<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
-----------------------------------
FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1997 COMMISSION FILE NO. 1-12785
NATIONWIDE FINANCIAL SERVICES, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 31-1486870
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
ONE NATIONWIDE PLAZA
COLUMBUS, OHIO 43215
(614) 249-7111
(Address, including zip code, and telephone number,
including area code, of Registrant's principal executive offices)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports) and (2) has been subject to the filing
requirements for at least the past 90 days.
YES X NO
--- ---
CLASS A COMMON STOCK - 23,783,136 SHARES ISSUED AND OUTSTANDING AS OF
AUGUST 12, 1997 (Title of Class)
CLASS B COMMON STOCK - 104,745,000 SHARES ISSUED AND OUTSTANDING AS OF
AUGUST 12, 1997 (Title of Class)
<PAGE> 2
NATIONWIDE FINANCIAL SERVICES, INC. AND SUBSIDIARIES
FORM 10-Q
INDEX
<TABLE>
<CAPTION>
PART I FINANCIAL INFORMATION Page
----
<S> <C>
Item 1 Unaudited Consolidated Financial Statements 3
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations 10
PART II OTHER INFORMATION
Item 1 Legal Proceedings 23
Item 2 Changes in Securities 23
Item 3 Defaults Upon Senior Securities 23
Item 4 Submission of Matters to a Vote of Security Holders 23
Item 5 Other Information 23
Item 6 Exhibits and Reports on Form 8-K 24
SIGNATURE 25
</TABLE>
2
<PAGE> 3
PART I - FINANCIAL INFORMATION
ITEM 1 UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
NATIONWIDE FINANCIAL SERVICES, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(in thousands of dollars)
<TABLE>
<CAPTION>
(Unaudited)
Assets June 30,1997 December 31, 1996
------ ------------ -----------------
<S> <C> <C>
Investments:
Securities available-for-sale, at fair value:
Fixed maturity securities (cost $12,049,864 in 1997; $11,970,878 in 1996) $12,319,848 12,304,639
Equity securities (cost $55,813 in 1997; $43,890 in 1996) 66,497 59,131
Fixed maturity securities held-to-maturity, at amortized cost (fair value $5,974
in 1997; $5,944 in 1996) 5,927 5,877
Mortgage loans on real estate, net 5,141,839 5,272,119
Real estate, net 292,935 265,759
Policy loans 391,432 371,816
Other long-term investments 23,336 28,668
Short-term investments 385,409 9,261
----------- ----------
18,627,223 18,317,270
----------- ----------
Cash 88,708 43,183
Accrued investment income 209,312 210,182
Deferred policy acquisition costs 1,537,814 1,366,509
Investment in subsidiaries classified as discontinued operations -- 485,707
Other assets 431,873 420,685
Assets held in Separate Accounts 32,866,145 26,926,702
----------- ----------
$53,761,075 47,770,238
=========== ==========
Liabilities and Shareholders' Equity
------------------------------------
Future policy benefits and claims $17,536,264 17,179,060
Policyholders' dividend accumulations 366,681 361,401
Other policyholder funds 59,153 60,073
Accrued federal income tax:
Current 44,750 29,201
Deferred 155,658 158,896
----------- ----------
200,408 188,097
----------- ----------
Dividend payable 7,712 485,707
Long-term debt 298,369 --
Other liabilities 433,916 437,465
Liabilities related to Separate Accounts 32,866,145 26,926,702
----------- ----------
51,768,648 45,638,505
----------- ----------
NFS-obligated mandatorily redeemable preferred securities of subsidiary
trust holding solely junior subordinated debentures of NFS 100,000 --
----------- ----------
Shareholders' equity:
Class A common shares, $.01 par value. Authorized 750,000,000 shares,
23,783,136 shares issued and outstanding 238 --
Class B common shares, $.01 par value. Authorized 750,000,000 shares,
104,745,000 shares issued and outstanding 1,047 1,047
Additional paid-in capital 629,160 551,422
Retained earnings 1,122,099 1,405,672
Unearned compensation (1,354) --
Unrealized gains on securities available-for-sale, net 141,237 173,592
----------- ----------
1,892,427 2,131,733
----------- ----------
$53,761,075 47,770,238
=========== ==========
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
3
<PAGE> 4
NATIONWIDE FINANCIAL SERVICES, INC. AND SUBSIDIARIES
Consolidated Statements of Income
(Unaudited)
(in thousands of dollars, except per share amounts)
<TABLE>
<CAPTION>
Three months ended Six months ended
June 30, June 30,
------------------------ -------------------------
1997 1996 1997 1996
-------- ------- --------- ---------
<S> <C> <C> <C> <C>
Revenues:
Investment product and universal life insurance product
policy charges $129,658 97,955 250,107 186,558
Traditional life insurance premiums 50,295 49,224 105,741 103,012
Net investment income 352,769 340,266 694,148 669,797
Realized gains (losses) on investments (11,929) 5,806 9,113 9,374
Other income 18,692 21,320 33,144 39,617
-------- ------- --------- ---------
539,485 514,571 1,092,253 1,008,358
-------- ------- --------- ---------
Benefits and expenses:
Benefits and claims 297,049 285,276 593,419 575,272
Provision for policyholders' dividends on participating policies 11,542 11,907 22,188 22,687
Amortization of deferred policy acquisition costs 39,594 34,865 82,988 70,994
Interest expense 8,149 -- 10,036 --
Other operating expenses 98,255 91,110 192,621 170,125
-------- ------- --------- ---------
454,589 423,158 901,252 839,078
-------- ------- --------- ---------
Income from continuing operations before federal
income tax expense 84,896 91,413 191,001 169,280
-------- ------- --------- ---------
Federal income tax expense (benefit):
Current 29,715 32,594 52,679 58,635
Deferred (10) 9 14,183 552
-------- ------- --------- ---------
29,705 32,603 66,862 59,187
-------- ------- --------- ---------
Income from continuing operations 55,191 58,810 124,139 110,093
Income from discontinued operations (less federal income
tax expense of $1,470 and $3,986 in 1996) -- 3,100 -- 7,295
-------- ------- --------- ---------
Net income $ 55,191 61,910 124,139 117,388
======== ======= ========= =========
Per common share:
Income from continuing operations $ .43 .56 1.04 1.05
Net income $ .43 .59 1.04 1.12
Cash dividends declared $ .06 -- .06 --
Weighted average number of common shares
outstanding (in thousands) 128,527 104,745 119,461 104,745
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
4
<PAGE> 5
NATIONWIDE FINANCIAL SERVICES, INC. AND SUBSIDIARIES
Consolidated Statements of Shareholders' Equity
(Unaudited)
Six Months Ended June 30, 1997 and 1996
(in thousands of dollars)
<TABLE>
<CAPTION>
Unrealized
gains
(losses)
Class A Class B Additional on securities Total
common common paid-in Retained Unearned available- shareholders'
shares shares capital earnings compensation for-sale, net equity
---------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
1996:
Balance, January 1, 1996 $-- 1,047 680,690 1,550,689 -- 384,304 2,616,730
Net income -- -- -- 117,388 -- -- 117,388
Dividend to shareholder -- -- -- (2,000) -- -- (2,000)
Unrealized losses on
securities available-for-
sale, net -- -- -- -- -- (275,185) (275,185)
---------------------------------------------------------------------------------------------
Balance, June 30, 1996 $-- 1,047 680,690 1,666,077 -- 109,119 2,456,933
=============================================================================================
1997:
Balance, January 1, 1997 -- 1,047 551,422 1,405,672 -- 173,592 2,131,733
Issuance of Class A
common shares 236 -- 523,922 -- -- -- 524,158
Net income -- -- -- 124,139 -- -- 124,139
Dividends to shareholders -- -- (450,000) (407,712) -- -- (857,712)
Class A common shares
issued for long-term
incentive plans 2 -- 3,816 -- (1,530) -- 2,288
Amortization of unearned
compensation -- -- -- -- 176 -- 176
Unrealized losses on
securities available-for-
sale, net -- -- -- -- -- (32,355) (32,355)
---------------------------------------------------------------------------------------------
Balance, June 30, 1997 $238 1,047 629,160 1,122,099 (1,354) 141,237 1,892,427
=============================================================================================
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
5
<PAGE> 6
NATIONWIDE FINANCIAL SERVICES, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(Unaudited)
Six Months Ended June 30, 1997 and 1996
(in thousands of dollars)
<TABLE>
<CAPTION>
1997 1996
----------- ---------
<S> <C> <C>
Cash flows from operating activities:
Net income $ 124,139 117,388
Adjustments to reconcile net income to net cash provided by (used in)
operating activities:
Capitalization of deferred policy acquisition costs (235,735) (214,486)
Amortization of deferred policy acquisition costs 82,988 70,994
Amortization and depreciation 2,539 9,269
Realized gains on investments, net (9,113) (9,374)
Deferred federal income tax 14,183 24,025
