AS FILED WITH THE SEC ON APRIL 15, 1999
REGISTRATION NO. 33-61143
================================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM S-1
POST-EFFECTIVE AMENDMENT NO. 4
REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 193
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PRUCO LIFE INSURANCE COMPANY
----------------------------
(Exact Name of Registrant)
ARIZONA
--------------------------------------------------------------
(State or other jurisdiction of incorporation or organization)
6311
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(Primary Standard Industrial Classification Code Number)
22-194455
---------------------------------------
(I.R.S. Employer Identification Number)
C/O PRUCO LIFE INSURANCE COMPANY
213 WASHINGTON STREET
NEWARK, NEW JERSEY 07102-2992
(888) PRU-2888
-------------------------------------------------------------
(Address and telephone number of principal executive offices)
THOMAS C. CASTANO
ASSISTANT SECRETARY
PRUCO LIFE INSURANCE COMPANY
213 WASHINGTON STREET
NEWARK, NEW JERSEY 07102-2992
(888) PRU-2888
----------------------------------------------------------
(Name, address, and telephone number of agent for service)
Copies to:
LEE D. AUGSBURGER CHRISTOPHER E. PALMER
ASSISTANT GENERAL COUNSEL SHEA & GARDNER
THE PRUDENTIAL INSURANCE 1800 MASSACHUSETTS AVENUE, N.W.
COMPANY OF AMERICA WASHINGTON, D.C. 20036
751 BROAD STREET
NEWARK, NEW JERSEY 07102-3777
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<PAGE>
MAY 1, 1999
DISCOVERY
SELECT(R)
VARIABLE ANNUITY
THIS PROSPECTUS DESCRIBES AN INDIVIDUAL VARIABLE ANNUITY CONTRACT OFFERED BY
PRUCO LIFE INSURANCE COMPANY (PRUCO LIFE). PRUCO LIFE IS A WHOLLY OWNED
SUBSIDIARY OF THE PRUDENTIAL INSURANCE COMPANY OF AMERICA.
Discovery Select offers a wide variety of investment choices, including 24
variable investment options that invest in mutual funds managed by these leading
asset managers.
PRUDENTIAL INVESTMENTS
AIM ADVISORS
AMERICAN CENTURY
FRANKLIN ADVISERS
JANUS CAPITAL
MFS
OPPENHEIMER CAPITAL
T. ROWE PRICE
WARBURG PINCUS
Please read this prospectus before purchasing a Discovery Select variable
annuity contract and keep it for future reference. Current prospectuses for each
of the underlying mutual funds accompany this prospectus. These prospectuses
contain important information about the mutual funds. Please read these
prospectuses and keep them for reference.
To learn more about the Discovery Select variable annuity, you can request a
copy of the Statement of Additional Information (SAI) dated May 1, 1999. The SAI
has been filed with the Securities and Exchange Commission (SEC) and is legally
a part of this prospectus. The SEC maintains a Web site (http://www.sec.gov)
that contains the Discovery Select SAI, material incorporated by reference, and
other information regarding registrants that file electronically with the SEC.
The Table of Contents of the SAI is on Page 25 of this prospectus. For a free
copy of the SAI, call us at: (888) PRU-2888 or write to us at:
Pruco Life Insurance Company
213 Washington Street
Newark, New Jersey 07102-2992
Prudential Annuity Service Center
P.O. Box 14215
New Brunswick, New Jersey 08906
THE SEC HAS NOT DETERMINED THAT THIS CONTRACT IS A GOOD INVESTMENT, NOR HAS THE
SEC DETERMINED THAT THIS PROSPECTUS IS COMPLETE OR ACCURATE. IT IS A CRIMINAL
OFFENSE TO STATE OTHERWISE.
INVESTMENT IN A VARIABLE ANNUITY CONTRACT IS SUBJECT TO RISK, INCLUDING THE
POSSIBLE LOSS OF YOUR MONEY. AN INVESTMENT IN DISCOVERY SELECT IS NOT A BANK
DEPOSIT AND IS NOT INSURED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION OR ANY
OTHER GOVERNMENT AGENCY.
[PRUDENTIAL LOGO]
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
CONTENTS
CAPTION PAGE
GLOSSARY................................................... ii
SUMMARY .................................................... 1
SUMMARY OF CONTRACT EXPENSES ............................... 3
EXPENSE EXAMPLES ........................................... 5
1. WHAT IS THE DISCOVERY SELECT VARIABLE ANNUITY? ........ 7
Short Term Cancellation Right or "Free Look" ...........7
2. WHAT INVESTMENT OPTIONS CAN I CHOOSE?.................. 8
Variable Investment Options ........................... 8
Fixed Interest-Rate Options ........................... 9
Transfers Among Options ............................... 9
Dollar Cost Averaging ................................ 10
Asset Allocation Program ............................. 10
Auto-Rebalancing ..................................... 10
Voting Rights ........................................ 11
Substitution ......................................... 11
3. WHAT KIND OF PAYMENTS WILL I RECEIVE DURING THE
INCOME PHASE? (ANNUITIZATION) ........................ 11
Payment Provisions ................................... 11
Option 1: Annuity Payments for a Fixed Period ........ 11
Option 2: Life Annuity with 120 Payments
(10 Years) Certain...................................11
Option 3: Interest Payment Option .................... 12
Option 4: Other Annuity Options ...................... 12
4. WHAT IS THE DEATH BENEFIT?.............................12
Beneficiary........................................... 12
Calculation of the Death Benefit ..................... 12
5. HOW CAN I PURCHASE A DISCOVERY SELECT CONTRACT?........13
Purchase Payments .................................... 13
Allocation of Purchase Payments ...................... 13
Calculating Contract Value ........................... 13
6. WHAT ARE THE EXPENSES ASSOCIATED WITH THE DISCOVERY
SELECT CONTRACT? ..................................... 13
Insurance Charges .................................... 14
Annual Contract Fee................................... 14
Withdrawal Charge .................................... 14
Critical Care Access ................................. 15
Premium Taxes ........................................ 15
Transfer Fee ......................................... 15
Company Taxes ........................................ 15
7. HOW CAN I ACCESS MY MONEY? ........................... 15
Automated Withdrawals ................................ 15
Suspension of Payments or Transfers .................. 16
8. WHAT ARE THE TAX CONSIDERATIONS ASSOCIATED WITH THE
DISCOVERY SELECT CONTRACT? ........................... 16
Taxes Payable by You ................................. 16
Taxes on Withdrawals and Surrender ................... 16
Taxes on Annuity Payments............................. 16
Penalty Taxes on Withdrawals and Annuity Payments .....17
Taxes Payable by Beneficiaries.........................17
Withholding of Tax from Distributions..................17
Annuity Qualification..................................17
Diversification and Investor Control...................17
Required Distributions Upon Your Death.................17
Changes in the Contract................................18
Additional Information.................................18
Contracts Held by Tax Favored Plans....................18
9. OTHER INFORMATION .....................................22
Pruco Life Insurance Company ..........................22
The Separate Account ................................. 22
Experts .............................................. 22
Sale of the Contract and Distributor ................. 23
Assignment ........................................... 23
Financial Statements ................................. 23
Year 2000 Compliance...................................23
Statement of Additional Information .................. 25
Accumulation Unit Values.............................. 26
Market Value Adjustment Formula....................... 28
ADDITIONAL FINANCIAL INFORMATION
Further Information about Pruco Life..................A-1
Pruco Life Financial Information .................... B-1
i
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
GLOSSARY
We have tried to make this prospectus as easy to read and understand as
possible. By the nature of the contract, however, certain technical words or
terms are unavoidable. We have identified the following as some of these words
or terms.
- --------------------------------------------------------------------------------
ACCUMULATION PHASE. The period that begins with the contract date (see below
definition) and ends when you start receiving income payments or earlier if the
contract is terminated through a full withdrawal or payment of a death benefit.
ANNUITANT. The person whose life determines how long the contract lasts and the
amount of income payments that will be paid.
ANNUITY DATE. The date when income payments are scheduled to begin.
BENEFICIARY. The person(s) or entity you have chosen to receive a death benefit.
CASH VALUE. This is the total value of your contract minus any withdrawal
charge(s) or market-value adjustment, if applicable.
CONTRACT DATE. The date we receive your initial purchase payment and all
necessary paperwork in good order at the Prudential Annuity Service Center.
Contract anniversaries are measured from the contract date. A contract year
starts on the contract date or on a contract anniversary.
CONTRACTOWNER, OWNER OR YOU. The person entitled to the ownership rights under
the contract.
CONTRACT VALUE. The total value of the amounts in a contract allocated to the
variable investment options and the interest rate options as of a particular
date.
DEATH BENEFIT If the sole or last surviving annuitant dies, the designated
person(s) or the beneficiary, will receive, at a minimum, the total amount
invested or a potentially greater amount related to market appreciation. See
"What is the Death Benefit?" on page 12.
INCOME OPTIONS. Options under the contract that define the frequency and
duration of income payments. In your contract, these are referred to as payout
or annuity options.
INTEREST-RATE OPTION. An investment option that offers a fixed-rate of interest
for either a one-year (fixed-rate option) or a seven-year period (market-value
adjustment option).
PURCHASE PAYMENTS. The amount of money you pay us to purchase the contract.
Generally, you can make additional purchase payments at any time during the
accumulation phase.
PRUDENTIAL ANNUITY SERVICE CENTER. P.O. Box 14215, New Brunswick, New Jersey,
08906. The phone number is 1-888-PRU-2888.
SEPARATE ACCOUNT. Purchase payments allocated to the variable investment options
are held by us in a separate account called the Pruco Life Flexible Premium
Variable Annuity Account. The Separate Account is set apart from all of the
general assets of Pruco Life.
TAX DEFERRAL. This is a way to increase your assets without currently being
taxed. You do not pay taxes on your contract earnings until you take money out
of your contract.
VARIABLE INVESTMENT OPTION. When you choose a variable investment option, we
purchase shares of the mutual fund which are held as an investment for that
option. We hold these shares in the Separate Account. The division of the
Separate Account of Pruco Life that invests in a particular mutual fund is
referred to in your contract as a subaccount.
ii
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
SUMMARY
FOR A MORE COMPLETE DISCUSSION OF THE FOLLOWING TOPICS, SEE THE CORRESPONDING
SECTION IN THE PROSPECTUS.
