/86 -3.37 7.61 7.61 42.06 80.77 261.19 260.90
(Growth I)
American
Century VP
Capital
Appreciation 11/20/87 -13.75 -10.34 -10.34 13.31 20.25 N/A 124.16
(Growth II)
T. Rowe Price
International
Stock
Portfolio 03/31/94 -0.89 7.61 7.61 N/A N/A N/A 19.15
(International
Stock)
Dreyfus Small
Cap 08/31/90 -2.95 9.38 9.38 48.74 318.20 N/A 1001.53
(Small Cap)
</TABLE>
6
<PAGE>
Table 2A below shows annual average total return on the same assumptions as
Table 1A except that the value in the Sub-Account is not withdrawn at the end
of the period or is withdrawn to affect an annuity. Table 2B shows the
cumulative total return on the same basis. The rates of return shown below
reflect the mortality and expense risk charge and a pro rata portion of the
Annual Administrative Charge.
TABLE 2A -- SUB-ACCOUNT "HYPOTHETICAL" AVERAGE TOTAL RETURN ASSUMING NO
WITHDRAWAL
<TABLE>
<CAPTION>
LIFE
FUND 1 YEAR 3 YEARS 5 YEARS 10 YEARS OF FUND
INCEPTION ENDING ENDING ENDING ENDING ENDING
DATE 12/31/96 12/31/96 12/31/96 12/31/96 12/31/96
<S> <C> <C> <C> <C> <C> <C>
Fidelity VIP II: Asset
Manager 09/06/89 13.18 6.63 9.87 N/A 10.23
(Asset Manager)
Calvert Responsibly
Invested Balanced
Portfolio 09/02/86 11.22 10.86 9.07 9.71 8.98
(Socially Responsible)
American Century VP
Balanced 05/01/91 10.79 9.61 5.37 N/A 8.84
(Balanced)
VIP Equity-Income 10/09/86 12.86 16.77 16.51 12.31 11.99
(Equity-Income)
Dreyfus Stock Index 09/29/89 21.01 17.66 13.17 N/A 12.18
(Index Account)
Fidelity VIP Growth 10/09/86 13.28 14.35 13.73 13.70 13.36
(Growth I)
American Century VP
Capital Appreciation 11/20/87 -5.62 6.05 4.83 N/A 9.37
(Growth II)
T. Rowe Price
International Stock
Portfolio 03/31/94 13.27 N/A N/A N/A 8.56
(International Stock)
Dreyfus Small Cap 08/31/90 15.14 16.12 34.50 N/A 46.95
(Small Cap)
</TABLE>
TABLE 2B -- SUB-ACCOUNT "HYPOTHETICAL" CUMULATIVE TOTAL RETURN ASSUMING NO
WITHDRAWAL
<TABLE>
<CAPTION>
FUND YEAR TO 1 YEAR 3 YEARS 5 YEARS 10 YEARS LIFE OF FUND
INCEPTION QUARTER DATE ENDING ENDING ENDING ENDING ENDING
DATE 12/31/96 12/31/96 12/31/96 12/31/96 12/31/96 12/31/96 12/31/96
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Fidelity VIP
II: Asset
Manager 09/06/89 5.72 13.18 13.18 21.24 60.12 N/A 104.02
(Asset
Manager)
Calvert
Responsibly
Invested
Balanced
Portfolio 09/02/86 3.27 11.22 11.22 36.23 54.39 152.58 143.30
(Socially
Responsible)
American
Century VP
Balanced 05/01/91 3.36 10.79 10.79 31.70 29.91 N/A 61.67
(Balanced)
VIP Equity-
Income 10/09/86 6.28 12.86 12.86 59.23 114.69 219.14 218.56
(Equity-
Income)
Dreyfus Stock
Index 09/29/89 7.86 21.01 21.01 62.87 85.61 N/A 130.10
(Index)
Fidelity VIP
Growth 10/09/86 1.72 13.28 13.28 49.54 90.28 261.19 260.90
(Growth I)
American
Century VP
Capital
Appreciation 11/20/87 -9.21 -5.62 -5.62 19.27 26.58 N/A 126.43
(Growth II)
T. Rowe Price
International
Stock
Portfolio 03/31/94 4.32 13.27 13.27 N/A N/A N/A 25.42
(International
Stock)
Dreyfus Small
Cap 08/31/90 2.16 15.14 15.14 56.57 340.21 N/A 1047.43
(Small Cap)
</TABLE>
7
<PAGE>
Tables 3A and 3B show performance information on the same assumptions as
Tables 2A and 2B except that Tables 3A and 3B do not reflect deductions of the
pro rata portion of the Annual Administrative Charge because certain Contract
and Participants are not assessed such a charge.
TABLE 3A -- SUB-ACCOUNT "HYPOTHETICAL" AVERAGE ANNUAL TOTAL RETURN ASSUMING NO
WITHDRAWAL AND NO ANNUAL ADMINISTRATIVE CHARGE
<TABLE>
<CAPTION>
LIFE
FUND 1 YEAR 3 YEARS 5 YEARS 10 YEARS OF FUND
INCEPTION ENDING ENDING ENDING ENDING ENDING
DATE 12/31/96 12/31/96 12/31/96 12/31/96 12/31/96
<S> <C> <C> <C> <C> <C> <C>
Fidelity VIP II: Asset
Manager 09/06/89 13.24 6.69 9.94 N/A 10.37
(Asset Manager)
Calvert Responsibly
Invested Balanced
Portfolio 09/02/86 11.28 10.92 9.14 9.79 9.10
(Socially Responsible)
American Century VP
Balanced 05/01/91 10.81 9.67 5.44 N/A 8.92
(Balanced)
VIP Equity-Income 10/09/86 12.92 16.84 16.58 12.39 12.08
(Equity-Income)
Dreyfus Stock Index 09/29/89 21.09 17.72 13.28 N/A 12.34
(Index Account)
Fidelity VIP Growth 10/09/86 13.35 14.42 13.79 13.78 13.45
(Growth I)
American Century VP
Capital Appreciation 11/20/87 -5.43 6.15 4.91 N/A 9.50
(Growth II)
T. Rowe Price
International Stock
Portfolio 03/31/94 13.34 N/A N/A N/A 8.64
(International Stock)
Dreyfus Small Cap 08/31/90 15.22 16.19 34.58 N/A 47.09
(Small Cap)
</TABLE>
TABLE 3B -- SUB-ACCOUNT "HYPOTHETICAL" CUMULATIVE TOTAL RETURN ASSUMING NO
WITHDRAWAL AND NO ANNUAL ADMINISTRATIVE CHARGE
<TABLE>
<CAPTION>
LIFE
FUND YEAR TO 1 YEAR 3 YEARS 5 YEARS 10 YEARS OF FUND
INCEPTION QUARTER DATE ENDING ENDING ENDING ENDING ENDING
DATE 12/31/96 12/31/96 12/31/96 12/31/96 12/31/96 12/31/96 12/31/96
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Fidelity VIP
II: Asset
Manager 09/06/89 5.76 13.24 13.24 21.44 60.62 N/A 105.91
(Asset
Manager)
Calvert
Responsibly
Invested
Balanced
Portfolio 09/02/86 3.31 11.28 11.28 36.46 54.86 154.52 145.99
(Socially
Responsible)
American
Century VP
Balanced 05/01/91 3.40 10.81 10.81 31.92 30.35 N/A 62.41
(Balanced)
VIP Equity-
Income 10/09/86 6.32 12.92 12.92 59.50 115.35 221.61 221.09
(Equity-
Income)
Dreyfus Stock
Index 09/29/89 7.91 21.09 21.09 63.13 86.54 N/A 132.78
(Index)
Fidelity VIP
Growth 10/09/86 1.75 13.35 13.35 49.79 90.81 263.78 263.71
(Growth I)
American
Century VP
Capital
Appreciation 11/20/87 -9.17 -5.43 -5.43 19.60 27.09 N/A 128.68
(Growth II)
T. Rowe Price
International
Stock
Portfolio 03/31/94 4.37 13.34 13.34 N/A N/A N/A 25.65
(International
Stock)
Dreyfus Small
Cap 08/31/90 2.20 15.22 15.22 56.84 341.39 N/A 1054.84
(Small Cap)
</TABLE>
8
<PAGE>
Table 4 below shows total return information on a calendar year basis using
the same assumptions as Tables 3A and 3B. The rates of return shown reflect
the mortality and expense risk charge. Similar to Tables 3A and 3B, Table 4
does not reflect deduction of the pro rata portion of the Annual
Administrative Charge because certain Contracts and Participants are not
assessed such a charge.
TABLE 4 -- SUB-ACCOUNT "HYPOTHETICAL" CALENDAR YEAR ANNUAL RETURN ASSUMING NO
WITHDRAWAL AND NO ANNUAL ADMINISTRATIVE CHARGE*
<TABLE>
<CAPTION>
1987 1988 1989 1990 1991 1992 1993 1994 1995 1996
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Asset Manager na na na 5.45 21.11 10.53 19.60 -7.20 15.57 13.24
Socially Responsible 5.51 10.42 19.53 2.94 15.02 6.33 6.72 -4.39 28.24 11.28
Balanced na na na na na -7.17 6.38 -0.58 19.68 10.81
Equity-Income -2.30 21.25 15.95 -16.29 29.88 15.50 16.89 5.80 33.49 12.92
Index na na na -4.69 28.29 5.82 8.02 -0.32 35.16 21.09
Growth I 2.43 14.21 29.95 -12.78 43.78 8.00 17.94 -1.21 33.75 13.35
Growth II na -3.41 27.17 -2.40 40.18 -2.52 8.99 -2.34 29.55 -5.43
International Stock na na na na na na na na 9.86 13.34
Small Cap na na na na 156.65 69.25 66.31 6.47 27.85 15.22
</TABLE>
*The above calendar-year returns assume a hypothetical investment of $1,000 on
January 1 of the first full calendar year that the underlying fund was in
existence. The returns assume that the money will be left on account until
retirement and thus no CDSC will be deducted. Returns are provided for years
before the fund was an available investment option under the contract. Returns
for those periods reflect a hypothetical return as if those funds were
available under the contract, and reflect the deduction of the mortality and
expense risk charge. The returns do not reflect deductions for the pro rata
portion of the Annual Administrative Charge or the CDSC.
SEC regulations require that any product performance data be accompanied by
standardized performance data.
TAX LAW CONSIDERATIONS
RETIREMENT PROGRAMS:
Participants are urged to discuss the income taxes considerations of their
retirement plan with their tax advisors. In many situations special rules may
apply to the plans and/or to the participants. See the Prospectus for a more
complete discussion of tax considerations and for limitations on the following
discussion.
Contributions to retirement programs subject to Sections 401(a), 403(b), 408
and 457(b) may be excludable from a Participant's reportable gross income if
the Contributions do not exceed the limitations imposed under the Code.
Certain plans allow employees to make Elective Salary Deferral Contributions.
Certain Plans allow Employers to make Contributions. The information below is
a brief summary of some the important federal tax considerations that apply to
retirement plans. When there is a written Plan, often the Contribution limits,
withdrawal rights and other provisions of the Plan may be more restrictive
than those allowed by the Code.
Elective Salary Deferral Contributions:
For calendar year 1996 the maximum elective salary deferral contributions to a
401(k) Plan which is a type of 401(a) Plan is limited to $9,500; For a 403(b)
plan the limit is $9,500 unless the employee is a qualified employee; For an
Eligible 457 Plan the limit is $7,500. When an employee is covered by two or
more of these Plans, the elective salary deferral contribution limits for all
the Plans must be coordinated.
Total Salary Deferral & Employer Contributions:
QUALIFIED RETIREMENT PLAN -- 401(a) PLAN
- ----------------------------------------
The Code limits the Contributions to a defined contribution 401(a) plan to the
lesser of $30,000 or 25% of compensation.
9
<PAGE>
TAX SHELTERED ANNUITY PLAN -- 403(b) PLAN
- -----------------------------------------
Total contributions which include both salary deferral contributions and
employer contributions are also limited.
The combined limit is:
(a) the amount determined by multiplying 20 percent of the employee's
includable compensation by the number of years of service, over
(b) the aggregate of the amount contributed by the employer for annuity
contracts and excludable from the gross income of the employee for the
prior taxable year.
Therefore, if the maximum exclusion allowance is less than $9,500 a year, the
employee's elective deferrals plus any other employer Contributions cannot
exceed this lesser amount.
Section 415 of the Code imposes limitations with respect to annual
contributions to all Section 403(b) programs, qualified plans and simplified
employee pensions maintained by the Employer. A Participant's annual
contributions to these programs and defined contribution plans generally
cannot exceed the lesser of $30,000 or 25 percent of the employee's
compensation. This amount is subject to the maximum exclusion allowance and
the salary deferral amount limitations.
ELIGIBLE 457 PLAN -- 457(b) PLAN
- --------------------------------
For a 457(b) plan the contribution limit is generally the lesser of $7,500 or
33% of the employee's compensation.
SECTION 457(f) PLANS
- --------------------
These are non-qualified deferred compensation arrangements between an Employer
and its employees. There are no stated limits in the Code regarding this type
of Plan.
INDIVIDUAL RETIREMENT ACCOUNT -- IRA OR 408 PLAN
- ------------------------------------------------
For IRA's, the maximum deductible contribution is the lesser of $2,000 or 100%
of taxable income. The $2,000 is increased to $4,000 when the IRA covers the
taxpayer and a non-working spouse.
TRANSFERS AND ROLLOVERS:
Participants who receive distributions from their 401(a) or 403(b) contract
may transfer the amount not representing employee contributions to an
Individual Retirement Account or Annuity (IRA) or another Section 401(a) or
403(b) program without including that amount in gross income for the taxable
year in which paid. Note 401(a) distributions may not be transferred to a
403(b) plan or vice versa. If the amount is paid directly to an acceptable
rollover account, Lincoln Life is not required to withhold any amount. In
order for the distribution to qualify for rollover, the distribution must be
made on account of the employee's death, after the employee attains age 59
1/2, on account of the employee's separation from service, or after the
employee has become disabled. The distribution cannot be part of a series of
substantially equal payments made over the life expectancy of the employee or
the joint life expectancies of the employee and his or her spouse or made for
a specified period of 10 years or more. The rollover must be made within sixty
days of the distribution to avoid taxation.
Pursuant to Revenue Ruling 90-24, a Participant, to the extent permitted by
any applicable Contract or Plan, may transfer funds between Section 403(b)
investment vehicles, including both Section 403(b)(1) annuity contracts and
Section 403(b)(7) custodial accounts. Any amount transferred must continue to
be subject to withdrawal restrictions at least as restrictive as that of the
transferring investment vehicle. Lincoln Life considers any total or partial
transfer from a Lincoln Life investment vehicle to a non-Lincoln Life
investment vehicle to be a withdrawal.
Once every twelve months a participant in an IRA may roll the money from one
IRA to another IRA.
10
<PAGE>
The rollover rules are not available to Section 457 Plans; limited transfers
are permitted under Eligible 457 Plans. If the rollover amount is paid
directly to the Participant, the amount distributed may be subject to a 20%
federal tax withholding.
EXCISE TAX ON EARLY DISTRIBUTIONS:
Section 72(t) of the Code provides that any distribution made to a Participant
in a 401(a), 403(b) or 408 plan other than on account of the following events
will be subject to a 10 percent excise tax on the taxable amount distributed:
a) the employee has attained age 59 1/2;
b) the employee has died;
c) the employee is disabled;
d) the employee is 55 and has separated from service (Does not apply to
IRA's).
Distributions which are received as a life annuity where payment is made at
least annually will not be subject to an excise tax. Certain amounts paid for
medical care may also not be subject to an excise tax.
MINIMUM DISTRIBUTION RULES:
The value in a contract under Sections 401(a), 403(b), 408 and Eligible 457
Plans are subject to the distribution rules provided in Section 401(a)(9) of
the Code. Generally, that section requires that an employee must begin
receiving distributions of his post-1986 balance by April 1 of the calendar
year following the calendar year in which the employee attains age 70 1/2.
Such distributions must not exceed the life expectancy of the employee or the
life expectancy of such employee and the designated beneficiary (as defined
under the plan). An employee who attained age 70 1/2 before January 1, 1988
must begin receiving distributions by April 1 of the calendar year following
the later of (a) the calendar year in which the employee attains age 70 1/2 or
(b) the calendar year in which the employee retires. There are special rules
for Section 403(b) Plans. Amounts contributed to an Eligible 457 contract must
be distributed not earlier than the earliest of: 1) calendar year in which the
Participant attains age 70 1/2, 2) the Participant separates from service with
the Employer, or 3) when the Participant has an unforeseen emergency. However,
in no event may the distribution begin any later than described in Sections
401(a)(9) and 457(d) of the Code.
Additionally, distribution of an employee's entire account balance (including
pre-1987 funds) must satisfy the minimum distribution incidental benefit
requirement. In general, this requires that death and other non-retirement
benefits payable under the above plans be incidental to the primary purpose of
the program which is to provide deferred compensation to the employee. A payee
is subject to a penalty for failing to receive the required minimum annual
distribution. Section 4974(a) of the Code provides that a payee will be
subject to a penalty equal to 50 percent of the amount by which the required
minimum distribution exceeds the actual amount distributed during the taxable
year.
Additional information on federal income taxation is included in the
prospectus.
11
<PAGE>
DISTRIBUTION OF CONTRACTS
LNC Equity Sales Corporation ("LNC Equity"), an indirect subsidiary of Lincoln
National Corporation, is registered with the Securities and Exchange
Commission as a broker-dealer under the Securities Exchange Act of 1934 and is
a member of the National Association of Securities Dealers, Inc. LNC Equity is
the Variable Investment Division's principal underwriter and also enters into
selling agreements with other unaffiliated broker-dealers authorizing them to
offer the Contracts.
INDEPENDENT AUDITORS
The financial statements of the Lincoln National Variable Annuity Account L
and the consolidated financial statements and schedules of The Lincoln
National Life Insurance Company appearing in this SAI and Registration
Statement have been audited by Ernst & Young LLP, independent auditors, as set
forth in their reports also appearing elsewhere in this document and in the
Registration Statement. The financial statements and schedules audited by
Ernst & Young LLP have been included in this document in reliance on their
report given on their authority as experts in accounting and auditing.
FINANCIAL STATEMENTS
Financial statements for the Variable Investment Division and Lincoln Life
appear on the following pages. For more information about the financial
statements provided in this SAI, please see the cover page of this SAI.
12
<PAGE>
The Lincoln National Life Insurance Company
Consolidated Balance Sheets
<TABLE>
<CAPTION>
December 31
1995 1994
(000's omitted)
<S> <C> <C>
Assets
Investments:
Securities available-for-sale, at fair value:
Fixed maturity (cost: 1995-$18,852,837;
1994-$18,193,928) $20,414,785 $17,692,214
Equity (cost: 1995-$480,261; 1994-$416,351) 598,435 456,333
Mortgage loans on real estate 3,147,783 2,795,914
Real estate 746,023 679,512
Policy loans 565,325 528,731
Other investments 241,219 158,196
Total investments 25,713,570 22,310,900
Cash and invested cash 802,743 990,880
Property and equipment 53,830 54,989
Deferred acquisition costs 953,834 1,736,526
Premiums and fees receivable 117,634 123,494
Accrued investment income 352,301 367,370
Assets held in separate accounts 18,461,629 13,000,540
Federal income taxes -- 134,463
Amounts recoverable from reinsurers 2,940,976 2,069,292
Goodwill 5,149 3,385
Other assets 185,398 233,708
Total assets $49,587,064 $41,025,547
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company
Consolidated Balance Sheets (continued)
<TABLE>
<CAPTION>
December 31
1995 1994
(000's omitted)
<S> <C> <C>
Liabilities and shareholder's equity
Liabilities:
Policy liabilities and accruals:
Future policy benefits, claims and
claims expenses $ 8,435,019 $ 7,540,772
Unearned premiums 55,174 61,472
Total policy liabilities and accruals 8,490,193 7,602,244
Contractholder funds 18,171,822 17,028,628
Liabilities related to separate accounts 18,461,629 13,000,540
Federal income taxes 166,430 --
Short-term debt 124,783 153,656
Long-term debt 40,827 54,794
Other liabilities 1,412,534 1,264,730
Total liabilities 46,868,218 39,104,592
Shareholder's equity:
Common stock, $2.50 par value:
Authorized, issued and outstanding
shares-10 million (owned by Lincoln
National Corporation) 25,000 25,000
Additional paid-in capital 809,557 791,605
Retained earnings 1,440,994 1,428,969
Net unrealized gain (loss) on
securities available-for-sale 443,295 (324,619)
Total shareholder's equity 2,718,846 1,920,955
Total liabilities and shareholder's equity $49,587,064 $41,025,547
</TABLE>
See accompanying notes.
<PAGE>
The Lincoln National Life Insurance Company
Consolidated Statements of Income
<TABLE>
<CAPTION>
Year ended December 31
1995 1994 1993
(000's omitted)
<S> <C> <C> <C>
Revenue:
Insurance premiums $ 846,873 $1,099,480 $1,972,630
Insurance fees 450,423 390,384 425,083
Net investment income 1,899,630 1,673,981 1,823,459
Realized gain (loss) on investments 136,195 (138,522) 92,150
Gain (loss) on sale of affiliates -- 68,954 (98,500)
Other 3,405 20,946 35,781
Total revenue 3,336,526 3,115,223 4,250,603
Benefits and expenses:
Benefits and settlement expenses 2,122,616 2,194,047 3,033,139
Underwriting, acquisition,
insurance and other expenses 764,346 660,363 881,703
Interest expense 67 615 96
Total benefits and expenses 2,887,029 2,855,025 3,914,938
Income before Federal income taxes
and cumulative effect of
accounting change 449,497 260,198 335,665
Federal income taxes 127,472 40,400 142,544
Income before cumulative
effect of accounting change 322,025 219,798 193,121
Cumulative effect of accounting
change (postretirement benefits) -- -- 45,582
Net income $ 322,025 $ 219,798 $ 147,539
Earnings per share:
Income before cumulative
effect of accounting change $ 32.20 $ 21.98 $ 19.31
Cumulative effect of accounting
change (postretirement benefits) -- -- (4.56)
Net income $ 32.20 $ 21.98 $ 14.75
</TABLE>
See accompanying notes.
<PAGE>
The Lincoln National Life Insurance Company
Consolidated Statements of Shareholder's Equity
Year ended December 31
1995 1994 1993
(000's omitted)
Common stock-balance
at beginning and end of year $ 25,000 $ 25,000 $ 25,000
Additional paid-in capital:
Balance at beginning of year 791,605 791,444 791,223
Contribution from Lincoln
National Corporation 17,952 161 221
Balance at end of year 809,557 791,605 791,444
Retained earnings:
Balance at beginning of year 1,428,969 1,334,171 1,198,632
Net income 322,025 219,798 147,539
Dividends declared (310,000) (125,000) (12,000)
Balance at end of year 1,440,994 1,428,969 1,334,171
Net unrealized gain (loss) on
securities available-for-sale:
Balance at beginning of year (324,619) 621,161 47,303
Cumulative effect of
accounting change -- -- 564,153
Other change during the year 767,914 (945,780) 9,705
Balance at end of year 443,295 (324,619) 621,161
Total shareholder's equity
at end of year $2,718,846 $1,920,955 $2,771,776
See accompanying notes.
<PAGE>
The Lincoln National Life Insurance Company
Consolidated Statements of Cash Flows
Year ended December 31
1995 1994 1993
(000's omitted)
Cash flows from operating activities
Net income $ 322,025 $ 219,798 $ 147,539
Adjustments to reconcile net income
to net cash provided
by operating activities:
Deferred acquisition costs 124,526 (171,063) (92,183)
Premiums and fees receivable 6,082 10,755 80,582
Accrued investment income 15,069 (54,434) (18,827)
Policy liabilities and accruals 621,603 114,038 345,142
Contractholder funds 1,335,625 1,769,240 1,248,058
Amounts recoverable from reinsurers (883,425) (884,388) (700,622)
Federal income taxes 95,745 8,364 (130,308)
Provisions for depreciation 39,089 38,870 41,516
Amortization of discount and premium (86,653) 7,928 (100,274)
Realized loss (gain) on investments (244,995) 219,682 (115,881)
Loss (gain) on sale of affiliates -- (68,954) 98,500
Cumulative effect of
accounting change -- -- 45,582
Other 458,542 (4,599) 51,369
Net adjustments 1,481,208 985,439 752,654
Net cash provided by
operating activities 1,803,233 1,205,237 900,193
Cash flows from investing activities
Securities available-for-sale:
Purchases (13,549,807) (12,100,213) (7,171,684)
Sales 12,163,673 9,326,809 7,139,781
Maturities 929,018 958,065 42,707
Fixed maturity securities
held for investment:
Purchases -- -- (5,903,805)
Sales -- -- 2,805,980
Maturities -- -- 1,639,739
Purchases of other investments (1,711,427) (1,421,321) (1,936,013)
Sale or maturity of other investments 1,198,536 1,457,157 1,142,872
Sale of affiliates -- 520,340 --
Decrease in cash collateral
on loaned securities (39,681) (163,872) (40,454)
Other (213,708) (37,606) 83,751
Net cash used in
investing activities (1,223,396) (1,460,641) (2,197,126)
<PAGE>
The Lincoln National Life Insurance Company
Consolidated Statements of Cash Flows (continued)
Year ended December 31
1995 1994 1993
(000's omitted)
Cash flows from financing activities
Principal payments on long-term debt $ (13,967) $ (200) $ (1,138)
Issuance of long-term debt -- -- 10,314
Net increase (decrease) in
short-term debt (28,873) 3,629 13,047
Universal life and investment
contract deposits 1,716,239 2,381,829 2,418,037
Universal life and
investment contract withdrawals (2,149,325) (1,604,450) (1,503,105)
Capital contribution from
Lincoln National Corporation 17,952 161 221
Dividends paid to shareholder (310,000) (125,000) (12,000)
Net cash provided by
(used in) financing activities (767,974) 655,969 925,376
Net increase (decrease) in cash (188,137) 400,565 (371,557)
Cash at beginning of year 990,880 590,315 961,872
Cash at end of year $ 802,743 $ 990,880 $ 590,315
See accompanying notes.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements
December 31, 1995
1. Summary of Significant Accounting Policies
Basis of Presentation
The accompanying consolidated financial statements include The Lincoln National
Life Insurance Company ("Company") and its majority-owned subsidiaries. The
Company and its subsidiaries operate multiple insurance businesses. Operations
are divided into two business segments (see Note 9). These consolidated
financial statements have been prepared in conformity with generally accepted
accounting principles.
