SECURITIES AND EXCHANGE COMMISSION
FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 or 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For quarter ended March 31, 1997 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 April 25, 1997 103,214,540
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 periods 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 20
<PAGE> 2
PART I - FINANCIAL INFORMATION
Item 1 Financial Statements
LINCOLN NATIONAL CORPORATION
CONSOLIDATED BALANCE SHEETS
March 31 December 31
(000'S omitted) 1997 1996
ASSETS
Investments:
Securities available-for-sale, at fair value:
Fixed maturity (cost 1997 - $26,843,310;
1996 - $26,830,704) ------------------ $27,278,257 $27,906,440
Equity (cost 1997 - $828,076;
1996 - $797,222) --------------------- 990,084 992,702
Mortgage loans on real estate ------------ 3,252,972 3,272,980
Real estate ------------------------------ 641,919 655,024
Policy loans ----------------------------- 757,595 758,166
Other investments ------------------------ 349,101 459,652
Total Investments ---------------------- 33,269,928 34,044,964
Investment in unconsolidated affiliates ---- 21,117 21,223
Cash and invested cash --------------------- 1,207,036 1,231,724
Property and equipment --------------------- 253,322 257,821
Deferred acquisition costs ----------------- 2,078,017 1,891,949
Premiums and fees receivable --------------- 747,599 650,789
Accrued investment income ------------------ 498,233 483,064
Assets held in separate accounts ----------- 29,673,575 28,809,137
Federal income taxes ----------------------- 41,241 --
Amounts recoverable from reinsurers -------- 2,407,483 2,544,196
Goodwill ----------------------------------- 444,119 449,479
Other intangible assets -------------------- 678,690 708,446
Other assets ------------------------------- 676,254 620,613
Total Assets ----------------------------- $71,996,614 $71,713,405
See notes to consolidated financial statements on page 7.
<PAGE> 3
LINCOLN NATIONAL CORPORATION
CONSOLIDATED BALANCE SHEETS
-CONTINUED-
March 31 December 31
(000's omitted) 1997 1996
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Policy liabilities and accruals:
Future policy benefits, claims
and claim expenses -------------------- $13,161,775 $13,331,098
Unearned premiums ----------------------- 783,472 766,050
Total Policy Liabilities and Accruals - 13,945,247 14,097,148
Contractholder funds ---------------------- 20,943,631 21,176,963
Liabilities related to separate accounts -- 29,673,575 28,809,137
Federal income taxes ---------------------- -- 33,736
Short-term debt --------------------------- 194,320 188,960
Long-term debt ---------------------------- 625,698 626,311
Minority interest - preferred securities
of subsidiary companies ----------------- 315,000 315,000
Minority interest in consolidated
subsidiaries ---------------------------- 222,283 223,628
Other liabilities ------------------------- 1,795,730 1,772,566
Total Liabilities ----------------------- 67,715,484 67,243,449
Shareholders' Equity:
Series A preferred stock
(3/31/97 liquidation value - $2,925) ----- 1,201 1,212
Common stock ------------------------------ 829,061 857,450
Retained earnings ------------------------- 3,210,090 3,129,249
Foreign currency translation adjustment --- 42,022 66,454
Net unrealized gain (loss) on securities
available-for-sale ----------------------- 198,756 415,591
Total Shareholders' Equity -------------- 4,281,130 4,469,956
Total Liabilities and
Shareholders' Equity ------------------- $71,996,614 $71,713,405
See notes to consolidated financial statements on page 7.
<PAGE> 4
LINCOLN NATIONAL CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
Three Months Ended
March 31
(000's omitted) 1997 1996
Revenue:
Insurance premiums --------------------------------- $ 772,098 $ 775,353
Insurance fees ------------------------------------- 177,532 144,203
Investment advisory fees --------------------------- 44,343 44,713
Net investment income ------------------------------ 626,637 560,633
Realized gain on investments ----------------------- 24,258 71,258
Other ---------------------------------------------- 55,904 44,357
Total Revenue ---------------------------------- 1,700,772 1,640,517
Benefits and Expenses:
Benefits and settlement
expenses ----------------------------------------- 1,003,336 974,750
Underwriting, acquisition,
insurance and other expenses --------------------- 488,284 453,384
Interest and debt expense -------------------------- 22,335 18,494
Total Benefits
and Expenses --------------------------------- 1,513,955 1,446,628
Net Income Before Federal
Income Taxes and
Minority Interest ---------------------------- 186,817 193,889
Federal income taxes --------------------------------- 46,432 53,865
Net Income before
Minority Interest ---------------------------- 140,385 140,024
Minority interest in
consolidated subsidiaries -------------------------- 9,043 --
Net Income ------------------------------------- $ 131,342 $ 140,024
Net Income Per Share --------------------------------- $1.27 $1.34
Cash Dividends Per Share
Common Stock --------------------------------------- $ .49 $ .46
See notes to consolidated financial statements on page 7.
