<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT of 1934
For the quarter ended June 30, 1998
Commission File No. 1-7434
AFLAC INCORPORATED
------------------------------------------------------
(Exact name of Registrant as specified in its charter)
GEORGIA 58-1167100
- ------------------------------- -------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1932 WYNNTON ROAD, COLUMBUS, GEORGIA 31999
-----------------------------------------------------
(Address of principal executive offices and zip code)
Registrant's telephone number, including area code (706) 323-3431
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
such filing requirements for the past 90 days.
Yes X . No .
------ ------
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class August 5, 1998
- ---------------------------- ------------------
Common Stock, $.10 Par Value 266,965,040 shares
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AFLAC INCORPORATED AND SUBSIDIARIES
INDEX
Page
No.
----
Part I. Financial Information:
Item 1. Financial Statements
Consolidated Balance Sheets -
June 30, 1998 and December 31, 1997.................... 1
Consolidated Statements of Earnings -
Three Months Ended June 30, 1998 and 1997
Six Months Ended June 30, 1998 and 1997................. 3
Consolidated Statements of Shareholders' Equity -
Six Months Ended June 30, 1998 and 1997................. 5
Consolidated Statements of Cash Flows -
Six Months Ended June 30, 1998 and 1997................. 6
Consolidated Statements of Comprehensive Income -
Three Months Ended June 30, 1998 and 1997
Six Months Ended June 30, 1998 and 1997................. 8
Notes to Consolidated Financial Statements................ 9
Review by Independent Certified Public
Accountants............................................. 15
Independent Auditors' Report.............................. 16
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations............. 17
Item 3. Quantitative and Qualitative Disclosures
about Market Risk......................................... 31
Part II. Other Information:
Item 1. Legal Proceedings.................................. 35
Item 6. Exhibits and Reports on Form 8-K................... 35
Items other than those listed above are omitted because they are not
required or are not applicable.
i
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Part I. Financial Information
AFLAC INCORPORATED AND SUBSIDIARIES
Consolidated Balance Sheets
(In thousands)
June 30,
1998 December 31,
(Unaudited) 1997
------------- -------------
ASSETS:
Investments and cash:
Securities available for sale, at fair value:
Fixed maturities (amortized cost,
$18,745,527 in 1998 and
$19,121,128 in 1997) $ 22,234,150 $ 22,437,818
Equity securities (cost, $84,273 in
1998 and $80,270 in 1997) 170,101 146,326
Mortgage loans and other 7,878 16,747
Short-term investments 44,949 43,344
Cash and cash equivalents 344,380 235,675
------------ ------------
Total investments and cash 22,801,458 22,879,910
Receivables, primarily premiums 220,563 213,469
Receivables for security transactions 23,805 2,184
Accrued investment income 273,240 264,956
Deferred policy acquisition costs 2,529,487 2,581,828
Property and equipment, net 367,276 386,049
Securities held as collateral for
loaned securities - 3,034,241
Other 90,912 91,368
------------ ------------
Total assets $ 26,306,741 $ 29,454,005
============ ============
See the accompanying Notes to Consolidated Financial Statements.
(continued)
1
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AFLAC INCORPORATED AND SUBSIDIARIES
Consolidated Balance Sheets (continued)
(In thousands, except for per-share amounts)
June 30,
1998 December 31,
(Unaudited) 1997
------------ -------------
Liabilities and Shareholders' Equity:
Liabilities:
Policy liabilities:
Future policy benefits $ 18,355,984 $ 18,398,830
Unpaid policy claims 1,027,749 1,010,519
Unearned premiums 263,901 276,673
Other policyholders' funds 189,073 199,046
------------ ------------
Total policy liabilities 19,836,707 19,885,068
Notes payable 522,597 523,209
Income taxes 1,663,750 1,827,337
Payables for return of collateral on
loaned securities - 3,034,241
Payables for security transactions 107,036 215,654
Other 641,469 538,024
------------ ------------
Total liabilities 22,771,559 26,023,533
------------ ------------
Shareholders' equity:
Common stock of $.10 par value. Authorized
400,000 shares; issued 317,358 shares in
1998 and 316,380 shares in 1997 31,736 15,819
Additional paid-in capital 222,283 227,292
Retained earnings 2,672,850 2,442,309
Accumulated other comprehensive income:
Unrealized foreign currency
translation gains 212,904 274,074
Unrealized gains on securities
available for sale 1,245,597 1,284,717
------------ ------------
Total accumulated other
comprehensive income 1,458,501 1,558,791
Treasury stock, at average cost (849,313) (812,672)
Notes receivable for stock purchases (875) (1,067)
------------ ------------
Total shareholders' equity 3,535,182 3,430,472
------------ ------------
Total liabilities and
shareholders' equity $ 26,306,741 $ 29,454,005
============ ============
Shareholders' equity per share $ 13.26 $ 12.88
============ ============
See the accompanying Notes to Consolidated Financial Statements.
Share and per-share amounts have been adjusted to reflect the two-for-one
stock split issued June 8, 1998.
2
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<TABLE>
AFLAC INCORPORATED AND SUBSIDIARIES
Consolidated Statements of Earnings
<CAPTION>
(In thousands, except for Three Months Ended June 30, Six Months Ended June 30,
per-share amounts - Unaudited) --------------------------- ---------------------------
1998 1997 1998 1997
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Revenues:
Premiums, principally supplemental health insurance $ 1,423,974 $ 1,467,256 $ 2,896,373 $ 2,903,343
Net investment income 275,573 267,001 554,136 518,630
Realized investment gains (losses) (451) (692) (268) (1,135)
Gain on sale of television business - 267,223 - 267,223
Other income 4,405 7,899 10,286 28,169
---------- ---------- ---------- ----------
Total revenues 1,703,501 2,008,687 3,460,527 3,716,230
---------- ---------- ---------- ----------
Benefits and expenses:
Benefits and claims 1,170,613 1,204,680 2,384,537 2,391,749
Acquisition and operating expenses:
Amortization of deferred policy acquisition costs 51,101 45,813 98,565 87,475
Insurance commissions 185,120 194,309 377,157 383,112
Insurance expenses 118,326 124,741 235,915 230,291
Provision for mandated policyholder protection fund - - 111,279 -
Interest expense 3,391 4,113 6,664 7,447
Other operating expenses 14,761 20,070 32,697 52,076
---------- ---------- ---------- ----------
Total acquisition and operating expenses 372,699 389,046 862,277 760,401
---------- ---------- ---------- ----------
Total benefits and expenses 1,543,312 1,593,726 3,246,814 3,152,150
---------- ---------- ---------- ----------
Earnings before income taxes 160,189 414,961 213,713 564,080
Income taxes:
Operations 57,509 112,168 71,751 171,130
Deferred tax benefit from Japan tax rate reduction - - (121,120) -
---------- ---------- ---------- ----------
Total income tax expense (benefit) 57,509 112,168 (49,369) 171,130
---------- ---------- ---------- ----------
Net earnings $ 102,680 $ 302,793 $ 263,082 $ 392,950
========== ========== ========== ==========
(continued on next page)
3
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<TABLE>
AFLAC INCORPORATED AND SUBSIDIARIES
Consolidated Statements of Earnings (continued)
<CAPTION>
(In thousands, except for Three Months Ended June 30, Six Months Ended June 30,
per-share amounts - Unaudited) --------------------------- ---------------------------
1998 1997 1998 1997
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Net earnings per share:
Basic $ .38 $ 1.11 $ .99 $ 1.44
Diluted .37 1.07 .95 1.39
========== ========== ========== ==========
Shares used in computing earnings per share:
Basic 267,138 273,222 266,985 273,735
Diluted 276,574 282,873 276,435 283,250
========== ========== ========== ==========
Cash dividends per share $ .065 $ .058 $ .123 $ .108
========== ========== ========== ==========
See the accompanying Notes to Consolidated Financial Statements.
Share and per-share amounts have been adjusted to reflect the two-for-one stock split issued June 8, 1998.
4
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<PAGE>
AFLAC INCORPORATED AND SUBSIDIARIES
Consolidated Statements of Shareholders' Equity
(In thousands - Unaudited) Six Months Ended June 30,
----------------------------
1998 1997
---------- ----------
Common stock:
Balance at beginning of year $ 15,819 $ 15,724
Exercise of stock options 53 58
Two-for-one stock split 15,864 -
---------- ----------
Balance at end of period 31,736 15,782
---------- ----------
Additional paid-in capital:
Balance at beginning of year 227,292 208,994
Exercise of stock options 4,350 1,973
Gain on treasury stock reissued 6,505 5,456
Two-for-one stock split (15,864) -
---------- ----------
Balance at end of period 222,283 216,423
---------- ----------
Retained earnings:
Balance at beginning of year 2,442,309 1,917,794
Net earnings 263,082 392,950
Cash dividends ($.123 per share
in 1998 and $.108 in 1997) (32,541) (29,418)
---------- ----------
Balance at end of period 2,672,850 2,281,326
---------- ----------
Accumulated other comprehensive income:
Balance at beginning of year 1,558,791 509,936
Change in unrealized foreign currency
translation gains (losses) during
period, net of income taxes (61,170) (13,355)
Unrealized gains (losses) on securities
available for sale during period, net
of income taxes and reclassification
adjustments (39,120) 235,130
---------- ----------
Balance at end of period 1,458,501 731,711
---------- ----------
Treasury stock:
Balance at beginning of year (812,672) (526,425)
Purchases of treasury stock (50,843) (87,213)
Cost of shares issued to sales associates
stock bonus plan and dividend
reinvestment plan 14,202 13,179
---------- ----------
Balance at end of period (849,313) (600,459)
---------- ----------
Notes receivable for stock purchases (875) (482)
---------- ----------
Total shareholders' equity $ 3,535,182 $ 2,644,301
========== ==========
See the accompanying Notes to Consolidated Financial Statements.
