================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________
Commission File Number 1-9250
Conseco, Inc.
Indiana No. 35-1468632
- ---------------------- -------------------------------
State of Incorporation IRS Employer Identification No.
11825 N. Pennsylvania Street
Carmel, Indiana 46032 (317) 817-6100
- -------------------------------------- --------------
Address of principal executive offices Telephone
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 [ ]
Shares of common stock outstanding as of October 30, 1998: 314,446,287
================================================================================
<PAGE>
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
<TABLE>
<CAPTION>
CONSECO, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
(Dollars in millions)
ASSETS
September 30, December 31,
1998 1997
---- ----
(unaudited)
<S> <C> <C>
Investments:
Actively managed fixed maturities at fair value (amortized cost:
1998 - $22,046.4; 1997 - $22,289.3)...................................................... $22,441.5 $22,773.7
Interest-only securities at fair value (amortized cost: 1998 - $1,111.9; 1997 - $1,330.6).. 1,103.8 1,365.8
Equity securities at fair value (cost: 1998 - $353.5; 1997 - $227.6)....................... 335.5 228.9
Mortgage loans............................................................................. 442.2 516.2
Credit-tenant loans........................................................................ 672.0 558.6
Policy loans............................................................................... 688.2 692.4
Other invested assets ..................................................................... 1,057.8 530.7
Short-term investments..................................................................... 1,029.9 1,179.1
Assets held in separate accounts........................................................... 704.6 682.8
--------- ---------
Total investments...................................................................... 28,475.5 28,528.2
Accrued investment income..................................................................... 415.2 379.3
Finance receivables........................................................................... 3,302.8 1,971.0
Servicing rights.............................................................................. 109.5 77.0
Cost of policies purchased.................................................................... 2,399.8 2,466.4
Cost of policies produced..................................................................... 1,295.8 915.2
Reinsurance receivables....................................................................... 736.2 795.8
Goodwill (net of accumulated amortization: 1998 - $252.7; 1997 - $170.9)...................... 3,988.4 3,693.4
Property and equipment (net of accumulated depreciation: 1998 - $195.1; 1997 - $153.9)........ 329.8 284.0
Cash held in segregated accounts for investors................................................ 723.8 552.8
Cash deposits, restricted under pooling and servicing agreements.............................. 250.9 247.2
Other assets.................................................................................. 600.6 772.4
--------- ---------
Total assets........................................................................... $42,628.3 $40,682.7
========= =========
</TABLE>
(continued on next page)
The accompanying notes are an integral part of the
consolidated financial statements.
2
<PAGE>
<TABLE>
<CAPTION>
CONSECO, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET, continued
(Dollars in millions)
LIABILITIES AND SHAREHOLDERS' EQUITY
September 30, December 31,
1998 1997
---- ----
(unaudited)
<S> <C> <C>
Liabilities:
Liabilities for insurance and deposit products:
Interest-sensitive products.............................................................. $17,126.2 $17,357.6
Traditional products..................................................................... 6,441.5 5,784.8
Claims payable and other policyholder funds.............................................. 1,576.0 1,615.5
Unearned premiums........................................................................ 414.1 406.1
Liabilities related to separate accounts................................................. 704.6 682.8
Liabilities related to deposit products.................................................. 482.4 -
Investor payables.......................................................................... 723.8 552.8
Other liabilities.......................................................................... 2,019.0 1,544.4
Income tax liabilities..................................................................... 225.5 532.8
Investment borrowings...................................................................... 817.4 1,389.5
Notes payable and commercial paper:
Corporate................................................................................ 3,091.3 2,354.9
Finance.................................................................................. 1,951.8 1,863.0
--------- ---------
Total liabilities.................................................................... 35,573.6 34,084.2
--------- ---------
Minority interest:
Company-obligated mandatorily redeemable preferred securities
of subsidiary trusts..................................................................... 1,872.9 1,383.9
Common stock of subsidiary................................................................. .7 .7
Shareholders' equity:
Preferred stock............................................................................ 105.6 115.8
Common stock and additional paid-in capital (no par value, 1,000,000,000 shares
authorized, shares issued and outstanding: 1998 - 313,008,983; 1997 - 310,011,669)....... 2,681.0 2,619.8
Accumulated other comprehensive income:
Unrealized appreciation of fixed maturity securities (net of applicable deferred income
taxes: 1998 - $93.1; 1997 - $95.5).................................................... 172.4 177.2
Unrealized appreciation (depreciation) of other investments (net of applicable deferred
income taxes: 1998 - $(9.3); 1997 - $16.0)............................................ (16.6) 26.6
Minimum pension liability adjustment (net of applicable deferred income taxes:
1998 - ($1.9); 1997 - ( $1.9))......................................................... (3.2) (3.2)
Retained earnings.......................................................................... 2,241.9 2,277.7
--------- ---------
Total shareholders' equity........................................................... 5,181.1 5,213.9
--------- ---------
Total liabilities and shareholders' equity........................................... $42,628.3 $40,682.7
========= =========
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
3
<PAGE>
<TABLE>
<CAPTION>
CONSECO, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF OPERATIONS
(Dollars in millions)
(unaudited)
Three months ended Nine months ended
September 30, September 30,
------------------ ------------------
1998 1997 1998 1997
---- ----
<S> <C> <C> <C> <C>
Revenues:
Insurance policy income:
Traditional products.................................................. $ 845.0 $ 778.8 $2,559.7 $2,121.4
Interest sensitive products........................................... 144.1 107.0 409.3 319.5
Net investment income:
Assets held by insurance subsidiaries................................. 469.1 460.6 1,556.6 1,314.7
Finance receivables and other......................................... 59.2 54.6 175.8 141.4
Interest-only securities.............................................. 34.2 32.7 103.8 88.9
Gain on sale of finance receivables..................................... 257.9 211.6 543.8 568.7
Net investment gains.................................................... 24.7 116.4 141.8 137.3
Fee revenue and other income............................................ 87.5 68.4 255.0 180.2
-------- -------- -------- --------
Total revenues...................................................... 1,921.7 1,830.1 5,745.8 4,872.1
-------- -------- -------- --------
Benefits and expenses:
Insurance policy benefits............................................... 694.1 618.4 2,055.9 1,686.9
Amounts added to annuity and financial product policyholder
account balances:
Interest............................................................ 183.3 180.3 553.9 524.6
Other amounts added to (deducted from) variable and equity-indexed
annuity products.................................................. (25.1) 28.5 83.5 64.0
Interest expense:
Corporate............................................................. 45.3 24.7 120.6 76.0
Finance and investment borrowings..................................... 72.2 54.6 212.2 129.1
Amortization............................................................ 164.2 136.1 515.4 381.2
Other operating costs and expenses...................................... 313.5 259.9 923.2 726.2
Nonrecurring charges.................................................... - 62.4 688.0 71.7
-------- -------- -------- --------
Total benefits and expenses......................................... 1,447.5 1,364.9 5,152.7 3,659.7
-------- -------- -------- --------
Income before income taxes, minority interest and
extraordinary charge ............................................. 474.2 465.2 593.1 1,212.4
Income tax expense......................................................... 169.2 179.2 287.1 456.0
-------- -------- -------- --------
Income before minority interest and extraordinary charge ........... 305.0 286.0 306.0 756.4
Minority interest:
Distributions on Company-obligated mandatorily redeemable preferred
securities of subsidiary trusts....................................... 22.2 13.0 60.4 34.6
Dividends on preferred stock of subsidiaries............................ - .8 - 3.3
-------- -------- -------- --------
Income before extraordinary charge ................................. 282.8 272.2 245.6 718.5
Extraordinary charge on extinguishment of debt, net of taxes............... 12.3 .7 42.6 6.2
-------- -------- -------- --------
Net income.......................................................... 270.5 271.5 203.0 712.3
Less amounts applicable to preferred stock:
Charge related to induced conversions................................... - - - 13.2
Preferred stock dividends............................................... 1.8 2.2 6.0 6.7
-------- -------- -------- --------
Net income applicable to common stock............................... $ 268.7 $ 269.3 $ 197.0 $ 692.4
======== ======== ======== ========
</TABLE>
(continued on next page)
The accompanying notes are an integral part of the
consolidated financial statements.
4
<PAGE>
<TABLE>
<CAPTION>
CONSECO, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF OPERATIONS, continued
(Dollars in millions, except per share data)
(unaudited)
Three months ended Nine months ended
September 30, September 30,
----------------------- ----------------------
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Earnings per common share:
Basic:
Weighted average shares outstanding.................... 312,658,000 312,526,000 310,651,000 310,477,000
Net income before extraordinary charge................. $.90 $.86 $.77 $2.25
Extraordinary charge................................... .04 - .14 .02
---- ---- ---- -----
Net income........................................... $.86 $.86 $.63 $2.23
==== ==== ==== =====
Diluted:
Weighted average shares outstanding.................... 332,256,000 339,698,000 327,119,000 338,597,000
Net income before extraordinary charge................. $.85 $.80 $.73 $2.08
Extraordinary charge................................... .04 - .13 .02
---- ---- ---- -----
Net income........................................... $.81 $.80 $.60 $2.06
==== ==== ==== =====
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
5
<PAGE>
<TABLE>
<CAPTION>
CONSECO, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
(Dollars in millions)
(unaudited)
Common stock Accumulated other
Preferred and additional comprehensive Retained
Total stock paid-in capital income earnings
----- ----- --------------- ------ --------
<S> <C> <C> <C> <C> <C>
Balance, January 1, 1998...............................$5,213.9 $115.8 $2,619.8 $200.6 $2,277.7
Comprehensive income, net of tax:
Net income........................................ 203.0 - - - 203.0
Change in unrealized appreciation (depreciation)
of actively managed fixed maturity investments
(net of applicable income tax benefit of $(2.4)) (4.8) - - (4.8) -
Change in unrealized appreciation (depreciation)
of other investments (net of applicable income
tax benefit of $(25.3))......................... (43.2) - - (43.2) -
--------
Total comprehensive income.................... 155.0
Issuance of shares for stock options and for agent
and employee benefit plans........................ 125.6 - 125.6 - -
Tax benefit related to issuance of shares under
stock option plans................................ 42.8 - 42.8 - -
Conversion of convertible debentures into
common shares..................................... 27.6 - 27.6 - -
Conversion of preferred stock into common shares.... - (10.2) 10.2 - -
Issuance of warrants in conjunction with
financing transaction............................. 7.7 - 7.7 - -
Cost of shares acquired............................. (271.2) - (152.7) - (118.5)
Dividends on common stock........................... (114.3) - - - (114.3)
Dividends on preferred stock........................ (6.0) - - - (6.0)
-------- ------ -------- ------ --------
Balance, September 30, 1998............................$5,181.1 $105.6 $2,681.0 $152.6 $2,241.9
======== ====== ======== ====== ========
Balance, January 1, 1997...............................$4,216.8 $267.1 $2,350.7 $ 36.6 $1,562.4
Comprehensive income, net of tax:
Net income........................................ 712.3 - - - 712.3
Change in unrealized appreciation (depreciation)
of actively managed fixed maturity investments
(net of applicable income tax expense of $57.8). 107.4 - - 107.4 -
Change in unrealized appreciation (depreciation)
of other investments (net of applicable income
tax benefit of $(63.1))......................... (102.6) - - (102.6) -
---------
Total comprehensive income.................... 717.1
Issuance of shares for stock options and for agent
and employee benefit plans........................ 234.8 - 234.8 - -
Tax benefit related to issuance of shares under
stock option plans................................ 86.8 - 86.8 - -
Issuance of shares in merger transactions........... 458.2 - 458.2 - -
Conversion of preferred stock into common shares.... - (145.1) 145.1 - -
Conversion of convertible debentures into
common shares..................................... 154.4 - 154.4 - -
Cost of shares acquired............................. (722.3) - (696.2) - (26.1)
Dividends on common stock........................... (69.8) - - - (69.8)
Amounts applicable to preferred stock:
Charge related to induced conversion of
convertible preferred stock..................... (13.2) - - - (13.2)
Dividends on preferred stock...................... (6.7) - - - (6.7)
Other .............................................. (7.5) - (7.5) - -
-------- ------ -------- ------ --------
Balance, September 30, 1997............................$5,048.6 $122.0 $2,726.3 $ 41.4 $2,158.9
======== ====== ======== ====== ========
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
6
<PAGE>
<TABLE>
<CAPTION>
CONSECO, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
(Dollars in millions)
(unaudited)
Nine months ended
September 30,
----------------------
1998 1997
---- ----
<S> <C> <C>
Cash flows from operating activities:
Net income............................................................................... $ 203.0 $ 712.3
Adjustments to reconcile net income to net cash provided by operating activities:
Gain on sale of finance receivables.................................................... (543.8) (568.7)
Points and origination fees received upon sale of finance receivables.................. 199.9 119.4
Interest-only securities investment income............................................. (103.8) (88.9)
Cash received from interest-only securities............................................ 250.4 224.4
Servicing income....................................................................... (102.6) (83.2)
Cash received from servicing activities................................................ 118.0 93.6
Net increase in restricted cash deposits............................................... (3.7) (24.8)
Amortization and depreciation.......................................................... 562.3 418.1
Income taxes........................................................................... (104.0) 254.4
Insurance liabilities.................................................................. (109.9) (100.4)
Income added to annuity and financial product policyholder account balances............ 637.4 588.6
Fees charged to insurance liabilities.................................................. (393.2) (318.2)
Accrual and amortization of investment income.......................................... (66.4) (37.4)
Deferral of cost of policies produced.................................................. (604.8) (442.7)
Nonrecurring charges................................................................... 669.5 71.7
Minority interest...................................................................... 92.2 53.2
Extraordinary charge on extinguishment of debt......................................... 66.4 9.5
Net investment gains................................................................... (141.8) (137.3)
Other.................................................................................. (42.2) 16.3
---------- ----------
Net cash provided by operating activities............................................ 582.9 759.9
---------- ----------
Cash flows from investing activities:
Sales of investments..................................................................... 22,367.1 11,446.8
Maturities and redemptions of investments................................................ 1,077.0 450.2
Purchases of investments................................................................. (23,360.1) (12,673.0)
Cash received from the sale of finance receivables, net of expenses...................... 9,481.4 7,317.5
Principal payments received on finance receivables....................................... 4,361.8 2,765.4
Finance receivables originated........................................................... (15,174.2) (11,018.5)
Purchase of mandatorily redeemable preferred stock of subsidiary......................... - (98.4)
Acquisition of subsidiaries, net of cash held at date of merger.......................... - (466.6)
Other.................................................................................... (94.9) (51.5)
---------- ----------
Net cash used by investing activities ............................................... (1,341.9) (2,328.1)
---------- ----------
Cash flows from financing activities:
Issuance of Company-obligated mandatorily redeemable preferred securities of subsidiary
trusts................................................................................. 488.0 296.7
Issuance of shares related to stock options and employee benefit plans ................. 108.8 49.9
Issuance of notes payable and commercial paper:
Corporate.............................................................................. 4,393.5 2,351.3
Finance................................................................................ 8,413.2 7,622.6
Payments on notes payable and commercial paper:
Corporate.............................................................................. (2,883.9) (1,554.8)
Finance................................................................................ (9,142.8) (6,540.1)
Payments to repurchase equity securities................................................. (236.0) (602.5)
Investment borrowings.................................................................... (572.1) 925.5
Amounts received for investments in deposit products..................................... 2,225.1 1,426.7
Withdrawals from deposit products........................................................ (2,001.9) (1,629.2)
Charge related to induced conversion of convertible preferred stock...................... - (13.2)
Distributions on Company-obligated mandatorily redeemable preferred securities of
subsidiary trusts...................................................................... (81.1) (32.1)
Dividends paid .......................................................................... (101.0) (77.4)
---------- ----------
Net cash provided by financing activities............................................ 609.8 2,223.4
---------- ----------
Net increase (decrease) in short-term investments.................................... (149.2) 655.2
Short-term investments, beginning of period................................................. 1,179.1 377.4
---------- ----------
Short-term investments, end of period....................................................... $ 1,029.9 $ 1,032.6
========== ==========
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
7
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
The following notes should be read together with the notes to the
supplemental consolidated financial statements and the supplemental management's
discussion and analysis of financial condition and results of operations as of
December 31, 1997 and 1996 and for each of the three years ended December 31,
1997, that are included in Exhibit 99.1 to the Current Report on Form 8-K dated
June 30, 1998, as amended, of Conseco, Inc. ("We", "Conseco" or the "Company").
In these documents, we give retroactive effect to our acquisition (the "Green
Tree Merger") of Green Tree Financial Corporation ("Green Tree") which we
accounted for as a pooling of interests, as further described below.
BASIS OF PRESENTATION
Our unaudited consolidated financial statements reflect all adjustments,
consisting only of normal recurring items, that are necessary to present fairly
Conseco's financial position and results of operations on a basis consistent
with that of our prior audited supplemental consolidated financial statements.
As permitted by rules and regulations of the Securities and Exchange Commission
applicable to quarterly reports on Form 10-Q, we have condensed or omitted
certain information and disclosures normally included in financial statements
prepared in accordance with generally accepted accounting principles ("GAAP").
Results for interim periods are not necessarily indicative of the results that
may be expected for a full year. We have also reclassified certain amounts from
the prior periods to conform to the 1998 presentation.
Conseco is a financial services holding company. Our life insurance
subsidiaries develop, market and administer supplemental health insurance,
annuity, individual life insurance, individual and group major medical insurance
and other insurance products. Our finance subsidiaries originate, purchase, sell
and service consumer and commercial finance loans throughout the United States.
Conseco's operating strategy is to grow its business by focusing its resources
on the development and expansion of profitable products and strong distribution
channels. Conseco has supplemented such growth by acquiring companies that have
profitable niche products and strong distribution systems. Once a company is
acquired, our operating strategy has been to consolidate and streamline its
management and administrative functions where appropriate, to seek to achieve
superior investment returns through active asset management, to eliminate
unprofitable products and distribution channels and to expand and develop its
profitable products and distribution channels.
When we prepare financial statements in conformity with GAAP, we are
required to make estimates and assumptions that significantly affect various
reported amounts of assets and liabilities and the disclosure of contingent
assets and liabilities at the date of the financial statements and revenues and
expenses during the reporting periods. For example, we use significant estimates
and assumptions in calculating values for the cost of policies produced, the
cost of policies purchased, interest-only securities, servicing rights,
goodwill, liabilities for insurance and deposit products, liabilities related to
litigation, guaranty fund assessment accruals, gain on sale of finance
receivables and deferred income taxes. If our future experience differs
materially from these estimates and assumptions, our financial statements could
be affected.
Consolidation issues. Our consolidated financial statements give
retroactive effect to the merger with Green Tree in a transaction accounted for
as a pooling of interests (see "Green Tree Merger"). The pooling of interests
method of accounting required us to restate all periods presented as if Conseco
and Green Tree had always been combined. The consolidated statement of
shareholders' equity therefore reflects the accounts of the Company as if
additional shares of Conseco common stock had been issued during all periods
presented. In addition, intercompany transactions prior to the Green Tree Merger
have been eliminated, and certain reclassifications were made to Green Tree's
financial statements to conform to Conseco's presentation. No material
adjustments were recorded to conform Green Tree's accounting policies.
Our financial statements exclude the results of material transactions
between us and our consolidated affiliates, or among our consolidated
affiliates.
ADJUSTMENT TO ACTIVELY MANAGED FIXED MATURITY SECURITIES
We classify our fixed maturity securities into three categories: (i)
"actively managed" (which we carry at estimated fair value); (ii) "trading"
(which we carry at estimated fair value); and (iii)"held to maturity" (which we
carry at amortized cost). We held $34.3 million of trading securities at
September 30, 1998, which are included in other invested assets. We held no
fixed maturity securities in the held to maturity category at September 30,
1998.
8
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
Adjustments to carry actively managed fixed maturity securities at fair
value have no effect on our earnings. We record them, net of tax and other
adjustments, to shareholders' equity. The following table summarizes the effect
of these adjustments:
<TABLE>
<CAPTION>
September 30, 1998 December 31, 1997
----------------------------------- ------------------------------------
Effect of Effect of
fair value Carrying fair value Carrying
Cost basis adjustments value Cost basis adjustments value
---------- ----------- ----- ---------- ----------- -----
(Dollars in millions)
<S> <C> <C> <C> <C> <C> <C>
Actively managed fixed maturity
securities................................ $22,046.4 $395.1 $22,441.5 $22,289.3 $ 484.4 $22,773.7
Other balance sheet items:
Cost of policies purchased................ 2,498.1 (98.3) 2,399.8 2,639.0 (172.6) 2,466.4
Cost of policies produced................. 1,326.6 (30.8) 1,295.8 949.9 (34.7) 915.2
Other liability........................... - (.5) (.5) - (4.4) (4.4)
Income tax liabilities.................... (132.4) (93.1) (225.5) (437.3) (95.5) (532.8)
------ -------
Unrealized appreciation of fixed maturity
securities, net........................... $172.4 $177.2
====== ======
</TABLE>
GREEN TREE MERGER
On June 30, 1998, we completed the Green Tree Merger. We exchanged each
outstanding share of Green Tree common stock for .9165 of a share of Conseco
common stock, issuing a total of 128.7 million shares of Conseco common stock
(including 5.0 million common equivalent shares issued in exchange for Green
Tree's outstanding options). The Green Tree Merger constituted a tax-free
exchange and was accounted for under the pooling of interests method. We
restated all prior-period consolidated financial statements to include Green
Tree as though it had always been a subsidiary of Conseco. As a result of the
Green Tree Merger, we recorded merger-related costs of $148 million, net of
income taxes, in the second quarter of 1998. These costs (classified as
nonrecurring charges) include investment banking, accounting, legal and
regulatory fees and other costs associated with the Green Tree Merger.