Decrease (increase) in accrued investment income 870 (814)
Increase in other assets (9,757) (49,929)
Increase (decrease) in policyholder account balances 55,237 (63,997)
Increase in policyholders' dividend accumulations 5,280 7,113
Increase in accrued federal income tax payable 15,549 7,568
(Decrease) increase in other liabilities (3,549) 71,737
Other, net 3,177 (27,375)
----------- ---------
Net cash provided by (used in) operating activities 45,808 (57,881)
----------- ---------
Cash flows from investing activities:
Proceeds from maturity of securities available-for-sale 437,694 685,247
Proceeds from sale of securities available-for-sale 225,855 194,207
Proceeds from repayments of mortgage loans on real estate 164,699 123,064
Proceeds from sale of real estate 23,214 8,163
Proceeds from repayments of policy loans and sale of other invested assets 21,908 27,108
Cost of securities available-for-sale acquired (1,236,560) (776,121)
Cost of mortgage loans on real estate acquired (418,593) (486,706)
Cost of real estate acquired (21,506) (2,893)
Policy loans issued and other invested assets acquired (37,785) (42,936)
Short-term investments, net (377,283) 33,522
----------- ---------
Net cash used in investing activities (1,218,357) (237,345)
----------- ---------
Cash flows from financing activities:
Net proceeds from issuance of Class A common shares 524,158 --
Net proceeds from issuance of company obligated, mandatorily redeemable
preferred securities of subsidiary trust 98,347 --
Net proceeds from issuance of long-term debt 294,522 --
Cash dividends paid -- (2,000)
Increase in investment product and universal life insurance product
account balances 1,511,167 1,284,221
Decrease in investment product and universal life insurance product
account balances (1,210,120) (918,291)
----------- ---------
Net cash provided by financing activities 1,218,074 363,930
----------- ---------
Net increase in cash 45,525 68,704
Cash, beginning of period 43,183 10,055
----------- ---------
Cash, end of period $ 88,708 78,759
=========== =========
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
6
<PAGE> 7
NATIONWIDE FINANCIAL SERVICES, INC. AND SUBSIDIARIES
Notes to Unaudited Consolidated Financial Statements
Six Months Ended June 30, 1997
(1) Organization and Basis of Presentation
--------------------------------------
Nationwide Financial Services, Inc. (NFS) was formed in November 1996
as a holding company for Nationwide Life Insurance Company (NLIC) and
the other companies within the Nationwide Insurance Enterprise that
offer or distribute long-term savings and retirement products. Prior to
the initial public offering described in note 2, NFS was a wholly owned
subsidiary of Nationwide Corporation (Nationwide Corp.). On January 27,
1997, Nationwide Corp. contributed the common stock of NLIC and three
marketing and distribution companies to NFS. The unaudited consolidated
financial statements include the results of NLIC and its subsidiaries
and the three marketing and distribution companies as if they were
consolidated with NFS for all periods presented. NFS and its
subsidiaries are collectively referred to as "the Company."
The accompanying unaudited consolidated financial statements of the
Company have been prepared in accordance with generally accepted
accounting principles, which differ from statutory accounting practices
prescribed or permitted by regulatory authorities, for interim
financial information and with the instructions to Form 10-Q and
Article 10 of Regulation S-X. Accordingly, they do not include all
information and footnotes required by generally accepted accounting
principles for complete financial statements. The financial information
included herein reflects all adjustments (all of which are normal and
recurring in nature) which are, in the opinion of management, necessary
for a fair presentation of financial position and results of
operations. Operating results for all periods presented are not
necessarily indicative of the results that may be expected for the full
year. All significant intercompany balances and transactions have been
eliminated. The accompanying unaudited consolidated financial
statements should be read in conjunction with the audited consolidated
financial statements and related notes for the year ended December 31,
1996 included in the Company's Form S-1 registration statement, which
was declared effective on March 5, 1997 (Registration No. 333-18527).
Net income per common share is based on the weighted average number of
common shares outstanding during the period. The dilutive effects of
common stock equivalents were not significant for any period presented.
Statement of Financial Accounting Standards No. 128 - Earnings Per
Share was issued in February 1997 and is effective for financial
periods ending after December 15, 1997. Earlier application is not
permitted. The statement requires dual presentation of basic and
diluted earnings per share on the face of the income statement with all
prior periods restated to conform to the new method. Management
believes that earnings per share amounts computed under the new
standard will not be materially different from the amounts reported
herein.
(2) Initial Public Offerings
------------------------
On March 10, 1997, NFS sold, in a public offering, $300.0 million of 8%
Senior Notes (the Notes) maturing March 1, 2027 with net proceeds of
$294.5 million. The Notes are redeemable in whole or in part, at the
option of NFS, at any time on or after March 1, 2007 at scheduled
redemption premiums through March 1, 2016, and, thereafter, at 100% of
the principal amount thereof plus, in each case, accrued and unpaid
interest. The Notes are not subject to any sinking fund payments.
On March 11, 1997 NFS sold, in an initial public offering, 23.6 million
shares of its newly-issued Class A common stock for net proceeds of
$524.2 million (the Equity Offering). Nationwide Corp. continues to own
all of the outstanding shares of Class B common stock, which represents
approximately 98% of the combined voting power of the stockholders of
NFS. During the first quarter of 1997, NFS's Board of Directors
approved a 104,745 for one split of the Company's Class B common stock,
which became effective February 10, 1997. Share information for all
periods presented has been restated to reflect the split.
7
<PAGE> 8
NATIONWIDE FINANCIAL SERVICES, INC. AND SUBSIDIARIES
Notes to Unaudited Consolidated Financial Statements, Continued
In addition, on March 11, 1997 Nationwide Financial Services Capital
Trust (the Trust), a wholly owned subsidiary of NFS, sold, in a public
offering, $100.0 million of 7.899% Capital Securities (the Capital
Securities), representing preferred undivided beneficial interests in
the assets of the Trust. Net proceeds from the sale of the Capital
Securities were $98.3 million. Concurrent with the sale of the Trust's
Capital Securities, NFS sold to the Trust $103.1 million in principal
amount of its 7.899% Junior Subordinated Deferrable Interest Debentures
(the Junior Subordinated Debentures) due March 1, 2037. The Junior
Subordinated Debentures are the sole assets of the Trust and are
redeemable by NFS in whole at any time or in part from time to time at
par plus an applicable make-whole premium. The Capital Securities will
mature or be called simultaneously with the Junior Subordinated
Debentures and have a liquidation value of $1,000 per Capital Security.
The Capital Securities, through obligations of NFS under the Junior
Subordinated Debentures, the Capital Securities Guarantee Agreement and
the related Declaration of Trust and Indenture, are fully and
unconditionally guaranteed by NFS. Distributions on the Capital
Securities are cumulative and payable semi-annually in arrears.
Distributions on the Capital Securities have been classified as
interest expense in the unaudited consolidated statements of income.
Aggregate net proceeds from the Equity Offering, the offering of the
Notes and the sale of the Capital Securities totaled $917.0 million.
NFS contributed $836.8 million of the proceeds to the capital of NLIC
and retained $80.2 million of the proceeds for general corporate
purposes.
(3) Dividends
---------
On September 24, 1996, NLIC's Board of Directors declared a dividend to
Nationwide Corp. consisting of the common stock of certain subsidiaries
classified as discontinued operations. As of and during the year ended
December 31, 1996, these previously wholly owned subsidiaries of NLIC
were classified as discontinued operations since they do not offer or
distribute long-term savings and retirement products. The dividend was
paid by NLIC on January 1, 1997.