<PAGE> 5
LINCOLN NATIONAL CORPORATION
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Three Months Ended March 31
Number of Shares Issued Amounts
(000's omitted from dollar amounts) 1997 1996 1997 1996
Preferred Stock:
(Shares authorized: 10,000,000)
Series A Preferred Stock:
Balance at
beginning-of-year -------- 36,885 40,646 $ 1,212 $ 1,335
Conversion into
common stock ------------- (321) (787) (11) (26)
Balance at March 31 ----- 36,564 39,859 1,201 1,309
Common Stock:
(Shares authorized: 800,000,000)
Balance at beginning-of-year - 103,658,575 104,185,117 857,450 889,476
Conversion of series A
preferred stock ------------ 2,568 6,296 11 26
Issued for benefit plans ----- 123,602 56,338 2,051 1,468
Retirement of common stock --- (578,900) -- (30,451) --
Balance at March 31 ----- 103,205,845 104,247,751 829,061 890,970
Retained Earnings:
Balance at beginning-of-year - 3,129,249 2,775,718
Net income ------------------- 131,342 140,024
Cash dividends declared ------ (50,501) (47,791)
Balance at March 31 ----- 3,210,090 2,867,951
Foreign Currency Translation Adjustment:
Accumulated adjustment at
beginning-of-year ---------- 66,454 13,413
Change during period --------- (24,432) (1,890)
Balance at March 31 ----- 42,022 11,523
Net Unrealized Gain (Loss) on
Securities Available-for-Sale:
Balance at beginning-of-year - 415,591 698,180
Change during period --------- (216,835) (323,887)
Balance at March 31 ----- 198,756 374,293
Total Shareholders' Equity
at March 31 ----------- $4,281,130 $4,146,046
Common Stock (assuming conversion
of series A, preferred stock):
End of Period ----------- 103,498,357 104,566,623
Average for the Period -- 103,505,469 104,532,461
See notes to consolidated financial statements on page 7.
<PAGE> 6
LINCOLN NATIONAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
Three Months Ended
March 31
(000's omitted) 1997 1996
Operating Activities:
Net income ---------------------------------------- $ 131,342 $ 140,024
Adjustments to reconcile net income to net cash
provided by (used for) operating activities:
Deferred acquisition costs -------------------- (20,899) 42,985
Premiums and fees receivable ------------------ (96,810) (82,190)
Accrued investment income --------------------- (15,169) 11,305
Policy liabilities and accruals --------------- (229,660) (205,729)
Contractholder funds -------------------------- 386,228 577,131
Amounts recoverable from reinsurers ----------- 136,713 (24,213)
Federal income taxes -------------------------- 49,807 7,044
Minority interest-consolidated subsidiaries --- 9,043 --
Provisions for depreciation ------------------- 16,076 14,186
Amortization of goodwill and other
intangible assets ---------------------------- 35,147 29,975
Realized (gain) loss on investments ----------- (24,258) (71,258)
Other ----------------------------------------- (83,824) (92,593)
Net Adjustments ----------------------------- 162,394 206,643
Net Cash Provided by Operating Activities --- 293,736 346,667
Investing Activities:
Securities-available-for-sale:
Purchases -------------------------------------- (2,986,403) (3,843,320)
Sales ------------------------------------------ 2,487,911 3,507,420
Maturities ------------------------------------- 481,418 238,238
Purchase of other investments -------------------- (454,874) (577,470)
Sale or maturity of other investments ------------ 572,848 475,069
Increase (decrease) in cash collateral
on loan securities ----------------------------- 84,445 145,910
Other -------------------------------------------- (28,858) (195,149)
Net Cash Used in Investing Activities ------ (156,487) (249,302)
Financing Activities:
Principal payments on long-term debt ------------- (758) (1,561)
Issuance of long-term debt ----------------------- 146 1,152
Net increase (decrease) in short-term debt ------- 5,361 3,378
Universal life and investment contract deposits -- 517,910 290,780
Universal life and investment
contract withdrawals --------------------------- (916,280) (576,720)
Common stock issued for benefit plans ------------ 2,051 1,468
Retirement of common stock ----------------------- (32,710) --
Dividends paid to shareholders ------------------- (50,631) (47,762)
Net Cash Provided by (used by) Financing
Activities -------------------------------- (474,911) (329,265)
Net Increase (Decrease) in Cash------------- (24,688) (231,900)
Cash at Beginning-of-Year -------------------------- 1,231,724 1,572,855
Cash at March 31 --------------------------- $1,207,036 $1,340,955
See notes to consolidated financial statements on page 7.
