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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 March 31, 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 May 6, 1998
- ---------------------------- ------------------
Common Stock, $.10 Par Value 267,696,238 shares
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AFLAC INCORPORATED AND SUBSIDIARIES
INDEX
Page
No.
----
Part I. Financial Information:
Item 1. Financial Statements
Consolidated Balance Sheets -
March 31, 1998 and December 31, 1997................... 1
Consolidated Statements of Earnings -
Three Months Ended March 31, 1998 and 1997.............. 3
Consolidated Statements of Shareholders' Equity -
Three Months Ended March 31, 1998 and 1997.............. 4
Consolidated Statements of Cash Flows -
Three Months Ended March 31, 1998 and 1997.............. 5
Consolidated Statements of Comprehensive Income -
Three Months Ended March 31, 1998 and 1997.............. 7
Notes to Consolidated Financial Statements................ 8
Review by Independent Certified Public
Accountants............................................. 13
Independent Auditors' Report.............................. 14
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations............. 15
Item 3. Quantitative and Qualitative Disclosures
about Market Risk......................................... 30
Part II. Other Information:
Item 1. Legal Proceedings.................................. 33
Item 4. Submission of Matters to a Vote
of Security Holders....................................... 33
Item 6. Exhibits and Reports on Form 8-K................... 34
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)
March 31, December 31,
1998 1997
(Unaudited)
------------- -------------
ASSETS:
Investments and cash:
Securities available for sale, at fair value:
Fixed maturities (amortized cost,
$19,351,066 in 1998 and
$19,121,128 in 1997) $ 22,597,866 $ 22,437,818
Equity securities (cost, $85,091 in
1998 and $80,270 in 1997) 166,954 146,326
Mortgage loans and other 15,240 16,747
Short-term investments 45,322 43,344
Cash and cash equivalents 145,395 235,675
------------ ------------
Total investments and cash 22,970,777 22,879,910
Receivables, primarily premiums 214,142 215,653
Accrued investment income 236,104 264,956
Deferred policy acquisition costs 2,603,945 2,581,828
Property and equipment, net 380,755 386,049
Securities held as collateral for
loaned securities 1,027,868 3,034,241
Other 94,637 91,368
------------ ------------
Total assets $ 27,528,228 $ 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)
March 31, December 31,
1998 1997
(Unaudited)
------------ -------------
Liabilities and Shareholders' Equity:
Liabilities:
Policy liabilities:
Future policy benefits $ 18,655,339 $ 18,398,830
Unpaid policy claims 1,051,577 1,010,519
Unearned premiums 277,768 276,673
Other policyholders' funds 199,036 199,046
------------ ------------
Total policy liabilities 20,183,720 19,885,068
Notes payable 511,186 523,209
Income taxes 1,694,185 1,827,337
Payables for return of collateral on
loaned securities 1,027,868 3,034,241
Payables for security transactions 9,519 215,654
Other 648,053 538,024
------------ ------------
Total liabilities 24,074,531 26,023,533
------------ ------------
Shareholders' equity:
Common stock of $.10 par value. Authorized
400,000 shares; issued 317,097 shares in
1998 and 316,380 shares in 1997 15,855 15,819
Additional paid-in capital 232,366 227,292
Retained earnings 2,587,529 2,442,309
Accumulated other comprehensive income:
Unrealized foreign currency
translation gains 230,139 274,074
Unrealized gains on securities
available for sale 1,201,618 1,284,717
------------ ------------
Total accumulated other
comprehensive income 1,431,757 1,558,791
Treasury stock, at average cost (812,329) (812,672)
Notes receivable for stock purchases (1,481) (1,067)
------------ ------------
Total shareholders' equity 3,453,697 3,430,472
------------ ------------
Total liabilities and
shareholders' equity $ 27,528,228 $ 29,454,005
============ ============
Shareholders' equity per share $ 12.92 $ 12.88
============ ============
See the accompanying Notes to Consolidated Financial Statements.
Share and per-share amounts have been adjusted to reflect a two-for-one
stock split declared on May 4, 1998.
2
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AFLAC INCORPORATED AND SUBSIDIARIES
Consolidated Statements of Earnings
(In thousands, except for Three Months Ended March 31,
per-share amounts - Unaudited) ----------------------------------
1998 1997
Revenues: ----------- -----------
Premiums, principally supplemental
health insurance $ 1,472,399 $ 1,436,087
Net investment income 278,563 251,629
Realized investment gains (losses) 183 (443)
Other income 5,881 20,270
---------- ----------
Total revenues 1,757,026 1,707,543
---------- ----------
Benefits and expenses:
Benefits and claims 1,213,924 1,187,069
Acquisition and operating expenses:
Amortization of deferred policy
acquisition costs 47,464 41,662
Insurance commissions 192,037 188,803
Insurance expenses 117,589 105,550
Provision for mandated policyholder
protection fund 111,279 -
Interest expense 3,273 3,334
Other operating expenses 17,936 32,006
---------- ----------
Total acquisition and
operating expenses 489,578 371,355
---------- ----------
Total benefits and expenses 1,703,502 1,558,424
---------- ----------
Earnings before income taxes 53,524 149,119
Income taxes:
Operations 14,242 58,962
Deferred tax benefit from Japan
tax rate reduction (121,120) -
---------- ----------
Total income taxes (106,878) 58,962
---------- ----------
Net earnings $ 160,402 $ 90,157
========== ==========
Net earnings per share:
Basic $ .60 $ .33
Diluted .58 .32
========== ==========
Shares used in computing
earnings per share:
Basic 266,831 274,255
Diluted 276,294 283,632
========== ==========
Cash dividends per share $ .058 $ .05
========== ==========
See the accompanying Notes to Consolidated Financial Statements.