On February 24, 1997, NLIC paid a dividend to NFS, and NFS paid an
equivalent dividend to Nationwide Corp., consisting of securities
having an aggregate market value of $850.0 million. The Company
recognized a gain of $14.4 million on the transfer of securities.
On June 11, 1997 NFS declared a dividend of $.06 per common share with
a record date of July 1, 1997. The dividend, totaling $7.7 million, was
paid July 15, 1997.
8
<PAGE> 9
NATIONWIDE FINANCIAL SERVICES, INC. AND SUBSIDIARIES
Notes to Unaudited Consolidated Financial Statements, Continued
(4) Pro Forma Results of Operations
-------------------------------
The following unaudited pro forma information presents the results of
operations of the Company for the three and six month periods ended
June 30, 1997 and 1996, with pro forma adjustments to net investment
income and interest expense giving effect to (i) the Equity Offering
and companion offerings of the Notes and the Capital Securities, (ii)
the $850.0 million dividend paid by the Company on February 24, 1997
and (iii) for 1996 only, a $50.0 million dividend paid by the Company
to Nationwide Corp. on December 31, 1996, as if each had been
consummated at the beginning of the year indicated. This pro forma
information is not necessarily indicative of what would have occurred
had the above transactions been made on the dates indicated, or of
future results of the Company.
<TABLE>
<CAPTION>
Three months ended Six months ended
June 30, June 30,
-------------------- ---------------------
(in millions of dollars, except per share amounts) 1997 1996 1997 1996
------ ----- ------- -------
<S> <C> <C> <C> <C>
Revenues $539.5 512.4 1,094.0 1,003.2
Benefits and expenses 454.6 431.3 907.4 855.2
------ ----- ------- -------
Income from continuing operations before federal
income tax expense 84.9 81.1 186.6 148.0
Federal income tax expense 29.7 29.0 65.3 51.7
------ ----- ------- -------
Income from continuing operations 55.2 52.1 121.3 96.3
Income from discontinued operations, net of federal
income tax expense -- 3.1 -- 7.3
------ ----- ------- -------
Net income $ 55.2 55.2 121.3 103.6
====== ===== ======= =======
Per common share:
Income from continuing operations $ .43 .40 .94 .75
Net income $ .43 .43 .94 .81
Weighted average number of common shares
outstanding (in millions) 128.5 128.4 128.5 128.4
</TABLE>
9
<PAGE> 10
ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
INTRODUCTION
The following analysis of unaudited consolidated results of
operations and financial condition of the Company should be read in
conjunction with the unaudited consolidated financial statements and
related notes included elsewhere herein.
Management's discussion and analysis of financial condition and
results of operations contains forward-looking statements that are
intended to enhance the reader's ability to assess the future
financial performance of the Company. Because these statements are
subject to numerous assumptions, risks, and uncertainties, actual
results could be materially different. The following factors, among
others, may have such an impact: changes in economic conditions;
movements in interest rates and the stock markets; competitive
pressures on product pricing and services; success and timing of
business strategies; and the nature and extent of legislation and
regulatory actions and reforms.
The Company has three product segments: Variable Annuities, Fixed
Annuities and Life Insurance. In addition, the Company reports
corporate income and expenses, investments and related investment
income supporting capital not specifically allocated to its product
segments and interest expense on debt in a Corporate and Other
segment.
RESULTS OF OPERATIONS
Policy Charges. Policy charges include asset fees, which are
primarily earned from separate account assets generated from sales
of variable annuities; administration fees, which include fees
charged per contract on a variety of the Company's products and
premium loads on universal life insurance products; surrender fees,
which are charged as a percentage of assets withdrawn during a
specified period (usually the first seven years) of annuity and
certain life insurance contracts; and cost of insurance charges
earned on universal life insurance products. For second quarter
1997, policy charges were $129.7 million, a 32% increase from $97.9
million in second quarter 1996. For the first half of 1997, policy
charges were $250.1 million, a 34% increase from $186.5 million for
the first six months of 1996. The increase in policy charges is due
primarily to increases in separate account assets and the resulting
higher levels of asset fees. Total separate account assets have
increased 44% from $22.84 billion as of June 30, 1996 to $32.87
billion as of June 30, 1997.
Life Insurance Premiums. Life insurance premiums are earned
primarily from traditional life insurance in the Life Insurance
segment, but are also earned from the sale of life-contingent
immediate annuities in the Fixed Annuities segment. Life insurance
premiums were $50.3 million during the three months ended June 30,
1997, representing a 2% increase from $49.3 million during the
corresponding period of 1996. For the six months ended June 30,
1997, life insurance premiums were up 3% to $105.7 million compared
to $103.1 million for the first half of 1996. The increase is
primarily attributable to an increase in traditional life insurance
in-force.
Net Investment Income. Net investment income includes the gross
investment income earned on investments supporting fixed annuities
and certain life insurance products as well as the yield on the
Company's general account invested assets which are not allocated to
product segments. Net investment income was $352.7 million and
$694.1 million, respectively, for the three and six months ended
June 30, 1997 compared to $340.2 million and $669.7 million for the
corresponding periods in 1996. Net investment income has increased
primarily as a result of growth in the Fixed Annuities segment.
10
<PAGE> 11
Realized Gains (Losses) on Investments. Realized gains and losses on
investments are not considered by the Company to be recurring
components of earnings. The Company makes decisions concerning the
sale of invested assets based on a variety of market, business, tax
and other factors. All realized gains and losses are reported in the
Corporate and Other segment. Net realized losses on investments were
$11.9 million in second quarter 1997 compared to realized gains of
$5.8 million in second quarter 1996. On a year-to date basis,
realized gains were $9.1 million through June 1997 compared to $9.4
million through June 1996. Realized gains in 1997 include $14.4
million recognized when securities of $850.0 million were paid to
Nationwide Corp. as a dividend on February 24, 1997. See note 3 to
the unaudited consolidated financial statements. The majority of the
second quarter 1997 realized loss relates to an $11.0 million
write-down of a single corporate bond investment due to
deterioration in the credit quality of the issuer.
Other Income. Other income consists of investment management fees
earned by the Company from the management of Nationwide mutual
funds, as well as commission and other income earned by the
Company's marketing and distribution subsidiaries. Net investment
management fees earned on Nationwide mutual fund assets selected as
investment options for variable annuity products and variable life
insurance products are reported in the Variable Annuities segment
and Life Insurance segment, respectively. The Company also sells its
mutual fund products separately, and investment management fees from
these assets are included in the Corporate and Other segment. Other
income was $18.7 million in second quarter 1997, down from $21.4
million in second quarter 1996. For the six months ended June 30,
1997 and 1996 other income was $33.2 million and $39.7 million,
respectively. The decrease in other income is a result of a
reduction in commission income earned by the Company's marketing and
distribution subsidiaries.
Benefits and Claims. Benefits and claims consist primarily of
interest credited on fixed annuity products and life insurance
benefits in the Life Insurance segment. Benefits and claims
increased 4% to $297.0 million in second quarter 1997 from $285.2
million in second quarter 1996. On a year-to-date basis, benefits
and claims increased 3% to $593.4 million through June 1997 from
$575.2 million through June 1996. The increases reflect increases in
both interest credited on fixed annuities and life insurance
benefits.
Policyholder Dividends. Policyholder dividends are paid on certain
participating life insurance policies. Policyholder dividends were
$11.6 million and $22.2 million in second quarter and for the first
half of 1997, respectively, representing 3% decreases from the
corresponding periods of 1996.
Amortization of Deferred Policy Acquisition Costs (DAC).
Amortization of DAC increased 13% from $34.9 million in second
quarter 1996 to $39.6 million in second quarter 1997. For the first
six months of 1997 amortization of DAC was $83.0 million, up 17%
from $71.1 million in the first half of 1996. The increases are
primarily attributable to an increase in variable annuity policy
reserves.
Interest Expense. Interest expense of $8.1 million and $10.0 million
reported in second quarter and for the first half of 1997,
respectively, represents interest on the Notes and Capital
Securities accrued from the date of closing. See note 2 to the
unaudited consolidated financial statements.