<PAGE> 7
LINCOLN NATIONAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL 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. These financial statements should be read in
conjunction with the financial statements and the related notes included in
LNC's latest annual report to shareholders for the year ended December 31,
1996.
Operating results for the three months ended March 31, 1997 are not
necessarily indicative of the results that may be expected for the full year
ending December 31, 1997.
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 1997 and 1996 resulted
principally from tax-exempt investment income.
3. Earnings Per Share
Earnings per share is computed based on the average number of common shares
outstanding (103,505,469 and 104,532,461 for the first three months of 1997
and 1996, respectively) after assuming conversion of the series A preferred
stock. Financial Accounting Standard No. 128 entitled "Earnings per Share"
("FAS 128") which was issued in February 1997, is required to be adopted on
December 31, 1997. The impact of FAS 128 on the calculation of earnings per
share for the three months ended March 31, 1997 and 1996 is not material.
<PAGE> 8
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL INFORMATION
The pages to follow review LNC's results of consolidated operations and
financial condition. Historical financial information is presented and
analyzed. Where appropriate, factors that may affect future financial
performance are identified and discussed. Actual results could differ
materially from those indicated in forward-looking statements due to, among
other specific changes currently not known, subsequent significant changes in:
the company (e.g., acquisitions and divestitures), financial markets (e.g.,
interest rates and securities markets), legislation (e.g., taxes and product
taxation), regulations (e.g., insurance and securities regulations), acts of
God (e.g., hurricanes, earthquakes and storms), other insurance risks (e.g.,
policyholder mortality and morbidity) and competition.
On March 26, 1997 LNC announced that its 83% owned subsidiary (American States
Financial Corporation) retained an investment banker to explore a range of
strategic options, including the potential sale of 100% of the company. This
review is still in process so the outcome is unknown. If a decision is made
to adopt a formal plan of disposition, these operations will be designated as
Discontinued Operations for all historical and current periods shown. If a
disposition were to occur, the near term impact would be to reduce LNC's
operating earnings. The amount of the reduction would depend on the timing
and placement of the proceeds from disposition. LNC's options for use of
these proceeds would include but are not limited to: 1) acquisitions of
additional companies or blocks of business (life insurance, annuities,
investment management) or 2) the repurchase of shares of its own common stock.
REVIEW OF CONSOLIDATED OPERATIONS
The discussion that follows focuses on the results for the three months
ended March 31, 1997 compared to the results for the three months ended March
31, 1996.
Insurance Premiums
Total insurance premiums of $772.1 million for the first three months of
1997 were essentially the same as the first three months of 1996. Life and
annuity premiums for the first three months of 1997 increased $8.7 million or
5% compared with the first three months of 1996. This increase is the result
of increases in business volume from the Reinsurance segment. Health premiums
decreased $11.7 million or 6% for the first three months of 1997 compared with
the first three months of 1996 as a result of decreased volumes of business in
the Reinsurance segment. After two years of reporting decreases, property-
casualty earned premiums of $406.8 million for the three months ended March
31, 1997 were essentially the same as the three months ended March 31, 1996.
Insurance Fees
Insurance fees in the Life Insurance and Annuities segment from universal
life, other interest-sensitive life insurance contracts and variable life
insurance contracts increased $33.3 million or 23% compared with the first
three months of 1996. This increase was the result of increases in the volume
of transactions, the fourth quarter 1996 purchase of a block of group tax-
qualified annuity business and a market-driven increase in the value of
existing customer accounts upon which some of the fees are based.
Investment Advisory Fees
Investment advisory fees of $44.3 million for the first three months of
1997 were essentially the same as the first three months of 1996 as a net
result of increased volumes of business being offset by lower participation
fees than were experienced in a strong first quarter of 1996.