Per-share amounts have been adjusted to reflect the two-for-one stock split
issued June 8, 1998.
5
<PAGE>
AFLAC INCORPORATED AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(In thousands - Unaudited)
Six Months Ended
June 30,
-----------------------------
1998 1997
------------ ------------
Cash flows from operating activities:
Net earnings $ 263,082 $ 392,950
Adjustments to reconcile net earnings to
net cash provided by operating activities:
Increase in policy liabilities 1,099,219 1,156,038
Deferred income taxes (174,190) 23,411
Change in income taxes payable 42,980 34,697
Increase in deferred policy
acquisition costs (101,705) (126,413)
Change in receivables and
advance premiums (13,955) 71
Gain on sale of television business - (267,223)
Provision for mandated policyholder
protection fund 111,279 -
Other, net (114,852) (17,572)
---------- ----------
Net cash provided by operating
activities 1,111,858 1,195,959
---------- ----------
Cash flows from investing activities:
Proceeds from investments sold or matured:
Fixed-maturity securities sold 449,550 1,152,458
Fixed-maturity securities matured 497,818 218,882
Equity securities 15,749 21,141
Mortgage loans and other investments, net 8,643 1,406
Short-term investments, net - 48,014
Costs of investments acquired:
Fixed-maturity securities (1,895,592) (2,715,490)
Equity securities (19,445) (21,765)
Short-term investments, net (2,029) -
Proceeds from sale of television business - 350,633
Additions to property and equipment, net (13,431) (2,089)
---------- ----------
Net cash used by
investing activities $ (958,737) $ (946,810)
---------- ----------
(continued)
6
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AFLAC INCORPORATED AND SUBSIDIARIES
Consolidated Statements of Cash Flows (continued)
(In thousands - Unaudited)
Six Months Ended
June 30,
-----------------------------
1998 1997
------------ ------------
Cash flows from financing activities:
Proceeds from borrowings $ 43,571 $ 184,689
Principal payments under debt
obligations (9,281) (19,592)
Dividends paid to shareholders (32,541) (29,418)
Purchases of treasury stock (50,843) (87,213)
Treasury stock reissued 20,707 18,635
Other, net 4,405 2,031
---------- ----------
Net cash provided/(used) by
financing activities (23,982) 69,132
---------- ----------
Effect of exchange rate changes on cash
and cash equivalents (20,434) 14,229
---------- ----------
Net change in cash and cash equivalents 108,705 332,510
Cash and cash equivalents, beginning of year 235,675 209,095
---------- ----------
Cash and cash equivalents, end of period $ 344,380 $ 541,605
========== ==========
Supplemental disclosures of cash
flow information:
Cash payments during the period for:
Interest on debt obligations $ 6,755 $ 5,507
Income taxes 193,443 112,092
See the accompanying Notes to Consolidated Financial Statements.
7
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<TABLE>
AFLAC INCORPORATED AND SUBSIDIARIES
Consolidated Statements of Comprehensive Income
(In thousands - Unaudited)
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
--------------------------- ----------------------------
1998 1997 1998 1997
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Net earnings $ 102,680 $ 302,793 $ 263,082 $ 392,950
---------- ---------- ---------- ----------
Other comprehensive income, before
income taxes:
Foreign currency translation adjustments:
Change in unrealized foreign currency
translation gains (losses) during
the period 33,506 (24,321) 40,242 (13,864)
Reclassification adjustment for realized
currency loss on sale of subsidiary
included in net earnings - - - 509
Unrealized gains (losses) on securities
available for sale:
Unrealized holding gains (losses)
occurring during the period 37,386 100,494 (10,935) 431,765
Reclassification adjustment for realized
(gains) losses included in net earnings (534) 606 (510) 1,050
----------- ----------- ----------- -----------
Total other comprehensive income,
before income taxes 70,358 76,779 28,797 419,460
Deferred income tax expense related to items
of other comprehensive income 43,614 10,101 129,087 197,685
----------- ----------- ----------- -----------
Other comprehensive income (loss),
net of income taxes 26,744 66,678 (100,290) 221,775
----------- ----------- ----------- -----------
Total comprehensive income $ 129,424 $ 369,471 $ 162,792 $ 614,725
=========== =========== =========== ===========
8
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<PAGE>
AFLAC INCORPORATED AND SUBSIDIARIES
Notes to Consolidated Financial Statements
1. Basis of Presentation
In the opinion of management, the accompanying unaudited consolidated
financial statements of AFLAC Incorporated and subsidiaries (the "Company")
contain all adjustments necessary to fairly present the financial position
as of June 30, 1998, and the results of operations and comprehensive income
for the three-month and six-month periods ended June 30, 1998 and 1997, and
statements of cash flows and shareholders' equity for the six months ended
June 30, 1998 and 1997. Results of operations for interim periods are not
necessarily indicative of results for the entire year.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates, based
on the best information available, in recording transactions resulting from
business operations. The balance sheet amounts that involve a greater
extent of accounting estimates and actuarial determinations subject to
future changes are: deferred policy acquisition costs, liabilities for
future policy benefits and unpaid policy claims, accrued liabilities for
unfunded retirement plans for various officers and beneficiaries, and
contingent liabilities. As additional information becomes available (or
actual amounts are determinable), the recorded estimates may be revised and
reflected in operating results. Although some variability is inherent in
these estimates, management believes the amounts provided are adequate.
The financial statements should be read in conjunction with the
financial statements included in the Company's annual report to shareholders
for the year ended December 31, 1997.
On May 4, 1998, the board of directors declared a two-for-one stock
split. This split was payable to shareholders of record as of May 22, 1998,
and the additional shares were issued on June 8, 1998. All share and per-
share amounts in the accompanying financial statements have been restated
for this split.
2. Accounting Pronouncements
The Company adopted Statement of Financial Accounting Standards (SFAS)
No. 125, Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities, on January 1, 1997. This Statement was
amended by SFAS No. 127, Deferral of the Effective Date of Certain
Provisions of FASB Statement No. 125. These statements established criteria
for those transactions concerning secured obligations and collateral, which
must be applied prospectively to all applicable transactions that occurred
after December 31, 1997. Beginning in 1998, as required by these standards,
the Company no longer recognizes securities held as collateral as an asset,
nor the related liability for the return of such collateral for loan
agreements entered into after December 31, 1997. The adoption of SFAS No.
125 and No. 127 had no material effect on the Company's net earnings or
shareholders' equity.
SFAS No. 131, Disclosures about Segments of an Enterprise and Related
Information, was issued in June 1997. This Statement requires that
companies disclose segment data on the basis that is used internally by
9
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management for evaluating segment performance and allocating resources to
segments. This Statement requires that a company report a measure of
segment profit or loss, certain specific revenue and expense items, and
segment assets. SFAS No. 131 is effective for financial statements issued
for annual periods beginning in 1998 and for interim periods beginning in
1999. The Company's current definition of its business segments will not
change.
In February 1998, the Financial Accounting Standards Board issued SFAS
No. 132, Employer's Disclosures about Pensions and Other Postretirement
Benefits. This Statement revises disclosures about pension and other
postretirement benefit plans, but does not change the measurement or
recognition of these plans. This Statement is effective for 1998, and the
new disclosures will be included in the year-end financial statements.
SFAS No. 133, Accounting for Derivative Instruments and Hedging
Activities, was issued in June 1998. This Statement establishes accounting
and reporting standards for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging
activities. It requires that an entity recognize all derivatives as either
assets or liabilities in the balance sheet and measure those instruments at
fair value. The accounting for changes in the fair value of a derivative
will be included in either earnings or other comprehensive income depending
on the derivatives intended use. The Company is currently evaluating this
standard, which is effective January 1, 2000.
The Accounting Standards Executive Committee issued Statement of
Position (SOP) 97-3 in December 1997. This SOP provides guidance for
determining when an entity should recognize a liability for guaranty fund
and other insurance-related assessments. It also provides guidance on how
to measure the liability. This SOP is effective for 1999. The Company's
present accounting method for guaranty fund and other insurance-related
assessments substantially conforms to the requirements of this SOP.
In March 1998, SOP 98-1, Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use, was issued. This SOP provides
guidance for determining whether costs of software developed or obtained for
internal use should be capitalized or expensed as incurred. In the past,
the Company has expensed all such costs as they were incurred. This SOP is
effective beginning in 1999.