The results of operations for Conseco and Green Tree, separately and
combined, for periods prior to the merger were as follows:
<TABLE>
<CAPTION>
Six months ended Three months ended Nine months ended
June 30, 1998 September 30, 1997 September 30, 1997
----------------- ------------------ ------------------
(Dollars in millions)
<S> <C> <C> <C>
Revenues:
Conseco....................................... $3,232.1 $1,483.5 $3,943.0
Green Tree.................................... 592.8 348.3 932.6
Less elimination of intercompany revenues..... (.8) (1.7) (3.5)
-------- -------- --------
Combined.................................... $3,824.1 $1,830.1 $4,872.1
======== ======== ========
Net income (loss):
Conseco....................................... $ 274.7 (1) $ 153.8 $ 395.9
Green Tree.................................... (339.4)(2) 118.8 318.7
Less elimination of intercompany net income... (2.8) (1.1) (2.3)
-------- -------- --------
Combined.................................... $ (67.5) $ 271.5 $ 712.3
======== ======== ========
<FN>
- --------------------
(1) Includes nonrecurring charges of $40.0 million (net of income taxes)
related to the Green Tree Merger including investment banking,
accounting, legal and regulatory fees and other costs.
(2) Includes nonrecurring charges, which were comprised of: (i) $108.0
million (net of income taxes) of costs related to the Green Tree Merger
(including investment banking, accounting, legal and regulatory fees);
and (ii) $350.0 million (net of income taxes) to reduce the carrying
value of the interest-only securities and servicing rights.
</FN>
</TABLE>
9
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
Conseco contributed $1.1 billion of additional capital to Green Tree during
the second and third quarters of 1998. In addition, Conseco has advanced the
finance segment $809.7 million borrowed under its Credit Facility, as described
under "Changes in Finance Notes Payable and Commercial Paper." Such amounts were
used to increase Green Tree's working capital and repay debt.
The financial positions for Conseco and Green Tree, separately and
combined, at the date of the merger (June 30, 1998), were as follows:
<TABLE>
<CAPTION>
Intercompany
Conseco Green Tree eliminations Consolidated
------- ---------- ------------ ------------
(Dollars in millions)
<S> <C> <C> <C> <C>
Investments:
Actively managed fixed maturities.............. $22,544.3 $ - $ - $22,544.3
Interest-only securities....................... - 934.0 - 934.0
Equity securities.............................. 340.5 - - 340.5
Mortgage loans................................. 475.6 - - 475.6
Credit-tenant loans............................ 646.9 - - 646.9
Policy loans................................... 688.8 - - 688.8
Other invested assets.......................... 697.5 34.3 (67.1) 664.7
Short-term investments......................... 876.4 177.4 - 1,053.8
Assets held in separate accounts............... 745.8 - - 745.8
--------- -------- ------- ---------
Total investments.......................... 27,015.8 1,145.7 (67.1) 28,094.4
Accrued investment income......................... 391.5 - - 391.5
Finance receivables............................... - 3,547.8 - 3,547.8
Servicing rights.................................. - 97.5 - 97.5
Cost of policies purchased........................ 2,424.1 - - 2,424.1
Cost of policies produced......................... 1,132.9 - - 1,132.9
Reinsurance receivables........................... 752.6 - - 752.6
Goodwill.......................................... 3,960.9 54.6 - 4,015.5
Property and equipment............................ 183.3 131.8 - 315.1
Segregated and restricted cash.................... - 933.0 - 933.0
Other assets...................................... 928.6 347.2 (505.3) 770.5
--------- -------- ------- ---------
Total assets............................... $36,789.7 $6,257.6 $(572.4) $42,474.9
========= ======== ======= =========
Liabilities:
Insurance liabilities.......................... $26,355.1 $ - $ - $26,355.1
Investor payables.............................. - 685.3 - 685.3
Other liabilities.............................. 1,145.6 886.0 (5.0) 2,026.6
Income tax liabilities......................... (290.7) 470.5 (6.1) 173.7
Investment borrowings.......................... 1,179.6 - - 1,179.6
Notes payable and commercial paper............. 2,952.1 2,779.0 (50.2) 5,680.9
--------- -------- ------- ---------
Total liabilities.......................... 31,341.7 4,820.8 (61.3) 36,101.2
--------- -------- ------- ---------
Minority interest................................. 1,389.5 - - 1,389.5
Shareholders' equity:
Preferred stock................................ 105.6 - - 105.6
Common stock and additional paid-in capital.... 2,435.6 725.6 (500.0) 2,661.2
Accumulated other comprehensive income......... 201.9 (1.6) - 200.3
Retained earnings.............................. 1,315.4 712.8 (11.1) 2,017.1
--------- -------- ------- ---------
Total shareholders' equity................. 4,058.5 1,436.8 (511.1) 4,984.2
--------- -------- ------- ---------
Total liabilities and shareholders' equity. $36,789.7 $6,257.6 $(572.4) $42,474.9
========= ======== ======= =========
</TABLE>
10
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
FINANCE RECEIVABLES, INTEREST-ONLY SECURITIES AND SERVICING RIGHTS OF
FINANCE SUBSIDIARIES
Finance receivables, summarized by type, were as follows:
<TABLE>
<CAPTION>
September 30, December 31,
1998 1997
---- ----
(Dollars in millions)
<S> <C> <C>
Manufactured housing and consumer finance.................................... $ 642.7 $ 324.1
Mortgage and retail services................................................. 1,661.1 734.9
Commercial................................................................... 1,032.8 931.8
-------- --------
3,336.6 1,990.8
Less allowance for doubtful accounts......................................... (33.8) (19.8)
-------- --------
Net finance receivables................................................. $3,302.8 $1,971.0
======== ========
</TABLE>
We pool and securitize substantially all of the finance receivables we
originate, retaining: (i) investments in interest-only securities that are
subordinated to the rights of other investors; (ii) servicing on the contracts;
and (iii) in some securitizations, certain securities that are senior to the
interest-only securities. In a typical securitization, we sell finance
receivables to a special purpose entity, which is established for the limited
purpose of purchasing the finance receivables and selling securities
representing interests in the receivables. These interest-bearing securities are
collateralized by the underlying pool of finance receivables. We receive the
proceeds from the sale of the securities in exchange for the finance
receivables. The securities are typically sold at the same amount as the
principal balance of the receivables sold. We retain a residual interest, which
represents the right to receive, over the life of the pool of receivables: (i)
the excess of the principal and interest received on the receivables transferred
to the trust over the principal and interest paid to the holders of other
interests in the securitization; and (ii) servicing fees.
In some securitizations, we also retain certain lower-rated securities
which are senior in payment priority to the interest-only securities. These
securities had a fair market value of $127.1 million at September 30, 1998, and
are classified as actively managed fixed maturity securities. We retained these
securities because at current market prices, we concluded we would rather own
them than sell them. We intend to hold these securities for investment purposes,
but may sell them if their market values return to levels we consider
acceptable. We may also retain additional securities in future securitizations
if current market values for lower-rated tranches are not acceptable. In
addition, our life insurance subsidiaries from time-to-time have purchased
interests in the securities of the special purpose entity which are also
classified as fixed maturity investments.
When we sell finance receivables, we recognize a gain equal to the proceeds
from the sale, net of related transaction costs, minus the allocated carrying
amount of the receivables sold. We allocate the carrying amount of finance
receivables between the assets sold and retained based on their relative fair
values at the date of sale. We determine the estimated fair value of the
retained assets (securities classified as fixed maturities, interest-only
securities and servicing rights) by discounting their projected future cash
flows using current prepayment, default, loss, servicing cost and discount rate
assumptions. Since we recognize no gain on securities we retain, our decision to
retain additional securities in some securitizations (as described in the
preceding paragraph) reduces the gain recognized in the current period. Such
decision, however, increases investment income in future periods, or creates the
opportunity to recognize additional gains if we decide to sell the securities.
On a quarterly basis, we determine the estimated fair value of our
interest-only securities based on discounted projected future cash flows using
current assumptions. Differences between the estimated fair value and carrying
value of interest-only securities considered to be temporary are recognized as
adjustments to shareholders' equity. Declines in value are considered to be
other than temporary when the present value of estimated future cash flows
discounted at a risk free rate using current assumptions is less than the
carrying value of the interest-only securities. When declines in value
considered to be other than temporary occur, we reduce the carrying value to
estimated fair value and recognize a loss in the statement of operations.
11
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
During the first quarter of 1998, prepayments on loan contracts exceeded
expectations. As a result, we reduced the carrying value of our interest-only
securities by $29.1 million (net of income taxes of $17.9 million). During the
second quarter of 1998, prepayments on loan contracts continued to exceed
expectations and management believed that such prepayments might be higher than
expected in future periods as well. In addition, the market yields of publicly
traded securities that are similar to our interest-only securities increased
during the second quarter, decreasing the market value of such investments. As a
result of these developments, we concluded that an impairment in the value of
the interest-only securities and servicing rights had occurred, and a new value
was determined using the current assumptions. The new assumptions (which are
summarized below) reflect the following changes from the assumptions previously
used: (i) an increase in prepayment rates; (ii) an increase in the discount rate
used to determine the present value of future cash flows to 15 percent from 11
percent; and (iii) an increase in anticipated future rates of default. We
recognized a $350 million nonrecurring charge (net of income taxes of $190
million) to reduce the carrying value of the interest-only securities and
servicing rights in the second quarter of 1998.
We used the following assumptions to determine the estimated fair value of
interest-only securities as of September 30, 1998:
<TABLE>
<CAPTION>
Manufactured Home equity/ Consumer/
housing home improvement equipment Total
------- ---------------- --------- -----
(Dollars in millions)
<S> <C> <C> <C> <C>
Interest-only securities............................ $ 537.7 $ 373.0 $ 193.1 $ 1,103.8
Principal balance of sold finance receivables (1)... 19,702.4 5,737.9 3,818.3 29,258.6
Weighted average customer interest rate on sold
finance receivables (1).......................... 10.26% 11.45% 10.99%
Expected weighted average annual constant
prepayment rate as a percentage of principal
balance of sold finance receivables (1) (2)...... 12.00% 24.00% 22.00%
Expected nondiscounted credit losses as a
percentage of principal balance of sold
finance receivables (1) (2)...................... 6.00% 4.17% 2.00%
Weighted average discount rate (1).................. 15.00% 15.00% 15.00%
<FN>
- -------------------
(1) Excludes finance receivables sold in revolving trust securitizations.
(2) The valuation of interest-only securities is affected not only by the
projected level of prepayments of principal and net credit losses, as shown
above, but also by the projected timing of such prepayments and net credit
losses. Should the timing of projected prepayments of principal or net
credit losses differ materially from the timing projected by the Company,
such timing could have a material effect on the valuation of the
interest-only securities.
</FN>
</TABLE>
The following summarizes information with respect to the 60-days-and-over
contractual dollar delinquencies, loss experience and repossessed collateral
experience of our managed finance receivables:
<TABLE>
<CAPTION>
September 30,
---------------------
1998 1997
---- ----
<S> <C> <C>
60-days-and-over delinquencies as a percentage
of managed finance receivables at period end............................ 1.10% 1.03%
==== ====
Net credit losses incurred during the last twelve months as a percentage
of average managed finance receivables during the period................ 1.06% .99%
==== ====
Repossessed collateral as a percentage of managed finance receivables
at period end........................................................... 1.00% .89%
==== ====
</TABLE>
12
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
Activity in the interest-only securities account during the nine months
ended September 30, 1998 and 1997, is as follows:
<TABLE>
<CAPTION>
Nine months ended
September 30,
-------------------
1998 1997
---- ----
(Dollars in millions)
<S> <C> <C>
Balance, beginning of period................................................ $1,365.8 $ 983.5
Additions resulting from securitizations during the period............... 509.9 539.1
Investment income........................................................ 103.8 88.9
Cash received............................................................ (250.4) (224.4)
Reduction in carrying value as a result of adverse prepayment
experience............................................................. (47.0) -
Nonrecurring charge to reduce carrying value............................. (535.0) -
Change in unrealized appreciation........................................ (43.3) (171.1)
-------- --------
Balance, end of period...................................................... $1,103.8 $1,216.0
======== ========
</TABLE>
During the nine months ended September 30, 1998 and 1997, the Company sold
$9.6 billion and $7.4 billion, respectively, of finance receivables in various
securitized transactions and recognized gains of $543.8 million and $568.7
million, respectively.
We amortize the servicing rights we retain after the sale of finance
receivables, in proportion to, and over the estimated period of, net servicing
income.
The activity in the servicing rights account during the nine months ended
September 30, 1998 and 1997, is as follows:
<TABLE>
<CAPTION>
Nine months ended
September 30,
--------------------
1998 1997
---- ----
(Dollars in millions)
<S> <C> <C>
Balance, beginning of period............................................. $ 77.0 $ 30.8
Additions resulting from securitizations
during the period................................................... 52.9 58.7
Amortization.......................................................... (15.4) (10.4)
Nonrecurring charge to establish a valuation allowance................ (5.0) -
------ ------
Balance, end of period................................................... $109.5 $ 79.1
====== ======
</TABLE>
We evaluate servicing rights for impairment on an ongoing basis, stratified
by product type and origination period. To the extent that the recorded amount
exceeds the fair value, we establish a valuation allowance through a charge to
earnings. If we determine, upon subsequent measurement of the fair value of
these servicing rights in future periods, that the fair value equals or exceeds
the amortized cost, any previously recorded valuation allowance would be deemed
unnecessary and restored to earnings.
EARNINGS PER SHARE
We adopted Statement of Financial Accounting Standards No. 128, "Earnings
Per Share"("SFAS 128") as of December 31, 1997. SFAS 128 provides new accounting
and reporting standards for earnings per share. It replaces primary and fully
diluted earnings per share with basic and diluted earnings per share. Basic
earnings per share excludes dilution and is computed by dividing income
available to common shareholders by the weighted average number of common shares
outstanding for the period. Diluted earnings per share represents the potential
dilution that could occur if all dilutive convertible securities, warrants and
stock options were exercised and converted into common stock. The diluted
earnings per share calculation further assumes that the proceeds received upon
the conversion of all dilutive options and warrants are used to repurchase the
Company's common shares at the average market price of such shares during the
period. Prior period earnings per share amounts have been restated for the Green
Tree Merger. For
13
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
the nine-month period ended September 30, 1998, the common stock equivalents of
the Preferred Redeemable Increased Dividend Equity Securities 7% PRIDES
Convertible Preferred Stock ("PRIDES") were anti-dilutive and were therefore
excluded from dilutive potential common shares.
A reconciliation of income and shares used to calculate basic and diluted
earnings per share is as follows:
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
------------------ ------------------
1998 1997 1998 1997
---- ---- ---- ----
(Dollars in millions and shares in thousands)
<S> <C> <C> <C> <C>
Income:
Net income before extraordinary charge............................ $282.8 $272.2 $245.6 $718.5
Preferred stock dividends and charge related to induced
conversions of preferred stock.................................. 1.8 2.2 6.0 19.9
------ ------ ------ ------
Income before extraordinary charge applicable to common
ownership for basic earnings per share........................ 281.0 270.0 239.6 698.6
Effect of dilutive securities:
Preferred stock dividends....................................... 1.8 2.2 - 6.7
------ ------ ------ ------
Income before extraordinary charge applicable to common
ownership and assumed conversions for diluted
earnings per share............................................ $282.8 $272.2 $239.6 $705.3
====== ====== ====== ======
Shares:
Weighted average shares outstanding for basic
earnings per share.............................................. 312,658 312,526 310,651 310,477
Effect of dilutive securities on weighted average shares:
Stock options................................................... 7,180 12,446 9,534 13,416
Employee stock plans............................................ 1,931 2,301 1,932 2,222
PRIDES.......................................................... 5,909 6,824 - 7,002
Convertible debentures.......................................... 4,578 5,601 5,002 5,480
------ ------ ------ ------
Dilutive potential common shares............................ 19,598 27,172 16,468 28,120
-------- ------ ------ ------
Weighted average shares outstanding for diluted
earnings per share..................................... 332,256 339,698 327,119 338,597
======= ======= ======= =======
</TABLE>
COMPREHENSIVE INCOME
We adopted Statement of Financial Accounting Standards No. 130, "Reporting
Comprehensive Income" ("SFAS 130") as of December 31, 1997. SFAS 130 establishes
standards for reporting and presentation of comprehensive income and its
components in a full set of financial statements. Comprehensive income includes
all changes in shareholders' equity (except those arising from transactions with
shareholders) and includes net income and net unrealized gains (losses) on
securities. Adopting the new standard required us to make additional disclosures
in the consolidated financial statements, but did not affect our financial
position or results of operations.
The change in unrealized gains (losses) included in comprehensive income in
the first nine months of 1998 and 1997 was net of $(23.6) million and $39.0
million, respectively, of net investment gains (losses) included in net income.
The change in unrealized gains included in comprehensive income in the third
quarter of 1998 and 1997 was net of $(15.0) million and $42.8 million,
respectively, of net investment gains (losses) included in net income.
14
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
BUSINESS SEGMENTS
During the third quarter of 1998, we redefined our business segments,
consistent with the requirements of Statement of Financial Accounting Standards
No. 131, "Disclosures about Segments of an Enterprise and Related Information"
("SFAS 131"). Under SFAS 131, a company must provide disclosures about operating
segments on the same basis it uses internally to evaluate the performance of its
operations and allocate its resources. Our new segment presentation contains the
same operating data and results our managers use to evaluate the performance of
our business:
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
------------------ -----------------
1998 1997 1998 1997
---- ---- ---- ----
(Dollars in millions)
<S> <C> <C> <C> <C>
Total revenue:
Insurance and fee-based operations................................ $1,479.2 $1,367.1 $4,593.4 $3,805.7
Finance operations................................................ 417.8 346.6 1,010.6 929.1
Net investment gains.............................................. 24.7 116.4 141.8 137.3
-------- -------- -------- --------
$1,921.7 $1,830.1 $5,745.8 $4,872.1
======== ======== ======== ========
Income before income taxes, minority interest and extraordinary
charge:
Insurance and fee-based operations.............................. $ 338.7 $ 294.5 $1,022.2 $ 795.2
Finance operations.............................................. 202.8 189.9 406.5 510.5
Corporate....................................................... (51.1) (29.4) (133.9) (88.5)
Investment gains (losses)....................................... (16.2) 72.6 (13.7) 66.9
Nonrecurring charges............................................ - (62.4) (688.0) (71.7)
-------- -------- -------- --------
$ 474.2 $ 465.2 $ 593.1 $1,212.4
======== ======== ======== ========
</TABLE>
FINANCIAL INSTRUMENTS
We periodically use options and interest-rate swaps to hedge the interest
rate risk associated with our investments and borrowed capital. At September 30,
1998, we held instruments that effectively converted a portion of our fixed-rate
borrowed capital into floating-rate instruments for a specified period. We
record the difference between the interest rates as an adjustment to interest
expense. During the first nine months of 1998, interest expense was reduced by
$2.9 million as a result of these interest-rate swap agreements. We also
recognized investment income of $35.0 million during 1998, representing the
change in fair value of certain interest- rate swap agreements which no longer
effectively hedge our fixed-rate borrowed capital. At September 30, 1998, our
interest-rate swap agreements (classified as other invested assets) had a
carrying value of $35.0 million and a fair value of $50.4 million. Our
interest-rate swap agreements have an aggregate notional principal amount of
$1.6 billion, mature in various years through 2008 and have an average remaining
life of 3.3 years.
Our equity-indexed annuity products provide a guaranteed base rate of
return with a higher potential return linked to the performance of a broad-based
equity index. We buy Standard & Poor's 500 Index Call Options (the "S&P 500 Call
Options") in an effort to hedge potential increases to policyholder benefits
resulting from increases in the S&P 500 Index to which the product's return is
linked. We include the cost of the S&P 500 Call Options in the pricing of the
equity-indexed annuity products. We reflect changes in the values of the S&P 500
Call Options, which fluctuate in relation to changes in policyholder account
balances for these annuities, in net investment income. Premiums paid to
purchase these instruments are deferred and amortized over their term.
During the nine months ended September 30, 1998, net investment income
included $48.1 million related to changes in the value of the S&P 500 Call
Options. Such investment income was substantially offset by amounts added to
policyholder account balances for annuities and financial products. The value of
the S&P 500 Call Options was $51.7 million at September 30, 1998. We classify
such instruments as other invested assets.
15
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
If the counterparties of the aforementioned financial instruments fail to
meet their obligations, Conseco may have to recognize a loss. Conseco limits its
exposure to such a loss by diversifying among several counterparties believed to
be strong and creditworthy. At September 30, 1998, all of the counterparties
were rated "A" or higher by Standard & Poor's Corporation.
In conjunction with certain sales of finance receivables, the Company has
provided guarantees of approximately $1.9 billion at September 30, 1998. We
believe the likelihood of a significant loss from such guarantees is remote.
See "Changes in Corporate Notes Payable and Commercial Paper" for a
description of put options embedded in the Mandatory Par Put Remarketed
Securities Notes ("MOPPRS") issued in June 1998.
REINSURANCE
Cost of reinsurance ceded where the reinsured policy contains mortality
risks totaled $400.4 million and $395.5 million in the first nine months of 1998
and 1997, respectively. This cost was deducted from insurance policy income.
Conseco is contingently liable for claims reinsured if the assuming company is
unable to pay. Reinsurance recoveries netted against insurance policy benefits
totaled $333.6 million and $350.3 million in the first nine months of 1998 and
1997, respectively.
The Company has ceded certain policy liabilities under assumption
reinsurance agreements. Since all of Conseco's obligations under these insurance
contracts have been ceded to another company, insurance liabilities related to
such policies were not reported in the balance sheet. We believe the assuming
companies are able to honor all contractual commitments under the assumption
reinsurance agreements, based on our periodic reviews of financial statements,
insurance industry reports and reports filed with state insurance departments.
