SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
QUARTERLY REPORT UNDER SECTION 13 or 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For Quarter Ended September 30, 1994 Commission file number 1-6028
LINCOLN NATIONAL CORPORATION
(Exact name of registrant as specified in its charter)
Indiana 35-1140070
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
200 East Berry Street, Fort Wayne, Indiana 46802-2706
(Address of Principal Executive Offices)
Registrant's telephone number (219) 455-2000
Common Stock Outstanding October 28, 1994 94,970,626
Indicate by check mark whether 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 [ ]
The exhibit index to this report is located on page 17.
Page 1 of 19
<PAGE> -2-
<TABLE>
PART I - FINANCIAL INFORMATION
Item 1 Financial Statements
<CAPTION>
LINCOLN NATIONAL CORPORATION
CONSOLIDATED BALANCE SHEETS
September 30 December 31
(000'S omitted) 1994 1993
ASSETS
Investments:
<S> <C> <C>
Securities available-for-sale, at fair value:
Fixed maturity (cost 1994 - $21,682,034;
1993 - $22,219,285) ------------------ $21,451,998 $23,964,335
Equity (cost 1994 - $950,102;
1993 - $896,477) --------------------- 1,065,997 1,080,301
Mortgage loans on real estate ------------ 2,880,202 3,300,951
Real estate ------------------------------ 679,828 633,103
Policy loans ----------------------------- 547,837 595,085
Other investments ------------------------ 166,190 158,170
Total Investments ---------------------- 26,792,052 29,731,945
Investment in unconsolidated affiliates ---- 94,185 --
Cash and invested cash --------------------- 1,065,623 709,664
Property and equipment --------------------- 189,765 233,467
Deferred acquisition costs ----------------- 2,394,132 2,011,131
Premiums and fees receivable --------------- 722,796 601,883
Accrued investment income ------------------ 422,543 413,144
Assets held in separate accounts ----------- 14,057,051 12,430,577
Federal income taxes ----------------------- 417,171 --
Amounts recoverable from reinsurers -------- 2,183,356 1,460,038
Goodwill ----------------------------------- 146,805 228,530
Other assets ------------------------------- 751,291 559,982
Total Assets ----------------------------- $49,236,770 $48,380,361
<FN>
See notes to consolidated financial statements on page 7.
</TABLE>
<PAGE> -3-
<TABLE>
<CAPTION>
LINCOLN NATIONAL CORPORATION
CONSOLIDATED BALANCE SHEETS
-CONTINUED-
September 30 December 31
(000's omitted) 1994 1993
LIABILITIES AND SHAREHOLDERS' EQUITY
<S> <C> <C>
Liabilities:
Policy liabilities and accruals:
Future policy benefits, claims
and claim expenses -------------------- $11,400,239 $12,652,036
Unearned premiums ----------------------- 818,335 858,805
Total Policy Liabilities and Accruals - 12,218,574 13,510,841
Contractholder funds ---------------------- 16,532,562 14,872,141
Liabilities related to separate accounts -- 14,057,051 12,430,577
Federal income taxes ---------------------- -- 150,951
Short-term debt --------------------------- 468,544 351,418
Long-term debt ---------------------------- 320,482 335,097
Other liabilities ------------------------- 2,317,567 2,657,015
Total Liabilities ----------------------- 45,914,780 44,308,040
Shareholders' Equity:
Series A Preferred Stock
(9/30/94 liquidation value - $3,512) ----- 1,442 1,553
Series E Preferred Stock
(9/30/94 liquidation value - $151,569) --- 151,206 151,206
Series F Preferred Stock
(9/30/94 liquidation value - $158,707) --- 158,707 158,707
Common Stock ------------------------------ 566,347 543,659
Earned surplus ---------------------------- 2,430,601 2,303,731
Foreign currency translation adjustment --- 7,388 (1,214)
Net unrealized gain on securities
available-for-sale ----------------------- 6,299 914,679
Total Shareholders' Equity -------------- 3,321,990 4,072,321
Total Liabilities
and Shareholders' Equity -------------- $49,236,770 $48,380,361
<FN>
See notes to consolidated financial statements on page 7.
</TABLE>
<PAGE> -4-
<TABLE>
<CAPTION>
LINCOLN NATIONAL CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
Nine Months Ended Three Months Ended
September 30 September 30
(000's omitted) 1994 1993 1994 1993
<S> <C> <C> <C> <C>
Revenue:
Insurance premiums ---------- $3,223,027 $3,934,254 $ 975,491 $1,485,460
Insurance fees -------------- 329,799 343,947 112,933 118,044
Net investment income ------- 1,499,498 1,556,978 510,045 521,605
Equity in earnings of
unconsolidated affiliates - 10,585 -- 4,993 --
Realized gain (loss) on
investments --------------- (102,375) 217,097 (74,140) 161,741
Gain on sale of subsidiary -- 48,842 -- -- --
Other ----------------------- 103,593 116,000 32,380 40,509
Total Revenue ----------- 5,112,969 6,168,276 1,561,702 2,327,359
Benefits and Expenses:
Benefits and settlement
expenses ------------------ 3,553,134 4,120,117 1,102,694 1,500,944
Underwriting, acquisition,
insurance and other expenses 1,242,379 1,502,996 387,948 552,319
Interest expense ------------ 34,878 32,761 12,148 10,858
Total Benefits
and Expenses ---------- 4,830,391 5,655,874 1,502,790 2,064,121
Income Before Federal
Income Taxes and
Cumulative Effect of
Accounting Change --- 282,578 512,402 58,912 263,238
Federal Income Taxes ---------- 26,409 128,667 530 75,729
Income Before
Cumulative Effect of
Accounting Change ----- 256,169 383,735 58,382 187,509
Cumulative Effect of
Accounting Change ----------- -- (96,431) -- --
Net Income -------------- $ 256,169 $ 287,304 $ 58,382 $ 187,509
Earnings Per Share:
Income before cumulative
effect of accounting change - $2.47 $3.76 $ .56 $1.82
Cumulative effect of
accounting change ----------- -- (.94) -- --
Net Income -------------- $2.47 $2.82 $ .56 $1.82
Cash Dividends Per Share -
Common Stock ---------------- $1.23 $1.14 $ .41 $ .38
<FN>
See notes to consolidated financial statements on page 7.