1. WHAT IS THE DISCOVERY SELECT VARIABLE ANNUITY?
This variable annuity contract, offered by Pruco Life, is a contract
between you, as the owner, and us. The contract allows you to invest on a
tax-deferred basis in one or more of 24 variable investment options. There are
also two fixed interest rate options which are available in most states. The
contract is intended for retirement savings or other long-term investment
purposes and provides a death benefit and guaranteed income options.
The variable investment options are designed to offer the opportunity over
the long term for a better return than the fixed interest rate option. However,
this is NOT guaranteed. It is possible, due to market changes, that your
investments may decrease in value.
The fixed interest-rate options offer an interest rate that is guaranteed.
While your money is in the fixed account, your principal amount is guaranteed
and the interest amount that your money will earn is guaranteed by us to always
be at least 3.0%.
You can invest your money in any or all of the variable investment options
and the interest-rate options. You are allowed 12 transfers each contract year
among the variable investment options, without a charge. There are certain
restrictions on transfers involving the interest-rate options.
The contract, like all deferred annuity contracts, has two phases: the
accumulation phase and the income phase. During the accumulation phase, earnings
grow on a tax-deferred basis and are taxed as income when you make a withdrawal.
The income phase starts when you begin receiving regular payments from your
contract. The amount of money you are able to accumulate in your contract during
the accumulation phase will help determine the amount of payments you will
receive during the income phase. Other factors will affect the amount of your
payments such as, age, gender and payout option you selected.
FREE LOOK. If you change your mind about owning Discovery Select, YOU MAY
CANCEL YOUR CONTRACT WITHIN 10 DAYS AFTER RECEIVING IT (or whatever time period
is required in the state where the contract was issued).
2. WHAT INVESTMENT OPTIONS CAN I CHOOSE?
You can invest your money in any or all of the variable investment options
that invest in the mutual funds described in the fund prospectuses provided with
this prospectus:
THE PRUDENTIAL SERIES FUND
Diversified Bond Portfolio
Diversified Conservative Growth Portfolio
Equity Income Portfolio
Equity Portfolio
Global Portfolio
High Yield Bond Portfolio
Money Market Portfolio
Prudential Jennison Portfolio
Small Capitalization Stock Portfolio
Stock Index Portfolio
20/20 Focus Portfolio
AIM VARIABLE INSURANCE FUNDS, INC.
AIM V.I. Growth and Income Fund
AIM V.I. Value Fund
AMERICAN CENTURY VARIABLE
PORTFOLIOS, INC.
American Century VP Value
JANUS ASPEN SERIES
Growth Portfolio
International Growth Portfolio
MFS VARIABLE INSURANCE TRUST
Emerging Growth Series
Research Series
OCC ACCUMULATION TRUST
Managed Portfolio
Small Cap Portfolio
TEMPLETON VARIABLE PRODUCTS
SERIES FUND
Franklin Small Cap Investments Fund - Class 2
T.ROWE PRICE
Equity Series - Equity Income Portfolio
International Series - International Stock Portfolio
WARBURG PINCUS TRUST
Post-Venture Capital Portfolio
1
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
Depending upon market conditions, you may earn or lose money in any of
these options. The value of your contract will fluctuate depending upon the
investment performance of the mutual funds used by the variable investment
options you choose. Performance information for the variable investment options
is provided in the Statement of Additional Information (SAI). Past performance
is not a guarantee of future results.
You can also put your money into one or both of the fixed interest-rate
options.
3. WHAT KIND OF PAYMENTS WILL I RECEIVE DURING THE INCOME PHASE?
(ANNUITIZATION)
If you want to receive regular income from your annuity, you can choose one
of several options, including guaranteed payments for the annuitant's lifetime.
Once you begin receiving regular payments, you cannot change your payment plan.
4. WHAT IS THE DEATH BENEFIT?
If the sole or last surviving annuitant dies, the designated person(s) or
the beneficiary will receive at a minimum, the total amount invested or a
potentially greater amount related to market appreciation.
5. HOW CAN I PURCHASE A DISCOVERY SELECT ANNUITY CONTRACT?
You can purchase this contract, under most circumstances, with a minimum
initial purchase payment of $10,000. You can add $1,000 or more at any time
during the accumulation phase of the contract. Your representative can help you
fill out the proper forms.
6. WHAT ARE THE EXPENSES ASSOCIATED WITH THE DISCOVERY SELECT CONTRACT?
The contract has insurance features and investment features, and there are
costs related to each.
Each year we deduct a $30 contract maintenance charge if your contract
value is less than $50,000. For insurance and administrative costs, we also
deduct an annual charge of 1.40% of the average daily value of all assets
allocated to the variable investment options. This charge is not assessed
against amounts allocated to the interest-rate investment options.
There are a few states/jurisdictions that assess a premium tax when you
begin receiving regular income payments from your annuity. In those states, we
will assess the required premium tax charge which can range up to 5%.
There are also charges associated with the mutual funds. The annual charges
of the mutual funds currently range from 0.37% to 1.40% of a fund's average
daily assets.
7. HOW CAN I ACCESS MY MONEY?
You may take money out at any time during the accumulation phase. Each
year, you may withdraw up to 10% of your total purchase payments without charge.
Withdrawals greater than 10% of your purchase payments will be subject to a
withdrawal charge. This charge decreases 1% each year. After the 7th year, there
is no charge for a withdrawal. You may also be subject to income tax and a tax
penalty if you make an early withdrawal.
8. WHAT ARE THE TAX CONSIDERATIONS ASSOCIATED WITH THE DISCOVERY SELECT
CONTRACT?
Your earnings are not taxed until withdrawn. If you take money out during
the accumulation phase, purchase payments are withdrawn first and are taxed as
income. If you are younger than 59-1/2 when you take money out, you may be
charged a 10% federal tax penalty on the earnings in addition to ordinary
taxation. A portion of the payments you receive during the income phase is
considered partly a return of your original investment. As a result, that
portion of each payment is not taxable as income. Generally, all amounts
withdrawn from IRA contracts are fully taxable and subject to the 10% penalty if
withdrawn prior to age 59-1/2.
9. OTHER INFORMATION
This contract is issued by Pruco Life, a subsidiary of The Prudential
Insurance Company of America.
2
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
SUMMARY OF CONTRACT EXPENSES
THE PURPOSE OF THIS SUMMARY IS TO HELP YOU TO UNDERSTAND THE COSTS YOU WILL PAY
FOR DISCOVERY SELECT. THIS SUMMARY INCLUDES THE EXPENSES OF THE MUTUAL FUNDS
USED BY THE VARIABLE INVESTMENT OPTIONS BUT DOES NOT INCLUDE ANY PREMIUM TAXES
THAT MIGHT BE APPLICABLE IN YOUR STATE.
FOR MORE DETAILED INFORMATION:
More detailed information can be found on page __ under the section called,
"What Are The Expenses Associated With The Discovery Select Variable Annuity?"
For more detailed expense information about the mutual funds, please refer to
the individual fund prospectuses which you will find at the back of this
prospectus.
TRANSACTION EXPENSES
- -------------------------------------------------------------
WITHDRAWAL CHARGE (SEE NOTE 1 BELOW)
- -------------------------------------------------------------
During contract year 1 7%
During contract year 2 6%
During contract year 3 5%
During contract year 4 4%
During contract year 5 3%
During contract year 6 2%
During contract year 7 1%
TRANSFER FEE (SEE NOTE 2 BELOW)
- -------------------------------------------------------------
first 12 transfers per year $ 0.00
each transfer after 12 $ 25.00
ANNUAL CONTRACT FEE AND FULL WITHDRAWAL FEE (SEE NOTE 3 BELOW)
- -------------------------------------------------------------
$ 30.00
ANNUAL ACCOUNT EXPENSES
- -------------------------------------------------------------
AS A PERCENTAGE OF THE AVERAGE ACCOUNT VALUE
Mortality and Expense Risk: 1.25%
Administrative Fee: 0.15%
Total: 1.40%
NOTE 1: AS OF THE BEGINNING OF THE CONTRACT YEAR, YOU MAY WITHDRAW UP TO
10% OF THE TOTAL PURCHASE PAYMENTS PLUS ANY CHARGE-FREE AMOUNT CARRIED OVER FROM
THE PREVIOUS CONTRACT YEAR WITHOUT CHARGE. THERE IS NO WITHDRAWAL CHARGE ON ANY
WITHDRAWALS MADE UNDER THE CRITICAL CARE ACCESS OPTION (SEE PAGE __ ) OR ON ANY
AMOUNT USED TO PROVIDE INCOME UNDER THE LIFE ANNUITY WITH 120 PAYMENTS (10
YEARS) CERTAIN OPTION. (SEE PAGE __ ). SURRENDER CHARGES ARE WAIVED WHEN A DEATH
BENEFIT IS PAID.
NOTE 2: YOU WILL NOT BE CHARGED FOR TRANSFERS MADE IN CONNECTION WITH
DOLLAR COST AVERAGING AND AUTO-REBALANCING
NOTE 3: THERE IS NO CHARGE ON WITHDRAWALS IF THE VALUE OF YOUR CONTRACT IS
$50,000 OR MORE, OR IF THE WITHDRAWALS ARE MADE UNDER THE CRITICAL CARE ACCESS
OPTION.
NOTES FOR ANNUAL MUTUAL FUND EXPENSES:
THESE EXPENSES ARE BASED ON THE HISTORICAL FUND EXPENSES FOR THE YEAR ENDED
DECEMBER 31, 1998, EXCEPT AS INDICATED. FUND EXPENSES ARE NOT FIXED OR
GUARANTEED BY THE DISCOVERY SELECT CONTRACT AND MAY VARY FROM YEAR TO YEAR.
(1) THE PRUDENTIAL SERIES FUND:
BECAUSE THIS IS THE FIRST YEAR OF OPERATION FOR DIVERSIFIED CONSERVATIVE GROWTH
PORTFOLIO AND THE 20/20 FOCUS PORTFOLIO, OTHER EXPENSES ARE ESTIMATED BASED ON
MANAGEMENT'S PROJECTION OF NON-MANAGEMENT FEE EXPENSES.
(2) AMERICAN CENTURY VARIABLE PORTFOLIOS INC. AND T. ROWE PRICE FUNDS:
INVESTMENT MANAGEMENT FEES INCLUDE ORDINARY EXPENSES OF OPERATING THE FUNDS.