Share and per-share amounts have been adjusted to reflect a two-for-one
stock split declared on May 4, 1998.
3
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AFLAC INCORPORATED AND SUBSIDIARIES
Consolidated Statements of Shareholders' Equity
(In thousands - Unaudited) Three Months Ended March 31,
----------------------------
1998 1997
---------- ----------
Common Stock:
Balance at beginning of year $ 15,819 $ 15,724
Exercise of stock options 36 11
---------- ----------
Balance at end of period 15,855 15,735
---------- ----------
Additional paid-in capital:
Balance at beginning of year 227,292 208,994
Exercise of stock options 2,668 969
Gain on treasury stock reissued 2,406 2,620
---------- ----------
Balance at end of period 232,366 212,583
---------- ----------
Retained earnings:
Balance at beginning of year 2,442,309 1,917,794
Net earnings 160,402 90,157
Cash dividends ($.058 per share
in 1998 and $.05 in 1997) (15,182) (13,700)
---------- ----------
Balance at end of period 2,587,529 1,994,251
---------- ----------
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 (43,935) 10,966
Unrealized gains (losses) on securities
available for sale during period, net
of income taxes and reclassification
adjustments (83,099) 144,131
---------- ----------
Balance at end of period 1,431,757 665,033
---------- ----------
Treasury stock:
Balance at beginning of year (812,672) (526,425)
Purchases of treasury stock (7,497) (70,109)
Cost of shares issued to sales associates
stock bonus plan and dividend
reinvestment plan 7,840 6,679
---------- ----------
Balance at end of period (812,329) (589,855)
---------- ----------
Notes receivable for stock purchases (1,481) (691)
---------- ----------
Total shareholders' equity $ 3,453,697 $ 2,297,056
========== ==========
See the accompanying Notes to Consolidated Financial Statements.
Per-share amounts have been adjusted to reflect a two-for-one stock split
declared on May 4, 1998.
4
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AFLAC INCORPORATED AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(In thousands - Unaudited)
Three Months Ended
March 31,
-----------------------------
1998 1997
------------ ------------
Cash flows from operating activities:
Net earnings $ 160,402 $ 90,157
Adjustments to reconcile net earnings to
net cash provided by operating activities:
Increase in policy liabilities 569,820 589,071
Deferred income taxes (160,896) 13,508
Change in income taxes payable (46,734) (53,658)
Increase in deferred policy
acquisition costs (52,528) (66,166)
Change in receivables and
advance premiums 5,450 3,635
Provision for mandated policyholder
protection fund 111,279 -
Other, net 33,945 38,513
---------- ----------
Net cash provided by operating
activities 620,738 615,060
---------- ----------
Cash flows from investing activities:
Proceeds from investments sold or matured:
Fixed-maturity securities sold 302,145 1,033,228
Fixed-maturity securities matured 161,926 79,347
Equity securities 10,154 17,841
Mortgage loans and other investments, net 1,463 822
Short-term investments, net - 470
Costs of investments acquired:
Fixed-maturity securities (1,147,456) (1,103,036)
Equity securities (16,660) (18,313)
Short-term investments, net (2,049) -
Additions to property and equipment, net (6,262) (797)
---------- ----------
Net cash provided/(used) by
investing activities $ (696,739) $ 9,562
---------- ----------
(continued)
5
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AFLAC INCORPORATED AND SUBSIDIARIES
Consolidated Statements of Cash Flows (continued)
(In thousands - Unaudited)
Three Months Ended
March 31,
-----------------------------
1998 1997
------------ ------------
Cash flows from financing activities:
Proceeds from borrowings $ - $ 169,689
Principal payments under debt
obligations (4,728) (4,986)
Dividends paid to shareholders (15,182) (13,700)
Purchases of treasury stock (7,497) (70,109)
Treasury stock reissued 10,246 9,299
Other, net 2,705 980
---------- ----------
Net cash provided/(used) by
financing activities (14,456) 91,173
---------- ----------
Effect of exchange rate changes on cash
and cash equivalents 177 (5,438)
---------- ----------
Net change in cash and cash equivalents (90,280) 710,357
Cash and cash equivalents, beginning of year 235,675 209,095
---------- ----------
Cash and cash equivalents, end of period $ 145,395 $ 919,452
========== ==========
Supplemental disclosures of cash
flow information:
Cash payments during the period for:
Interest on debt obligations $ 2,826 $ 2,753
Income taxes 102,875 98,778
See the accompanying Notes to Consolidated Financial Statements.