</TABLE>
<PAGE> -5-
<TABLE>
<CAPTION>
LINCOLN NATIONAL CORPORATION
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Nine Months Ended September 30
Number of Shares Issued Amounts
(000's omitted from dollar amounts) 1994 1993 1994 1993
<S> <C> <C> <C> <C>
Preferred Stock:
(Shares authorized: 10,000,000)
Series A Preferred Stock:
Balance at
beginning of year -------- 47,289 57,716 $ 1,553 $ 1,896
Conversion into
Common Stock ------------- (3,388) (9,027) (111) (294)
Balance at September 30 - 43,901 48,689 1,442 1,602
Series E and F Preferred Stock:
Balance at beginning
and end of period -------- 4,417,897 4,417,897 309,913 309,913
Common Stock:
(Shares authorized:
1994 - 800,000,000;
1993 - 400,000,000)
Balance at beginning of year - 94,183,190 84,142,458 543,659 200,986
Conversion of Series A
Preferred Stock ------------ 27,104 72,216 111 294
Public offering of
Common Stock --------------- -- 9,200,000 -- 316,100
Issued for benefit plans ---- 758,732 707,874 22,577 24,047
Balance at September 30 - 94,969,026 94,122,548 566,347 541,427
Earned Surplus:
Balance at beginning of year - 2,303,731 2,147,691
Net income ------------------- 256,169 287,304
Cash dividends declared ------ (129,299) (119,953)
Balance at September 30 - 2,430,601 2,315,042
Foreign Currency Translation Adjustment:
Accumulated adjustment at
beginning of year ---------- (1,214) 3,643
Change during period --------- 8,602 (6,071)
Balance at September 30 - 7,388 (2,428)
Net Unrealized Gain (Loss) on
Securities Available-for-Sale:
Balance at beginning of year - 914,679 162,742
Change during period --------- (908,380) 45,053
Balance at September 30 - 6,299 207,795
Total Shareholders' Equity
at September 30 ------- $3,321,990 $3,373,351
Common Stock (assuming conversion
of Series A, E & F Preferred Stock):
End of Period ----------- 104,156,028 103,347,854
Average for the Period -- 103,840,927 101,950,144
<FN>
See notes to consolidated financial statements on page 7.
</TABLE>
<PAGE> -6-
<TABLE>
<CAPTION>
LINCOLN NATIONAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
Nine Months Ended
September 30
(000's omitted) 1994 1993
<S> <C> <C>
Operating Activities:
Net income ---------------------------------------- $ 256,169 $ 287,304
Adjustments to reconcile net income to net
cash provided by operating activities:
Deferred acquisition costs -------------------- (151,829) (171,555)
Premiums and fees receivable ------------------ (146,793) (68,694)
Accrued investment income --------------------- (38,155) 26,879
Policy liabilities and accruals --------------- 114,542 602,860
Contractholder funds -------------------------- 1,370,047 910,595
Amounts recoverable from reinsurers ----------- (752,037) (741,099)
Federal income taxes -------------------------- (50,534) (68,849)
Provisions for depreciation ------------------- 43,036 42,895
Realized gain (loss) on investments ----------- 179,568 (217,096)
Gain on sale of subsidiary -------------------- (48,842) --
Cumulative effect of accounting change -------- -- 96,431
Other ----------------------------------------- 77,190 36,883
Net Adjustments ----------------------------- 596,193 449,250
Net Cash Provided by Operating Activities --- 852,362 736,554
Investing Activities:
Securities-available-for-sale:
Purchases -------------------------------------- (10,612,797) (7,508,701)
Sales ------------------------------------------ 8,028,171 7,151,808
Maturities ------------------------------------- 973,118 8,844
Fixed maturity securities-held for investment:
Purchases -------------------------------------- -- (5,042,910)
Sales ------------------------------------------ -- 2,060,307
Maturities ------------------------------------- -- 1,277,277
Purchase of other investments -------------------- (938,518) (936,621)
Sale or maturity of other investments ------------ 1,263,557 698,999
Sale of subsidiaries ----------------------------- 417,367 --
Increase (decrease) in cash collateral on
loaned securities ------------------------------ (176,789) 112,321
Other -------------------------------------------- (86,653) 42,395
Net Cash Used in Investing Activities ------ (1,132,544) (2,136,281)
Financing Activities:
Principal payments on long-term debt ------------- (9,535) (1,487)
Issuance of long-term debt ----------------------- 241 8,653
Net increase (decrease) in short-term debt ------- 118,079 (165,593)
Universal life and investment contract deposits -- 1,982,388 1,923,437
Universal life and investment
contract withdrawals --------------------------- (1,348,563) (1,061,628)
Public offering of Common Stock ------------------ -- 316,100
Common Stock issued for benefit plans ------------ 22,578 24,047
Dividends paid to shareholders ------------------- (129,047) (116,218)
Net Cash Provided by Financing Activities -- 636,141 927,311
Net Increase (Decrease) in Cash ------------ 355,959 (472,416)
Cash at Beginning of Year -------------------------- 709,664 1,015,850
Cash at September 30 ----------------------- $1,065,623 $ 543,434
<FN>
See notes to consolidated financial statements on page 7.