Use of Estimates
The nature of the insurance business requires management to make estimates and
assumptions that affect the amounts reported in the consolidated financial
statements and accompanying notes. Actual results could differ from those
estimates.
Investments
The Company classifies its fixed maturity securities and equity securities
(common and non-redeemable preferred stocks) as available-for-sale and,
accordingly, such securities are carried at fair value. The cost of fixed
maturity securities is adjusted for amortization of premiums and discounts.
The cost of fixed maturity and equity securities is adjusted for declines in
value that are other than temporary.
For the mortgage-backed securities portion of the fixed maturity securities
portfolio, the Company recognizes income using a constant effective yield
based on anticipated prepayments and the estimated economic life of the
securities. When estimates of prepayments change, the effective yield is
recalculated to reflect actual payments to date and anticipated future
payments. The net investment in the securities is adjusted to the amount that
would have existed had the new effective yield been applied since the
acquisition of the securities. This adjustment is reflected in net investment
income.
Mortgage loans on real estate are carried at outstanding principal balances
less unaccrued discounts and net of reserves for declines that are other than
temporary. Investment real estate is carried at cost less allowances for
depreciation. Such real estate is carried net of reserves for declines in
value that are other than temporary. Real estate acquired through foreclosure
proceedings is recorded at fair value on the settlement date which establishes
a new cost basis. If
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
1. Summary of Significant Accounting Policies (continued)
a subsequent periodic review of a foreclosed property indicates the fair
value, less estimated costs to sell, is lower than the carrying value at the
settlement date, the carrying value is adjusted to the lower amount. Policy
loans are carried at the aggregate unpaid balances. Any changes to the
reserves for mortgage loans on real estate and real estate are reported as a
realized gain (loss) on investments.
Cash and invested cash are carried at cost and include all highly liquid debt
instruments purchased with a maturity of three months or less, including
participation in a short-term investment pool administered by Lincoln National
Corporation ("LNC"), the Company's parent.
Realized gain (loss) on investments is recognized in net income, net of
related amortization of deferred acquisition costs, using the specific
identification method. Changes in the fair values of securities carried at
fair value are reflected directly in shareholder's equity after deductions for
related adjustments for deferred acquisition costs and amounts required to
satisfy policyholder commitments that would have been recorded if these
securities would have been sold at their fair value, and after deferred taxes
or credits to the extent deemed recoverable.
Derivatives
The Company hedges certain portions of its exposure to interest rate
fluctuations, the widening of bond yield spreads over comparable maturity U.S.
Government obligations and foreign exchange risk by entering into derivative
transactions. A description of the Company's accounting for its hedge of such
risks is discussed in the following two paragraphs.
The premium paid for an interest rate cap is deferred and amortized to net
investment income on a straight-line basis over the term of the interest rate
cap. Any settlement received in accordance with the terms of the interest
rate caps is recorded as investment income. Spread-lock agreements, interest
rate swaps and financial futures, which hedge fixed maturity securities
available-for-sale, are carried at fair value with the change in fair value
reflected directly in shareholder's equity. Realized gain (loss) from the
settlement of such derivatives is deferred and amortized over the life of the
hedged assets as an adjustment to the yield. Foreign exchange forward
contracts, foreign currency options and foreign currency swaps, which hedge
some of the foreign exchange risk of investments in fixed maturity securities
denominated in foreign currencies, are carried at fair value with the change
in fair value reflected in earnings. Realized gain (loss) from the settlement
of such derivatives is also reflected in earnings.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
1. Summary of Significant Accounting Policies (continued)
Hedge accounting is applied as indicated above after the Company determines
that the items to be hedged expose the Company to interest rate fluctuations,
the widening of bond yield spreads over comparable maturity U.S. Government
obligations and foreign exchange risk; and the derivatives used are designated
as a hedge and reduce the indicated risk by having a high correlation of
changes in the value of the derivatives and the items being hedged at both the
inception of the hedge and throughout the hedge period. Should such criteria
not be met, the change in value of the derivatives is included in net income.
Property and Equipment
Property and equipment owned for company use is carried at cost less
allowances for depreciation.
Premiums and Fees
Revenue for universal life and other interest-sensitive life insurance policies
consists of policy charges for cost of insurance, policy initiation and
administration, and surrender charges that have been assessed. Traditional
individual life-health and annuity premiums are recognized as revenue over the
premium-paying period of the policies. Group health premiums are prorated over
the contract term of the policies.
Assets Held in Separate Accounts/Liabilities Related to Separate Accounts
These assets and liabilities represent segregated funds administered and
invested by the Company for the exclusive benefit of pension and variable life
and annuity contractholders. The fees received by the Company for
administrative and contractholder maintenance services performed for these
separate accounts are included in the Company's consolidated statements of
income.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
Deferred Acquisition Costs
Commissions and other costs of acquiring universal life insurance, variable
universal life insurance, traditional life insurance, annuities and group
health insurance which vary with and are primarily related to the production
of new business, have been deferred to the extent recoverable. Acquisition
costs for universal and variable universal life insurance policies are being
amortized over the lives of the policies in relation to the incidence of
estimated gross profits from surrender charges and investment, mortality and
expense margins, and actual realized gain (loss) on investments. That
amortization is adjusted retrospectively when estimates of current or future
gross profits to be realized from a group of policies are revised. The
traditional life-health and annuity acquisition costs are amortized over the
premium-paying period of the related policies using assumptions consistent
with those used in computing policy reserves.
Expenses
Expenses for universal and variable universal life insurance policies include
interest credited to policy account balances and benefit claims incurred
during the period in excess of policy account balances. Interest crediting
rates associated with funds invested in the Company's general account during
1993 through 1995 ranged from 6.1% to 8.25%.
Goodwill
The cost of acquired subsidiaries in excess of the fair value of net assets
(goodwill) is amortized using the straight-line method over periods that
generally correspond with the benefits expected to be derived from the
acquisitions. Goodwill is amortized over 40 years. The carrying value of
goodwill is reviewed periodically for indicators of impairment in value.
Policy Liabilities and Accruals
The liabilities for future policy benefits and expenses for universal and
variable universal life insurance policies consist of policy account balances
that accrue to the benefit of the policyholders, excluding surrender charges.
The liabilities for future policy benefits and expenses for traditional life
policies and immediate and deferred paid-up annuities are computed using a net
level premium method and assumptions for investment yields, mortality and
withdrawals based principally on Company experience projected at the time of
policy issue, with provision for possible adverse deviations. Interest
assumptions for traditional direct individual life reserves for all policies
range from 2.3% to 11.7% graded to 5.7% after 30 years depending on time of
policy issue. Interest rate assumptions for reinsurance reserves range from
5.0% to 11.0% graded to 8.0% after 20 years. The interest assumptions for
immediate and deferred paid-up annuities range from 4.5% to 8.0%.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
1. Summary of Significant Accounting Policies (continued)
With respect to its policy liabilities and accruals, the Company carries on a
continuing review of its 1) overall reserve position, 2) reserving techniques
and 3) reinsurance arrangements, and as experience develops and new
information becomes known, liabilities are adjusted as deemed necessary. The
effects of changes in estimates are included in the operating results for the
period in which such estimates occur.
Reinsurance
The Company enters into reinsurance agreements with other companies in the
normal course of their business. The Company may assume reinsurance from
unaffiliated companies and/or cede reinsurance to such companies.
Assets/liabilities and premiums/benefits from certain reinsurance contracts
which grant statutory surplus to other insurance companies have been netted on
the balance sheets and income statements, respectively, since there is a right
of offset. All other reinsurance agreements are reported on a gross basis.
Depreciation
Provisions for depreciation of investment real estate and property and
equipment owned for Company use are computed principally on the straight-line
method over the estimated useful lives of the assets.
Postretirement Medical and Life Insurance Benefits
The Company accounts for its postretirement medical and life insurance
benefits using the full accrual method.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
1. Summary of Significant Accounting Policies (continued)
Income Taxes
The Company and eligible subsidiaries have elected to file consolidated
Federal and state income tax returns with their parent, LNC. Pursuant to an
intercompany tax sharing agreement with LNC, the Company and its eligible
subsidiaries provide for income taxes on a separate return filing basis. The
tax sharing agreement also provides that the Company and eligible subsidiaries
will receive benefit for net operating losses, capital losses and tax credits
which are not usable on a separate return basis to the extent such items may
be utilized in the consolidated income tax returns of LNC.
The Company uses the liability method of accounting for income taxes.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax return purposes. The Company
establishes a valuation allowance for any portion of its deferred tax assets
which are unlikely to be realized.
2. Changes in Accounting Principles and Changes in Estimates
Postretirement Benefits Other Than Pensions
Effective January 1, 1993, the Company changed its method of accounting for
postretirement medical and life insurance benefits for its eligible employees
and agents from a pay-as-you-go method to a full accrual method in accordance
with Financial Accounting Standards No. 106 entitled "Employers' Accounting
for Postretirement Benefits Other Than Pensions" ("FAS 106"). This full
accrual method recognizes the estimated obligation for retired employees and
agents and active employees and agents who are expected to retire in the
future. The effect of the change was to increase net periodic postretirement
benefit cost by $7,800,000 and decrease income before cumulative effect of
accounting change by $5,100,000 ($0.51 per share). The implementation of FAS
106 resulted in a one-time charge to the first quarter 1993 net income of
$45,600,000 or $4.56 per share ($69,000,000 pre-tax) for the cumulative effect
of the accounting change. See Note 6 for additional disclosures regarding
postretirement benefits other than pensions.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
2. Changes in Accounting Principles and Changes in Estimates (continued)
Accounting by Creditors for Impairment of a Loan
Financial Accounting Standards No. 114 entitled "Accounting by Creditors for
Impairment of a Loan" ("FAS 114") issued in May 1993, was adopted by the
Company effective January 1, 1993. FAS 114 requires that if an impaired
mortgage loan's fair value as described in Note 3 is less than the recorded
investment in the loan, the difference is recorded in the mortgage loan
allowance for losses account. The adoption of FAS 114 resulted in additions
to the mortgage loan allowance for losses account and reduced first quarter
1993 income before cumulative effect of accounting change and net income by
$37,700,000 or $3.77 per share ($57,200,000 pre-tax). See Note 3 for further
mortgage loan disclosures. Most of the effect of this change in accounting
was within the Life Insurance and Annuities business segment.
Accounting for Certain Investments in Debt and Equity Securities
Financial Accounting Standards No. 115 entitled "Accounting for Certain
Investments in Debt and Equity Securities" ("FAS 115") issued in May 1993, was
adopted by the Company as of December 31, 1993. In accordance with the rules,
the prior year financial statements have not been restated to reflect the
change in accounting principle. Under FAS 115, securities can be classified
as available-for-sale, trading or held-to-maturity according to the holder's
intent. The Company classified its entire fixed maturity securities portfolio
as "available-for-sale." Securities classified as available-for-sale are
carried at fair value and unrealized gains and losses on such securities are
carried as a separate component of shareholder's equity. The ending balance
of shareholder's equity at December 31, 1993 was increased by $564,200,000
(net of $377,500,000 of related adjustments to deferred acquisition costs,
$50,700,000 of policyholder commitments and $303,700,000 in deferred income
taxes, all of which would have been recognized if those securities would have
been sold at their fair value, net of amounts applicable to Security-
Connecticut Corporation) to reflect the net unrealized gain on fixed maturity
securities classified as available-for-sale previously carried at amortized
cost. Prior to the adoption of FAS 115, the Company carried a portion of its
fixed maturity securities at fair value with unrealized gains and losses
carried as a separate component of shareholder's equity. The remainder of
such securities were carried at amortized cost.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
2. Changes in Accounting Principles and Changes in Estimates (continued)
Change in Estimate for Net Investment Income Related to Mortgage-Backed
Securities
At December 31, 1993, the Company had $5,942,100,000 invested in mortgage-
backed securities. As indicated in Note 1, the Company recognizes income on
these securities using a constant effective yield based on anticipated
prepayments. With the implementation of new investment software in December
1993, the Company was able to significantly refine its estimate of the
effective yield on such securities to better reflect actual prepayments and
estimates of future prepayments. This resulted in an increase in the
amortization of purchase discount on these securities of $58,000,000 and,
after related amortization of deferred acquisition costs ($18,300,000) and
income taxes ($14,300,000), increased 1993's income before cumulative effect
of accounting change and net income by $25,500,000 or $2.55 per share. Most
of the effect of this change in estimate was within the Life Insurance and
Annuities business segment.
Change in Estimate for Disability Income Reserves
During the fourth quarter of 1993, income before cumulative effect of
accounting change and net income decreased by $15,500,000 or $1.55 per share
as the result of strengthening reinsurance disability income reserves by
$23,900,000. The need for this reserve increase within the Reinsurance
segment was identified as the result of management's assessment of current
expectations for morbidity trends and the impact of lower investment income
due to lower interest rates.
During the fourth quarter of 1995, the Company completed an in-depth review of
the experience of its disability income business. As a result of this study,
and based on the assumption that recent experience will continue in the
future, income before cumulative effect of accounting change and net income
decreased by $33,500,000 or $3.35 per share ($51,500,000 pre-tax) as a result
of strengthening disability income reserves by $15,200,000 and writing-off
deferred acquisition costs of $36,300,000 in the Reinsurance segment.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
3. Investments
The major categories of net investment income are as follows:
<TABLE>
<CAPTION>
Year ended December 31
1995 1994 1993
(in millions)
<S> <C> <C> <C>
Fixed maturity securities $1,549.4 $1,357.4 $1,497.6
Equity securities 8.9 7.4 4.3
Mortgage loans on real estate 268.3 271.3 294.2
Real estate 110.0 97.8 75.2
Policy loans 35.4 32.7 36.0
Invested cash 55.4 46.4 24.8
Other investments 15.8 7.3 8.0
Investment revenue 2,043.2 1,820.3 1,940.1
Investment expenses 143.6 146.3 116.6
Net investment income $1,899.6 $1,674.0 $1,823.5
</TABLE>
The realized gain (loss) on investments is as follows:
<TABLE>
<CAPTION>
Year ended December 31
1995 1994 1993
(in millions)
<S> <C> <C> <C>
Fixed maturity securities available-for-sale:
Gross gain $239.6 $ 69.6 $ 91.1
Gross loss (87.8) (294.1) (8.4)
Equity securities available-for-sale:
Gross gain 82.3 50.2 88.3
Gross loss (31.3) (50.5) (33.7)
Fixed maturity securities held for investment:
Gross gain -- -- 209.9
Gross loss -- -- (69.5)
Other investments 42.2 5.1 (161.8)
Related restoration or amortization
of deferred acquisition costs and
provision for policyholder
commitments (108.8) 81.2 (23.7)
Total $136.2 $(138.5) $ 92.2
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
3. Investments (continued)
Provisions (credits) for write-downs and net changes in provisions for losses,
which are included in realized gain (loss) on investments shown above, are as
follows:
<TABLE>
<CAPTION>
Year ended December 31
1995 1994 1993
(in millions)
<S> <C> <C> <C>
Fixed maturity securities $10.4 $14.2 $ 55.6
Equity securities 3.3 6.8 --
Mortgage loans on real estate 14.7 19.5 136.7
Real estate (7.2) 13.0 21.8
Other long-term investments (1.5) .3 3.9
Guarantees (2.2) 4.3 1.7
Total $17.5 $58.1 $219.7
</TABLE>
The change in unrealized appreciation (depreciation) on investments in fixed
maturity and equity securities is as follows:
<TABLE>
<CAPTION>
Year ended December 31
1995 1994 1993
(in millions)
<S> <C> <C> <C>
Fixed maturity securities
available-for-sale $2,063.7 $(1,903.7) $1,387.1
Equity securities available-for-sale 78.1 (26.0) 9.2
Fixed maturity securities
held for investment -- -- (959.7)
Total $2,141.8 $(1,929.7) $ 436.6
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
3. Investments (continued)
The cost, gross unrealized gain and loss and fair value of securities
available-for-sale are as follows:
<TABLE>
<CAPTION>
December 31, 1995
Gross Unrealized Fair
Cost Gain Loss Value
(in millions)
<S> <C> <C> <C> <C>
Corporate bonds $12,412.1 $1,141.0 $28.7 $13,524.4
U.S. Government bonds 569.6 83.9 .1 653.4
Foreign governments bonds 927.9 70.3 .6 997.6
Mortgage-backed securities:
Mortgage pass-through securities 1,072.5 41.0 3.2 1,110.3
Collateralized mortgage obligations 3,816.3 262.5 7.4 4,071.4
Other mortgage-backed securities 2.8 .3 -- 3.1
State and municipal bonds 12.3 .1 -- 12.4
Redeemable preferred stocks 39.3 2.9 -- 42.2
Total fixed maturity securities 18,852.8 1,602.0 40.0 20,414.8
Equity securities 480.3 123.6 5.5 598.4
Total $19,333.1 $1,725.6 $45.5 $21,013.2
</TABLE>
<TABLE>
<CAPTION>
December 31, 1994
Gross Unrealized Fair
Cost Gain Loss Value
(in millions)
<S> <C> <C> <C> <C>
Corporate bonds $11,519.3 $143.3 $514.4 $11,148.2
U.S. Government bonds 1,048.4 6.9 25.5 1,029.8
Foreign governments bonds 541.2 4.7 12.5 533.4
Mortgage-backed securities:
Mortgage pass-through securities 1,176.8 3.0 44.1 1,135.7
Collateralized mortgage obligations 3,835.5 85.8 148.6 3,772.7
Other mortgage-backed securities 5.0 .1 .1 5.0
State and municipal bonds 16.3 .4 -- 16.7
Redeemable preferred stocks 51.4 .2 .9 50.7
Total fixed maturity securities 18,193.9 244.4 746.1 17,692.2
Equity securities 416.3 56.4 16.4 456.3
Total $18,610.2 $300.8 $762.5 $18,148.5
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
3. Investments (continued)
Future maturities of fixed maturity securities available-for-sale are as
follows:
<TABLE>
<CAPTION>
December 31, 1995
Fair
Cost Value
(in millions)
<S> <C> <C>
Due in one year or less $ 278.4 $ 282.6
Due after one year through five years 2,955.7 3,102.1
Due after five years through ten years 4,918.2 5,265.9
Due after ten years 5,808.9 6,579.4
Subtotal 13,961.2 15,230.0
Mortgage-backed securities 4,891.6 5,184.8
Total $18,852.8 $20,414.8
</TABLE>
The foregoing data is based on stated maturities. Actual maturities will
differ in some cases because borrowers may have the right to call or pre-pay
obligations.
At December 31, 1995, the current par, amortized cost and estimated fair value
of investments in mortgage-backed securities summarized by interest rates of
the underlying collateral are as follows:
<TABLE>
<CAPTION>
December 31, 1995
Current Fair
Par Cost Value
(in millions)
<S> <C> <C> <C>
Below 7% $ 292.6 $ 290.5 $ 293.6
7%-8% 1,302.8 1,276.9 1,318.2
8%-9% 1,607.0 1,564.7 1,669.8
Above 9% 1,810.5 1,759.5 1,903.2
Total $5,012.9 $4,891.6 $5,184.8
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
3. Investments (continued)
The quality ratings of fixed maturity securities available-for-sale are as
follows:
<TABLE>
<CAPTION>
December 31, 1995
<S> <C>
Treasuries and AAA 34.1%
AA 8.0
A 25.9
BBB 24.5
BB 3.9
Less than BB 3.6
100.0%
</TABLE>
Mortgage loans on real estate are considered impaired when, based on current
information and events, it is probable that the Company will be unable to
collect all amounts due according to the contractual terms of the loan
agreement. When the Company determines that a loan is impaired, a provision
for loss is established for the difference between the carrying value of the
mortgage loan and the estimated value. Estimated value is based on either the
present value of expected future cash flows discounted at the loan's effective
interest rate, the loan's observable market price or the fair value of the
collateral. The provision for losses is reported as realized gain (loss) on
investments. Mortgage loans deemed to be uncollectible are charged against
the provision for losses and subsequent recoveries, if any, are credited to
the provision for losses.
The provision for losses is maintained at a level believed adequate by
management to absorb estimated probable credit losses. Management's periodic
evaluation of the adequacy of the provision for losses is based on the
Company's past loan loss experience, known and inherent risks in the
portfolio, adverse situations that may affect the borrower's ability to repay
(including the timing of future payments), the estimated value of the
underlying collateral, composition of the loan portfolio, current economic
conditions and other relevant factors. This evaluation is inherently
subjective as it requires estimating the amounts and timing of future cash
flows expected to be received on impaired loans that may be susceptible to
significant change.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
3. Investments (continued)
Impaired loans along with the related allowance for losses are as follows:
<TABLE>
<CAPTION>
December 31
1995 1994
(in millions)
<S> <C> <C>
Impaired loans with allowance for losses $144.7 $246.0
Allowance for losses (28.5) (56.6)
Impaired loans with no allowance for losses 2.1 2.2
Net impaired loans $118.3 $191.6
</TABLE>
Impaired loans with no allowance for losses are a result of direct write-downs
or for collateral dependent loans where the fair value of the collateral is
greater than the recorded investment in such loans.
A reconciliation of the mortgage loan allowance for losses for these impaired
mortgage loans is as follows:
<TABLE>
<CAPTION>
Year ended December 31
1995 1994 1993
(in millions)
<S> <C> <C> <C>
Balance at beginning of year $56.6 $220.7 $129.1
Provisions for losses 14.7 19.5 79.5
Provision for adoption of FAS 114 -- -- 57.2
Releases due to write-downs (12.0) -- --
Releases due to sales (15.9) (164.7) (12.2)
Releases due to foreclosures (14.9) (18.9) (32.9)
Balance at end of year $28.5 $ 56.6 $220.7
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
3. Investments (continued)
The average recorded investment in impaired loans and the interest income
recognized on impaired loans were as follows:
<TABLE>
<CAPTION>
Year ended December 31
1995 1994 1993
(in millions)
<S> <C> <C> <C>
Average recorded investment in impaired loans $181.7 $467.5 $703.6
Interest income recognized on impaired loans 16.6 36.1 47.3
</TABLE>
All interest income on impaired loans was recognized on the cash basis of
income recognition.
As of December 31, 1995 and 1994, the Company had restructured loans of
$62,500,000 and $36,200,000, respectively. The Company recorded $6,300,000
and $800,000 interest income on these restructured loans in 1995 and 1994,
respectively. Interest income in the amount of $6,600,000 and $3,900,000
would have been recorded on these loans according to their original terms in
1995 and 1994, respectively. As of December 31, 1995 and 1994, the Company
had no outstanding commitments to lend funds on restructured loans.
As of December 31, 1995, the Company's investment commitments for fixed
maturity securities (primarily private placements), mortgage loans on real
estate and real estate were $543,100,000.
Fixed maturity securities available-for-sale, mortgage loans on real estate
and real estate with a combined carrying value at December 31, 1995 of
$1,300,000 were non-income producing for the year ended December 31, 1995.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
3. Investments (continued)
The cost information for mortgage loans on real estate, real estate and other
long-term investments are net of allowances for losses. The balance sheet
account for other liabilities includes a reserve for guarantees of third-party
debt. The amount of allowances and a reserve for such items is as follows:
<TABLE>
<CAPTION>
December 31
1995 1994
(in millions)
<S> <C> <C>
Mortgage loans on real estate $28.5 $56.6
Real estate 46.6 65.2
Other long-term investments 11.8 13.5
</TABLE>
Details underlying the balance sheet caption "Net Unrealized Gain (Loss) on
Securities Available-for-Sale," are as follows:
<TABLE>
<CAPTION>
December 31
1995 1994
(in millions)
<S> <C> <C>
Fair value of securities available-for-sale $21,013.2 $18,148.5
Cost of securities available-for-sale 19,333.1 18,610.2
Unrealized gain (loss) 1,680.1 (461.7)
Adjustments to deferred acquisition costs (492.1) 158.2
Amounts required to satisfy
policyholder commitments (510.1) 8.6
Deferred income credits (taxes) (234.6) 105.9
Valuation allowance for deferred tax assets -- (135.6)
Net unrealized gain (loss) on
securities available-for-sale $ 443.3 $ (324.6)
</TABLE>
Adjustments to deferred acquisition costs and amounts required to satisfy
policyholder commitments are netted against the Deferred Acquisition Costs
asset account and included with the Future Policy Benefits, Claims and Claims
Expense liability account on the balance sheet, respectively.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
4. Federal Income Taxes
The Federal income tax expense (benefit) before cumulative effect of
accounting change is as follows:
<TABLE>
<CAPTION>
Year ended December 31
1995 1994 1993
(in millions)
<S> <C> <C> <C>
Current $172.5 $(93.4) $261.3
Deferred (45.0) 133.8 (118.8)
Total $127.5 $ 40.4 $142.5
</TABLE>
Cash paid for Federal income taxes in 1995, 1994 and 1993 was $27,500,000,
$41,400,000 and $272,600,000, respectively. The cash paid in 1995 is net of a
$146,900,000 cash refund related to the carryback of 1994 capital losses to
prior years.