Operating Expenses. Operating expenses were $98.3 million in second
quarter 1997, an 8% increase from second quarter 1996 operating
expenses of $91.1 million. Operating expenses were up 13% to $192.6
million for the first half of 1997 from $170.0 million for the first
half of 1996. The increase is primarily due to an increase in the
number of annuity and life insurance contracts in-force and the
related increase in administrative processing costs. In addition,
operating expenses in 1997 include approximately $20 million on
technology projects related to year 2000 and the development of a
new policy administration system for the traditional life insurance
line.
Federal Income Tax Expense. Federal income tax expense was $29.7
million and $32.6 million, representing effective tax rates of 35.0%
and 35.7% for second quarter 1997 and 1996, respectively. For the
first six months of 1997 and 1996 federal income tax expense was
$66.9 million and $59.2 million, representing an effective tax rate
of 35.0% for both periods.
11
<PAGE> 12
Net Operating Income. Net operating income is net income, excluding
realized gains and losses on investments (net of related federal
income tax) and discontinued operations. Net operating income for
second quarter 1997 was $62.8 million, a 14% increase from second
quarter 1996's $55.0 million. Net operating income was $117.9
million through June 1997, up 15% from $102.9 million through June
1996.
Discontinued Operations. Discontinued operations include the results
of (i) the three NLIC subsidiaries whose outstanding common stock,
on September 24, 1996, was declared as a dividend to Nationwide
Corp. and (ii) 100% of NLIC's accident and health and group life
business which was ceded to affiliates during the third quarter of
1996. NLIC did not recognize any gain or loss on the disposal of
these subsidiaries or discontinuance of the accident and health and
group life insurance business. Income from discontinued operations
was $3.1 million and $7.3 million during the second quarter and for
the first half of 1996, respectively. There was no income from
discontinued operations in 1997 as a result of the transfer by the
Company of the ownership of the three subsidiaries to Nationwide
Corp. on January 1, 1997 and the reinsurance agreements.
EFFECT OF SPECIAL DIVIDENDS, EQUITY OFFERING AND FIXED INCOME
OFFERINGS
On December 31, 1996, NLIC paid a $50.0 million dividend (the $50
Million Dividend) to Nationwide Corp. On February 24, 1997, NLIC
paid a dividend to NFS, which subsequently made a dividend payment
to Nationwide Corp., consisting of securities having an aggregate
fair value of $850.0 million (the $850 Million Dividend). The $50
Million Dividend and the $850 Million Dividend are collectively
referred to as the "Special Dividends".
On March 10, 1997, NFS sold, in a public offering, $300.0 million of
8% Senior Notes maturing March 1, 2027 with net proceeds of $294.5
million (the Notes Offering). On March 11, 1997 NFS sold, in an
initial public offering, 23.6 million shares of newly-issued Class A
common stock for net proceeds of $524.2 million (the Equity
Offering). In addition, on March 11, 1997, Nationwide Financial
Services Capital Trust (the Trust), a wholly owned subsidiary of
NFS, sold, in a public offering, $100.0 million of 7.899% Capital
Securities (the Capital Securities Offering). The proceeds from the
Capital Securities Offering were used by the Trust to purchase
7.899% Junior Subordinated Deferrable Interest Debentures due March
1, 2037 of NFS. The Notes Offering and the Capital Securities
Offering are collectively referred to as "the Fixed Income
Offerings." Of the aggregate net proceeds from the Equity Offering
and Fixed Income Offerings of $917.0 million, NFS contributed $836.8
million to NLIC as additional paid-in capital. The remaining $80.2
million was retained by NFS and is available to pay operating
expenses and shareholder dividends.
Because (i) the Special Dividends preceded the Equity Offering and
the Fixed Income Offerings, and (ii) the net proceeds of $917.0
million from the Equity Offering and Fixed Income Offerings were
invested at lower yields than the yield on the investments used to
fund the $850 Million Dividend, the aggregate effects of the Special
Dividends, the Equity Offering and the Fixed Income Offerings were
approximately a $2.5 million reduction in net investment income for
second quarter 1997 and a $6.7 million reduction in net investment
income for the first six months of 1997. In addition, the Company
reported interest expense on the Notes and Capital Securities of
$8.1 million in the second quarter and $10.0 million in the first
half of 1997, respectively.
12
<PAGE> 13
The following pro forma information presents the results of
operations of the Company for the three and six month periods ended
June 30, 1997 and 1996 with pro forma adjustments to net investment
income and interest expense giving effect to (i) the Equity
Offering, (ii) the Fixed Income Offerings, (iii) the $850 Million
Dividend, and (iv) for 1996 only, the $50 Million Dividend, as if
each had been consummated at the beginning of the period indicated.
This pro forma information is not necessarily indicative of what
would have occurred had the above transactions been made on the
dates indicated, or of future results of the Company.
<TABLE>
<CAPTION>
Three months ended Six months ended
June 30, June 30,
-------------------- ---------------------
(in millions of dollars, except per share amounts) 1997 1996 1997 1996
------ ----- ------- -------
<S> <C> <C> <C> <C>
Revenues $539.5 512.4 1,094.0 1,003.2
Benefits and expenses 454.6 431.3 907.4 855.2
------ ----- ------- -------
Income from continuing operations before federal
income tax expense 84.9 81.1 186.6 148.0
Federal income tax expense 29.7 29.0 65.3 51.7
------ ----- ------- -------
Income from continuing operations 55.2 52.1 121.3 96.3
Income from discontinued operations, net of federal
income tax expense -- 3.1 -- 7.3
------ ----- ------- -------
Net income $ 55.2 55.2 121.3 103.6
====== ===== ======= =======
Per common share:
Income from continuing operations $ .43 .40 .94 .75
Net income $ .43 .43 .94 .81
Weighted average number of common shares
outstanding (in millions) 128.5 128.4 128.5 128.4
</TABLE>
The impact on the above per common share amounts of realized gains
(losses) on investments was $(.06) and $.03 for the three months
ended June 30, 1997 and 1996, respectively. On a year-to-date basis,
realized gains on investments contributed $.04 and $.06 to the above
per common share amounts in 1997 and 1996, respectively.
RESULTS OF OPERATIONS BY SEGMENT
The Company has three product segments: Variable Annuities, Fixed
Annuities and Life Insurance. In addition, the Company reports
corporate income and expenses, investments and related investment
income supporting capital not specifically allocated to its product
segments, and interest expense on debt in a Corporate and Other
segment. All information set forth below relating to the Company's
Variable Annuities segment excludes the fixed option under the
Company's variable annuity contracts. Such information is included
in the Company's Fixed Annuities segment.
13
<PAGE> 14
The following tables present summary financial data for the Company
by segment.
<TABLE>
<CAPTION>
Three months ended Six months ended
June 30, June 30,
-------------------- ---------------------
(in millions of dollars) 1997 1996 1997 1996
------ ----- ------- -------
REVENUES:
<S> <C> <C> <C> <C>
Variable Annuities $ 94.0 68.6 180.8 130.5
Fixed Annuities 282.2 273.9 567.0 544.8
Life Insurance 116.0 110.1 230.6 215.5
Corporate and Other 59.2 56.2 104.7 108.2
------ ----- ------- -------
Total operating revenues 551.4 508.8 1,083.1 999.0
Realized gains (losses) on investments (11.9) 5.8 9.1 9.4
------ ----- ------- -------
Total revenues $539.5 514.6 1,092.2 1,008.4
====== ===== ======= =======
INCOME FROM CONTINUING OPERATIONS BEFORE
FEDERAL INCOME TAX EXPENSE:
Variable Annuities $ 34.8 18.9 64.2 37.1
Fixed Annuities 44.1 39.4 81.7 73.0
Life Insurance 13.7 15.1 30.7 29.7
Corporate and Other 4.2 12.2 5.3 20.1
------ ----- ------- -------
Total operating income 96.8 85.6 181.9 159.9
Realized gains (losses) on investments (11.9) 5.8 9.1 9.4
------ ----- ------- -------
Total income from continuing operations before
federal income tax expense $ 84.9 91.4 191.0 169.3
====== ===== ======= =======
</TABLE>
<TABLE>
<CAPTION>
(in millions of dollars) As of June 30,
-----------------------
1997 1996
--------- --------
<S> <C> <C>
POLICY RESERVES:
Variable Annuities (1) $29,878.8 20,717.2
Fixed Annuities (1) 13,724.5 13,055.8
Life Insurance 3,165.9 2,778.3
Corporate and Other 3,571.8 2,860.6
--------- --------
Total policy reserves (2) $50,341.0 39,411.9
========= ========
</TABLE>
----------
(1) Policy reserves related to the fixed option under the
Company's variable annuity contracts are included in Fixed
Annuities. As of June 30, 1997 and 1996, such policy reserves
totaled $9.80 billion and $8.94 billion, respectively.