3. Japanese Income Taxes
In March 1997, the Japanese government ratified income tax provisions
that increased income taxes on investment income and realized gains received
by foreign companies operating in Japan from securities issued from their
home country. These provisions are effective for 1998. Management has
mitigated some of the income tax impact on operating earnings through
investment alternatives and by restructuring portions of the existing
investment portfolio. Management estimates the net impact of this tax
change, after mitigation, will decrease net operating earnings for the year
1998 by $13 million.
As a result of this Japanese tax change, the provision for deferred
income taxes in the statements of comprehensive income for the six months
ended June 30, 1998, includes $58.7 million, for Japanese income taxes on
10
<PAGE>
unrealized gains existing as of January 1, 1998, on AFLAC Japan's dollar-
denominated securities available for sale. Also, the remainder of the
provision for deferred income taxes on comprehensive income for the six
months ended June 30, 1998, primarily consists of Japanese income taxes on
certain unrealized foreign currency gains that arise only for Japan tax
purposes on translation of its dollar-denominated investments into yen.
At the end of March 1998, the Japanese government reduced the Japanese
corporate income tax rate. The tax rate for AFLAC Japan declined from 45.3%
to 41.7%. For the Company, this rate change reduced income tax expense on
operating earnings beginning May 1, 1998. According to generally accepted
accounting principles, the effect of the rate reduction on the deferred
income tax liability must be recognized in income tax expense in the period
the tax law was enacted. This tax rate reduction was recognized in the
first quarter of 1998 and lowered income tax expense and increased net
earnings by $121.1 million for the six months ended June 30, 1998. The tax
rate reduction increased basic and diluted earnings per share by $.46 and
$.44, respectively, for the six months ended June 30, 1998.
4. Policyholder Protection Fund
During the first quarter of 1998, the Japanese Ministry of Finance and
the Life Insurance Association of Japan agreed upon a mandated policyholder
protection fund system. The life insurance industry will be required to
contribute 490 billion yen ($3.5 billion using the June 30, 1998, exchange
rate) over a 10-year period. Individual company contributions are to be
based on relative company size. The charge for the Company's share of the
total contribution obligation was recognized in the first quarter of 1998
and decreased pretax earnings by $111.3 million for the six months ended
June 30, 1998. The after-tax charge was $64.9 million, or $.24 for both
basic and diluted earnings per share.
5. Notes Payable
A summary of notes payable is as follows:
June 30, December 31,
(In thousands) 1998 1997
---------- ------------
Unsecured, yen-denominated notes payable to banks:
Reducing, revolving credit agreement,
due annually through July 2001:
2.29% fixed interest rate $ 321,986 $ 348,962
Variable interest rate (.80% at June 30, 1998) 42,553 -
1.24% revolving credit agreement, due
October 2002 137,589 149,116
9.83% to 10.72% unsecured notes payable to bank,
due semiannually, through September 1998 2,722 6,944
Obligations under capitalized leases, due
monthly through 2002, secured by computer
equipment in Japan 17,747 17,986
Other - 201
--------- ---------
Total notes payable $ 522,597 $ 523,209
========= =========
11
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The Company has a reducing, revolving credit agreement that provides
for bank borrowings through July 2001 in either U.S. dollars or Japanese
yen. At June 30, 1998, the borrowing limit was $400 million. Under the
terms of the agreement, the borrowing limit was reduced to $325 million on
July 15, 1998, and will reduce to $250 million on July 15, 1999, and $125
million on July 15, 2000. At June 30, 1998, 45.4 billion yen ($322.0
million) was outstanding at a fixed interest rate and 6.0 billion yen ($42.6
million) was outstanding at a variable interest rate. The Company made a
debt payment related to this agreement in July 1998 in the amount of 11.3
billion yen ($80.8 million).
The Company also has an unsecured revolving credit agreement that
provides for bank borrowings through October 2002 with a borrowing limit of
$250 million, payable in either Japanese yen or U.S. dollars. At June 30,
1998, 19.4 billion yen ($137.6 million) was outstanding under this
agreement. The Company made a debt payment related to this agreement in
July 1998 in the amount of 3.9 billion yen ($27.6 million).
The Company has outstanding interest rate swaps on 64.8 billion yen of
its variable-interest-rate yen-denominated borrowings. These swaps reduce
the impact of changes in interest rates on the Company's borrowing costs and
effectively change the Company's interest rate from variable to fixed. The
interest rate swaps have notional principal amounts that equal the
anticipated unpaid principal amounts. Under these agreements, the Company
makes fixed-rate payments at 2.29% on one loan and 1.24% on another loan and
receives floating-rate payments (.86% at June 30, 1998, plus loan costs of
25 or 20 basis points, respectively) based on the three-month Tokyo
Interbank Offered Rate.
The Company has designated its yen-denominated borrowings as a hedge of
its net investment in AFLAC Japan. Foreign currency translation
gains/losses are included in the accumulated other comprehensive income
component in shareholders' equity. Outstanding principal and related
accrued interest payable on the yen-denominated borrowings were translated
into dollars at end-of-period exchange rates. Interest expense was
translated at average exchange rates for the period the interest expense was
incurred.
6. Unrealized Gains on Securities Available for Sale
The Company classifies all fixed-maturity securities as "available for
sale." All fixed-maturity and equity securities are carried at fair value.
The related unrealized gains and losses, less amounts applicable to policy
liabilities and deferred income taxes, are reported in the accumulated other
comprehensive income component of shareholders' equity. The portion of
unrealized gains credited to policy liabilities represents gains that would
not inure to the benefit of the shareholders if such gains were actually
realized. These amounts relate to policy reserve interest requirements and
reflect the difference between market investment yields and estimated
minimum required interest rates at these dates.
12
<PAGE>
The net effect of unrealized gains and losses from securities available
for sale on accumulated other comprehensive income at the following dates
was:
(In thousands) June 30, 1998 December 31, 1997
------------------ -----------------
Securities available
for sale - unrealized gains $ 3,574,451 $ 3,382,746
Less amounts related to:
Policy liabilities 1,474,848 1,271,701
Deferred income taxes 854,006 826,328
------------ ------------
Accumulated other comprehensive
income, net unrealized gains on
securities available for sale $ 1,245,597 $ 1,284,717
============ ============
7. Security Lending
AFLAC Japan uses short-term security lending arrangements to increase
investment income with minimal risk. At June 30, 1998, and December 31,
1997, the Company held Japanese government bonds as collateral for loaned
securities in the amount of $3.3 billion and $3.0 billion, respectively, at
fair value. The securities received as collateral in the amount of $3.3
billion at June 30, 1998, are for transactions that occurred after December
31, 1997. This collateral, and the related liability for the return of such
collateral, are no longer included on the balance sheet at June 30, 1998,
under the accounting provisions of SFAS No. 125 and SFAS No. 127. (See Note
2 of the Notes to the Consolidated Financial Statements.)
8. Common Stock
On May 4, 1998, the board of directors declared a two-for-one stock
split. This split was payable to shareholders of record as of May 22, 1998,
and the additional shares were issued on June 8, 1998. All share and per-
share amounts in the accompanying financial statements have been restated
for this split.
13
<PAGE>
The following is a reconciliation of the number of shares of the
Company's common stock for the six months ended June 30:
(In thousands) 1998 1997
---------- ----------
Common stock - issued:
Balance at beginning of year 316,380 314,478
Exercise of stock options 978 1,157
-------- --------
Balance at end of period 317,358 315,635
-------- --------
Treasury stock:
Balance at beginning of year 49,944 38,708
Purchases of treasury stock:
Open market 1,456 3,863
Received from employees for
taxes on option exercises 149 299
Shares issued to sales associates
stock bonus plan and dividend
reinvestment plan (579) (798)
Exercise of stock options (287) (131)
-------- --------
Balance at end of period 50,683 41,941
-------- --------
Shares outstanding at end of period 266,675 273,694
======== ========
9. Litigation
The Company is a defendant in various litigation considered to be in
the normal course of business. Some of this litigation is pending in
Alabama, where large punitive damages bearing little relation to the actual
damages sustained by plaintiffs have been awarded against other companies,
including insurers, in recent years. Although the final results of any
litigation cannot be predicted with certainty, the Company believes the
outcome of pending litigation will not have a material adverse effect on the
financial position of the Company.
14
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REVIEW BY INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
The June 30, 1998 and 1997 financial statements included in this filing
have been reviewed by KPMG Peat Marwick LLP, independent certified public
accountants, in accordance with established professional standards and
procedures for such a review.
The report of KPMG Peat Marwick LLP commenting upon their review is
included on page 16.
15
<PAGE>
KPMG PEAT MARWICK LLP
Certified Public Accountants
303 Peachtree Street, N.E. Telephone: (404) 222-3000
Suite 2000 Telefax: (404) 222-3050
Atlanta, GA 30308
INDEPENDENT AUDITORS' REPORT
The Stockholders and Board of Directors
AFLAC Incorporated:
We have reviewed the consolidated balance sheet of AFLAC Incorporated and
subsidiaries as of June 30, 1998, and the related consolidated statements of
earnings and comprehensive income for the three-month and six-month periods
ended June 30, 1998 and 1997, and the consolidated statements of cash flows
and shareholders' equity for the six-month periods ended June 30, 1998 and
1997. These consolidated financial statements are the responsibility of the
Company's management.