6
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AFLAC INCORPORATED AND SUBSIDIARIES
Consolidated Statements of Comprehensive Income
(In thousands - Unaudited)
Three Months Ended
March 31,
-----------------------------
1998 1997
------------ ------------
Net earnings $ 160,402 $ 90,157
Other comprehensive income, before
income taxes:
Foreign currency translation adjustments:
Change in unrealized foreign currency
translation gains during the period 6,736 10,457
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)
arising during the period (48,321) 331,271
Reclassification adjustment for realized
losses included in net earnings 24 444
---------- ----------
Total other comprehensive income,
before income taxes (41,561) 342,681
Income tax expense related to items
of other comprehensive income 85,473 187,584
---------- ----------
Other comprehensive income,
net of income taxes (127,034) 155,097
---------- ----------
Total comprehensive income $ 33,368 $ 245,254
========== ==========
7
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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 March 31, 1998, and the results of operations and statements of cash
flows, shareholders' equity and comprehensive income for the three months
ended March 31, 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 is payable to shareholders of record as of May 22, 1998
and the additional shares will be 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. SFAS No. 125 established criteria for
determining whether transfers of financial assets are sales or secured
borrowings and must be applied to all applicable transactions that occurred
after December 31, 1996. SFAS No. 127 amended the effective date for those
transactions concerning secured obligations and collateral, which must now
be applied prospectively to all applicable transactions that occurred after
December 31, 1997. Earlier or retroactive application was not permitted.
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 affect on the Company's net earnings or shareholders' equity.
8
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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
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. It also requires various reconciliations of total segment
information to amounts in the consolidated financial statements. 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.
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 such costs as they were incurred. This SOP is also
effective for 1999.
3. Japanese Income Taxes
In March 1997, the Japanese government ratified new income tax
provisions that increase income taxes on investment income and realized
gains received by foreign companies operating in Japan from securities
issued from their home country. The new 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 will decrease 1998 net operating earnings by $13 million.
At the end of March 1998, the Japanese government reduced the Japanese
corporate income tax rate. The tax rate for AFLAC Japan will decline from
45.3% to 41.7%. For the Company, this rate change will reduce 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 lowered income tax expense and increased net earnings by $121.1
million for the three months ended March 31, 1998. The tax rate reduction
increased basic and diluted earnings per share by $.45 and $.44,
respectively, for the three months ended March 31, 1998.
9
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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 new mandatory
policyholder protection fund system. The life insurance industry will be
required to contribute 490 billion yen ($3.7 billion using the March 31,
1998 exchange rate) over a 10-year period. Individual company contributions
are to be based on relative company size. During the quarter ended March
31, 1998, AFLAC Japan recognized a pretax charge of $111.3 million for its
estimated share of the total contribution obligation. The after-tax charge
is $64.9 million or $.24 for both basic and diluted earnings per share.
5. Notes Payable
A summary of notes payable is as follows:
March 31, December 31,
(In thousands) 1998 1997
----------- ------------
Unsecured, yen-denominated notes payable to banks:
2.29% reducing, revolving credit agreement,
due annually through July 2001 $ 343,679 $ 348,962
1.24% revolving credit agreement, due
October 2002 146,858 149,116
9.60% to 10.72% unsecured notes payable to bank,
due semiannually, through September 1998 5,222 6,944
Obligations under capitalized leases, due
monthly through 2002, secured by computer
equipment in Japan 15,327 17,986
Other 100 201
--------- ---------
Total notes payable $ 511,186 $ 523,209
========= =========
The Company has a reducing, revolving credit agreement that provides
for bank borrowings through July 2001 in either U.S. dollars or Japanese
yen. The current borrowing limit is $400 million. Under the terms of the
agreement, the borrowing limit will reduce to $325 million on July 15, 1998,
$250 million on July 15, 1999, and $125 million on July 15, 2000. At March
31, 1998, 45.4 billion yen ($343.7 million) was outstanding under this
agreement.
The Company also has an unsecured revolving credit agreement with a
borrowing limit of $250 million, payable in either Japanese yen or U.S.
dollars. At March 31, 1998, 19.4 billion yen ($146.9 million) was
outstanding under this agreement.
The Company has outstanding interest rate swaps on all of its variable-
interest-rate yen-denominated borrowings (64.8 billion yen). 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 (.73% at March 31, 1998 plus loan
costs of 25 or 20 basis points, respectively) based on the three-month Tokyo
Interbank Offered Rate.
10
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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.
The net effect of unrealized gains and losses from securities available
for sale on shareholders' equity at the following dates was:
(In thousands) March 31, 1998 December 31, 1997
------------------ -----------------
Securities available
for sale - unrealized gains $ 3,328,663 $ 3,382,746
Less amounts related to:
Policy liabilities 1,265,915 1,271,701
Deferred income taxes 861,130 826,328
------------ ------------
Shareholders' equity, net
unrealized gains on securities
available for sale $ 1,201,618 $ 1,284,717
============ ============
The increase in deferred income taxes applicable to unrealized gains on
securities available for sale for the three months ended March 31, 1998
includes a provision of $58.7 million for additional Japanese income taxes
effective January 1, 1998 on unrealized gains from dollar-denominated
securities issued from the United States. (See the first paragraph of
Note 3.)
7. Security Lending
AFLAC Japan uses short-term security lending arrangements to increase
investment income with minimal risk. At both March 31, 1998, and December
31, 1997, the Company held Japanese government bonds as collateral for
loaned securities in the amount of $3.0 billion, at fair value. At March
31, 1998, securities received as collateral for transactions that occurred
prior to January 1, 1998, in the amount of $1.0 billion, are reported
separately in assets at fair value with a corresponding liability of the
same amount for the return of such collateral at termination of the loans.