(3) JANUS ASPEN SERIES
FEE REDUCTIONS REDUCE THE INVESTMENT MANAGEMENT FEE TO THE LEVELS OF THE
CORRESPONDING JANUS RETAIL FUND. JANUS HAS AGREED TO CONTINUE THE APPLICABLE
WAIVERS AND FEE REDUCTIONS UNTIL AT LEAST THE NEXT ANNUAL RENEWAL OF THE
ADVISORY AGREEMENT.
(4) TEMPLETON VARIABLE PRODUCTS SERIES FUND
FIGURES REFLECT EXPENSES FROM THE FUND'S INCEPTION ON MAY 1, 1998 AND ARE
ANNUALIZED. THE MANAGER AGREED IN ADVANCE TO LIMIT MANAGEMENT FEES AND MAKE
CERTAIN PAYMENTS TO REDUCE THE FUND'S EXPENSES AS NECESSARY SO THAT TOTAL ACTUAL
EXPENSES DID NOT EXCEED 1.25% OF THE FUND'S CLASS 2 NET ASSETS IN 1998. THE
MANAGER IS CONTRACTUALLY OBLIGATED TO CONTINUE THIS ARRANGEMENT THROUGH 1999.
INVESTMENT MANAGEMENT FEE AND OTHER EXPENSES IN 1998 AFTER THESE WAIVERS WERE
0.15% AND 1.25%. THE FUND MAINTAINS A DISTRIBUTION OR "12B-1 PLAN" FOR CLASS 2
WITH A MAXIMUM ANNUAL OF 0.25%, WHICH IS INCLUDED IN OTHER EXPENSES AND IS
DISCUSSED IN THE FUND'S PROSPECTUS.
(5) WARBURG PINCUS TRUST
ACTUAL FEES AND EXPENSES FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998 WERE 1.08%
AND 0.32% FOR INVESTMENT MANAGEMENT FEES AND OTHER EXPENSES, RESPECTIVELY. FEE
WAIVERS AND EXPENSE REIMBURSEMENT OR CREDITS REDUCED FEES AND EXPENSES DURING
1998 BUT MAY BE DISCONTINUED AT ANY TIME.
3
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
<TABLE>
<CAPTION>
ANNUAL MUTUAL FUND EXPENSES (AFTER REIMBURSEMENT, IF ANY): AS A PERCENTAGE OF EACH FUND'S AVERAGE DAILY NET ASSETS
INVESTMENT OTHER TOTAL CONTRACTUAL TOTAL ACTUAL
MANAGEMENT FEE EXPENSES EXPENSES EXPENSES*
THE PRUDENTIAL SERIES FUND(1)
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Diversified Bond Portfolio 0.40% 0.02% 0.42% 0.42%
Diversified Conservative Growth Portfolio 0.75% 0.20% 0.95% 0.95%
Equity Income Portfolio 0.40% 0.02% 0.42% 0.42%
Equity Portfolio 0.45% 0.02% 0.47% 0.47%
Global Portfolio 0.75% 0.11% 0.86% 0.86%
High Yield Bond Portfolio 0.55% 0.03% 0.58% 0.58%
Money Market Portfolio 0.40% 0.01% 0.41% 0.41%
Prudential Jennison Portfolio 0.60% 0.03% 0.63% 0.63%
Small Capitalization Stock Portfolio 0.40% 0.07% 0.47% 0.47%
Stock Index Portfolio 0.35% 0.02% 0.37% 0.37%
20/20 Focus Portfolio 0.75% 0.20% 0.95% 0.95%
AIM VARIABLE INSURANCE FUNDS, INC.
- ------------------------------------------------------------------------------------------------------------------------------------
AIM V.I. Growth and Income Fund 0.61% 0.04% 0.65% 0.65%
AIM V.I. Value Fund 0.61% 0.05% 0.66% 0.66%
AMERICAN CENTURY VARIABLE PORTFOLIOS, INC(2)
- ------------------------------------------------------------------------------------------------------------------------------------
American Century VP Value 1.00% 0.00% 1.00% 1.00%
JANUS ASPEN SERIES(3)
- ------------------------------------------------------------------------------------------------------------------------------------
Growth Portfolio 0.72% 0.03% 0.75% 0.68%
International Growth Portfolio 0.75% 0.20% 0.95% 0.86%
MFS VARIABLE INSURANCE TRUST
- ------------------------------------------------------------------------------------------------------------------------------------
Emerging Growth Series 0.75% 0.10% 0.85% 0.85%
Research Series 0.75% 0.11% 0.86% 0.86%
OCC ACCUMULATION TRUST
- ------------------------------------------------------------------------------------------------------------------------------------
Managed Portfolio 0.78% 0.04% 0.82% 0.82%
Small Cap Portfolio 0.80% 0.08% 0.88% 0.88%
TEMPLETON VARIABLE PRODUCTS SERIES FUND(4)
- ------------------------------------------------------------------------------------------------------------------------------------
Franklin Small Cap Investments Fund - Class 2 0.75% 1.25% 2.00% 1.25%
T. ROWE PRICE(2)
- ------------------------------------------------------------------------------------------------------------------------------------
Equity Series - Equity Income Portfolio 0.85% 0.00% 0.85% 0.85%
International Series - International Stock
Portfolio 1.05% 0.00% 1.05% 1.05%
WARBURG PINCUS TRUST(5)
- ------------------------------------------------------------------------------------------------------------------------------------
Post-Venture Capital Portfolio 1.25% 0.45% 1.70% 1.40%
</TABLE>
* Reflects the effect management fee waivers and reimbursement of expenses, if
any. See notes on page 5. The "Expenses Examples" on the following pages are
calculated using the Total Actual Expenses.
4
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
EXPENSE EXAMPLES
- --------------------------------------------------------------------------------
These examples will help you compare the fees and expenses of the different
variable investment options offered by Discovery Select. You can also use the
examples to compare the cost of Discovery Select with other variable annuity
contracts.
- --------------------------------------------------------------------------------
EXAMPLE 1- IF YOU WITHDRAW YOUR ASSETS
Example 1 assumes that you invest $10,000 in Discovery Select and that you
allocate all of your assets to one of the variable investment options and
withdraw all your assets at the end of the time period indicated. The example
also assumes that your investment has a 5% return each year and that the mutual
fund's operating expenses remain the same. Your actual costs may be higher or
lower.
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------------------
1 YEAR 3 YEARS 5 YEARS 10 YEARS
---------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
THE PRUDENTIAL SERIES FUND
Diversified Bond Portfolio $ 817 $ 930 $ 1147 $ 2162
Diversified Conservative Growth Portfolio $ 870 $ 1090 $ 1417 $ 2709
Equity Income Portfolio $ 817 $ 930 $ 1147 $ 2162
Equity Portfolio $ 822 $ 945 $ 1173 $ 2215
Global Portfolio $ 861 $ 1063 $ 1372 $ 2618
High Yield Bond Portfolio $ 833 $ 978 $ 1229 $ 2330
Money Market Portfolio $ 816 $ 926 $ 1142 $ 2151
Prudential Jennison Portfolio $ 838 $ 994 $ 1255 $ 2382
Small Capitalization Stock Portfolio $ 822 $ 945 $ 1173 $ 2215
Stock Index Portfolio $ 812 $ 914 $ 1121 $ 2108
20/20 Focus Portfolio $ 870 $ 1090 $ 1417 $ 2709
---------------------------------------------------------------------------------------------------------------------
AIM VARIABLE INSURANCE FUNDS, INC.
AIM V.I. Growth and Income Fund $ 840 $ 1000 $ 1265 $ 2403
AIM V.I. Value Fund $ 841 $ 1003 $ 1270 $ 2414
---------------------------------------------------------------------------------------------------------------------
AMERICAN CENTURY VARIABLE PORTFOLIOS, INC.
American Century VP Value $ 875 $ 1105 $ 1442 $ 2759
---------------------------------------------------------------------------------------------------------------------
JANUS ASPEN SERIES
Growth Portfolio $ 843 $ 1009 $ 1280 $ 2434
International Growth Portfolio $ 861 $ 1063 $ 1372 $ 2618
---------------------------------------------------------------------------------------------------------------------
MFS VARIABLE INSURANCE TRUST
Emerging Growth Series $ 860 $ 1060 $ 1367 $ 2608
Research Series $ 861 $ 1063 $ 1372 $ 2618
---------------------------------------------------------------------------------------------------------------------
OCC ACCUMULATION TRUST
Managed Portfolio $ 857 $ 1051 $ 1351 $ 2578
Small Cap Portfolio $ 863 $ 1069 $ 1382 $ 2639
---------------------------------------------------------------------------------------------------------------------
TEMPLETON VARIABLE PRODUCTS SERIES FUND
Franklin Small Cap Investments Fund - Class 2 $ 900 $ 1180 $ 1566 $ 3006
---------------------------------------------------------------------------------------------------------------------
T.ROWE PRICE
Equity Series - Equity Income Portfolio $ 860 $ 1060 $ 1367 $ 2608
International Series - International Stock Portfolio $ 880 $ 1120 $ 1467 $ 2809
---------------------------------------------------------------------------------------------------------------------
WARBURG PINCUS TRUST
Post-Venture Capital Portfolio $ 915 $ 1225 $ 1640 $ 3150
- ------------------------------------------------------------------------------------------------------------------------------
</TABLE>
Notes:
THESE EXAMPLES SHOULD NOT BE CONSIDERED A REPRESENTATION OF PAST OR FUTURE
EXPENSES. ACTUAL EXPENSES MAY BE GREATER OR LESS THAN THOSE SHOWN.
The charges shown in the 10 year column are the same for Example 1 and Example
2. This is because after 10 years the withdrawal charges are no longer deducted
by us when you make a withdrawal or when you begin the income phase of your
contract.
5
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
EXAMPLE 2 - IF YOU DO NOT WITHDRAW YOUR ASSETS
Example 2 assumes that you invest $10,000 in Discovery Select and allocate all
of your assets to one of the variable investment options and DO NOT WITHDRAW any
of your assets at the end of the time period indicated. The example also assumes
that your investment has a 5% return each year and that the mutual fund's
operating expenses remain the same. Your actual costs may be higher or lower.