We conducted our review in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures
to financial data and making inquiries of persons responsible for financial
and accounting matters. It is substantially less in scope than an audit
conducted in accordance with generally accepted auditing standards, the
objective of which is the expression of an opinion regarding the financial
statements taken as a whole. Accordingly, we do not express such an
opinion.
Based on our review, we are not aware of any material modifications that
should be made to the consolidated financial statements referred to above
for them to be in conformity with generally accepted accounting principles.
We have previously audited, in accordance with generally accepted auditing
standards, the accompanying consolidated balance sheet of AFLAC Incorporated
and subsidiaries as of December 31, 1997, and the related consolidated
statements of earnings, shareholders' equity, cash flows and comprehensive
income for the year then ended (not presented herein); and in our report
dated January 29, 1998, we expressed an unqualified opinion on those
consolidated financial statements.
KPMG PEAT MARWICK LLP
Atlanta, GA
July 27, 1998
16
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The primary business of AFLAC Incorporated (the Parent Company) and
subsidiaries (the "Company") is supplemental health insurance, which is
marketed and administered primarily through American Family Life Assurance
Company of Columbus and its subsidiary (AFLAC). Most of AFLAC's policies
are individually underwritten and marketed at the work site, with premiums
paid by the employee. The Company's operations in Japan (AFLAC Japan) and
the United States (AFLAC U.S.) service the two markets for the Company's
insurance operations.
RESULTS OF OPERATIONS
On May 4, 1998, the board of directors declared a two-for-one stock
split. This split was payable to shareholders of record as of May 22, 1998,
and the additional shares were issued on June 8, 1998. All share and per-
share amounts in this report have been restated for this split.
At the end of March 1998, the Japanese government reduced the Japanese
corporate income tax rate. The tax rate for AFLAC Japan declined from 45.3%
to 41.7%. For the Company, this rate change reduced income tax expense on
operating earnings beginning May 1, 1998. Management estimates the impact
of this tax change will increase net operating earnings for the year 1998 by
approximately $10.0 million.
According to generally accepted accounting principles, the effect of
the rate reduction on the deferred income tax liability must be recognized
in income tax expense in the period the tax law was enacted. This tax rate
reduction was recognized in the first quarter of 1998, and it lowered income
tax expense and increased net earnings by $121.1 million for the six months
ended June 30, 1998. The tax rate reduction increased basic and diluted
earnings per share by $.46 and $.44, respectively, for the six months ended
June 30, 1998.
During the first quarter of 1998, the Japanese Ministry of Finance and
the Life Insurance Association of Japan agreed upon a mandated policyholder
protection fund system. The life insurance industry will be required to
contribute 490 billion yen ($3.5 billion using the June 30, 1998, exchange
rate) over a 10-year period. Individual company contributions are to be
based on relative company size. The charge for the Company's share of the
total contribution obligation was recognized in the first quarter of 1998
and decreased pretax earnings by $111.3 million for the six months ended
June 30, 1998. The after-tax charge was $64.9 million, or $.24 for both
basic and diluted earnings per share.
The table on the following page sets forth the results of operations by
business segment for the periods shown and the percentage change from the
prior period.
17
<TABLE>
SUMMARY OF OPERATING RESULTS BY BUSINESS SEGMENT
(In millions, except for per-share amounts)
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
---------------------------------------- ----------------------------------------
Percentage Change 1998 1997 Percentage Change 1998 1997
----------------- ----------------- ----------------- -----------------
<S> <C> <C> <C> <C> <C> <C>
Operating earnings:
Insurance operations:
AFLAC Japan..................... (2.2)% $ 118.9 $ 121.5 (1.8)% $ 244.1 $ 248.7
AFLAC U.S....................... 27.1 55.7 43.8 37.8 112.0 81.3
------ ------ ------ ------
Total ........................ 5.6 174.6 165.3 7.9 356.1 330.0
Broadcast division operations....... - - - 3.5
Interest expense,
noninsurance operations........... 11.0 (2.8) (3.1) 4.0 (5.5) (5.7)
Corporate expenses, other
operations and eliminations....... 19.2 (11.2) (13.8) 14.9 (25.3) (29.8)
------ ------ ------ ------
Pretax operating earnings......... 8.2 160.6 148.4 9.2 325.3 298.0
Income taxes...................... 2.2 57.8 56.5 2.7 118.8 115.6
------ ------ ------ ------
Operating earnings................ 11.9 102.8 91.9 13.3 206.5 182.4
Non-operating items:
Realized investment gains (losses),
net of tax........................ (.1) (.3) .4 (.6)
Provision for the mandated
policyholder protection fund,
net of tax........................ - - (64.9) -
Deferred tax benefit from Japan
tax rate reduction................ - - 121.1 -
Gain on sale of television
business, net of tax.............. - 211.2 - 211.2
------ ------ ------ ------
Net earnings...................... (66.1) $ 102.7 $ 302.8 (33.0) $ 263.1 $ 393.0
====== ====== ====== ======
Net earnings per share:
Basic........................... (65.8) $ .38 $ 1.11 (31.3) $ .99 $ 1.44
Diluted......................... (65.4) .37 1.07 (31.7) .95 1.39
====== ====== ====== ======
==============================================================================================================================
18
</TABLE>
<PAGE>
The table on the previous page reclassifies non-operating items to
facilitate the following discussion in line with how management views the
business.
The following discussion of earnings comparisons focuses on operating
earnings and excludes realized investment gains/losses, the charge for the
mandated policyholder protection system, the benefit of the tax rate
reduction, and in 1997, the gain from the sale of the television business.
Operating earnings per share referred to in the following discussion are
based on the diluted number of average outstanding shares.
FOREIGN CURRENCY TRANSLATION
Due to the relative size of AFLAC Japan, fluctuations in the yen/dollar
exchange rate can have a significant effect on the Company's reported
results.
The following table illustrates the effect of foreign currency
translation on the Company's reported results by comparing those results as
if foreign currency rates had remained unchanged from the comparable period
in the prior year. In years when the yen weakens, translating yen into
dollars causes fewer dollars to be reported. When the yen strengthens,
translating yen into dollars causes more dollars to be reported.
AFLAC Incorporated and Subsidiaries
Selected Percentage Changes*
(For the periods ended June 30, 1998)
Three Months Six Months
Operating Results Operating Results
--------------------- ---------------------
Including Excluding Including Excluding
Currency Currency Currency Currency
Changes Changes** Changes Changes**
--------- --------- --------- ---------
Premium income (2.9)% 7.5% (.2)% 7.3%
Net investment income 3.2 12.2 6.8 13.5
Total revenues (2.2) 8.0 .3 7.7
Total benefits and expenses (3.2) 7.2 (.5) 7.0
Operating earnings 11.9 18.5 13.3 18.0
Operating earnings per share 15.6 21.9 17.2 21.9
- ----------------------------------------------------------------------------
* The numbers in this table are presented on an operating basis and there-
fore exclude: the benefit of the tax rate reduction, the charge for the
mandated policyholder protection fund, the sale of the television
business, and realized investment gains and losses.
** Amounts excluding foreign currency changes were determined using the
same yen/dollar exchange rate for the current period as the comparable
period in the prior year.
============================================================================
The yen weakened in relation to the dollar throughout 1997 and the
first half of 1998. The average yen-to-dollar exchange rates were 135.71
for the three months ended June 30, 1998, compared with 119.68 for the
second quarter of 1997, and 131.90 and 120.48 for the six months ended June
30, 1998 and 1997, respectively. Operating earnings per share, which were
19
<PAGE>
affected by the fluctuations in the value of the yen, increased 15.6% to
$.37 for the three months ended June 30, 1998, compared with the second
quarter of 1997, and increased 17.2% to $.75 per share for the six months
ended June 30, 1998, compared with the same period in 1997. The weakening
of the yen in 1998 lowered operating earnings by approximately $.02 per
share for the second quarter and $.03 per share for the six months ended
June 30, 1998, which was solely attributable to the translation effect of
the fluctuations in the yen.
Despite the weakening of the yen during 1998, operating earnings per
share increased for the three-month period ended June 30, 1998 compared with
the same period in 1997 and increased for the six months ended June 30,
1998, compared with the six months ended June 30, 1997. The increases in
operating earnings per share reflected earnings contributions in the
functional currencies of AFLAC's core insurance operations in Japan and the
United States, additional investment income on the proceeds from the sale of
the television business, and a consolidated benefit from additional
investment income associated with profit repatriations from AFLAC Japan to
AFLAC U.S. The Company's share repurchase program also benefited earnings
on a per-share basis.
The Company's primary financial objective is the growth of operating
earnings per share before the effect of foreign currency fluctuations. In
1996, the Company set this objective at an annual growth rate of 15% to 17%
through the year 2000. In early 1998, the Company raised its 1998 objective
for growth in operating earnings per share from a 17% increase to a 20%
increase before the effect of currency translation.
Assuming that objective is achieved, the following table shows various
results for operating earnings per share for the year 1998 when the
estimated impact of foreign currency translation is included.