</TABLE>
<PAGE> -7-
LINCOLN NATIONAL CORPORATION
NOTES TO CONSOLIDATED STATEMENTS
1. Basis of Presentation
The accompanying consolidated financial statements include Lincoln National
Corporation ("LNC") and its majority-owned subsidiaries. Less than majority-
owned entities in which LNC has at least a 20% interest are reported on the
equity basis. These unaudited consolidated statements have been prepared in
conformity with generally accepted accounting principles, except that they do
not contain complete notes. However, in the opinion of management, these
statements include all normal recurring adjustments necessary for a fair
presentation of the results. For further information, refer to the
consolidated financial statements included in LNC's annual report to
shareholders or Form 10-K for the year ended December 31, 1993.
Operating results for the nine months ended September 30, 1994 are not
necessarily indicative of the results that may be expected for the full year
ending December 31, 1994.
2. Federal Income Taxes
The effective tax rate on net income is lower than the prevailing corporate
federal income tax rate. The difference for both 1993 and 1994 resulted
principally from tax-exempt investment income. The nine months ended
September 30, 1994 also was affected by the fact that no income taxes were
payable on the gain on sale of a subsidiary (see note 4).
3. Earnings Per Share
Earnings per share are computed based on the average number of common shares
outstanding (103,840,927 and 101,950,144 for the first nine months of 1994 and
1993, respectively) after assuming conversion of the Series A, E and F
Preferred Stock.
4. Sale of Subsidiaries
On February 2, 1994, LNC completed the sale of Security-Connecticut
Corporation through an initial public offering for cash, net of related
expenses, totaling $172.7 million and a promissory note from Security-
Connecticut Corporation for $65.0 million. The loss on sale and disposal
expenses did not differ materially from the estimate recorded in the fourth
quarter of 1993.
On March 21, 1994, LNC sold 64% of a wholly owned subsidiary, EMPHESYS
Financial Group, Inc. ("EMPHESYS"), through an initial public offering.
EMPHESYS is the parent company of Employers Health Insurance Company
("Employers Health"). As a result of this transaction, LNC exchanged 64% of
the outstanding stock of EMPHESYS for cash, net of related expenses, totaling
$220.1 million and a promissory note from EMPHESYS for $50.0 million. This
transaction resulted in a gain on sale of $44.1 million (also $44.1 million
pre-tax). On April 15, 1994, LNC sold an additional 7% of EMPHESYS. The
impact of the combined March 21st and April 15th transactions was that LNC
exchanged 71% of the outstanding stock of EMPHESYS for cash, net of related
expenses, totaling $244.7 million plus the $50.0 million promissory note.
These transactions resulted in a gain on sale of $48.8 million (also $48.8
million pre-tax). For the January 1, 1994 through March 21, 1994 period,
Employers Health had revenue of $314.9 million and net income of $14.4
million. For the nine months and quarter ended September 30, 1993, Employers
Health had revenues of $959.7 million and $328.1 million and net income of
$48.1 million and $22.9 million, respectively. This revenue and net income
was recorded within the Employee Life-Health Benefits segment. The gain on
sale and the appropriate portion of the equity in the earnings of EMPHESYS
after March 21, 1994, recognized in accordance with the equity method of
accounting, were reported within "Other Operations".
<PAGE> -8-
LINCOLN NATIONAL CORPORATION
ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL INFORMATION
As indicated in the "Notes to Consolidated Statements" (see note 4 on page 7),
LNC completed the sale of a subsidiary and the sale of 71% of another
subsidiary in 1994. As noted in the following "Review of Consolidated
Operations" and "Review of Consolidated Financial Condition," these sales have
affected the comparability of select line items within the Consolidated
Statements of Income and Consolidated Balance Sheets.
REVIEW OF CONSOLIDATED OPERATIONS
The discussion that follows focuses on the results for the nine months
ended September 30, 1994 compared to the results for the nine months ended
September 30, 1993. The factors affecting the current quarter to prior year
quarter comparisons are essentially the same as the year-to-date factors,
except as noted.
Insurance Premiums
Property-Casualty premiums decreased by $103.1 million or 7% compared
with the nine months ended September 30, 1993 primarily as the result of
implementing a more stringent underwriting policy to improve loss experience.