The effective tax rate on pre-tax income before cumulative effect of
accounting change is lower than the prevailing corporate Federal income tax
rate. A reconciliation of this difference is as follows:
<TABLE>
<CAPTION>
Year ended December 31
1995 1994 1993
(in millions)
<S> <C> <C> <C>
Tax rate times pre-tax income $157.3 $91.1 $117.5
Effect of:
Tax-exempt investment income (22.0) (21.5) (16.2)
Participating policyholders' share 5.4 3.4 4.1
Loss (gain) on sale of affiliates -- (24.1) 34.5
Other items (13.2) (8.5) 2.6
Provision for income taxes $127.5 $40.4 $142.5
Effective tax rate 28.4% 15.5% 42.5%
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
4. Federal Income Taxes (continued)
The Federal income tax recoverable (liability) is as follows:
<TABLE>
<CAPTION>
December 31
1995 1994
(in millions)
<S> <C> <C>
Current $ (25.0) $118.2
Deferred (141.4) 16.3
Total $(166.4) $134.5
</TABLE>
Significant components of the Company's net deferred tax asset (liability) are
as follows:
<TABLE>
<CAPTION>
December 31
1995 1994
(in millions)
<S> <C> <C>
Deferred tax assets:
Policy liabilities and accruals
and contractholder funds $ 694.5 $430.9
Loss on investments -- 16.8
Net unrealized loss on
securities available-for-sale -- 161.6
Postretirement benefits other than pensions 25.3 24.2
Other 39.5 34.6
Total deferred tax assets 759.3 668.1
Valuation allowance for deferred tax assets -- (135.6)
Net deferred tax assets 759.3 532.5
Deferred tax liabilities:
Deferred acquisition costs 218.8 475.5
Net unrealized gain on
securities available-for-sale 579.6 --
Gain on investments 7.7 --
Other 94.6 40.7
Total deferred tax liabilities 900.7 516.2
Net deferred tax (liability) asset $(141.4) $ 16.3
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
4. Federal Income Taxes (continued)
The Company is required to establish a "valuation allowance" for any portion
of its deferred tax assets which are unlikely to be realized. At December 31,
1994, $161,600,000 of deferred tax assets relating to net unrealized capital
losses on fixed maturity and equity securities available-for-sale were
available to be recorded in shareholder's equity before considering a
valuation allowance. For Federal income tax purposes, capital losses may only
be used to offset capital gains in the current year or during a three year
carryback and five year carryforward period. Due to these restrictions, and
the uncertainty at that time of future capital gains, these deferred tax
assets were substantially offset by a valuation allowance of $135,600,000. By
December 31, 1995, the fair values of fixed maturity and equity securities
available-for-sale were greater than the cost basis resulting in unrealized
capital gains. Accordingly, no valuation allowance was established as of
December 31, 1995 since management believes it is more likely than not that
the Company will realize the benefit of its deferred tax assets.
Prior to 1984, a portion of the life companies' current income was not subject
to current income tax, but was accumulated for income tax purposes in a
memorandum account designated as "policyholders' surplus." The total of the
life companies' balances in their respective "policyholders' surplus" accounts
at December 31, 1983 of $204,800,000 was "frozen" by the Tax Reform Act of
1984 and, accordingly, there have been no additions to the accounts after that
date. That portion of current income on which income taxes have been paid
will continue to be accumulated in a memorandum account designated as
"shareholder surplus," and is available for dividends to the shareholder
without additional payment of tax. The December 31, 1995 total of the life
companies' account balances for their "shareholder surplus" was
$1,554,000,000. Should dividends to the shareholder for each life company
exceed its respective "shareholder surplus," amounts would need to be
transferred from its respective "policyholders' surplus" and would be subject
to Federal income tax at that time. In connection with the 1993 sale of a
life insurance affiliate (see Note 10), $8,800,000 was transferred from
policyholders' surplus to shareholder surplus and current income tax of
$3,100,000 was paid. Under existing or foreseeable circumstances, the Company
neither expects nor intends that distributions will be made from the remaining
balance in "policyholders' surplus" of $196,000,000 that will result in any
such tax. Accordingly, no provision for deferred income taxes has been
provided by the Company on its "policyholders' surplus" account. In the event
that such excess distributions are made, it is estimated that income taxes of
approximately $68,600,000 would be due.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
5. Supplemental Financial Data
The balance sheet captions, "Real Estate," "Other Investments" and "Property
and Equipment," are shown net of allowances for depreciation as follows:
<TABLE>
<CAPTION>
December 31
1995 1994
(in millions)
<S> <C> <C>
Real estate $ 51.6 $ 37.0
Other investments 14.6 12.2
Property and equipment 100.7 104.7
</TABLE>
Details underlying the balance sheet caption, "Contractholder Funds," are as
follows:
<TABLE>
<CAPTION>
December 31
1995 1994
(in millions)
<S> <C> <C>
Premium deposit funds $17,886.9 $16,770.3
Undistributed earnings on participating business 91.9 63.6
Other 193.0 194.7
Total $18,171.8 $17,028.6
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
5. Supplemental Financial Data (continued)
Details underlying the balance sheet captions, "Short-term and Long-term
Debt," are as follows:
<TABLE>
<CAPTION>
December 31
1995 1994
(in millions)
<S> <C> <C>
Short-term debt:
Short-term notes $123.5 $150.8
Current portion of long-term debt 1.3 2.9
Total short-term debt $124.8 $153.7
Long-term debt less current portion:
7% mortgage note payable, due 1996 $ -- $ 4.9
9.48% mortgage note payable, due 1996 -- 7.7
12% mortgage note payable, due 1996 -- .2
8.42% mortgage note payable, due 1997 7.0 7.2
8.25% mortgage note payable, due 1997 10.1 10.2
8% mortgage note payable, due 1997 2.1 --
8.75% mortgage note payable, due 1998 18.4 18.8
9.75% mortgage note payable, due 2002 3.2 5.8
Total long-term debt $ 40.8 $ 54.8
</TABLE>
Future maturities of long-term debt are as follows (in millions):
1996 -- $ 1.3 1998 -- $18.4 2000 -- $ --
1997 -- 19.2 1999 -- -- Thereafter -- 3.2
Cash paid for interest for 1995, 1994 and 1993 was $67,000, $615,000 and
$96,000, respectively.
Reinsurance transactions included in the income statement caption, "Insurance
Premiums," are as follows:
<TABLE>
<CAPTION>
Year ended December 31
1995 1994 1993
(in millions)
<S> <C> <C> <C>
Insurance assumed $777.6 $910.8 $807.5
Insurance ceded 441.7 716.7 568.6
Net reinsurance premiums $335.9 $194.1 $238.9
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
5. Supplemental Financial Data (continued)
The income statement caption, "Benefits and Settlement Expenses," is net of
reinsurance recoveries of $456,000, $524,000 and $438,000 for the years ended
December 31, 1995, 1994 and 1993, respectively.
The income statement caption, "Underwriting, Acquisition, Insurance and Other
Expenses," includes amortization of deferred acquisition costs of
$399,700,000, $115,200,000 and $241,000,000 for the years ended December 31,
1995, 1994 and 1993, respectively. An additional $(85,200,000), $81,200,000
and ($23,700,000) of deferred acquisition costs was restored (amortized) and
netted against "Realized Gain (Loss) on Investments" for the years ended
December 31, 1995, 1994 and 1993, respectively.
6. Employee Benefit Plans
Pension Plans
LNC maintains funded defined benefit pension plans for most of its employees
and, prior to January 1, 1995, full-time agents. The benefits for employees
are based on total years of service and the highest 60 months of compensation
during the last 10 years of employment. The benefits for agents were based on
a percentage of each agent's yearly earnings. The plans are funded by
contributions to tax-exempt trusts. The Company's funding policy is
consistent with the funding requirements of Federal laws and regulations.
Contributions are intended to provide not only the benefits attributed to
service to date, but also those expected to be earned in the future. Plan
assets consist principally of listed equity securities and corporate
obligations and government bonds.
All benefits applicable to the funded defined benefit plan for agents were
frozen as of December 31, 1994. The curtailment of this plan did not have a
significant effect on net pension cost for 1994. Effective January 1, 1995,
pension benefits for agents have been provided by a new defined contribution
plan. Contributions to this plan will be based on 2.3% of an agent's earnings
up to the social security wage base and 4.6% of any excess.
LNC also administers two types of unfunded, nonqualified, defined benefit
plans for certain employees and agents. A supplemental retirement plan
provides defined benefit pension benefits in excess of limits imposed by
Federal tax law. A salary continuation plan provides certain officers of the
Company defined pension benefits based on years of service and final monthly
salary upon death or retirement.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
6. Employee Benefit Plans (continued)
The status of the funded defined benefit pension plans and the amounts
recognized on the balance sheets are as follows:
<TABLE>
<CAPTION>
December 31
1995 1994
(in millions)
<S> <C> <C>
Actuarial present value of benefit obligation:
Vested benefits $(162.1) $(130.5)
Nonvested benefits (9.2) (7.3)
Accumulated benefit obligation (171.3) (137.8)
Effect of projected future compensation increases (37.2) (24.3)
Projected benefit obligation (208.5) (162.1)
Plan assets at fair value 196.4 159.3
Projected benefit obligations in
excess of plan assets (12.1) (2.8)
Unrecognized net loss (gain) 12.6 (.5)
Unrecognized prior service cost 1.2 1.1
Prepaid (accrued) pension cost
included in other liabilities $ 1.7 $ (2.2)
</TABLE>
The status of the unfunded defined benefit pension plans and the amounts
recognized on the balance sheets are as follows:
<TABLE>
<CAPTION>
December 31
1995 1994
(in millions)
<S> <C> <C>
Actuarial present value of benefit obligation:
Vested benefits $(7.0) $(5.4)
Nonvested benefits (1.5) (1.0)
Accumulated benefit obligation (8.5) (6.4)
Effect of projected future compensation increases (2.4) (2.5)
Projected benefit obligation (10.9) (8.9)
Unrecognized transition obligation -- --
Unrecognized net loss (gain) 1.0 (.3)
Unrecognized prior service cost .8 .8
Accrued pension costs included in other liabilities $(9.1) $(8.4)
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
6. Employee Benefit Plans (continued)
The determination of the projected benefits obligation for the defined benefit
plans was based on the following assumptions:
<TABLE>
<CAPTION>
1995 1994 1993
<S> <C> <C> <C>
Weighted-average discount rate 7.0% 8.0% 7.0%
Rate of increase in compensation:
Salary continuation plan 6.0 6.5 6.0
All other plans 5.0 5.0 5.0
Expected long-term rate of return on plan assets 9.0 9.0 9.0
</TABLE>
The components of net pension cost for the defined benefit pension plans are
as follows:
<TABLE>
<CAPTION>
Year ended December 31
1995 1994 1993
(in millions)
<S> <C> <C> <C>
Service cost-benefits earned during the year $ 5.0 $ 8.9 $ 8.5
Interest cost on projected benefit obligation 13.2 12.9 12.4
Actual return on plan assets (36.3) 4.7 (20.1)
Net amortization (deferral) 22.9 (18.6) 6.1
Net pension cost $ 4.8 $ 7.9 $ 6.9
</TABLE>
401(k)
LNC and the Company sponsor contributory defined contribution plans for
eligible employees and agents. The Company's contributions to the plans are
equal to each participant's pre-tax contribution, not to exceed 6% of base
pay, multiplied by a percentage, ranging from 25% to 150%, which varies
according to certain incentive criteria as determined by LNC's Board of
Directors. Expense for these plans amounted to $8,000,000, $13,200,000 and
$11,800,000 in 1995, 1994 and 1993, respectively.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
6. Employee Benefit Plans (continued)
Postretirement Medical and Life Insurance Benefit Plans
LNC sponsors unfunded defined benefit plans that provide postretirement
medical and life insurance benefits to full-time employees and agents who,
depending on the plan, have worked for the Company 10 to 15 years and attained
age 55 to 60. Medical benefits are also available to spouses and other
dependents of employees and agents. For medical benefits, limited
contributions are required from individuals retired prior to November 1, 1988;
contributions for later retirees, which can be adjusted annually, are based on
such items as years of service at retirement and age at retirement. The life
insurance benefits are noncontributory, although participants can elect
supplemental contributory benefits.
The status of the postretirement medical and life insurance benefit plans and
the amounts recognized on the balance sheets are as follows:
<TABLE>
<CAPTION>
December 31
1995 1994
(in millions)
<S> <C> <C>
Accumulated postretirement benefit obligation:
Retirees $(39.8) $(34.9)
Fully eligible active plan participants (9.9) (7.0)
Other active plan participants (20.8) (15.0)
Accumulated postretirement benefit obligation (70.5) (56.9)
Unrecognized net gain (.8) (5.5)
Accrued plan cost included in other liabilities $(71.3) $(62.4)
</TABLE>
The components of periodic postretirement benefit cost are as follows:
<TABLE>
<CAPTION>
Year ended December 31
1995 1994 1993
(in millions)
<S> <C> <C> <C>
Service cost $1.5 $1.7 $2.6
Interest cost 4.4 4.2 4.6
Amortization cost (credit) (.8) .1 --
Net periodic postretirement benefit cost $5.1 $6.0 $7.2
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
6. Employee Benefit Plans (continued)
The calculation of the accumulated postretirement benefit obligation assumes a
weighted-average annual rate of increase in the per capita cost of covered
benefits (i.e., health care cost trend rate) of 9.5% for 1996 gradually
decreasing to 5.5% by 2004 and remaining at that level thereafter. The health
care cost trend rate assumption has a significant effect on the amounts
reported. For example, increasing the assumed health care cost trend rates by
one percentage point each year would increase the accumulated postretirement
benefit obligation as of December 1995 and 1994 by $5,100,000 and $4,100,000,
respectively, and the aggregate of the estimated service and interest cost
components of net periodic postretirement benefit cost for the year ended
December 31, 1995 by $488,000. The calculation assumes a long-term rate of
increase in compensation of 5.0% for both December 31, 1995 and 1994. The
weighted-average discount rate used in determining the accumulated
postretirement benefit obligation was 7.0% and 8.0% at December 31, 1995 and
1994, respectively.
7. Restrictions, Commitments and Contingencies
Shareholder's Equity Restrictions
Net income as determined in accordance with statutory accounting practices for
the Company and its insurance subsidiaries in 1995, 1994 and 1993 was
$284,500,000, $366,700,000 and $237,000,000, respectively. The Company's
shareholder's equity as determined in accordance with statutory accounting
practices at December 31, 1995 and 1994 was $1,732,900,000 and $1,679,700,000,
respectively.
The Company is subject to certain insurance department regulatory restrictions
as to the transfer of funds and payments of dividends to LNC. In 1996, the
Company can transfer up to $284,500,000 without seeking prior approval from
the insurance regulators.
Disability Income Claims
The liability for disability income claims net of the related asset for
amounts recoverable from reinsurers at December 31, 1995 and 1994 is a net
liability of $602,600,000 and $441,700,000, respectively, excluding deferred
acquisition costs. The bulk of the increase to this liability relates to the
assumption of a large block of disability claim reserves and related assets
during the third quarter of 1995. In addition, as indicated in Note 2, the
Company strengthened its disability income reserves and wrote off certain
related deferred acquisition costs in the fourth quarter of 1995. The
reserves were established on the assumption that the recent experience will
continue in the future. If incidence levels or claim termination rates vary
significantly from these assumptions, further adjustments to reserves may be
required in the future. It is not possible to provide a meaningful estimate
of a range of possible outcomes at this time. The Company reviews and updates
the level of these reserves on an on-going basis.
Compliance of Qualified Annuity Plans
Tax authorities continue to focus on compliance of qualified annuity plans
marketed by insurance companies. If sponsoring employers cannot demonstrate
compliance and the insurance company is held responsible due to its marketing
efforts, the Company and other insurers may be subject to potential liability.
It is not possible to provide a meaningful estimate of the range of potential
liability at this time. Management continues to monitor this matter and to
take steps to minimize any potential liability.
Group Pension Annuities
The liabilities for guaranteed interest and group pension annuity contracts,
which are no longer being sold, are supported by a single portfolio of assets
which attempts to match the duration of these liabilities. Due to the very
long-term nature of group pension annuities and the resulting inability to
exactly match cash flows, a risk exists that future cash flows from
investments will not be reinvested at rates as high as currently earned by the
portfolio. This situation could cause losses which would be recognized at
some future time.
Leases
The Company and certain of its subsidiaries lease their home office properties
through sale-leaseback agreements. The agreements provide for a 25 year lease
period with options to renew for six additional terms of five years each. The
agreements also provide the Company with the right of first refusal to
purchase the properties during the term of the lease, including renewal
periods, at a price as defined in the agreements. In addition, the Company
has the option to purchase the leased properties at fair market value as
defined in the agreements on the last day of the initial 25 year lease period
ending in 2009 or the last day of any of the renewal periods.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
7. Restrictions, Commitments and Contingencies (continued)
Total rental expense under operating leases in 1995, 1994 and 1993 was
$24,400,000, $21,700,000 and $27,100,000. Future minimum rental commitments
are as follows (in millions):
<TABLE>
<CAPTION>
<S> <C>
1996 $ 20.9
1997 19.5
1998 18.3
1999 18.3
2000 17.7
Thereafter 172.4
Total $267.1
</TABLE>
Insurance Ceded and Assumed
The Company cedes insurance to other companies, including certain affiliates.
The portion of risks exceeding each companys retention limit is reinsured
with other insurers. The Company seeks reinsurance coverage within the
business segment that sells life insurance that limits its liabilities on an
individual insured to $3,000,000. To cover products other than life
insurance, the Company acquires other insurance coverages with retentions and
limits which management believes are appropriate for the circumstances. The
accompanying financial statements reflect premiums, benefits and settlement
expenses and deferred acquisition costs, net of insurance ceded (see Note 5).
The Company and its subsidiaries remain liable if their reinsurers are unable
to meet their contractual obligations under the applicable reinsurance
agreements.
The Company assumes insurance from other companies, including certain
affiliates. At December 31, 1995, the Company has provided $92,700,000 of
statutory surplus relief to other insurance companies under reinsurance
transactions. Generally, such amounts are offset by corresponding receivables
from the ceding company, which are secured by future profits on the reinsured
business. However, the Company is subject to the risk that the ceding company
may become insolvent and the right of offset would not be permitted.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
7. Restrictions, Commitments and Contingencies (continued)
Vulnerability from Concentrations
At December 31, 1995, the Company did not have a material concentration of
financial instruments in a single investee, industry or geographic location.
Also at December 31, 1995, the Company did not have a concentration of 1)
business transactions with a particular customer, lender or distributor, 2)
revenues from a particular product of service, 3) sources of supply of labor
or services used in the business or 4) a market or geographic area in which
business is conducted that makes it vulnerable to an event that is at least
reasonably possible to occur in the near term and which could cause a serve
impact to the Company's financial condition.
Other Contingency Matters
The Company and its subsidiaries are involved in various pending or threatened
legal proceedings arising from the conduct of their business. In some
instances, these proceedings include claims for punitive damages and similar
types of relief in unspecified or substantial amounts, in addition to amounts
for alleged contractual liability or requests for equitable relief. After
consultation with counsel and a review of available facts, it is management's
opinion that these proceedings ultimately will be resolved without materially
affecting the consolidated financial statements of the Company.
The number of insurance companies that are under regulatory supervision has
resulted, and is expected to continue to result, in assessments by state
guaranty funds to cover losses to policyholders of insolvent or rehabilitated
companies. Mandatory assessments may be partially recovered through a
reduction in future premium taxes in some states. The Company has accrued for
expected assessments net of estimated future premium tax deductions.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
7. Restrictions, Commitments and Contingencies (continued)
Guarantees
The Company has guarantees with off-balance-sheet risks whose contractual
amounts represent credit exposure. Outstanding guarantees with off-balance-
sheet risks, shown in notional or contract amounts, are as follows:
<TABLE>
<CAPTION>
Notional or
Contract Amounts
December 31
1995 1994
(in millions)
<S> <C> <C>
Real estate partnerships $ 3.3 $17.6
Mortgage loan pass-through certificates 63.6 78.2
Total $66.9 $95.8
</TABLE>
The Company has invested in real estate partnerships that use conventional
mortgage loans. In some cases, the terms of these arrangements involve
guarantees by each of the partners to indemnify the mortgagor in the event a
partner is unable to pay its principal and interest payments. In addition,
the Company has sold commercial mortgage loans through grantor trusts which
issued pass-through certificates. The Company has agreed to repurchase any
mortgage loans which remain delinquent for 90 days at a repurchase price
substantially equal to the outstanding principal balance plus accrued interest
thereon to the date of repurchase. It is management's opinion that the value
of the properties underlying these commitments is sufficient that in the event
of default the impact would not be material to the Company. Accordingly, both
the carrying value and fair value of these guarantees is zero at December 31,
1995 and 1994.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
7. Restrictions, Commitments and Contingencies (continued)
Derivatives
The Company has derivatives with off-balance-sheet risks whose notional or
contract amounts exceed the credit exposure. The Company has entered into
derivative transactions to reduce its exposure to fluctuations in interest
rates, the widening of bond yield spreads over comparable maturity U.S.
Government obligations and foreign exchange risks. In addition, the Company
is subject to the risks associated with changes in the value of its
derivatives; however, such changes in the value generally are offset by
changes in the value of the items being hedged by such contracts. Outstanding
derivatives with off-balance-sheet risks, shown in notional or contract
amounts along with their carrying value and estimated fair values, are as
follows:
<TABLE>
<CAPTION>
Assets (Liabilities)
Notional or Carrying Fair Carrying Fair
Contract Amounts Value Value Value Value
December 31 December 31 December 31
1995 1994 1995 1995 1994 1994
(in millions)
<S> <C> <C> <C> <C> <C> <C>
Interest rate derivatives:
Interest rate
cap agreements $5,110.0 $4,400.0 $22.7 $5.3 $23.3 $34.4
Spread-lock
agreements 600.0 1,300.0 (.9) (.9) 3.2 3.2
Financial
futures contracts -- 382.5 -- -- (7.5) (7.5)
Interest rate swaps 5.0 5.0 .2 .2 .2 .2
5,715.0 6,087.5 22.0 4.6 19.2 30.3
Foreign currency
derivatives:
Foreign exchange
forward contracts 15.7 21.2 (.6) (.6) .2 .2
Foreign currency
options 99.2 -- 1.9 1.4 -- --
Foreign currency
swaps 15.0 -- .4 .4 -- --
129.9 21.2 1.7 1.2 .2 .2
$5,844.9 $6,108.7 $23.7 $5.8 $19.4 $30.5
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
7. Restrictions, Commitments and Contingencies (continued)
A reconciliation and discussion of the notional or contract amounts for the
significant programs using derivative agreements and contracts is as follows:
<TABLE>
<CAPTION>
Interest Rate Caps Spread Locks
December 31 December 31
1995 1994 1995 1994
(in millions)
<S> <C> <C> <C> <C>
Balance at beginning of year $4,400.0 $3,800.0 $1,300.0 $1,700.0
New contracts 710.0 600.0 800.0 --
Terminations and maturities -- -- (1,500.0) (400.0)
Balance at end of year $5,110.0 $4,400.0 $ 600.0 $1,300.0
</TABLE>
<TABLE>
<CAPTION>
Financial Futures
Contracts Options
1995 1994 1995 1994
(in millions)
<S> <C> <C> <C> <C>
Balance at beginning of year $ 382.5 $ 33.1 $ -- $ --
New contracts 810.5 1,087.7 181.6 308.0
Terminations and maturities (1,193.0) (738.3) (181.6) (308.0)
Balance at end of year $ -- $ 382.5 $ -- $ --
</TABLE>
<TABLE>
<CAPTION>
Foreign Currency Derivatives
Foreign
Exchange Foreign Foreign
Forward Currency Currency
Contracts Options Swaps
1995 1994 1995 1994 1995 1994
(in millions)
<S> <C> <C> <C> <C> <C> <C>
Balance at beginning of year $ 21.2 $ -- $ -- $-- $ -- $--
New contracts 131.2 38.5 356.6 -- 15.0 --
Terminations and maturities (136.7) (17.3) (257.4) -- -- --
Balance at end of year $ 15.7 $21.2 $ 99.2 $-- $15.0 $--
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
7. Restrictions, Commitments and Contingencies (continued)
Interest Rate Caps
The interest rate cap agreements, which expire in 1997 through 2003, entitle
the Company to receive payments from the counterparties on specified future
reset dates, contingent on future interest rates. For each cap, the amount of
such quarterly payments, if any, is determined by the excess of a market
interest rate over a specified cap rate times the notional amount divided by
four. The purpose of the Company's interest rate cap agreement program is to
protect its annuity line of business from the effect of fluctuating interest
rates. The premium paid for the interest rate caps is included in other
assets ($22,700,000 and $23,400,000 as of December 31, 1995 and 1994,
respectively) and is being amortized over the terms of the agreements and is
included in net investment income.
Spread Locks
Spread-lock agreements in effect at December 31, 1995 all expire in 2005.
Spread-lock agreements provide for a lump sum payment to or by the Company
depending on whether the spread between the swap rate and a specified U.S.
Treasury note is larger or smaller than a contractually specified spread.
Cash payments are based on the product of the notional amount, the spread
between the swap rate and the yield of an equivalent maturity U.S. Treasury
security and the price sensitivity of the swap at that time, expressed in
dollars per basis point. The purpose of the Company's spread-lock program is
to protect a portion of its fixed maturity securities against widening of
spreads.
Financial Futures
The Company uses exchange-traded financial futures contracts and options on
those financial futures to hedge against interest rate risks and to manage
duration of a portion of its fixed maturity securities. Financial futures
contracts obligate the Company to buy or sell a financial instrument at a
specified future date for a specified price and may be settled in cash or
through delivery of the financial instrument. Cash settlements on the change
in market values of financial futures contracts are made daily. Options on
financial futures give the Company the right, but not the obligation, to
assume a long or short position in the underlying futures at a specified price
during a specified time period.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
7. Restrictions, Commitments and Contingencies (continued)
Foreign Currency Derivatives
The Company uses a combination of foreign exchange forward contracts, foreign
currency options and foreign currency swaps, all of which are traded over-the-
counter, to hedge some of the foreign exchange risk of investments in fixed
maturity securities denominated in foreign currencies. The foreign currency
forward contracts obligate the Company to deliver a specified amount of
currency at a future date at a specified exchange rate. Foreign currency
options give the Company the right, but not the obligation, to buy or sell a
foreign currency at a specific exchange rate during a specified time period.
A foreign currency swap is a contractual agreement to exchange the currencies
of two different countries pursuant to an agreement to reexchange the two
currencies at the same rate of exchange at a specified future date.