Annual Yen
Average Annual Operating % Growth Yen Impact
Exchange Rate Diluted EPS Over 1997 on EPS
------------- ---------------- --------- ----------
1998 @ 115.00 $ 1.64 23.3% $ .04
1998 @ 120.00 1.61 21.1 .01
1998 @ 121.07* 1.60 20.3 -
1998 @ 125.00 1.58 18.8 (.02)
1998 @ 130.00 1.55 16.5 (.05)
1998 @ 135.00 1.53 15.0 (.07)
1998 @ 140.00 1.50 12.8 (.10)
*Actual exchange rate for the year ended December 31, 1997.
If the exchange rate as of June 30, 1998, remained constant for the
remainder of 1998, the cumulative average rate would be approximately 136.45
and the annual operating diluted earnings per share would approximate $1.52,
assuming the Company's earnings objective is met.
In April 1998, the Company raised its 1999 objective for growth in
operating earnings per share to 20% from a range of 15% to 17% excluding the
impact of currency fluctuations, primarily due to the benefit of the tax
rate reduction in Japan.
20
<PAGE>
PROFIT REPATRIATION
AFLAC Japan repatriated profits to AFLAC U.S. of $347.0 million in 1997
and $217.3 million in 1996. The profit transfer in 1997 included $124.8
million of a non-recurring nature. The profit transfers to AFLAC U.S.
adversely impact AFLAC Japan's investment income. However, repatriations
benefit AFLAC U.S. investment income and consolidated operations because
higher investment yields can be obtained on funds invested in the United
States. Also, income tax expense is lower on investment income earned in
the United States. Management estimates that cumulative profit transfers
from 1992 through 1997 have benefited consolidated net earnings by $13.5
million and $8.8 million for the three months ended June 30, 1998 and 1997,
respectively, and $26.7 million and $17.4 million for the six months ended
June 30, 1998 and 1997, respectively. The Company repatriated 21.7 billion
yen ($154.2 million) from AFLAC Japan to AFLAC U.S. in July 1998. Since the
first repatriation in 1989, AFLAC Japan has repatriated $1.2 billion, which
has enhanced the Company's flexibility and profitability.
SHARE REPURCHASE PROGRAM
During the second quarter of 1998, the Company purchased 1.3 million
shares of its common stock. As of June 30, 1998, the Company had
approximately 9.7 million shares still available for purchase under current
repurchase authorizations from the board of directors. The Company has
purchased 55.0 million shares (through June 30, 1998) since the inception of
the share repurchase program in February 1994. The difference in percentage
increases in net earnings and net earnings per share primarily reflects the
impact of the share repurchase program.
INCOME TAXES
The Company's effective income tax rates on operating earnings for the
six months ended June 30, 1998 and 1997 were 36.5% and 38.8%, respectively.
Japanese income taxes on AFLAC Japan's operating results, which were taxed
at Japan's corporate income tax rate of 45.3% through April 30, 1998, and
41.7% thereafter, accounted for most of the Company's income tax expense.
The decline in the effective tax rates in 1998 and 1997 resulted primarily
from the weakening of the yen and increased contributions in earnings from
the Company's U.S. business segment.
INSURANCE OPERATIONS, AFLAC JAPAN
AFLAC Japan, a branch of AFLAC and the principal contributor to the
Company's earnings, ranks number one in terms of premium income and profits
among all foreign life and non-life insurance companies operating in Japan.
Among all life insurance companies operating in Japan, AFLAC Japan ranks
fourth in terms of individual policies in force and 16th in terms of assets.
The transfer of profits from AFLAC Japan to AFLAC U.S. distorts
comparisons of operating results between years. Therefore, the AFLAC Japan
summary of operations table on the following page presents investment
income, total revenues and pretax operating earnings calculated on a pro
forma basis in order to improve comparability between years. The pro forma
adjustment represents cumulative investment income foregone by AFLAC Japan
on funds repatriated to AFLAC U.S. during 1992 through 1997.
21
<PAGE>
AFLAC JAPAN
SUMMARY OF OPERATING RESULTS
Three Months Ended Six Months Ended
June 30, June 30,
(In millions) 1998 1997 1998 1997
------------------ ------------------
Premium income................... $1,129.2 $1,204.4 $2,310.1 $2,381.1
Investment income, as adjusted*.. 231.8 228.0 469.0 449.5
Other income..................... .3 1.1 1.3 1.4
------- ------- ------- -------
Total revenues, as adjusted*... 1,361.3 1,433.5 2,780.4 2,832.0
------- ------- ------- -------
Benefits and claims.............. 984.6 1,037.7 2,013.6 2,061.3
Operating expenses............... 247.0 267.5 500.5 508.6
------- ------- ------- -------
Total benefits and expenses.... 1,231.6 1,305.2 2,514.1 2,569.9
------- ------- ------- -------
Pretax operating earnings,
as adjusted*................ 129.7 128.3 266.3 262.1
Investment income applicable to
profit repatriations............ (10.8) (6.8) (22.2) (13.4)
------- ------- ------- -------
Pretax operating earnings.... $ 118.9 $ 121.5 $ 244.1 $ 248.7
======= ======= ======= =======
- ----------------------------------------------------------------------------
Percentage changes in dollars
over previous period:
Premium income................. (6.2)% (1.7)% (3.0)% (2.8)%
Investment income*............. 1.7 - 4.3 (1.2)
Total revenues*................ (5.0) (1.4) (1.8) (2.5)
Pretax operating earnings*..... 1.1 (6.7) 1.6 (4.9)
Pretax operating earnings...... (2.2) (8.1) (1.8) (6.2)
- ----------------------------------------------------------------------------
Percentage changes in yen
over previous period:
Premium income................. 6.4% 9.3% 6.2% 9.7%
Investment income*............. 15.5 11.4 14.3 11.6
Total revenues*................ 7.8 9.7 7.5 10.0
Pretax operating earnings*..... 15.0 4.0 11.3 7.5
Pretax operating earnings...... 11.3 2.3 7.5 6.0
- ----------------------------------------------------------------------------
Ratios to total revenues, as adjusted:*
Benefits and claims............ 72.4% 72.4% 72.4% 72.7%
Operating expenses............. 18.1 18.7 18.0 18.0
Pretax operating earnings...... 9.5 8.9 9.6 9.3
Ratio of pretax operating earnings
to total reported revenues..... 8.8 8.5 8.9 8.8
- ----------------------------------------------------------------------------
*Adjusted investment income, total revenues and pretax operating earnings
include estimates of additional investment income for the three months ended
June 30, 1998 and 1997 of $10.8 million and $6.8 million, respectively, and
for the six months ended June 30, 1998 and 1997 of $22.2 million and $13.4
million, respectively, foregone due to profit repatriations.
============================================================================
22
<PAGE>
AFLAC JAPAN SALES
The increase in premium income in yen was due to sales of new policies
and excellent policy persistency. As expected, AFLAC Japan produced a
significant gain in second quarter sales. Comparisons to last year's
second-quarter sales benefited from relatively weak sales results in 1997.
However, management was very pleased with the volume of new business
generated. New annualized premium sales for the three months ended June 30,
1998, increased 31.1% to 18.4 billion yen, or $136.4 million. The Company's
founding product, cancer life insurance, contributed to the strong sales
growth in the quarter, representing approximately 49% of new business. At
the same time, AFLAC Japan's newest product offering, "Rider MAX," continued
to be well-received by consumers. Rider MAX, which provides accident and
supplemental benefits for general hospitalization, is being marketed as a
rider to the popular cancer life policy. Rider MAX accounted for about 34%
of second quarter sales, and management expects its sales success to
continue in the second half of the year. For the six months, new sales were
up 20.7% to 33.8 billion yen, or $256.6 million.
In addition to new sales, management was also pleased with the
expansion of the distribution system in Japan, specifically with the
recruitment of individual sales agents. For the first six months of the
year, AFLAC Japan recruited about 1,200 new agents, compared with less than
700 for the entire year of 1997. Management believes AFLAC Japan's growing
sales network and broadened product line will allow the Company to make
continued gains in Japan's insurance marketplace. Management has set an
objective for AFLAC Japan's sales to increase approximately 15% to 20% for
the year 1998 compared with 1997.
AFLAC JAPAN INVESTMENTS
Due to Japan's weak economy, investment yields remained at historically
low levels, which made investing AFLAC Japan's huge cash flows very
challenging. However, by focusing on selected sectors, the Company
purchased yen-denominated securities at an average yield of 3.73% during the
quarter without sacrificing credit quality. Including dollar-denominated
investments, the blended new money yield was 4.51% for the second quarter.
As of July 20, the Company had invested or committed to invest approximately
63% of its expected 1998 cash flow at an average yield of 4.75%. This yield
compares very favorably with the yield of Japanese government bonds and
provides a significant spread over the reserving assumptions for new
business.
At the end of the second quarter, the yield on AFLAC Japan's fixed-
maturity portfolio was 5.40%, compared with 5.46% at the end of 1997. The
return on average invested assets, after investment expenses, was 5.31% for
the first six months of 1998, compared with 5.37% for the first six months
of 1997.