The decrease in property-casualty premiums is leveling and this trend is
expected to continue into 1995. Excluding the impact of the subsidiary sold
in 1994 (see note 4 on page 7), health premiums were $524.9 million for the
first nine months of 1994 which is essentially the same as the first nine
months of 1993. Excluding the impact of the subsidiary sold in 1994 (see note
4 on page 7), life and annuity premiums increased by $36.7 million or 3%
compared to the previous year. This increase was the net result of an
increase in the volume of transactions by the Life Insurance and Annuities
segment and a small decrease in the Life-Health Reinsurance segment.
Insurance Fees
Excluding the impact of the subsidiary sold in 1994 (see note 4 on page
7), insurance fees from the sale of universal life and other interest
sensitive insurance contracts increased $62.5 million or 23% compared to the
first nine months of 1993 as the result of increases in the volume of
transactions in the Life Insurance and Annuities segment.
Net Investment Income
Net investment income decreased $57.5 million or 4% when compared with
the first nine months of 1993. This is the net result of a 3% increase in
mean invested assets less the impact of the overall yield on investments
dropping from 7.79% to 7.13%. The increase in mean invested assets is the net
result of increased volumes of business in the Life Insurance and Annuity
segment being partially offset by decreases due to the sale of subsidiaries
(see note 4 on page 7) and reduced volumes of business in the Property-
Casualty segment.
Equity in Earnings of Unconsolidated Affiliates
This line was added to the statement of income in 1994 following LNC's
sale of 71% of its direct writer of health coverages (see note 4 on page 7).
The amount shown represents LNC's share of the total earnings of this company
for the period after the closing of the sale on March 21, 1994.
Gain on Sale of Subsidiary
The 1994 amount relates to the sale of 71% of LNC's interest in Employers
Health Insurance Company (see note 4 on page 7).
<PAGE> -9-
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL INFORMATION (continued)
REVIEW OF CONSOLIDATED OPERATIONS (continued)
Realized Gain (Loss) on Investments
The first nine months of 1994 and 1993 had pre-tax realized gain (loss)
on investments of $(102.4) million and $217.1 million, respectively. The
gains for 1993 were the result of net gains on the sale of investments, less
writedowns and provision for losses. The losses in 1994 were the result of
net realized investment gains being more than offset by 1) realized investment
losses and 2) writedowns of security investments and provisions for losses for
mortgage loans and real estate. The investment losses, primarily from the
second and third quarters, were the result of repositioning a portion of the
investment portfolio during a period of rising interest rates. Fixed maturity
and equity securities that were deemed to have declines in fair value that
were other than temporary were written down. Provision for losses on mortgage
loans on real estate, real estate investments and other investments were
established where the underlying value of the property was deemed to be less
than the carrying value.
The pre-tax writedown of fixed maturity and equity securities for the
first nine months of 1994 and 1993 were $18.3 million and $59.2 million,
respectively. In recognition of the current and expected interest rate
environment, these writedowns include a second quarter 1993 writedown of $33.2
million related to interest only mortgage-backed securities. With the
exception of interest only mortgage-backed securities, the fixed maturity
securities to which these writedowns apply were generally of investment grade
quality at the time of purchase, but were classified as "below investment
grade" at the time of the writedowns. The pre-tax additions to provision for
losses on mortgage loans on real estate and real estate for the first nine
months of 1994 and 1993 were $38.4 million and $128.2 million, respectively,
including $64.1 million in 1993 for the adoption of FAS 114. The pre-tax
addition to the provision for losses for other investments for the first nine
months of 1994 and 1993 were $2.6 million and $6.0 million, respectively.
During the third quarter, LNC announced its intention to sell a portion of its
mortgage loan and real estate portfolios through a private offering. LNC's
original investment in those performing and non-performing holdings was
approximately $300 million. This bulk sale, which may close as early as the
fourth quarter of 1994, is not expected to result in any significate gain or
loss.
Other Revenue
Excluding the impact of the subsidiaries sold, other revenue increased
$6.7 million or 7% when compared to the first nine months of 1993 as the
result of an increase in the Life Insurance and Annuities segment.
Insurance Benefits and Settlement Expenses
Property-Casualty benefits decreased by $99.0 million or 9% when compared
with the first nine months of 1993. This decrease was the result of reduced
volumes of insurance written. Catastrophe losses and weather related claims
were essentially the same for both periods. Excluding the impact of the
subsidiary sold in 1994 (see note 4 on page 7), health benefits increased by
$8.9 million or 2% when compared to the first nine months of 1993 as a result
of increased claims in the Life Insurance and Annuity and Life-Health
Reinsurance segment. Excluding the impact of the subsidiary sold in 1994 (see
note 4 on page 7), life and annuity benefits and settlement expenses increased
$28.5 million or 1.5% when compared to the first nine months of 1993. This
increase is the result of increased volumes of business in the Life Insurance
and Annuities segment and a small decrease in the Life-Health Reinsurance
segment.