CHANGES IN CORPORATE NOTES PAYABLE AND COMMERCIAL PAPER
Notes payable and commercial paper related to corporate activities (other
than those of our finance segment, discussed below) were as follows:
<TABLE>
<CAPTION>
September 30, December 31,
Interest rate 1998 1997
------------- ---- ----
(Dollars in millions)
<S> <C> <C> <C>
Bank debt:
Credit Facility................................................... 5.84% $ 415.3 $ -
Other credit facilities........................................... - - 1,000.0
Leucadia Notes....................................................... 6.1 400.0 400.0
Commercial paper..................................................... 6.09 1,021.2 448.2
MOPPRS............................................................... 6.4 550.0 -
Notes due 2003....................................................... 6.4 250.0 -
Senior notes due 2003................................................ 8.125 63.5 168.5
Senior notes due 2004................................................ 10.5 24.5 184.9
Senior subordinated notes due 2004................................... 11.25 8.1 10.9
Senior notes due 2005................................................ 6.8 250.0 -
Convertible subordinated debentures due 2005......................... 6.5 17.3 29.1
Convertible subordinated notes due 2003.............................. 6.5 86.0 86.1
Other................................................................ Various 16.5 21.3
-------- --------
Total principal amount.......................................... 3,102.4 2,349.0
Unamortized net premium (discount)................................... (11.1) 5.9
-------- --------
Total........................................................... $3,091.3 $2,354.9
======== ========
</TABLE>
16
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
Changes in corporate notes payable and commercial paper for the first nine
months of 1998
The Company's current revolving credit agreement (the "Credit Facility")
executed in September 1998 permits borrowings up to $2.5 billion. The Credit
Facility consists of a five-year $1.5 billion credit facility and a 364-day $1.0
billion credit facility. Borrowings bear interest equal to either: (i) the
bank's base rate, which is the higher of: (a) the federal funds rate plus .5
percent; or (b) the reference rate as announced from time to time by the Bank of
America National Trust and Savings Association ("Bank of America"); (ii) the
Interbank Offered Rate ("LIBOR") as offered by Bank of America to prime
international banks in the offshore dollar market plus a margin determined by
the credit rating of Conseco's senior unsecured long-term indebtedness ranging
from .17 to .35 percent for the $1.5 billion credit facility and from .19 to
.375 percent for the $1.0 billion facility; or (iii) a rate determined based on
a solicitation of bids from lenders. At September 30, 1998, the weighted average
borrowing rate of 5.84 percent was based on LIBOR plus .30 percent. We also pay
a facility fee, determined by the credit rating of Conseco's senior unsecured
long-term indebtedness, ranging from .08 to .15 percent for the $1.5 billion
credit facility and from .06 to .125 percent for the $1.0 billion credit
facility. At September 30, 1998, the weighted average facility fee rate was .115
percent. We are also subject to a utilization fee of .05 percent per annum for
each day that the aggregate outstanding principal exceeds 50 percent of the
maximum borrowings permitted under the Credit Facility. Borrowings at September
30, 1998 totaled $1,225.0 million (of which $809.7 million related to advances
made to our finance segment under a demand note and is classified as finance
notes payable - See "Changes in Finance Notes Payable and Commercial Paper").
The Credit Facility also permits seven-day revolving Swing Line loans of up
to $100.0 million. We pay interest at the federal funds rate, plus a margin of
.17 to .35 percent (currently .25 percent) based on the credit rating of
Conseco's senior unsecured long-term indebtedness. At September 30, 1998, $100.0
million of Swing Line loans were outstanding (such amount is included in the
total amount borrowed under the Credit Facility of $1,225.0 million).
Borrowings under the $1.5 billion credit facility are due September 30,
2003. Borrowings under the $1.0 billion credit facility are due September 24,
1999.
The Credit Facility requires us to maintain various financial ratios (as
defined in the Credit Facility) including: (i) a debt-to-total capitalization
ratio less than .45:1; and (ii) an interest coverage ratio greater than 2.0:1
during the period October 1, 1998 through September 30, 1999, greater than
2.25:1 for the period October 1, 1999 through September 30, 2001 and greater
than 2.50:1 thereafter.
Borrowings under the Credit Facility were used to repay amounts outstanding
under our previous credit facilities (including credit facilities of Green
Tree). We recognized an extraordinary charge of $2.6 million (net of a $1.5
million tax benefit) as a result of such repayments.
On June 9, 1998, we completed the offering of $550.0 million of unsecured
6.4 percent MOPPRS due June 15, 2011 . The put options embedded in the MOPPRS
could require Conseco to repurchase the MOPPRS at face value on June 15, 2001.
Otherwise, the interest rate on the MOPPRS will be reset at 5.587 percent plus a
margin defined in the agreement for the period remaining until final maturity on
June 15, 2011. Proceeds from the offering of approximately $546.9 million (after
original issue discount, underwriting and other associated costs) were used to
repay outstanding commercial paper. Interest is payable semi-annually on June 15
and December 15 of each year. In addition, we received $14.9 million for the
sale of a call option, related to the reset feature described above; such amount
will be amortized to income over the life of the option. The MOPPRS are senior
unsecured obligations of the Company.
On June 9, 1998, we also completed the offering of $250.0 million of 6.8
percent notes ("6.8 Percent Notes") due June 15, 2005. Proceeds from the
offering of approximately $247.5 million (after underwriting and other
associated costs) were used to repay outstanding commercial paper. Interest is
paid semi-annually on June 15 and December 15 of each year. The 6.8 Percent
Notes are redeemable in whole or in part at the option of Conseco at any time,
at a redemption price equal to the sum of (a) the greater of (i) 100 percent of
the principal amount of such 6.8 Percent Notes and (ii) the sum of the present
values of the remaining scheduled payments of principal and interest thereon
from the redemption date to the maturity date, computed by discounting such
payments, in each case, to the redemption date on a semi-annual basis at the
Redemption Treasury Rate (as defined in the 6.8 Percent Notes), plus 25 basis
points, plus (b) accrued and unpaid interest on the principal amount thereof.
The 6.8 Percent Notes are unsecured and rank pari passu with all other unsecured
and unsubordinated obligations of Conseco.
17
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
On April 1, 1998, we announced a fixed-spread tender offer for our 8.125%
Senior Notes due 2003 (the "8.125% Senior Notes"). For each 8.125% Senior Note
tendered, we paid the price per $1,000 principal amount equal to a spread of 42
basis points over the current yield to maturity of the 5.5 percent U.S. Treasury
Note due February 28, 2003, plus accrued and unpaid interest. The tender offer
expired on April 21, 1998. Pursuant to the tender offer, we repurchased $104.5
million par value of the 8.125% Senior Notes for $113.6 million. We funded these
repurchases with available cash, bank credit facilities and the issuance of
commercial paper. We recognized an extraordinary charge of $6.8 million (net of
income taxes of $3.7 million) related to such repurchases in the second quarter
of 1998. During the first nine months of 1998, we repurchased another $.5
million par value of the 8.125% Senior Notes for $.5 million unrelated to the
tender offer.
On February 9, 1998, we completed the offering of $250.0 million of 6.4
percent notes (the "6.4% Notes") due February 10, 2003. Proceeds from the
offering of approximately $248.0 million (after original issue discount,
underwriting and other associated costs) were used to retire bank debt. Interest
is paid semi-annually on February 10 and August 10 of each year. The 6.4% Notes
are redeemable in whole or in part at the option of Conseco at any time, at a
redemption price equal to the sum of: (a) the greater of (i) 100 percent of the
principal amount; and (ii) the sum of the present values of the remaining
scheduled payments of principal and interest thereon from the redemption date to
the maturity date, computed by discounting such payments, in each case, to the
redemption date on a semi-annual basis at the Treasury rate (as defined in the
6.4% Notes) plus 25 basis points, plus (b) accrued and unpaid interest on the
principal amount. The 6.4% Notes are unsecured and rank pari passu with all
other unsecured and unsubordinated obligations of Conseco.
Borrowings under our commercial paper program averaged approximately $765.0
million during the first nine months of 1998. The weighted average interest rate
on such borrowings was 5.77 percent during that period. Conseco's commercial
paper has maturities ranging from 1 to 91 days. However, the Company has the
ability to refinance such obligations through its Credit Facility.
During the first quarter of 1998, we repurchased $2.8 million par value of
the 11.25 percent senior subordinated notes due 2004 for $3.2 million. We
recognized an extraordinary charge of $.2 million (net of a $.1 million tax
benefit) as a result of such repurchases.
During the first nine months of 1998, we repurchased $160.4 million par
value of our 10.5 percent senior notes due 2004 for $196.9 million. We
recognized an extraordinary charge of $18.0 million (net of a $9.7 million tax
benefit) as a result of such repurchases.
During the first nine months of 1998, $11.8 million par value of the 6.5
percent convertible subordinated debentures due 2005 were converted into .9
million shares of Conseco common stock.
Changes in corporate notes payable and commercial paper for the first nine
months of 1997
In the first nine months of 1997, we repurchased $87.2 million par value of
the 11.25 percent senior subordinated notes due 2004 for $100.5 million. We
recognized an extraordinary charge of $5.6 million (net of a $3.0 million tax
benefit) as a result of such repurchases.
During the first nine months of 1997, we repurchased $8.4 million par value
of the 10.5 percent senior notes due 2004 for $9.8 million. We recognized an
extraordinary charge of $.6 million (net of a $.3 million tax benefit) as a
result of such repurchases.
During the first nine months of 1997, we paid $4.4 million to induce the
conversion of $64.8 million par value of convertible subordinated debentures due
2005 into 5.0 million shares of Conseco common stock. Such convertible
debentures became our obligation in conjunction with the acquisition (the "ATC
Merger") of American Travellers Corporation ("ATC") in December 1996. We also
repurchased $4.0 million par value of the convertible debentures for $12.2
million. The extraordinary charge recognized as a result of the inducement
payment and repurchases was not significant since such amount approximated
amounts reflected in the fair value of the debentures which was recorded as a
liability at the ATC Merger date. An additional $1.4 million par value of the
convertible debentures was converted into .1 million shares of Conseco common
stock during the nine months ended September 30, 1997.
18
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
CHANGES IN FINANCE NOTES PAYABLE AND COMMERCIAL PAPER
Notes payable and commercial paper related to our financing activities were
as follows:
<TABLE>
<CAPTION>
September 30, December 31,
Interest rate 1998 1997
------------- ---- ----
(Dollars in millions)
<S> <C> <C> <C>
Bank debt:
Credit Facility................................................... 5.84% $ 809.7 $ -
Other credit facilities........................................... 6.00 25.0 35.0
Master repurchase agreements......................................... 6.13 636.4 -
Credit facility collateralized by interest-only securities........... 7.59 50.0 -
Senior subordinated notes............................................ 10.25 194.0 267.3
Medium term notes.................................................... 6.58 238.7 246.6
Commercial paper..................................................... - - 1,319.1
Other................................................................ 2.00 3.2 1.9
-------- --------
Total principal amount............................................ 1,957.0 1,869.9
Less unamortized net discount........................................ (5.2) (6.9)
-------- --------
Total............................................................. $1,951.8 $1,863.0
======== ========
</TABLE>
Changes in finance notes payable and commercial paper for the first nine
months of 1998
We substantially restructured the notes payable and commercial paper of
this segment during 1998. At September 30, 1998, Conseco had advanced this
segment $809.7 million borrowed under the Credit Facility pursuant to a demand
note having the same terms as the Credit Facility (See "Changes in Corporate
Notes Payable and Commercial Paper"). These funds and other funds were used for
the repayment, restructuring and cancellation of the bank debt formerly held by
this segment, resulting in an extraordinary charge of $10.3 million (net of a
$6.3 million tax benefit).
At September 30, 1998, the Company had $4.0 billion of master repurchase
agreements with various investment banking firms, subject to the availability of
eligible collateral. The agreements generally provide for terms of one year,
which can be extended each quarter by mutual agreement of the parties for an
additional year, based upon the review of updated quarterly financial
information of the finance segment.
In February 1998, we entered into a new credit facility which provides for
a $700 million line of credit collateralized by our interest-only securities.
The line of credit matures on February 12, 2000, with an optional one year
extension. In addition, we issued warrants to purchase 2.5 million equivalent
shares of Conseco common stock at $24.8227 per share to the provider of the
facility subject to a maximum appreciation of $16.37 per equivalent share. The
warrants were exercised at the date of the Green Tree Merger.
During 1998, we repurchased senior subordinated notes with a par value of
$73.3 million for $80.8 million. We recognized an extraordinary charge of $4.7
million (net of a $2.9 million tax benefit) as a result of such repurchases.
During the fourth quarter of 1997 and the first quarter of 1998, both of
the credit agencies that rated Green Tree's unsecured debt lowered its ratings.
As a result of these actions, the borrowing rates on the finance segment's
commercial paper increased and the issuance of commercial paper was curtailed.
CHANGES IN PREFERRED STOCK
During the first nine months of 1998, holders converted 167,450 shares of
PRIDES into .6 million shares of common stock.
19
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
During the first nine months of 1997, holders converted 2,374,300 shares of
PRIDES into 8.1 million shares of common stock. We paid $13.2 million to induce
these conversions. Such payment is reflected in the consolidated financial
statements as a dividend paid to such holders.
CHANGES IN COMMON STOCK
Changes in the number of shares of common stock outstanding for the first
nine months of 1998 and 1997 were as follows (shares in thousands):
<TABLE>
<CAPTION>
Nine months ended
September 30,
-------------------
1998 1997
---- ----
<S> <C> <C>
Balance, beginning of period................................................................... 310,012 293,359
Stock options exercised..................................................................... 6,588 12,378
Stock warrants exercised.................................................................... 862 -
Shares issued in conjunction with mergers................................................... - 11,264
Common shares converted from convertible subordinated debentures............................ 916 5,135
Common shares converted from PRIDES......................................................... 573 8,120
Common stock acquired under option exercise and repurchase programs......................... (5,852) (18,774)
Shares returned due to recomputation of bonus............................................... (698) -
Shares issued under employee benefit and compensation plans................................. 608 1,302
------- -------
Balance, end of period......................................................................... 313,009 312,784
======= =======
</TABLE>
In 1994, we created an option exercise program in order to accelerate the
recording of tax benefits we derive from the exercise of stock options and to
better manage our capital structure. In the first quarter of 1998, Conseco's
chief executive officer and three of its executive vice presidents exercised
outstanding options to purchase approximately 2.4 million shares of Conseco
common stock under Conseco's option exercise program. The options exercised
would otherwise have remained exercisable until 2004. No cash was exchanged. The
executives paid for the exercise price of the options and a portion of the
applicable federal and state taxes by tendering previously owned shares. The
Company withheld shares to cover a portion of the federal and state taxes owed
by the executives as a result of the exercise transactions. The program resulted
in the following changes to common stock and additional paid-in capital: (i) an
increase for a tax benefit of $26.6 million (net of payroll taxes incurred of
$1.1 million); (ii) an increase for the exercise price of $35.2 million; and
(iii) a decrease of $72.4 million related to shares withheld or tendered by the
executives for the exercise price and for federal and state taxes. Net of shares
withheld or tendered, we issued approximately .9 million shares of common stock
to the executives under the program. As an inducement to encourage the exercise
of options prior to their expiration date, we granted to the executive officers
new options to purchase a total of 1.5 million shares at a price of $48.1875 per
share (equal to the market price per share on the grant date) to replace the
shares surrendered for taxes and the exercise price.
During the first nine months of 1998, we paid $198.8 million to repurchase
4.4 million common shares under our share repurchase programs. We terminated our
share repurchase program when we announced the Green Tree Merger.
We allocated the $271.2 million cost of the 5.9 million shares we
repurchased in 1998 in connection with the stock option exercise program and
share repurchase program to shareholders' equity accounts as follows: (i) $152.7
million to common stock and additional paid-in capital (such allocation was
based on the value we received for shares issued in our recent acquisitions);
and (ii) $118.5 million to retained earnings.
In the first quarter of 1998, .7 million shares were returned to the
Company due to the recomputation of a bonus paid to a Green Tree executive for
fiscal year 1996.
20
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
STOCK OPTION PLANS
As a result of the Green Tree Merger, all options previously issued by
Green Tree became immediately exercisable on June 30, 1998. On March 1, 1998,
prior to the time a merger was contemplated, Green Tree repriced certain of its
employee stock options to the current market price.
A summary of stock option activity and related information of the Company
(including the combined stock options of Conseco and Green Tree) for the first
nine months of 1998 is presented below (shares in thousands):
<TABLE>
<CAPTION>
Number of Weighted average
shares exercise price
------ --------------
<S> <C> <C>
Outstanding at January 1, 1998............................................. 33,511 $24.78
Granted in connection with:
Traditional grants.................................................... 5,353 44.91
Option exercise program............................................... 1,502 48.19
Repricing program of Green Tree prior to the merger................... 2,594 25.10
------
Total granted....................................................... 9,449 40.00
------
Exercised............................................................... (6,588) 22.42
Forfeited............................................................... (2,110) 18.62
Terminated in repricing program......................................... (2,594) 37.13
------
Outstanding at September 30, 1998.......................................... 31,668 29.21
======
</TABLE>
The following summarizes information about fixed stock options outstanding
at September 30, 1998 (shares in thousands):
<TABLE>
<CAPTION>
Options outstanding Options exercisable
---------------------------------------- ------------------------
Weighted Weighted Weighted
average average average
Range of Number remaining exercise Number exercise
exercise prices outstanding life (in years) price exercisable price
- --------------- ------------ --------------- ----- ----------- -----
<S> <C> <C> <C> <C> <C>
$ 3.24 - 4.86.................... 829 2.7 $ 3.37 829 $ 3.37
5.00 - 6.91.................... 550 3.4 5.57 550 5.57
7.77 - 11.57.................... 495 3.7 10.52 255 10.52
11.79 - 16.57.................... 7,889 5.1 14.33 1,652 13.73
17.88 - 26.19.................... 5,521 8.3 24.70 5,469 24.72
27.19 - 30.41.................... 1,463 5.9 29.58 665 28.92
30.41 (Key Manager Program)........ 1,100 24.0 30.41 - -
30.73 - 45.84.................... 9,057 8.3 38.60 7,022 37.28
46.71 - 51.28.................... 4,764 9.0 49.87 1,536 48.21
------ ------
31,668 17,978
====== ======
</TABLE>
21
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
CHANGES IN MINORITY INTEREST
Minority interest represents the interest of investors other than Conseco
in our subsidiaries. Minority interest at September 30, 1998, included: (i)
Company-obligated mandatorily redeemable preferred securities of subsidiary
trusts with a carrying value of $1,872.9 million; and (ii) interest in the
common stock of a subsidiary of $.7 million.
Company-obligated mandatorily redeemable preferred securities of subsidiary
trusts at September 30, 1998, were as follows:
<TABLE>
<CAPTION>
Estimated
Amount Carrying fair
outstanding value value
----------- ----- -----
(Dollars in millions)
<S> <C> <C> <C>
8.70% Trust Originated Preferred Securities ("8.70% TOPrS")........... $ 500.0 $ 483.4 $ 506.3
9.16% Trust Originated Preferred Securities ("9.16% TOPrS")........... 275.0 275.0 281.9
8.70% Capital Trust Pass-through Securities ("TruPS")................. 325.0 325.0 338.3
8.796% Capital Securities............................................. 300.0 300.0 315.5
FELINE PRIDES......................................................... 503.7 489.5 397.3
-------- -------- --------
$1,903.7 $1,872.9 $1,839.3
======== ======== ========
</TABLE>
On August 24, 1998, Conseco Financing Trust V ("Trust V"), a wholly owned
subsidiary of Conseco, issued 20 million of the 8.70% TOPrS at $25 per security.
Each TOPrS security pays cumulative cash distributions at the annual rate of
8.70 percent of the stated $25 liquidation amount per security, payable
quarterly. The TOPrS are fully and unconditionally guaranteed by Conseco.
Proceeds from the offering of $483.4 million (after underwriting and associated
costs) were used by the trust to purchase a subordinated debenture from Conseco.
Conseco then used the net proceeds to repay bank debt and commercial paper
borrowings. Conseco has the right to redeem the securities at any time, in whole
or in part, on or after September 30, 2003, at the principal amount plus accrued
and unpaid interest. The securities are subordinated to all senior indebtedness
of Conseco and mature on September 30, 2028. Conseco may extend the maturity
date by one or more periods, but in no event later than September 30, 2047. The
terms of the TOPrS parallel the terms of Conseco's debentures held by Trust V,
which debentures account for substantially all of the assets of Trust V.
In January 1998, Conseco Financing Trust IV issued 74,900 FELINE PRIDES
were issued for a total of $3.7 million to cover the over-allotments associated
with the original offering of such securities in December 1997.
DIRECTOR, OFFICER AND KEY EMPLOYEE STOCK PURCHASE PLAN
The Director, Officer and Key Employee Stock Purchase Plan is designed to
encourage direct, long-term ownership of Conseco common stock by Board members,
executive officers and certain senior officers. In the third quarter of 1998,
the Board of Directors expanded the program to allow for the purchase of 4.5
million additional shares by directors, selected officers and key employees of
Conseco and its subsidiaries. Under the program, 12.5 million shares of Conseco
common stock have been purchased since 1996 in open market transactions with
independent parties. Purchases were financed by personal loans to the
participants from a bank. Such loans are collateralized by the Conseco common
stock purchased. Conseco has guaranteed the loans, but has recourse to the
participants if it incurs a loss under the guarantee. In addition, we provide
loans to the participants for interest payments on the loans. As of September
30, 1998, approximately 180 directors, officers and key employees participate in
the plan. At September 30, 1998, the bank loans guaranteed by us totaled $428.6
million, and the loans provided by us for interest totaled $18.3 million. At
September 30, 1998, the balance of the loans guaranteed by Conseco exceeded the
value of common stock collateralizing the loans by $93.3 million.
RECENTLY ISSUED ACCOUNTING STANDARDS
Statement of Financial Accounting Standards No. 132, "Employers'
Disclosures about Pensions and Other Postretirement Benefits" ("SFAS 132") was
issued in February 1998 and revises current disclosure requirements for
employers' pensions and other
22
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
retiree benefits. SFAS 132 will have no effect on our financial position or
results of operations. SFAS 132 is effective for our December 31, 1998 financial
statements.