Additional Derivative Information
Expenses for the agreements and contracts described above amounted to
$5,600,000 and $5,400,000 in 1995 and 1994, respectively. Deferred losses of
$21,800,000 as of December 31, 1995, resulting from 1) terminated and expired
spread-lock agreements, 2) financial futures contracts and 3) options on
financial futures, are included with the related fixed maturity securities to
which the hedge applied and are being amortized over the life of such
securities.
The Company is exposed to credit loss in the event of nonperformance by
counterparties on interest rate cap agreements, spread-lock agreements,
interest rate swaps, foreign exchange forward contracts, foreign currency
options and foreign currency swaps, but the Company does not anticipate
nonperformance by any of these counterparties. The credit risk associated
with such agreements is minimized by purchasing such agreements from financial
institutions with long-standing, superior performance records. The amount of
such exposure is essentially the net replacement cost or market value for such
agreements with each counterparty if the net market value is in the Company's
favor. At December 31, 1995, the exposure was $6,900,000.
8. Fair Value of Financial Instruments
The following discussion outlines the methodologies and assumptions used to
determine the estimated fair value of the Company's financial instruments.
Considerable judgment is required to develop these fair values and,
accordingly, the estimates shown are not necessarily indicative of the amounts
that would be realized in a one time, current market exchange of all of the
Company's financial instruments.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
8. Fair Value of Financial Instruments (continued)
Fixed Maturity and Equity Securities
Fair values for fixed maturity securities are based on quoted market prices,
where available. For fixed maturity securities not actively traded, fair
values are estimated using values obtained from independent pricing services
or, in the case of private placements, are estimated by discounting expected
future cash flows using a current market rate applicable to the coupon rate,
credit quality and maturity of the investments. The fair values for equity
securities are based on quoted market prices.
Mortgage Loans on Real Estate
The estimated fair value of mortgage loans on real estate was established
using a discounted cash flow method based on credit rating, maturity and
future income when compared to the expected yield for mortgages having similar
characteristics. The rating for mortgages in good standing are based on
property type, location, market conditions, occupancy, debt service coverage,
loan to value, caliber of tenancy, borrower and payment record. Fair values
for impaired mortgage loans are measured based either on the present value of
expected future cash flows discounted at the loan's effective interest rate,
at the loan's market price or the fair value of the collateral if the loan is
collateral dependent.
Policy Loans
The estimated fair value of investments in policy loans was calculated on a
composite discounted cash flow basis using Treasury interest rates consistent
with the maturity durations assumed. These durations were based on historical
experience.
Other Investments and Cash and Invested Cash
The carrying value for assets classified as other investments and cash and
invested cash in the accompanying balance sheets approximates their fair
value.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
8. Fair Value of Financial Instruments (continued)
Investment Type Insurance Contracts
The balance sheet captions, "Future Policy Benefits, Claims and Claims
Expenses" and "Contractholder Funds," include investment type insurance
contracts (i.e., deposit contracts and guaranteed interest contracts). The
fair values for the deposit contracts and certain guaranteed interest
contracts are based on their approximate surrender values. The fair values
for the remaining guaranteed interest and similar contracts are estimated
using discounted cash flow calculations based on interest rates currently
being offered on similar contracts with maturities consistent with those
remaining for the contracts being valued.
The remainder of the balance sheet captions, "Future Policy Benefits, Claims
and Claims Expenses" and "Contractholder Funds," that do not fit the
definition of "investment type insurance contracts" are considered insurance
contracts. Fair value disclosures are not required for these insurance
contracts and have not been determined by the Company. It is the Company's
position that the disclosure of the fair value of these insurance contracts is
important in that readers of these financial statements could draw
inappropriate conclusions about the Company's shareholder's equity determined
on a fair value basis if only the fair value of assets and liabilities defined
as financial instruments are disclosed. The Company and other companies in
the insurance industry are monitoring the related actions of the various rule-
making bodies and attempting to determine an appropriate methodology for
estimating and disclosing the "fair value" of their insurance contract
liabilities.
Short-Term and Long-Term Debt
Fair values for long-term debt issues are estimated using discounted cash flow
analysis based on the Company's current incremental borrowing rate for similar
types of borrowing arrangements. For short-term debt, the carrying value
approximates fair value.
Guarantees
The Company's guarantees include guarantees related to real estate
partnerships and mortgage loan pass-through certificates. Based on historical
performance where repurchases have been negligible and the current status,
which indicates none of the loans are delinquent, the fair value liability for
the guarantees related to the mortgage loan pass-through certificates is
insignificant. Fair values for all other guarantees are based on fees that
would be charged currently to enter into similar agreements, taking into
consideration the remaining terms of the agreements and the counterparties'
credit standing.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
8. Fair Value of Financial Instruments (continued)
Derivatives
The Company's derivatives include interest rate cap agreements, spread-lock
agreements, foreign currency exchange contracts, financial futures contracts,
options on financial futures, interest rate swaps, foreign currency options
and foreign currency swaps. Fair values for these contracts are based on
current settlement values. The current settlement values are based on quoted
market prices for the foreign currency exchange contracts, financial future
contracts and options on financial futures and on brokerage quotes, which
utilized pricing models or formulas using current assumptions, for all other
swaps and agreements.
Investment Commitments
Fair values for commitments to make investment in fixed maturity securities
(primarily private placements), mortgage loans on real estate and real estate
are based on the difference between the value of the committed investments as
of the date of the accompanying balance sheets and the commitment date, which
would take into account changes in interest rates, the counterparties' credit
standing and the remaining terms of the commitments.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
8. Fair Value of Financial Instruments (continued)
The carrying values and estimated fair values of the Company's financial
instruments are as follows:
<TABLE>
<CAPTION>
December 31
1995 1994
Carrying Fair Carrying Fair
Assets (Liabilities) Value Value Value Value
(in millions)
<S> <C> <C> <C> <C>
Fixed maturity securities $20,414.8 $20,414.8 $17,692.2 $17,692.2
Equity securities 598.4 598.4 456.3 456.3
Mortgage loans on real estate 3,147.8 3,330.5 2,795.9 2,720.6
Policy loans 565.3 557.4 528.7 508.1
Other investments 241.2 241.2 158.2 158.2
Cash and invested cash 802.7 802.7 990.9 990.9
Investment type
insurance contracts:
Deposit contracts and
certain guaranteed
interest contracts (15,390.8) (15,179.1) (14,294.7) (14,052.5)
Remaining guaranteed
interest and similar
contracts (2,470.9) (2,396.5) (2,485.5) (2,423.9)
Short-term debt (124.8) (124.8) (153.7) (153.7)
Long-term debt (40.8) (36.7) (54.8) (57.0)
Derivatives 23.7 5.8 19.4 30.5
Investment commitments -- (.8) -- (.5)
</TABLE>
As of December 31, 1995 and 1994, the carrying value of the deposit contracts
and certain guaranteed contracts is net of deferred acquisition costs of
$333,797,000 and $399,000,000, respectively, excluding adjustments for
deferred acquisition costs applicable to changes in fair value of securities.
The carrying values of these contracts are stated net of deferred acquisition
costs in order that they be comparable with the fair value basis.
9. Segment Information
The Company has two major business segments: Life Insurance and Annuities and
Reinsurance. The Life Insurance and Annuities segment offers universal life,
pension products and other individual coverages through a network of career
agents, independent general agencies and insurance agencies located within a
variety of financial institutions. These products are sold throughout the
United States by the Company. Reinsurance sells reinsurance products and
services to insurance companies, HMOs, self-funded employers and other primary
risk accepting organizations in the U.S. and economically attractive
international markets. Effective in the fourth quarter of 1995, operating
results of the direct disability income business previously included in the
Life Insurance and Annuities segment is now included in the Reinsurance
segment. This direct disability income business, which is no longer being
sold, is now managed by the Reinsurance segment along with its disability
income business. Prior to the sale of 100% of the ownership of its primary
underwriter of employee life-health benefit coverages in 1994 (see Note 10),
the Employee Life-Health Benefits segment distributed group life and health
insurance, managed health care and other related coverages through career
agents and independent general agencies. Activity which is not included in
the major business segments is shown as "Other Operations."
"Other Operations" includes operations not directly related to the business
segments and unallocated corporate items (i.e., corporate investment income,
interest expense on corporate debt and unallocated corporate overhead
expenses).
The revenue, pre-tax income and assets by segment for 1993 through 1995 are as
follows:
<TABLE>
<CAPTION>
Year ended December 31
1995 1994 1993
(in millions)
<S> <C> <C> <C>
Revenue:
Life Insurance and Annuities $2,569.2 $2,065.3 $2,341.9
Reinsurance 751.2 660.4 610.7
Employee Life-Health Benefits -- 314.9 1,326.8
Other Operations 16.1 74.6 (28.8)
Total $3,336.5 $3,115.2 $4,250.6
Income (loss) before income taxes and
cumulative effect of accounting change:
Life Insurance and Annuities $ 361.0 $ 75.6 $ 265.3
Reinsurance 83.5 93.9 31.6
Employee Life-Health Benefits -- 22.9 83.0
Other Operations 5.0 67.8 (44.2)
Total $ 449.5 $ 260.2 $ 335.7
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
9. Segment Information (continued)
<TABLE>
<CAPTION>
December 31
1995 1994 1993
(in millions)
<S> <C> <C> <C>
Assets:
Life Insurance and Annuities $45,280.0 $37,675.9 $36,021.0
Reinsurance 3,383.5 2,311.5 2,328.9
Employee Life-Health Benefits -- -- 588.5
Other Operations 923.6 1,038.1 770.0
Total $49,587.1 $41,025.5 $39,708.4
</TABLE>
Provisions for depreciation and capital additions were not material.
10. Sale of Affiliates
In December 1993, the Company recorded a provision for loss of $98,500,000
(also $98,500,000 after-tax) in the "Other Operations" segment for the sale of
Security-Connecticut Life Insurance Company ("Security-Connecticut"). The
sale was completed on February 2, 1994 through an initial public offering and
the Company received cash and notes, net of related expenses, totaling
$237,700,000. The loss on sale and disposal expenses did not differ
materially from the estimate recorded in the fourth quarter of 1993. For the
year ended December 31, 1993, Security-Connecticut, which operated in the Life
Insurance and Annuities segment, had revenue of $274,500,000 and net income of
$24,000,000.
In 1994, the Company completed the sale of 100% of the common stock of
EMPHESYS (parent company of Employers Health Insurance Company, which
comprised the Employee Life-Health Benefits segment) for $348,200,000 of cash,
net of related expenses, and a $50,000,000 promissory note. A gain on sale of
$69,000,000 (also $69,000,000 after-tax) was recognized in 1994 in "Other
Operations". For the year ended December 31, 1993, EMPHESYS had revenues of
$1,304,700,000 and net income of $55,300,000. EMPHESYS had revenue and net
income of $314,900,000 and $14,400,000, respectively, during the three months
of ownership in 1994.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
11. Subsequent Event
In January 1996, LNC announced that it had signed a definitive agreement to
acquire the group tax-sheltered annuity business of UNUM Corporation's
affiliates. This purchase is expected to be completed in the form of a
reinsurance transaction with an initial ceding commission of approximately
$70,000,000. This ceding commission represents the present value of business
in-force and, accordingly, will be classified as other intangible assets upon
the close of this transaction. This transaction, which is expected to close
in the third quarter of 1996, will increase LNC's assets and policy
liabilities and accruals by approximately $3,200,000,000.
12. Transactions With Affiliates
A wholly owned subsidiary of LNC, Lincoln Financial Group, Inc. ("LFGI"), has
a nearly exclusive general agents contract with the Company under which it
sells the Company's products and provides the service that otherwise would be
provided by a home office marketing department and regional offices. For
providing these selling and marketing services, the Company paid LFGI override
commissions and operating expense allowances of $81,900,000, $78,500,000 and
$74,500,000 in 1995, 1994 and 1993, respectively. LFGI incurred expenses of
$10,400,000, $10,700,000 and $10,500,000 in 1995, 1994 and 1993, respectively,
in excess of the override commission and operating expense allowances received
from the Company, which the Company is not required to reimburse.
Cash and invested cash at December 31, 1995 and 1994 include the Company's
participation in a short-term investment pool with LNC of $333,800,000 and
$428,300,000, respectively. Related investment income amounted to
$22,500,000, $17,100,000 and $9,100,000 in 1995, 1994 and 1993, respectively.
Short-term debt at December 31, 1995 and 1994 includes $67,000,000 and
$68,600,000, respectively, borrowed from LNC. The Company paid interest to
LNC of $24,000, $8,000 and $137,000 in 1995, 1994 and 1993, respectively.
The Company provides services to and receives services from affiliated
companies which resulted in a net receipt of $7,500,000, $13,900,000 and
$18,900,000 in 1995, 1994 and 1993, respectively.
<PAGE>
The Lincoln National Life Insurance Company
Notes to Consolidated Financial Statements (continued)
12. Transactions With Affiliates (continued)
The Company both cedes and accepts reinsurance from affiliated companies.
Premiums in the accompanying statements of income includes reinsurance
transactions with affiliated companies as follows:
<TABLE>
<CAPTION>
Year ended
December 31
1995 1994
(in millions)
<S> <C> <C>
Insurance assumed $ 17.6 $ 19.8
Insurance ceded 214.4 481.3
</TABLE>
The balance sheets include reinsurance balances with affiliated companies as
follows:
<TABLE>
<CAPTION>
December 31
1995 1994
(in millions)
<S> <C> <C>
Future policy benefits and claims assumed $ 344.8 $341.3
Future policy benefits and claims ceded 1,344.5 857.7
Amounts recoverable on paid and unpaid losses 65.9 36.8
Reinsurance payable on paid losses 5.5 3.5
Funds held under reinsurance treaties-net liability 712.3 238.4
</TABLE>
Substantially all reinsurance ceded to affiliated companies is with
unauthorized companies. To take a reserve credit for such reinsurance, the
Company holds assets from the reinsurer, including funds held under
reinsurance treaties, and is the beneficiary on letters of credit aggregating
$340,800,000 and $308,200,000 at December 31, 1995 and 1994, respectively. At
December 31, 1995 and 1994, LNC had guaranteed $275,300,000 and $298,200,000,
respectively, of these letters of credit. At December 31, 1995, the Company
has a receivable (included in the foregoing amounts) from affiliated insurance
companies in the amount of $241,900,000 for statutory surplus relief received
under financial reinsurance ceded agreements.
<PAGE>
Report of Ernst & Young LLP, Independent Auditors
Board of Directors
The Lincoln National Life Insurance Company
We have audited the accompanying consolidated balance sheets of The Lincoln
National Life Insurance Company, a wholly owned subsidiary of Lincoln National
Corporation, as of December 31, 1995 and 1994, and the related consolidated
statements of income, shareholder's equity and cash flows for each of the three
years in the period ended December 31, 1995. Our audits also included the
financial statement schedules listed on B- . These financial statements and
schedules are the responsibility of the Company's management. Our responsibility
is to express an opinion on these financial statements and schedules 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 financial statements referred to above present fairly, in
all material respects, the consolidated financial position of The Lincoln
National Life Insurance Company at December 31, 1995, and 1994, and the
consolidated results of its operations and its cash flows for each of the three
years in the period ended December 31, 1995, in conformity with generally
accepted accounting principles. Also, in our opinion, the related financial
statement schedules, when considered in relation to the basic financial
statements taken as a whole, present fairly in all material respects the
information set forth therein.
As discussed in Note 2 to the consolidated financial statements, in 1993 the
Company changed its method of accounting for postretirement benefits other than
pensions, accounting for impairment of loans and accounting for certain
investments in debt and equity securities.
/S/ ERNST & YOUNG LLP
Fort Wayne, Indiana
February 7, 1996
<PAGE>
FINANCIAL SCHEDULES
The following consolidated financial statement schedules of The Lincoln National
Life Insurance Company and subsidiaries are included on Pages B- through
B- .
I Summary of Investments Other than Investments in Related Parties December
31, 1995
III Supplementary Insurance Information Years ended December 31, 1995, 1994 and
1993
IV Reinsurance Years ended December 31, 1995, 1994 and 1993
V Valuation and Qualifying Accounts Years ended December 31, 1995, 1994 and
1993
All other schedules for which provision is made in the applicable accounting
regulation of the Securities and Exchange Commission are not required under the
related instructions, are inapplicable or the required information is included
in the consolidated financial statements, and therefore have been omitted.
<PAGE>
The Lincoln National Life Insurance Company and Subsidiaries
Schedule I
Summary of Investments Other Than Investments in Related Parties
December 31, 1995
(000's omitted)
<TABLE>
<CAPTION>
Column A Column B Column C Column D
Amount at
Which
Shown in
the Balance
Type of Investment Cost Value Sheet
<S> <C> <C> <C>
Fixed maturity securities available-for-sale:
Bonds:
United States Government and
government agencies and authorities $ 569,552 $ 653,444 $ 653,444
States, municipalities
and political subdivisions 12,325 12,375 12,375
Mortgage-backed securities 4,891,521 5,184,751 5,184,751
Foreign governments 927,901 997,567 997,567
Public utilities 2,572,309 2,772,990 2,772,990
Convertibles and bonds
with warrants attached 181,431 199,658 199,658
All other corporate bonds 9,658,371 10,551,770 10,551,770
Redeemable preferred stocks 39,427 42,230 42,230
Total fixed maturity securities 18,852,837 20,414,785 20,414,785
Equity securities available-for-sale:
Common stocks:
Public utilities 8,980 10,989 10,989
Banks, trust and insurance companies 74,897 89,197 89,197
Industrial, miscellaneous and all other 345,434 436,556 436,556
Nonredeemable preferred stocks 50,950 61,693 61,693
Total equity securities 480,261 598,435 598,435
Mortgage loans on real estate 3,176,275 3,147,783 (A)
Real estate:
Investment properties 635,135 635,135
Acquired in satisfaction of debt 157,441 110,888 (A)
Policy loans 565,325 565,325
Other investments 253,015 241,219 (A)
Total investments $24,120,189 $25,713,570
</TABLE>
(A) Investments which are deemed to have declines in value that are other than
temporary are written down or reserved for to reduce their carrying value to
their estimated realizable value.
<PAGE>
The Lincoln National Life Insurance Company and Subsidiaries
Schedule III
Supplementary Insurance Information
(000's omitted)
<TABLE>
<CAPTION>
Column A Column B Column C Column D Column E Column F
Future Policy
Benefits, Other Policy
Deferred Claims and Claims and
Acquisition Claim Unearned Benefits Premium
Segment Costs Expenses Premiums Payable Revenue (A)
<S> <C> <C> <C> <C> <C>
Year ended December 31, 1995:
Life insurance and annuities $ 713,213 $6,530,475 $ 9,145 $-- $ 685,258
Reinsurance 247,921 1,855,039 45,951 -- 611,416
Other (including consolidating
adjustments) (7,300) 49,505 78 -- 622
Total $ 953,834 $8,435,019 $ 55,174 $-- $1,297,296
Year ended December 31, 1994:
Life insurance and annuities $1,427,692 $5,888,581 $ 11,201 $-- $ 647,416
Reinsurance 304,913 1,626,033 51,618 -- 542,034
Employee life-health benefits -- -- -- -- 299,338
Other (including consolidating
adjustments) 3,921 26,158 (1,347) -- 1,076
Total $1,736,526 $7,540,772 $ 61,472 $-- $1,489,864
Year ended December 31, 1993:
Life insurance and annuities $ 999,126 $6,782,207 $ 5,188 $-- $ 662,353
Reinsurance 298,787 1,616,088 54,157 -- 491,397
Employee life-health benefits -- 228,892 -- -- 1,243,576
Other (including consolidating
adjustments) -- 171,043 315 -- 387
Total $1,297,913 $8,798,230 $ 59,660 $-- $2,397,713
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company and Subsidiaries
Schedule III
Supplementary Insurance Information (continued)
(000's omitted)
<TABLE>
<CAPTION>
Column A Column G Column H Column I Column J Column K
Amortization
Benefits, of Deferred
Net Claims and Policy Other
Investment Claim Acquisition Operating Premium
Segment Income (B) Expenses Costs Expenses (B) Written
<S> <C> <C> <C> <C> <C>
Year ended December 31, 1995:
Life insurance and annuities $1,741,231 $1,649,119 $298,020 $261,016 $--
Reinsurance 134,000 472,198 101,729 93,750 --
Other (including consolidating
adjustments) 24,399 1,299 -- 9,898 --
Total $1,899,630 $2,122,616 $399,749 $364,664 $--
Year ended December 31, 1994:
Life insurance and annuities $1,542,552 $1,554,479 $ 85,697 $349,529 $--
Reinsurance 116,957 419,266 29,477 117,238 --
Employee life-health benefits (C) 10,838 218,672 -- 73,355 --
Other (including consolidating
adjustments) 3,634 1,630 -- 5,682 --
Total $1,673,981 $2,194,047 $115,174 $545,804 $--
Year ended December 31, 1993:
Life insurance and annuities $1,676,163 $1,615,883 $197,363 $268,066 $--
Reinsurance 115,582 467,824 38,351 72,840 --
Employee life-health benefits 54,513 943,235 -- 300,648 --
Other (including consolidating
adjustments) (22,799) 6,197 5,275 (744) --
Total $1,823,459 $3,033,139 $240,989 $640,810 $--
(A) Includes insurance fees on universal life and other interest sensitive products.
(B) The allocation of expenses between investments and other operations are based on a number of assumptions and estimates.
Results would change if different methods were applied.
(C) Includes data through the March 21, 1994 date of sale of the direct writer of employee life-health coverages.
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company and Subsidiaries
Schedule IV
Reinsurance (A)
(000's omitted)
<TABLE>
<CAPTION>
Column A Column B Column C Column D Column E Column F
Percentage
Ceded Assumed of Amount
Gross to Other from Other Net Assumed
Amount Companies Companies Amount to Net
<S> <C> <C> <C> <C> <C>
Year ended December 31, 1995:
Life insurance in force $ 51,570,782 $17,612,782 $142,794,000 $176,752,000 80.8%
Premiums:
Health insurance 302,463 299,222 273,572 276,813 98.8
Life insurance (B) 658,936 142,523 504,070 1,020,483 49.4
Total $ 961,399 $ 441,745 $ 777,642 $ 1,297,296
Year ended December 31, 1994:
Life insurance in force $ 79,802,000 $45,822,000 $125,640,000 $159,620,000 78.7%
Premiums:
Health insurance 666,609 496,090 359,659 530,178 67.8
Life insurance (B) 629,185 220,678 551,179 959,686 57.4
Total $ 1,295,794 $ 716,768 $ 910,838 $ 1,489,864
Year ended December 31, 1993:
Life insurance in force $135,401,000 $61,401,000 $109,257,000 $183,257,000 59.6%
Premiums:
Health insurance 1,387,414 217,705 262,171 1,431,880 18.3
Life insurance (B) 771,408 350,907 545,332 965,833 56.5
Total $ 2,158,822 $ 568,612 $ 807,503 $ 2,397,713
(A) Special-purpose bulk reinsurance transactions have been excluded.
(B) Includes insurance fees on universal life and other interest sensitive products.
</TABLE>
<PAGE>
The Lincoln National Life Insurance Company and Subsidiaries
Schedule V
Valuation and Qualifying Accounts
(000's omitted)
<TABLE>
<CAPTION>
Column A Column B Column C Column D Column E
Additions
(1) (2)
Charged
Charged to
Balance at to Other Balance at
Beginning Costs and Accounts- Deductions- End of
of Period Expenses (A) Describe Describe (B) Period
<S> <C> <C> <C> <C> <C>
Year ended December 31, 1995:
Deducted from asset accounts:
Reserve for mortgage loans on real estate $ 56,614 $ 2,659 $-- $ (30,781) $ 28,492
Reserve for real estate 65,186 (7,227) -- (11,406) 46,553
Reserve for other long-term investments 13,492 (1,541) -- (155) 11,796
Year ended December 31, 1994:
Deducted from asset accounts:
Reserve for mortgage loans on real estate $220,671 $ 19,464 $-- $(183,521) $ 56,614
Reserve for real estate 121,427 13,058 -- (69,299) 65,186
Reserve for other long-term investments 26,730 262 -- (13,500) 13,492
Included in other liabilities:
Investment guarantees 1,804 4,280 -- (6,084) --
Year ended December 31, 1993:
Deducted from asset accounts:
Reserve for mortgage loans on real estate $129,093 $136,717 $-- $ (45,139) $220,671
Reserve for real estate 114,178 21,776 -- (14,527) 121,427
Reserve for other long-term investments 31,582 3,905 -- (8,757) 26,730
Included in other liabilities:
Investment guarantees 12,550 1,674 -- (12,420) 1,804
(A) Exclude charges for the direct write-off of assets. The negative amounts represent improvements in the underlying assets for
which valuation accounts had previously been established.
(B) Deductions reflect sales or foreclosures of the underlying holdings.