<PAGE> -10-
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL INFORMATION (continued)
REVIEW OF CONSOLIDATED OPERATIONS (continued)
Underwriting, Acquisition, Insurance and Other Expenses
Excluding the impact of the various subsidiaries sold, this expense
decreased $48.2 million or 4% for the nine months ended September 30, 1994 as
compared to the first nine months of 1993. This decrease was the result of
lower expenses in the Property-Casualty segment and lower volume related
expenses in the Life-Health Reinsurance being partially offset by increases in
the Life Insurance and Annuity segment. The Property-Casualty segment
decrease is expected to continue in the near term as this segment continues to
adjust staff levels to the current level of business.
Interest Expense
Interest expense increased $2.1 million or 6% when compared with the first
nine months of 1993. This was the net result of increases in the average debt
outstanding and increases in short-term interest rates less the impact of
changes in the composition of debt outstanding. This increase is expected to
continue in the fourth quarter of 1994 due in part to the additional change in
the composition of the debt outstanding as discussed within the analysis of
"liquidity and cash flow" (see page 14).
Federal Income Taxes
Federal income taxes decreased from $79.0 million in the first nine months
of 1993 to $26.4 million in the first nine months of 1994 as a result of a
decrease in pre-tax earnings and the lack of any tax expense on the gain on
sale of subsidiary (see note 4 on page 7). The reduction in pre-tax earnings
is the result of the absence of earnings from subsidiaries sold (see note 4 on
page 7) and the realization of losses on the sale of investments during the
1994 period versus the realization of gains on investment in the 1993 period.
The tax credits from the realized losses result from the carryback of such
losses to realized gains recognized in prior years.
Summary
Net income for the first nine months of 1994 was $256.2 million or $2.47
per share compared with $287.3 million or $2.82 per share in the first nine
months of 1993. Excluding realized gain (loss) on investments, gain on sale
of subsidiary and the after-tax cumulative effect of implementing the
postretirement benefit accounting change, LNC earned $278.6 million for the
first nine months of 1994 compared with $254.9 million for the first nine
months of 1993. This increase was due to increases in earnings from the three
business segments being partially offset by the impact of the loss of earnings
from subsidiaries sold net of investment income earned on the proceeds from
the sales.
<PAGE> -11-
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL INFORMATION (continued)
REVIEW OF CONSOLIDATED FINANCIAL CONDITION
Investments
The total investment portfolio decreased $2.9 billion in the first nine
months of 1994. The removal of the investments of the two subsidiaries sold
(see note 4 on page 7) accounted for $2.1 billion of this decrease. The
remainder of the decrease is the net result of decreases in the fair value of
investment securities during the first nine months of 1994 (primarily due to
rising interest rates during that period) being partially offset by new
purchases of investments from cash flow generated by the business segments.
The quality of LNC's fixed maturity securities portfolio as of September
30, 1994 was as follows:
Treasuries and AAA 37.3% BBB 20.0%
AA 11.3% BB 3.4%
A 25.7% Less than BB 2.3%
As of September 30, 1994, $1.222 billion or 5.7% of fixed maturity
securities was invested in below investment grade securities (less than BBB).
This represents 4.6% of the total investment portfolio. The interest rates
available on these below investment grade securities are significantly higher
than is available on other corporate debt securities. Also, the risk of loss
due to default by the borrower is significantly greater with respect to such
below investment grade securities, because these securities are generally
unsecured, often subordinated to other creditors of the issuer and issued by
companies that usually have high levels of indebtedness. LNC attempts to
minimize the risks associated with these below investment grade securities by
limiting the exposure to any one issuer and by closely monitoring the credit
worthiness of such issuers. During the nine months ended September 30, 1994,
the aggregate cost of such investments purchased was $485.8 million.
Aggregate proceeds from such investments sold were $341.3 million, resulting
in a realized pre-tax gain of $2.0 million.
LNC's entire fixed maturity securities portfolio is classified as
"available-for-sale" and is carried at fair value. Equity securities
available-for-sale are also carried at fair value. Changes in fair value, net
of related deferred acquisition costs, and amounts required to satisfy
policyholder commitments and taxes, are charged or credited directly to
shareholders' equity.
As of September 30, 1994, mortgage loans on real estate and real estate
represented 10.8% and 2.5% of LNC's total investment portfolio. As of
September 30, 1994, the underlying properties supporting the mortgage loans on
real estate consisted of 27% in commercial office buildings, 28% in retail
stores, 18% in apartments, 13% in industrial buildings, 3% in hotels/motels
and 11% in other. In addition to the dispersion by property type, the
mortgage loan portfolio is geographically diversified throughout the United
States.
Mortgage loans on real estate are actively monitored to identify problem
loans. LNC classifies mortgage loans as problem loans if they are non-accrual
loans (i.e., principal and interest are 60 days past due), restructured loans
(i.e., the terms of the original loan have been modified) or loans not in the
first two categories that are considered impaired. LNC considers a mortgage
loan impaired when, based on current information and events, it is probable
that LNC will be unable to collect all amounts due according to the
contractual terms of the loan agreement. In addition, LNC also classifies
loans as potential problem loans when available information causes management
to be concerned about the borrowers' ability to comply with the present loan
terms, including the repayment of outstanding interest and principal.