(2) Total policy reserves as presented here are net of reinsurance
and therefore differ from the amounts set forth in the
Company's unaudited consolidated financial statements.
Variable Annuities
Revenues. Revenues in the Variable Annuities segment consist of
policy charges and other income. Policy charges consist of asset
fees, which are generally a percentage of separate account assets
deposited for the purchase of variable annuities; administration
fees, which are generally a specific dollar amount per contract; and
surrender fees, which are charged against assets withdrawn during a
specified period (generally the first seven years) of variable
annuity contracts. The separate account assets generated by the
Variable Annuities segment do not contribute to net investment
income of the Company because the customer receives the investment
benefit and bears the investment risk of these assets. Other income
includes net investment management fees earned on separate account
assets held in mutual funds managed by a subsidiary of the Company.
14
<PAGE> 15
Variable annuity revenues grew to $94.0 million during the second
quarter and $180.8 million for the first six months of 1997,
representing 37% and 39% increases, respectively, from the same
periods of 1996. Revenues have increased as a result of growth in
policyholder account balances (policy reserves) due to an increase
in deposits and strong stock market performance, particularly during
the second quarter of 1997. The growth in policy reserves has
resulted in growth in asset fees, which were $85.0 million and
$163.8 million in second quarter and for the first half of 1997,
respectively, compared to $62.8 million and $119.6 million for the
same periods in 1996. Total policy charges, which include asset
fees, as a percentage of variable annuity policy reserves have
remained relatively stable during the periods presented, reflecting
no or minimal changes in the levels of policy charges for most
variable annuity products.
Income from Continuing Operations Before Federal Income Tax Expense.
Income from continuing operations before federal income tax expense
was $34.8 million in second quarter 1997, an 84% increase from
second quarter 1996. Through the first half of the current year,
variable annuity earnings increased 73% to $64.2 million compared to
the first six months of 1996. The increase is due to growth in
variable annuity policy reserves and the corresponding increase in
policy charges, combined with expense levels which have decreased as
a percentage of revenues. Operating expenses were $37.7 million and
$33.8 million, or 55 basis points and 68 basis points of average
variable annuity policy reserves, for second quarter 1997 and 1996,
respectively. On a year-to-date basis, operating expenses were $74.4
million and $62.2 million, or 55 basis points and 66 basis points of
average variable annuity policy reserves, for 1997 and 1996,
respectively. During 1997, the Company has controlled its operating
expenses by taking advantage of economies of scale and by increasing
productivity through investments in technology.
Policy Reserves. During second quarter 1997, variable annuity policy
reserves increased $4.58 billion to $29.88 billion as of June 30,
1997 for a year-to-date increase of $5.60 billion in 1997 from
$24.28 billion as of December 31, 1996. Compared to one year ago,
variable annuity policy reserves are up 44% or $9.16 billion as of
June 30,1997. Deposits were $1.94 billion and $1.75 billion in
second quarter 1997 and 1996, respectively. Through June 1997,
deposits were $3.77 billion compared to $3.44 billion through June
1996. During second quarter and for the first six months of 1997,
variable annuity policy reserves reflect market appreciation of
$3.26 billion and $3.10 billion compared to market appreciation of
$524.6 million and $1.13 billion in the same periods of 1996.
Withdrawals, surrenders, net transfers and policy charges resulted
in a decrease in variable annuity policy reserves of $619.5 million
and $329.0 million during second quarter 1997 and 1996,
respectively, and on a year-to-date basis resulted in a decrease in
variable annuity policy reserves of $1.27 billion and $614.1 million
in 1997 and 1996, respectively.
Statutory Premiums and Deposits. For second quarter 1997, statutory
premiums and deposits were $1.94 billion, an increase of 11% from
$1.75 billion in second quarter 1996. Tax qualified statutory
premiums and deposits were 70% of total second quarter 1997 sales
compared to 67% for second quarter 1996. Second quarter 1997
deposits through the financial institutions channel accounted for an
increase of $88.1 million or 51% over second quarter 1996 due to
growth in sales of bank proprietary annuities and the addition of
new bank relationships. For the first half of 1997, statutory
premiums and deposits were $3.77 billion, an increase of 10% from
$3.44 billion in the first half of 1996. Tax-qualified statutory
premiums and deposits were 71% of total sales for the first six
months of 1997 compared to 67% for the same period of 1996. In the
investment dealer channel, a 75 basis point commission enhancement
introduced midway through first quarter was continued through June
1997. The commission enhancement has helped to build sales momentum
in this channel which management believes should continue into the
third and fourth quarters of 1997.
15
<PAGE> 16
Fixed Annuities
Revenues. Revenues in the Fixed Annuities segment consist mainly of
net investment income, which is earned on invested assets allocated
to support fixed annuity policy reserves and shareholders' equity
allocated to such segment. Total revenues were $282.2 million and
$273.9 million in second quarter 1997 and 1996, respectively. Net
investment income was $272.8 million and $264.1 million,
representing average pre-tax yields on the assets supporting this
segment of 8.23% and 8.36%, in second quarter 1997 and 1996,
respectively. For the first half of 1997 total revenues were $567.0
million compared to $544.8 million for the first half of 1996.
Through the first six months of 1997, net investment income was
$542.3 million representing an average pre-tax yield of 8.19%
compared to net investment income of $520.2 and an average pre-tax
yield of 8.24% for the first six months of 1996.
Interest Credited. Interest credited on account balances was $205.9
million and $199.1 million, representing crediting rates of 6.21%
and 6.31%, for second quarter 1997 and 1996, respectively. The
differential between net investment income and interest credited on
account balances resulted in interest spreads of $66.9 million and
$65.0 million, or 2.02% and 2.05%, for second quarter 1997 and 1996,
respectively. Interest credited on account balances was $406.8
million and $398.8 million, representing crediting rates of 6.14%
and 6.32% for the first half of 1997 and 1996, respectively.
Interest spread increased to $135.5 million, or 2.05%, for the first
six months of 1997 compared to $121.4 million, or 1.92%, through six
months of 1996. Interest spreads vary depending on crediting rates
offered by competitors, performance of the investment portfolio,
changes in market interest rates and other factors. Interest spread
in the third quarter is expected to remain comparable or widen
modestly from first and second quarter levels as third quarter
crediting rates for a majority of the fixed annuity products were
lowered in response to declining interest rates. Beginning July 1
the Company introduced a 100 basis point first year bonus crediting
rate on new sales for the individual BEST OF AMERICA annuity in the
investment dealer channel.
Income from Continuing Operations Before Federal Income Tax Expense.
Income from continuing operations before federal income tax expense
was $44.1 million and $81.7 million during second quarter and for
the first six months of 1997, respectively, representing increases
of 12% from the same periods of 1996. The change reflects the
increase in interest spread discussed above, as well as a decrease
in amortization of DAC as a result of changes in assumed future
interest spreads related to the in-force individual fixed annuity
business. The higher interest spreads and lower DAC amortization
were partially offset by higher operating expenses associated with
growth in policies in-force.
Policy Reserves. During second quarter 1997, fixed annuity policy
reserves increased $110.6 million to $13.72 billion as of June 30,
1997 for a year-to-date increase of $212.7 million in 1997 from
$13.51 billion as of December 31, 1996. Compared to a year ago,
fixed annuity policy reserves are up 5% or $668.7 million as of June
30, 1997. Deposits were $409.8 million and $366.3 million in second
quarter 1997 and 1996, respectively. Through June 1997, deposits
were $970.2 million compared to $808.1 million through June 1996.
Withdrawals, surrenders, benefits and net transfers reduced policy
reserves by $505.1 million and $430.2 million for the second quarter
of 1997 and 1996, respectively, and $1.16 billion and $935.1 million
on a year-to-date basis for 1997 and 1996, respectively. The
increase in withdrawals for the first half of 1997 is primarily
attributable to a single public sector group annuity contract with
reserves of $105.9 million.