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------------------
1 YEAR 3 YEARS 5 YEARS 10 YEARS
---------------------------------------------------------------------------------------------------------------------
THE PRUDENTIAL SERIES FUND
<S> <C> <C> <C> <C>
Diversified Bond Portfolio $ 187 $ 580 $ 997 $ 2162
Diversified Conservative Growth Portfolio $ 240 $ 740 $ 1267 $ 2709
Equity Income Portfolio $ 187 $ 580 $ 997 $ 2162
Equity Portfolio $ 192 $ 595 $ 1023 $ 2215
Global Portfolio $ 231 $ 713 $ 1222 $ 2618
High Yield Bond Portfolio $ 203 $ 628 $ 1079 $ 2330
Money Market Portfolio $ 186 $ 576 $ 992 $ 2151
Prudential Jennison Portfolio $ 208 $ 644 $ 1105 $ 2382
Small Capitalization Stock Portfolio $ 192 $ 595 $ 1023 $ 2215
Stock Index Portfolio $ 182 $ 564 $ 971 $ 2108
20/20 Focus Portfolio $ 240 $ 740 $ 1267 $ 2709
---------------------------------------------------------------------------------------------------------------------
AIM VARIABLE INSURANCE FUNDS, INC.
AIM V.I. Growth and Income Fund $ 210 $ 650 $ 1115 $ 2403
AIM V.I. Value Fund $ 211 $ 653 $ 1120 $ 2414
---------------------------------------------------------------------------------------------------------------------
AMERICAN CENTURY VARIABLE PORTFOLIOS, INC.
American Century VP Value $ 245 $ 755 $ 1292 $ 2759
---------------------------------------------------------------------------------------------------------------------
JANUS ASPEN SERIES
Growth Portfolio $ 213 $ 659 $ 1130 $ 2434
International Growth Portfolio $ 231 $ 713 $ 1222 $ 2618
---------------------------------------------------------------------------------------------------------------------
MFS VARIABLE INSURANCE TRUST
Emerging Growth Series $ 230 $ 710 $ 1217 $ 2608
Research Series $ 231 $ 713 $ 1222 $ 2618
---------------------------------------------------------------------------------------------------------------------
OCC ACCUMULATION TRUST
Managed Portfolio $ 227 $ 701 $ 1201 $ 2578
Small Cap Portfolio $ 233 $ 719 $ 1232 $ 2639
---------------------------------------------------------------------------------------------------------------------
TEMPLETON VARIABLE PRODUCTS SERIES FUND
Franklin Small Cap Investments Fund - Class 2 $ 270 $ 830 $ 1416 $ 3006
---------------------------------------------------------------------------------------------------------------------
T.ROWE PRICE
Equity Series - Equity Income Portfolio $ 230 $ 710 $ 1217 $ 2608
International Series - International Stock Portfolio $ 250 $ 770 $ 1317 $ 2809
---------------------------------------------------------------------------------------------------------------------
WARBURG PINCUS TRUST
Post-Venture Capital Portfolio $ 285 $ 875 $ 1490 $ 3150
- ------------------------------------------------------------------------------------------------------------------------------
</TABLE>
These examples do not show past or future expenses. Actual expenses for a
particular year may be more or less than those shown in the examples.
- --------------------------------------------------------------------------------
Notes: (cont.) If your contract value is less than $50,000, on your contract
anniversary (and upon a surrender), we deduct a $30 fee. The examples use an
average number as the amount of the annual contract fee. This amount was
calculated by taking the total annual contract fees collected in 1998 and then
dividing that number by the total assets allocated to the variable investment
options. Based on this calculation the annual contract fee is included as an
annual charge of 0.23% of contract value. Your actual fees will vary based on
the amount of your contract and your specific allocation(s). A table of
accumulation unit values of interests in each variable investment option,
appears on Page 26. Premium taxes are not reflected. in these examples. Premium
taxes may apply depending on the state where you live.
6
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
1. WHAT IS THE DISCOVERY SELECT VARIABLE ANNUITY?
The Discovery Select Variable Annuity is a contract between you, the owner, and
us, the insurance company, Pruco Life Insurance Company (Pruco Life, We or Us).
Under our contract or agreement, in exchange for your payment to us, we promise
to pay you a guaranteed income stream that can begin any time after the first
contract anniversary. (Maryland residents must wait until the end of the seventh
contract year.) Your annuity is in the accumulation phase until you decide to
begin receiving annuity payments. The date you begin receiving annuity payments
is the annuity date. On the annuity date, your contract switches to the income
phase.
This annuity contract benefits from tax deferral. Tax deferral means that you
are not taxed on earnings or appreciation on the assets in your contract until
you withdraw money from your contract.
Discovery Select is a variable annuity contract. This means that during the
accumulation phase, you can allocate your assets among 24 variable investment
options as well as 2 guaranteed interest-rate options. (If you live in Maryland,
Oregon or Washington, only a one year interest-rate option is available to you.)
If you select a variable investment option, the amount of money you are able to
accumulate in your contract during the accumulation phase depends upon the
investment performance of the mutual fund associated with that variable
investment option. Because the mutual funds' portfolios fluctuate in value
depending upon market conditions, your contract value can either increase or
decrease. This is important, since the amount of the annuity payments you
receive during the income phase depends upon the value of your contract at the
time you begin receiving payments.
As mentioned above, Discovery Select also contains two guaranteed interest-rate
options: a fixed-rate option and a market-value adjustment option. The
fixed-rate option offers an interest rate that is guaranteed by us for one year
and will always be at least 3.0% per year. The market-value adjustment option
guarantees a stated interest rate, generally higher than the fixed-rate option.
However, in order to get the full benefit of the stated interest rate, assets in
this option must be held for a seven-year period. (The market-value adjustment
option is not available to residents of Maryland, Oregon or Washington.)
As the owner of the contract, you have all of the decision-making rights under
the contract. You will also be the annuitant unless you designate someone else.
The annuitant is the person who receives the annuity payments when the income
phase begins. The annuitant is also the person whose life is used to determine
how much and how long these payments will continue. On and after the annuity
date, the annuitant is the owner and may not be changed. The beneficiary becomes
the owner when a death benefit is payable.
The beneficiary is the person(s) or entity designated to receive any death
benefit if the annuitant(s) dies during the accumulation phase. You may change
the beneficiary any time prior to the annuity date by making a written request
to us. Your request becomes effective when we approve it.
SHORT TERM CANCELLATION RIGHT OR "FREE LOOK"
If you change your mind about owning Discovery Select, you may cancel your
contract within 10 days after receiving it (or whatever period is required by
applicable law). You can request a refund by returning the contract either to
the representative who sold it to you, or to the Prudential Annuity Service
Center at the address shown on the first page of this prospectus. You will
receive, depending on applicable law:
o Your full purchase payment; or
o The amount your contract is worth as of the day we receive your request.
This amount may be more or less than your original payment.
7
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
2. WHAT INVESTMENT OPTIONS CAN I CHOOSE?
The contract gives you the choice of allocating your purchase payments to any
one or more of 24 variable investment options, as well as two guaranteed
interest-rate options. The 24 variable investment options invest in mutual funds
managed by leading investment advisors. Each of these mutual funds has a
separate prospectus that is provided with this prospectus. YOU SHOULD READ THE
MUTUAL FUND PROSPECTUS BEFORE YOU DECIDE TO ALLOCATE YOUR ASSETS TO THE VARIABLE
INVESTMENT OPTION USING THAT FUND.
VARIABLE INVESTMENT OPTIONS
Listed below are the mutual funds in which to the variable investment options
invest. Each variable investment option has a different investment objective.
THE PRUDENTIAL SERIES FUND, INC.
o Diversified Bond Portfolio
o Diversified Conservative Growth Portfolio
o Equity Income Portfolio
o Equity Portfolio
o Global Portfolio
o High Yield Bond Portfolio
o Money Market Portfolio
o Prudential Jennison Portfolio (domestic equity)
o Stock Index Portfolio
o Small Capitalization Stock Portfolio
o 20/20 Focus Fund (domestic equity)
The Prudential Series Fund, Inc. is managed by Prudential through another
company it owns called The Prudential Investment Corporation. The Prudential
Investment Corporation manages each of the portfolios of the Prudential Series
Fund except the Prudential Jennison Portfolio and the Diversified Conservative
Growth Portfolio. For the Jennison portfolio, Prudential Investment Corporation
oversees another company owned by Prudential called Jennison Associates Capital
Corp. which provides the day to day investment advisory services. For the
Diversified Conservative Growth Portfolio, Prudential Investments Corporation
oversees The Dreyfus Corporation and Pacific Investment Management Company,
which provide the day to day investment advisory services.
AIM VARIABLE INSURANCE FUNDS, INC.
o AIM V.I. Growth and Income Fund
o AIM V.I. Value Fund
AIM Advisors, Inc. serves as investment adviser to both of these funds.
AMERICAN CENTURY VARIABLE PORTFOLIOS, INC.
o American Century VP Value
American Century Investment Management, Inc. is the investment adviser for
American Century VP Value.
JANUS ASPEN SERIES
o Growth Portfolio
o International Growth Portfolio
Janus Capital Corporation serves as investment adviser to the Growth Portfolio
and the International Growth Portfolio.
MFS VARIABLE INSURANCE TRUST
o Emerging Growth Series
o Research Series (long-term growth and future income)
Massachusetts Financial Services Company, a Delaware corporation, is the
investment adviser to the Emerging Growth Series and the Research Series.
OCC ACCUMULATION TRUST
o Managed Portfolio (equity)
o Small Cap Portfolio
OpCap Advisors is the investment adviser to the Managed Portfolio and the Small
Cap Portfolio.
T. ROWE PRICE
o T. Rowe Price Equity Series, Inc., Equity Income Portfolio
8
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
o T. Rowe Price International Series, Inc., International Stock Portfolio
T. Rowe Price Associates, Inc. is the investment manager for the Equity Income
Portfolio and Rowe Price-Fleming International, Inc. is the investment manager
for the International Stock Portfolio.
TEMPLETON VARIABLE PRODUCTS SERIES FUND
o Franklin Small Cap Investments Fund--Class 2
Franklin Advisers, Inc. is the investment manager for this portfolio of the
Templeton Variable Products Series Fund.
WARBURG PINCUS TRUST
o Post-Venture Capital Portfolio
Warburg Pincus Counselors, Inc. serves as investment adviser and Abbott Capital
Management, L.P. serves as sub-investment adviser for that portion of the
Post-Venture Capital Portfolio allocated to private limited partnerships or
other investment funds.
Except for the Prudential Series Fund, Inc., we are paid by the fund or an
affiliate of each fund for administrative and other services that we provide.