<PAGE> -12-
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL INFORMATION (continued)
REVIEW OF CONSOLIDATED FINANCIAL CONDITION (continued)
When LNC determines that a loan is impaired as defined above, a provision
for loss is established for the difference between the carrying value of the
mortgage loan and the estimated value. Estimated value is based on either the
present value of expected future cash flows discounted at the loan's effective
interest rate, the loan's observable market price or the fair value of the
collateral. Additional amounts were added to the mortgage loan provision for
losses during 1993 due to the adoption of FAS 114 (see page 9). When a
mortgage loan becomes 60 days past due, all existing accruals for interest due
are reversed and interest is recorded on a cash basis until the mortgage loan
is brought current.
In the first nine months of 1994, LNC continued to add to its provision
for losses for mortgage loans on real estate. The reserve level and the ratio
of reserves to impaired mortgages both decreased during this period as the
increase in reserves was more than offset by the removal of amounts associated
with the second quarter 1994 bulk sale of approximately $150 million in
commercial real estate.
<TABLE>
<CAPTION>
A summary of LNC's problem mortgage loans on real estate before related
provisions for losses and supplemental information with respect to
such loans is as follows:
September 30 December 31
(in millions) 1994 1993
<S> <C> <C>
Problem Loans:
Non-accrual loans ----------------------------------- $176.6 $276.3
Restructured loans ---------------------------------- 30.0 59.8
Other problem loans --------------------------------- 327.2 445.2
Total Problem Loans ---------------------------- $533.8 $781.3
Potential problem loans ------------------------------- $ 92.8 $ 92.1
</TABLE>
<TABLE>
<CAPTION>
Impaired loans included in the problem loans shown above along with the
related provision for losses are as follows:
September 30 December 31
(in millions) 1994 1993
<S> <C> <C>
Impaired loans ---------------------------------------- $476.6 $725.9
Provision for losses ---------------------------------- 133.0 226.6
Net Impaired loans --------------------------------- $343.6 $499.3
</TABLE>
<TABLE>
<CAPTION>
Nine Months Ended September 30 (in millions) 1994 1993
<S> <C> <C>
Interest Income from Problem Loans:
Amount that would have been
recorded under original terms ---------------------- $36.5 $41.3
Interest income actually recorded -------------------- 31.1 31.9
As of September 30, 1994, LNC has a commitment to lend $55,000 on a loan
shown within other problem loans above. No other future commitments have been
made on non-accrual or restructured loans.
</TABLE>
Investment in Unconsolidated Affiliates
This line was added to the balance sheet in 1994 to accommodate LNC's 29%
equity ownership in EMPHESYS, Financial Group, Inc., following LNC's sale of
71% of this company (see note 4 on page 7).
<PAGE> -13-
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL INFORMATION (continued)
REVIEW OF CONSOLIDATED FINANCIAL CONDITION (continued)
Cash and Invested Cash
Cash and invested cash increased by $356.0 million in the first nine
months of 1994. This increase is primarily the result of the receipt of
proceeds from the sale of subsidiaries (see note 4 on page 7). These funds
are pending application for general corporate purposes which may include
additional investments in existing businesses or the financing of
acquisitions.
Assets Held in Separate Accounts
Excluding the December 31, 1993 balance of the subsidiaries that were
sold (see note 4 on page 7), this asset account as well as the corresponding
liability account increased by $1.6 billion, reflecting an increase in annuity
and pension funds under management.
Federal Income Taxes
Federal income taxes recoverable at September 30, 1994 of $417.2 million
represents a change of $568.1 million compared to the federal income taxes
payable at December 31, 1993. This is the net result of increases related to
recoverable deferred taxes resulting primarily from life insurance reserve
differences, discounting of unpaid losses, additions to the investment
reserves and postretirement obligations, and the decrease in deferred taxes
payable primarily related to the reduction in unrealized gains on securities
in the first nine months of 1994.
Amounts Recoverable from Reinsurers
The increase in amounts recoverable from reinsurers was the result of an
increased volume of business ceded in the Life Insurance and Annuities
segment.
Goodwill
The decrease in goodwill of $81.7 million is primarily the result of the
sale of subsidiaries during the first quarter of 1994 (see note 4 on page 7).
Other Assets
The increase in other assets of $191.3 million is the result of having a
higher receivable related to investment securities sold in the last few days
of the third quarter of 1994 versus the end of 1993.
Total Liabilities
Excluding the December 31, 1993 liabilities of the subsidiaries that were
sold (see note 4 on page 7) of $1.9 billion, total liabilities increased by
$3.5 million in the first nine months of 1994. This increase reflects 1) an
increased level of business as evidenced by an increase in policy liabilities
and accruals of $338.5 million, an increase of $1.7 billion in contractholder
funds, an increase of $1.7 billion in the liabilities related to separate
accounts, 2) an increase in debt of $108.9 million and 3) a decrease in other
liabilities of $283.6 million.
<PAGE> -14-
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL INFORMATION (continued)
REVIEW OF CONSOLIDATED FINANCIAL CONDITION (continued)
Policyholder liabilities as of September 30, 1994 and December 31, 1993
included liabilities for environmental losses of approximately $223.0 million
and $204.0 million respectively. Because of the limited coverages that have
been written by LNC, these reserves represent only 8% of LNC's total property-
casualty reserves for both periods (4% based on claim counts of direct
business). These percentages are at this level due to LNC's concentration of
writing coverages for small to medium size companies rather than the larger
companies that tend to incur most of the environmental and product liability
claims. Establishing reserves for environmental losses is subject to
significant uncertainties because of the long reporting delays, lack of
historical data and the unresolved complex legal and regulatory issues that
are involved. However, based on available information, it is management's
judgement that the appropriate level of reserves have been recorded and that
any unrecorded liability would not be material to LNC's future results of
operations, liquidity or financial condition.