Statement of Position 97-3, "Accounting by Insurance and Other Enterprises
for Insurance-Related Assessments" ("SOP 97-3") was issued by the American
Institute of Certified Public Accountants in December 1997 and provides guidance
for determining when an insurance company or other enterprise should recognize a
liability for guaranty-fund assessments and guidance for measuring the
liability. The statement is effective for 1999 financial statements with early
adoption permitted. The adoption of this statement is not expected to have a
material effect on our financial position or results of operations.
Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities" ("SFAS 133") was issued in June
1998. SFAS 133 requires all derivative instruments to be recorded on the balance
sheet at estimated fair value. Changes in the fair value of derivative
instruments are to be recorded each period in current earnings or other
comprehensive income, depending on whether a derivative is designated as part of
a hedge transaction and, if it is, on the type of hedge transaction. SFAS 133 is
effective for year 2000. We are currently evaluating the impact SFAS 133 will
have on our financial statements, although at present, we do not believe it will
have a material effect on our financial position or results of operations.
LITIGATION
Green Tree has been served with various related lawsuits which were filed
in the United States District Court for the District of Minnesota. These
lawsuits were filed as purported class actions on behalf of persons or entities
who purchased common stock or options of Green Tree during the alleged class
periods that generally run from February 1995 to January 1998. One such action
did not include class action claims. In addition to Green Tree, certain current
and former officers and directors of Green Tree are named as defendants in one
or more of the lawsuits. Green Tree and other defendants have obtained an order
from the United States District Court for the District of Minnesota
consolidating the lawsuits seeking class action status into two actions: one
which pertains to a purported class of common stockholders and the other which
pertains to a purported class of stock option traders. Plaintiffs in the
lawsuits assert claims under Sections 10(b) and 20(a) of the Securities Exchange
Act of 1934. In each case, plaintiffs allege that Green Tree and the other
defendants violated federal securities laws by, among other things, making false
and misleading statements about the current state and future prospects of Green
Tree (particularly with respect to prepayment assumptions and performance of
certain loan portfolios of Green Tree) which allegedly rendered Green Tree's
financial statements false and misleading. The Company believes that the
lawsuits are without merit and intends to defend such lawsuits vigorously. Green
Tree has filed a motion to dismiss the lawsuits, which is pending.
The Company and its subsidiaries are involved on an ongoing basis in
lawsuits related to its operations. Although the ultimate outcome of certain of
such matters cannot be predicted, none of such lawsuits currently pending
against the Company or its subsidiaries is expected, individually or in the
aggregate, to have a material adverse effect on the Company's consolidated
financial condition, cash flows or results of operations.
CONSOLIDATED STATEMENT OF CASH FLOWS
The following non-cash items were excluded from the consolidated statement
of cash flows in 1998: (i) the acquisition of common stock of $35.2 million
pursuant to the tender of shares under the option exercise program; (ii) the
issuance of common stock under stock option and employee benefit plans of $16.8
million; (iii) the tax benefit of $42.8 million related to the issuance of
common stock under employee benefit plans; (iv) the conversion of $10.2 million
of PRIDES into .6 million shares of common stock; and (v) the conversion of
$12.0 million par value of convertible debentures into .9 million shares of
common stock.
The following non-cash items were excluded from the consolidated statement
of cash flows in 1997: (i) the acquisition of common stock of $119.8 pursuant to
the tender of shares under the option exercise program; (ii) the issuance of
common stock valued at $458.2 million related to the acquisition of Capitol
American Financial Corporation and the acquisition (the "PFS Merger") of Pioneer
Financial Services, Inc. ; (iii) the issuance of $184.9 million of common stock
under employee benefit plans; (iv) the tax benefit of $86.8 million related to
the issuance of common stock under employee benefit plans; (v) the conversion of
$145.1 million of PRIDES into 8.1 million shares of common stock; (vi) the
conversion of $66.2 million par value of convertible debentures into 5.1 million
shares of common stock with a recorded value of $154.4 million; and (vii) the
issuance of the Leucadia Notes in connection with the
23
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
acquisition (the "Colonial Penn Purchase") of Conseco Direct Life Insurance
Company (formerly Colonial Penn Life Insurance Company and Providential Life
Insurance Company) and certain other assets (collectively referred to as
"Colonial Penn").
SUBSEQUENT EVENT
In October 1998, Conseco Financing Trust VI ("Trust VI"), a wholly owned
subsidiary of Conseco, issued 9.2 million of 9% Trust Originated Preferred
Securities ("9% TOPrS") at $25 per security, including over-allotments of 1.2
million securities. Each 9% TOPrS security pays cumulative cash distributions at
the annual rate of 9% of the stated $25 liquidation amount per security, payable
quarterly. The 9% TOPrS are fully and unconditionally guaranteed by Conseco.
Proceeds from the offering of $222.3 million (after underwriting and associated
costs) were used by the trust to purchase a subordinated debenture from Conseco.
Conseco then used the net proceeds to repay commercial paper. Conseco has the
right to redeem the securities at any time, in whole or in part, on or after
December 31, 2003, at the principal amount plus accrued and unpaid interest. The
securities are subordinated to all senior indebtedness of Conseco and mature on
December 31, 2028. Conseco may extend the maturity date by one or more periods,
but in no event later than December 31, 2047. The terms of the 9% TOPrS parallel
the terms of Conseco's debentures held by Trust VI, which debentures account for
substantially all of the assets of Trust VI.
24
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS.
The following discussion highlights material factors affecting our results
of operations and significant changes in our balance sheet. Many of the changes
in 1998 and 1997 affecting our results of operations were caused by: (i) the PFS
Merger effective April 1, 1997; (ii) the Colonial Penn Purchase effective
September 30, 1997; (iii) the acquisition (the "WNIC Merger") of Washington
National Corporation ("WNIC"), effective December 1, 1997; and (iv) various
financing transactions described in the notes to the consolidated financial
statements included herein and in the notes to the supplemental consolidated
financial statements included in Exhibit 99.1 to Conseco's Current Report on
Form 8-K dated June 30, 1998, as amended. Such supplemental consolidated
financial statements as of December 31, 1997 and 1996, and for each of the three
years ended December 31, 1997, give retroactive effect to the Green Tree Merger
which was accounted for as a pooling of interests. These transactions also
caused significant changes in our balance sheet during these periods. This
discussion should be read in conjunction with the supplemental consolidated
financial statements and notes included herein and in Exhibit 99.1 to Conseco's
Current Report on Form 8-K dated June 30, 1998, as amended.
RESULTS OF OPERATIONS
During the third quarter of 1998, we redefined our business segments
consistent with the requirements of SFAS 131. The segments presented below ((i)
the insurance and fee-based segment; and (ii) the finance segment) contain the
same operating data and results our managers use to evaluate the performance of
our business and allocate resources.
25
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
Consolidated Results and Analysis
The following table and narrative summarize the consolidated results of our
operations:
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
-------------------- -------------------
1998 1997 1998 1997
---- ---- ---- ----
(Dollars in millions, except per share amounts)
<S> <C> <C> <C> <C>
Operating earnings, net of taxes.................................. $297.8 $269.9 $ 767.2 $724.3
Net investment gains (losses), net of related costs, amortization
and taxes...................................................... (15.0) 42.8 (23.6) 39.0
Nonrecurring charges, net of taxes................................ - (40.5) (498.0) (44.8)
------ ------ ------- ------
Income before extraordinary charge......................... 282.8 272.2 245.6 718.5
Extraordinary charge, net of taxes................................ 12.3 .7 42.6 6.2
------ ------ ------- ------
Net income................................................. 270.5 271.5 203.0 712.3
Less amounts applicable to preferred stock:
Charge related to induced conversions.......................... - - - 13.2
Preferred stock dividends...................................... 1.8 2.2 6.0 6.7
------ ------ ------- ------
Net income applicable to common stock...................... $268.7 $269.3 $ 197.0 $692.4
====== ====== ======= ======
Per diluted common share:
Weighted average shares outstanding (in thousands)............. 332,256 339,698 327,119 338,597
======= ======= ======= =======
Operating earnings, net of taxes............................... $ .90 $ .79 $ 2.33 $2.14
Net investment gains (losses) net of related costs,
amortization and taxes....................................... (.05) .13 (.08) .11
Nonrecurring charges, net of taxes............................. - (.12) (1.52) (.13)
Charge related to induced conversion of preferred stock........ - - - (.04)
----- ----- ------ -----
Income before extraordinary charge......................... .85 .80 .73 2.08
Extraordinary charge, net of taxes............................. .04 - .13 .02
----- ----- ------ -----
Net income................................................. $ .81 $ .80 $ .60 $2.06
===== ===== ====== =====
</TABLE>
Our third quarter 1998 operating earnings were $297.8 million, or 90 cents
per diluted share, up 10 percent and 14 percent, respectively, over the third
quarter of 1997. Operating earnings during the first nine months of 1998 were
$767.2 million, or $2.33 per diluted share, up 5.9 percent and 8.9 percent,
respectively, over the first nine months of 1997. Operating earnings increased
in the third quarter of 1998 due to: (i) an increase in operating earnings from
the insurance segment as a result of recent acquisitions and the growth and
increased profitability of the business in force; and (ii) portfolio growth in
the finance segment which increased income from sales of receivables, interest,
servicing and commissions. Operating earnings increased in the first nine months
of 1998 due to increases in operating earnings from the insurance segment as a
result of increased premiums and business in force; partially offset by a
decrease in operating earnings from the finance segment as a result of changes
in the assumptions used to calculate the gain on sale of finance receivables
which reduced the amount of the gain as a percentage of total loans sold. The
percentage change in operating earnings differed from the percentage change in
operating earnings per diluted share primarily because of the decrease in
weighted average diluted common shares outstanding in the third quarter of 1998
and in the first nine months of 1998. The decrease in weighted average diluted
shares reflects the decrease in average common stock equivalents outstanding.
26
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
Net income of $270.5 million in the third quarter of 1998, or 81 cents per
diluted share, included (i) net investment losses (net of related costs,
amortization and taxes) of $15.0 million, or 5 cents per share; and (ii) an
extraordinary charge (net of taxes) of $12.3 million, or 4 cents per share,
related to early retirement of debt. Net income of $271.5 million in the third
quarter of 1997, or 80 cents per diluted share, included: (i) net investment
gains (net of related costs, amortization and taxes) of $42.8 million, or 13
cents per share; (ii) nonrecurring charges (net of taxes) of $40.5 million, or
12 cents per share, related to premium deficiencies on our Medicare supplement
business in the state of Massachusetts; and (iii) an extraordinary charge (net
of taxes) of $.7 million, or nil per share, related to early retirement of debt.
Net income of $203.0 million in the first nine months of 1998, or 60 cents
per diluted share, included (i) net investment losses (net of related costs,
amortization and taxes) of $23.6 million, or 8 cents per share; (ii) an
extraordinary charge (net of taxes) of $42.6 million, or 13 cents per share,
related to early retirement of debt; and (iii) a nonrecurring charge (net of
taxes) of $498.0 million, or $1.52 per share, related to the merger related
costs incurred in conjunction with the Green Tree Merger and the charge to
reduce the value of interest-only securities and servicing rights. Net income of
$712.3 million in the first nine months of 1997, or $2.06 per share, included
(i) net investment gains (net of related costs, amortization and taxes) of $39.0
million, or 11 cents per share; (ii) a nonrecurring charge (net of taxes) of
$44.8 million, or 13 cents per share, related to the previously discussed
charges related to our Massachusetts Medicare supplement business and the death
of an officer; (iii) a charge of 4 cents per share related to the induced
conversion of preferred stock; and (iv) an extraordinary charge (net of taxes)
of $6.2 million, or 2 cents per share, related to early retirement of debt.
Total revenues in the third quarter of 1998 and 1997 include net investment
gains of $24.7 million and $116.4 million, respectively. Excluding net
investment gains, total revenues were $1,897.0 million in the third quarter of
1998, up 11 percent from $1,713.7 million in the third quarter of 1997. Total
revenues in the first nine months of 1998 and 1997 include net investment gains
of $141.8 million and $137.3 million, respectively. Excluding net investment
gains, total revenues were $5,604.0 million in the first nine months of 1998, up
18 percent from $4,734.8 million in the first nine months of 1997. Total
revenues in the 1998 periods include revenues of PFS, Colonial Penn and WNIC.
Total revenues in the nine month period of 1997 include revenues of PFS for the
second and third quarters of 1997.
27
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
First Nine Months of 1998 Compared with the First Nine Months of 1997:
The following tables and narratives summarize the results of our operations
by operating segment.
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
------------------ ------------------
1998 1997 1998 1997
---- ---- ---- ----
(Dollars in millions)
<S> <C> <C> <C> <C>
Operating income before income taxes, minority interest and
extraordinary charge:
Insurance and fee-based operations........................................... $338.7 $294.5 $1,022.2 $ 795.2
Finance operations........................................................... 202.8 189.9 406.5 510.5
Corporate interest and other expenses........................................ (51.1) (29.4) (133.9) (88.5)
------ ------ -------- --------
Total consolidated operating income before income taxes, minority
interest and extraordinary charge...................................... 490.4 455.0 1,294.8 1,217.2
Net investment gains (losses), net of related costs and amortization............ (16.2) 72.6 (13.7) 66.9
Nonrecurring charges............................................................ - (62.4) (688.0) (71.7)
------ ------ -------- --------
Income before income taxes, minority interest and extraordinary
charge................................................................. 474.2 465.2 593.1 1,212.4
Income tax expense.............................................................. 169.2 179.2 287.1 456.0
------ ------- -------- --------
Income before minority interest and extraordinary charge................. 305.0 286.0 306.0 756.4
Minority interest in consolidated subsidiaries:
Distributions on Company-obligated mandatorily redeemable
preferred securities of subsidiary trusts.................................. 22.2 13.0 60.4 34.6
Dividends on preferred stock of subsidiaries................................. - .8 - 3.3
------ ------ -------- --------
Income before extraordinary charge....................................... 282.8 272.2 245.6 718.5
Extraordinary charge on extinguishment of debt, net of taxes.................... 12.3 .7 42.6 6.2
------ ------ -------- --------
Net income............................................................... $270.5 $271.5 $ 203.0 $ 712.3
====== ====== ======== ========
</TABLE>
28
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
Insurance and fee-based operations
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
------------------- -------------------
1998 1997 1998 1997
---- ---- ---- ----
(Dollars in millions)
<S> <C> <C> <C> <C>
Premiums collected:
Annuities........................................................... $ 488.4 $ 429.5 $ 1,538.5 $ 1,248.8
Supplemental health................................................. 496.5 462.3 1,486.6 1,342.0
Life................................................................ 223.2 171.9 680.6 491.4
Individual and group major medical.................................. 219.8 212.6 666.3 511.0
Other............................................................... 21.9 13.4 88.2 46.1
--------- --------- --------- ---------
Total premiums collected........................................ $ 1,449.8 $ 1,289.7 $ 4,460.2 $ 3,639.3
========= ========= ========= =========
Average insurance liabilities:
Annuities:
Mortality based................................................... $ 665.8 $ 601.7 $ 681.0 $ 612.1
Equity-linked..................................................... 1,006.6 297.1 800.6 198.7
Deposit based..................................................... 11,542.6 11,230.0 11,813.9 11,256.2
Health.............................................................. 4,611.9 3,668.1 4,400.1 3,516.8
Life:
Interest sensitive................................................ 4,156.1 3,282.0 4,143.0 3,154.7
Non-interest sensitive............................................ 2,766.2 2,247.2 2,738.4 2,147.5
--------- --------- --------- ---------
Total average insurance liabilities, net of reinsurance
receivables................................................... $24,749.2 $21,326.1 $24,577.0 $20,886.0
========= ========= ========= =========
Insurance policy income................................................ $ 989.1 $ 885.8 $ 2,969.0 $ 2,440.9
Net investment income:
General account invested assets..................................... 491.2 432.1 1,469.0 1,250.7
Equity-indexed products based on S&P 500 Index...................... (23.9) 9.0 48.1 26.5
Separate account assets............................................. 1.8 19.5 39.5 37.5
Fee revenue and other income........................................... 21.0 20.7 67.8 50.1
--------- --------- --------- ---------
Total revenues (a).............................................. 1,479.2 1,367.1 4,593.4 3,805.7
--------- --------- --------- ---------
Insurance policy benefits.............................................. 694.1 618.4 2,055.9 1,686.9
Amounts added to policyholder account balances:
Annuity products other than those listed below...................... 183.3 180.3 553.9 524.6
Equity-indexed products based on S&P 500 Index...................... (26.9) 9.0 44.0 26.5
Variable annuity products........................................... 1.8 19.5 39.5 37.5
Amortization related to operations..................................... 123.1 92.3 359.4 310.8
Interest expense on investment borrowings.............................. 14.8 9.4 51.9 17.7
Other operating costs and expenses..................................... 150.3 143.7 466.6 406.5
--------- --------- --------- ---------
Total benefits and expenses (a)................................. 1,140.5 1,072.6 3,571.2 3,010.5
--------- --------- --------- ---------
Operating income before income taxes, minority interest and
extraordinary charge.......................................... 338.7 294.5 1,022.2 795.2
Net investment gains (losses), net of related costs and amortization... (16.2) 72.6 (13.7) 66.9
Nonrecurring charges................................................... - (62.4) - (62.4)
--------- --------- --------- ---------
Income before income taxes, minority interest and
extraordinary charge.......................................... $ 322.5 $ 304.7 $ 1,008.5 $ 799.7
========= ========= ========== =========
</TABLE>
(continued)
29
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
------------------ -------------------
1998 1997 1998 1997
---- ---- ---- ----
(Dollars in millions)
<S> <C> <C> <C> <C>
Ratios:
Investment income, net of interest credited on annuities and universal
life products less interest expense on investment borrowings as a
percentage of insurance liabilities (annualized)..................... 4.61% 4.40% 4.54% 4.32%
Operating costs and expenses as a percentage of average insurance
liabilities, net of reinsurance (annualized)......................... 4.42 4.43 4.49 4.58
Health loss ratios:
Medicare Supplement:
Insurance policy benefits and change in reserves.................... $143.4 $140.4 $440.5 $403.3
Loss ratio.......................................................... 66.73% 68.55% 67.92% 70.33%
Long-Term Care:
Insurance policy benefits and change in reserves.................... $125.6 $ 95.9 $358.0 $296.3
Loss ratio.......................................................... 67.91% 56.31% 65.62% 59.22%
Specified Disease:
Insurance policy benefits and change in reserves.................... $ 60.4 $ 64.7 $169.4 $175.3
Loss ratio.......................................................... 62.30% 66.31% 58.68% 60.63%
Major Medical:
Insurance policy benefits and change in reserves.................... $170.7 $161.5 $506.3 $401.1
Loss ratio.......................................................... 78.39% 77.19% 76.18% 78.36%
Other:
Insurance policy benefits and change in reserves.................... $ 19.7 $ 10.9 $ 68.6 $ 28.6
Loss ratio.......................................................... 66.64% 78.80% 67.57% 64.62%
<FN>
- --------------------
(a) Revenues exclude net investment gains (losses); benefits and expenses
exclude amortization related to realized gains.
</FN>
</TABLE>
General: This operating segment primarily includes the Company's life
insurance subsidiaries which develop, market and administer annuity,
supplemental health, individual life insurance, individual and group major
medical and other insurance products. The products are distributed through a
career agency force, professional independent producers and direct response
marketing. The segment's 1998 results are affected by recent acquisitions
including PFS effective April 1, 1997, Colonial Penn effective September 30,
1997 and WNIC effective December 1, 1997.
Premiums collected by this segment in the third quarter of 1998 were $1.4
billion, up 12 percent over 1997. Premiums collected in the first nine months of
1998 were $4.5 billion, up 23 percent over 1997. The increase is primarily due
to the recent acquisitions and premium rate increases. Rates of increase over
the prior periods, when such prior period amounts are adjusted to include
premiums collected by the acquired companies prior to the date they were
acquired by Conseco, but excluding in both periods premiums from discontinued
health products, were 4.7 percent for the third quarter of 1998 and 7.6 percent
for the first nine months of 1998.
Annuity premiums accounted for 34 percent of this segment's collected
premiums in the first nine months of 1998 and 1997. Collected premiums on
annuities increased 14 percent, to $488.4 million, in the third quarter of 1998
and increased 23 percent, to $1.5 billion, in the first nine months of 1998.
Supplemental health premiums accounted for 33 percent of this segment's
premiums in the first nine months of 1998 compared with 37 percent in 1997.
Supplemental health premiums collected increased 7.4 percent, to $496.5 million,
in the third quarter of 1998 and increased 11 percent, to $1.5 billion, in the
first nine months of 1998.
30
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
Life premiums accounted for 15 percent of this segment's premiums in the
first nine months of 1998 compared with 14 percent in 1997. Life premiums
collected increased 30 percent, to $223.2 million, in the third quarter of 1998
and increased 39 percent, to $680.6 million, in the first nine months of 1998.
Individual and group major medical premiums accounted for 15 percent of
this segment's premiums in the first nine months of 1998 compared with the 14
percent in 1997. Individual and group major medical premiums collected increased
3.4 percent, to $219.8 million, in the third quarter of 1998 and increased 30
percent, to $666.3, in the first nine months of 1998.
Other insurance premiums accounted for 2.0 percent of this segment's
premiums in the first nine months of 1998 compared with 1.3 percent in 1997.
Other insurance premiums collected increased 63 percent, to $21.9 million, in
the third quarter of 1998 and increased 91 percent, to $88.2, in the first nine
months of 1998.
See "Sales by Insurance Subsidiaries" for further analysis of insurance
premiums by product.
Average insurance liabilities, net of reinsurance receivables, in the third
quarter of 1998 were $24.7 billion, up 16 percent over 1997. Average insurance
liabilities, net of reinsurance receivables, in the first nine months of 1998
were $24.6 billion, up 18 percent over 1997.