</TABLE>
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
BALANCE SHEETS--STATUTORY BASIS
<TABLE>
<CAPTION>
December 31
1996 1995
--------- ---------
(in millions)
--------------------
<S> <C> <C>
ADMITTED ASSETS
CASH AND INVESTMENTS:
Bonds $19,389.6 $17,729.7
- -------------------------------------------------------------------------------------------------------
Preferred stocks 239.7 89.9
- -------------------------------------------------------------------------------------------------------
Unaffiliated common stocks 358.3 535.5
- -------------------------------------------------------------------------------------------------------
Affiliated common stocks 241.5 193.0
- -------------------------------------------------------------------------------------------------------
Mortgage loans on real estate 2,976.7 2,909.7
- -------------------------------------------------------------------------------------------------------
Real estate 621.3 655.2
- -------------------------------------------------------------------------------------------------------
Policy loans 626.5 515.8
- -------------------------------------------------------------------------------------------------------
Other investments 282.7 248.0
- -------------------------------------------------------------------------------------------------------
Cash and short-term investments 759.2 780.9
- ----------------------------------------------------------------------------------- --------- ---------
Total cash and investments 25,495.5 23,657.7
- -------------------------------------------------------------------------------------------------------
Premiums and fees in course of collection 60.9 17.1
- -------------------------------------------------------------------------------------------------------
Accrued investment income 343.6 342.5
- -------------------------------------------------------------------------------------------------------
Funds withheld by ceding companies 25.8 595.3
- -------------------------------------------------------------------------------------------------------
Other admitted assets 355.7 217.7
- -------------------------------------------------------------------------------------------------------
Separate account assets 23,735.1 18,461.6
- ----------------------------------------------------------------------------------- --------- ---------
Total admitted assets $50,016.6 $43,291.9
- ----------------------------------------------------------------------------------- ========= =========
LIABILITIES AND CAPITAL AND SURPLUS
LIABILITIES:
Future policy benefits and claims $ 5,954.0 $ 5,713.3
- -------------------------------------------------------------------------------------------------------
Other policyholder funds 17,262.4 15,598.5
- -------------------------------------------------------------------------------------------------------
Amounts withheld or retained by Company as agent or trustee 250.2 499.3
- -------------------------------------------------------------------------------------------------------
Funds held under reinsurance treaties 564.6 1,053.5
- -------------------------------------------------------------------------------------------------------
Asset valuation reserve 375.5 270.0
- -------------------------------------------------------------------------------------------------------
Interest maintenance reserve 76.7 116.3
- -------------------------------------------------------------------------------------------------------
Other liabilities 490.9 391.3
- -------------------------------------------------------------------------------------------------------
Federal income taxes 4.3 3.2
- -------------------------------------------------------------------------------------------------------
Net transfers due from separate accounts (659.7) (548.0)
- -------------------------------------------------------------------------------------------------------
Separate account liabilities 23,735.1 18,461.6
- ----------------------------------------------------------------------------------- --------- ---------
Total liabilities 48,054.0 41,559.0
- -------------------------------------------------------------------------------------------------------
CAPITAL AND SURPLUS:
Common stock, $2.50 par value:
Authorized, issued and outstanding shares--10 million (owned by Lincoln National
Corporation) 25.0 25.0
- -------------------------------------------------------------------------------------------------------
Paid-in surplus 883.4 783.4
- -------------------------------------------------------------------------------------------------------
Unassigned surplus 1,054.2 924.5
- ----------------------------------------------------------------------------------- --------- ---------
Total capital and surplus 1,962.6 1,732.9
- ----------------------------------------------------------------------------------- --------- ---------
Total liabilities and capital and surplus $50,016.6 $43,291.9
- ----------------------------------------------------------------------------------- ========= =========
</TABLE>
See accompanying notes.
S-1
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
STATEMENTS OF INCOME--STATUTORY BASIS
<TABLE>
<CAPTION>
Year ended December 31
1996 1995 1994
-----------------------
(in millions)
--------------------------
<S> <C> <C> <C>
PREMIUMS AND OTHER REVENUES:
Premiums and deposits $7,268.5 $4,899.1 $5,648.7
- -------------------------------------------------------------------------------
Net investment income 1,756.3 1,772.2 1,606.8
- -------------------------------------------------------------------------------
Amortization of interest maintenance reserve 27.2 34.0 9.8
- -------------------------------------------------------------------------------
Commissions and expense allowances on reinsurance
ceded 90.9 98.3 145.0
- -------------------------------------------------------------------------------
Expense charges on deposit funds 100.7 83.2 70.5
- -------------------------------------------------------------------------------
Other income 16.8 14.5 15.6
- --------------------------------------------------- -------- -------- --------
Total revenues 9,260.4 6,901.3 7,496.4
- -------------------------------------------------------------------------------
BENEFITS AND EXPENSES:
Benefits and settlement expenses 5,989.9 4,184.0 5,071.6
- -------------------------------------------------------------------------------
Underwriting, acquisition, insurance and other
expenses 2,878.5 2,345.7 2,136.1
- --------------------------------------------------- -------- -------- --------
Total benefits and expenses 8,868.4 6,529.7 7,207.7
- --------------------------------------------------- -------- -------- --------
Gain from operations before dividends to
policyholders, income taxes and net realized gain
on investments 392.0 371.6 288.7
- -------------------------------------------------------------------------------
Dividends to policyholders 27.3 27.3 18.0
- --------------------------------------------------- -------- -------- --------
Gain from operations before federal income taxes
and net realized gain on investments 364.7 344.3 270.7
- -------------------------------------------------------------------------------
Federal income taxes 83.6 103.7 52.8
- --------------------------------------------------- -------- -------- --------
Gain from operations before net realized gain on
investments 281.1 240.6 217.9
- -------------------------------------------------------------------------------
Net realized gain on investments, net of income tax
expense (benefits) [1996--$28.5; 1995--$48.1;
1994--$(178.1)] and excluding net transfers to
(from) the interest maintenance reserve [1996--
$(12.4); 1995--$94.9; 1994--$(147.1)] 53.3 43.9 124.0
- --------------------------------------------------- -------- -------- --------
Net income $ 334.4 $ 284.5 $ 341.9
- --------------------------------------------------- ======== ======== ========
</TABLE>
See accompanying notes.
S-2
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
STATEMENTS OF CHANGES IN CAPITAL AND SURPLUS--STATUTORY BASIS
<TABLE>
<CAPTION>
Year
ended
December
31
1996 1995 1994
-------- -------- --------
(in millions)
----------------------------
<S> <C> <C> <C>
Capital and surplus at beginning of year $1,732.9 $1,679.6 $1,302.5
- ----------------------------------------------------------------
CAPITAL AND SURPLUS INCREASE (DECREASE):
Net income 334.4 284.5 341.9
- ----------------------------------------------------------------
Differences in cost and admitted investment amounts 38.6 143.2 (123.3)
- ----------------------------------------------------------------
Nonadmitted assets (3.0) 2.9 (3.2)
- ----------------------------------------------------------------
Regulatory liability for reinsurance 0.6 (2.0) (1.1)
- ----------------------------------------------------------------
Life policy reserve valuation basis (0.4) 2.9 (1.3)
- ----------------------------------------------------------------
Asset valuation reserve (105.5) (112.5) 83.8
- ----------------------------------------------------------------
Mortgage loan, real estate and other investment reserves -- 2.2 218.6
- ----------------------------------------------------------------
Paid-in surplus 100.0 15.1 --
- ----------------------------------------------------------------
Separate account receivable due to change in valuation -- 27.0 --
- ----------------------------------------------------------------
Accounting for separate account contracts -- -- (13.3)
- ----------------------------------------------------------------
Dividends to shareholder (135.0) (310.0) (125.0)
- ---------------------------------------------------------------- -------- -------- --------
Capital and surplus at end of year $1,962.6 $1,732.9 $1,679.6
- ---------------------------------------------------------------- ======== ======== ========
</TABLE>
SEE ACCOMPANYING NOTES.
S-3
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
STATEMENTS OF CASH FLOWS--STATUTORY BASIS
<TABLE>
<CAPTION>
Year ended December 31
1996 1995 1994
----------------------------------
(in millions)
----------------------------------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Premiums, policy proceeds and other considerations received $ 8,059.4 $ 5,430.9 $ 5,654.5
- -------------------------------------------------------------------------------------
Allowances and reserve adjustments received (paid) on
reinsurance ceded (767.5) (383.6) 137.1
- -------------------------------------------------------------------------------------
Investment income received 1,700.6 1,713.2 1,588.5
- -------------------------------------------------------------------------------------
Benefits paid (4,050.4) (3,239.6) (3,054.1)
- -------------------------------------------------------------------------------------
Insurance expenses paid (2,972.2) (2,513.5) (2,542.5)
- -------------------------------------------------------------------------------------
Federal income taxes recovered (paid) (72.3) 38.4 (191.8)
- -------------------------------------------------------------------------------------
Dividends to policyholders (27.7) (16.5) (18.4)
- -------------------------------------------------------------------------------------
Other income received and expenses paid, net 6.3 14.4 59.2
- -------------------------------------------------------------------------------------
---------- ---------- ----------
Net cash provided by operating activities 1,876.2 1,043.7 1,632.5
- -------------------------------------------------------------------------------------
INVESTING ACTIVITIES
Sale, maturity or repayment of investments 12,542.0 13,183.9 11,877.0
- -------------------------------------------------------------------------------------
Purchase of investments (14,175.4) (14,049.6) (12,871.8)
- -------------------------------------------------------------------------------------
Other uses (266.5) (64.0) (123.4)
- -------------------------------------------------------------------------------------
---------- ---------- ----------
Net cash used in investing activities (1,899.9) (929.7) (1,118.2)
- -------------------------------------------------------------------------------------
FINANCING ACTIVITIES
Surplus paid-in 100.0 15.1 --
- -------------------------------------------------------------------------------------
Proceeds from borrowings 100.0 63.0 63.0
- -------------------------------------------------------------------------------------
Repayment of borrowings (63.0) (63.0) (60.0)
- -------------------------------------------------------------------------------------
Dividends paid to shareholder (135.0) (310.0) (125.0)
- -------------------------------------------------------------------------------------
---------- ---------- ----------
Net cash provided by (used in) financing activities 2.0 (294.9) (122.0)
- -------------------------------------------------------------------------------------
---------- ---------- ----------
Net increase (decrease) in cash and short-term investments (21.7) (180.9) 392.3
- -------------------------------------------------------------------------------------
Cash and short-term investments at beginning of year 780.9 961.8 569.5
- -------------------------------------------------------------------------------------
---------- ---------- ----------
Cash and short-term investments at end of year $ 759.2 $ 780.9 $ 961.8
- -------------------------------------------------------------------------------------
========== ========== ==========
</TABLE>
See accompanying notes.
S-4
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS
1.SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES
ORGANIZATION AND OPERATIONS
The Lincoln National Life Insurance Company ("Company") is a wholly owned
subsidiary of Lincoln National Corporation ("LNC") and is domiciled in In-
diana. As of December 31, 1996, the Company owns 100% of the outstanding
common stock of four insurance company subsidiaries: First Penn-Pacific
Life Insurance Company, Lincoln National Health & Casualty Insurance Compa-
ny, Lincoln National Reassurance Company and Lincoln Life & Annuity Company
of New York.
The Company's principal business consist of underwriting annuities, depos-
it-type contracts, life and health insurance through multiple distribution
channels and the reinsurance of individual and group life and health busi-
ness. The Company is licensed and sells its products in 49 states, Canada
and several U.S. territories.
USE OF ESTIMATES
The preparation of financial statements requires management to make esti-
mates and assumptions that affect amounts reported in the financial state-
ments and accompanying notes. Such estimates and assumptions could change
in the future as more information becomes known, which could impact the
amounts reported and disclosed herein.
BASIS OF PRESENTATION
The accompanying financial statements have been prepared in conformity with
accounting practices prescribed or permitted by the Indiana Department of
Insurance, which practices differ from generally accepted accounting prin-
ciples ("GAAP"). The more significant variances from GAAP are as follows:
INVESTMENTS
Bonds are reported at cost or amortized cost or market value based on their
National Association of Insurance Commissioners ("NAIC") rating. For GAAP,
the Company's bonds are classified as available-for-sale and, accordingly,
are reported at fair value with changes in the fair values reported di-
rectly in shareholder's equity after adjustments for related amortization
of deferred acquisition costs, additional policyholder commitments and de-
ferred income taxes.
Investments in real estate are reported net of related obligation rather
than on a gross basis.
Changes between cost and admitted asset investment amounts are credited or
charged directly to unassigned surplus rather than to a separate surplus
account.
Under a formula prescribed by the NAIC, the Company defers the portion of
realized capital gains and losses on sales of fixed income investments,
principally bonds and mortgage loans, attributable to changes in the gen-
eral level of interest rates and amortizes those deferrals over the remain-
ing period to maturity of the individual security sold. The net deferral is
reported as the interest maintenance reserve in the accompanying balance
sheets. Realized capital gains and losses are reported in income net of
federal income tax and transfers to the interest maintenance reserve. The
asset valuation reserve is determined by an NAIC prescribed formula and is
reported as a liability rather than unassigned surplus. Under GAAP, real-
ized capital gains and losses are reported in the income statement on a
pre-tax basis in the period that the asset giving rise to the gain or loss
is sold and valuation allowances are provided when there has been a decline
in value deemed other than temporary, in which case, the provision for such
declines are charged to income.
SUBSIDIARIES
The accounts and operations of the Company's subsidiaries are not consoli-
dated with the accounts and operations of the Company as would be required
by GAAP. Under statutory accounting principles, the Company's subsidiaries
are carried at their statutory-basis net equity.
POLICY ACQUISITION COSTS
The costs of acquiring and renewing business are expensed when incurred.
Under GAAP, acquisition costs related to traditional life insurance, to the
extent recoverable from future policy revenues, are deferred and amortized
over the premium-paying period of the related policies using assumptions
consistent with those used in computing policy benefit reserves. For uni-
versal life insurance, annuity and other investment-type products, deferred
policy acquisition costs, to the extent recoverable from future gross prof-
its, are amortized generally in proportion to the present value of expected
gross profits from surrender charges and investment, mortality and expense
margins.
NONADMITTED ASSETS
Certain assets designated as "nonadmitted," principally furniture and
equipment and certain receivables, are excluded from the accompanying bal-
ance sheets and are charged directly to unassigned surplus.
PREMIUMS
Premiums and deposits with respect to universal life policies and annuity
and other investment-type contracts are reported as premium revenues;
whereas, under GAAP, such premiums and deposits are treated as liabilities
and policy charges represent revenues.
S-5
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
INCOME TAXES
Deferred income taxes are not provided for differences between financial
statement amounts and tax bases of assets and liabilities.
POLICYHOLDER DIVIDENDS
Policyholder dividends are recognized when declared rather than over the
term of the related policies.
Other significant accounting practices are as follows:
INVESTMENTS
The discount or premium on bonds is amortized using the interest method.
For mortgage-backed bonds, the Company recognizes income using a constant
effective yield based on anticipated prepayments and the estimated economic
life of the securities. When actual prepayments differ significantly from
anticipated prepayments, the effective yield is recalculated to reflect ac-
tual payments to date and anticipated future payments. The net investment
in the securities is adjusted to the amount that would have existed had the
new effective yield been applied since the acquisition of the securities.
Short-term investments include investments with maturities of less than one
year at the date of acquisition. The carrying amounts for these investments
approximate their fair values.
Preferred stocks are reported at cost or amortized cost.
Common stocks are reported at market value as determined by the Securities
Valuation Office of the NAIC and the related unrealized gains (losses) are
reported in unassigned surplus without adjustment for federal income taxes.
Policy loans are reported at unpaid balances.
The Company uses various derivative instruments as part of its overall lia-
bility-asset management program for certain investments and life insurance
and annuity products. The Company values all derivative instruments on a
basis consistent with that of the hedged item. Upon termination, gains and
losses on those instruments are included in the carrying values of the un-
derlying hedged items and are amortized over the remaining lives of the
hedged items as adjustments to investment income or benefits from the
hedged items. Any unamortized gains or losses are recognized when the un-
derlying hedged items are sold.
Mortgage loans on real estate are reported at unpaid balances, less allow-
ances for impairments. Real estate is reported at depreciated cost. As of
June 30, 1994, the Company changed its method of accounting for reserves on
impaired real estate and mortgage loans. The impaired investment is now
shown on a pre-tax basis as a nonadmitted asset. Previously, these reserves
were presented as a liability, net of related tax benefits, to approximate
the impact on surplus if losses were realized.
Realized investment gains and losses on investments sold are determined us-
ing the specific identification method. Changes in admitted asset carrying
amounts of
1.SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES CONTINUED
BENEFIT RESERVES
Certain policy reserves are calculated based on statutorily required inter-
est and mortality assumptions rather than on estimated expected experience
or actual account balances as would be required under GAAP.
Death benefits paid, policy and contract withdrawals, and the change in
policy reserves on universal life policies, annuity and other investment-
type contracts are reported as benefits and settlement expenses; in the ac-
companying statement of income, whereas, under GAAP, withdrawals are
treated as a reduction of the policy or contract liabilities and benefits
would represent the excess of benefits paid over the policy account value
and interest credited to the account values.
REINSURANCE
Premiums, claims and policy benefits and contract liabilities are reported
in the accompanying financial statements net of reinsurance amounts. For
GAAP, all assets and liabilities related to reinsurance ceded contracts are
reported on a gross basis.
A liability for reinsurance balances has been provided for unsecured policy
and contract liabilities and unearned premiums ceded to reinsurers not au-
thorized by the Indiana Department of Insurance to assume such business.
Changes to those amounts are credited or charged directly to unassigned
surplus. Under GAAP, an allowance for amounts deemed uncollectible is es-
tablished through a charge to income.
Commissions on business ceded are reported as income when received rather
than deferred and amortized with deferred policy acquisition costs.
Certain reinsurance contracts meeting risk transfer requirements under
statutory-basis accounting practices have been accounted for using tradi-
tional reinsurance accounting whereas such contracts would be accounted for
using deposit accounting under GAAP.
POSTRETIREMENT BENEFITS
For purposes of calculating the Company's postretirement benefit obliga-
tion, only vested employees and current retirees are included in the valua-
tion. Under GAAP, active employees not currently eligible would also be in-
cluded.
S-6
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
CLAIMS AND CLAIM ADJUSTMENT EXPENSES
Unpaid claims and claim adjustment expenses on accident and health policies
represent the estimated ultimate net cost of all reported and unreported
claims incurred during the year. The Company does not discount claims and
claim adjustment expense reserves. The reserves for unpaid claims and claim
adjustment expenses are estimated using individual case-basis valuations
and statistical analyses. Those estimates are subject to the effects of
trends in claim severity and frequency. Although considerable variability
is inherent in such estimates, management believes that the reserves for
claims and claim adjustment expenses are adequate. The estimates are con-
tinually reviewed and adjusted as necessary as experience develops or new
information becomes known; such adjustments are included in current opera-
tions.
REINSURANCE CEDED AND ASSUMED
Reinsurance premiums and claims and claim adjustment expenses are accounted
for on bases consistent with those used in accounting for the original pol-
icies issued and the terms of the reinsurance contracts. Certain business
is transacted on a funds withheld basis and investment income on funds
withheld are reported in net investment income.
PENSION BENEFITS
Costs associated with the Company's defined benefit pension plans is sys-
tematically accrued during the expected period of active service of the
covered employees.
INCOME TAXES
The Company and eligible subsidiaries have elected to file consolidated
federal and state income tax returns with LNC. Pursuant to an intercompany
tax sharing agreement with LNC, the Company provides for income taxes on a
separate return filing basis. The tax sharing agreement also provides that
the Company will receive benefit for net operating losses, capital losses
and tax credits which are not usable on a separate return basis to the ex-
tent such items may be utilized in the consolidated income tax returns of
LNC.
STOCK OPTIONS
The Company recognizes compensation expense for its stock option incentive
plans using the intrinsic value method of accounting. Under the terms of
the intrinsic value method, compensation cost is the excess, if any, of the
quoted market price of LNC's common stock at the grant date, or other mea-
surement date, over the amount an employee must pay to acquire the stock.
ASSETS HELD IN SEPARATE ACCOUNTS AND LIABILITIES RELATED TO SEPARATE
ACCOUNTS
These assets and liabilities represent segregated funds administered and
invested by LNC's insurance subsidiaries for the exclusive benefit of pen-
sion and variable life and annuity contractholders. The fees received by
the Company for administrative and contractholder maintenance services per-
formed for these separate accounts are included in the Company's statements
of income.
1.SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES CONTINUED
bonds, mortgage loans and common and preferred stocks are credited or
charged directly in unassigned surplus.
DATA PROCESSING EQUIPMENT
Data processing equipment is reported at depreciated cost, with deprecia-
tion determined on a straight-line basis over five years.
GOODWILL
Goodwill, which represents the excess of the ceding commission over statu-
tory-basis net assets of business purchased under an assumption reinsurance
agreement, is amortized on a straight-line basis over ten years.
PREMIUMS
Life insurance and annuity premiums are recognized as revenue when due. Ac-
cident and health premiums are earned prorata over the contract term of the
policies.
BENEFITS
Life, annuity and accident and health benefit reserves are developed by ac-
tuarial methods and are determined based on published tables using statuto-
rily specified interest rates and valuation methods that will provide, in
the aggregate, reserves that are greater than or equal to the minimum or
guaranteed policy cash values or the amounts required by the Indiana De-
partment of Insurance. The Company waives deduction of deferred fractional
premiums on the death of life and annuity policy insureds and returns any
premium beyond the date of death, except for policies issued prior to March
1977. Surrender values on policies do not exceed the corresponding benefit
reserves. Additional reserves are established when the results of cash flow
testing under various interest rate scenarios indicate the need for such
reserve. If net premiums exceed the gross premiums on any insurance in-
force, additional reserves are established. Benefit reserves for policies
underwritten on a substandard basis are determined using the multiple table
reserve method.
The tabular interest, tabular less actual reserve released and the tabular
cost have been determined by formula or from the basic data for such items.
Tabular interest funds not involving life contingencies were determined us-
ing the actual interest credited to the funds plus the change in accrued
interest.
Liabilities related to guaranteed investment contracts and policyholder
funds left on deposit with the Company generally are equal to fund balances
less applicable surrender charges.
S-7
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
1.SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
A reconciliation of the Company's net income and capital and surplus deter-
mined on a statutory accounting basis with amounts determined in accordance
with GAAP is as follows:
<TABLE>
<CAPTION>
Capital and Surplus Net Income
-------------------- -----------------------
Year ended December
December 31 31
1996 1995 1996 1995 1994
--------- --------- ------ ------ -------
(in millions)
<S> <C> <C> <C> <C> <C>
Amounts reported on a
statutory basis $ 1,962.6 $ 1,732.9 $334.4 $284.5 $ 341.9
----------------------------
GAAP adjustments:
----------------------------
Deferred policy acquisition
costs and present value of
future profits 1,119.1 850.2 66.7 (63.0) 191.1
----------------------------
Policy and contract
reserves (1,405.3) (1,562.2) (57.1) (55.3) (53.6)
----------------------------
Interest maintenance
reserve 76.7 116.3 (39.7) 60.9 (157.0)
----------------------------
Deferred income taxes (27.4) (122.5) 1.8 38.3 (138.3)
----------------------------
Policyholders' share of
earnings and surplus on
participating business (81.9) (91.9) (.3) .2 (3.0)
----------------------------
Asset valuation reserve 375.5 270.0 -- -- --
----------------------------
Net realized gain (loss) on
investments (72.0) (67.4) 78.7 30.0 47.1
----------------------------
Adjustment to unrealized
gain (loss) 825.2 1,494.0 -- -- --
----------------------------
Nonadmitted assets,
including nonadmitted
investments (7.1) 57.9 -- -- --
----------------------------
Net GAAP adjustments of
subsidiary companies 156.6 131.2 29.9 34.3 48.2
----------------------------
Other, net (99.0) (89.7) (82.6) (7.3) (58.6)
---------------------------- --------- --------- ------ ------ -------
Net increase (decrease) 860.4 985.9 (2.6) 38.1 (124.1)
---------------------------- --------- --------- ------ ------ -------
Amounts on a GAAP basis $ 2,823.0 $ 2,718.8 $331.8 $322.6 $ 217.8
---------------------------- ========= ========= ====== ====== =======
</TABLE>
S-8
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
2.PERMITTED STATUTORY ACCOUNTING PRACTICES
The Company's statutory-basis financial statements are prepared in accor-
dance with accounting practices prescribed or permitted by the Indiana De-
partment of Insurance (the "Department"). "Prescribed" statutory accounting
practices include state laws, regulations and general administrative rules,
as well as a variety of publications of the NAIC. "Permitted" statutory ac-
counting practices encompass all accounting practices that are not pre-
scribed; such practices may differ from state to state, may differ from
company to company within a state and may change in the future. The NAIC
currently is in the process of recodifying statutory accounting practices,
the result of which is expected to constitute the only source of "pre-
scribed" statutory accounting practices. Accordingly, that project, which
is expected to be completed in 1998, will likely change, to some extent,
prescribed statutory accounting practices, and may result in changes to the
accounting practices that the Company uses to prepare its statutory-basis
financial statements.
In 1994, the Company received approval from the Department to change its
accounting for surrender charges applicable to separate account liabilities
for variable life and annuity products so that the surrender charges on
these products are recorded as a liability in the separate account finan-
cial statements payable to the Company's general account. In the accompany-
ing financial statements, a corresponding receivable is recorded with the
related income impact recorded in the accompanying statement of operations
as a change in reserves or change in premium and other deposit funds. The
cumulative effect of this change increased 1994 net income by $13,299,000.
The Company has approval from the Department to establish valuation allow-
ances on mortgage loans on real estate in accordance with GAAP, which are
in excess of that prescribed by the NAIC and the Department.
Prior to 1995, the Company has considered certain amounts under modified
coinsurance reinsurance contracts as adjustments to premiums. As such, pol-
icyholder dividends, cash surrender charges and reserve adjustments with
interest thereon and commissions on reinsurance assumed are classified as
premiums, rather than on expense lines, with no net effect on net income or
capital and surplus. On a net-of-ceded basis for the year ended December
31, 1994, this practice resulted in increases to both revenues and expenses
of approximately $600,000,000. In addition, reserve adjustments with inter-
est thereon and commissions on reinsurance ceded were also classified as
premiums, rather than in other revenue classifications. For the year ended
December 31, 1994, this intra-revenue grouping reduced premiums by approxi-
mately $50,000,000. Beginning in 1995, the Company reports modified coin-
surance agreements on a gross basis. This change was made as a result of
communications with the Department. This accounting change had no effect on
income or surplus and prior period amounts have not been restated.