Statutory Premiums and Deposits. For second quarter 1997, statutory
premiums and deposits were $409.8 million, an increase of 12% from
$366.3 million in second quarter 1996. Second quarter 1997 deposits
from the financial institutions channel increased $58.3 million as a
result of new bank relationships added late in 1996 and in 1997.
Through mid-year 1997, statutory premiums and deposits were up 20%
to $970.2 million compared to mid-year 1996 deposits of $808.1
million. Year-to-date 1997 deposits include a first quarter deposit
through the public sector channel of $106.5 million from the
transfer of assets from Cook County, Illinois.
16
<PAGE> 17
Life Insurance
Revenues. Revenues in the Life Insurance segment consist of life
insurance premiums and policy charges, as well as net investment
income. Total revenues were $116.0 million and $110.1 million for
second quarter 1997 and 1996, respectively. For the six months ended
June 30, 1997, total revenues were $230.6 million compared to $215.5
million for the first half of 1996. The increase is attributed to
increases in life insurance in-force with the majority of the growth
coming from the variable universal life insurance product.
Income from Continuing Operations Before Federal Income Tax Expense.
Income from continuing operations before federal income tax expense
was $13.7 million in second quarter 1997, a 9% decrease from $15.1
million in second quarter 1996. The decrease is primarily
attributable to adverse mortality experience in the variable
universal life insurance line and higher technology related
expenses. For the first half of the year, life segment earnings were
up slightly to $30.7 million in 1997 compared to $29.7 million in
1996. Overall improved earnings in the variable universal life
insurance line was offset by higher expenses associated with
technology-related costs in the traditional life insurance lines
associated with the development of a new policy administration
system.
Life Insurance In-Force. Life insurance in-force was $39.74 billion
and $34.79 billion as of June 30, 1997 and 1996, respectively. Of
the growth in in-force from June 30, 1996 to June 30, 1997, $3.72
billion is attributable to variable universal life insurance which
comprises 25% of total life insurance in-force as of June 30, 1997.
Statutory Premiums. For second quarter 1997, statutory premiums were
$128.8 million, an increase of 29% from $99.9 million in second
quarter 1996. For the first half of 1997, statutory premiums
increased 35% to $266.2 million compared to $197.1 million for the
first half of 1996. Variable life insurance premiums accounted for
$66.2 million and $142.9 million of the total life insurance
premiums for the second quarter and first half of 1997,
respectively, compared to $35.3 million and $70.4 million for the
same periods of 1996. Premiums from the investment dealer channel
more than doubled to $112.3 million in the first half of 1997, led
by sales of bank-owned life insurance and flexible premium variable
universal life insurance products.
Corporate and Other
Revenues. Revenues in the Corporate and Other segment consist of net
investment income on invested assets not allocated to the three
product segments, all realized investment gains and losses,
investment management fees and other revenues earned from Nationwide
mutual funds other than the portion allocated to the Variable
Annuities and Life Insurance segments, commissions and other income
earned by the marketing and distribution subsidiaries of the Company
and net investment income and policy charges from group annuity
contracts issued to Nationwide Insurance Enterprise employee and
agent benefit plans. Total revenues excluding realized gains and
losses were $59.2 million for second quarter 1997 compared to $56.2
million in second quarter 1996. The increase primarily reflects an
increase in real estate and limited partnership investment income,
as well as earnings growth from fee based investment management
operations which have benefited from an increase in funds managed
and from market appreciation. Year-to-date revenues excluding
realized gains and losses were $104.7 million, down from $108.2
million a year ago. The second quarter revenue increase is offset on
a year-to-date basis by lower commission income earned by the
marketing and distribution subsidiaries of the Company and a
reduction in first quarter 1997 net investment income as a result of
the Special Dividends. Investment losses of $11.9 million were
realized in second quarter 1997 compared to realized gains of $5.8
million in second quarter 1996. Year-to-date, realized investment
gains were $9.1 million in 1997 compared to $9.4 million in 1996.
Realized gains in 1997 include a first quarter gain of $14.4 million
from the transfer of securities to fund the $850 Million Dividend
offset by a second quarter $11.0 million write-down of a single
corporate bond investment due to deterioration in the credit quality
of the issuer.
17
<PAGE> 18
Interest Expense. Interest expense of $8.1 million and $10.0 million
reported for the second quarter and first half of 1997,
respectively, represents interest on the Notes and Capital
Securities accrued from the date of closing. See note 2 to the
unaudited consolidated financial statements.
Income from Continuing Operations Before Federal Income Tax Expense.
Income from continuing operations before federal income tax expense
excluding realized gains and losses was $4.2 million and $12.2
million for second quarter 1997 and 1996, respectively, and $5.3
million and $20.1 million on year-to-date basis for 1997 and 1996,
respectively. The decreases in the period to period comparisons
primarily relate to interest expense on the Notes and Capital
Securities issued in March 1997 and the impact on net investment
income related to the Special Dividends. On a pro forma basis (See
"Effects of Special Dividends, Equity Offerings and Fixed Income
Offerings" for a discussion of pro forma adjustments), income from
continuing operations before federal income tax expense excluding
realized gains and losses was $0.9 million for the first six months
of 1997 compared to a loss of $1.1 million for the first half of
1996.
LIQUIDITY AND CAPITAL RESOURCES
NFS is an insurance holding company whose principal asset is the
common stock of NLIC. The principal sources of funds for NFS to pay
principal, interest, dividends, and operating expenses are existing
cash and investments, and dividends from NLIC and other
subsidiaries. State insurance laws generally restrict the ability of
insurance companies to pay cash dividends in excess of certain
prescribed limitations without prior approval. The payment of
dividends by NLIC may also be subject to restrictions set forth in
the insurance laws of New York that limit the amount of statutory
profits on NLIC's participating policies (measured before dividends
to policyholders) that can inure to the benefit of NFS and its
stockholders. NFS currently does not expect such regulatory
requirements to impair its ability to pay operating expenses and
dividends in the future. However, NFS can give no assurance that
dividends will be declared or paid by NFS.
As a result of the $850 Million Dividend paid on February 24, 1997
and the dividend by NLIC of the stock of certain subsidiaries that
do not operate in the long-term savings and retirement market, any
dividend paid by NLIC during the twelve-month period immediately
following the $850 Million Dividend would be an extraordinary
dividend under Ohio insurance laws. Accordingly, no such dividend
could be paid without prior regulatory approval. The Company has no
reason to believe that any reasonably foreseeable dividend to be
paid by NLIC would not receive the required approval.
The Company's principal sources of funds are premiums and other
considerations paid, contract charges earned, net investment income
received and proceeds from investments called, redeemed or sold. The
principal uses of these funds are the payment of benefits on annuity
contracts and life insurance policies, operating expenses,
commissions, and the purchase of investments. Net cash provided by
(used in) operating activities (reflecting principally (i) premiums
and contract charges collected, less (ii) benefits paid on life
insurance products, plus (iii) income collected on invested assets,
less (iv) commissions and other general expenses paid) was $45.8
million and ($57.9) million for the first half of 1997 and 1996,
respectively. Net cash used in investing activities (principally
reflecting investments purchased less investments called, redeemed
or sold) was $1.22 billion and $237.3 million in the first half of
1997 and 1996, respectively. Net cash provided by financing
activities (principally reflecting net proceeds from the Equity
Offering and the Fixed Income Offerings in 1997 only and deposits to
investment product and universal life insurance product account
balances less withdrawals from such account balances) was $1.22
billion and $363.9 million for the first half of 1997 and 1996,
respectively.
Given the Company's historic cash flow and current financial
results, management of the Company believes that the cash flow from
the operating activities of the Company over the next year will
provide sufficient liquidity for the operations of the Company, as
well as provide sufficient funds to enable the Company to make
dividend payments.
On June 11, 1997 NFS declared a dividend of $.06 per common share
with a record date of July 1, 1997. The dividend, totaling $7.7
million, was paid July 15, 1997.