Insurance policy income is comprised of premiums earned on the segment's
policies which provide mortality or morbidity coverage; and (ii) fees and other
charges made against other policies. Such income has increased consistent with
the explanations for premiums collected in "Sales by Insurance Subsidiaries."
Net investment income on general account invested assets (excluding income
on separate account assets related to variable annuities and excluding the
income and change in the fair value of S&P 500 Call Options related to
equity-indexed products) increased 14 percent, to $491.2 million, in the third
quarter of 1998 and increased 17 percent, to $1,469.0 million, in the first nine
months of 1998. This increase primarily reflects: (i) the increase in general
account invested assets acquired in conjunction with the recent acquisitions;
and (ii) fluctuations in income of limited partnerships and other investments.
Net investment income from the change in fair value of S&P 500 Call Options
is substantially offset by a corresponding charge to amounts added to
policyholder account balances for equity-indexed products. Such income and
related charge fluctuate based on the performance of the S&P 500 Index to which
the returns on such products are linked. Such amount for the third quarter of
1998 reflects the impact of recent declines in the S&P 500 Index.
Net investment income on separate account assets is offset by a
corresponding charge to amounts added to policyholder account balances for
variable annuity products. Such income and related charge fluctuate in
relationship to total separate account assets and the return earned on such
assets. Third quarter 1998 income reflects the impact of the recent declines in
market values of securities held in these accounts.
Insurance policy benefits increased in the third quarter of 1998 and in the
first nine months of 1998 primarily as a result of the amount of business in
force on which benefits are incurred.
The health loss ratios of several lines increased during the third quarter
of 1998, reflecting higher than expected claims in the major medical and
long-term care products distributed through independent agents. The increased
claims are attributable primarily to normal volatility and delays we are
experiencing in achieving regulatory approval for rate increases. We are taking
several steps to improve the profitability of these products including: (i)
continuing to aggressively pursue rate increases; (ii) implementing additional
case management strategies to better control the severity of long-term care and
major medical claims; and (iii) introducing new products which allow us to
better control claim costs.
Amounts added to policyholder account balances for interest expense on
annuity products increased 1.7 percent, to $183.3 million, in the third quarter
of 1998 and increased 5.6 percent, to $553.9 million, in the first nine months
of 1998 primarily due to a larger block of annuity business in force in the
first nine months of 1998, partially offset by a reduction in crediting rates.
The weighted average crediting rates for these annuity liabilities decreased .3
percentage points, to 4.6 percent, in the first nine months of 1998.
31
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
Amortization related to operations includes amortization of: (i) the cost
of policies produced; (ii) the cost of policies purchased; and (iii) goodwill
related to this segment's business. The amount of amortization increased
primarily because of the increase in balances subject to amortization as a
result of recent acquisitions.
The cost of policies produced represents costs that vary with, and are
primarily related to, the production of new business. Costs deferred may
represent amounts paid in the period new business is written (such as
underwriting costs and first year commissions) or in periods after the business
is written (such as commissions paid in subsequent years in excess of ultimate
commissions paid).
Interest expense on investment borrowings increased primarily as a result
of increased investment borrowing activities. Investment borrowings averaged
approximately $1.2 billion during the first nine months of 1998 compared to
$431.2 million during the same period of 1997.
Other operating costs and expenses increased in the 1998 periods compared
to 1997 primarily as a result of expenses of recently acquired companies.
Net investment gains (losses), net of related costs and amortization often
fluctuate from period to period. Selling securities at a gain and reinvesting
the proceeds at lower yields may, absent other management action, tend to
decrease future investment yields. We believe, however, that the following
factors mitigate the adverse effect of such decreases on net income: (i) we
recognized additional amortization of cost of policies purchased and cost of
policies produced in order to reflect reduced future yields (thereby reducing
such amortization in future periods); (ii) we can reduce interest rates credited
to some products, thereby diminishing the effect of the yield decrease on the
investment spread; and (iii) the investment portfolio grows as a result of
reinvesting the investment gains. As a result of the sales of fixed maturity
investments, the amortization of the cost of policies purchased and the cost of
policies produced increased $40.9 million and $43.8 million in the third quarter
of 1998 and 1997, respectively, and increased $155.5 million and $70.4 million
in the first nine months of 1998 and 1997, respectively.
32
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
Finance operations:
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
-------------------- -------------------
1998 1997 1998 1997
---- ---- ---- ----
(Dollars in millions)
<S> <C> <C> <C> <C>
Contract originations:
Manufactured housing and consumer finance......................... $ 2,050.7 $ 1,889.5 $ 5,529.0 $ 4,880.9
Mortgage and retail services...................................... 1,701.4 1,134.9 4,656.4 2,813.5
Commercial........................................................ 1,950.3 1,477.8 5,310.7 3,628.0
--------- --------- --------- ---------
Total........................................................... $ 5,702.4 $ 4,502.2 $15,496.1 $11,322.4
========= ========= ========= =========
Sales of receivables:
Manufactured housing.............................................. $ 1,650.0 $ 1,600.0 $ 4,206.5 $ 3,970.0
Home equity/home improvement...................................... 1,399.9 761.7 2,979.0 2,028.6
Consumer/equipment................................................ 800.0 488.2 1,574.5 1,215.5
Leases............................................................ 291.2 - 291.2 -
Commercial and retail revolving credit............................ 34.7 224.4 523.0 224.4
--------- --------- --------- ---------
Total........................................................... $ 4,175.8 $ 3,074.3 $ 9,574.2 $ 7,438.5
========= ========= ========= =========
Managed receivables (average):
Manufacturing housing and consumer finance........................ $21,797.8 $18,069.0 $20,755.9 $16,952.7
Mortgage and retail services...................................... 7,460.7 3,949.1 6,522.2 3,233.9
Commercial........................................................ 4,635.5 2,772.5 4,030.5 2,479.1
--------- --------- --------- ---------
Total........................................................... $33,894.0 $24,790.6 $31,308.6 $22,665.7
========= ========= ========= =========
Net investment income:
Finance receivables and other..................................... $ 59.2 $ 54.6 $ 175.8 $ 141.4
Interest-only securities.......................................... 34.2 32.7 103.8 88.9
Gain on sale of finance receivables.................................. 257.9 211.6 543.8 568.7
Fee revenue and other income......................................... 66.5 47.7 187.2 130.1
--------- --------- --------- ---------
Total revenues.................................................. 417.8 346.6 1,010.6 929.1
--------- --------- --------- ---------
Finance interest expense............................................. 56.6 45.2 160.3 111.4
Other operating costs and expenses................................... 158.4 111.5 443.8 307.2
--------- --------- --------- ---------
Total expenses.................................................. 15.0 156.7 604.1 418.6
--------- --------- --------- ---------
Operating income before income taxes, minority interest
and extraordinary charge...................................... 202.8 189.9 406.5 510.5
Nonrecurring charges................................................. - - 688.0 -
--------- --------- --------- ---------
Income (loss) before income taxes, minority interest and
extraordinary charge.......................................... $ 202.8 $ 189.9 $ (281.5) $ 510.5
========= ========= ========= =========
</TABLE>
General: This segment provides financing for manufactured housing, home
equity, home improvements, consumer products and equipment and provides consumer
and commercial revolving credit. The segment's financing products include both
fixed term and revolving loans and leases. The segment also markets physical
damage and term mortgage life insurance and other credit protection relating to
the loans it services.
Contract originations in the third quarter of 1998 were $5.7 billion, up 27
percent over 1997. Contract originations in the first nine months of 1998 were
$15.5 billion, up 37 percent over 1997.
33
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
Manufactured housing and consumer finance contract originations increased
$648.1 million, or 13 percent, during the first nine months of 1998 over 1997.
The number of contracts originated during the 1998 period increased 3.2 percent
to approximately 188,000 contracts and the average contract size increased 9.8
percent to approximately $29,000.
Mortgage and retail services contract originations increased $1.8 billion,
or 66 percent, during the first nine months of 1998 over 1997. The increase is
primarily the result of the segment's continued expansion of the home equity
retail origination network.
Commercial originations increased $1.7 billion, or 46 percent, during the
first nine months of 1998 over 1997. The increase reflects higher production in
all areas of commercial financing.
Sales of receivables occur when the segment sells finance receivables it
originates in secondary markets through securitizations. The total receivables
sold in a particular period is dependent on many factors including: (i) the
volume of recent originations; (ii) market conditions; and (iii) the
availability and cost of alternative financing. Total finance receivables sold
in the third quarter of 1998 increased 36 percent from 1997. Total finance
receivables sold in the first nine months of 1998 were up 29 percent over 1997.
Total finance receivables held by the Company were $3.3 billion at September 30,
1998, an increase of $1.3 billion over December 31, 1997, as a result of both:
(i) increases in the pace of originations; and (ii) the previously announced
change in our strategy to hold more loans for sale late in each quarter in order
to place them in the market early in the next quarter when the supply of
securitizations in the market is expected to be lower and the spreads are
expected to be better.
Managed receivables include finance receivables sold through
securitizations as well as finance receivables and retained interests in finance
receivables held by the Company. The average managed receivables serviced by the
segment increased to $33.9 billion in the third quarter of 1998, a 37 percent
increase over the same period in 1997 and increased 38 percent in the first nine
months of 1998.
Net investment income on finance receivables consists of interest earned on
the segment's unsold finance receivables and interest income on short-term and
other investments. Such income increased 8.4 percent, to $59.2 million, in the
third quarter of 1998 and increased 24 percent, to $175.8 million, in the first
nine months of 1998. The increases are consistent with the increases in average
finance receivables during the 1998 periods. The weighted average yield earned
on finance receivables was 8.4 percent and 10.7 percent during the first nine
months of 1998 and 1997, respectively. The decrease in 1998 primarily reflects
the establishment of additional provisions for uncollectible accounts.
Net investment income on interest-only securities represents the accretion
recognized on the interest-only securities retained when finance receivables are
sold. Such income increased 4.6 percent, to $34.2 million, in the third quarter
of 1998 and increased 17 percent, to $103.8 million, in the first nine months of
1998. The increases are consistent with the change in the average balance of
interest-only securities during the periods and the change in the discount rate
assumption used to value interest-only securities described below under gain on
sale of finance receivables. The weighted average yields earned on interest-only
securities were 11.8 percent and 10.1 percent during the first nine months of
1998 and 1997, respectively.
Gain on sale of finance receivables represents the difference between the
proceeds from the sale, net of related transaction costs, and the allocated
carrying amount of the receivables sold. The allocated carrying amount is
determined by allocating the original amount of the receivables between the
portion sold and any retained interests (securities classified as fixed
maturities, interest-only securities and servicing rights), based on their
relative fair values at the time of sale. Assumptions used in calculating the
estimated fair value of interest-only securities and servicing rights are
subject to volatility that could materially affect operating results.
Prepayments from competition, obligor mobility, general and regional economic
conditions and prevailing interest rates, as well as actual losses incurred, may
vary from the performance projected.
Gain on sale of finance receivables increased 22 percent, to $257.9
million, in the third quarter of 1998 and decreased 4.4 percent, to $543.8
million, in the first nine months of 1998. Such gain fluctuates when changes
occur in: (i) the amount of loans sold; (ii) market conditions; (iii) the amount
and type of interest retained in the receivables sold; and (iv) changes in
assumptions used to calculate the gain. Recent experience has indicated that
prepayment rates have exceeded expectations for loans sold in prior periods. In
addition, the market yields of publicly traded securities that are similar to
our interest-only securities increased during the second quarter, increasing the
market discount rate used when calculating gains. Assumptions used to determine
the gains in the 1998 periods reflect higher prepayment assumptions and higher
discount rates. Accordingly, the amount of gain as a percentage of closed end
loans sold has decreased to 6.23 percent in the third quarter of 1998 from 7.49
percent in the third quarter of 1997 and 6.53 percent in the first nine months
of 1998 compared to 7.93 percent in the first nine months of 1997.
34
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
Current conditions in the credit markets and resulting pricing of certain
lower rated securities have caused us to hold, rather than sell, certain
securities resulting from our securitizations. As a result, no gain on sale is
recognized on the securities held, thereby decreasing such gain in the current
quarter. However, the interest income on the securities held, net of related
interest expense, would increase income over the life of the securities held. In
addition, volatility in the asset-backed securities market has caused a
reduction in the profit we realized in our first securitization in the fourth
quarter of 1998. See "Liquidity for finance operations" for further information
concerning these matters.
Fee revenue and other income includes servicing income, commissions earned
on new insurance policies written and renewals on existing policies, as well as
other income from late fees. Such income increased 39 percent, to $66.5 million,
in the third quarter of 1998 and increased 44 percent, to $187.2 million, in the
first nine months of 1998. The increase reflects: (i) the growth in the
segment's servicing portfolio on which servicing income is earned; and (ii) the
increase in net written insurance premiums consistent with the growth of the
segment's managed receivables.
Finance interest expense increased 25 percent, to $56.6 million, in the
third quarter of 1998 and increased 44 percent, to $160.3 million, in the first
nine months of 1998. The increase primarily reflects increased borrowings to
fund loan originations, commercial revolving credit and lease portfolio
financings during the 1998 periods and an increase in our average inventory of
finance receivables, net of a decrease in our average borrowing rate. The
weighted average interest rates on our borrowings were 7.4 percent and 8.1
percent during the first nine months of 1998 and 1997, respectively.
Other operating costs and expenses include the costs associated with
servicing the segment's managed receivables and non- deferrable costs related to
the origination of new loans. Such expense increased 42 percent, to $158.4
million, in the third quarter of 1998 and increased 44 percent, to $443.8
million, in the first nine months of 1998. The increase reflects: (i) the growth
in the segment's servicing portfolio; and (ii) the increased volume of contracts
originated.
Nonrecurring charges include: (i) merger related costs (including
investment banking, accounting, legal and regulatory fees and other costs
associated with the Green Tree Merger) of $148 million; and (ii) a charge to
reduce the value of interest-only securities and servicing rights of $540
million.
During the second quarter of 1998, prepayments on loan contracts continued
to exceed expectations and management concluded that such prepayments might
continue to be higher than expected in future periods as well. In addition, the
market yields of publicly traded securities that are similar to our
interest-only securities increased during the quarter, decreasing the market
values of such investments. As a result of these developments, we concluded an
impairment in the value of the interest-only securities and servicing rights had
occurred, and a new value was determined using current assumptions. The new
assumptions reflect the following changes from the assumptions previously used:
(i) an increase in prepayment rates; (ii) an increase in the discount rate used
to determine the present value of future cash flows to 15 percent from 11
percent; and (iii) an increase in anticipated future rates of default. A $540
million charge to reduce the carrying value of the interest-only securities and
servicing rights (before income taxes of $190 million) was recognized in the
second quarter of 1998.
Other components of income before income taxes, minority interest and
extraordinary charge:
In addition to the income of the two operating segments, income before
income taxes, minority interest and extraordinary charge is affected by interest
and other corporate expenses.
Corporate interest and other expenses were $51.1 million in the third
quarter of 1998 and $29.4 million in the third quarter of 1997. Such expenses
were $133.9 million in the first nine months of 1998 and $88.5 million in the
first nine months of 1997. Interest expense included therein was $45.3 million
in the third quarter of 1998 and $24.7 million in the third quarter of 1997 and
$120.6 million in the first nine months of 1998 and $76.0 million in the first
nine months of 1997. Such expense fluctuates in relationship to the average debt
outstanding during each period and the interest rate thereon.
SALES BY INSURANCE SUBSIDIARIES
In accordance with GAAP, insurance policy income shown in our consolidated
statement of operations consists of premiums received for policies that have
life contingencies or morbidity features. For annuity and universal life
contracts without such features, premiums collected are not reported as
revenues, but rather are reported as deposits to insurance liabilities. Revenues
for these products are recognized over time in the form of investment income and
surrender or other charges assessed to the policy.
35
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
Total premiums collected by our insurance subsidiaries were as follows:
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
------------------- -------------------
1998 1997 1998 1997
---- ---- ---- ----
(Dollars in millions)
<S> <C> <C> <C> <C>
Life insurance:
First-year.......................................................... $ 36.2 $ 38.3 $ 115.4 $ 104.9
Renewal............................................................. 187.0 133.6 565.2 386.5
-------- -------- -------- --------
Total life insurance............................................ 223.2 171.9 680.6 491.4
-------- -------- -------- --------
Annuities:
Traditional fixed (first-year)...................................... 150.4 206.4 561.2 666.6
Traditional fixed (renewal)......................................... 8.6 16.9 42.7 60.5
-------- -------- -------- --------
Subtotal - traditional fixed annuities............................ 159.0 223.3 603.9 727.1
-------- -------- -------- --------
Market value-adjusted (first-year).................................. 11.8 35.9 75.4 134.1
Market value-adjusted (renewal)..................................... 1.2 3.0 7.1 11.5
-------- -------- -------- --------
Subtotal - market-value adjusted annuities........................ 13.0 38.9 82.5 145.6
-------- -------- -------- --------
Equity-indexed (first-year)......................................... 221.4 118.6 595.1 259.6
Equity-indexed (renewal)............................................ 3.5 - 12.9 -
-------- -------- -------- --------
Subtotal - equity-indexed annuities............................... 224.9 118.6 608.0 259.6
-------- -------- -------- --------
Variable (first-year)............................................... 77.1 34.6 190.3 76.5
Variable (renewal).................................................. 14.4 14.1 53.8 40.0
-------- -------- -------- --------
Subtotal - variable annuities..................................... 91.5 48.7 244.1 116.5
-------- -------- -------- --------
Total annuities................................................. 488.4 429.5 1,538.5 1,248.8
-------- -------- -------- --------
Supplemental health:
Medicare supplement (first-year).................................... 26.4 31.5 80.4 74.8
Medicare supplement (renewal)....................................... 190.6 169.4 573.0 494.8
-------- -------- -------- --------
Subtotal - Medicare supplement.................................... 217.0 200.9 653.4 569.6
-------- -------- -------- --------
Long-term care (first-year)......................................... 31.8 35.1 91.7 108.7
Long-term care (renewal)............................................ 152.3 128.8 448.3 374.4
-------- -------- -------- --------
Subtotal - long-term care......................................... 184.1 163.9 540.0 483.1
-------- -------- -------- --------
Specified disease (first-year)...................................... 10.2 11.3 31.4 34.2
Specified disease (renewal)......................................... 85.2 86.2 261.8 255.1
-------- -------- -------- --------
Subtotal - specified disease...................................... 95.4 97.5 293.2 289.3
-------- -------- -------- --------
Total supplemental health....................................... 496.5 462.3 1,486.6 1,342.0
-------- -------- -------- --------
Individual and group major medical:
Individual (first-year)............................................. 22.4 23.5 74.8 42.9
Individual (renewal)................................................ 60.6 39.3 172.5 88.8
-------- -------- -------- --------
Subtotal - individual............................................. 83.0 62.8 247.3 131.7
-------- -------- -------- --------
Group (first-year).................................................. 13.5 22.2 46.0 44.9
Group (renewal)..................................................... 123.3 127.6 373.0 334.4
-------- -------- -------- --------
Subtotal - group.................................................. 136.8 149.8 419.0 379.3
-------- -------- -------- --------
Total major medical............................................. 219.8 212.6 666.3 511.0
-------- -------- -------- --------
Other health (discontinued):
Other (first-year).................................................. 3.2 2.9 9.6 8.5
Other (renewal)..................................................... 18.7 10.5 78.6 37.6
-------- -------- -------- --------
Total - other................................................... 21.9 13.4 88.2 46.1
-------- -------- -------- --------
Total first-year premiums.............................................. 604.4 560.3 1,871.3 1,555.7
Total renewal premiums................................................. 845.4 729.4 2,588.9 2,083.6
-------- -------- -------- --------
Total collected insurance premiums.............................. $1,449.8 $1,289.7 $4,460.2 $3,639.3
======== ======== ======== ========
</TABLE>
36
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
Our recent acquisitions have a significant effect on premiums collected.