The decrease in other liabilities relates to a decrease in the expected
payouts for security investments purchased in the last few days of the third
quarter of 1994 versus a higher volume of such transactions at the end of
1993.
Shareholders' Equity
Total shareholders' equity decreased $750.3 million in the first nine
months of 1994. Excluding the decrease of $908.4 million related to
unrealized gain on securities available-for-sale, shareholders' equity
increased $158.1 million. This increase for the first nine months of 1994 was
the net result of $256.2 million from net income, $22.6 million from the
issuance of Common Stock related to benefit plans, $8.6 million related to an
increase in the accumulated foreign exchange gain and a decrease of $129.3
million related to the declaration of dividends to stockholders.
Liquidity and Cash Flow
In the insurance industry, liquidity generally refers to the ability of
an enterprise to generate adequate amounts of cash from its normal operations,
including activities in its investment portfolio, to meet its financial
commitments. LNC manages its operations, including prudent investment
portfolio structuring, to provide for appropriate liquidity levels. The
portfolio structuring involves segregating LNC's investments by segments,
sub-segments or type of product. The investments selected for each segregated
portfolio are based on LNC's desire to match characteristics (e.g., duration
and yield) of the underlying liabilities.
As indicated by the Consolidated Statements of Cash Flows on page 6,
LNC's business operations generated $852.4 million of cash during the first
nine months of 1994.
Although LNC generates adequate cash flow to meet the needs of its normal
operations, periodically LNC may issue debt or equity securities to fund
internal expansion, acquisitions, investment opportunities and the retirement
of LNC's debt and equity. Such a transaction occurred during February 1993,
when LNC received $316.1 million in proceeds from a public offering of 9.2
million shares of its Common Stock. Also, effective October 1, 1994, LNC
issued $200.0 million of 9 1/8% debt securities payable in 2024. Proceeds
from this issue were used to reduce short-term debt with a weighted average
interest rate of 4.82%.
As indicated in note 7 to the consolidated financial statements for the
year ended December 31, 1993 (see page 49 of LNC's Form 10-K), LNC has entered
into derivative transactions to reduce its exposure to interest rate
fluctuations and the widening of bond yield spreads over comparable maturity
U.S. Government obligations. LNC has two significant programs in place
primarily within its Life Insurance and Annuity segment.
<PAGE> -15-
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL INFORMATION (continued)
REVIEW OF CONSOLIDATED FINANCIAL CONDITION (continued)
First, LNC uses interest rate cap agreements to hedge against the
negative impact of a sustained and significant rise in interest rates.
Interest rate caps are contracts that require counterparties to pay LNC at
specified future dates the amount, if any, by which a specified market
interest rate exceeds the cap rate, applied to a notional principal amount.
As of September 30, 1994, LNC had notional amounts of $4.4 billion with strike
prices ranging from 50 to 343 basis points above prevailing interest rates.
These agreements expire in 1997 - 2003.
Secondly, LNC uses spread-lock agreements to hedge the value of corporate
bonds against the risk of widening in their yield spreads over the yields of
comparable maturity U.S. Government obligations. Under these agreements, LNC
assumes the right and the obligation to enter into an interest rate swap at a
future date in which LNC would pay a fixed rate equal to a contractually
specified spread over the then prevailing U.S. Treasury rate and receive a
floating rate. As of September 30, 1994, LNC had spread-lock agreements with
an aggregate notional amount of $1.6 billion with 1 to 12 months remaining in
the exercise periods. As of September 30, 1994, these contracts had
unrealized gains of $971,000 and unrealized losses of $929,000.
Both of these programs are designed to help ensure LNC's ability to be
able to continue to provide competitive crediting rates to policyholders
during periods when interest rates are rising or corporate bond spreads are
widening. Failure to protect against these two possibilities could result in
policyholders withdrawing their funds for placement in more competitive
products. LNC purchases both types of derivative products from only highly
credit-worthy financial institutions to minimize the possibility of non-
performance.
As indicated earlier, LNC's primary derivative programs are designed to
protect the company against interest rate fluctuations and the widening of
bond yield spreads over comparable maturity U.S. Government obligations. LNC
expects to continue to hedge against interest rate movements, as appropriate.
<PAGE> -16-
PART II - OTHER INFORMATION AND EXHIBITS
Items 1, 3, 4 and 5 of this Part II are either inapplicable or are
answered in the negative and are omitted pursuant to the instructions
to Part II.
Item 6. Exhibits and Reports on Form 8-K
(a) The following Exhibit of the Registrant is included in this report.
(Note: The number preceding the exhibit corresponds to the specific
number within Item 601 of Regulation S-K.)
11 Computation of Per Share Earnings
(b) During the quarter ended September 30, 1994 two Form 8-K's were
filed with the Commission in connection with the Registrant's
proposed $200.0 million 9 1/8% debt offering. The first filing
dated and received on September 22, 1994, contained a pro forma
calculation of the ratio of Earnings to Fixed Charges for the year
ended December 31, 1993 and six months ended June 30, 1994. The
second filing dated September 29, 1994, which received a filing
date of September 30, 1994, contained a copy of the Debenture
(Schedule I) and Underwriting Agreement (Schedule II).