S-9
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
3. INVESTMENTS
The major categories of net investment income are as follows:
<TABLE>
<CAPTION>
Year ended December 31
1996 1995 1994
-----------------------------------------
(in millions)
--------------------------
<S> <C> <C> <C>
Income:
Bonds $1,442.2 $1,457.4 $1,266.7
--------------------------------------------------------------------------------
Preferred stocks 9.6 6.4 5.8
--------------------------------------------------------------------------------
Unaffiliated common stocks 6.5 5.2 4.4
--------------------------------------------------------------------------------
Affiliated common stocks 9.5 12.6 62.5
--------------------------------------------------------------------------------
Mortgage loans on real estate 269.3 252.0 255.2
--------------------------------------------------------------------------------
Real estate 114.4 110.0 97.4
--------------------------------------------------------------------------------
Policy loans 35.0 32.1 29.7
--------------------------------------------------------------------------------
Other investments 22.4 62.6 121.3
--------------------------------------------------------------------------------
Cash and short-term investments 48.9 53.2 43.3
--------------------------------------------------------------- -------- -------- --------
Total investment income 1,957.8 1,991.5 1,886.3
-----------------------------------------------------------------------------------
Expenses:
Depreciation 25.0 25.9 21.9
--------------------------------------------------------------------------------
Other 176.5 193.4 257.6
--------------------------------------------------------------- -------- -------- --------
Total investment expenses 201.5 219.3 279.5
---------------------------------------------------------------- -------- -------- --------
Net investment income $1,756.3 $1,772.2 $1,606.8
---------------------------------------------------------------- ======== ======== ========
</TABLE>
Nonadmitted accrued investment income at December 31, 1996
and 1995 amounted to $2,500,000 and $11,500,000, respective-
ly, consisting principally of interest on bonds in default
and mortgage loans.
The cost or amortized cost, gross unrealized gains and
losses and the fair value of investments in bonds are summa-
rized as follows:
<TABLE>
<CAPTION>
Cost or Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
------------------------
(in millions)
-----------------------------------------
<S> <C> <C> <C> <C>
At December 31, 1996:
Corporate $12,548.1 $ 586.5 $ 66.6 $13,068.0
--------------------------------------------------------------
U.S. government 1,088.7 43.2 18.0 1,113.9
--------------------------------------------------------------
Foreign government 1,234.0 105.1 1.4 1,337.7
--------------------------------------------------------------
Mortgage-backed 4,478.4 183.3 27.4 4,634.3
--------------------------------------------------------------
State and municipal 40.4 .1 -- 40.5
-------------------- --------- -------- ------ ---------
$19,389.6 $ 918.2 $113.4 $20,194.4
========= ======== ====== =========
At December 31, 1995:
Corporate $11,642.0 $1,074.7 $ 41.4 $12,675.3
--------------------------------------------------------------
U.S. government 546.4 82.2 -- 628.6
--------------------------------------------------------------
Foreign government 908.0 68.0 .6 975.4
--------------------------------------------------------------
Mortgage-backed 4,628.3 283.2 11.2 4,900.3
--------------------------------------------------------------
State and municipal 5.0 .1 -- 5.1
-------------------- --------- -------- ------ ---------
$17,729.7 $1,508.2 $ 53.2 $19,184.7
========= ======== ====== =========
</TABLE>
S-10
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
3. INVESTMENTS CONTINUED
Fair values for bonds are based on quoted market prices,
where available. For bonds not actively traded, fair values
are estimated using values obtained from independent pricing
services or, in the case of private placements, are esti-
mated by discounting expected future cash flows using a cur-
rent market rate applicable to the coupon rate, credit qual-
ity and maturity of the investments.
A summary of the cost or amortized cost and fair value of
investments in bonds at December 31, 1996, by contractual
maturity, is as follows:
<TABLE>
<CAPTION>
Cost or
Amortized Fair
Cost Value
------------------------------
(in millions)
-------------------
<S> <C> <C>
Maturity:
In 1997 $ 358.0 $ 360.1
----------------------------------------------------------------------------------------------
In 1998-2001 3,809.0 3,912.3
----------------------------------------------------------------------------------------------
In 2002-2006 4,760.9 4,917.3
----------------------------------------------------------------------------------------------
After 2006 5,983.3 6,370.4
----------------------------------------------------------------------------------------------
Mortgage-backed securities 4,478.4 4,634.3
--------------------------------------------------------------------------- --------- ---------
Total $19,389.6 $20,194.4
--------------------------------------------------------------------------- ========= =========
</TABLE>
The expected maturities may differ from the contractual ma-
turities in the foregoing table because certain borrowers
may have the right to call or prepay obligations with or
without call or prepayment penalties.
At December 31, 1996, the Company did not have a material
concentration of financial instruments in a single investee,
industry or geographic location.
Proceeds from sales of investments in bonds during 1996,
1995 and 1994 were $10,996,900,000, $12,234,100,000 and
$9,668,300,000, respectively. Gross gains during 1996, 1995
and 1994 of $169,700,000, $225,600,000 and $62,600,000, re-
spectively, and gross losses of $177,000,000, $83,100,000
and $286,800,000, respectively, were realized on those
sales.
At December 31, 1996 and 1995, investments in bonds, with an
admitted asset value of $70,700,000 and $60,700,000, respec-
tively, were on deposit with state insurance departments to
satisfy regulatory requirements.
The cost or amortized cost, gross unrealized gains and
losses and the fair value of investments in unaffiliated
common stocks and preferred stocks are as follows:
<TABLE>
<CAPTION>
Cost or Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
-------------------------------
<S> <C> <C> <C> <C>
(in millions)
-------------------------------
At December 31, 1996:
Preferred stocks $239.7 $ 10.5 $ 1.7 $248.5
----------------------------------------------------------
Unaffiliated common stocks 289.9 84.6 16.2 358.3
----------------------------------------------------------
At December 31, 1995:
Preferred stocks 89.9 13.9 .2 103.6
----------------------------------------------------------
Unaffiliated common stocks 438.0 110.0 12.5 535.5
----------------------------------------------------------
</TABLE>
S-11
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
3. INVESTMENTS CONTINUED
The carrying value of affiliated common stocks, representing
their statutory-basis net equity, was $241,500,000 and
$193,000,000 at December 31, 1996 and 1995, respectively.
The cost basis of investments in subsidiaries as of December
31, 1996 and 1995 was $194,000,000 and $123,000,000, respec-
tively.
During 1996, the maximum and minimum lending rates for mort-
gage loans were 10.5% and 6.0%, respectively. At the issu-
ance of a loan, the percentage of loan to value on any one
loan does not exceed 75%. At December 31, 1996, the Company
did not hold any mortgages with interest overdue beyond one
year. At December 31, 1996, the Company's investments in
mortgage loans were subject to $59,700,000 of prior liens.
All properties covered by mortgage loans have fire insurance
at least equal to the excess of the loan over the maximum
loan that would be allowed on the land without the building.
4.FEDERAL INCOME TAXES
The effective federal income tax rate for financial report-
ing purposes differs from the prevailing statutory tax rate
principally due to tax-exempt investment income, dividends-
received tax deductions, differences in policy acquisition
costs and policy and contract liabilities for tax return and
financial statement purposes.
Federal income taxes incurred of $83,600,000, $103,700,000
and $52,800,000 in 1996, 1995 and 1994, respectively, would
be subject to recovery in the event that the Company incurs
net operating losses within three years of the years for
which such taxes were paid.
Prior to 1984, a portion of the Company's current income was
not subject to current income tax, but was accumulated for
income tax purposes in a memorandum account designated as
"policyholders' surplus." The Company's balance in the "pol-
icyholders' surplus" account at December 31, 1983 of
$187,000,000 was "frozen" by the Tax Reform Act of 1984 and,
accordingly, there have been no additions to the accounts
after that date. That portion of current income on which in-
come taxes have been paid will continue to be accumulated in
a memorandum account designated as "shareholder's surplus,"
and is available for dividends to the shareholder without
additional payment of tax by the Company. The December 31,
1996 memorandum account balance for "shareholder's surplus"
was $1,606,000,000. Should dividends to the shareholder ex-
ceed its respective "shareholder's surplus," amounts would
need to be transferred from the "policyholders' surplus" and
would be subject to federal income tax at that time. Under
existing or foreseeable circumstances, the Company neither
expects nor intends that distributions will be made that
will result in any such tax.
5.SUPPLEMENTAL FINANCIAL DATA
The balance sheet caption, "Other Admitted Assets," includes
amounts recoverable from other insurers for claims paid by
the Company, and the balance sheet caption, "Future Policy
Benefits and Claims," has been reduced for insurance ceded
as follows:
<TABLE>
<CAPTION>
December 31
--------------------------
1996 1995 1994
----------------------------------------
(in millions)
----------------------------------------
<S> <C> <C> <C>
Insurance ceded $1,154.5 $1,634.0 $1,721.1
Amounts recoverable from other insurers 16.0 4.4 4.8
</TABLE>
S-12
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
5.SUPPLEMENTAL FINANCIAL DATA CONTINUED
Reinsurance transactions included in the income statement
caption, "Premiums and Deposits," are as follows:
<TABLE>
<CAPTION>
Year ended December
31
1996 1995 1994
--
(in millions)
--------------------
<S> <C> <C> <C>
Insurance assumed $241.3 $667.7 $607.3
-------------------------------
Insurance ceded 193.3 453.1 583.8
------------------------------- ------ ------ ------
Net amount included in premiums $ 48.0 $214.6 $ 23.5
------------------------------- ====== ====== ======
</TABLE>
The income statement caption, "Benefits and Settlement Ex-
penses," is net of reinsurance recoveries of $787,886,200,
$1,407,000,000 and $1,391,100,000 for 1996, 1995 and 1994,
respectively.
Deferred and uncollected life insurance premiums and annuity
considerations included in the balance sheet caption, "Pre-
miums and Fees in Course of Collection," are as follows:
<TABLE>
<CAPTION>
December 31, 1996
-----------------------
Net of
Gross Loading Loading
(in millions)
-----------------------
<S> <C> <C> <C>
Ordinary new business $ 3.9 $1.9 $ 2.0
---------------------
Ordinary renewal 35.1 3.0 32.1
---------------------
Group life 9.4 (.1) 9.5
---------------------
Group annuity -- -- --
--------------------- ------ ---- ------
$ 48.4 $4.8 $ 43.6
====== ==== ======
<CAPTION>
December 31, 1995
-----------------------
Net of
Gross Loading Loading
(in millions)
-----------------------
<S> <C> <C> <C>
Ordinary new business $ 2.5 $1.1 $ 1.4
---------------------
Ordinary renewal (19.1) 2.8 (21.9)
---------------------
Group life 15.8 -- 15.8
---------------------
Group annuity .2 -- .2
--------------------- ------ ---- ------
$ (.6) $3.9 $ (4.5)
====== ==== ======
</TABLE>
The Company has entered into non-exclusive managing general
agent agreements with International Benefit Services Corp.,
HRM Claim Management, Inc. and Pediatrics Insurance Consul-
tants, Inc. to write group life and health business. Direct
premiums written amounted to $26,200,000 $3,800,000 and
$8,600,000 in 1996 and $33,100,000, $10,600,000 and
$8,800,000 in 1995, respectively. During 1996, LNC Adminis-
trative Services entered into a similar agreement with the
Company with direct premiums written amounting to
$6,200,000. Authority granted by the managing general agents
agreements include underwriting, claims adjustment and
claims payment services.
S-13
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
6.ANNUITY RESERVES
At December 31, 1996, the Company's annuity reserves and de-
posit fund liabilities, including separate accounts, that
are subject to discretionary withdrawal with adjustment,
subject to discretionary withdrawal without adjustment and
not subject to discretionary withdrawal provisions are sum-
marized as follows:
<TABLE>
<CAPTION>
Amount Percent
----------------
(in millions)
-------------------
<S> <C> <C>
Subject to discretionary withdrawal with adjustment:
With market value adjustment $ 2,971.8 6.0%
------------------------------------------------------
At book value, less surrender charge 5,228.6 12.0
------------------------------------------------------
At market value 22,703.4 51.0
------------------------------------------------------ ---------- ------
30,903.8 69.0
Subject to discretionary withdrawal without adjustment
at book value with minimal or no charge or adjustment 10,986.4 25.0
------------------------------------------------------
Not subject to discretionary withdrawal 2,601.9 6.0
------------------------------------------------------
---------- ------
Total annuity reserves and deposit fund 44,492.1
liabilities--before reinsurance 100.0%
------------------------------------------------------
======
Less reinsurance 1,848.8
------------------------------------------------------ ----------
Net annuity reserves and deposit fund liabilities,
including separate accounts $42,643.3
------------------------------------------------------ ==========
</TABLE>
7.CAPITAL AND SURPLUS
Life insurance companies are subject to certain Risk-Based
Capital ("RBC") requirements as specified by the NAIC. Under
those requirements, the amount of capital and surplus main-
tained by a life insurance company is to be determined based
on the various risk factors related to it. At December 31,
1996, the Company exceeds the RBC requirements.
The payment of dividends by the Company is limited and can-
not be made except from earned profits. The maximum amount
of dividends that may be paid by life insurance companies
without prior approval of the Indiana Insurance Commissioner
is subject to restrictions relating to statutory surplus and
net gain from operations. In 1997, the Company can pay divi-
dends of $281,100,000 without prior approval of the Indiana
Insurance Commissioner.
8.EMPLOYEE BENEFIT PLANS
Pension plans
LNC maintains funded defined benefit pension plans for most
of its employees and, prior to January 1, 1995, full-time
agents. The benefits for employees are based on total years
of service and the highest 60 months of compensation during
the last 10 years of employment. The benefits for agents
were based on a percentage of each agent's yearly earnings.
The plans are funded by contributions to tax-exempt trusts.
The Company's funding policy is consistent with the funding
requirements of Federal laws and regulations. Contributions
are intended to provide not only the benefits attributed to
service to date, but also those expected to be earned in the
future. Plan assets consist principally of listed equity se-
curities, corporate obligations and government bonds.
All benefits applicable to the funded defined benefit plan
for agents were frozen as of December 31, 1994. The curtail-
ment of this plan did not have a significant effect on net
pension cost for 1994. Effective January 1, 1995, pension
benefits for agents have been provided by a new defined
S-14
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
8.EMPLOYEE BENEFIT PLANS CONTINUED
contribution plan. Contributions to this plan will be based
on 2.3% of an agent's earnings up to the social security
wage base and 4.6% of any excess.
LNC also administers two types of unfunded, non-qualified,
defined benefit plans for certain employees and agents. A
supplemental retirement plan provides employees and agents
defined benefit pension benefits in excess of limits imposed
by Federal tax law. A salary continuation plan provides cer-
tain officers of the Company defined pension benefits based
on years of service and final monthly salary upon death or
retirement.
The status of the funded defined benefit pension plans and
the amounts recognized in the balance sheets are as follows:
<TABLE>
<CAPTION>
December 31
1996
------- 1995
(in millions)
----------------
<S> <C> <C>
Actuarial present value of benefit obligation:
Vested benefits $(156.9) $(146.1)
-------------------------------------------------------------------------
Nonvested benefits (6.0) (7.7)
-------------------------------------------------------------------------
------- -------
Accumulated benefit obligation (162.9) (153.8)
-------------------------------------------------------------------------
Effect of projected future compensation increases (27.9) (28.5)
-------------------------------------------------------------------------
------- -------
Projected benefit obligation (190.8) (182.3)
-------------------------------------------------------------------------
Plan assets at fair value 186.1 173.2
-------------------------------------------------------------------------
------- -------
Projected benefit obligation in excess of plan assets (4.7) (9.1)
-------------------------------------------------------------------------
Unrecognized net loss 4.9 9.3
-------------------------------------------------------------------------
Unrecognized prior service cost 1.4 1.5
-------------------------------------------------------------------------
------- -------
Prepaid pension costs included in other liabilities $ 1.6 $ 1.7
-------------------------------------------------------------------------
======= =======
</TABLE>
The status of the unfunded defined benefit pension plans and
the amounts recognized in the balance sheets are as follows:
<TABLE>
<CAPTION>
December 31
1996
----- 1995
(in
millions)
------------
<S> <C> <C>
Actuarial present value of benefit obligation:
Vested benefits $(6.6) $(6.4)
-------------------------------------------------------------------
Nonvested benefits (.9) (1.1)
-------------------------------------------------------------------
----- -----
Accumulated benefit obligation (7.5) (7.5)
-------------------------------------------------------------------
Effect of projected future compensation increases (1.1) (1.7)
-------------------------------------------------------------------
----- -----
Projected benefit obligation (8.6) (9.2)
-------------------------------------------------------------------
Unrecognized net loss (gain) (.1) .9
-------------------------------------------------------------------
Unrecognized prior service cost .2 .3
-------------------------------------------------------------------
----- -----
Accrued pension costs included in other liabilities $(8.5) $(8.0)
-------------------------------------------------------------------
===== =====
</TABLE>
S-15
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
8.EMPLOYEE BENEFIT PLANS CONTINUED
The determination of the projected benefit obligation for
the defined benefit plans was based on the following assump-
tions:
<TABLE>
<CAPTION>
December 31
1996 1995 1994
---------------------------
<S> <C> <C> <C>
Weighted-average discount rate 7.0% 7.0% 8.0%
----------------------------------------------------------------------
Rate of increase in compensation:
----------------------------------------------------------------------
Salary continuation plan 5.5 6.0 6.5
----------------------------------------------------------------------
All other plans 4.5 5.0 5.0
----------------------------------------------------------------------
Expected long-term rate of return on plan assets 9.0 9.0 9.0
----------------------------------------------------------------------
The components of net pension cost for the defined benefit
pension plans are as follows:
<CAPTION>
Year ended
December 31
1996 1995 1994
---------------------------
<S> <C> <C> <C>
Service cost--benefits earned during the year $ 5.2 $ 4.1 $ 7.9
------------------------------------------------------------------------
Interest cost on projected benefit obligation 12.9 11.9 11.6
------------------------------------------------------------------------
Actual return on plan assets (17.5) (32.0) 4.2
------------------------------------------------------------------------
Net amortization (deferral) 3.1 20.3 (16.7)
------------------------------------------------------------------------ ----- ----- -----
Net pension cost $ 3.7 $ 4.3 $ 7.0
------------------------------------------------------------------------ ===== ===== =====
</TABLE>
401K PLAN
LNC and the Company sponsor contributory defined contribu-
tion plans for eligible employees and agents. The Company's
contributions to the plans are equal to each participant's
pre-tax contribution, not to exceed 6% of base pay, multi-
plied by a percentage ranging from 25% to 150%, which varies
according to certain incentive criteria as determined by
LNC's Board of Directors. Expense for these plans amounted
to $9,300,000, $6,700,000 and $11,200,000 in 1996, 1995 and
1994, respectively.
POSTRETIREMENT MEDICAL AND LIFE INSURANCE BENEFIT PLANS
LNC sponsors unfunded defined benefit plans that provide
postretirement medical and life insurance benefits to full-
time employees and agents who, depending on the plan, have
worked for the Company 10 to 15 years and attained age 55 to
60. Medical benefits are also available to spouses and other
dependents of employees and agents. For medical benefits,
limited contributions are required from individuals retired
prior to November 1, 1988; contributions for later retirees,
which can be adjusted annually, are based on such items as
years of service at retirement and age at retirement. The
life insurance benefits are noncontributory, although par-
ticipants can elect supplemental contributory benefits.
The status of the postretirement medical and life insur-
ance benefit plans and the amounts recognized in the bal-
ance sheets are as follows:
<TABLE>
<CAPTION>
December 31
1996 1995
--------------------------
(in millions)
--------------
<S> <C> <C>
Accumulated postretirement benefit obligation:
Retirees $(32.4) $(37.9)
------------------------------------------------------------------------
Fully eligible active plan participants (8.2) (8.7)
------------------------------------------------------------------------ ------ ------
Accumulated postretirement benefit obligation (40.6) (46.6)
------------------------------------------------------------------------
Unrecognized net loss (gain) (7.0) .8
------------------------------------------------------------------------ ------ ------
Accrued plan cost included in other liabilities $(47.6) $(45.8)
------------------------------------------------------------------------ ====== ======
</TABLE>
S-16
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
8.EMPLOYEE BENEFIT PLANS CONTINUED
The components of periodic postretirement benefit cost
are as follows:
<TABLE>
<CAPTION>
Year ended
December 31
1996 1995 1994
---------------------------------
(in millions)
----------------
<S> <C> <C> <C>
Service cost $1.3 $1.1 $1.4
------------------------------------------------------------------------
Interest cost 2.7 3.0 3.1
------------------------------------------------------------------------
Amortized cost (credit) (.5) (.4) .1
------------------------------------------------------------------------ ---- ---- ----
Net periodic postretirement benefit cost $3.5 $3.7 $4.6
------------------------------------------------------------------------ ==== ==== ====
</TABLE>
The calculation of the accumulated postretirement benefit
obligation assumes a weighted-average annual rate of in-
crease in the per capita cost of covered benefits (i.e.,
health care cost trend rate) of 8.5% for 1997. It further
assumes the rate will gradually decrease to 5.0% by 2005 and
remain at that level. The health care cost trend rate as-
sumption has a significant effect on the amounts reported.
For example, increasing the assumed health care cost trend
rates by one percentage point each year would increase the
accumulated postretirement benefit obligation as of December
31, 1996 and 1995 by $1,900,000 and $2,100,000, respective-
ly. The aggregate of the estimated service and interest cost
components of net periodic postretirement benefit cost for
the year ended December 31, 1996 would increase by $184,000.
The calculation assumes a long-term rate of increase in com-
pensation of 4.5% and 5.0% at December 31, 1996 and 1995,
respectively. The weighted-average discount rate used in de-
termining the accumulated postretirement benefit obligation
was 7.0% for both December 31, 1996 and 1995.
9.RESTRICTIONS, COMMITMENTS AND
CONTINGENCIES
DISABILITY INCOME POLICIES
The liability for disability income claims net of the related asset for
amounts recoverable from reinsurers at December 31, 1996 and 1995 is a net
liability of $572,000,000 and $503,800,000, respectively. This liability is
based on the assumption that the recent experience will continue in the fu-
ture. If incidence levels or claim termination rates vary significantly
from these assumptions, adjustments to reserves may be required in the fu-
ture. Accordingly, this liability may prove to be deficient or excessive.
However, it is management's opinion that such future development will not
materially affect the financial position of the Company. The Company con-
tinually reviews and updates the level of these reserves.
During the fourth quarter of 1995, the Company completed an in-depth review
of the experience of its disability income business. As a result of this
study, and based on the assumption that recent experience will continue in
the future, net income decreased by $15,200,000 as a result of strengthen-
ing the disability income reserve.
MARKETING AND COMPLIANCE ISSUES
Regulators continue to focus on market conduct and compliance issues. Under
certain circumstances companies operating in the insurance and financial
services markets have been held responsible for providing incomplete or
misleading sales materials and for replacing existing policies with poli-
cies that were less advantageous to the policyholder. The Company's manage-
ment continues to monitor the Company's sales materials and compliance pro-
cedures and is making an extensive effort to minimize any potential liabil-
ity. However, due to the uncertainty surrounding such matters, it is not
possible to provide a meaningful estimate of the range of potential out-
comes at this time.
GROUP PENSION ANNUITIES
The liabilities for guaranteed interest and group pension annuity con-
tracts, which are no longer being sold by the Company, are supported by a
single portfolio of assets that attempts to match the duration of these li-
abilities. Due to the very long-term nature of group pension annuities and
the resulting inability to exactly match cash flows, a risk exists that fu-
ture cash flows from investments will not be reinvested at rates as high as
currently earned by the portfolio. Accordingly, these liabilities may prove
to be deficient or excessive. However, it is management's opinion that such
future development will
S-17
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
INSURANCE CEDED AND ASSUMED
The Company cedes insurance to other companies, including certain affili-
ates. The portion of risks exceeding the Company's retention limit is rein-
sured with other insurers. Industry regulations prescribe the maximum cov-
erage that the Company can retain on an individual insured. As of December
31, 1996, the Company's maximum retention on a single insured was
$3,000,000. To cover products other than life insurance, the Company ac-
quires other insurance coverages with retentions and limits that management
believes are appropriate for the circumstances. The accompanying financial
statements reflect premiums and benefits and settlement expenses, net of
insurance ceded. The Company remains liable if its reinsurers are unable to
meet their contractual obligations under the applicable reinsurance agree-
ments.
The Company assumes insurance from other companies, including certain af-
filiates. At December 31, 1996, the Company has provided $17,200,000 of
statutory surplus relief to other insurance companies under reinsurance
transactions. Generally, such amounts are offset by corresponding receiv-
ables from the ceding company, which are secured by future profits on the
reinsured business. However, the Company is subject to the risk that the
ceding company may become insolvent and the right of offset would not be
permitted.
VULNERABILITY FROM CONCENTRATIONS
At December 31, 1996, the Company did not have a concentration of: 1) busi-
ness transactions with a particular customer, lender or distributor; 2)
revenues from a particular product or service; 3) sources of supply of la-
bor or services used in the business; or 4) a market or geographic area in
which business is conducted that makes it vulnerable to an event that is at
least reasonably possible to occur in the near term and which could cause a
severe impact to the Company's financial condition.
9.RESTRICTIONS, COMMITMENTS AND
CONTINGENCIES CONTINUED
not materially affect the financial position of the Company.
LEASES
The Company leases its home office properties. The agreements provide for a
25 year lease period with options to renew for six additional terms of five
years each. The agreements also provide the Company with the right of first
refusal to purchase the properties during the term of the lease, including
renewal periods, at a price as defined in the agreements. In addition, the
Company has the option to purchase the leased properties at fair value as
defined in the agreements on the last day of the initial 25 year lease pe-
riod ending in 2009 or on the last day of any of the renewal periods.
Total rental expense on operating leases in 1996, 1995 and 1994 was
$26,400,000, $22,500,000 and $20,600,000, respectively. Future minimum
rental commitments are as follows (in millions):
<TABLE>
<S> <C>
1997 $ 17.5
1998 17.1
1999 17.4
2000 16.9
2001 17.2
Thereafter 151.6
------
$237.7
======
</TABLE>
S-18
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
9.RESTRICTIONS, COMMITMENTS AND
CONTINGENCIES CONTINUED
OTHER CONTINGENCY MATTERS
The Company is involved in various pending or threatened legal proceedings
arising from the conduct of business. In some instances, these proceedings
include claims for unspecified or substantial punitive damages and similar
types of relief in addition to amounts for alleged contractual liability or
requests for equitable relief. After consultation with legal counsel and a
review of available facts, it is management's opinion that these proceed-
ings ultimately will be resolved without materially affecting the financial
position or results of operations of the Company.