The amount we receive is based on an annual percentage of the average assets of
Discovery Select invested in the fund held by the associated variable investment
option.
FIXED INTEREST-RATE OPTIONS
We offer two interest-rate options: a fixed-rate option and a market-value
adjustment option (not available in Maryland, Oregon or Washington). We set a
one year guaranteed annual interest rate that is always available for the
one-year fixed-rate option. For the market-value adjustment option, we set a
seven-year guaranteed interest rate.
When you select one of these options, your payment will earn interest at the
established rate for the applicable interest rate period. A new interest rate
period is established every time you allocate or transfer money into a fixed
interest-rate option. You may have money allocated in more than one interest
rate period at the same time. This could result in your money earning interest
at different rates and each interest rate period maturing at a different time.
While these interest rates may change from time to time, the minimum rate will
never be less than 3.0%
If you transfer or withdraw assets or annuitize from the market-value adjustment
option before an interest rate period is over, the assets will be subject to a
market value adjustment.
The market-value adjustment may increase or decrease the amount being withdrawn
or transferred and may be substantial. The adjustment, whether up or down will
never be greater than 40%. The amount of the market-value adjustment is based on
the difference between the:
1. Guaranteed interest rate for the amount you are withdrawing or
transferring; and
2. Interest rate that is in effect on the date of the withdrawal or
transfer.
The amount of time left in the interest rate period is also a factor. You will
find a detailed description of how the market-value adjustment is calculated on
page 28 of this prospectus. (For contracts issued in Pennsylvania, the
description is on page 31).
TRANSFERS AMONG OPTIONS
You can transfer money among the variable investment options and the fixed
interest-rate options. Your transfer request may be made by telephone or in
writing to the Prudential Annuity Service Center. Only two transfers per month
may be made by telephone. After that, all transfer requests must be in writing
with an original signature. We have procedures in place to confirm that
instructions received by telephone are genuine. We will not be liable for
following telephone instructions that we reasonably believe to be genuine. Your
transfer request will take effect at the end of the business day on which it was
received. Our business day closes, usually at 4:15 p.m. Eastern time.
9
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
YOU CAN MAKE TRANSFERS OUT OF A FIXED INTEREST-RATE OPTION ONLY DURING THE
30-DAY PERIOD FOLLOWING THE END OF AN INTEREST RATE PERIOD. If you transfer
money from a market-value adjustment option after the 30-day period has ended,
the money will be subject to a market-value adjustment.
During the contract accumulation phase, you can make 12 transfers each contract
year, among the investment options, without charge. If you make more than 12
transfers in one contract year, you will be charged $25 for each additional
transfer. (Dollar Cost Averaging and Auto-Rebalancing transfers do not count
toward the 12 free transfers per year.)
DOLLAR COST AVERAGING
The dollar cost averaging (DCA) feature allows you to systematically transfer
either a fixed dollar amount or a percentage out of any variable investment
option or the one-year fixed interest-rate option and into any variable
investment option(s). You can transfer money to more than one variable
investment option. The investment option used for the transfers is designated as
the DCA account. You can have these automatic transfers made from the DCA
account monthly, quarterly, semiannually or annually. By allocating amounts on a
regular schedule instead of allocating the total amount at one particular time,
you may be less susceptible to the impact of market fluctuations.
Transfers must be at least $100 from your DCA account. After that, transfers
will continue automatically until the entire amount in your DCA account has been
transferred or until you tell us to discontinue the transfers. If your DCA
account balance drops below $100, the entire remaining balance of the account
will be transferred on the next transfer date. You can allocate subsequent
purchase payments to re-open the DCA account at any time.
Your transfers will be made on the last calendar day of each transfer period you
have selected, provided that the New York Stock Exchange is open on that date.
If the New York Stock Exchange is not open on a particular transfer date, the
transfer will take effect on the next business day.
Any transfers you make because of dollar cost averaging are not counted toward
the 12 free transfers you are allowed per year. This feature is available only
during the contract accumulation phase.
ASSET ALLOCATION PROGRAM
We recognize the value of having advice when deciding on the allocation of your
money. If you choose to participate in the Asset Allocation Program, your
financial professional will give you a questionnaire to complete that will help
determine a program that is appropriate for you. Your asset allocation will be
prepared based on your answers to the questionnaire. You will not be charged for
this service and you are not obligated to participate or to invest according to
program recommendations.
AUTO-REBALANCING
Once your money has been allocated among the variable investment options, the
actual performance of the investment options may cause your allocation to shift.
For example, an investment option that initially holds only a small percentage
of your assets could perform much better than another investment option. Over
time, this option could increase to a larger percentage of your assets than you
desire. You can direct us to automatically rebalance your assets to return to
your original allocation or to change allocations by selecting the
Auto-Rebalancing feature. The fixed interest-rate options and the DCA account
cannot participate in this feature.
Your rebalancing will be done monthly, quarterly, semiannually or annually based
on your choice. The rebalancing will be done on the last calendar day of the
period you have chosen, provided that the New York Stock Exchange is open on
that date. If the New York Stock Exchange is not open on that date, the
rebalancing will take effect on the next business day.
Any transfers you make because of Auto-Rebalancing are not counted toward the 12
free
10
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
transfers you are allowed per year. This feature is available only during
the contract accumulation phase. If you choose auto-rebalancing and dollar cost
averaging, auto-rebalancing will take place after the transfers from your DCA
account.
VOTING RIGHTS
We are the legal owner of the shares in the mutual funds associated with the
variable investment options. However, we vote the shares of the mutual funds
according to voting instructions we receive from contractowners. We will mail
you a proxy which is a form you need to complete and return to us to tell us how
you wish us to vote. When we receive those instructions, we will vote all of the
shares we own on your behalf, in accordance with those instructions. We will
vote the shares for which we do not receive instructions, and any other shares
that we own, in the same proportion as the shares for which instructions are
received. We may change the way your voting instructions are calculated if it is
required by federal regulation.
SUBSTITUTION
We may substitute one or more of the mutual funds used by the variable
investment options. We may also cease to allow investments in existing funds. We
would do this only if events such as investment policy changes or tax law
changes make the mutual fund unsuitable. We would not do this without the
approval of the Securities and Exchange Commission and necessary state insurance
department approvals. You will be given specific notice in advance of any
substitution we intend to make.
3. WHAT KIND OF PAYMENTS WILL I RECEIVE DURING THE INCOME PHASE?
(ANNUITIZATION)
PAYMENT PROVISIONS
The annuitant can begin receiving annuity payments any time after the first
contract anniversary. (Maryland residents must wait until after the seventh
anniversary.) Annuity payments must begin no later than the contract anniversary
that coincides with or follows the annuitant's 90th birthday.
You may choose among the income plans described below at any time before the
annuity date. These plans are called annuity options. During the income phase,
all of the annuity options under this contract are fixed annuity options. This
means that your participation in the variable investment options ends on the
annuity date. If you have not selected an annuity option by the annuity date,
the Interest Payment Option (Option 3, described below) will automatically be
selected unless prohibited by applicable law. ONCE THE ANNUITY PAYMENTS BEGIN,
YOU CANNOT CHANGE THE ANNUITY OPTION.
OPTION 1. ANNUITY PAYMENTS FOR A FIXED PERIOD
Under this option, we will make equal payments for a period you choose, up to 25
years. The annuity payments may be made monthly, quarterly, semiannually, or
annually for as long as the annuitant is alive. If the annuitant dies during the
income phase, a lump sum payment will be made to the beneficiary. The amount of
the lump sum payment is determined by calculating the present value of the
unpaid future payments. This is done by using the interest rate used to compute
the actual payments. The interest rate used will always be at least 3.50% a
year. For payment periods of 10 years or more, we will waive any withdrawal
charge that otherwise would have been applied.
OPTION 2. LIFE ANNUITY WITH 120 PAYMENTS (10 YEARS) CERTAIN
Under this option, we will make annuity payments to the annuitant monthly,
quarterly, semiannually, or annually as long as the annuitant is alive. If the
annuitant dies before we have made 10 years worth of payments, we will pay the
beneficiary the present value of the remaining annuity payments in one lump sum
unless the annuitant has specifically instructed that the remaining monthly
annuity payments continue to be paid to the beneficiary. The present value of
the remaining annuity payments is calculated by using the interest rate used to
compute the amount of the original 120 payments. The interest rate used will
always be at least 3.50% a year.
11
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
OPTION 3. INTEREST PAYMENT OPTION
Under this option, you can choose to have us hold all or a portion of your
contract value to accumulate interest. You can receive interest payments on a
monthly, quarterly, semiannual, or annual basis or you can allow the interest to
accrue on your contract assets. If you have not selected an annuity option by
the annuity date, this is the option we will automatically select for you,
unless prohibited by applicable law. Under this option, we will pay you interest
at an effective rate of at least 3.0% a year.
This option is not available if your contract is held in an Individual
Retirement Account.
OPTION 4. OTHER ANNUITY OPTIONS
We currently offer a variety of other annuity options not described above. At
the time you choose to receive your annuity payments, we may make available to
you any of the fixed annuity options that are offered at your annuity date.
You should be aware that depending on your contract date and the annuity option
you choose, you may have to pay withdrawal charges.
4. WHAT IS THE DEATH BENEFIT?
The death benefit feature protects the value of the contract for the
beneficiary.
BENEFICIARY
The beneficiary is the person(s) or entity you name to receive any death
benefit. The beneficiary is named at the time the contract is issued, unless you
change it at a later date. Unless an irrevocable beneficiary has been named, you
can change the beneficiary at any time before the annuitant or last surviving
annuitant dies.
CALCULATION OF THE DEATH BENEFIT
If the annuitant (or the last surviving annuitant, if there are co-annuitants)
dies during the accumulation phase, we will, upon receiving appropriate proof of
death, pay a death benefit to the beneficiary designated by the contractowner.
If death is prior to age 80, the beneficiary will receive the greater of the
following:
o Current value of your contract (as of the time we receive appropriate proof
of death); or
o Guaranteed Minimum Death Benefit - The Guaranteed Minimum Death Benefit is
the greater of:
o The highest value of the contract on any contract anniversary date.
This is called the step-up value. Between anniversary dates, the
step-up value is only increased by additional purchase payments and
reduced proportionally by withdrawals; or
o The "roll-up value" which is the total of all invested purchase
payments compounded daily at an effective annual rate of 5.0%, subject
to a 200% cap. Both the roll-up and the cap are reduced proportionally
by withdrawals.