Securities received as collateral in the amount of $2.0 billion for
transactions that occurred after December 31, 1997, and the related
11
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liability for the return of such collateral, are no longer included on the
balance sheet at March 31, 1998 under the accounting provisions of SFAS No.
125 and SFAS No. 127. (Note 2.)
8. Common Stock
On May 4, 1998, the board of directors declared a two-for-one stock
split. This split is payable to shareholders of record as of May 22, 1998
and the additional shares will be issued on June 8, 1998. All share and
per-share amounts in the accompanying financial statements have been
restated for this split.
The following is a reconciliation of the number of shares of the
Company's common stock for the three months ended March 31:
(In thousands) 1998 1997
---------- ----------
Common stock - issued:
Balance at beginning of year 316,380 314,478
Exercise of stock options 717 223
-------- --------
Balance at end of period 317,097 314,701
-------- --------
Treasury stock:
Balance at beginning of year 49,944 38,708
Purchases of treasury stock:
Open market 114 3,394
Received from employees for
taxes on option exercises 139 16
Shares issued to sales associates
stock bonus plan and dividend
reinvestment plan (280) (425)
Exercise of stock options (201) (48)
-------- --------
Balance at end of period 49,716 41,645
-------- --------
Shares outstanding at end of period 267,381 273,056
======== ========
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.
12
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REVIEW BY INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
The March 31, 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 14.
13
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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 March 31, 1998, and the related consolidated statements
of earnings for the three-month periods ended March 31, 1998 and 1997, and
the consolidated statements of cash flows, shareholders' equity and
comprehensive income for the three-month periods ended March 31, 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
May 4, 1998
14
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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 is payable to shareholders of record as of May 22, 1998
and the additional shares will be 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 will decline from
45.3% to 41.7%. For the Company, this rate change will reduce income tax
expense on operating earnings beginning May 1, 1998. Management estimates
the impact of this tax change on 1998 operating results will be
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 lowered income tax expense and increased net earnings by $121.1
million for the three months ended March 31, 1998. The tax rate reduction
increased basic and diluted earnings per share by $.45 and $.44,
respectively, for the three months ended March 31, 1998.
During the first quarter of 1998, the Japanese Ministry of Finance and
the Life Insurance Association of Japan agreed upon a new mandatory
policyholder protection fund system. The life insurance industry will be
required to contribute 490 billion yen ($3.7 billion using the March 31,
1998 exchange rate) over a 10-year period. Individual company contributions
are to be based on relative company size. During the quarter ended March
31, 1998, AFLAC Japan recognized a pretax charge of $111.3 million for its
estimated share of the total contribution obligation. The after-tax charge
is $64.9 million or $.24 for both basic and diluted earnings per share.
15
<PAGE>
The following table sets forth the results of operations by business
segment for the periods shown and the percentage change from the prior
period.
SUMMARY OF OPERATING RESULTS BY BUSINESS SEGMENT
(In millions, except for per-share amounts)
Percentage Change Three Months
Over Previous Ended March 31,
Period 1998 1997
----------------- ------------------
Operating earnings:
Insurance operations:
AFLAC Japan.................. (1.5)% $ 125.3 $ 127.2
AFLAC U.S.................... 50.3 56.3 37.4
------ ------
Total ..................... 10.3 181.6 164.6
Broadcast division operations.... - 3.5
Interest expense,
noninsurance operations........ (4.6) (2.7) (2.6)
Corporate expenses, other
operations and eliminations.... 11.2 (14.3) (15.9)
------ ------
Pretax operating earnings...... 10.1 164.6 149.6
Income taxes..................... 2.9 60.9 59.0
------ ------
Operating earnings............. 14.6 103.7 90.6
Non-operating items:
Realized investment gains (losses),
net of tax .5 (.4)
Provision for the mandated
policyholder protection fund,
net of tax (64.9) -
Deferred tax benefit from Japan
tax rate reduction 121.1 -
------ ------
Net earnings................... 77.9 $ 160.4 $ 90.2
====== ======
Net earnings per share:
Basic........................ 81.8 $ .60 $ .33
Diluted...................... 81.3 .58 .32
====== ======
============================================================================
The table above 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
policyholder protection system, and the benefit of the tax rate reduction.
Operating earnings per share referred to in the following discussion are
based on the diluted number of average outstanding shares.
16
<PAGE>
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 Supplemental Consolidated Data*
Three Months Ended March 31, 1998
Adjusted to
Exclude Foreign
As Reported Currency Changes**
----------- ----------------
Premium income 2.5% 7.1%
Net investment income 10.7 14.8
Total revenues 2.9 7.4
Total benefits and expenses 2.2 6.8
Operating earnings 14.6 17.6
Operating earnings per share 18.8 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
new policyholder protection fund, 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 quarter of 1998. The average yen-to-dollar exchange rates were 128.09
and 121.28 for the three months ended March 31, 1998 and 1997, respectively.