Net Investment Income
Net investment income increased $65.9 million or 12% when compared with
the first three months of 1996. This increase is the result of a 8.3%
increase in mean invested assets and an increase in the overall yield on
investments from 7.38% to 7.59% (all calculations on a cost basis). Net
investment income for the first three months of 1997 included a charge of
$400,000 versus a charge of $9.2 million in the first three months of 1996
from the recurring adjustment of discount on mortgage-backed securities. The
increase in mean invested assets is the result of increased volumes of
business in the Life Insurance and Annuities and Reinsurance segments.
<PAGE> 9
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL INFORMATION
(continued)
REVIEW OF CONSOLIDATED OPERATIONS (continued)
Realized Gain on Investments
The first three months of 1997 and 1996 had pre-tax realized gain on
investments of $24.3 million and $71.3 million, respectively. These gains,
which are net of related deferred acquisition costs, amounts needed to satisfy
policyholder commitments and capital gains expenses, were the result of net
gains on sales of investments, less some modest write-downs and provisions for
losses. Securities available-for-sale, mortgage loans on real estate and real
estate holdings that were deemed to have declines in fair value that were
other than temporary were written down. In addition to the write-downs, LNC
established allowances for losses on select mortgage loans on real estate,
real estate investments and other investments where the carrying value was
determined not to be recoverable.
The pre-tax write-down of securities available-for-sale for the first
three months of 1997 and 1996 was $6.8 million and $3.1 million, respectively.
The fixed maturity securities to which these write-downs apply were generally
of investment grade quality at the time of purchase, but were classified as
"below investment grade" at the time of the write-downs. There were no write-
downs or additions to the allowances for losses on real estate and mortgage
loans on real estate for the first three months of 1997 versus a pre-tax
amount of $8.2 million in the first three months of 1996.
Other Revenue
Other revenue increased $11.5 million or 26% as a result of increased
volumes of business in the Reinsurance and Investment Management segments.
Insurance Benefits and Settlement Expenses
Insurance benefits and settlement expenses increased $28.6 million or 3%
when compared with the first three months of 1996. Life and annuity benefits
and settlement expenses increased $62.1 million or 13% when compared with the
first three months of 1996. This increase is the result of increases in
business volume from the Life Insurance and Annuities segment and Reinsurance
segment and an unusually large number of high-dollar claims in the Life
Insurance and Annuity segment. Health benefits decreased $6.7 million or 4%
for the first three months of 1997 when compared with the first three months
of 1996 as a net result of increased volumes of business being more than
offset by improved disability income experience in the Reinsurance segment.
Property-casualty benefits decreased by $26.8 million or 9% when compared with
the first three months of 1996 as a result of a decrease in weather related
claims.
Underwriting, Acquisition, Insurance and Other Expenses
This expense increased $34.9 million or 8% for the first three months of
1997 compared with the first three months of 1996. The primary driver behind
this increase, beyond the general inflation rate, was the higher volume
related expenses and the additional operating expenses associated with the
block of tax-qualified annuity business acquired in the fourth quarter of 1996
in the Life Insurance and Annuities segment. These expenses for the Property-
Casualty segment decreased $3.2 million or 2.5% compared with a year ago as
the impact of realignment of divisional offices and adjusting staff levels to
the current level of business continued.
Interest and Debt Expense
Interest and debt expense increased $3.8 million or 21% as compared with
the first three months of 1996. This was the result of changes in the
composition of debt outstanding and increases in the average debt outstanding.
Federal Income Taxes
Federal income taxes decreased $7.4 million or 14% when compared with the
first three months of 1996. The decrease in federal income taxes is a result
of a decrease in pre-tax earnings and a reduction in the effective tax rate
for LNC's United Kingdom affiliate which resulted from the decision to
indefinitely reinvest their earnings.
<PAGE> 10
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL INFORMATION
(continued)
REVIEW OF CONSOLIDATED OPERATIONS (continued)
Minority Interest in Consolidated Subsidiaries
This line was added to the income statement to record the earnings
applicable to the minority shareholders following the sale of 16.7% of LNC's
principal subsidiary within its Property-Casualty segment in the second
quarter of 1996.
Summary
Net income for the first three months of 1997 was $131.3 million or $1.27
per share compared with $140.0 million or $1.34 per share in the first three
months of 1996. Excluding realized gain on investments, LNC earned $118.5
million for the first three months of 1997 compared with $95.2 million for the
first three months of 1996. This increase was the net result of increases in
earnings in the Life Insurance and Annuities, Reinsurance and Property-
Casualty segments being partially offset by a reduction in earnings from the
Investment Management segment.