If death is on or after 80, the beneficiary will receive the greater of: 1) the
current contract value as of the date that due proof of death is received, and
2) the Guaranteed Minimum Death Benefit as of age 80, increased by additional
purchase payments, and reduced proportionally by the withdrawals. For this
purpose, an annuitant is deemed to reach age 80 on the contract anniversary on
or following the annuitant's actual 80th birthday.
If the sole or older annuitant is age 80 or older at the time the contract is
issued, upon death, the beneficiary will receive the greater of: 1) current
contract value as of the date that due proof of death is received; and 2) the
total purchase payments reduced proportionally by withdrawals.
Here is an example of a proportional reduction:
If an owner withdrew 50% of a contract valued at $100,000 and if the step-up
value was $80,000, the new step-up value following the withdrawal, would be
$40,000 or 50% of what it had been prior to the withdrawal.
If the contractowner and annuitant are not the same, the death benefit is
payable only in the event of the death of a sole annuitant or last surviving
annuitant, not the death of the contractowner.
12
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
Certain terms of this death benefit are limited in Oregon. This death benefit
was enhanced in January, 1998, to provide for the Guaranteed Minimum Death
Benefit. Certain contractowners must have elected an endorsement in order for
this enhanced death benefit to apply. See the Statement of Additional
Information (SAI) for details.
5. HOW CAN I PURCHASE A DISCOVERY SELECT CONTRACT?
PURCHASE PAYMENTS
A purchase payment is the amount of money you give us to purchase the contract.
The minimum purchase payment is $10,000. You can make additional purchase
payments of at least $1,000 or more at any time during the accumulation phase.
You must get our prior approval for any purchase payments over $2 million.
ALLOCATION OF PURCHASE PAYMENTS
When you purchase a contract, we will allocate your purchase payment among the
variable investment options and the fixed interest-rate options based on the
percentages you choose. The percentage of your allocation to a specific
investment option can range in whole percentages from 0% to 100%. If you make
additional purchase payments, they will be allocated in the same way as your
most recent purchase payment, unless you tell us otherwise.
We will credit these purchase payments to your contract as of the end of the
business day on which the payment is received at the Prudential Annuity Service
Center. Our business day closes, usually at 4:15 p.m. Eastern time. If, however
your first purchase payment is made without enough information for us to set up
your contract we may need to contact you to get the required information. If we
are not able to get this information within five business days, we will either
return your purchase payment or get your consent to continue holding it until we
receive the necessary information.
CALCULATING CONTRACT VALUE
The value of the variable portion of your contract will go up or down depending
on the investment performance of the variable investment option(s) you choose.
To determine the value of your contract, we use a unit of measure called an
accumulation unit. An accumulation unit works like a share of a mutual fund.
Every day we determine the value of an accumulation unit for each of the
variable investment options. We do this by:
1. Adding up the total amount of money allocated to a specific investment
option;
2. Subtracting from that amount insurance charges and any other
applicable charges; and
3. Dividing this amount by the number of outstanding accumulation units.
When you make a purchase payment, we credit your contract with accumulation
units relating to the variable investment options you have chosen. The number of
accumulation units credited to your contract is determined by dividing the
amount of the purchase payment allocated to an investment option by the unit
price of the accumulation unit for that investment option. We calculate the unit
price for each investment option after the New York Stock Exchange closes each
day and then credit your contract. The value of the accumulation units can
increase, decrease, or remain the same from day to day. The Accumulation Unit
Values chart provided in Appendix A to this prospectus gives you more detailed
information about the accumulation units of the variable investment options.
We cannot guarantee that the value of your contract will increase or that it
will not fall below the amount of your total purchase payments. However, we do
guarantee a minimum interest rate of 3.0% a year on that portion of the contract
value allocated to the fixed interest-rate options.
6. WHAT ARE THE EXPENSES ASSOCIATED WITH THE DISCOVERY SELECT CONTRACT?
There are charges and other expenses associated with the contract that reduce
the return on your investment. These charges and expenses are described below.
13
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
INSURANCE CHARGES
Each day, we make a deduction for insurance charges. The insurance charges have
two parts:
1. Mortality and expense risk charge
2. Administrative expense charge
1. Mortality and Expense Risk Charge
The mortality risk charge is for assuming the risk that the annuitant(s) will
live longer than expected based on our life expectancy tables. When this
happens, we pay a greater number of annuity payments. The expense risk charge is
for assuming that the current charges will be insufficient in the future to
cover the cost of administering the contract.
The mortality and expense risk charge is equal, on an annual basis, to 1.25% of
the daily value of the contract invested in the variable investment options,
after expenses have been deducted. This charge is not assessed against amounts
allocated to the fixed interest-rate options.
If the charges under the contract are not sufficient, then we will bear the
loss. We do, however, expect to profit from this charge. The mortality and
expense risk charge cannot be increased. Any profits made from this charge may
be used by us to pay for the costs of distributing the contracts.
2. Administrative Expense Charge
This charge is for the expenses associated with the administration of the
contract. The administration of the contract includes preparing and issuing the
contract, establishing and maintaining of contract records, issuing
confirmations and annual reports, personnel costs, legal and accounting fees,
filing fees, and systems costs.
This charge is equal, on an annual basis, to 0.15% of the daily value of the
contract invested in the variable investment options, after expenses have been
deducted.
ANNUAL CONTRACT FEE
During the accumulation phase, if your contract value is less than $50,000, we
will deduct $30 per contract year (this fee may differ in certain states). This
annual contract fee is used for administrative expenses and cannot be increased.
The $30 charge will be deducted proportionately from each of the contract's
investment options. This charge will also be deducted when you surrender your
contract if your contract value is are less than $50,000.
WITHDRAWAL CHARGE
During the accumulation phase, you can make withdrawals from your contract. When
you make a withdrawal, money will be taken first from your purchase payments for
purposes of determining withdrawal charges. When your purchase payments have
been used up, then we will take the money from your earnings. You will not have
to pay any withdrawal charge when you withdraw your earnings.
The withdrawal charge is for the payment of the expenses involved in selling and
distributing the contracts, including sales commissions, printing of
prospectuses, sales administration, preparation of sales literature and other
promotional activities.
You can withdraw up to 10% of your total purchase payments each contract year
without paying a withdrawal charge. This amount is referred to as the
"charge-free amount." If any of the charge-free amount is not used during a
contract year, it will be carried over to the next contract year. During the
first seven contract years, if your withdrawal of purchase payments is more than
the charge-free amount, a withdrawal charge will be applied. This charge is
based on your contract date.
The following table shows the percentage of withdrawal charges that would apply:
During contract year 1 ......... 7%
During contract year 2 ......... 6%
During contract year 3 ......... 5%
During contract year 4 ......... 4%
During contract year 5 ......... 3%
During contract year 6 ......... 2%
During contract year 7 ......... 1%
After that ..................... 0%
14
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DISCOVERY SELECT(R) VARIABLE ANNUITY
CRITICAL CARE ACCESS
We will allow you to withdraw money from the contract and waive any withdrawal
and annual contract fee, if the annuitant or the last surviving co-annuitant (if
applicable) becomes confined to an eligible nursing home or hospital for a
period of at least three consecutive months. You would need to provide us with
proof of the confinement. If a physician has certified that the annuitant or
last surviving co-annuitant is terminally ill (has six months or less to live)
there will be no charge imposed for withdrawals. Critical Care Access is not
available in all states. This option is not available to the contractowner if he
or she is not the annuitant.
PREMIUM TAXES
Some states and/or municipalities charge premium taxes or similar taxes. We are
responsible for the payment of these taxes and will make a deduction from the
value of the contract to pay them. Some of these taxes are due when the contract
is issued, others are due when annuity payments begin. It is our current
practice not to deduct these taxes until annuity payments begin. In the few
states that impose a tax, the current rates range up to 5.0%. If, in the future,
we are charged for additional taxes that are based on purchase payments, that
charge may be passed on to contractholders.
TRANSFER FEE
You can make 12 free transfers every year. We measure a year from the date we
issue your contract (contract date). If you make more than 12 transfers in a
year (excluding Dollar Cost Averaging and Auto-Rebalancing), we will deduct a
transfer fee of $25 for each additional transfer. The transfer fee will be
deducted proportionately from all the affected investment options. The transfer
fee is deducted before the MVA is calculated.
COMPANY TAXES
We will pay the taxes on the earnings of the Separate Account. We are not
currently charging the Separate Account for taxes. We will periodically review
the issue of charging the Separate Account for these taxes, and may impose such
a charge in the future.
7. HOW CAN I ACCESS MY MONEY?
You can access your money by:
o Making a withdrawal (either partial or complete); or
o Electing to receive annuity payments during the income phase.
YOU CAN MAKE WITHDRAWALS ONLY DURING THE ACCUMULATION PHASE.
When you make a complete withdrawal, you will receive the value of your contract
on the day you made the withdrawal, less any applicable charges. We will
calculate the value of your contract, and charges, if any, as of the date we
receive your request in good order at the Prudential Annuity Service Center.
Unless you tell us otherwise, any partial withdrawal will be made
proportionately from all of the affected investment options and interest-rate
options you have selected. You will have to receive our consent to make a
partial withdrawal if the requested withdrawal is less than $500.
We will generally pay the withdrawal amount, less any required tax withholding,
within seven days after we receive a properly completed withdrawal request. We
will deduct applicable charges, and apply a market-value adjustment, if any,
from the assets in your contract.
INCOME TAXES, TAX PENALTIES AND CERTAIN RESTRICTIONS MAY APPLY TO ANY WITHDRAWAL
YOU MAKE. FOR A MORE COMPLETE EXPLANATION, SEE SECTION 8 OF THIS PROSPECTUS AND
THE TAX DISCUSSION IN THE STATEMENT OF ADDITIONAL INFORMATION.
AUTOMATED WITHDRAWALS
We offer an Automated Withdrawal feature. This feature enables you to receive
periodic withdrawals in monthly, quarterly, semiannual or annual intervals. We
will process your withdrawals at the end of the business day at the intervals
you specify. We will continue at these intervals until you tell us otherwise.
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You can make withdrawals from any designated investment option or proportionally
from all investment options. Market-value adjustments may apply. Withdrawal
charges may be deducted if the withdrawals in any contract year are more than
the charge-free amount. The minimum automated withdrawal amount you can make is
$250.