AFLAC JAPAN OTHER
In March 1997, the Japanese government ratified income tax provisions
that increased income taxes on investment income and realized gains received
by foreign companies operating in Japan from securities issued from their
home country. These provisions are effective for 1998. Management has
23
<PAGE>
mitigated some of the income tax impact on operating earnings through
investment alternatives and by restructuring portions of the existing
investment portfolio. Management estimates the net impact of this tax
change will decrease net operating earnings for the year 1998 by $13
million.
Operating expenses increased 3.8% in yen for the three months ended
June 30, 1998, compared with the same period in 1997. In the second quarter
of 1997, the Company recognized a pretax charge in the amount of 3 billion
yen ($24.9 million) for its share of the voluntary policyholder protection
fund that was established due to the failure of Nissan Mutual Life.
INSURANCE OPERATIONS, AFLAC U.S.
AFLAC U.S. pretax operating earnings continued to benefit from
additional investment income earned on profit transfers received from AFLAC
Japan. Estimated investment income earned from profits repatriated to and
retained by AFLAC U.S. from 1992 through 1997, along with estimated
investment income earned from the sales proceeds of the television business,
have been reclassified in the following presentation in order to improve
comparability between periods.
24
<PAGE>
AFLAC U.S.
SUMMARY OF OPERATING RESULTS
Three Months Ended Six Months Ended
June 30, June 30,
(In millions) 1998 1997 1998 1997
------------------ ------------------
Premium income................... $ 292.9 $ 260.4 $ 582.4 $ 517.3
Investment income, as adjusted*.. 27.7 26.9 54.2 50.8
Other income..................... .8 .5 2.7 .8
------- ------- ------- -------
Total revenues, as adjusted*... 321.4 287.8 639.3 568.9
------- ------- ------- -------
Benefits and claims.............. 183.9 164.3 366.8 325.1
Operating expenses............... 107.5 96.8 211.1 191.4
------- ------- ------- -------
Total benefits and expenses.... 291.4 261.1 577.9 516.5
------- ------- ------- -------
Pretax operating earnings,
as adjusted*................ 30.0 26.7 61.4 52.4
Investment income applicable to
profit repatriations and proceeds
from the sale of the television
business........................ 25.7 17.1 50.6 28.9
------- ------- ------- -------
Pretax operating earnings.... $ 55.7 $ 43.8 $ 112.0 $ 81.3
======= ======= ======= =======
- ----------------------------------------------------------------------------
Percentage increases
over previous period:
Premium income................. 12.5% 11.8% 12.6% 12.0%
Investment income*............. 3.0 26.8 6.7 20.3
Total revenues*................ 11.7 13.1 12.4 12.7
Pretax operating earnings*..... 12.3 11.4 17.2 10.8
Pretax operating earnings...... 27.1 43.0 37.8 34.0
- ----------------------------------------------------------------------------
Ratios to total revenues, as
adjusted:*
Benefits and claims............ 57.3% 57.1% 57.4% 57.2%
Operating expenses............. 33.4 33.6 33.0 33.6
Pretax operating earnings...... 9.3 9.3 9.6 9.2
Ratio of pretax operating earnings
to total reported revenues..... 16.0 14.4 16.2 13.6
- ----------------------------------------------------------------------------
*Excludes estimated investment income for the three months ended June 30,
1998 and 1997 of $25.7 million and $17.1 million, respectively, and for the
six months ended June 30, 1998 and 1997 of $50.6 million and $28.9 million,
respectively, related to investment of profit repatriation funds retained by
AFLAC U.S. and investment of proceeds from the sale of the television
business.
============================================================================
25
<PAGE>
AFLAC U.S. SALES
The increase in premium income was primarily due to an increase in new
sales over the last 12 months. New annualized premium sales for the second
quarter marked the 14th consecutive quarter of double-digit sales increases
and the second best quarter in the Company's history. During the second
quarter, new sales rose 18.7% to $111.2 million. Accident/disability
insurance again generated the greatest sales, with strong contributions from
cancer, intensive care and hospital indemnity coverages. For the six
months, new sales were up 16.6% to $219.2 million. Management believes the
marketing success of the last several years has resulted from the combined
strategy of product broadening, distribution expansion and improved brand
awareness. Management has set an objective for new policy sales to increase
by 12% to 15% for the year 1998.
AFLAC U.S. INVESTMENTS
During the second quarter, available cash flow was invested at an
average yield of 7.29%, compared with 7.89% during the second quarter of
1997. The return on average invested assets, net of investment expenses,
was 7.40% for the first six months of 1998, compared with 7.58% for the
first six months of 1997.
AFLAC U.S. OTHER
In April 1998, the Company began selling cancer expense insurance in
New York. Massachusetts and New Jersey still have laws, regulations or
regulatory practices that either prohibit the sale of specified disease
insurance, such as AFLAC's cancer expense insurance, or make its sale
impractical. AFLAC U.S. is marketing several of its other products in these
states.
Management expects the operating expense ratio, excluding discretionary
advertising expenses, to decline in the future due to continued improvements
in operating efficiencies. By improving administrative systems and
controlling other costs, the Company has been able to redirect funds to
national advertising programs without significantly affecting the operating
expense ratio.
The operating results reflect slightly higher benefit ratios due to the
Company's ongoing efforts to improve policy persistency by enhancing
policyholder benefits. In addition, potential minimum benefit ratio
requirements by insurance regulators may also result in an increase to these
ratios. However, the aggregate benefit ratio has been relatively stable due
to the mix of business shifting towards accident and hospital indemnity
policies, which have lower benefit ratios than other products. Management
expects the pretax operating profit margin, which was 9.3% for the year 1997
excluding the effect of repatriation, to increase slightly in 1998.
FINANCIAL ACCOUNTING STANDARDS BOARD STATEMENTS
For information regarding new Statements of Financial Accounting
Standards, see Note 2 of the Notes to the Consolidated Financial Statements.
26
<PAGE>
ANALYSIS OF FINANCIAL CONDITION
Since December 31, 1997, the financial condition of the Company has
remained strong in the functional currencies of its operations. The
investment portfolios of AFLAC Japan and AFLAC U.S. have continued to grow
and consist of high-quality securities.
Due to the significance of yen-denominated items in the balance sheet,
changes in the yen/dollar exchange rate can have a significant effect on the
Company's financial statements. The yen/dollar exchange rate at the end of
each period is used to convert yen-denominated balance sheet items into U.S.
dollars for reporting purposes. The exchange rate at June 30, 1998, was
141.00 yen to one U.S. dollar, 7.7% weaker than the exchange rate of 130.10
as of December 31, 1997. Management estimates that the weaker yen rate
decreased reported investments and cash by $1.5 billion, total assets by
$1.7 billion and total liabilities by $1.6 billion compared with the amounts
that would have been reported for 1998 if the exchange rate had remained
unchanged from year-end 1997.
INVESTMENTS AND CASH
Securities available for sale are carried at fair value. The following
table shows an analysis of investments and cash:
June 30, December 31,
(In millions) 1998 1997 % Change
--------- ------------ --------
AFLAC U.S.:
Total investments and cash, at
cost or amortized cost $ 2,824 $ 2,678 5.4%
Unrealized gains on securities
available for sale 281 228
---------- ----------
Total investments and cash $ 3,105 $ 2,906 6.8%
========== ========== ========
AFLAC Japan:
Total investments and cash, at
cost or amortized cost $ 16,339 $ 16,743 (2.4)%
Unrealized gains on securities
available for sale 3,293 3,155
---------- ----------
Total investments and cash $ 19,632 $ 19,898 (1.3)%
========== ========== =========
Consolidated:
Total investments and cash, at
cost or amortized cost $ 19,227 $ 19,497 (1.4)%
Unrealized gains on securities
available for sale 3,574 3,383
---------- ----------
Total investments and cash $ 22,801 $ 22,880 (.3)%
========== ========== =========
Net unrealized gains of $3.6 billion on securities available for sale
at June 30, 1998, consisted of $3.6 billion in gross unrealized gains and
$57.4 million in gross unrealized losses.
27
<PAGE>
AFLAC invests primarily within the Japanese, U.S. and Euroyen fixed-
maturity markets. The Company uses specific criteria to judge the credit
quality and liquidity of its investments and utilizes a variety of credit
rating services to monitor this criteria. Applying those various credit
ratings to a standardized rating system based on a nationally recognized
service's categories, the percentages of the Company's fixed-maturity
securities available for sale, at amortized cost, were as follows:
June 30, 1998 December 31, 1997
-------------- -----------------
AAA 34.4% 38.3%
AA 19.0 20.5
A 32.5 28.9
BBB 14.1 12.3
----- -----
100.0% 100.0%
The Company does not currently hold any securities rated below
investment grade.
Private placement investments accounted for 39.6% and 36.3% of the
Company's total fixed-maturity securities available for sale as of June 30,
1998, and December 31, 1997, respectively. AFLAC Japan has made investments
in the private placement market to secure higher yields than those available
from Japanese government bonds. At the same time, the Company has adhered
to its conservative standards for credit quality. AFLAC requires that all
private placement issuers have an initial rating of class 1 or 2 as
determined by the Securities Valuation Office of the National Association of
Insurance Commissioners and requires call protection limits of ten years or
longer for such issues. Most of AFLAC's private placement issues are issued
under medium term note programs and have standard covenants commensurate
with credit rankings except when internal credit analysis indicates that
additional protective and/or event risk covenants are required.