REVIEW OF CONSOLIDATED FINANCIAL CONDITION
Investments
The total investment portfolio decreased $775.1 million in the first
three months of 1997. This decrease is the net result of decreases in the
fair value of securities available-for-sale and fixed annuity contractholders
opting to transfer funds to variable annuity contracts being partially offset
by increases from the purchases of investments from cash flow generated by the
business segments.
The quality of LNC's fixed maturity securities portfolio as of March 31,
1997 was as follows:
Treasuries and AAA 30.7% BBB 24.1%
AA 10.1% BB 3.0%
A 28.4% Less than BB 3.7%
As of March 31, 1997, $1.8 billion or 6.7% of fixed maturity securities
was invested in below investment grade securities (less than BBB). This
represents 5.5% of the total investment portfolio. The interest rates
available on these below investment grade securities are significantly higher
than are 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 three months ended March 31, 1997, the
aggregate cost of such investments purchased was $464.7 million. Aggregate
proceeds from such investments sold were $312.7 million, resulting in a net
realized pre-tax gain of $24.9 million.
LNC's entire fixed maturity and equity securities portfolio is classified
as "available-for-sale" and is carried at fair value. Changes in fair value,
net of related deferred acquisition costs, amounts required to satisfy
policyholder commitments and taxes, are charged or credited directly to
shareholders' equity.
As of March 31, 1997, mortgage loans on real estate and real estate
represented 9.8% and 1.9% of LNC's total investment portfolio. As of March
31, 1997, the underlying properties supporting the mortgage loans on real
estate consisted of 21.8% in commercial office buildings, 29.0% in retail
stores, 22.0% in apartments, 14.8% in industrial buildings, 4.6% in
hotels/motels and 7.8% in other. In addition to the dispersion by property
type, the mortgage loan portfolio is geographically diversified throughout the
United States.
<PAGE> 11
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL INFORMATION
(continued)
REVIEW OF CONSOLIDATED FINANCIAL CONDITION (continued)
Impaired loans along with the related allowance for losses are as
follows:
March 31 December 31
(in millions) 1997 1996
Impaired loans with allowance for losses --------- $ 57.0 $ 71.9
Allowance for losses ----------------------------- (11.5) (12.4)
Impaired loans with no allowance for losses ------ 4.8 2.3
Net Impaired Loans ----------------------------- $ 50.3 $ 61.8
Impaired loans with no allowance for losses are a result of 1)direct
write-downs or 2)collateral dependent loans where the fair value of the
collateral is greater than the recorded investment in the loan.
A reconciliation of the mortgage loan allowance for losses for these
impaired mortgage loans is as follows:
Three Months Ended March 31 (in millions) 1997 1996
Balance at beginning of year --------------------- $12.4 $ 29.6
Provisions for losses ---------------------------- (.1) 6.1
Releases due to sales ---------------------------- (.8) (.8)
Releases due to foreclosures --------------------- -- (.4)
Balance at End of Period ----------------------- $11.5 $34.5
The average recorded investment in impaired loans and the interest income
recognized on impaired loans were as follows:
Three Months Ended March 31 (in millions) 1997 1996
Average recorded investment in impaired loans ---- $ 68.0 $160.3
Interest income recognized on impaired loans ----- 1.3 4.2
All interest income on impaired loans was recognized on the cash basis
of income recognition.
As of March 31, 1997 and 1996, LNC had restructured loans of $39.4
million and $62.4 million, respectively. LNC recorded $1.0 million and $1.4
million interest income on these restructured loans for the three months ended
March 31, 1997 and 1996, respectively, as compared to interest income of $1.0
million and $1.7 million that would have been recorded according to their
original terms.
As of March 31, 1997, LNC did not have any future commitments to lend
funds for non-accrual, restructured or other problem loans.
Fixed maturity securities available-for-sale, mortgage loans on real
estate and real estate that were non-income producing for the three months
ended March 31, 1997 were not significant.
Cash and Invested Cash
Cash and invested cash decreased by $24.7 million in the first three
months of 1997. This decrease is the result of investing a portion of the
operating cash flow that had previously been invested in short-term
investments pending the placement of funds in longer term investments.
Deferred Acquisition Costs
Deferred acquisition costs increased $186.1 million during the first
three months of 1997 as the result of increases related to the reduction in
the unrealized gain on securities available-for-sale.