Total premiums collected for all currently consolidated companies for the three
months ended and nine months ended September 30, 1998 and 1997 (including
periods prior to ownership by Conseco) are provided below:
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
------------------ -------------------
1998 1997 1998 1997
---- ---- ---- ----
(Dollars in millions)
<S> <C> <C> <C> <C>
Life insurance:
First-year.......................................................... $ 36.2 $ 52.0 $ 115.4 $ 156.6
Renewal............................................................. 187.0 176.5 565.2 534.3
-------- -------- -------- --------
Total life insurance............................................ 223.2 228.5 680.6 690.9
-------- -------- -------- --------
Annuities:
Traditional fixed (first-year)...................................... 150.4 220.9 561.2 703.3
Traditional fixed (renewal)......................................... 8.6 19.7 42.7 72.4
-------- -------- -------- --------
Subtotal - traditional fixed annuities............................ 159.0 240.6 603.9 775.7
-------- -------- -------- --------
Market value-adjusted (first-year).................................. 11.8 35.9 75.4 134.1
Market value-adjusted (renewal)..................................... 1.2 3.0 7.1 11.5
-------- -------- -------- --------
Subtotal - market-value adjusted annuities........................ 13.0 38.9 82.5 145.6
-------- -------- -------- --------
Equity-indexed (first-year)......................................... 221.4 118.6 595.1 259.6
Equity-indexed (renewal)............................................ 3.5 - 12.9 -
-------- -------- -------- --------
Subtotal - equity-indexed annuities............................... 224.9 118.6 608.0 259.6
-------- -------- -------- --------
Variable (first-year)............................................... 77.1 34.5 190.3 76.4
Variable (renewal).................................................. 14.4 14.3 53.8 40.7
-------- -------- -------- --------
Subtotal - variable annuities..................................... 91.5 48.8 244.1 117.1
-------- -------- -------- --------
Total annuities................................................. 488.4 446.9 1,538.5 1,298.0
-------- -------- -------- --------
Supplemental health:
Medicare supplement (first-year).................................... 26.4 32.0 80.4 86.0
Medicare supplement (renewal)....................................... 190.6 181.5 573.0 575.9
-------- -------- -------- --------
Subtotal - Medicare supplement.................................... 217.0 213.5 653.4 661.9
-------- -------- -------- --------
Long-term care (first-year)......................................... 31.8 35.1 91.7 111.3
Long-term care (renewal)............................................ 152.3 129.2 448.3 381.9
-------- -------- -------- --------
Subtotal - long-term care......................................... 184.1 164.3 540.0 493.2
-------- -------- -------- --------
Specified disease (first-year)...................................... 10.2 11.3 31.4 34.2
Specified disease (renewal)......................................... 85.2 86.2 261.8 255.1
-------- -------- -------- --------
Subtotal - specified disease...................................... 95.4 97.5 293.2 289.3
-------- -------- -------- --------
Total supplemental health....................................... 496.5 475.3 1,486.6 1,444.4
-------- -------- -------- --------
Individual and group major medical:
Individual (first-year)............................................. 22.4 23.5 74.8 56.9
Individual (renewal)................................................ 60.6 39.3 172.5 119.9
-------- -------- -------- --------
Subtotal - individual............................................. 83.0 62.8 247.3 176.8
-------- -------- -------- --------
Group (first-year).................................................. 13.5 22.2 46.0 69.3
Group (renewal)..................................................... 123.3 127.6 373.0 384.5
-------- -------- -------- --------
Subtotal - group.................................................. 136.8 149.8 419.0 453.8
-------- -------- -------- --------
Total major medical............................................. 219.8 212.6 666.3 630.6
-------- -------- -------- --------
Other health (discontinued):
Other (first-year).................................................. 3.2 2.6 9.6 12.4
Other (renewal)..................................................... 18.7 27.4 78.6 111.0
-------- -------- -------- --------
Total - other................................................... 21.9 30.0 88.2 123.4
-------- -------- -------- --------
Total first-year premiums.............................................. 604.4 588.6 1,871.3 1,700.1
Total renewal premiums................................................. 845.4 804.7 2,588.9 2,487.2
-------- -------- -------- --------
Total pro forma collected insurance premiums.................... $1,449.8 $1,393.3 $4,460.2 $4,187.3
======== ======== ======== ========
</TABLE>
37
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
Life products are sold through career agents, professional independent
producers and direct response distribution channels. The life premiums collected
were significantly affected by the PFS Merger effective April 1, 1997, the
Colonial Penn Purchase effective September 30, 1997, and the WNIC Merger
effective December 1, 1997. Premiums collected by this segment in the third
quarter of 1998 were $223.2 million, up 30 percent over 1997. Premiums collected
in the first nine months of 1998 were $680.6 million, up 39 percent over 1997.
Such increases relates primarily to premiums collected by recently acquired
companies in periods after their acquisition. Excluding the effect of recent
acquisitions, life premiums have decreased in the 1998 periods as a result of
product changes designed to improve the profitability of these products.
Annuities generally include traditional fixed rate annuities, market
value-adjusted annuities, equity-indexed annuities and variable annuities sold
through both career agents and professional independent producers.
Traditional fixed rate annuity products include single-premium deferred
annuities ("SPDAs"), flexible-premiums deferred annuities ("FPDAs") and single-
premium immediate annuities ("SPIAs"), which are credited with a guaranteed
rate. SPDA and FPDA policies typically have an interest rate that is guaranteed
for the first policy year, after which we have the discretionary ability to
change the crediting rate to any rate not below a guaranteed minimum rate. The
interest rate credited on SPIAs is based on market conditions existing when a
policy is issued and remains unchanged over the life of the SPIA. The demand for
traditional fixed rate annuity contracts has decreased in recent years, as
relatively low interest rates have made other investment products more
attractive. Annuity premiums on these products decreased 29 percent, to $159.0
million, in the third quarter of 1998 and decreased 17 percent, to $603.9
million, in the first nine months of 1998.
We offer deferred annuity products with a "market value adjustment" feature
designed to provide additional protection from early terminations during a
period of rising interest rates by reducing the surrender value payable upon a
full surrender of the policy in excess of the allowable penalty-free withdrawal
amount. Conversely, during a period of declining interest rates, the market
value adjustment feature would increase the surrender value payable to the
policyholder. Annuity premiums collected with this feature represent 2.7 percent
and 9.1 percent of total annuity premiums collected during the third quarter of
1998 and 1997, respectively, and 5.4 percent and 12 percent of total annuity
premiums collected during the first nine months of 1998 and 1997, respectively.
In response to consumers' desire for alternative investment products with
returns linked to equities, we introduced an equity- indexed annuity product in
1996. The accumulation value of these annuities is credited with interest at an
annual minimum guaranteed rate of 3 percent (or, including the effect of
applicable sales loads, a 1.5 percent compound average interest rate over the
term of the contracts), but the annuities provide for higher returns based on a
percentage of the change in the S&P 500 Index during each year of their term. We
purchase S&P 500 Call Options in an effort to hedge potential increases to
policyholder benefits resulting from increases in the S&P 500 Index to which the
product's return is linked. Total collected premiums for this product were
$224.9 million in the third quarter of 1998 compared with $118.6 million in the
third quarter of 1997 and were $608.0 million in the first nine months of 1998
compared with $259.6 million in the first nine months of 1997.
Variable annuities offer contract holders a rate of return based on the
specific investment portfolios into which premiums may be directed. The
popularity of such annuities has increased recently as a result of the desire of
investors to invest in common stocks. In addition, in 1996, we began to offer
more investment options for variable annuity deposits, and we expanded our
marketing efforts, which resulted in increased collected premiums. Profits on
variable annuities are derived from the fees charged to contract holders rather
than from the investment spread. Variable annuity collected premiums increased
88 percent, to $91.5 million, in the third quarter of 1998 and increased 110
percent, to $244.1 million, in the first nine months of 1998.
Supplemental health products include Medicare supplement, long-term care
and specified disease insurance products distributed through a career agency
force and professional independent producers. Supplemental health premiums
collected were significantly affected by recent acquisitions (PFS, effective
April 1, 1997; and Colonial Penn, effective September 30, 1997). The
profitability of supplemental health policies largely depends on the overall
level of sales, persistency of in-force business, claim experience and expense
management.
Medicare supplement policies accounted for 44 percent of supplemental
health's collected premiums in the first nine months of 1998 compared with 42
percent in 1997. Collected premiums on Medicare supplement policies increased
8.0 percent, to $217.0 million, in the third quarter of 1998 and increased 15
percent, to $653.4 million, in the first nine months of 1998. Such increases
primarily reflect the recent acquisitions and rate increases. The sales of
Medicare supplement policies have been affected by: (i) steps taken to improve
profitability by increasing premium rates and changing the commission structure
and underwriting criteria for these policies; (ii) increased competition from
alternative providers, including HMOs; and (iii) reduced production in
Massachusetts due to our decision to cease writing new business in that state as
announced in the third quarter of 1997.
38
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
Premiums collected on long-term care policies increased 12 percent, to
$184.1 million, in the third quarter of 1998 and increased 12 percent, to $540.0
million, in the first nine months of 1998. The increase reflects increases in
premiums collected by recently acquired companies and the previously owned
companies.
Premiums collected on specified disease policies did not fluctuate
materially in the third quarter of 1998 or in the first nine months of 1998.
Individual and group major medical products include individual and group
major medical health insurance products. Premiums collected were significantly
affected by the PFS Merger. Group premiums decreased 8.7 percent, to $136.8
million, in the third quarter of 1998 and increased 10 percent, to $419.0
million, in the first nine months of 1998. Individual health premiums increased
to $83.0 million in the third quarter of 1998 compared with $62.8 million in the
third quarter of 1997 and increased to $247.3 million in the first nine months
of 1998 compared with $131.7 million in the first nine months of 1997. The
increase in this segment's premiums is principally a result of the PFS Merger.
Other health products include: (i) various other health insurance products
that are not currently being actively marketed; and (ii) in 1998, the specialty
health insurance products of WNIC marketed to educators through career agents.
Other health products collected in the third quarter of 1998 were $21.9 million,
up 63 percent over the third quarter of 1997. Premiums collected in the first
nine months of 1998 were $88.2 million, up 91 percent over the first nine months
of 1997. The increase in premiums collected in 1998 primarily relates to the
WNIC Merger in December of 1997. We do not emphasize the sale of many of the
other health products, and collected premiums are expected to decrease in future
years. However, the in-force business continues to be profitable.
LIQUIDITY AND CAPITAL RESOURCES
Changes in the consolidated balance sheet between December 31, 1997 and
September 30, 1998, reflect: (i) our operating results; (ii) the nonrecurring
charge of $498.0 million (net of income taxes of $190.0 million) related to
merger-related costs and the charge to reduce the value of interest-only
securities and servicing rights; (iii) our origination and sale of finance
receivables; (iv) changes in the fair value of actively managed fixed maturity
securities and interest-only securities (after giving effect to the
aforementioned charge); and (v) various financing transactions. Financing
transactions (described in the notes to the consolidated financial statements)
include: (i) common stock issuances and repurchases; (ii) the issuance and
repayment of notes payable and commercial paper; and (iii) issuance of
Company-obligated mandatorily redeemable preferred securities of subsidiary
trusts.
In accordance with Statement of Financial Accounting Standards No. 115,
Accounting for Certain Investments in Debt and Equity Securities ("SFAS 115"),
we record our actively managed fixed maturity investments and interest-only
securities at estimated fair value. At September 30, 1998, the carrying value of
such investments was increased by $387.0 million as a result of the SFAS 115
adjustment, compared with an increase of $519.6 million at December 31, 1997.
Minority interest at September 30, 1998, includes: (i) Company-obligated
mandatorily redeemable preferred securities of subsidiary trusts with a carrying
value of $1,872.9 million; and (ii) $.7 million interest in the common stock of
a subsidiary.
The decrease in shareholders' equity in the first nine months of 1998
resulted from: (i) repurchases of common stock for $271.2 million; (ii) the
decrease in net unrealized accumulated other comprehensive income of $48.0
million; and (iii) common and preferred stock dividends of $120.3 million. These
decreases were partially offset by: (i) net income of $203.0 million; (ii) the
issuance of common stock related to stock options and for agent and employee
benefit plans (including the tax benefit thereon) of $168.4 million; (iii) the
conversion of convertible debentures into common shares totaling $27.6 million;
and (iv) the issuance of warrants in conjunction with a financing transaction of
$7.7 million.
Dividends declared on common stock for the nine months ended September 30,
1998, were 39 cents per share. In July 1998, Conseco's Board of Directors
increased the quarterly cash dividend on the Company's common stock to 14 cents
per share from 12.5 cents per share, effective with the dividend payment to be
made October 1, 1998.
39
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
The following table summarizes certain financial ratios as of and for the
nine months ended September 30, 1998, and as of and for the year ended December
31, 1997:
<TABLE>
<CAPTION>
September 30, December 31,
1998 1997
---- ----
(Dollars in millions)
<S> <C> <C>
Book value per common share:
As reported............................................................................... $16.22 $16.45
Excluding unrealized appreciation (a)..................................................... 15.66 15.88
Ratio of earnings to fixed charges:
As reported............................................................................... 1.66X 2.45X
Excluding interest on annuities and financial product policyholder account balances
and interest expense on debt related to finance receivables and other investments (b)... 5.49X 13.00X
Ratio of earnings (excluding nonrecurring charge related to Green Tree) to fixed
charges (c):
As reported............................................................................. 2.43X 2.45X
Excluding interest on annuities and financial product policyholder account balances
and interest expense on debt related to finance receivables and other
investments (b)...................................................................... 10.71X 13.00X
Ratio of earnings to fixed charges, preferred dividends and distributions on
Company-obligated mandatorily redeemable preferred securities of subsidiary
trusts:
As reported............................................................................. 1.49X 2.20X
Excluding interest on annuities and financial product policyholder account balances
and interest expense on debt related to finance receivables and other investments (b). 3.08X 6.72X
Ratio of earnings (excluding nonrecurring charge related to Green Tree) to fixed
charges, preferred dividends and distributions on Company-obligated
mandatorily redeemable preferred securities of subsidiary trusts (c):
As reported............................................................................. 2.18X 2.20X
Excluding interest on annuities and financial product policyholder account balances
and interest expense on debt related to finance receivables and other investments (b). 5.99X 6.72X
Ratio of corporate debt to total capital (d):
As reported............................................................................... .30X .26X
Excluding unrealized appreciation (a)..................................................... .31X .27X
Ratio of corporate debt and Company-obligated mandatorily redeemable preferred
securities of subsidiary trusts to total capital (d) (e):
As reported............................................................................. .49X .42X
Excluding unrealized appreciation (a)................................................... .50X .43X
Rating agency ratios (d) (f) (g) (h) (i) (j):
Debt to total capital..................................................................... .28X .24X
Debt and preferred stock to total capital................................................. .42X .34X
<FN>
(a) Excludes the effect of reporting fixed maturities at fair value.
(b) These ratios are included to assist the reader in analyzing the impact of
interest on annuities and financial products (which is not generally
required to be paid in cash in the period it is recognized) and interest on
debt related to finance receivables and other investments. Such ratios are
not intended to, and do not, represent the following ratios prepared in
accordance with GAAP: the ratio of earnings to fixed charges; and the ratio
of earnings to fixed charges, preferred dividends and distributions on
Company- obligated mandatorily redeemable preferred securities of
subsidiary trusts.
(c) These ratios are included to assist the reader in analyzing the impact of
the $688 million nonrecurring charge (before taxes) recognized in the nine
month period ended September 30, 1998 related to the Green Tree Merger.
Such nonrecurring charge was comprised of $148 million of merger-related
costs (including investment banking, accounting, legal and regulatory fees)
and non-cash charges of $540 million to write down the carrying value of
Green Tree's interest-only securities and servicing rights. Such ratios are
not intended to, and do not, represent the following ratios prepared in
accordance with GAAP: the ratio of earnings to fixed charges; and the ratio
of earnings to fixed charges, preferred dividends and distributions on
Company-obligated mandatorily redeemable preferred securities of subsidiary
trusts.
40
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
(d) Excludes debt of finance segment used to fund finance receivables.
(e) Represents the ratio of corporate debt and the Company-obligated
mandatorily redeemable preferred securities of subsidiary trusts to the sum
of shareholders' equity, corporate debt, minority interest and
Company-obligated mandatorily redeemable preferred securities of subsidiary
trusts.
(f) Consistent with our discussions with rating agencies, the Company has
targeted: (i) the ratio of corporate debt to total capital to be at or
below 35 percent; and (ii) the ratio of corporate debt and preferred stock
to total capital to be at or below 49 percent.
These ratios are calculated in a manner discussed with rating agencies.
(g) Corporate debt is reduced by cash and investments held by non-life companies
other than finance companies.
(h) Assumes conversion of all convertible debentures.
(i) Assumes purchase of common shares under purchase contracts.
(j) Excludes accumulated other comprehensive income.
</FN>
</TABLE>
Liquidity for insurance and fee-based operations
Our insurance operating companies generally receive adequate cash flow from
premium collections and investment income to meet their obligations. Life
insurance and annuity liabilities are generally long-term in nature.
Policyholders may, however, withdraw funds or surrender their policies, subject
to surrender and withdrawal penalty provisions. We seek to balance the duration
of our invested assets with the estimated duration of benefit payments arising
from contract liabilities.
We believe that the diversity of the investment portfolio of our life
insurance subsidiaries and the concentration of investments in
high-quality-liquid securities provide sufficient liquidity to meet foreseeable
cash requirements.
Liquidity for finance operations
Our finance operations require continued access to the capital markets for
the warehousing and sale of finance receivables. To satisfy these needs, a
variety of capital resources are utilized.
Historically, the most important liquidity source for our finance
operations has been our ability to sell finance receivables in the secondary
markets through loan securitizations. Under certain securitized sales
structures, we have provided a variety of credit enhancements, which generally
take the form of corporate guarantees, but have also included bank letters of
credit, surety bonds, cash deposits and over collateralization or other
equivalent collateral. We analyze the cash flows unique to each transaction, as
well as the marketability and projected economic value of such transactions,
when choosing the appropriate structure for a securitized loan sale. The
structure of each securitized sale depends, to a great extent, on conditions of
the fixed income markets at the time of sale as well as cost considerations and
availability and effectiveness of the various enhancement methods. During the
first nine months of 1998, we used a senior/subordinated structure for each of
our seven manufactured housing loan sales and enhanced a portion of the
subordinated certificates sold with a corporate guarantee. During the first nine
months of 1998, two home equity and home improvement loan sales included two
separate but cross-collateralized loan pools while two were solely home equity
pools, all of which employed a senior/subordinated structure, three with a
limited guarantee on a portion of the subordinate certificates and the other
with over collateralization as a credit enhancement.
Late in the third quarter, liquidity in the credit markets became extremely
limited for many issuers. Recent rate reductions announced by the Federal
Reserve have resulted in some increased liquidity, but the credit markets are
still tight, especially the asset-backed markets into which we sell our finance
receivables. We believe the liquidity in this market has recently shown some
signs of improvement and will recover soon. This market is very large and fills
a need for many investors and therefore we believe it is unlikely to disappear.
We have been able to sell finance receivables through this market even under the
recent market conditions. In addition, we have access to bank credit, master
repurchase agreements and securitization lines that would enable us to continue
production of loans for some time, even if the asset-backed markets were not
available.
Our sale of consumer products, equipment finance and certain home equity
and home improvement loans during the first quarter of 1998 employed a
multi-class credit tranched grantor trust structure issuing fixed rate
certificates with a limited corporate guarantee
41
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
on the most subordinate class. In the second and third quarters of 1998, our
sale of consumer products and equipment finance loans utilized a multi-class
credit tranched owner trust structure issuing fixed and floating rate notes and
certificates with a limited corporate guarantee on the most subordinate class.
During the third quarter of 1998, we sold $291.3 million of small-ticket lease
receivables to a multi-seller commercial paper warehouse facility. Also during
the first nine months of 1998, we sold $50.0 million of private- label credit
card receivables and $473.0 million of floorplan receivables through two
separate revolving master trusts.
In some recent securitizations, we elected to hold certain lower rated
securities rather than sell them. We retained these securities because at
current market prices, we concluded we would rather own them than sell them. We
may also choose to retain additional securities from future securitizations if
market values do not return to levels we consider acceptable. We believe that we
have adequate sources of liquidity to continue to hold a reasonable quantity of
such securities while still maintaining current levels of loan originations;
however, holding these securities will result in reduced gains from the sale of
finance receivables and comparable increases in interest income spread earned
while the securities are held. In addition, volatility in the asset-backed
securities markets has caused a reduction in the profits we realized for the
securities we sold in our October 1998 securitization. While the amount of the
reduction in profits will not be determinable until additional information
regarding costs is known, we estimate the reduction to be approximately $10
million after tax, compared to the levels of profits recognized on a similar
securitization in the third quarter of 1998. The asset-backed securities markets
have improved somewhat since the October transaction, but it is unclear what
level of profitability will be achieved on future securitizations. Several
competing lenders have recently announced that they are no longer lending in
product lines that provide the majority of our new loans. Brokers who previously
expected to sell completed loans to such lenders have solicited bids from us and
others to purchase these loans. In addition, we and other lenders have recently
increased the interest rates charged on new loans. We are unable to estimate the
amount of increased business, if any, or the level of profitability thereon that
might result from these events.
There are an increasing number of circumstances in which we believe we
would obtain more value from our finance receivables by holding them directly,
by holding all or a portion of the securities issued in our securitizations, or
by using alternative methods of financing. We are studying the effect such a
strategy would have on our capital structure, liquidity, access to capital
markets, credit ratings, reported earnings and earnings per share.
Servicing fees and net interest payments collected on sold loans increased
during the nine-month period ended September 30, 1998 compared with the same
period in 1997. This growth is the result of our growing servicing portfolio.
Interest on unsold loans increased during the first nine months of 1998 compared
with the same period in 1997 as a result of the increase in the outstanding
finance receivables.
We currently have $4.0 billion in master repurchase agreements, subject to
the availability of eligible collateral, with various investment banking firms
for the purpose of financing our contract and commercial finance loan
production. The master repurchase agreements generally provide for annual terms
which are extended each quarter by mutual agreement of the parties for an
additional annual term based upon receipt of updated quarterly financial
information. At September 30, 1998, we have $.6 billion borrowed under the
repurchase agreements.
As of September 30, 1998, no commercial paper of Green Tree is outstanding.
We have curtailed this program in favor of master repurchase agreements, due to
rating actions by credit agencies early this year which lowered Green Tree's
senior unsecured debt ratings.
In addition, we have a $700 million line of credit secured by our
interest-only securities. This line of credit matures on February 12, 2000 with
an option to extend for an additional one year term. As of October 11, 1998,
there are no amounts borrowed under this facility.
Liquidity of Conseco (parent company)
The parent company is a legal entity, separate and distinct from its
subsidiaries, and has no business operations. The parent company needs cash for:
(i) principal and interest on debt; (ii) dividends on preferred and common
stock; (iii) distributions on the Company-obligated mandatorily redeemable
preferred securities of subsidiary trusts; (iv) holding company administrative
expenses; (v) income taxes; and (vi) investments in subsidiaries. The primary
sources of cash to meet these obligations include statutorily permitted payments
from our life insurance subsidiaries, including: (i) dividend payments; (ii)
surplus debenture interest and principal payments; (iii) tax sharing payments;
and (iv) fees for services provided. The parent company may also obtain cash by:
(i) issuing debt or equity securities; (ii) borrowing additional amounts under
its revolving credit agreement; or (iii) selling all or a portion of its
subsidiaries. These sources have historically provided adequate cash flow to
fund: (i) the needs of the parent company's normal operations; (ii) internal
expansion, acquisitions and investment opportunities; and (iii) the retirement
of debt and equity.