Operating earnings per share, which were affected by the fluctuations in the
value of the yen, increased 18.8% to $.38 for the three months ended March
31, 1998 compared with the same period in 1997. The 5.3% weakening of the
yen in 1998 lowered operating earnings by approximately $.01 per share for
the three months ended March 31, 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 March 31, 1998 compared
with the same period in 1997. The increase 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
in 1996 and 1997, 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.
17
<PAGE>
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 @ 110.00 $ 1.68 26.3% $ .08
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 1.52 14.3 (.08)
*Actual exchange rate for the year ended December 31, 1997.
If the exchange rate as of April 30, 1998, would remain constant for
the remainder of 1998, the cumulative average rate would be approximately
131.26 and the annual operating diluted earnings per share would approximate
$1.54, 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.
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. Since the first repatriation in 1989,
AFLAC Japan has repatriated $1.0 billion, which has enhanced the Company's
flexibility and profitability. 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 $13.2 million and
$8.6 million for the quarters ended March 31, 1998 and 1997, respectively.
The Company expects to repatriate, subject to approval by the Japanese
Ministry of Finance, approximately 20 billion yen ($151 million using the
March 31, 1998 exchange rate) from AFLAC Japan to AFLAC U.S. in July 1998.
18
<PAGE>
SHARE REPURCHASE PROGRAM
During the first quarter of 1998, the Company purchased 114,216 shares
of its common stock through a program conducted to facilitate the sale of
odd-lot share positions. Following the purchase of 6.3 million shares in
the fourth quarter of 1997, the Company was not active in purchasing AFLAC
stock during the first quarter of this year. At the end of the first
quarter, the Company had approximately 11.1 million shares still available
for purchase under current repurchase authorizations from the board of
directors. The Company has purchased 53.7 million shares (through March 31,
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
three months ended March 31, 1998 and 1997 were 37.0% and 39.5%,
respectively. Japanese income taxes on AFLAC Japan's operating results,
which were taxed at Japan's corporate income tax rate of 45.3%, accounted
for most of the Company's income tax expense. The decline in the effective
tax rates in 1998 and 1997 resulted primarily from increased earnings from
the Company's U.S. business segment and the weakening of the yen.
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 15th 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.
19
<PAGE>
AFLAC JAPAN
SUMMARY OF OPERATING RESULTS
THREE-MONTH PERIOD ENDED MARCH 31,
In Dollars
(In millions) 1998 1997
--------------------------
Premium income......................... $ 1,180.9 $ 1,176.7
Investment income, as adjusted*........ 237.2 221.5
Other income........................... 1.0 .3
---------- ----------
Total revenues, as adjusted*......... 1,419.1 1,398.5
---------- ----------
Benefits and claims.................... 1,029.0 1,023.6
Operating expenses..................... 253.4 241.1
---------- ----------
Total benefits and expenses.......... 1,282.4 1,264.7
---------- ----------
Pretax operating earnings,
as adjusted*...................... 136.7 133.8
Investment income applicable to
profit repatriations.................. (11.4) (6.6)
---------- ----------
Pretax operating earnings.......... $ 125.3 $ 127.2
========== ==========
- ----------------------------------------------------------------------------
Percentage changes in dollars
over previous period:
Premium income....................... .4% (3.9)%
Investment income*................... 7.1 (2.4)
Total revenues*...................... 1.5 (3.7)
Pretax operating earnings*........... 2.1 (3.2)
Pretax operating earnings............ (1.5) (4.4)
- ----------------------------------------------------------------------------
Percentage changes in yen
over previous period:
Premium income....................... 6.0% 10.2%
Investment income*................... 13.0 11.9
Total revenues*...................... 7.2 10.4
Pretax operating earnings*........... 7.8 11.1
Pretax operating earnings............ 3.9 9.7
- ----------------------------------------------------------------------------
Ratios to total revenues, as adjusted:*
Benefits and claims.................. 72.5% 73.2%
Operating expenses................... 17.9 17.2
Pretax operating earnings............ 9.6 9.6
Ratio of pretax operating earnings
to total reported revenues........... 8.9 9.1
- ----------------------------------------------------------------------------
*Adjusted investment income, total revenues and pretax operating earnings
include estimates of additional investment income of $11.4 million in 1998
and $6.6 million in 1997, foregone due to profit repatriations.
============================================================================
20
<PAGE>
AFLAC JAPAN SALES
The increase in premium income in yen was due to sales of new policies
and excellent policy persistency.
As anticipated, AFLAC Japan's sales improved during the first quarter.
New annualized premium sales increased 10.3% to 15.4 billion yen, or $120.2
million. These sales results are particularly rewarding given the difficult
marketing environment facing Japan's life insurers. Although AFLAC Japan
just began selling its latest product offering, "Rider MAX," in the first
quarter, management is pleased with its initial reception. Rider MAX, which
provides consumers with accident and supplemental benefits for general
hospitalization, accounted for about 17% of first quarter sales. Due to a
recent increase in the copayments of Japan's national health care system,
the need for this type of coverage has become increasingly apparent to the
consumer. As a rider to the popular cancer life policy, Rider MAX is
affordable and appealing to AFLAC Japan's customers and agents. The Company
is aggressively promoting the new rider with unique television
advertisements throughout Japan, and management expects this new policy's
success to continue throughout the year.