<PAGE> 12
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL INFORMATION
(continued)
REVIEW OF CONSOLIDATED FINANCIAL CONDITION (continued)
Premiums and Fee Receivable
Premiums and fees receivable increased $96.8 million in the first three
months of 1997 as the result of increased volumes of business in the
Reinsurance segment.
Assets Held in Separate Accounts
This asset account as well as the corresponding liability account
increased by $864.5 million in the first three months of 1997, reflecting an
increase in annuity funds under management. A portion of this increase was
related to fixed annuity contractholders opting to transfer funds to variable
annuity contracts.
Goodwill and Other Intangible Assets
The decreases in the amounts during the three months ended March 31, 1997
represent amortization for the period.
Other Assets
The increase in other assets of $55.6 million is the result of having a
higher receivable related to investment securities sold in the last few days
of the first quarter of 1997 versus the end of 1996.
Total Liabilities
Total liabilities increased by $472.0 million in the first three months
of 1997. The primary items underlying this increase include increases of
$864.5 million in the liabilities related to separate accounts being partially
offset by a reduction in contractholder funds. As noted above, the increase
in separate accounts related to increased levels of business in the Life
Insurance and Annuities segment. The slight reduction in contractholder funds
is the net result of new deposits being more than offset by 1) decreases in
account values related to decreases in the fair value of securities available-
for-sale and 2) the withdrawal of guaranteed interest contract funds because
of the decision to exit this business.
Total property-casualty liabilities for unpaid claims and claims expenses
were $2.5 billion at both March 31, 1997 and December 31, 1996. These
liabilities include liabilities for environmental claims of $266 million and
$265 million at March 31, 1997 and December 31, 1996, respectively. Because
of the limited coverages that have been written by LNC, these reserves
represent only 10.8% of LNC's total property-casualty liabilities and only
1.9% of LNC's total policy liabilities. On a claims count basis, these
environmental losses represent only 2.3% of the direct property-casualty
business. These percentages and amounts are at these levels due to LNC's
concentration on 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. LNC's management challenges environmental claims in
cases of questionable liability and reviews the level of environmental
liability on an on-going basis to help insure that the liability maintained is
adequate. Nonetheless, 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. While it is management's judgement that, based on
available information, the appropriate level of liabilities have been
recorded, it is reasonably possible that a change in estimate of the required
liability level could occur in the near term.
<PAGE> 13
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL INFORMATION
(continued)
REVIEW OF CONSOLIDATED FINANCIAL CONDITION (continued)
The liability for disability income claims net of the related assets for
amounts recoverable from reinsurers was $1.6 billion at both March 31, 1997
and December 31, 1996. LNC reviews and updates the level of these reserves on
an on-going basis. These reserves were established on the assumption that
recent experience will continue in the future. If incidence levels or claim
termination rates vary significantly from these assumptions, further
adjustments to reserves may be required in the future.
The liabilities for guaranteed interest and group pension annuity
contracts, which are no longer being sold, are supported by a single portfolio
of assets which attempts to match the duration of these liabilities. Due to
the very long-term nature of group pension annuities and the resulting
inability to exactly match cash flows, a risk exists that future cash flows
from investments will not be reinvested at rates as high as currently earned
by the portfolio. This situation could cause losses in excess of amounts
provided to be recognized at some future time.
Shareholders' Equity
Total shareholders' equity decreased $188.8 million in the first three
months of 1997. Excluding the decrease of $216.8 million related to a decline
in the unrealized gains on securities available-for-sale, shareholders' equity
increased $28.0 million. This increase was the net result of $131.3 million
from net income and $2.1 million from the issuance of common stock related to
benefit plans, being more than offset by the repurchase of common shares
($30.5 million), a decrease in the accumulated foreign exchange gain ($24.4
million) and the declaration of dividends to shareholders ($50.5 million).
Derivatives
As discussed in note 7 to the consolidated financial statements for the
year ended December 31, 1996 (see page 59 of LNC's Form 10-K), LNC has entered
into derivative transactions to reduce its exposure to fluctuations in
interest rates, the widening of bond yield spreads over comparable maturity
U.S. Government obligations and foreign exchange risks (hedged transactions).
Changes in the value of these derivatives are generally offset by changes in
the value of the items being hedged. Modifications to LNC's derivative
strategy are initiated periodically upon review of the company's overall risk
assessments. During the first three months of 1997, LNC has made
modifications in its derivative positions as follows:
1. Added $360 million in notional amount of swaptions to hedge a portfolio
of interest rate sensitive assets.