The number of insurance companies that are under regulatory supervision has
resulted, and is expected to continue to result, in assessments by state
guaranty funds to cover losses to policyholders of insolvent or rehabili-
tated companies. Mandatory assessments may be partially recovered through a
reduction in future premium taxes in some states. The Company has accrued
for expected assessments net of estimated future premium tax deductions.
REINSURANCE
The regulatory required liability for unsecured reserves ceded to unautho-
rized reinsurers was $4,300,000 and $5,600,000 at December 31, 1996 and
1995, respectively.
GUARANTEES
The Company has guarantees with off-balance-sheet risks whose contractual
amounts represent credit exposure. Outstanding guarantees with off-balance-
sheet risks, shown in notional or contract amounts, are as follows:
<TABLE>
<CAPTION>
Notional or
Contract Amounts
-----------------
December 31
-----------------
1996 1995
--------------------
(in millions)
-----------------
<S> <C> <C>
Mortgage loan pass-through certificates $ 50.3 $ 63.6
Real estate partnerships .5 3.3
-------- --------
$ 50.8 $ 66.9
======== ========
</TABLE>
The Company has invested in real estate partnerships that use conventional
mortgage loans. In some cases, the terms of these arrangements involve
guarantees by each of the partners to indemnify the mortgagor in the event
a partner is unable to pay its principal and interest payments. In addi-
tion, the Company has sold commercial mortgage loans through grantor trusts
which issued pass-through certificates. The Company has agreed to repur-
chase any mortgage loans which remain delinquent for 90 days at a repur-
chase price substantially equal to the outstanding principal balance plus
accrued interest thereon to the date of repurchase. It is management's
opinion that the value of the properties underlying these commitments is
sufficient that in the event of default the impact would not be material to
the Company. Accordingly, both the carrying value and fair value of these
guarantees is zero at December 31, 1996 and 1995.
S-19
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
9.RESTRICTIONS, COMMITMENTS AND CONTINGENCIES CONTINUED
DERIVATIVES
The Company has derivatives with off-balance-sheet risks
whose notional or contract amounts exceed the credit ex-
posure. The Company has entered into derivative transac-
tions to reduce its exposure to fluctuations in interest
rates, the widening of bond yield spreads over comparable
maturity U.S. Government obligations and foreign exchange
risks. In addition, the Company is subject to the risks
associated with changes in the value of its derivatives;
however, such changes in the value generally are offset
by changes in the value of the items being hedged by such
contracts. Outstanding derivatives with off-balance-sheet
risks, shown in notional or contract amounts along with
their carrying value and estimated fair values, are as
follows:
<TABLE>
<CAPTION>
Assets (Liabilities)
------------------------------
Notional or Carrying Fair Carrying Fair
contract amounts value value value value
---------------------------------------------
December 31 December 31 December 31
1996 1995 1996 1996 1995 1995
---------------------------------------------
(in millions)
------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Interest rate
derivatives:
Interest rate cap
agreements $5,500.0 $5,110.0 $20.8 $ 8.2 $22.7 $5.3
Spread-lock agreements -- 600.0 -- -- (.9) (.9)
Swaptions 672.0 -- 11.0 10.6 -- --
Financial futures
contracts 147.7 -- (2.4) (2.4) -- --
Interest rate swaps -- 5.0 -- -- .2 .2
-------- -------- ----- ----- ----- ----
6,319.7 5,715.0 29.4 16.4 22.0 4.6
Foreign currency
derivatives:
Foreign exchange forward
contracts 251.5 15.7 .2 (.2) (.6) (.6)
Foreign currency options 43.9 99.2 .6 .4 1.9 1.4
Foreign currency swaps 15.0 15.0 -- (2.1) .4 .4
-------- -------- ----- ----- ----- ----
310.4 129.9 .8 (1.9) 1.7 1.2
-------- -------- ----- ----- ----- ----
$6,630.1 $5,844.9 $30.2 $14.5 $23.7 $5.8
======== ======== ===== ===== ===== ====
</TABLE>
S-20
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
9.RESTRICTIONS, COMMITMENTS AND CONTINGENCIES CONTINUED
A reconciliation and discussion of the notional or contract
amounts for the significant programs using derivative agree-
ments and contracts at December 31 is as follows:
<TABLE>
<CAPTION>
Interest Rate Caps Spread Locks Swaptions
----------------------------------------------------------------------
1996 1995 1996 1995 1996 1995
----------------------------------------------------------------------
(in millions)
----------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance at beginning of
year $ 5,110.0 $ 4,400.0 $ 600.0 $ 1,300.0 $ -- $ --
New contracts 390.0 710.0 15.0 800.0 672.0 --
Terminations and -- -- (615.0) (1,500.0) -- --
maturities --------- --------- --------- --------- --------- ---------
Balance at end of year $ 5,500.0 $ 5,110.0 $ -- $ 600.0 $ 672.0 $ --
========= ========= ========= ========= ========= =========
<CAPTION>
Financial Futures
------------------------------------------
Contracts Options Interest Rate Swaps
1996 1995 1996 1995 1996 1995
----------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance at beginning of
year $ -- $ 382.5 $ -- $ -- $ 5.0 $ --
New contracts 7,918.8 810.5 -- 181.6 -- --
Terminations and (7,771.1) (1,193.0) -- (181.6) (5.0) --
maturities --------- --------- --------- --------- --------- ---------
Balance at end of year $ 147.7 $ -- $ -- $ -- $ -- $ --
========= ========= ========= ========= ========= =========
<CAPTION>
Foreign Currency Derivatives
----------------------------------------------------------------------
Foreign Exchange Foreign Currency Foreign
Forward Contracts Options Currency Swaps
1996 1995 1996 1995 1996 1995
----------------------------------------------------------------------
(in millions)
----------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance at beginning of
year $ 15.7 $ 21.2 $ 99.2 $ -- $ 15.0 $ --
New contracts 406.9 131.2 1,168.8 356.6 -- 15.0
Terminations and (171.1) (136.7) (1,224.1) (257.4) -- --
maturities --------- --------- --------- --------- --------- ---------
Balance at end of year $ 251.5 $ 15.7 $ 43.9 $ 99.2 $ 15.0 $ 15.0
========= ========= ========= ========= ========= =========
</TABLE>
S-21
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
9.RESTRICTIONS, COMMITMENTS AND
CONTINGENCIES CONTINUED
INTEREST RATE CAPS
The interest rate cap agreements, which expire in 1997 through 2003, enti-
tle the Company to receive payments from the counterparties on specified
future reset dates, contingent on future interest rates. For each cap, the
amount of such quarterly payments, if any, is determined by the excess of a
market interest rate over a specified cap rate multiplied by the notional
amount divided by four. The purpose of the Company's interest rate cap
agreement program is to protect its annuity line of business from the ef-
fect of fluctuating interest rates. The premium paid for the interest rate
caps is included in other assets ($20,800,000 as of December 31, 1996) and
is being amortized over the terms of the agreements. This amortization is
included in net investment income.
SWAPTIONS
Swaptions, which expire in 2002, entitle the Company to receive settlement
payments from the counterparties on specified expiration dates, contingent
on future interest rates. For each swaption, the amount of such settlement
payments, if any, is determined by the present value of the difference be-
tween the fixed rate on a market rate swap and the strike rate multiplied
by the notional amount. The purpose of the Company's swaption program is to
protect the assets supporting its annuity line of business from the effect
of fluctuating interest rates. The premium paid for the swaptions is in-
cluded in other assets ($11,000,000 as of December 31, 1996) and is being
amortized over the terms of the agreements. This amortization is included
in net investment income.
SPREAD LOCKS
Spread-lock agreements provide for a lump sum payment to or by the Company,
depending on whether the spread between the swap rate and a specified U.S.
Treasury note is larger or smaller than a contractually specified spread.
Cash payments are based on the product of the notional amount, the spread
between the swap rate and the yield of an equivalent maturity U.S. Treasury
security and the price sensitivity of the swap at that time. It is ex-
pressed in dollars-per-basis point. The purpose of the Company's spread-
lock program is to protect a portion of its fixed maturity securities
against widening of spreads.
FINANCIAL FUTURES
The Company uses exchange-traded financial futures contracts and options on
those financial futures to hedge against interest rate risks and to manage
duration of a portion of its fixed maturity securities. Financial futures
contracts obligate the Company to buy or sell a financial instrument at a
specified future date for a specified price. They may be settled in cash or
through delivery of the financial instrument. Cash settlements on the
change in market values of financial futures contracts are made daily. Op-
tions on financial futures give the Company the right, but not the obliga-
tion, to assume a long or short position in the underlying futures at a
specified price during a specified time period.
FOREIGN CURRENCY DERIVATIVES
The Company uses a combination of foreign exchange forward contracts, for-
eign currency options and foreign currency swaps, all of which are traded
over-the-counter, to hedge some of the foreign exchange risk of investments
in fixed maturity securities denominated in foreign currencies. The foreign
currency forward contracts obligate the Company to deliver a specified
amount of currency at a future date at a specified exchange rate. Foreign
currency options give the Company the right, but not the obligation, to buy
or sell a foreign currency at a specific exchange rate during a specified
time period. A foreign currency swap is a contractual agreement to exchange
the currencies of two different countries pursuant to an agreement to re-
exchange the two currencies at the same rate of exchange at a specified fu-
ture date.
ADDITIONAL DERIVATIVE INFORMATION
Expenses for the agreements and contracts described above amounted to
$6,900,000 and $5,600,000 in 1996 and 1995, respectively. Deferred losses
of $37,600,000 as of December 31, 1996, were the result of: 1) terminated
and expired spread-lock agreements; and 2) financial futures contracts.
These losses are included with the related fixed maturity securities to
which the hedge applied and are being amortized over the life of such secu-
rities.
The Company is exposed to credit loss in the event of nonperformance by
counterparties on interest rate cap agreements, swaptions, spread-lock
agreements, interest rate swaps, foreign exchange forward contracts, for-
eign currency options and foreign currency swaps. However, the Company does
not anticipate nonperformance by any of these counterparties. The credit
risk associated with such agreements is minimized by purchasing such agree-
ments from financial institutions with long-standing, superior performance
records. The amount of such exposure is essentially the net replacement
cost or market value for such agreements with each counterparty if the net
market value is in the Company's favor. At December 31, 1996, the exposure
was $17,500,000.
10.FAIR VALUE OF FINANCIAL INSTRUMENTS
The following discussion outlines the methodologies and assumptions used to
determine the estimated fair values of the Company's financial instruments.
Considerable judgment is required to develop these fair values. Ac-
S-22
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
10.FAIR VALUE OF FINANCIAL INSTRUMENTS
CONTINUED
cordingly, the estimates shown are not necessarily indicative of the
amounts that would be realized in a one-time, current market exchange of
all of the Company's financial instruments.
BONDS
Fair values of bonds are based on quoted market prices, where available.
For bonds not actively traded, fair values are estimated using values ob-
tained from independent pricing services. In the case of private place-
ments, fair values are estimated by discounting expected future cash flows
using a current market rate applicable to the coupon rate, credit quality
and maturity of the investments. The fair values of affiliated common
stocks are based on quoted market prices.
MORTGAGE LOANS ON REAL ESTATE
The estimated fair value of mortgage loans on real estate was established
using a discounted cash flow method based on credit rating, maturity and
future income when compared to the expected yield for mortgages having sim-
ilar characteristics. The rating for mortgages in good standing are based
on property type, location, market conditions, occupancy, debt service cov-
erage, loan to value, caliber of tenancy, borrower and payment record. Fair
values for impaired mortgage loan are measured based on: 1) the present
value of expected future cash flows discounted at the loan's effective in-
terest rate; 2) the loan's market price; or 3) the fair value of the col-
lateral if the loan is collateral dependent.
POLICY LOANS
The estimated fair value of investments in policy loans was calculated on a
composite discounted cash flow basis using Treasury interest rates consis-
tent with the maturity durations assumed. These durations were based on
historical experience.
OTHER INVESTMENTS AND CASH AND INVESTED CASH
The carrying value for assets classified as other investments and cash and
invested cash in the accompanying balance sheet approximates their fair
value.
INVESTMENT-TYPE INSURANCE CONTRACTS
The balance sheet captions, "Future Policy Benefits and Claims" and "Other
Policyholder Funds," include investment-type insurance contracts (i.e., de-
posit contracts and guaranteed interest contracts). The fair values for the
deposit contracts and certain guaranteed interest contracts are based on
their approximate surrender values. The fair values for the remaining guar-
anteed interest and similar contracts are based on their approximate sur-
render values. The fair values for the remaining guaranteed interest and
similar contracts are estimated using discounted cash flow calculations.
These calculations are based on interest rates currently offered on similar
contracts with maturities consistent with those remaining for the contracts
being valued.
The remainder of the balance sheet captions "Future Policy Benefits and
Claims" and "Other Policyholder Funds," that do not fit the definition of
"investment type insurance contracts" are considered insurance contracts.
Fair value disclosures are not required for these insurance contracts and
have not been determined by the Company. It is the Company's position that
the disclosure of the fair value of these insurance contracts is important
because readers of these financial statements could draw inappropriate con-
clusions about the Company's capital and surplus determined on a fair value
basis. It could be misleading if only the fair value of assets and liabili-
ties defined as financial instruments are disclosed. The Company and other
companies in the insurance industry are monitoring the related actions of
the various rule-making bodies and attempting to determine an appropriate
methodology for estimating and disclosing the "fair value" of their insur-
ance contract liabilities.
SHORT-TERM DEBT
Fair values of short-term debt approximates carrying values.
GUARANTEES
The Company's guarantees include guarantees related to real estate partner-
ships and mortgage loan pass-through certificates. Based on historical per-
formance where repurchases have been negligible and the current status,
which indicates none of the loans are delinquent, the fair value liability
for the guarantees related to the mortgage loan pass-through certificates
is insignificant.
DERIVATIVES
The Company's derivatives include interest rate cap agreements, swaptions,
spread-lock agreements, foreign currency exchange contracts, financial
futures contracts, options on financial futures, interest rate swaps, call
options, foreign currency options and foreign currency swaps.
Fair values for derivative contracts are based on current settlement val-
ues. These values are based on: 1) quoted market prices for the foreign
currency exchange contracts, financial future contracts, and options on fi-
nancial futures; and 2) brokerage quotes that utilized pricing models or
formulas using current assumptions for all other swaps and agreements.
S-23
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
10.FAIR VALUE OF FINANCIAL INSTRUMENTS
CONTINUED
INVESTMENT COMMITMENTS
Fair values for commitments to make investment in fixed maturity securities
(primarily private placements), mortgage loans on real estate and real es-
tate are based on the difference between the value of the committed invest-
ments as of the date of the accompanying balance sheets and the commitment
date. These estimates would take into account changes in interest rates,
the counterparties' credit standing and the remaining terms of the commit-
ments.
S-24
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
10.FAIR VALUE OF FINANCIAL INSTRUMENTS
CONTINUED
The carrying values and estimated fair values of the Company's
financial instruments are as follows:
<TABLE>
<CAPTION>
December 31
----------------------------------------------
1996 1995
---------------------- ----------------------
Carrying Fair Carrying Fair
Assets (Liabilities) value value value value
---------------------------------------- ---------- ---------- ---------- ----------
(in millions)
----------------------------------------------
<S> <C> <C> <C> <C>
Bonds $ 19,389.6 $ 20,194.4 $ 17,729.7 $ 19,184.7
----------------------------------------
Preferred stock 239.7 248.5 89.9 103.6
----------------------------------------
Unaffiliated common stock 358.3 358.3 535.5 535.5
----------------------------------------
Mortgage loans on real estate 2,976.7 3,070.9 2,909.7 3,081.9
----------------------------------------
Policy loans 626.5 612.7 515.8 504.0
----------------------------------------
Other investments 282.7 282.7 248.0 248.0
----------------------------------------
Cash and short-term investments 759.2 759.2 780.9 780.9
----------------------------------------
Investment type insurance contracts:
----------------------------------------
Deposit contracts and certain
guaranteed interest contracts (17,871.6) (17,333.0) (15,586.7) (15,046.0)
----------------------------------------
Remaining guaranteed interest and
similar contracts (1,799.7) (1,835.4) (2,261.1) (2,340.4)
----------------------------------------
Short-term debt (100.0) (100.0) (63.0) (63.0)
----------------------------------------
Derivatives 26.5 13.8 23.7 5.8
----------------------------------------
Investment commitments -- (.6) -- (.8)
----------------------------------------
</TABLE>
11.ACQUISITIONS AND SALES OF SUBSIDIARIES
The Company sold its 100% interest in two subsidiaries--Se-
curity Connecticut Life Insurance Company ("SCL") and Em-
ployers Health Insurance Company ("EHI"). SCL was sold
through a public offering of stock in January 1994. This
transaction resulted in a realized gain of $90,000,000 and a
direct increase in surplus of $24,000,000. Net of expenses,
the Company received cash of $172,000,000 and notes of
$65,000,000.
EHI was also sold through public offerings in March and
April 1994. LNC purchased 29% of the stock of the new pub-
licly traded holding company from LNL. Prior to the sale,
the Company received a $50,000,000 dividend in the form of a
note. The sale transaction resulted in a realized gain of
$133,000,000 and a direct reduction in surplus of
$21,000,000 due to release of unrealized gain amounts, for a
net surplus increase of $112,000,000. Net of expenses, the
Company received cash of $348,000,000.
In October 1996, the Company and its wholly owned subsidiary
purchased a block of group tax qualified annuity business
from UNUM Corporation. The transaction was completed in the
form of a reinsurance transaction, which resulted in a ced-
ing commission of $71,800,000. The ceding commission has
been recorded as admissible goodwill of $62,300,000, which
is to be amortized on a straight-line basis over 10 years.
The Company's subsidiary was required by the New York De-
partment of Insurance to expense its portion of the ceding
commission in 1996. Policy liabilities and related accruals
of the Company and its wholly owned subsidiary increased by
$3,200,000,000 as a result of this transaction.
In its previously-filed 1996 NAIC Annual Statement, the Com-
pany recorded the ceding commission as a nonadmitted asset,
which was charged directly to unassigned surplus. According-
ly, unassigned surplus was understated at December 31, 1996
by $62,300,000, net of amortization in 1996. In 1997, man-
agement will correct its opening balance of unassigned sur-
plus in its NAIC Annual Statement.
S-25
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
The balance sheets include reinsurance balances with affiliated companies
as follows:
<TABLE>
<CAPTION>
December 31
1996 1995
-------- --------
(in millions)
-----------------
<S> <C> <C>
Future policy benefits and claims assumed $ 312.7 $ 344.8
Future policy benefits and claims ceded 891.8 1,344.5
Amounts recoverable on paid and unpaid losses 31.2 65.9
Reinsurance payable on paid losses 2.7 5.5
Funds held under reinsurance treaties--net liability 1,062.4 712.3
</TABLE>
Substantially all reinsurance ceded to affiliated companies is with unau-
thorized companies. To take a reserve credit for such reinsurance, the Com-
pany holds assets from the reinsurer, including funds held under reinsur-
ance treaties, and is the beneficiary on letters of credit aggregating
$314,200,000 and $306,800,000 at December 31, 1996 and 1995, respectively.
At December 31, 1996 and 1995, LNC had guaranteed $239,200,000 and
$241,400,000, respectively, of these letters of credit. At December 31,
1996, the Company has a receivable (included in the foregoing amounts) from
affiliated insurance companies in the amount of $135,700,000 for statutory
surplus relief received under financial reinsurance ceded agreements.
13. SEPARATE ACCOUNTS
Separate account assets and liabilities reported in the accompanying bal-
ance sheets represent funds that are separately administered, principally
for annuity contracts, and for which the contractholder, rather than the
Company, bears the investment risk. Separate account contractholders have
no claim against the assets of the general account of the Company. Separate
account assets are reported at fair value and consist primarily of long-
term bonds, common stocks, short-term investments and mutual funds. The de-
tailed operations of the separate accounts are not included in the accompa-
nying financial statements. Fees charged on separate account policyholder
deposits are included in other income.
Separate account premiums, deposits and other considerations amounted to
$4,148,700,000, $3,068,200,000 and $2,694,700,000 in 1996, 1995 and 1994,
respectively. Reserves for separate accounts with assets at fair value were
$23,047,800,000 and $17,891,400,000 at December 31, 1996 and 1995, respec-
tively. All reserves are subject to discretionary withdrawal at market val-
ue. Substantially all of the Company's separate accounts are nonguaranteed.
12. TRANSACTIONS WITH AFFILIATES
A wholly owned subsidiary of LNC, Lincoln Financial Group, Inc. ("LFGI"),
has a nearly exclusive general agents contract with the Company under which
it sells the Company's products and provides the service that otherwise
would be provided by a home office marketing department and regional of-
fices. For providing these selling and marketing services, the Company paid
LFGI override commissions and operating expense allowances of $56,300,000,
$43,300,000 and $41,200,000 in 1996, 1995 and 1994, respectively. LFGI in-
curred expenses of $15,700,000, $10,400,000 and $10,700,000 in 1996, 1995
and 1994, respectively, in excess of the override commissions and operating
expense allowances received from the Company, which the Company is not re-
quired to reimburse.
Cash and short-term investments at December 31, 1996 and 1995 include the
Company's participation in a short-term investment pool with LNC of
$175,100,000 and $324,000,000, respectively. Related investment income
amounted to $15,300,000, $21,100,000 and $16,100,000 in 1996, 1995 and
1994, respectively. Other liabilities at December 31, 1996 and 1995 include
$100,000,000 of notes payable to LNC.
The Company provides services to and receives services from affiliated com-
panies which resulted in a net payment of $34,100,000 and $24,900,000 in
1996 and 1995, respectively.
The Company both cedes and accepts reinsurance from affiliated companies.
Premiums in the accompanying statement of income includes reinsurance
transactions with affiliated companies as follows:
<TABLE>
<CAPTION>
Year ended
December 31
1996 1995 1994
------ ------ ------
(in millions)
--------------------
<S> <C> <C> <C>
Insurance assumed $ 17.9 $ 17.6 $ 19.8
Insurance ceded 302.8 214.4 481.3
</TABLE>
S-26
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTES TO STATUTORY-BASIS FINANCIAL STATEMENTS CONTINUED
13. SEPARATE ACCOUNTS CONTINUED
A reconciliation of transfers to (from) separate accounts are as follows:
<TABLE>
<CAPTION>
Year ended
December 31
1996 1995
----------------------------------------------------
(in millions)
---------------------
<S> <C> <C>
Transfers as reported in the Summary of
Operations of various Separate Accounts:
Transfers to separate accounts $ 4,149.6 $ 3,070.2
Transfers from separate accounts (2,058.5) (1,457.8)
--------- ---------
Net transfer to separate accounts as reported
in the Company's NAIC Annual Statement $ 2,091.1 $ 1,612.4
========= =========
</TABLE>
S-27
<PAGE>
OTHER FINANCIAL INFORMATION
<PAGE>
REPORT OF INDEPENDENT AUDITORS
Board of Directors
The Lincoln National Life Insurance Company
We have audited the accompanying statutory-basis balance sheets of The Lincoln
National Life Insurance Company (a wholly owned subsidiary of Lincoln National
Corporation) as of December 31, 1996 and 1995, and the related statutory-basis
statements of income, changes in capital and surplus and cash flows for each of
the three years in the period ended December 31, 1996. These financial state-
ments are the responsibility of the Company's management. Our responsibility is
to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing stan-
dards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of mate-
rial misstatement. An audit includes examining, on a test basis, evidence sup-
porting 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 pre-
sentation. We believe that our audits provide a reasonable basis for our opin-
ion.
As described in Note 1 to the financial statements, the Company presents its
financial statements in conformity with accounting practices prescribed or per-
mitted by the Indiana Department of Insurance, which practices differ from gen-
erally accepted accounting principles. The variances between such practices and
generally accepted accounting principles and the effects on the accompanying
financial statements are also described in Note 1.
In our opinion, because of the effects of the matter described in the preceding
paragraph, the financial statements referred to above do not present fairly, in
conformity with generally accepted accounting principles, the financial posi-
tion of The Lincoln National Life Insurance Company at December 31, 1996 and
1995, or the results of its operations or its cash flows for each of the three
years in the period ended December 31, 1996.
However, in our opinion, the financial statements referred to above present
fairly, in all material respects, the financial position of The Lincoln Na-
tional Life Insurance Company at December 31, 1996 and 1995, and the results of
its operations and its cash flows for each of the three years in the period
ended December 31, 1996, in conformity with accounting practices prescribed or
permitted by the Indiana Department of Insurance.
As described in Note 2, in 1994 the Company changed its method of accounting
for separate account contracts.