42
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
INVESTMENTS HELD BY INSURANCE SUBSIDIARIES
At September 30, 1998, the amortized cost and estimated fair value of fixed
maturity securities (all of which were actively managed) were as follows:
<TABLE>
<CAPTION>
Gross Gross Estimated
Amortized unrealized unrealized fair
cost gains losses value
---- ----- ------ -----
(Dollars in millions)
<S> <C> <C> <C> <C>
United States Treasury securities and obligations of
United States government corporations and agencies............. $ 533.6 $ 44.2 $ - $ 577.8
Obligations of states and political subdivisions
and foreign government obligations............................. 391.2 12.5 28.1 375.6
Public utility securities......................................... 1,669.2 93.6 33.9 1,728.9
Other corporate securities........................................ 13,418.0 506.0 384.7 13,539.3
Mortgage-backed securities........................................ 6,034.4 188.4 2.9 6,219.9
--------- ------ ------ ---------
Total fixed maturity securities ............................. $22,046.4 $844.7 $449.6 $22,441.5
========= ====== ====== =========
</TABLE>
The following table sets forth the investment ratings of fixed maturity
securities at September 30, 1998 (designated categories include securities with
"+" or "-" rating modifiers). The category assigned is the highest rating by a
nationally recognized statistical rating organization, or as to $873.3 million
fair value of fixed maturities not rated by such firms, the rating assigned by
the National Association of Insurance Commissioners ("NAIC"). For purposes of
the table, NAIC Class 1 securities are included in the "A" rating; Class 2,
"BBB"; Class 3, "BB" and Classes 4 to 6, "B and below."
<TABLE>
<CAPTION>
Percent of
Investment ------------------------------------
rating Fixed maturities Total investments
------ ---------------- -----------------
<S> <C> <C>
AAA................................... 32% 25%
AA.................................... 7 6
A..................................... 21 17
BBB................................... 30 23
--- --
Investment grade............... 90 71
--- --
BB.................................... 5 4
B and below........................... 5 4
--- --
Below investment grade......... 10 8
--- --
Total fixed maturities......... 100% 79%
=== ==
</TABLE>
At September 30, 1998, our below investment grade fixed maturity securities
had an amortized cost of $2,640.5 million and an estimated fair value of
$2,355.1 million.
During the first nine months of 1998 and 1997, we recorded $16.5 million
and $1.2 million, respectively, in writedowns of fixed maturity securities and
equity securities as a result of changes in conditions which caused us to
conclude that a decline in fair value of the investments was other than
temporary. At September 30, 1998, fixed maturity securities in default as to the
payment of principal or interest had an aggregate amortized cost of $28.1
million and a carrying value of $25.1 million.
Sales of invested assets (primarily fixed maturity securities) during the
first nine months of 1998 generated proceeds of $22.4 billion, and net
investment gains of $158.3 million. Sales of invested assets during the first
nine months of 1997 generated proceeds of $11.4 billion, and net investment
gains of $139.2 million. Net investment gains in the first nine months of 1997
also included $.7 million of writedowns related to mortgage loans.
43
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
At September 30, 1998, fixed maturity investments included $6.2 billion of
mortgage-backed securities (or 28 percent of all fixed maturity securities). The
yield characteristics of mortgage-backed securities differ from those of
traditional fixed-income securities. Interest and principal payments occur more
frequently, often monthly. Mortgage-backed securities are subject to risks
associated with variable prepayments. Prepayment rates are influenced by a
number of factors that cannot be predicted with certainty, including: the
relative sensitivity of the underlying mortgages backing the assets to changes
in interest rates; a variety of economic, geographic and other factors; and the
repayment priority of the securities in the overall securitization structures.
In general, prepayments on the underlying mortgage loans and the securities
backed by these loans increase when the level of prevailing interest rates
declines significantly relative to the interest rates on such loans.
Mortgage-backed securities purchased at a discount to par will experience an
increase in yield when the underlying mortgages prepay faster than expected.
These securities purchased at a premium that prepay faster than expected will
incur a reduction in yield. When interest rates decline, the proceeds from the
prepayment of mortgage-backed securities are likely to be reinvested at lower
rates than we were earning on the prepaid securities. When interest rates
increase, prepayments on mortgage-backed securities decrease as fewer underlying
mortgages are refinanced. When this occurs, the average maturity and duration of
the mortgage-backed securities increase, which decreases the yield on
mortgage-backed securities purchased at a discount, because the discount is
realized as income at a slower rate and increases the yield on those purchased
at a premium as a result of a decrease in the annual amortization of the
premium.
The following table sets forth the par value, amortized cost and estimated
fair value of mortgage-backed securities, summarized by interest rates on the
underlying collateral at September 30, 1998:
<TABLE>
<CAPTION>
Par Amortized Estimated
value cost fair value
----- ---- ----------
(Dollars in millions)
<S> <C> <C> <C>
Below 7 percent .................................................................. $2,964.2 $2,954.8 $3,034.8
7 percent - 8 percent............................................................... 2,243.4 2,230.9 2,314.9
8 percent - 9 percent............................................................... 444.8 443.4 456.5
9 percent and above................................................................. 395.9 405.3 413.7
-------- -------- --------
Total mortgage-backed securities............................................. $6,048.3 $6,034.4 $6,219.9
======== ======== ========
</TABLE>
The amortized cost and estimated fair value of mortgage-backed securities
at September 30, 1998, summarized by type of security, were as follows (dollars
in millions):
<TABLE>
<CAPTION>
Estimated fair value
--------------------------
Percent
Amortized of fixed
Type cost Amount maturities
- ---- ---- ------ ----------
(Dollars in millions)
<S> <C> <C> <C>
Pass-throughs and sequential and targeted amortization classes............ $3,742.0 $3,852.2 17%
Planned amortization classes and accretion-directed bonds................. 1,553.3 1,601.2 7
Support classes........................................................... 19.7 21.2 -
Accrual (Z tranche) bonds................................................. 12.7 13.9 -
Subordinated classes ..................................................... 706.7 731.4 4
-------- -------- --
$6,034.4 $6,219.9 28%
======== ======== ==
</TABLE>
Pass-throughs and sequential and targeted amortization classes have similar
prepayment variability. Pass-throughs historically provide the best liquidity in
the mortgage-backed securities market and provide the best price/performance
ratio in a highly volatile interest rate environment. This type of security is
also frequently used as collateral in the dollar-roll market. Sequential classes
pay in a strict sequence; all principal payments received by the collateralized
mortgage obligations ("CMOs") are paid to the sequential tranches in order of
priority. Targeted amortization classes provide a modest amount of prepayment
protection when prepayments on the underlying collateral increase from those
assumed at pricing. Thus, they offer slightly better call protection than
sequential classes or pass-throughs.
Planned amortization classes and accretion-directed bonds are some of the
most stable and liquid instruments in the mortgage-backed securities market.
Planned amortization class bonds adhere to a fixed schedule of principal
payments as long as the underlying mortgage collateral experiences prepayments
within a certain range. Changes in prepayment rates are first absorbed by
support
44
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
classes. This insulates the planned amortization classes from the consequences
of both faster prepayments (average life shortening) and slower prepayments
(average life extension).
Support classes absorb the prepayment risk from which planned amortization
and targeted amortization classes are protected. As such, they are usually
extremely sensitive to prepayments. Most of our support classes are
higher-average-life instruments that generally will not lengthen if interest
rates rise further, and will have a tendency to shorten if interest rates
decline. However, since these bonds have costs below their par values, higher
prepayments will have the effect of increasing yields.
Accrual bonds are CMOs structured such that the payment of coupon interest
is deferred until principal payments begin. On each accrual date, the principal
balance is increased by the amount of the interest (based upon the stated coupon
rate) that otherwise would have been payable. As such, these securities act much
the same as zero-coupon bonds until cash payments begin. Cash payments typically
do not commence until earlier classes in the CMO structure have been retired,
which can be significantly influenced by the prepayment experience of the
underlying mortgage loan collateral in the CMO structure. Because of the
zero-coupon element of these securities and the potential uncertainty as to the
timing of cash payments, their market values and yields are more sensitive to
changing interest rates than are other CMOs, pass-through securities and coupon
bonds.
Subordinated CMO classes have both prepayment and credit risk. The
subordinated classes are used to enhance the credit quality of the senior
securities, and as such, rating agencies require that this support not
deteriorate due to the prepayment of the subordinated securities. The credit
risk of subordinated classes is derived from the negative leverage of owning a
small percentage of the underlying mortgage loan collateral while bearing a
majority of the risk of loss due to homeowner defaults.
At September 30, 1998, the balance of mortgage loans was comprised of 97
percent commercial loans, 2 percent residual interests in collateralized
mortgage obligations and 1 percent residential loans. Less than 1 percent of
mortgage loans were noncurrent (loans which are two or more scheduled payments
past due) at September 30, 1998.
At September 30, 1998, we held $34.3 million of trading securities that are
included in other invested assets.
At September 30, 1998, other invested assets include $485 million of
investments held in a trust for the benefit of the purchasers of certain
investment products of our investment management subsidiary. Such invested
assets are largely offset by the liability account, "liabilities related to
deposit products," the value of which fluctuates in relationship to changes in
the values of the investments. Because we hold the residual interests in the
cash flows from the trust and actively manage its investments, we are required
to include the accounts of the trust in our consolidated financial statements.
Investment borrowings averaged approximately $1,158.5 million during the
first nine months of 1998, compared with approximately $431.2 million during the
same period of 1997 and were collateralized by investment securities with fair
values approximately equal to the loan value. The weighted average interest rate
on such borrowings was 5.7 percent and 5.6 percent during the first nine months
of 1998 and 1997, respectively.
STATUTORY INFORMATION
Statutory accounting practices prescribed or permitted for the Company's
insurance subsidiaries by regulatory authorities differ from generally accepted
accounting principles. The Company's life insurance subsidiaries reported the
following amounts to regulatory agencies at September 30, 1998, after
appropriate eliminations of intercompany accounts among such subsidiaries
(dollars in millions):
<TABLE>
<S> <C>
Statutory capital and surplus .................................. $1,593.6
Asset valuation reserve ("AVR")................................. 354.2
Interest maintenance reserve ("IMR")............................ 540.8
Portion of surplus debenture carried as a liability ............ 65.5
--------
Total........................................................ $2,554.1
========
</TABLE>
The ratio of such consolidated statutory account balances to consolidated
statutory liabilities (excluding AVR, IMR, the portion of surplus debentures
carried as a liability, liabilities from separate account business and
short-term collateralized borrowings) was 10.8 percent at both September 30,
1998, and December 31, 1997.
45
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
Combined statutory net income of the Company's life insurance subsidiaries
for the periods during which such subsidiaries were included in our consolidated
financial statements was $202.5 million and $204.9 million in the first nine
months of 1998 and 1997, respectively, after appropriate eliminations of
intercompany amounts among such subsidiaries, but before elimination of
intercompany amounts between such subsidiaries and non-life subsidiaries and the
parent company.
The statutory capital and surplus of the insurance subsidiaries include
surplus debentures issued to the parent holding companies totaling $759.5
million. Payments of interest and principal on such debentures are generally
subject to the approval of the insurance department of the subsidiary's state of
domicile. During the first nine months of 1998, our life insurance subsidiaries
made scheduled principal payments on surplus debentures of $63.7 million.
State insurance laws generally restrict the ability of insurance companies
to pay dividends or make other distributions. Net assets of the Company's wholly
owned life insurance subsidiaries, determined in accordance with GAAP,
aggregated approximately $7.8 billion at December 31, 1997. During the first
nine months of 1998, our life insurance subsidiaries paid ordinary dividends of
$48.3 million to the parent holding companies. During the remainder of 1998, the
life insurance subsidiaries may pay additional dividends of $116.8 million
without the permission of state regulatory authorities.
YEAR-2000 MATTERS
Many existing computer programs had been designed and developed to use only
two digits to identify a year in the date field. If not corrected, these
computer programs could cause system failures in the year 2000, with possible
adverse effects on our operations. In 1996, we initiated a comprehensive
corporate-wide program designed to ensure that our computer programs function
properly in the year 2000. A number of our employees (including several
officers), as well as external consultants and contract programmers, are working
on various year-2000 projects.
We also have been working with vendors and other external business
relations to help avoid year-2000 problems related to the software or services
they provide to us. Under the program, we are analyzing our application systems,
operating systems, hardware, networks, electronic data interfaces and
infrastructure devices (such as facsimile machines and telephone systems).
Our year-2000 projects are currently on schedule. We are conducting our
year-2000 projects in three phases: (i) an audit and assessment phase, designed
to identify year-2000 issues; (ii) a modification phase, designed to correct
year-2000 issues; and (iii) a testing phase, designed to test the modifications
after they have been installed. We have completed the audit and assessment phase
for all critical systems. We expect to substantially complete the second phase
of our program for our insurance subsidiaries' projects by the end of 1998 and
to substantially complete our finance subsidiaries' projects by the end of the
second quarter of 1999. The testing phase of our program will be conducted
throughout 1999. We have provided for significant contingency time in order to
complete any additional modifications before December 31, 1999.
We are addressing our year-2000 issues in three ways. For some, we are
working to complete the previously planned conversions of older systems to the
more modern, year-2000-compliant systems already used in other areas of the
Company. In other cases, we are purchasing new, more modern systems; these costs
are being capitalized as assets and amortized over their expected useful lives.
In the remaining cases, we are modifying existing systems; these costs are being
charged to operating expense.
We currently estimate that the total expense of our year-2000 projects will
be approximately $67 million (including the year-2000 costs of our recently
acquired finance subsidiaries). These costs are not material to Conseco's
financial position and we are funding them through operating cash flows.
Approximately 60 percent of these costs were incurred in 1996, 1997 and the
first nine months of 1998; these costs related primarily to modifying or
replacing existing software systems.
The impact of year-2000 issues will depend, not only on the corrective
actions we take, but also on the way in which year-2000 issues are addressed by
governmental agencies, businesses and other third parties (i) that provide
services, utilities or data to the Company; (ii) that receive services or data
from the Company; or (iii) whose financial condition or operating capability is
important to the Company. We are in the process of identifying risks and
assessing potential year-2000 risks associated with our external business
relationships, including those with agents and financial institutions. These
procedures are necessarily limited to matters over which we are able to
reasonably exercise control. We have been informed by our key financial
institutions and utilities that they will be year-2000 compliant in early 1999.
46
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
We are also assessing what contingency plans will be needed if any of our
critical systems or those of external business relationships are not year-2000
compliant at year-end 1999. We do not currently anticipate such a situation, but
our consideration of contingency plans will continue to evolve as new
information becomes available.
Our year-2000 projects are the highest priority for our information
technology employees. Other projects continue while our year-2000 projects are
being completed, however, in many cases, we have accelerated system upgrades
when the new systems address year-2000 issues.
The failure to correct a material year-2000 problem could result in an
interruption in, or failure of, a number of normal business activities or
operations. Such failures could materially and adversely affect the Company's
results of operations, liquidity and financial condition. Due to the general
uncertainty inherent in the year-2000 problem, including the uncertainty of the
preparedness of our external business relationships, we are not able to
currently determine whether the consequences of year-2000 failures will have a
material impact on the Company's results of operations, liquidity and financial
condition. However, we believe our year-2000 compliance efforts will reduce the
likelihood of a material adverse impact.
FORWARD-LOOKING STATEMENTS
All statements, trend analyses and other information contained in this
report and elsewhere (such as in other filings by Conseco or Green Tree with the
Securities and Exchange Commission, press releases, presentations by Conseco or
its management or oral statements) relative to markets for Conseco's products
and trends in Conseco's operations or financial results, as well as other
statements including words such as "anticipate," "believe," "plan," "estimate,"
"expect," "intend," and other similar expressions, constitute forward-looking
statements under the Private Securities Litigation Reform Act of 1995. These
forward-looking statements are subject to known and unknown risks, uncertainties
and other factors which may cause actual results to be materially different from
those contemplated by the forward-looking statements. Such factors include,
among other things: (i) general economic conditions and other factors, including
prevailing interest rate levels, stock and credit market performance and health
care inflation, which may affect (among other things) the ability of Conseco to
sell its products, its ability to make loans and access capital resources and
the costs associated therewith, the market value of Conseco's investments, the
lapse rate and profitability of policies and the level of defaults and
prepayments of loans made by Conseco; (ii) Conseco's ability to achieve
anticipated synergies and levels of operational efficiencies; (iii) customer
response to new products, distribution channels and marketing initiatives; (iv)
mortality, morbidity, usage of health care services and other factors which may
affect the profitability of Conseco's insurance products; (v) changes in the
Federal income tax laws and regulations which may affect the relative tax
advantages of some of Conseco's products; (vi) increasing competition in the
sale of insurance and annuities and in the finance business; (vii) regulatory
changes or actions, including those relating to regulation of financial services
affecting (among other things) bank sales and underwriting of insurance
products, regulation of the sale, underwriting and pricing of insurance
products, and health care regulation affecting health insurance products; (viii)
the ability to achieve Year 2000 readiness for significant systems and
operations on a timely basis; (ix) the availability and terms of future
acquisitions; and (x) the risk factors or uncertainties listed from time to time
in Conseco's filings with the Securities and Exchange Commission.
ITEM 3. MARKET-SENSITIVE INSTRUMENTS AND RISK MANAGEMENT
Our market risks, and the way we manage them, are summarized in the
supplemental management's discussion and analysis of financial condition and
results of operations as of December 31, 1997, included in Exhibit 99.1 to the
Company's Current Report on Form 8-K dated June 30, 1998, as amended. During the
second quarter of 1998, prepayment rates on securitized loan contracts continued
to exceed management's expectations. In addition, market yields of publicly
traded securities similar to our interest-only securities increased. As a result
of these developments, we recognized a $350 million charge (net of income taxes
of $190 million) to reduce the carrying value of interest-only securities and
servicing rights was recognized in the second quarter of 1998. As discussed
under "Liquidity for finance operations", liquidity in asset-backed markets into
which we sell our finance receivables tightened in the third quarter of 1998. We
currently have access to bank credit, master repurchase agreements and
securitization lines that would enable us to continue production of loans for
some time, even if the asset-backed markets disappeared. We are continuing to
explore other alternatives to provide the necessary liquidity for our finance
operations. There have been no other material changes to such risks or our
management of such risks.
47
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Green Tree has been served with various related lawsuits which were filed
in the United States District Court for the District of Minnesota. These
lawsuits were filed as purported class actions on behalf of persons or entities
who purchased common stock or options of Green Tree during the alleged class
periods that generally run from February 1995 to January 1998. One such action
did not include class action claims. In addition to Green Tree, certain current
and former officers and directors of Green Tree are named as defendants in one
or more of the lawsuits. Green Tree and other defendants have obtained an order
from the United States District Court for the District of Minnesota
consolidating the lawsuits seeking class action status into two actions: one
which pertains to a purported class of common stockholders and the other which
pertains to a purported class of stock option traders. Plaintiffs in the
lawsuits assert claims under Sections 10(b) and 20(a) of the Securities Exchange
Act of 1934. In each case, plaintiffs allege that Green Tree and the other
defendants violated federal securities laws by, among other things, making false
and misleading statements about the current state and future prospects of Green
Tree (particularly with respect to prepayment assumptions and performance of
certain loan portfolios of Green Tree) which allegedly rendered Green Tree's
financial statements false and misleading. The Company believes that the
lawsuits are without merit and intends to defend such lawsuits vigorously. Green
Tree has filed a motion to dismiss the lawsuits, which is pending.
The Company and its subsidiaries are involved on an ongoing basis in
lawsuits related to its operations. Although the ultimate outcome of certain of
such matters cannot be predicted, none of such lawsuits currently pending
against the Company or its subsidiaries is expected, individually or in the
aggregate, to have a material adverse effect on the Company's consolidated
financial condition, cash flows or results of operations.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
a) Exhibits.
10.8.11 Amended and Restated Director, Officer and Key Employee
Stock Purchase Plan of Conseco, Inc.
12.1 Computation of Ratio of Earnings to Fixed Charges,
Preferred Dividends and Distributions on Company-
obligated Mandatorily Redeemable Preferred Securities of
Subsidiary Trusts
27.0 Financial Data Schedule
b) Reports on Form 8-K.
A report on Form 8-K dated August 24, 1998, was filed with the
Commission to report under Item 5, the closing of the public
offering by Conseco Financing Trust V of 20 million 8.70% Trust
Originated Preferred Securities.
48
<PAGE>
CONSECO, INC. AND SUBSIDIARIES
--------------------
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
CONSECO, INC.
Dated: November 13, 1998 By: /s/ ROLLIN M. DICK
------------------
Rollin M. Dick
Executive Vice President and
Chief Financial Officer
(authorized officer and principal
financial officer)
49
AMENDED AND RESTATED
DIRECTOR, OFFICER AND KEY EMPLOYEE
STOCK PURCHASE PLAN
OF CONSECO, INC.
1. PURPOSE. The Amended and Restated Director, Officer and Key Employee
Stock Purchase Plan (the "Plan"), of Conseco, Inc. ("Conseco"), is
adopted to facilitate the purchase, by the Directors, executives and
senior managers of Conseco and its subsidiaries (collectively, the
"Company"), of Conseco's common stock ("Common Stock") and Conseco's
Preferred Redeemable Increased Dividend Equity Securities, 7% PRIDES,
Convertible Preferred Stock ("PRIDES"). The purchases facilitated by
the Plan are intended to achieve the following specific purposes:
a) more closely align key employees' financial rewards
with the financial rewards realized by all other
shareholders of the Company;
b) increase key employees' motivation to manage the
Company as owners; and
c) increase the ownership of Common Stock and PRIDES
among senior management of the Company.
2. ELIGIBILITY. To be eligible to participate in the Plan, the individual
must be: (a) a non-employee Director of the Company or an executive
officer of the Company; or (b) an officer of or a key employee of the
Company selected by the Directors or by the Chief Executive Officer of
Conseco ("Eligible Participant").