2. Entered into spread-lock agreements with notional amount of $50 million
which hedge against widening corporate bond spreads.
3. Terminated the remaining $147.7 million face amount of long financial
futures contracts that were hedging the anticipated purchase of a
portfolio of assets to support the group tax-qualified annuity business
acquired in October of 1996. The termination of these futures contracts
resulted in total losses of $1.8 million, of which, $1.7 million were
recognized and $0.1 million were deferred.
4. Increased its use of foreign exchange forward contracts from $251.6
million notional to $349.1 million notional that are hedging the foreign
currency risk of its portfolio of foreign bonds.
5. Terminated the $50.2 million notional amount of foreign currency options
that were outstanding at year end. Net gains of $0.2 million were
recognized.
LNC generally limits its selection of counterparties that are obligated under
these derivative contacts to counterparties that have an A credit rating or
above.
<PAGE> 14
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL INFORMATION
(continued)
REVIEW OF CONSOLIDATED FINANCIAL CONDITION (continued)
Liquidity and Cash Flow
Liquidity refers to the ability of an enterprise to generate adequate
amounts of cash from its normal operations to meet cash requirements with a
prudent margin of safety. Because of the interval of time from receipt of a
deposit or premium until payment of benefits or claims, LNC and other insurers
employ investment portfolios as an integral element of operations. By
segmenting its investment portfolios along product lines, LNC enhances the
focus and discipline it can apply to managing the liquidity as well as the
interest rate and credit risk of each portfolio commensurate with the profile
of the liabilities. For example, portfolios backing products with less
certain cash flows and/or withdrawal provisions are kept more liquid than
portfolios backing products with more predictable cash flows.
The consolidated statements of cash flows on page 6, indicates that
operating activities provided cash of $293.7 million during the first three
months of 1997. This statement also classifies the other sources and uses of
cash by investing activities and financing activities and discloses the total
amount of cash available to meet LNC's obligations.
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. As of March 31, 1997 LNC has a shelf registration
with an unused balance of $600 million that would allow LNC to issue debt or
equity securities. As of March 31, 1997 LNC also had an unused balance of
$185 million related to a registration that included the right to offer
various forms of hybrid securities. Finally, cash funds are available from
LNC's revolving credit agreement which provides for borrowing up to $750
million.
Transactions such as those described in the preceding paragraph that
occurred recently include LNC's purchase and retirement of 578,900 and 694,582
shares of common stock at a cost of $30.5 and $35.0 million in the first
quarter of 1997 and fourth quarter of 1996, respectively. Also, LNC issued
$215 million, 8.75% Quarterly Income Preferred Securities ("QUIPS") in July of
1996 and $100 million, 8.35% Trust Originated Preferred Securities ("TOPrS")
in August of 1996. Both issues mature in 2026 (callable in 2001). These
securities are shown on the accompanying balance sheet under a caption
entitled "Minority Interest-Preferred Securities of Subsidiary Companies."
The proceeds from these transactions were used to pay down short-term debt.
<PAGE> 15
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL INFORMATION
(continued)
REVIEW OF CONSOLIDATED FINANCIAL CONDITION (continued)
PART II - OTHER INFORMATION AND EXHIBITS
Items 1, 2, 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 Exhibits of the Registrant are 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
12 Historical Ratio of Earnings to Fixed Charges
27 Financial Data Schedule
(b) During the quarter ended March 31, 1997, a Form 8-K was filed with
the Commission regarding LNC's press release announcing its
acknowledgment of the fact that an investment banker had been engaged
by its subsidiary, American States Financial Corporation, to explore
strategic options including a sale of American States. This filing
received a filing date of March 27, 1997.