Cancer life policy sales also improved during the first quarter,
accounting for 58.7% of new annualized premium sales. Approximately 48% of
cancer life unit sales were from the economy cancer life policy introduced
in January 1997. The economy plan, which has lower premium rates and
benefit levels, can be effectively packaged with Rider MAX.
To improve its position in the marketplace, AFLAC Japan has expanded
its recruitment of individual sales agents. For the first three months of
the year, AFLAC Japan recruited about 500 new agents, compared with less
than 700 for the entire year of 1997. In addition, the Company also
increased the use of direct-mail marketing as a means to increase the
effectiveness of its agencies' sales campaigns. 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
Japan's weak economy also resulted in an extremely low level of
available investment yields during the quarter. Given the depressed
investment yields, investing AFLAC Japan's huge cash flows was challenging.
However, by focusing on selected sectors, the Company purchased yen-
denominated securities at an average yield of 4.54% during the quarter
without compromising investment quality. Including dollar-denominated
investments, the blended new money yield was 4.75% for the quarter. As of
April 13, the Company had invested or committed to invest approximately 36%
of its expected 1998 cash flow at an average yield of 4.71%. This yield
compares very favorably with the yield of Japanese government bonds and
provides a significant spread over the 3.5% interest assumption used in
computing policy reserves for new business.
At the end of the first quarter, the yield on AFLAC Japan's fixed-
maturity portfolio was 5.43%, compared with 5.46% at the end of 1997. The
return on average invested assets, after investment expenses, was 5.30% for
the quarter, compared with 5.40% a year ago.
21
<PAGE>
AFLAC JAPAN OTHER
In March 1997, the Japanese government ratified new income tax
provisions that increase income taxes on investment income and realized
gains received by foreign companies operating in Japan from securities
issued from their home country. The new 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 will decrease 1998 net operating earnings by $13 million.
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.
22
<PAGE>
AFLAC U.S.
SUMMARY OF OPERATING RESULTS
THREE-MONTH PERIOD ENDED MARCH 31,
(In millions) 1998 1997
--------------------------
Premium income......................... $ 289.5 $ 256.8
Investment income, as adjusted*........ 26.5 23.9
Other income........................... 1.9 .4
-------- --------
Total revenues, as adjusted*......... 317.9 281.1
-------- --------
Benefits and claims.................... 182.9 160.8
Operating expenses..................... 103.6 94.6
-------- --------
Total benefits and expenses.......... 286.5 255.4
-------- --------
Pretax operating earnings,
as adjusted*...................... 31.4 25.7
Investment income applicable to profit
repatriations and proceeds from the
sale of the television business....... 24.9 11.7
-------- --------
Pretax operating earnings.......... $ 56.3 $ 37.4
======== ========
- ----------------------------------------------------------------------------
Percentage increases
over previous period:
Premium income....................... 12.7% 12.1%
Investment income*................... 10.9 13.7
Total revenues*...................... 13.1 12.2
Pretax operating earnings*........... 22.2 10.2
Pretax operating earnings............ 50.3 24.8
- ----------------------------------------------------------------------------
Ratios to total revenues, as adjusted:*
Benefits and claims.................. 57.5% 57.3%
Operating expenses................... 32.6 33.6
Pretax operating earnings............ 9.9 9.1
Ratio of pretax operating earnings
to total reported revenues........... 16.4 12.8
- ----------------------------------------------------------------------------
*Excludes estimated investment income of $24.9 million in 1998 and $11.7
million in 1997, related to investment of profit repatriation funds retained
by AFLAC U.S. and investment of proceeds from the sale of the television
business.
============================================================================
AFLAC U.S. SALES
The increase in premium income was primarily due to an increase in new
sales over the last 12 months. AFLAC U.S. again produced strong sales
results. New annualized premium sales surpassed the $100 million mark for
the second consecutive quarter, rising 14.5% compared with the first quarter
23
<PAGE>
of 1997, to $108.0 million. Accident/disability insurance again generated
the greatest sales, with strong contributions from cancer, intensive care
and hospital indemnity coverage. The Company attributes the continued sales
success in the United States to the quality and affordable premiums of the
products, an effective and growing distribution system, and increasing brand
awareness through a national advertising program. Management has set an
objective for new policy sales to increase by 12% to 15% for the year 1998.
AFLAC U.S. INVESTMENTS
The increase in investment income was primarily due to the continued
cash flow from operations. During the first quarter, available cash flow
was invested at an average yield-to-maturity of 7.47% compared with 7.78%
during the first quarter of 1997. The overall return on average invested
assets, net of investment expenses, increased slightly for the first three
months of 1998 compared with the first quarter of 1997, to 7.37% from 7.28%.
AFLAC U.S. OTHER
In April 1998, the Company began selling cancer expense insurance in
New York. There are still two other states that 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. These states are Massachusetts and New Jersey. 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.
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.