3. PARTICIPATION. To become a Plan participant ("Participant"), an
Eligible Participant must satisfy the following requirements:
a) submit a completed, signed and irrevocable election
to purchase (i) in the case of Directors and
executive officers of the Company, a portion of the
Common Stock or PRIDES which the Eligible Participant
is eligible to purchase under the Plan or (ii) in the
case of any other Eligible Participants a specified
amount (or one of multiple
<PAGE>
specified amounts) which such Eligible Participant is
entitled to purchase under the Plan and as set forth
in the election form or accompanying materials
furnished to such Eligible Participant by the Company
in each case along with a power of attorney
authorizing such purchases on the Participant's
behalf;
b) complete and sign all necessary agreements and other
documents relating to the loan described in Section 4
hereof including, but not limited to, personal
financial statements, letters of instruction to
brokers, transfer agents and banks as are necessary
or appropriate under the loan described in Section 4
hereof, and a power of attorney authorizing
borrowings under such loan; and
c) satisfy all other conditions of participation
specified in the Plan.
The agreements and other documents specified in subsections 3 (a), (b)
and (c) must be submitted at such times and to such Company offices as
specified by the Company. No Eligible Participant is required to
participate in the Plan.
Directors and executive officers may purchase up to 2,600,000 shares of
Common Stock under the Plan. Officers and key employees electing to
become Participants must purchase at least 5,000 shares of Common
Stock. Up to 12,500,000 shares of Common Stock may be purchased by all
Participants. Directors and executive officers shall have the right to
purchase shares not purchased by other Participants in such amount as
is determined by the pro rata amount of their participation in the Plan
compared to the participation of the other Participants electing to
purchase additional shares. All such purchases may be made by the
individual Participant or by a trust, corporation, partnership or
limited liability company controlled by the Participant ("Participant
Designee"; the term Participant shall include Participant Designee
unless the context otherwise requires).
4. PURCHASE OF SHARES. Conseco, in its sole discretion subject to the
terms and provisions of the Plan, will determine the timing, amount,
price and mechanics of all of the purchases of shares of Common Stock
(the "Purchased Shares") through open market and negotiated
transactions. Purchases of Purchased Shares shall be effected through a
broker in accordance with
2
<PAGE>
Rule 10b-18 under the Securities Exchange Act of 1934. The shares of
Common Stock purchased pursuant to the Plan will be allocated
proportionately among Participants at the end of each trading day based
upon the percentage of all of the shares of Common Stock Participants
have elected to purchase and the average price for all purchases of
shares of Common Stock on that day. Notwithstanding the foregoing,
directors and executive officers may, with the consent of the Chief
Executive Officer of Conseco, have certain specified purchases made by
them allocated exclusively to such Participant's account, rather than
the standard pro-rata allocation to all Participants and such purchases
may be made through this Plan without waiting for the overall purchases
in such Plan to be made.
Conseco has arranged the opportunity for each Participant to obtain a
loan through Bank of America National Trust and Savings Association and
other participating financial institutions (collectively, the "Bank")
to fund the purchase of the Purchased Shares (the "Loan"). Each
Participant must sign a power of attorney authorizing loans under the
Credit Agreement with the Bank and the purchase of the Purchased
Shares. Each Participant is responsible for satisfying all of the
lending requirements specified by the Bank to qualify for the Loan
including all collateral requirements. Each Participant is fully
obligated to repay to the Bank all principal, interest, and any
prepayment fees on the Loan when due and payable.
In the event a Participant does not wish to obtain the Loan, the
Participant shall provide sufficient funds to fund the purchase of the
Purchased Shares. Such Participant must execute a power of attorney
authorizing the purchase of the Purchased Shares. If the Participant
fails to fund the purchase of the Purchased Shares, the Participant may
no longer participate in the Plan, and all of the Purchased Shares not
paid for will be allocated to the other Participants.
5. REGISTRATION OF SHARES. The Purchased Shares will be registered in the
name of the Participant or his or her designee and certificated. Each
certificate will bear a legend referring to the Plan. The certificates
for the Purchased Shares of each Participant who participates in the
Loan will be held by the Bank as collateral for the Loan. Each such
Participant must deliver to the Bank a stock power endorsed in blank
with respect to the Purchased Shares. A Participant may be able to
obtain a release of the Purchased Shares from the Bank provided that
other collateral of equal value is substituted as collateral for the
Loan.
3
<PAGE>
6. SHAREHOLDER RIGHTS. Each Participant will have all of the rights of
rights of a shareholder with respect to the Purchased Shares, including
the right to vote the shares and the right to receive dividends. Any
dividends in excess of required interest payments will be deposited to
the Participant's account at the Bank.
7. SALE OF PURCHASED SHARES. Each Participant is permitted to sell all or
any portion of the Purchased Shares; provided, that any such sale does
not violate any provision of a Loan.
8. DEATH OR DISABILITY. Upon the death of a Participant, her or his estate
or the Participant Designee, as the case may be, may elect to cause
Conseco to pay the estate or the Participant Designee, as the case may
be, an amount equal to the balance of the Participant's Loan minus the
value of such shares based upon the closing price of Common Stock on
the New York Stock Exchange on the first trading date after the date of
death. The estate or the Participant Designee, as the case may be, of a
deceased Participant must make such election, in writing, within 30
days after written notice from Conseco. Upon the total and permanent
disability of a Participant who is an employee of the Company, such
disabled Participant may elect to cause Conseco to pay the Participant
an amount equal to the balance of the Participant's Loan minus the
value of such shares based upon the closing price of Common Stock on
the New York Stock Exchange on the first trading date after the final
date of employment. The Participant must make such election, in
writing, within 30 days after written notice from Conseco. "Total and
permanent disability" means the inability of a Participant to provide
meaningful service for the Company due to a medically determinable
physical or mental impairment. Such determination of total and
permanent disability shall be made by the Company. Notwithstanding the
above, if a Participant qualifies for Federal Social Security
disability benefits or for payments under the Company's long-term
disability income plan, based upon his physical or mental condition, he
shall be deemed to suffer from a total and permanent disability
hereunder. This Section 8 has no effect on a deceased or disabled
Participant's sale of Purchased Shares before the Participant's death
or disability. Payment by Conseco of amounts described in this Section
8 is conditioned on the payment in full of the Participant's Loan (if
any), the release of the Company's guarantee with respect thereto, and
the payment in full of the Interest Payment Loan. This Section 8 will
terminate January 1, 2001.
4
<PAGE>
9. LOAN GUARANTEE. Conseco will guarantee repayment to the Bank of 100%
of all principal, interest, prepayment fees and other obligations of
each Participant under such Participant's Loan described in Section 4.
The Conseco loan guaranty is a condition to the loan arrangement
Conseco has made with the Bank. The terms and conditions of the
guarantee are as agreed by Conseco and the Bank. If a Participant
specifies a Participant Designee, the Participant shall enter into an
indemnification agreement to indemnify Conseco for any losses under the
guaranty of the Loan with respect to the Participant Designee. Each
Participant is fully obligated to repay to the Bank all principal,
interest, and other amounts on the Loan when due and payable. Conseco
may take any action relating to the Participant and her or his assets,
which the Board of Directors deems reasonable and necessary,
(including, but not limited to, offsetting amounts owed to Conseco
against wages, fees or other amounts owed to the Participant from
Conseco) to obtain full reimbursement for amounts Conseco pays to the
Bank under its guaranty related to the Participant's or a Participant
Designee's Loan ("Loan Default"). Notwithstanding the foregoing,
Conseco will not be subrogated to any right of the Bank as a holder of
a security interest in the Purchased Shares.
10. LOAN OF INTEREST PAYMENTS. At the discretion of the Directors, Conseco
or one of its subsidiaries (the "Lender") may loan funds to the
Participants equal to the amount of current interest payments owed by
the Participants pursuant to the Credit Agreement (the "Interest
Payment Loans"). All Interest Payment Loans shall be evidenced by
promissory notes, the terms and conditions of which shall be determined
at the sole discretion of the Lender. If a Participant specifies a
Participant Designee, the Participant shall enter into an
indemnification agreement to indemnity the Lender for any losses under
the Interest Payment Loan.
11. MARGIN REGULATIONS.
(a) None of the obligations of the Participants to Conseco or
one of its subsidiaries (collectively, Conseco and its subsidiaries
shall be referred to as "Conseco" for the purposes of this Section 11)
hereunder is or will be secured, directly or indirectly, by Margin
Stock (as such term is defined in Regulation U and Regulation G
promulgated by the Board of Governors of the Federal Reserve System);
5
<PAGE>
(b) Neither Conseco nor any third party acting on behalf of
Conseco has taken or will take possession of a Participant's Margin
Stock to secure, directly or indirectly, any of the obligations of such
Participant to Conseco;
(c) Conseco does not and will not have any right to prohibit
such Participant from selling, pledging, encumbering or otherwise
disposing of any Margin Stock owned by such Participant so long as the
obligations of such Participant under this Plan remain outstanding;
(d) Such Participant has not granted and will not grant
Conseco or any third party acting on behalf of Conseco the right to
accelerate repayment of any of the obligations under this Plan of such
Participant if any of the Margin Stock owned by such Participant is
sold by such Participant or otherwise; and
(e) There is no agreement or other arrangement between such
Participant and Conseco or any third party acting on behalf of Conseco
(and no such agreement or arrangement shall be entered into so long as
this Plan is in effect or any of the obligations of such Participant
under this Plan remain outstanding) under which the Margin Stock of
Participant would be made more readily available as security to Conseco
than to other creditors of such Participant.
12. CHANGES OF CONTROL. A "Change of Control" of Conseco shall mean a
change of control of a nature that would be required to be reported in
response to Item 6(e) of Schedule 14A of Regulation 14A promulgated
under the Securities Exchange Act of 1934 (the "1934 Act") as revised
effective January 20, 1987, or if Item 6(e) is no longer in effect, any
regulations issued by the Securities and Exchange Commission pursuant
to the 1934 Act which serve similar purposes; provided, that, without
limitations, (x) such a change of control shall be deemed to have
occurred if and when either (A) except as provided in (y) below, any
"person" (as such terms is used in Sections 13(d) and 14(d) of the 1934
Act) is or becomes a "beneficial owner" (as such term is defined in
Rule 13d-3 promulgated under the 1934 Act), directly or indirectly, of
securities of Conseco representing 25% or more of the combined voting
power of Conseco's then outstanding securities entitled to vote with
respect to the election of its Board of Directors or (B) as the result
of a tender offer, merger, consolidation, sale of assets, or contest
for election of directors, or any
6
<PAGE>
combination of the foregoing transactions or events, individuals who
were members of the Board of Directors of Conseco immediately prior to
any such transaction or event shall not constitute a majority of the
Board of Directors following such transaction or event, and (y) no such
change of control shall be deemed to have occurred if and when either
(A) any such change is the result of a transaction which constitutes a
"Rule 13e-3 transaction" as such term is defined in Rule 13e-3
promulgated under the 1934 Act or (B) any such person becomes, with the
approval of the Board of Directors of Conseco, the beneficial owner of
securities of Conseco representing 25% or more but less than 50% of the
combined voting power of Conseco's then outstanding securities entitled
to vote with respect to the election of its Board of Directors and in
connection therewith represents, and at all times continues to
represent, in a filing, as amended, with the Securities and Exchange
Commission on Schedule 13D or Schedule 13G (or any successor Schedule
thereto) that "such person has acquired such securities for investment
and not with the purpose nor with the effect of changing or influencing
the control of the Company, nor in connection with or as a participant
in any transaction having such purpose or effect" or words of
comparable meaning and import. The designation by any such person, with
the approval of the Board of Directors of Conseco, of a single
individual to serve as a member of, or observer at meetings of,
Conseco's Board of Directors, shall not be considered "changing or
influencing the control of the Company" within the meaning of the
immediately preceding clause (B), so long as such individual does not
constitute at any time more than one-third of the total number of
directors serving on such Board. In the event of a Change of Control,
each Participant will receive in exchange for the Purchased Shares the
higher of (i) the purchase price paid for all of each Participant's
Purchased Shares, respectively, plus all interest paid by each
respective Participant under the Loan or (ii) the amount of the
consideration to be paid for the Purchased Shares in connection with
the Change of Control. Such amount shall be paid to the Participants
upon consummation of the event resulting in a Change of Control.
13. OTHER TERMINATION. If a Participant ceases to be a Director, officer or
employee of Conseco in circumstances other than as described in section
12, Conseco shall notify the Participant or Participant Designee that
such Participant or Participant Designee shall have the option to
either (i) within 30 days of the notice, retire the Loan and release
Conseco's guaranty or
7
<PAGE>
(ii) continue the Loan and the Interest Payment Loan until their
maturity date with Conseco's guaranty, but commence paying all future
interest payments on such Loans as due.
If the Participant desires Conseco's guaranty to continue, he or she
agrees that, as compensation for continuing such guaranty beyond the
termination of such Participant's employment or directorship, as the
case may be, the former Participant shall pay to Conseco the following
fees:
(a) A continuing guaranty fee on the outstanding note
balance at each calendar quarter end to be paid at
the rate of .5% each quarter.
(b) A settlement fee equal to half of the "Exit Profit".
Profit". The Exit Profit shall be the excess, if any,
of (i) the proceeds received from the sale of the
Related Shares (as defined herein) or the market value
of the Related Shares on the date the guaranty is
released, whichever occurs first minus (ii) the sum of
(x) the market value of the Related Shares at the
Participant's termination date and (y) the interest
accrued on the Loan since the termination date for the
Related Shares. The "Related Shares" means the number
of Purchased Shares acquired with the proceeds of the
remaining principal amount of the loan at the date of
termination of employment.
14. ADMINISTRATION. The Board of Directors of Conseco shall be charged
with the administration and interpretation of the Plan but may delegate
the ministerial duties hereunder to such persons as it determines. The
Board of Directors of Conseco may adopt such rules as may be necessary
or appropriate for the proper administration of the Plan. The decision
of the Board of Directors of Conseco in all matters involving the
interpretation and application of the Plan shall be final and shall be
given the maximum possible deference allowed by law.
15. PAYMENT OF EXPENSES. The expenses of administering the Plan shall be
paid by the Company except those expenses which are expenses of the
Participants.
16. EMPLOYER-EMPLOYEE RELATIONSHIP. The establishment of this Plan shall
not be construed as conferring any legal or other rights upon any
employee or any person for a continuation of employment, nor shall it
interfere with the rights of the
8
<PAGE>
Company to discharge any employee or otherwise act with relation to the
employee. The Company may take any action (including discharge) with
respect to any employee or other person and may treat such person
without regard to the effect which such action or treatment might have
upon such person as a Participant of this Plan.
17. AMENDMENT AND TERMINATION. The Company reserves the right to change or
discontinue this Plan by action of the Board of Directors in its
discretion; provided, however, that in the case of any person to whom
benefits under this Plan had accrued upon termination of employment
prior to such Board of Directors action, or in the case of any
Participant who would have been entitled to benefits under this Plan
had the Participant's employment ceased prior to such change or
discontinuance, the benefits such person had accrued under this Plan
prior to such change or discontinuance shall not be adversely affected
thereby.
Notwithstanding anything herein to the contrary, nothing contained
herein shall restrict the Company's right to terminate the Plan.
This Plan completely supersedes and restates the Amended and Restated
Director, Executive and Senior Officer Stock Purchase Plan of Conseco,
Inc. dated August 21, 1997.
18. WITHHOLDING. The Company shall have the right to deduct in cash
(whether under this Plan or otherwise) in connection with all payments
by the Company to a Participant under this Plan any taxes required by
law to be withheld and to require any payments required to enable it to
satisfy its withholding obligations.
19. GOVERNING LAW. This Plan shall be construed in accordance with the
laws of the State of Indiana.
20. APPROVAL. If a Participant purchases Purchased Shares, such purchase
shall constitute formal approval of this Plan by the Participant and
such Participant's agreement to be bound by the terms and conditions of
the Plan.
Effective Date: July 30, 1998
9
<TABLE>
<CAPTION>
CONSECO, INC. AND SUBSIDIARIES
Computation of Ratio of Earnings to Fixed Charges,
Preferred Dividends and Distributions on Company-Obligated Mandatorily
Redeemable Preferred Securities of Subsidiary Trusts - Consolidated Basis
for the nine months ended September 30, 1998 and the year ended December 31, 1997
(Dollars in millions)
Nine months
ended Year ended
September 30, December 31,
1998 1997
---- ----
<S> <C> <C>
Pretax income from operations:
Net income (loss) $ 203.0 $ 866.4
Add income tax expense 287.1 560.1
Add extraordinary charge on extinguishment of debt 42.6 6.9
Add minority interest 60.4 52.3
-------- --------
Pretax income from operations 593.1 1,485.7
-------- --------
Add fixed charges:
Interest expense on annuities and financial products 553.9 697.1
Interest expense on corporate debt, including amortization 120.6 109.4
Interest expense on finance debt 160.3 160.9
Interest expense on investment borrowings 51.9 42.0
Other .4 .7
Portion of rental(1) 11.0 13.7
-------- --------
Fixed charges 898.1 1,023.8
-------- --------
Adjusted earnings $1,491.2 $2,509.5
======== ========
Ratio of earnings to fixed charges 1.66X 2.45X
===== ======
Ratio of earnings to fixed charges, excluding interest on
annuities and financial products and interest expense on debt
related to finance receivables and other investments 5.49X 13.00X
===== ======
Ratio of earnings (excluding nonrecurring charge related
to Green Tree of $688.0 million) to fixed charges 2.43X 2.45X
===== ======
Ratio of earnings (excluding nonrecurring charge related to Green
Tree of $688.0 million) to fixed charges, excluding interest
on annuities and financial products and interest expense of
debt related to finance receivables and other investments 10.71X 13.00X
====== ======
Fixed charges $ 898.1 $1,023.8
Add dividends on preferred stock, including dividends
on preferred stock of subsidiaries (divided by the rate
of income before minority interest and extraordinary
charge to pretax income) 11.6 40.4
Add distributions on Company-obligated mandatorily
redeemable preferred securities of subsidiary trusts 92.2 75.4
-------- --------
Fixed charges $1,001.9 $1,139.6
======== ========
Adjusted earnings $1,491.2 $2,509.5
======== ========
Ratio of earnings to fixed charges, preferred dividends
and distributions on Company-obligated mandatorily
redeemable preferred securities of subsidiary trusts 1.49X 2.20X
===== =====
Ratio of earnings to fixed charges, preferred dividends and
distributions on Company-obligated mandatorily redeemable
preferred securities of subsidiary trusts, excluding interest on
annuities and financial products and interest expense on debt
related to finance receivables and other investments 3.08X 6.72X
====== =====
Ratio of earnings (excluding nonrecurring charge related to Green
Tree of $688.0 million) to fixed charges, preferred dividends
and distributions on Company- obligated mandatorily redeemable
preferred securities of subsidiary trusts 2.18X 2.20X
===== =====
<PAGE>
Ratio of earnings (excluding nonrecurring charge related to Green
Tree of $688.0 million) to fixed charges, preferred dividends
and distributions on Company-obligated mandatorily redeemable
preferred securities of subsidiary trusts, excluding interest on
annuities and financial products and interest expense on debt
related to finance
receivables and other investments 5.99X 6.72X
===== =====
<FN>
(1) Interest portion of rental is assumed to be 33 percent.
</FN>
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 7
<LEGEND> THE SCHEDULE CONTAINS SUMMARY FINANCIAL
INFORMATION EXTRACTED FROM THE COMPANY'S CONSOLIDATED
FINANCIAL STATEMENTS AND IS QUALIFIED IN
ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL
STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> SEP-30-1998
<DEBT-HELD-FOR-SALE> 22,441,500
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 335,500
<MORTGAGE> 1,114,200 <F1>
<REAL-ESTATE> 0
<TOTAL-INVEST> 28,475,500
<CASH> 0
<RECOVER-REINSURE> 736,200
<DEFERRED-ACQUISITION> 3,695,600 <F2>
<TOTAL-ASSETS> 42,628,300
<POLICY-LOSSES> 23,567,700
<UNEARNED-PREMIUMS> 414,100
<POLICY-OTHER> 1,296,700
<POLICY-HOLDER-FUNDS> 279,300
<NOTES-PAYABLE> 5,043,100 <F3>
1,872,900
105,600
<COMMON> 2,681,000
<OTHER-SE> 2,394,500 <F4>
<TOTAL-LIABILITY-AND-EQUITY> 42,628,300
2,969,000
<INVESTMENT-INCOME> 1,836,200
<INVESTMENT-GAINS> 141,800
<OTHER-INCOME> 798,800 <F5>
<BENEFITS> 2,693,300 <F6>
<UNDERWRITING-AMORTIZATION> 435,300 <F7>
<UNDERWRITING-OTHER> 466,600
<INCOME-PRETAX> 593,100
<INCOME-TAX> 287,100
<INCOME-CONTINUING> 306,000
<DISCONTINUED> 0
<EXTRAORDINARY> (42,600)
<CHANGES> 0
<NET-INCOME> 203,000
<EPS-PRIMARY> .63
<EPS-DILUTED> .60
<RESERVE-OPEN> 0
<PROVISION-CURRENT> 0
<PROVISION-PRIOR> 0
<PAYMENTS-CURRENT> 0
<PAYMENTS-PRIOR> 0
<RESERVE-CLOSE> 0
<CUMULATIVE-DEFICIENCY> 0
<FN>
<F1> Includes $672,000 of credit-tenant loans.
<F2> Includes $2,399,800 of cost of policies purchased.
<F3> Includes $1,951,800 related to finance debt.
<F4> Includes retained earnings of $2,241,900 and accumulated other
comprehensive income of $152,600.
<F5> Includes gain on sale of finance receivables of $543,800 and fee revenue
and other income of $255,000.
<F6> Includes insurance policy benefits of $2,055,900 and amounts added to
annuity and financial product policyholder account balances of $637,400.
<F7> Includes amortization of cost of policies purchased of $190,200,
amortization of cost of policies produced of $89,600 and amortization
related to investment gains of $155,500.
</FN>
</TABLE>