<PAGE> 16
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,
Executive Vice President and
Chief Financial Officer
/S/ Donald L. Van Wyngarden
Donald L. Van Wyngarden,
Second Vice President and Controller
Date April 30, 1997
<PAGE> 17
LINCOLN NATIONAL CORPORATION
Exhibit Index for the Report on Form 10-Q
for the Quarter Ended March 31, 1997
Exhibit Number Description Page Number
11 Computation of Per Share Earnings 18
12 Historical Ratio of Earnings to
Fixed Charges 19
27 Financial Data Schedule 20
LINCOLN NATIONAL CORPORATION AND SUBSIDIARIES
EXHIBIT (11) - COMPUTATION OF PER SHARE EARNINGS
Three Months
Ended March 31
1997 1996
PRIMARY
Average shares outstanding
(assuming conversion of
series A preferred stock) ----------------------- 103,505,469 104,532,461
Net effect of dilutive
stock options (based on
the treasury stock method
using average market price) --------------------- 1,046 217 1,030,442
Total shares
outstanding ------------------------------ 104,551,686 105,562,903
FULLY DILUTED
Average shares outstanding
(assuming conversion of
series A preferred stock) ----------------------- 103,505,469 104,532,461
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) --------------------------- 1,046,217 1,030,442
Total shares
outstanding ------------------------------ 104,551,686 105,562,903
DOLLAR INFORMATION (000's omitted)
Net Income --------------------------------- $131,342 $140,024
PER SHARE INFORMATION
Primary:
Net Income -------------------------------- $1.26 $1.33
Fully Diluted:
Net Income -------------------------------- $1.26 $1.33
Notes: 1. Earnings per share is computed based on the average number of
common shares outstanding during each period after assuming
conversion of the series A preferred stock.
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 is immaterial.
LINCOLN NATIONAL CORPORATION AND SUBSIDIARIES
EXHIBIT 12 - HISTORICAL RATIO OF EARNINGS TO FIXED CHARGES
Three Months
Ended
March 31 Year Ended December 31,
(millions of dollars) 1997 1996 1996 1995 1994 1993 1992
Net Income before Federal
Income Taxes, Minority
Interest and Accounting
Change --------------------- 186.8 193.9 712.3 626.6 376.3 587.8 424.7
Equity Loss (Earnings) in
Unconsolidated Affiliates -- -- -- (1.4) (12.4) (14.6) -- .2
Sub-total of Fixed Charges -- 28.3 23.5 108.6 94.4 66.6 62.9 74.6
Sub-total of Adjusted
Net Income -------------- 215.1 217.4 819.5 708.6 428.3 650.7 499.5
Interest on Annuities &
Financial Products --------- 384.3 341.8 1435.6 1400.0 1359.0 1315.8 1261.7
Adjusted Income Base ---- 599.4 559.2 2255.1 2108.6 1787.3 1966.5 1761.2
Rent Expense ---------------- 18.0 15.0 71.6 65.7 51.3 55.8 62.4
Fixed Charges:
Interest and Debt Expense --- 22.3 18.5 84.7 72.5 49.5 44.3 53.8
Rent (Pro-rated) ------------ 6.0 5.0 23.9 21.9 17.1 18.6 20.8
Sub-total of Fixed Charges 28.3 23.5 108.6 94.4 66.6 62.9 74.6
Interest on Annuities &
Financial Products --------- 384.3 341.8 1435.6 1400.0 1359.0 1315.8 1261.7
Sub-total of Fixed Charges 412.6 365.3 1544.2 1494.4 1425.6 1378.7 1336.3
Preferred Dividends (Pre-tax) -- -- .1 8.7 24.2 24.2 20.3
Total Fixed Charges ------ 412.6 365.3 1544.3 1503.1 1449.8 1402.9 1356.6
Ratio of Earnings to Fixed Charges:
Excluding Interest on
Annuities and Financial
Products (1) -------------- 7.60 9.25 7.55 7.51 6.43 10.35 6.70
Including Interest on
Annuities and Financial
Products (2) -------------- 1.45 1.53 1.46 1.41 1.25 1.43 1.32
Ratio of Earnings to
Combined Fixed Charges
and Preferred Stock
Dividends (3) ------------- 1.45 1.53 1.46 1.40 1.23 1.40 1.30
(1) For purposes of determining this ratio, earnings consist of income before
federal income taxes, minority interest and cumulative effect of
accounting change adjusted for the difference between income or losses
from unconsolidated equity investments and cash distributions from such
investments, plus fixed charges. Fixed charges consist of 1) interest
and debt expense on short and long-term debt and distributions to
minority interest-preferred securities of subsidiary companies and 2) the
portion of operating leases that are representative of the interest
factor.
(2) Same as the ratio of earnings to fixed charges, excluding interest on
annuities and financial products, except fixed charges and earnings
include interest on annuities and financial products.
(3) Same as the ratio of earnings to fixed charges, including interest on
annuities and financial products, except that fixed charges include the
pre-tax earnings required to cover preferred stock dividend requirements.
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