/s/ Ernst & Young LLP
February 6, 1997
S-28
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
SUPPLEMENTAL SCHEDULE OF SELECTED
STATUTORY-BASIS FINANCIAL DATA
DECEMBER 31, 1996 (IN MILLIONS)
<TABLE>
<S> <C>
Investment income earned:
Government bonds $ 74.6
---------------------------------------------------------------------
Other bonds (unaffiliated) 1,367.6
---------------------------------------------------------------------
Preferred stocks (unaffiliated) 9.6
---------------------------------------------------------------------
Common stocks (unaffiliated) 6.5
---------------------------------------------------------------------
Common stocks of affiliates 9.5
---------------------------------------------------------------------
Mortgage loans 269.3
---------------------------------------------------------------------
Real estate 114.4
---------------------------------------------------------------------
Premium notes, policy loans and liens 35.0
---------------------------------------------------------------------
Cash on hand and on deposit 0.9
---------------------------------------------------------------------
Short-term investments 48.0
---------------------------------------------------------------------
Other invested assets 17.6
---------------------------------------------------------------------
Derivative instruments (6.3)
---------------------------------------------------------------------
Aggregate write-ins for investment income 11.1
----------------------------------------------------------- --------
Gross investment income $1,957.8
- ------------------------------------------------------------- ========
Real estate owned (cost, less encumbrances) $ 621.3
- ------------------------------------------------------------- ========
Mortgage loans (unpaid balance):
Farm mortgages $ 1.1
---------------------------------------------------------------------
Residential mortgages 3.7
---------------------------------------------------------------------
Commercial mortgages 2,971.9
----------------------------------------------------------- --------
Total mortgage loans $2,976.7
- ------------------------------------------------------------- ========
Mortgage loans by standing (unpaid balance):
Good standing $2,922.1
----------------------------------------------------------- ========
Good standing with restructured terms $ 39.6
----------------------------------------------------------- ========
Interest overdue more than three months, not in foreclosure $ --
----------------------------------------------------------- ========
Foreclosure in process $ 14.9
----------------------------------------------------------- ========
Other long-term assets (statement value) $ 248.1
- ------------------------------------------------------------- ========
</TABLE>
S-29
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
SUPPLEMENTAL SCHEDULE OF SELECTED
STATUTORY-BASIS FINANCIAL DATA CONTINUED
DECEMBER 31, 1996 (IN MILLIONS)
<TABLE>
<S> <C>
Bonds and stocks of parent, subsidiaries and affiliates (cost):
Common stocks $ 194.0
------------------------------------------------------------- ==========
Bonds and short-term investments by class and maturity:
Bonds by maturity (statement value):
Due within one year or less $ 1,618.0
-------------------------------------------------------------
Over 1 year through 5 years 5,928.1
-------------------------------------------------------------
Over 5 years through 10 years 6,025.9
-------------------------------------------------------------
Over 10 years through 20 years 3,670.6
-------------------------------------------------------------
Over 20 years 2,860.4
------------------------------------------------------------- ----------
Total by maturity $ 20,103.0
- --------------------------------------------------------------- ==========
Bonds by class (statement value):
Class 1 $ 14,013.7
-------------------------------------------------------------
Class 2 4,504.1
-------------------------------------------------------------
Class 3 807.6
-------------------------------------------------------------
Class 4 705.9
-------------------------------------------------------------
Class 5 71.4
-------------------------------------------------------------
Class 6 0.3
------------------------------------------------------------- ----------
Total by class $ 20,103.0
- --------------------------------------------------------------- ==========
Total bonds publicly traded $ 16,520.3
- --------------------------------------------------------------- ==========
Total bonds privately placed $ 3,582.7
- --------------------------------------------------------------- ==========
Preferred stocks (cost or amortized cost) $ 239.7
- --------------------------------------------------------------- ==========
Unaffiliated common stocks (market value) $ 358.3
- --------------------------------------------------------------- ==========
Short-term investments (cost or amortized cost) $ 713.4
- --------------------------------------------------------------- ==========
Financial options and caps owned (statement value) $ 32.2
- --------------------------------------------------------------- ==========
Financial options and caps written (statement value) $ 0.3
- --------------------------------------------------------------- ==========
Swap and forward agreements open (statement value) $ 0.2
- --------------------------------------------------------------- ==========
Futures contracts open (current value) $ 161.2
- --------------------------------------------------------------- ==========
Cash on deposit $ 45.8
- --------------------------------------------------------------- ==========
Life insurance in-force:
Ordinary $ 97.9
------------------------------------------------------------- ==========
Group life $ 31.4
------------------------------------------------------------- ==========
</TABLE>
S-30
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
SUPPLEMENTAL SCHEDULE OF SELECTED
STATUTORY-BASIS FINANCIAL DATA CONTINUED
DECEMBER 31, 1996 (IN MILLIONS)
<TABLE>
<S> <C>
Amount of accidental death insurance in-force under ordinary policies $ 4.9
- ----------------------------------------------------------------------------------------------- =========
Life insurance policies with disability provisions in-force:
Ordinary $ 4.9
--------------------------------------------------------------------------------------------- =========
Group life $ 12.9
--------------------------------------------------------------------------------------------- =========
Supplementary contracts in-force:
Ordinary--not involving life contingencies:
Amount on deposit $ --
--------------------------------------------------------------------------------------------- =========
Income payable $ 3.2
--------------------------------------------------------------------------------------------- =========
Ordinary--involving life contingencies:
Income payable $ 0.9
--------------------------------------------------------------------------------------------- =========
Group--not involving life contingencies:
Income payable $ --
--------------------------------------------------------------------------------------------- =========
Group--involving life contingencies:
Income payable $ 0.9
--------------------------------------------------------------------------------------------- =========
Annuities:
Ordinary:
Immediate--amount of income payable $ 68.4
--------------------------------------------------------------------------------------------- =========
Deferred--fully paid account balance $ 0.6
--------------------------------------------------------------------------------------------- =========
Deferred--not fully paid account balance $ 326.6
--------------------------------------------------------------------------------------------- =========
Group:
Amount of income payable $ --
--------------------------------------------------------------------------------------------- =========
Fully paid account balance $ --
--------------------------------------------------------------------------------------------- =========
Not fully paid account balance $ 78.1
--------------------------------------------------------------------------------------------- =========
Accident and health insurance--premiums in-force:
Ordinary $ 180.6
--------------------------------------------------------------------------------------------- =========
Group $ 97.1
--------------------------------------------------------------------------------------------- =========
Deposit funds and dividend accumulations:
Deposit funds account balance $17,456.6
--------------------------------------------------------------------------------------------- =========
Dividend accumulations--account balance $ 114.7
--------------------------------------------------------------------------------------------- =========
</TABLE>
S-31
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
SUPPLEMENTAL SCHEDULE OF SELECTED
STATUTORY-BASIS FINANCIAL DATA CONTINUED
DECEMBER 31, 1996 (IN MILLIONS)
Claim payments 1996:
Group Accident and Health:
<TABLE>
<S> <C>
1996 $ 9.4
=====
--------------
1995 $ 3.1
=====
--------------
1994 $ 0.1
=====
--------------
1993 $ --
=====
--------------
1992 $(0.1)
=====
--------------
Prior $ --
=====
--------------
</TABLE>
S-32
<PAGE>
LINCOLN NATIONAL LIFE INSURANCE COMPANY
NOTE TO SUPPLEMENTAL SCHEDULE OF SELECTED STATUTORY-BASIS FINANCIAL DATA
NOTE--BASIS OF PRESENTATION
The accompanying schedule presents selected statutory-basis financial data as
of December 31, 1996 and for the year then ended for purposes of complying with
paragraph 9 of the Annual Audited Financial Reports in the General Section of
the National Association of Insurance Commissioners' Annual Statement Instruc-
tions and agrees to or is included in the amounts reported in The Lincoln Na-
tional Life Insurance Company's 1996 Statutory Annual Statement as filed with
the Indiana Department of Insurance.
S-33
<PAGE>
REPORT OF INDEPENDENT AUDITORS ON
OTHER FINANCIAL INFORMATION
Board of Directors
The Lincoln National Life Insurance Company
Our audits were conducted for the purpose of forming an
opinion on the statutory-basis financial statements taken as
a whole. The accompanying supplemental schedule of selected
statutory-basis financial data is presented to comply with
the National Association of Insurance Commissioners' Annual
Statement Instructions and is not a required part of the
statutory-basis financial statements. Such information has
been subjected to the auditing procedures applied in our au-
dit of the statutory-basis financial statements and, in our
opinion, is fairly stated in all material respects in rela-
tion to the statutory-basis financial statements taken as a
whole.
/s/ Ernst & Young LLP
February 6, 1997
S-34
<PAGE>
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
Board of Directors of The Lincoln National Life Insurance Company
and
Contract Owners of Lincoln National Variable Annuity Account L
We have audited the accompanying statement of assets and liabilities of
Lincoln National Variable Annuity Account L (the "Separate Account") as of
December 31, 1996, and the related statement of operations and changes in net
assets for the period from October 1, 1996 (commencement of operations) to
December 31, 1996. These financial statements are the responsibility of the
Separate Account's management. Our responsibility is to express an opinion on
these financial statements based on our audit.
We conducted our audit 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. Our
procedures included confirmation of securities owned as of December 31, 1996,
by correspondence with the custodian. 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 audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Lincoln National Variable
Account L at December 31, 1996, the results of its operations and the changes
in its net assets for the period from October 1, 1996 to December 31, 1996, in
conformity with generally accepted accounting principles.
/s/ Ernst & Young LLP
Fort Wayne, Indiana
April 1, 1997
13
<PAGE>
LINCOLN NATIONAL VARIABLE ANNUITY ACCOUNT L
STATEMENT OF ASSETS AND LIABILITIES
DECEMBER 31, 1996
<TABLE>
<CAPTION>
DREYFUS
STOCK DREYFUS TCI TCI VIPF
INDEX SMALL CAP GROWTH BALANCED GROWTH
COMBINED FUND PORTFOLIO PORTFOLIO PORTFOLIO PORTFOLIO
---------- ------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Assets
Investments at fair
value $1,279,373 $70,222 $179,989 $18,454 $29,112 $193,228
Liabilities
Contract charges
payable to
The Lincoln
National Life
Insurance Company 503 28 72 7 12 77
---------- ------- -------- ------- ------- --------
Net assets $1,278,870 $70,194 $179,917 $18,447 $29,100 $193,151
========== ======= ======== ======= ======= ========
Percent of net assets 100.0% 5.5% 14.1% 1.4% 2.3% 15.1%
========== ======= ======== ======= ======= ========
</TABLE>
<TABLE>
<CAPTION>
CALVERT
VIPF II VIPF RESPONSIBLY T. ROWE VIPF
ASSET EQUITY- INVESTED PRICE MONEY
MANAGER INCOME BALANCED INTERNATIONAL MARKET
PORTFOLIO PORTFOLIO PORTFOLIO SERIES PORTFOLIO
--------- --------- ----------- ------------- ---------
<S> <C> <C> <C> <C> <C>
Assets
Investments at fair
value $430,304 $165,624 $134,580 $57,805 $ 55
Liabilities
Contract charges
payable to
The Lincoln
National Life
Insurance Company 170 65 49 23 --
-------- -------- -------- ------- ----
Net assets $430,134 $165,559 $134,531 $57,782 $ 55
======== ======== ======== ======= ====
Percent of net assets 33.6% 13.0% 10.5% 4.5% -- %
======== ======== ======== ======= ====
</TABLE>
See accompanying notes.
14
<PAGE>
LINCOLN NATIONAL VARIABLE ANNUITY ACCOUNT L
STATEMENT OF OPERATIONS AND CHANGES IN NET ASSETS
PERIOD FROM OCTOBER 1, 1996 TO DECEMBER 31, 1996
<TABLE>
<CAPTION>
DREYFUS STOCK DREYFUS SMALL CAP
COMBINED INDEX FUND PORTFOLIO
-------------------- ---------------------- ---------------------
<S> <C> <C> <C>
Net investment income
Dividends from
investment income $ 16,580 $ 931 $ 4,825
Less contract charges--
mortality and expense
fees to The Lincoln
National Life Insurance
Company 916 51 129
---------- ------- --------
Net investment income
(loss) 15,664 880 4,696
Net realized and
unrealized gain (loss)
on investments
Net realized loss (5) -- (1)
Net change in
unrealized gain (loss) (33,387) (1,693) (4,661)
---------- ------- --------
(33,392) (1,693) (4,662)
---------- ------- --------
Net increase (decrease)
in net assets resulting
from operations (17,728) (813) 34
Net increase in net
assets from principal
transactions 1,296,598 71,007 179,883
---------- ------- --------
Net increase in net
assets 1,278,870 70,194 179,917
Net assets at beginning
of period -- -- --
---------- ------- --------
Net assets at end of
period $1,278,870 $70,194 $179,917
========== ======= ========
<CAPTION>
TCI GROWTH PORTFOLIO TCI BALANCED PORTFOLIO VIPF GROWTH PORTFOLIO
-------------------- ---------------------- ---------------------
<S> <C> <C> <C>
Net investment income
Dividends from
investment income $ -- $ -- $ --
Less contract charges--
mortality and expense
fees to The Lincoln
National Life Insurance
Company 14 21 141
---------- ------- --------
Net investment income
(loss) (14) (21) (141)
Net realized and
unrealized gain (loss)
on investments
Net realized loss -- -- (2)
Net change in
unrealized gain (loss) (883) (401) (5,878)
---------- ------- --------
(883) (401) (5,880)
---------- ------- --------
Net increase (decrease)
in net assets resulting
from operations (897) (422) (6,021)
Net increase in net
assets from principal
transactions 19,344 29,522 199,172
---------- ------- --------
Net increase in net
assets 18,447 29,100 193,151
Net assets at beginning
of period -- -- --
---------- ------- --------
Net assets at end of
period $ 18,447 $29,100 $193,151
========== ======= ========
</TABLE>
See accompanying notes.
15
<PAGE>
LINCOLN NATIONAL VARIABLE ANNUITY ACCOUNT L
STATEMENT OF OPERATIONS AND CHANGES IN NET ASSETS--(CONTINUED)
PERIOD FROM OCTOBER 1, 1996 TO DECEMBER 31, 1996
<TABLE>
<CAPTION>
CALVERT RESPONSIBLY
VIPF II ASSET VIPF EQUITY- INVESTED BALANCED
MANAGER PORTFOLIO INCOME PORTFOLIO PORTFOLIO
-------------------- ---------------- -------------------
<S> <C> <C> <C>
Net investment income
Dividends from
investment income $ -- $ -- $ 10,101
Less contract charges--
mortality and expense
fees to The Lincoln
National Life Insurance
Company 312 118 89
-------- -------- --------
Net investment income
(loss) (312) (118) 10,012
Net realized and
unrealized gain (loss)
on investments
Net realized loss (1) -- (1)
Net change in
unrealized gain (loss) (6,765) (1,565) (12,067)
-------- -------- --------
(6,766) (1,565) (12,068)
-------- -------- --------
Net increase (decrease)
in net assets resulting
from operations (7,078) (1,683) (2,056)
Net increase in net
assets from principal
transactions 437,212 167,242 136,587
-------- -------- --------
Net increase in net
assets 430,134 165,559 134,531
Net assets at beginning
of period -- -- --
-------- -------- --------
Net assets at end of
period $430,134 $165,559 $134,531
======== ======== ========
<CAPTION>
T. ROWE PRICE VIPF MONEY
INTERNATIONAL SERIES MARKET PORTFOLIO
-------------------- ----------------
<S> <C> <C>
Net investment income
Dividends from
investment income $ 722 $ 1
Less contract charges--
mortality and expense
fees to The Lincoln
National Life Insurance
Company 41 --
-------- --------
Net investment income
(loss) 681 1
Net realized and
unrealized gain (loss)
on investments
Net realized loss -- --
Net change in
unrealized gain (loss) 526 --
-------- --------
526 --
-------- --------
Net increase (decrease)
in net assets resulting
from operations 1,207 1
Net increase in net
assets from principal
transactions 56,575 54
-------- --------
Net increase in net
assets 57,782 55
Net assets at beginning
of period -- --
-------- --------
Net assets at end of
period $ 57,782 $ 55
======== ========
</TABLE>
See accompanying notes.
16
<PAGE>
LINCOLN NATIONAL VARIABLE ANNUITY ACCOUNT L
NOTES TO FINANCIAL STATEMENTS
NOTE 1. ORGANIZATION AND ACCOUNTING POLICIES
Organization:
Lincoln National Variable Annuity Account L (the "Separate Account") is a
segregated investment account of The Lincoln National Life Insurance Company
("Lincoln Life") and is registered under the Investment Company Act of 1940.
The Separate Account was established in accordance with the laws of the State
of Indiana. Its registration statement became effective in September, 1996.
The assets are held for the exclusive benefit of the variable annuity contract
owners and may not be used to satisfy the obligations that may arise from any
other business conducted by Lincoln Life. Any excess of assets over
liabilities may be transferred to Lincoln Life's General Account. Principal
markets are hospitals and non-profit organizations located throughout the
United States of America, excluding New York.
On October 1, 1996, UNUM Life Insurance Company of America ("UNUM America")
completed the sale of its tax-qualified annuity business to Lincoln Life and
Lincoln Life & Annuity Company of New York ("Lincoln New York"), a wholly
owned subsidiary of Lincoln Life. The contracts of participants in the
separate accounts of UNUM America with respect to which consent is obtained
from contractholders and/or participants will be reinsured pursuant to an
assumption reinsurance agreement. Assets attributable to such participants'
contracts will be transferred to the Separate Account and separate accounts of
Lincoln New York. Assets attributable to contracts of participants with
respect to which such consent is not obtained will remain in the separate
accounts of UNUM America.
Investments:
In accordance with the terms of the variable annuity contracts, all payments
transferred to the Separate Account by the contract owners are allocated to
purchase shares of either Dreyfus Stock Index Fund, Dreyfus Variable
Investment Fund: Small Cap Portfolio ("Dreyfus Small Cap Portfolio"),
Twentieth Century's TCI Portfolios, Inc.: TCI Growth ("TCI Growth Portfolio")
and TCI Balanced ("TCI Balanced Portfolio"), Fidelity's Variable Insurance
Products Fund: Growth Portfolio ("VIPF Growth Portfolio"), Fidelity's Variable
Insurance Products Fund II: Asset Manager Portfolio ("VIPF II Asset Manager
Portfolio"), Fidelity's Variable Insurance Products Fund: Equity-Income
Portfolio ("VIPF Equity-Income Portfolio"), Calvert Responsibly Invested
Balanced Portfolio or T. Rowe Price International Series, Inc. ("T. Rowe Price
International Series"). Fidelity's Variable Insurance Products Funds: Money
Market Portfolio ("VIPF Money Market Portfolio") is used only for investment
of initial contributions for which Lincoln Life has not received complete
order instructions. Upon receipt of complete order instructions, the payments
transferred to VIPF Money Market Portfolio are allocated to purchase shares of
one of the above funds.
The Separate Account is fully invested in shares of Dreyfus Stock Index Fund,
Dreyfus Small Cap Portfolio, TCI Growth Portfolio, TCI Balanced Portfolio,
VIPF Growth Portfolio, VIPF II Asset Manager Portfolio, VIPF Equity-Income
Portfolio, Calvert Responsibly Invested Balanced Portfolio, T. Rowe Price
International Series and VIPF Money Market Portfolio which are carried at fair
value. Security transactions are recorded on the trade date. All contracts
participating in the Separate Account are in the accumulation phase. Dividends
are fully reinvested and immediately credited to participant accounts with the
exception of VIPF Money Market Portfolio which is invested monthly. Unrealized
gain and loss represent the difference between the cost and fair value of
invested assets. Realized gain and loss are reported on an average cost basis.
Gross unrealized gain for all investments was $526 as of December 31, 1996.
Gross unrealized loss for all investments was $33,913 as of December 31, 1996.
17
<PAGE>
LINCOLN NATIONAL VARIABLE ANNUITY ACCOUNT L
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
NOTE 1. ORGANIZATION AND ACCOUNTING POLICIES--(CONTINUED)
Investments:--(Continued)
The fair value and cost of investments at December 31, 1996, was distributed
as follows:
<TABLE>
<CAPTION>
FAIR VALUE
-----------------------
SHARES SHARE PRICE COST
----------- ----------- --------
<S> <C> <C> <C>
Dreyfus Stock Index Fund 3,462.6179 $20.28 $ 71,915
Dreyfus Small Cap Portfolio 3,456.0035 52.08 184,650
TCI Growth Portfolio 1,802.1535 10.24 19,338
TCI Balanced Portfolio 3,860.9446 7.54 29,512
VIPF Growth Portfolio 6,205.1248 31.14 199,105
VIPF II Asset Manager Portfolio 25,416.6595 16.93 437,069
VIPF Equity-Income Portfolio 7,875.6068 21.03 167,189
Calvert Responsibly Invested Balanced
Portfolio 75,862.4046 1.774 146,647
T. Rowe Price International Series 4,573.1734 12.64 57,279
VIPF Money Market Portfolio 54.9400 1.00 55
</TABLE>
Contract Charges:
Lincoln Life is the depositor for the Separate Account. Administrative
services necessary for the operation of the Separate Account and the variable
annuity contracts are provided by Lincoln Life. Although Lincoln Life deducts
for sales and administrative expenses under the contracts, Lincoln Life
assumes an expense risk that these deductions may prove insufficient to cover
the cost of those expenses.
In addition, Lincoln Life assumes a mortality risk under the contracts in
that it agrees to make annuity payments regardless of how long a particular
annuitant or their payee lives and how long all annuitants or other payees in
a class live, if payment options involving life contingencies are chosen.
Those annuity payments are determined in accordance with annuity purchase rate
provisions established at the time the contracts are issued. Lincoln Life also
assumes a mortality risk in providing a death benefit under the contracts.
To compensate Lincoln Life for assuming these mortality and expense risks,
an effective annual mortality and expense risk charge of 1.20% of each
portfolio's average daily net assets is imposed on each portfolio within the
Separate Account with the exception of the VIPF Money Market Portfolio. For
1996, the mortality and expense risk charges totaled $916.
Federal Income Taxes:
Operations of the Separate Account form a part of and are taxed with
operations of Lincoln Life, which is taxed as a "life insurance company" under
the Internal Revenue Code. Using current law, no federal income taxes are
payable with respect to the Separate Account's net investment income and the
net realized gain on investments.
Premium Taxes:
Applicable state premium taxes are paid by Lincoln Life and deducted from
the account balances of contract owners either: (1) at the time of a total
withdrawal of a participant's account balance; (2) on the annuity commencement
date; (3) at such other date as the taxes are assessed.
18
<PAGE>
LINCOLN NATIONAL VARIABLE ANNUITY ACCOUNT L
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
NOTE 2. CAPITAL SHARE TRANSACTIONS
During 1996, the following transactions in capital stock occurred:
The Separate Account funds that invest in Dreyfus Stock Index Fund held
3,091.5026 units at a net asset value of $22.7054 at December 31, 1996.
<TABLE>
<CAPTION>
1996
------------------
UNITS AMOUNT
---------- -------
<S> <C> <C>
Units sold 3,091.5026 $71,007
Units redeemed -- --
---------- -------
Net increase 3,091.5026 $71,007
========== =======
</TABLE>
The Separate Account funds that invest in Dreyfus Small Cap Portfolio held
11,769.9487 units at a net asset value of $15.2861 at December 31, 1996.
<TABLE>
<CAPTION>
1996
--------------------
UNITS AMOUNT
----------- --------
<S> <C> <C>
Units sold 11,769.9487 $179,883
Units redeemed -- --
----------- --------
Net increase 11,769.9487 $179,883
=========== ========
</TABLE>
The Separate Account funds that invest in TCI Growth Portfolio held
1,253.7393 units at a net asset value of $14.7133 at December 31, 1996.
<TABLE>
<CAPTION>
1996
------------------
UNITS AMOUNT
---------- -------
<S> <C> <C>
Units sold 1,253.7393 $19,344
Units redeemed -- --
---------- -------
Net increase 1,253.7393 $19,344
========== =======
</TABLE>
The Separate Account funds that invest in TCI Balanced Portfolio held
1,794.8695 units at a net asset value of $16.2128 at December 31, 1996.
<TABLE>
<CAPTION>
1996
------------------
UNITS AMOUNT
---------- -------
<S> <C> <C>
Units sold 1,794.8695 $29,522
Units redeemed -- --
---------- -------
Net increase 1,794.8695 $29,522
========== =======
</TABLE>
The Separate Account funds that invest in VIPF Growth Portfolio held
8,318.3784 units at a net asset value of $23.2198 at December 31, 1996.
<TABLE>
<CAPTION>
1996
-------------------
UNITS AMOUNT
---------- --------
<S> <C> <C>
Units sold 8,318.3784 $199,172
Units redeemed -- --
---------- --------
Net increase 8,318.3784 $199,172
========== ========
</TABLE>
19
<PAGE>
LINCOLN NATIONAL VARIABLE ANNUITY ACCOUNT L
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
NOTE 2. CAPITAL SHARE TRANSACTIONS--(CONTINUED)
The Separate Account funds that invest in VIPF II Asset Manager Portfolio held
24,911.0257 units at a net asset value of $17.2668 at December 31, 1996.
<TABLE>
<CAPTION>
1996
--------------------
UNITS AMOUNT
----------- --------
<S> <C> <C>
Units sold 24,911.0257 $437,212
Units redeemed -- --
----------- --------
Net increase 24,911.0257 $437,212
=========== ========
</TABLE>
The Separate Account funds that invest in VIPF Equity-Income Portfolio held
10,485.2129 units at a net asset value of $15.7898 at December 31, 1996.
<TABLE>
<CAPTION>
1996
--------------------
UNITS AMOUNT
----------- --------
<S> <C> <C>
Units sold 10,485.2129 $167,242
Units redeemed -- --
----------- --------
Net increase 10,485.2129 $167,242
=========== ========
</TABLE>
The Separate Account funds that invest in Calvert Responsibly Invested
Balanced Portfolio held 9,459.1800 units at a net asset value of $14.2222 at
December 31, 1996.
<TABLE>
<CAPTION>
1996
-------------------
UNITS AMOUNT
---------- --------
<S> <C> <C>
Units sold 9,459.1800 $136,587
Units redeemed -- --
---------- --------
Net increase 9,459.1800 $136,587
========== ========
</TABLE>
The Separate Account funds that invest in T. Rowe Price International Series
held 4,707.0763 units at a net asset value of $12.2756 at December 31, 1996.
<TABLE>
<CAPTION>
1996
------------------
UNITS AMOUNT
---------- -------
<S> <C> <C>
Units sold 4,707.0763 $56,575
Units redeemed -- --
---------- -------
Net increase 4,707.0763 $56,575
========== =======
</TABLE>
The Separate Account funds that invest in VIPF Money Market Portfolio held
4.8714 units at a net asset value of $11.2772 at December 31, 1996.
<TABLE>
<CAPTION>
1996
--------------
UNITS AMOUNT
------- ------
<S> <C> <C>
Units sold 98.4501 $1,104
Units redeemed 93.5787 1,050
------- ------
Net increase 4.8714 $ 54
======= ======
</TABLE>
20
<PAGE>
LINCOLN NATIONAL VARIABLE ANNUITY ACCOUNT L
NOTES TO FINANCIAL STATEMENTS--(CONCLUDED)
NOTE 3. RELATED PARTY TRANSACTIONS
LNC Equity Sales Corporation, an affiliate, acts as a distributor and
principal underwriter of the Separate Account.
NOTE 4. SUBSEQUENT EVENT
Through April 1, 1997, the net assets of the Separate Account have increased
by approximately $263,407,000 from novations of assets from the separate
accounts of UNUM America.
21