INCOME TAXES AND A 10% PENALTY TAX ON EARNINGS MAY APPLY TO AUTOMATED
WITHDRAWALS AS WELL AS ANY OTHER WITHDRAWALS MADE FROM YOUR CONTRACT.
SUSPENSION OF PAYMENTS OR TRANSFERS
We may be required to suspend or postpone payments made in connection with
withdrawals or transfers for any period when:
o The New York Stock Exchange is closed (other than customary weekend and
holiday closings);
o Trading on the New York Stock Exchange is restricted;
o An emergency exists during which sales of shares of the mutual funds are
not reasonable or we cannot reasonably value the accumulation units; or
o The Securities and Exchange Commission, by order, so permits suspension or
postponement of payments for the protection of owners.
We expect to pay the amount of any withdrawal or transfer made from the
interest-rate options promptly upon request.
8. WHAT ARE THE TAX CONSIDERATIONS ASSOCIATED WITH THE DISCOVERY SELECT
CONTRACT?
The tax considerations associated with the Discovery Select contract vary
depending on whether the contract is (i) owned by an individual and not
associated with a tax-favored retirement plan, or (ii) held under a tax-favored
retirement plan. We discuss the tax considerations for these categories of
contracts below. The discussion is general in nature and describes only federal
income tax law (not state or other tax laws). It is based on current law and
interpretations, which may change. It is not intended as tax advice. A qualified
tax adviser should be consulted for complete information and advice.
We believe the contract is an annuity contract for tax purposes. Accordingly, as
a general rule, you should not pay any tax until you receive money under the
contract.
CONTRACTS OWNED BY INDIVIDUALS (NOT ASSOCIATED WITH TAX FAVORED RETIREMENT
PLANS)
TAXES PAYABLE BY YOU
Generally, annuity contracts issued by the same company (and affiliates) to you
during the same calendar year must be treated as one annuity contract for
purposes of determining the amount subject to tax under the rules described
below.
TAXES ON WITHDRAWALS AND SURRENDER
If you make a withdrawal from your contract or surrender it before annuity
payments begin, the amount you receive will be taxed as ordinary income, rather
than as return of purchase payments, until all gain has been withdrawn.
If you assign all or part of your contract as collateral for a loan, the part
assigned will be treated as a withdrawal. Also, if you elect the interest
payment option, you will be treated, for tax purposes, as surrendering your
contract.
If you transfer your contract for less than full consideration, such as by gift,
you will trigger tax on the gain in the contract. This rule does not apply if
you transfer the contract to your spouse or incident to divorce.
TAXES ON ANNUITY PAYMENTS
A portion of each annuity payment you receive will be treated as a partial
return of your purchase payments and will not be taxed. The remaining portion
will be taxed as ordinary income. Generally, the nontaxable portion is
determined by multiplying the annuity payment you receive by a
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fraction, the numerator of which is your purchase payments (less any amounts
previously received tax-free) and the denominator of which is the total expected
payments under the contract.
After the full amount of your purchase payments have been recovered tax-free,
the full amount of the annuity payments will be taxable. If annuity payments
stop due to the death of the annuitant before the full amount of your purchase
payments have been recovered, a tax deduction is allowed for the unrecovered
amount.
PENALTY TAXES ON WITHDRAWALS AND ANNUITY PAYMENTS
Any taxable amount you receive under your contract may be subject to a 10
percent penalty tax. Amounts are not subject to this penalty tax if:
o the amount is paid on or after you reach age 59-1/2 or die;
o the amount received is attributable to your becoming disabled;
o the amount paid or received is in the form of level annuity payments not
less frequently than annually under a lifetime annuity; and
o the amount received is paid under an immediate annuity contract (in which
annuity payments begin within one year of purchase)
If you modify the lifetime annuity payment stream (other than as a result of
death or disability) before you reach age 59-1/2 (or before the end of the five
year period beginning with the first payment and ending after you reach age
59-1/2), your tax for the year of modification will be increased by the penalty
tax that would have been imposed without the exception, plus interest for the
deferral.
TAXES PAYABLE BY BENEFICIARIES
Generally, the same tax rules apply to amounts received by your beneficiary as
those set forth above with respect to you. The election of an annuity payment
option instead of a lump sum death benefit may defer taxes. Certain minimum
distribution requirements apply upon your death, as discussed further below.
WITHHOLDING OF TAX FROM DISTRIBUTIONS
Taxable amounts distributed from your annuity contracts are subject to tax
withholding. You may generally elect not to have tax withheld from your
payments. These elections must be made on the appropriate Pruco Life forms.
ANNUITY QUALIFICATION
DIVERSIFICATION AND INVESTOR CONTROL
In order to qualify for the tax rules applicable to annuity contracts described
above, the contract must be an annuity contract for tax purposes. This means
that the assets underlying the annuity contract must be diversified, according
to certain rules. It also means that Pruco Life, and not you as the
contract-owner, must have sufficient control over the underlying assets to be
treated as the owner of the underlying assets for tax purposes. We believe these
rules, which are further discussed in the Statement of Additional Information,
will be met.
REQUIRED DISTRIBUTIONS UPON YOUR DEATH
Upon your death (or the death of a joint owner, if earlier), certain
distributions must be made under the contract. The required distributions depend
on whether you die on or before you start taking annuity payments under the
contract or after you start taking annuity payments under the contract.
If you die on or after the annuity date, the remaining portion of the interest
in the contract must be distributed at least as rapidly as under the method of
distribution being used as of the date of death.
If you die before the annuity date, the entire interest in the contract must be
distributed within 5 years after the date of death. However, if an annuity
payment option is selected by your designated beneficiary and if annuity
payments begin within 1 year of your death, the value of the contract may be
distributed over the beneficiary's life or a period not
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DISCOVERY SELECT(R) VARIABLE ANNUITY
exceeding the beneficiary's life expectancy. Your designated beneficiary is the
person to whom ownership of the contract passes by reason of death, and must be
a natural person.
If any portion of the contract is payable to (or for the benefit of) your
surviving spouse, such portion of the contract may be continued with your spouse
as the owner.
CHANGES IN THE CONTRACT
We reserve the right to make any changes we deem necessary to assure that the
contract qualifies as an annuity contract for tax purposes. Any such changes
will apply to all contractowners and you will be given notice to the extent
feasible under the circumstances.
ADDITIONAL INFORMATION
You should refer to the Statement of Additional Information if:
o The contract is held by a corporation or other entity instead of by an
individual or as agent for an individual.
o Your contract was issued in exchange for a contract containing purchase
payments made before August 14, 1982.
o You are a nonresident alien.
o You transfer your contract to, or designate, a beneficiary who is either
37-1/2 years younger than you or a grandchild.
o You wish additional information on withholding taxes.
CONTRACTS HELD BY TAX FAVORED PLANS
Currently, the contract may be purchased for use in connection with individual
retirement accounts and annuities ("IRAs") which are subject to Sections 408(a),
408(b) and 408A of the Code. At some future time we may allow the contract to be
purchased in connection with other retirement arrangements which are also
entitled to favorable federal income tax treatment ("tax favored plans"). These
other tax favored plans include:
Simplified employee pension plans ("SEPs") under Section 408(k) of the Code;
Saving incentive match plans for employees-IRAs ("SIMPLE-IRAs") under Section
408(p) of the Code;
and Tax-deferred annuities ("TDAs") under Section 403(b) of the Code.
This description assumes that (i) we will be offering this to both IRA and
non-IRA tax favored plans, and (ii) you have satisfied the requirements for
eligibility for these products.
Types of Tax Favored Plans
IRAS
If you buy a contract for use as an IRA, we will provide you a copy of the
prospectus, contract and a brochure containing information about eligibility,
contribution limits, tax particulars and other IRA information. In addition to
this information (some of which is summarized below), the IRS requires that you
have a "free look" after making an initial contribution to the contract. During
this time, you can cancel the contract by notifying us in writing, and we will
refund all of the purchase payments under the contract (or, if greater, the
amount credited under the contract, calculated as of the valuation period that
we receive this cancellation notice).
Contributions Limits/Rollovers: Because of the way the contract is designed, you
may only purchase a contract for an IRA in connection with a "rollover" of
amounts from a qualified retirement plan. You must make a minimum initial
payment of $10,000 to purchase a contract. This minimum is greater than the
maximum amount of any annual contribution you may make to an IRA (which is
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generally $2,000/year). The "rollover" rules under the Code are fairly
technical; however, an individual (or his or her surviving spouse) may generally
"roll over" certain distributions from tax favored retirement plans (either
directly or within 60 days from the date of these distributions) if he or she
meets the requirements for distribution. Once you buy the contract, you can make
regular IRA contributions under the contract (to the extent permitted by law).
However, if you make such regular IRA contributions, you should note that you
will not be able to treat the contract as a "conduit IRA," which means that you
will not be able subsequently to "roll over" the contract funds into another
Section 401(a) plan or TDA (although you may be able to transfer the funds to
another IRA).
Required Provisions: Contracts that are IRAs (or endorsements that are part of
the contract) must contain certain provisions:
o You, as owner of the contract, must be the "annuitant" under the contract
(except in certain cases involving the division of property under a decree
of divorce);
o Your rights as owner are non-forfeitable;
o You cannot sell, assign or pledge the contract, other than to Pruco Life;
o The annual premium you pay cannot be greater than $2,000 (which does not
include any rollover amounts);
o The date on which annuity payments must begin cannot be later than the
April 1st of the calendar year after the calendar year you turn age 70-1/2;
and
o Death and annuity payments must meet "minimum distribution requirements"
(described below).
Usually, the full amount of any distribution from an IRA (including a
distribution from this contract) which is not a rollover is taxable. As taxable
income, these distributions are subject to the general tax withholding rules
described earlier. In addition to this normal tax liability, you may also be
liable for the following, depending on your actions:
o A 10% "early distribution penalty" (described below);
o Liability for "prohibited transactions" if you, for example, borrow against
the value of an IRA; or
o Failure to take a minimum distribution (also generally described below).
SEPS
SEPs are a variation on a standard IRA, and contracts issued to a SEP must
satisfy the same general requirements described under IRAs (above). There are,
however, some differences:
o If you participate in a SEP, you generally do not include into income any
employer contributions made to the SEP on your behalf up to the lesser of
(a) $30,000 or (b) 15% of the employee's earned income (not including the
employer contribution amount as "earned income" for these purposes;
o SEPs must satisfy certain participation and nondiscrimination requirements
not generally applicable to IRAs; and
o Some SEPs for small employers permit salary deferrals (up to $10,000 in
1999) with the employer making these contributions to the SEP. However, no
new "salary reduction" or "SAR-SEPs" can be established after 1996.