24
<PAGE>
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 March 31, 1998, was
132.10 yen to one U.S. dollar, 1.5% 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 $282.2 million, total assets by
$337.7 million, and total liabilities by $323.3 million 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:
March 31, December 31,
(In millions) 1998 1997 % Change
--------- ------------ --------
AFLAC U.S.:
Total investments and cash, at
cost or amortized cost $ 2,755 $ 2,678 2.8%
Unrealized gains on securities
available for sale 232 228
---------- ----------
Total investments and cash $ 2,987 $ 2,906 2.8%
========== ========== ========
AFLAC Japan:
Total investments and cash, at
cost or amortized cost $ 16,816 $ 16,743 .4%
Unrealized gains on securities
available for sale 3,096 3,155
---------- ----------
Total investments and cash $ 19,912 $ 19,898 .1%
========== ========== =========
Consolidated:
Total investments and cash, at
cost or amortized cost $ 19,642 $ 19,497 .7%
Unrealized gains on securities
available for sale 3,329 3,383
---------- ----------
Total investments and cash $ 22,971 $ 22,880 .4%
========== ========== =========
Net unrealized gains of $3.3 billion on securities available for sale
at March 31, 1998 consisted of $3.4 billion in gross unrealized gains and
$33.0 million in gross unrealized losses.
25
<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:
March 31, 1998 December 31, 1997
-------------- -----------------
AAA 36.2% 38.3%
AA 19.9 20.5
A 30.3 28.9
BBB 13.6 12.3
----- -----
100.0% 100.0%
The Company does not hold any securities rated below BBB.
Private placement investments accounted for 38.2% and 36.3% of the
Company's total fixed-maturity securities available for sale as of March 31,
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. The Company's purchases
in the private placement market are often done through Euro medium-term note
programs. Securities in these programs are more marketable due to
standardized documentation and relatively wide distribution. All of the
Company's private placement investments are rated as Class 1 or 2 by the
Securities Valuation Office of the National Association of Insurance
Commissioners.
POLICY LIABILITIES
Policy liabilities increased $298.7 million, or 1.5%, during the first
three months of 1998. AFLAC Japan increased $238.8 million, or 1.3% (2.9%
increase in yen), and AFLAC U.S. increased $58.1 million, or 3.1%.
Management estimates the weaker yen rate decreased reported policy
liabilities by $279.7 million. Items that offset this decrease in policy
liabilities caused by the weaker yen are the addition of new business and
the aging of policies in force. The effect of market value adjustments on
fixed-maturity securities also caused a decrease in policy liabilities (see
Note 6 of Notes to the Consolidated Financial Statements).
DEBT
See Note 5 of the Notes to the Consolidated Financial Statements for
information on debt outstanding at March 31, 1998.
The Company's ratio of debt to total capitalization (debt plus
shareholders' equity, excluding the unrealized gains on securities available
for sale) was 18.5% and 19.6% as of March 31, 1998 and December 31, 1997,
respectively.
26
<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 $.3 million for the three months ended
March 31, 1998 and by approximately $1.5 million for the year 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 new mandatory
policyholder protection fund system. The life insurance industry will be
required to contribute 490 billion yen ($3.7 billion using the March 31,
1998 exchange rate) over a 10-year period. The total liability recorded in
the Consolidated Balance Sheets for the Company's share of both the
voluntary and mandatory funds is $136.8 million at March 31, 1998. (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 AFLAC Broadcast Division has
increased the Company's capital resources. Management believes outside sources
27
<PAGE>
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.
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 $11.2 million in the first quarter of 1998 and $386.0 million and
$253.6 million in the full years 1997 and 1996, respectively. Profit
repatriations have been remitted annually from AFLAC Japan to AFLAC U.S. in
July. 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
1999. 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 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 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. If this were to occur, disruptions in premium and claim processing
could occur.
The Company is currently in the process of converting and testing the
changes necessary to be year-2000 compliant. Based on its current
assessment, the Company estimates the total remaining cost of the year 2000
system conversion project to be approximately $4 million. Management
expects the year 2000 efforts to be completed on a timely basis.
For additional information, see the Year 2000 System Conversion Costs
section of the Management's Discussion and Analysis of Financial Condition
and Results of Operations in the Company's annual report to shareholders for
the year ended December 31, 1997.
28
<PAGE>
OTHER
On May 4, 1998, the board of directors approved an increase in the
quarterly cash dividend from $.058 to $.065 per share. The increase is
effective with the second quarter dividend, which is payable on June 1,
1998, to shareholders of record at the close of business on May 21, 1998.
29
<PAGE>
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.
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 fixed-
maturity securities resulting from a 100 basis point increase in market
interest rates is estimated to be $2.0 billion based on the Company's
portfolio as of March 31, 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 $329.2 million.
The Company has outstanding interest rate swaps on all 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. Therefore,
there was no effect on earnings due to changes in market interest rates.
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 March 31, 1998, totaled $167.0 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 .95. 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 9.5%, or $15.9 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.
30
<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
(March 31, 1998)
117.10 132.10* 147.10
(In millions) Yen Yen Yen
- ----------------------------------------------------------------------------
Yen-denominated financial
instruments:
Assets:
Fixed-maturity
securities $20,603.2 $18,263.7 $16,401.3
Cash and cash
equivalents 86.1 76.3 68.6
Securities held as
collateral 1,159.5 1,027.9 923.1
Other financial
instruments 21.2 18.8 16.8
-------- -------- --------
Total 21,870.0 19,386.7 17,409.8
-------- -------- --------
Liabilities:
Securities held as
collateral 1,159.5 1,027.9 923.1
Notes payable 553.4 490.5 440.5
-------- -------- --------
Total 1,712.9 1,518.4 1,363.6
-------- -------- --------
Net yen-denominated
financial instruments 20,157.1 17,868.3 16,046.2
Other yen-denominated
assets 2,913.9 2,583.0 2,319.6
Other yen-denominated
liabilities (primarily
policy and claim reserves) (22,565.4) (20,003.1) (17,963.4)
-------- -------- --------
Total yen-denominated
net assets subject
to foreign currency
fluctuation $ 505.6 $ 448.2 $ 402.4
======== ======== ========
*Actual March 31, 1998 rate.