POLICY LIABILITIES
Policy liabilities decreased $48.4 million, or .2%, during the first
six months of 1998. AFLAC Japan decreased $156.3 million, or .9% (7.4%
increase in yen), and AFLAC U.S. increased $107.5 million, or 5.7%.
Management estimates the weaker yen rate decreased reported policy
liabilities by $1.6 billion. Items that offset this decrease in policy
liabilities caused by the weaker yen are the addition of new business, the
aging of policies in force and the effect of market value adjustments on
fixed-maturity securities. (See Note 6 of the Notes to the Consolidated
Financial Statements.)
DEBT
See Note 5 of the Notes to the Consolidated Financial Statements for
information on debt outstanding at June 30, 1998.
The Company's ratio of debt to total capitalization (debt plus
shareholders' equity, excluding the unrealized gains on securities available
for sale) was 18.6% and 19.6% as of June 30, 1998, and December 31, 1997,
respectively.
28
<PAGE>
SECURITY LENDING
AFLAC Japan uses short-term security lending arrangements to increase
investment income with minimal risk. This program increased AFLAC Japan's
investment income by approximately $.7 million for both the six months ended
June 30, 1998 and 1997. For further information regarding such
arrangements, see Note 7 of the Notes to the Consolidated Financial
Statements.
POLICYHOLDER GUARANTY FUNDS
Under insurance guaranty fund laws in most U.S. states, insurance
companies doing business in those states can be assessed for policyholder
losses up to prescribed limits that are incurred by insolvent companies with
similar lines of business. Such assessments have not been material to the
Company in the past. The Company believes that future assessments relating
to companies in the U.S. currently involved in insolvency proceedings will
not materially impact the consolidated financial statements.
The Life Insurance Association of Japan, an industry organization,
implemented a voluntary policyholder protection fund in 1996 to provide
capital support to insolvent life insurers. AFLAC Japan has pledged
investment securities to the Life Insurance Association of Japan for this
program. During the first quarter of 1998, the Japanese Ministry of Finance
and the Life Insurance Association of Japan agreed upon a mandated
policyholder protection fund system. The life insurance industry will be
required to contribute 490 billion yen ($3.5 billion using the June 30,
1998, exchange rate) over a 10-year period. The Company has recorded a
liability for its share of these obligations. (See Note 4 of the Notes to
the Consolidated Financial Statements.)
SHAREHOLDERS' EQUITY
The Company's insurance operations continue to provide its primary sources
of liquidity. Capital needs can also be supplemented by borrowed funds. The
principal sources of cash from insurance operations are premiums and investment
income. Primary uses of cash in the insurance operations are policy claims,
commissions, operating expenses, income taxes and payments to the Parent Company
for management fees and dividends. Both the sources and uses of cash are
reasonably predictable. The Company's investment objectives provide for
liquidity through the ownership of high-quality investment securities. AFLAC
insurance policies are generally not interest-sensitive and therefore are not
subject to unexpected policyholder redemptions due to investment yield changes.
Also, the majority of AFLAC policies provide indemnity benefits rather than
reimbursement for actual medical costs and therefore are not subject to the
risks of medical cost inflation.
The achievement of continued long-term growth will require growth in
AFLAC's statutory capital and surplus. AFLAC may secure additional statutory
capital through various sources, such as internally generated statutory earnings
or equity contributions by the Parent Company from funds generated through debt
or equity offerings. The disposition of the television business has increased
the Company's capital resources. Management believes outside sources for
additional debt and equity capital, if needed, will continue to be available for
capital expenditures, business expansion and funding the Company's share
repurchase program.
29
<PAGE>
Parent Company capital resources are largely dependent upon the ability of
the subsidiaries to pay management fees and dividends. The Georgia Insurance
Department imposes certain limitations and restrictions on payments of
dividends, management fees, loans and advances by AFLAC to the Parent Company.
In addition to restrictions by U.S. insurance regulators, the Japanese Ministry
of Finance (MOF) imposes restrictions on, and requires approval for, the
remittances of earnings from AFLAC Japan to AFLAC U.S. Payments are made from
AFLAC Japan to the Parent Company for management fees, and to AFLAC U.S. for
allocated expenses and remittances of earnings. Total funds received from AFLAC
Japan were $20.9 million in the first six months of 1998 and $386.0 million and
$253.6 million in the full years 1997 and 1996, respectively. AFLAC Japan
repatriated profits to AFLAC U.S. in the amount of $154.2 million in July 1998.
During the last few years, the MOF has developed solvency standards, a version
of risk-based capital requirements. Management believes the solvency margin of
AFLAC Japan is very strong compared with other Japanese insurers. For
additional information on regulatory restrictions on dividends, profit transfers
and other remittances, see Note 10 of the Notes to the Consolidated Financial
Statements in the Company's annual report to shareholders for the year ended
December 31, 1997.
Currently, prescribed or permitted statutory accounting principles
(SAP) may vary between states and between companies. The National
Association of Insurance Commissioners (NAIC) has recodified SAP to promote
standardization of accounting principles throughout the industry. These new
accounting principles are presently planned by the NAIC to be effective for
2001. One change is the requirement that insurance companies establish a
deferred income tax liability for statutory accounting purposes. Management
estimates AFLAC's deferred tax liability under the provisions of the project
is approximately $180 million at December 31, 1997, using the recodified
SAP. The capital and surplus of AFLAC, as determined on a U.S. statutory
accounting basis, was $1.8 billion at December 31, 1997.
YEAR 2000
The term "year 2000 issue" generally refers to the improper processing
of dates and incorrect date calculations that might occur in computer
software and hardware and embedded systems as the year 2000 is approached.
The use of computer programs that rely on two-digit date fields to perform
computations and decision-making functions may cause computer systems to
malfunction when processing information involving dates after 1999. For
example, any computer software that has date-sensitive coding might
recognize a code of "00" as the year 1900 rather than the year 2000.
The Company's overall plan to achieve year 2000 readiness includes the
following phases: (1) the assessment phase, includes creating awareness of
the issue throughout the Company and assessment of all systems, significant
business processes and external interfaces and dependencies; (2) the
remediation phase, includes updating or modifying systems which are
identified as critical to the Company's efforts to become year 2000 ready;
(3) the testing phase includes the testing of systems which have been
altered or replaced as part of the Company's efforts to become year 2000
ready; (4) the implementation phase includes the implementation of tested
systems which have been altered or replaced as part of the Company's efforts
to become year 2000 ready; and (5) contingency planning.
30
<PAGE>
In the United States, the assessment phase is complete and
substantially all of the required system updating is complete. The testing
and implementation phases are currently scheduled for completion by December
31, 1998.
In Japan, the assessment phase is complete and the updating of required
system changes is in progress. The Company currently estimates that the
required system changes will be completed during the third quarter of 1998.
The testing and implementation phases in Japan are currently scheduled for
completion by December 31, 1998.
The Company receives premium and claim information from many external
sources in both Japan and the United States. Many employers pay premiums on
behalf of their employees through payroll deduction plans. Failure by a
significant number of these outside parties to have year 2000 ready systems
could have a material effect on premium and claim processing by the Company.
To help minimize this exposure, the Company is in the process of identifying
and contacting certain customers to determine the status of their year 2000
readiness. There can be no guarantee that the systems of other companies on
which the Company depends will be completed on a timely basis.
The remaining estimated cost to complete the project is $3.5 million.
Actual results could differ materially from this estimate and all costs
associated with the year 2000 program are being expensed as incurred.
At this time, the Company has not identified any business function
within the U.S or Japan that it believes will suffer a material disruption
as a result of year 2000 related events, if the plan is successfully
implemented. It is possible, however, that the Company may identify
business functions in the future that are specifically at risk of year 2000
disruption, particularly as the plan moves into the implementation phase.
The plan calls for the development of contingency plans for significant
business risks that might result from year 2000 related events. As noted
above, the Company has not identified any specific business function that it
believes will be materially at risk of significant year 2000 related
disruptions. Also, the remediation, testing and implementation phases are
not yet complete. Therefore, the Company has not yet developed detailed
contingency plans specific to year 2000 events. Development of these
contingency plans is currently scheduled to occur during the first quarter
of 1999, and as otherwise appropriate.
OTHER
The board of directors has declared the third quarter cash dividend of
$.065 per share. The dividend is payable on September 1, 1998, to
shareholders of record at the close of business on August 20, 1998.
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's financial instruments are exposed to primarily three
types of market risks. These are interest rate, equity price and foreign
currency exchange rate risk.
31
<PAGE>
INTEREST RATE RISK
The primary interest rate exposure is the effect of changes in interest
rates on the fair value of the Company's investments in fixed-maturity
securities. The Company uses modified duration analysis to estimate the
sensitivity to interest rate changes in its fixed-maturity securities.
Modified duration analysis provides a measure of price percentage
volatility.