<PAGE> -17-
LINCOLN NATIONAL CORPORATION
Exhibit Index for the Report on Form 10-Q
for the Quarter Ended September 30, 1994
Exhibit Number Description Page Number
11 Computation of Per Share Earnings 19
<PAGE> -18-
SIGNATURE PAGE
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.
Lincoln National Corporation
By /S/ Richard C. Vaughan
Richard C. Vaughan,
Senior Vice President and
Chief Financial Officer
By /S/ Donald L. Van Wyngarden
Donald L. Van Wyngarden
Second Vice President and Controller
Date November 3, 1994
<TABLE>
<CAPTION>
LINCOLN NATIONAL CORPORATION AND SUBSIDIARIES
EXHIBIT (11) - COMPUTATION OF PER SHARE EARNINGS
Nine Months Three Months
Ended September 30 Ended September 30
PRIMARY 1994 1993 1994 1993
<S> <C> <C> <C> <C>
Average shares outstanding
(assuming conversion of
Series A, E and F
Preferred Stock) ------------- 103,840,927 101,950,144 104,021,332 103,205,610
Net effect of dilutive
stock options (based on
the treasury stock method
using average market price) -- 655,761 823,082 556,973 742,802
Total shares
outstanding ----------- 104,496,688 102,773,226 104,578,305 103,948,412
FULLY DILUTED
Average shares outstanding
(assuming conversion of
Series A, E and F
Preferred Stock) ------------- 103,840,927 101,950,144 104,021,332 103,205,610
Net effect of dilutive
stock options (based on
the treasury stock method
using the end of period
market price, if higher than
average market price) -------- 655,761 2,049,802 556,973 1,617,802
Total shares
outstanding ----------- 104,496,688 103,999,946 104,578,305 104,823,412
DOLLAR INFORMATION (000's omitted)
Income before the
cumulative effect of
accounting change ------------ $256,169 $383,735 $ 58,382 $187,509
Cumulative effect of
accounting change ------------ -- (96,431) -- --
Net Income -------------- $256,169 $287,304 $ 58,382 $187,509
PER SHARE INFORMATION
Primary:
Income before the
cumulative effect of
accounting change ---------- $2.45 $3.73 $ .56 $1.80
Cumulative effect of
accounting change ---------- -- (93) -- --
Net Income ---------- $2.45 $2.80 $ .56 $1.80
Fully Diluted:
Income before the
cumulative effect of
accounting change ---------- $2.45 $3.69 $ .56 $1.79
Cumulative effect of
accounting change ---------- -- (.93) -- --
Net Income ------------ $2.45 $2.76 $ .56 $1.79
<FN>
<F1>
Notes: 1. Earnings per share are computed based on the average number of
common shares outstanding during each period after assuming
conversion of the Series A, E and F Preferred Stock.
<F2>
2. LNC does not include the dilutive effect of stock options in the
computation of the earnings per share information appearing on the
consolidated statements of income since it was immaterial.
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 7
<CIK> 0000059558
<NAME> LINCOLN NATIONAL CORPORATION
<S> <C>
<PERIOD-TYPE> QTR-3
<FISCAL-YEAR-END> DEC-31-1994
<PERIOD-START> JAN-01-1994
<PERIOD-END> SEP-30-1994
<DEBT-HELD-FOR-SALE> 0
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 21,451,998,000
<EQUITIES> 1,065,997,000
<MORTGAGE> 2,880,202,000
<REAL-ESTATE> 679,828,000
<TOTAL-INVEST> 26,792,052,000
<CASH> 1,065,623,000
<RECOVER-REINSURE> 2,183,356,000
<DEFERRED-ACQUISITION> 2,394,132,000
<TOTAL-ASSETS> 49,236,770,000
<POLICY-LOSSES> 11,400,239,000
<UNEARNED-PREMIUMS> 818,335,000
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 16,532,562,000
<NOTES-PAYABLE> 789,026,000
<COMMON> 566,347,000
0
311,355,000
<OTHER-SE> 2,444,288,000
<TOTAL-LIABILITY-AND-EQUITY> 49,236,770,000
3,552,826,000
<INVESTMENT-INCOME> 1,499,498,000
<INVESTMENT-GAINS> (53,533,000)
<OTHER-INCOME> 10,585,000
<BENEFITS> 3,553,134,000
<UNDERWRITING-AMORTIZATION> 358,568,000
<UNDERWRITING-OTHER> 883,811,000
<INCOME-PRETAX> 282,578,000
<INCOME-TAX> 26,409,000
<INCOME-CONTINUING> 256,169,000
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 256,169,000
<EPS-PRIMARY> 2.47
<EPS-DILUTED> 2.47
<RESERVE-OPEN> 0
<PROVISION-CURRENT> 0
<PROVISION-PRIOR> 0
<PAYMENTS-CURRENT> 0
<PAYMENTS-PRIOR> 0
<RESERVE-CLOSE> 0
<CUMULATIVE-DEFICIENCY> 0