18
<PAGE> 19
INVESTMENTS
General
The Company's assets are divided between separate account and
general account assets. As of June 30, 1997, $32.87 billion (or 61%)
of the Company's total assets were held in separate accounts and
$20.89 billion (or 39%) were held in the Company's general account,
including $18.63 billion of general account investments. Separate
account assets consist primarily of deposits from the Company's
variable annuity business. Most separate account assets are invested
in various mutual fund options available within the variable annuity
products sold by the Company. All of the investment risk in the
Company's separate account assets is borne by the Company's
customers, with the exception of $313.5 million of policy reserves
as of June 30, 1997 ($280.2 million as of December 31, 1996) for
which the Company bears the investment risk.
Fixed Maturity Securities
As of June 30, 1997, general account fixed maturity securities
available-for-sale were $12.32 billion (or 66%) of the carrying
value of consolidated general account invested assets. As of such
date, public and private fixed maturity securities
available-for-sale constituted $8.17 billion (or 66%) and $4.15
billion (or 34%), respectively, of total general account fixed
maturity securities available-for-sale.
The amortized cost and estimated fair value of fixed maturity
securities available-for-sale were as follows as of June 30, 1997:
<TABLE>
<CAPTION>
Gross Gross
Amortized unrealized unrealized Estimated
(in millions of dollars) cost gains losses fair value
--------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Fixed maturity securities:
U.S. Treasury securities
and obligations of U.S. government
corporations and agencies $ 288.5 3.0 (.8) 290.7
Obligations of states and political
subdivisions 0.3 - - 0.3
Debt securities issued by foreign
governments 87.7 1.7 (1.0) 88.4
Corporate securities 7,947.8 237.6 (41.8) 8,143.6
Mortgage-backed securities 3,725.6 84.3 (13.1) 3,796.8
--------- ----- ----- --------
$12,049.9 326.6 (56.7) 12,319.8
========= ===== ===== ========
</TABLE>
The amortized cost and estimated fair value of fixed maturity
securities available-for-sale were as follows as of December 31,
1996:
<TABLE>
<CAPTION>
Gross Gross
Amortized unrealized unrealized Estimated
(in millions of dollars) cost gains losses fair value
--------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Fixed maturity securities:
U.S. Treasury securities
and obligations of U.S. government
corporations and agencies $ 275.7 4.8 (1.3) 279.2
Obligations of states and political
subdivisions 6.2 0.5 -- 6.7
Debt securities issued by foreign
governments 100.7 2.1 (0.9) 101.9
Corporate securities 7,999.3 285.9 (33.7) 8,251.5
Mortgage-backed securities 3,589.0 91.4 (15.1) 3,665.3
--------- ----- ----- --------
$11,970.9 384.7 (51.0) 12,304.6
========= ===== ===== ========
</TABLE>
19
<PAGE> 20
The National Association of Insurance Commissioners (NAIC) assigns
securities quality ratings and uniform valuations called "NAIC
Designations" which are used by insurers when preparing their annual
statements. The NAIC assigns designations to publicly traded as well
as privately placed securities. The designations assigned by the
NAIC range from class 1 to class 6, with a designation in class 1
being of the highest quality. Of the Company's general account fixed
maturity securities, 98% by the carrying value were in the highest
two NAIC Designations as of June 30, 1997.
The following table sets forth an analysis of credit quality, as
determined by NAIC Designation, of the Company's general account
fixed maturity securities portfolio as of June 30, 1997 and December
31, 1996.
General Account Fixed Maturity Securities - Credit Quality
<TABLE>
<CAPTION>
As of June 30, 1997 As of December 31, 1996
--------------------- -----------------------
NAIC Rating Agency Carrying % of Carrying % of
Designation (1) Equivalent Designation (2) Value Total Value Total
--------------- -------------------------- --------- ------ --------- ------
(in millions of dollars)
<S> <C> <C> <C> <C> <C>
1 Aaa/Aa/A $ 8,405.2 68.2% $ 8,453.4 68.7%
2 Baa 3,667.3 29.8 3,629.9 29.5
3 Ba 209.4 1.7 166.6 1.3
4 B 35.5 0.3 49.7 0.4
5 Caa and lower 8.4 -- 10.9 0.1
6 In or near default -- -- -- --
--------- ----- --------- -----
$12,325.8 100.0% $12,310.5 100.0%
========= ===== ========= =====
</TABLE>
----------
(1) NAIC Designations are assigned no less frequently than
annually. Some designations for securities shown have been
assigned to securities not yet assigned an NAIC Designation
in a manner approximating equivalent public rating
categories.
(2) Comparison's between NAIC and Moody's designations are
published by the NAIC. In the event no Moody's rating is
available, the Company has assigned internal ratings
corresponding to the public rating.
During the second quarter of 1997, the Company recorded a write-down
of a single corporate bond investment due to deterioration in the
credit quality of the issuer. Prior to the write-down the bond had
an amortized cost of $27.5 million. The write-down resulted in a
realized loss of $11.0 million.
The Company maintains significant general account investments in
mortgage-backed securities (MBSs). The Company's general account MBS
investments include residential MBSs and commercial MBSs. As of June
30, 1997, MBSs were $3.80 billion (or 31%) of the carrying value of
the general account fixed maturity securities available-for-sale,
all of which were guaranteed by the U.S. government or an agency of
the U.S. government.
The Company believes that general account MBS investments add
diversification, liquidity, credit quality and additional yield to
its general account fixed maturity securities portfolio. The
objective of the Company's general account MBS investments is to
provide reasonable cash flow stability and increased yield. General
account MBS investments include collateralized mortgage obligations
(CMOs), Real Estate Mortgage Investment Conduits (REMICs) and
mortgage-backed pass-through securities. The Company's general
account MBS investments do not include interest-only securities or
principal-only securities or other MBSs which may exhibit extreme
market volatility.
20
<PAGE> 21
Prepayment risk is an inherent risk of holding MBSs. However, the
degree of prepayment risk is particular to the type of MBS held. The
Company limits its exposure to prepayments by purchasing less
volatile types of MBSs. As of June 30, 1997, $2.65 billion (or 70%)
of the carrying value of the general account MBS portfolio was
invested in planned amortization class CMOs/REMICs (PACs). PACs are
securities whose cash flows are designed to remain constant over a
variety of mortgage prepayment environments. Other classes in the
CMO/REMIC security are structured to accept the volatility of
mortgage prepayment changes, thereby insulating the PAC class.
The following table sets forth the distribution by investment type
of the Company's general account MBS portfolio as of June 30, 1997
and December 31, 1996.
General Account Mortgage-Backed Securities - Investment Type
<TABLE>
<CAPTION>
As of June 30, 1997 As of December 31, 1996
----------------------- -----------------------
Carrying % of Carrying % of
(in millions of dollars) Value Total Value Total
-------- ------ -------- ------
<S> <C> <C> <C> <C>
Accrual $ 43.3 1.1% $ 41.4 1.1%
Planned Amortization Class 2,645.4 69.7 2,970.6 81.0
Sequential 2.0 0.1 2.5 0.1
Scheduled 162.2 4.3 167.2 4.6
Targeted Amortization Class 87.8 2.3 87.7 2.4
Very Accurately Defined Maturity 492.4 13.0 395.9 10.8
FHLMC Gold Participation Certificates 363.7 9.5 -- --
-------- ----- -------- -----
$3,796.8 100.0% $3,665.3 100.0%
======== ===== ======== =====
</TABLE>
Pursuant to the Company's investment policies, the Company does not
invest in derivative securities other than MBSs.
Mortgage Loans
As of June 30, 1997, general account mortgage loans were $5.14
billion (or 28%) of the carrying value of consolidated general
account invested assets.
In June 1997, the Company exchanged approximately $360 million of
multifamily mortgage loans with the Federal Home Loan Mortgage
Corporation (FHLMC) for FHLMC gold participation certificates
supported by the exchanged loans. The transaction resulted in the
reclassification of the exchanged amount from mortgage loans on real
estate to fixed maturity securities available-for-sale on the
Company's balance sheet. No gain or loss was recognized as a result
of the exchange.
21
<PAGE> 22
The following table sets forth the delinquency, foreclosure and
restructured commercial mortgage loan experience for the Company and
for the life insurers reporting to the American Council of Life
Insurance (ACLI) for the periods indicated.