The Company attempts to match the duration of its assets with the
duration of its liabilities. For AFLAC Japan, the duration of policy
liabilities is longer than that of the related assets due to the
unavailability of qualified long-duration securities. Therefore, there is a
risk that reinvestment of the proceeds at maturity of such investments will
be at a yield below that of the interest required for the accretion of
policy liabilities.
The hypothetical reduction in the fair value of the Company's total
portfolio of fixed-maturity securities resulting from a 100 basis point
increase in market interest rates is estimated to be $1.9 billion based on
the Company's portfolio as of June 30, 1998. The effect on yen-denominated
fixed-maturity securities is approximately $1.6 billion and the effect on
dollar-denominated fixed-maturity securities is approximately $327.5
million.
The Company has outstanding interest rate swaps on 64.8 billion yen of
its variable-interest-rate yen-denominated borrowings. These swaps reduce
the impact of changes in interest rates on the Company's borrowing costs and
effectively change the Company's interest rate on these yen-denominated
borrowings from variable to fixed. Therefore, there was no effect on
earnings due to changes in market interest rates.
At June 30, 1998, the Company also had yen-denominated borrowings in
the amount of 6 billion yen ($42.6 million) with a variable interest rate of
.80%. The effect on net earnings due to changes in market interest rates
was immaterial. For further information on the Company's notes payable, see
Note 5 of the Notes to the Consolidated Financial Statements.
EQUITY PRICE RISK
Equity securities at June 30, 1998, totaled $170.1 million, or .7% of
total investments and cash on a consolidated basis. The Company uses beta
analysis to measure the sensitivity of its equity securities portfolio to
fluctuations in the broad market. The beta of the Company's equity
securities portfolio is .96. For example, if the overall stock market value
changed by 10%, the value of AFLAC's equity securities would be expected to
change by approximately 9.6%, or $16.3 million.
CURRENCY RISK
Most of AFLAC Japan's investments and cash are denominated in yen.
When the yen-denominated financial instruments mature or are sold, the
proceeds are generally reinvested in yen-denominated securities and are held
to fund yen-denominated policy obligations rather than converted into
dollars. Therefore, there is no significant economic or foreign currency
transaction risk.
32
<PAGE>
In addition to the yen-denominated financial instruments held by AFLAC
Japan, the Parent Company has yen-denominated borrowings that have been
designated as a hedge of the Company's investment in AFLAC Japan. The
unrealized foreign currency translation gains and losses are reported in
accumulated other comprehensive income in shareholders' equity.
The Company attempts to match its yen-denominated assets to its yen-
denominated liabilities on a consolidated basis in order to minimize the
exposure of its shareholders' equity to foreign currency translation
fluctuations. The table below compares the U.S. dollar values of the
Company's yen-denominated assets and liabilities at various exchange rates.
Dollar Value of Yen-Denominated Assets and Liabilities
At Selected Exchange Rates
(June 30, 1998)
126.00 141.00* 156.00
(In millions) Yen Yen Yen
- ----------------------------------------------------------------------------
Yen-denominated financial
instruments:
Assets:
Fixed-maturity
securities $ 19,741.7 $ 17,641.5 $ 15,945.2
Cash and cash
equivalents 295.2 263.8 238.4
Securities held as
collateral** 3,729.5 3,332.7 3,012.3
Other financial
instruments 22.9 20.5 18.5
--------- --------- ---------
Total 23,789.3 21,258.5 19,214.4
--------- --------- ---------
Liabilities:
Securities held as
collateral** 3,729.5 3,332.7 3,012.3
Notes payable 561.9 502.1 453.8
--------- --------- ---------
Total 4,291.4 3,834.8 3,466.1
--------- --------- ---------
Net yen-denominated
financial instruments 19,497.9 17,423.7 15,748.3
Other yen-denominated
assets 2,801.4 2,503.4 2,262.7
Other yen-denominated
liabilities (primarily
policy and claim reserves) (21,976.5) (19,638.7) (17,750.3)
--------- --------- ---------
Total yen-denominated
net assets subject
to foreign currency
fluctuation $ 322.8 $ 288.4 $ 260.7
========= ========= =========
* Actual June 30, 1998, exchange rate.
**Off balance sheet financial instruments.
33
<PAGE>
For information regarding the effect of foreign currency translation on
operating earnings per share, see Foreign Currency Translation on page 19.
FORWARD-LOOKING INFORMATION
The Private Securities Litigation Reform Act of 1995 provides a "safe
harbor" to encourage companies to provide prospective information, so long
as those informational statements are identified as forward-looking and are
accompanied by meaningful, cautionary statements identifying important
factors that could cause actual results to differ materially from those
discussed. The Company desires to take advantage of these provisions. This
report contains cautionary statements identifying important factors that
could cause actual results to differ materially from those projected in this
Form 10-Q, and in any other statements made by officers of the Company in
oral discussions with analysts and contained in documents filed with the
Securities and Exchange Commission (the SEC). Forward-looking statements
are not based on historical information and relate to future operations,
strategies, financial results or other developments. In particular,
statements containing words such as "expect," "anticipate," "believe,"
"goal," "objective" or similar words as well as specific projections of
future results generally qualify as forward-looking. The Company undertakes
no obligation to update such forward-looking statements.
The Company cautions that the following factors, in addition to other
factors mentioned from time to time in the Company's reports filed with the
SEC, could cause the Company's actual results to differ materially:
regulatory requirements, assessments for insurance company insolvencies,
competitive conditions, new products, Japanese Ministry of Finance approval
of profit repatriations to the United States, general economic conditions in
the United States and Japan, changes in U.S. and/or Japanese tax laws,
adequacy of reserves, credit and other risks associated with the Company's
investment activities, significant changes in interest rates and
fluctuations in foreign currency exchange rates.
34
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is a defendant in various litigation considered to be in
the normal course of business. Some of this litigation is pending in
Alabama, where large punitive damages bearing little relation to the actual
damages sustained by plaintiffs have been awarded against other companies,
including insurers, in recent years. Although the final results of any
litigation cannot be predicted with certainty, the Company believes the
outcome of pending litigation will not have a material adverse effect on the
financial position of the Company.
ITEMS 2, 3, 4 and 5
Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
27.0 - Financial Data Schedule (for SEC use only)
(b) Reports on Form 8-K:
There were no reports on Form 8-K filed during the quarter ended
June 30, 1998.
Items other than those listed above are omitted because they are not
required or are not applicable.
35
<PAGE>
SIGNATURES
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.
AFLAC INCORPORATED
Date August 12, 1998 /s/ KRISS CLONINGER, III
------------------------ ---------------------------
KRISS CLONINGER,III
Executive Vice President;
Treasurer and
Chief Financial Officer
Date August 12, 1998 /s/ NORMAN P. FOSTER
------------------------ ---------------------------
NORMAN P. FOSTER
Executive Vice President,
Corporate Finance
36
<PAGE>
EXHIBITS FILED WITH CURRENT FORM 10-Q:
27.0 - Financial Data Schedule (for SEC use only).
37
<TABLE> <S> <C>
<ARTICLE> 7
<LEGEND>
This schedule contains summary financial information extracted from the
Company's consolidated financial statements as filed in Form 10-Q for the
period ended June 30, 1998, and is qualified in its entirety by reference
to such financial statements.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> JUN-30-1998
<DEBT-HELD-FOR-SALE> 22,234,150
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 170,101
<MORTGAGE> 5,242
<REAL-ESTATE> 0
<TOTAL-INVEST> 22,457,078
<CASH> 344,380
<RECOVER-REINSURE> 0
<DEFERRED-ACQUISITION> 2,529,487
<TOTAL-ASSETS> 26,306,741
<POLICY-LOSSES> 19,383,733
<UNEARNED-PREMIUMS> 263,901
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 189,073
<NOTES-PAYABLE> 522,597
0
0
<COMMON> 31,736
<OTHER-SE> 3,503,446
<TOTAL-LIABILITY-AND-EQUITY> 26,306,741
2,896,373
<INVESTMENT-INCOME> 554,136
<INVESTMENT-GAINS> (268)
<OTHER-INCOME> 10,286
<BENEFITS> 2,384,537
<UNDERWRITING-AMORTIZATION> 98,565
<UNDERWRITING-OTHER> 763,712<F1>
<INCOME-PRETAX> 213,713
<INCOME-TAX> (49,369)<F2>
<INCOME-CONTINUING> 263,082
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 263,082
<EPS-PRIMARY> .99<F3>
<EPS-DILUTED> .95<F3>
<RESERVE-OPEN> 0
<PROVISION-CURRENT> 0
<PROVISION-PRIOR> 0
<PAYMENTS-CURRENT> 0
<PAYMENTS-PRIOR> 0
<RESERVE-CLOSE> 0
<CUMULATIVE-DEFICIENCY> 0
<FN>
<F1>Includes provision of $111,279 for mandated policyholder protection fund.
<F2>Includes ($121,120) deferred tax benefit from Japan tax rate reduction.
<F3>Adjusted for the two-for-one stock split issued June 8, 1998. Prior year
financial data schedules have not been restated.
</FN>
</TABLE>