For information regarding the effect of foreign currency translation on
operating earnings per share, see Foreign Currency Translation on page 17.
31
<PAGE>
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 developments, 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.
32
<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.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Annual Meeting of the Shareholders was held on May 4, 1998.
Matters submitted to the shareholders were: (1) Election of 17 members to
the board of directors; (2) Ratification of the selection of auditors for
1998. The two proposals were approved by the shareholders.
Following is a summary of each vote cast for, against or withheld, as
well as the number of abstention and broker non-votes, as to each such
matter, including a separate tabulation with respect to each nominee for
office. These votes have not been adjusted to reflect the two-for-one stock
split declared May 4, 1998.
VOTES
---------------------------------------------------
Absten- With- Broker
For Against tions held Non-Votes
----------------------------------------------------
(1) Election of 17
members to the board of
directors:
Paul S. Amos 265,461,388 N/A N/A 1,295,995 153,421
Daniel P. Amos 265,607,863 N/A N/A 1,149,520 153,421
J. Shelby Amos, II 265,641,257 N/A N/A 1,116,126 153,421
Michael H. Armacost 263,924,336 N/A N/A 2,833,047 153,421
M. Delmar Edwards, M.D. 265,516,056 N/A N/A 1,241,327 153,421
George W. Ford, Jr. 265,461,166 N/A N/A 1,296,217 153,421
Joe Frank Harris 265,183,549 N/A N/A 1,573,834 153,421
Elizabeth J. Hudson 265,609,440 N/A N/A 1,147,943 153,421
Kenneth S. Janke, Sr. 265,729,322 N/A N/A 1,028,061 153,421
Charles B. Knapp 265,665,232 N/A N/A 1,092,151 153,421
Hisao Kobayashi 265,687,116 N/A N/A 1,070,267 153,421
Yoshiki Otake 265,684,359 N/A N/A 1,073,024 153,421
E. Stephen Purdom 265,611,276 N/A N/A 1,146,107 153,421
Barbara K. Rimer 265,649,073 N/A N/A 1,108,310 153,421
Henry C. Schwob 265,523,990 N/A N/A 1,233,393 153,421
J. Kyle Spencer 265,431,802 N/A N/A 1,325,581 153,421
Glenn Vaughn, Jr. 265,551,712 N/A N/A 1,205,671 153,421
33
<PAGE>
VOTES
---------------------------------------------------
Absten- With- Broker
For Against tions held Non-Votes
----------------------------------------------------
(2) Ratification of
appointment of KPMG
Peat Marwick LLP as
independent auditors 265,379,409 926,363 605,030 N/A None
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
March 31, 1998.
Items other than those listed above are omitted because they are not
required or are not applicable.
34
<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 May 12, 1998 /s/ KRISS CLONINGER, III
------------------------ ---------------------------
KRISS CLONINGER,III
Executive Vice President;
Treasurer and
Chief Financial Officer
Date May 12, 1998 /s/ NORMAN P. FOSTER
------------------------ ---------------------------
NORMAN P. FOSTER
Executive Vice President,
Corporate Finance
35
<PAGE>
EXHIBITS FILED WITH CURRENT FORM 10-Q:
27.0 - Financial Data Schedule (for SEC use only).
36
<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 March 31, 1998, and is qualified in its entirety by
reference to such financial statements.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> MAR-31-1998
<DEBT-HELD-FOR-SALE> 22,597,866
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 166,954
<MORTGAGE> 12,626
<REAL-ESTATE> 0
<TOTAL-INVEST> 22,825,382
<CASH> 145,395
<RECOVER-REINSURE> 0
<DEFERRED-ACQUISITION> 2,603,945
<TOTAL-ASSETS> 27,528,228
<POLICY-LOSSES> 19,706,916
<UNEARNED-PREMIUMS> 277,768
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 199,036
<NOTES-PAYABLE> 511,186
0
0
<COMMON> 15,855
<OTHER-SE> 3,437,842
<TOTAL-LIABILITY-AND-EQUITY> 27,528,228
1,472,399
<INVESTMENT-INCOME> 278,563
<INVESTMENT-GAINS> 183
<OTHER-INCOME> 5,881
<BENEFITS> 1,213,924
<UNDERWRITING-AMORTIZATION> 47,464
<UNDERWRITING-OTHER> 442,114<F1>
<INCOME-PRETAX> 53,524
<INCOME-TAX> (106,878)<F2>
<INCOME-CONTINUING> 160,402
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 160,402
<EPS-PRIMARY> .60<F3>
<EPS-DILUTED> .58<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 payable June 8, 1998. Prior year
financial data schedules have not been restated.
</FN>
</TABLE>