The Company and Life Insurance Industry Problem Loan Comparison
<TABLE>
<CAPTION>
For the Six Months For the Six Months For the Year Ended
Ended June 30, 1997 Ended June 30, 1996 December 31, 1996
-------------------- ------------------- --------------------
Company ACLI (1) Company ACLI (2) Company ACLI (2)
------- -------- ------- -------- ------- --------
<S> <C> <C> <C> <C> <C> <C>
Delinquent (3) 0.28% --% 0.34% 2.59% 0.79% 1.79%
In foreclosure (4) 0.28 -- 0.34 1.54 0.79 1.10
Restructured (5) 1.18 -- 1.24 7.87 1.11 6.81
---- --- ---- ----- ---- ----
Subtotal 1.46 -- 1.58 10.46 1.90 8.60
Foreclosed - year to date 0.61 -- 0.37 0.67 0.35 1.01
---- --- ---- ----- ---- ----
Total 2.07% --% 1.95% 11.13% 2.25% 9.61%
==== === ==== ===== ==== ====
</TABLE>
----------
(1) ACLI data for the six months ended June 30, 1997 are not yet
available.
(2) Source: ACLI Investment Bulletins entitled "Quarterly Survey
of Mortgage Loan Delinquencies and Foreclosures," numbers
1348 and 1367, dated September 4, 1996 and March 6, 1997,
respectively.
(3) Commercial mortgage loans are classified by the Company and
the ACLI as delinquent when they are 60 days or more past
due.
(4) Delinquent includes loans in foreclosure; therefore,
subtotal and total lines exclude "In foreclosure" amounts.
(5) Commercial mortgage loans are classified by the Company and
the ACLI as restructured when they are in good standing, but
the basic terms have been modified as a result of an actual
or anticipated delinquency.
22
<PAGE> 23
PART II - OTHER INFORMATION
ITEM 1 LEGAL PROCEEDINGS
The Company is a party to litigation and arbitration proceedings in
the ordinary course of its business, none of which is expected to
have a material adverse effect on the Company.
In recent years, life insurance companies have been named as
defendants in lawsuits, including class action lawsuits, relating to
life insurance pricing and sales practices. A number of these
lawsuits have resulted in substantial jury awards or settlements. In
October 1996, a policyholder of NLIC filed a complaint in Alabama
state court against NLIC and an agent of NLIC (Wayne M. King v.
Nationwide Life Insurance Company and Danny Nix) related to the sale
of a whole life policy on a "vanishing premium" basis and seeking
unspecified compensatory and punitive damages. The King case was
dismissed with prejudice on June 25, 1997 pursuant to an agreement
between the parties. In February 1997, NLIC was named as a defendant
in a lawsuit filed in New York Supreme Court also related to the
sale of whole life policies on a "vanishing premium" basis (John H.
Snyder v. Nationwide Mutual Insurance Company, Nationwide Mutual
Insurance Co. and Nationwide Life Insurance Co.). The plaintiff in
such lawsuit seeks to represent a national class of NLIC's
policyholders and claims unspecified compensatory and punitive
damages. This lawsuit is in the early stage and has not been
certified as a class action. On April 22, 1997, a motion to dismiss
the Snyder complaint in its entirety was filed by the defendants,
and the plaintiff has opposed such motion. There can be no assurance
that any litigation relating to pricing and sales practices will not
have a material adverse effect on the Company in the future.
ITEM 2 CHANGES IN SECURITIES
NFS reacquired 774, 676 and 714 shares of its Class A Common Stock,
par value $.01 per share in brokerage transactions on the last
business day of April, May and June, respectively, for an aggregate
purchase price of $18,992.97, $18,881.38 and $18,771.51,
respectively. All amounts include brokers' commissions. Pursuant to
the Stock Retainer Plan for Non-Employee Directors, 774, 676 and 714
shares of Class A Common Stock were subsequently reissued by NFS on
the last business day of April, May and June, respectively, at a
price of $24.25, $27.75 and $26.25 per share, respectively, to NFS'
directors as partial payment of the $50,000 annual retainer paid by
NFS to the directors in consideration of serving as directors of the
Company. The issuance of such shares is exempt from registration
under the Securities and Exchange Act of 1933, as amended, pursuant
to Rule 506 promulgated thereunder.
ITEM 3 DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5 OTHER INFORMATION
None.
23
<PAGE> 24
ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K
<TABLE>
<CAPTION>
Page
----
<S> <C> <C>
(a) Exhibits:
11 Computation of Earnings Per Share 26
27 Financial Data Schedule (electronic filing only)
(b) Reports on Form 8-K:
No reports on Form 8-K were filed during the three month
period ended June 30, 1997.
</TABLE>
24
<PAGE> 25
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
NATIONWIDE FINANCIAL SERVICES, INC.
-----------------------------------
(Registrant)
Date: August 14, 1997 /s/ Mark R. Thresher
------------------------------------------
Mark R. Thresher, Vice President - Finance
and Treasurer (Chief Accounting Officer)
25
<PAGE> 1
EXHIBIT 11
Nationwide Financial Services, Inc.
Computation of Earnings Per Share
For Periods Ended June 30, 1997, and 1996
(in thousands of dollars, except per share amounts)
<TABLE>
<CAPTION>
Three months ended Six months ended
June 30, June 30,
---------------------------- ---------------------------
1997 1996 1997 1996
------------ ----------- ----------- -----------
<S> <C> <C> <C> <C>
Net income $ 55,191 61,910 124,139 117,388
============ =========== =========== ===========
Average common shares outstanding 128,526,993 104,745,000 119,460,714 104,745,000
Dilutive effect of stock options 39,056 -- 19,636 --
------------ ----------- ----------- -----------
Average common shares and common
share equivalents 128,566,049 104,745,000 119,480,350 104,745,000
Additional dilutive effect of stock options 733 -- 369 --
------------ ----------- ----------- -----------
Fully diluted shares 128,566,782 104,745,000 119,480,719 104,745,000
============ =========== =========== ===========
Net income per common share outstanding $ .43 .59 1.04 1.12
============ =========== =========== ===========
Primary earnings per share $ .43 .59 1.04 1.12
============ =========== =========== ===========
Fully diluted earnings per share $ .43 .59 1.04 1.12
============ =========== =========== ===========
</TABLE>
26
<TABLE> <S> <C>
<ARTICLE> 7
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM NATIONWIDE
FINANCIAL SERVICES INC.'S QUARTERLY REPORT ON FORM 10-Q FOR THE QUARTER ENDED
JUNE 30, 1997, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
CONSOLIDATED FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> JUN-30-1997
<DEBT-HELD-FOR-SALE> 12,319,848
<DEBT-CARRYING-VALUE> 5,927
<DEBT-MARKET-VALUE> 5,974
<EQUITIES> 66,497
<MORTGAGE> 5,141,839
<REAL-ESTATE> 292,935
<TOTAL-INVEST> 18,627,223
<CASH> 88,708
<RECOVER-REINSURE> 0
<DEFERRED-ACQUISITION> 1,537,814
<TOTAL-ASSETS> 53,761,075
<POLICY-LOSSES> 17,536,264
<UNEARNED-PREMIUMS> 0
<POLICY-OTHER> 366,681
<POLICY-HOLDER-FUNDS> 59,153
<NOTES-PAYABLE> 298,369
100,000
0
<COMMON> 1,285
<OTHER-SE> 1,891,142
<TOTAL-LIABILITY-AND-EQUITY> 53,761,075
105,741
<INVESTMENT-INCOME> 694,148
<INVESTMENT-GAINS> 9,113
<OTHER-INCOME> 33,144
<BENEFITS> 593,419
<UNDERWRITING-AMORTIZATION> 82,988
<UNDERWRITING-OTHER> 192,621
<INCOME-PRETAX> 191,001
<INCOME-TAX> 66,862
<INCOME-CONTINUING> 124,139
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 124,139
<EPS-PRIMARY> 1.04
<EPS-DILUTED> 1.04
<RESERVE-OPEN> 0
<PROVISION-CURRENT> 0
<PROVISION-PRIOR> 0
<PAYMENTS-CURRENT> 0
<PAYMENTS-PRIOR> 0
<RESERVE-CLOSE> 0
<CUMULATIVE-DEFICIENCY> 0
</TABLE>