You will also be provided the same information, and have the same "free look"
period, as you would have if you were purchasing the contract for a standard
IRA.
SIMPLE-IRAS
SIMPLE-IRAs are another variation on the standard IRA, available to small
employers (under 100 employees, on a "controlled group" basis) that do not offer
other tax favored plans. SIMPLE-IRAs
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are also subject to the same basic IRA requirements with the following
exceptions:
o Participants in a SIMPLE-IRA may contribute up to $6,000 (in 1999,
indexed), as opposed to the usual $2,000 limit, and employer contributions
may also be provided as either a match (up to 3% of your compensation; and
o SIMPLE -IRAs are not subject to the SEP nondiscrimination rules.
ROTH IRAS
Congress amended the Code in 1997 to add a new Section 408A, creating the "Roth
IRA" as a new type of individual retirement plan. Like standard IRAs, income
within a Roth IRA accumulates tax-free, and contributions are subject to
specific limits. Roth IRAs have, however, the following differences:
o Contributions to a Roth IRA cannot be deducted from your gross income;
o "Qualified distributions" (generally, held for 5 years and payable on
account of death, disability, attainment of age 59-1/2, or first
time-homebuyer) from Roth IRAs are excludable from your gross income; and
o If eligible, you may make contributions to a Roth IRA after attaining age
70-1/2, and distributions are not required to begin upon attaining such age
or at any time thereafter.
Because the contract's minimum initial payment of $10,000 is greater than the
maximum annual contribution permitted to be made to a Roth IRA (generally,
$2,000 less any contributions to a traditional IRA), you may purchase a contract
as a Roth IRA only in connection with a "rollover" or "conversion" of the
proceeds of another traditional IRA, conduit IRA, SEP, SIMPLE-IRA, or Roth IRA.
The Code permits persons who meet certain income limitations (generally,
adjusted gross income under $100,000), and who receive certain qualifying
distributions from such non-Roth IRAs, to directly rollover or make, within 60
days, a "rollover" of all or any part of the amount of such distribution to a
Roth IRA which they establish. This conversion triggers current taxation (but is
not subject to a 10% early distribution penalty). Once the contract has been
purchased, regular Roth IRA contributions will be accepted to the extent
permitted by law.
TDAS
You may own TDAs generally if you are either an employer or employee of a
tax-exempt organization (as defined under Code Section 501(c)(3)) or a public
educational organization, you may make contributions to a TDA so long as the
employee's rights to the annuity are nonforfeitable. Contributions to a TDA, and
any earnings, are not taxable until distribution. You may also make
contributions to a TDA under a salary reduction agreement, generally up to a
maximum of $10,000 (1999, indexed). Further, you may roll over TDA amounts to
another TDA or an IRA.
A contract may only qualify as a TDA if distributions (other than
"grandfathered" amounts held as of December 31, 1988) may be made only on
account of:
o Your attainment of age 59-1/2;
o Your severance of employment;
o Your death;
o Your total and permanent disability; OR
o Hardship (under limited circumstances, and only related to salary deferrals
and any earnings attributable to these amounts).
In any event, you must begin receiving distributions from your TDA by April 1st
of the calendar year after the calendar year you turn age 70-1/2 or retire,
whichever is later.
These distribution limits do not apply either to transfers or exchanges of
investments under the contract, or to any "direct transfer" of your interest
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in the contract to another TDA or to a mutual fund "custodial account" described
under Code Section 403(b)(7).
Employer contributions to TDAs are subject to the same general contribution,
nondiscrimination, and minimum participation rules applicable to "qualified"
retirement plans.
ADDITIONAL TAX FEATURES FOR TAX FAVORED PLANS
MINIMUM DISTRIBUTION OPTION
If you hold the contract under an IRA or other tax favored plan, you can satisfy
the IRS minimum distribution requirements described above (generally,
distribution after age 70-1/2) under the contract without either annuitizing or
"cash surrendering" a portion of the contract. You, as owner of the contract,
can select either a "calculation" or "recalculation" method to determine the
minimum distribution. We will send you a check for the minimum distribution
amount, less any other partial withdrawals that you made during the year. More
information on the mechanics of this calculation is available on request.
PENALTY FOR EARLY WITHDRAWALS
You may owe a 10% penalty tax to the taxable part of distributions received from
an IRA, SEP, SIMPLE-IRA (which may increase to 25%), Roth IRA, TDA or qualified
retirement plan before you attain age 59-1/2. There are only limited exceptions
to this tax, and you should consult your tax adviser for further details.
WITHHOLDING
The Code requires a mandatory 20% federal income tax withholding for certain
distributions from a TDA or qualified retirement plan, unless the distribution
is an eligible rollover contribution that is "directly" rolled into another
qualified plan, IRA (including the IRA variations described above) or TDA. For
all other distributions, unless you elect otherwise, we will withhold federal
income tax from the taxable portion of such distribution at an appropriate
percentage. The rate of withholding on annuity payments where no mandatory
withholding is required is determined on the basis of the withholding
certificate that you file with us. If you do not file a certificate, we will
automatically withhold federal taxes on the following basis:
o For any annuity payments not subject to mandatory withholding, you will
have taxes withheld by us as if you are a married individual, with 3
exemptions; and
o For all other distributions, you will be withheld at a 10% rate.
We will provide you with forms and instructions concerning the right to elect
that no amount be withheld from payments in the ordinary course. However, you
should know that, in any event, you are liable for payment of federal income
taxes on the taxable portion of the distributions, and you should consult with
your tax advisor to find out more information on your potential liability if you
fail to pay such taxes.
ERISA DISCLOSURE/REQUIREMENTS
ERISA (the "Employee Retirement Income Security Act of 1974") and the Code
prevents a fiduciary and other "parties in interest" with respect to a plan
(and, for these purposes, an IRA would also constitute a "plan") from receiving
any benefit from any party dealing with the plan, as a result of the sale of the
contract Administrative exemptions under ERISA generally permit the sale of
insurance/annuity products to plans, provided that certain information is
disclosed to the person purchasing the contract. This information has to do
primarily with the fees, charges, discounts and other costs related to the
contract, as well as any commissions paid to any agent selling the contract.
Information about any applicable fees, charges, discounts, penalties or
adjustments may be found under "What Are the Expenses Associated with the
Discovery Select Contract" starting on page 13.
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Information about sales representatives and commissions may be found under
"Other Information" and "Sale of the Contract and Distributor on page 23."
In addition, other relevant information required by the exemptions is contained
in the contract and accompanying documentation. Please consult your tax advisor
if you have any additional questions.
9. OTHER INFORMATION
PRUCO LIFE INSURANCE COMPANY
Pruco Life Insurance Company is a stock life insurance company organized in 1971
under the laws of the State of Arizona. Pruco Life is licensed to sell life
insurance and annuities in the District of Columbia, Guam and in all states
except New York and therefore is subject to the insurance laws and regulations
of all the jurisdictions where it is licensed to do business. Pruco Life is a
wholly-owned subsidiary of The Prudential Life Insurance Company of America
(Prudential), a mutual insurance company founded in 1875 under the laws of the
State of New Jersey.
Prudential is currently considering reorganizing itself onto a publicly traded
stock company through a process known as `demutualization." On February 10,
1998, the company's Board of Directors authorized management to take preliminary
steps necessary to allow the company to demutualize. On July 1, 1998,
legislation was enacted in New Jersey that would permit this conversion to occur
and that specified the process for conversion. Demutualization is a complex
process involving development of a plan of reorganization, adoption of a plan by
the company's Board of Directors, a public hearing, voting by qualified
policyholders and regulatory approval. This process could take two or more years
to complete. Prudential's management and Board of Directors have not yet
determined to demutalize and it is possible that, after careful review,
Prudential could decide not to go public.
The plan of reorganization, which has not been developed and approved, would
provide the criteria for determining eligibility and the methodology for
allocating shares or other consideration to those who would be eligible.
Generally, the amount of shares or other consideration eligible customers would
receive would be based on a number of factors, including types, amounts and
issue years of their policies. As a general rule, owners of Prudential-issued
insurance policies and annuity contracts would be eligible, while mutual fund
customers and customers of the company's subsidiaries, such as the Pruco Life
insurance companies, would not be. It has not yet been determined whether any
exceptions to that general rule will be made with respect to policyholders and
contractowners of Prudential's subsidiaries.
THE SEPARATE ACCOUNT
We have established a separate account, the Pruco Life Flexible Premium Variable
Annuity Account (Separate Account), to hold the assets that are associated with
the contracts. The Separate Account was established under Arizona law on June
16, 1995, and is registered with the U.S. Securities and Exchange Commission
under the Investment Company Act of 1940, as a unit investment trust, which is a
type of investment company. The assets of the Separate Account are held in the
name of Pruco Life and legally belong to us. These assets are kept separate from
all of our other assets and may not be charged with liabilities arising out of
any other business we may conduct. More detailed information about Pruco Life,
including its audited financial statements, is provided in Part III of this
prospectus beginning on page 34
EXPERTS
The consolidated financial statements of Pruco Life as of December 31, 1998 and
1997 and for each of the three years in the period ended December 31, 1998
included in this Prospectus have been so included in reliance on the report of
PricewaterhouseCoopers LLP, independent accountants given on the authority of
said firm as
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experts in auditing and accounting. PricewaterhouseCoopers LLP's principal
business address is 1177 Avenue of the Americas, New York, New York, 10036.
SALE OF THE CONTRACT AND DISTRIBUTOR
Prudential Investment Management Services LLC ("PIMS"), 751 Broad Street,
Newark, New Jersey 07102-3777, acts as the distributor of the contracts. PIMS is
a wholly-owned subsidiary of Prudential and is a limited liability corporation
organized under Delaware law in 1996. It is a registered broker-dealer under the
Securities Exchange Act of 1934 and a member of the National Association of
Securities Dealers, Inc. Commissions for the sales of contracts are paid to
Prudential representatives and to other independent broker-dealers who sell the
contracts. Registered representatives of independent broker-dealers may be paid
on a different basis than those affiliated with PIMS. The maximum commission
that will be paid to the broker-dealer to cover both the individual
representative's commission and other distribution expenses will not be more
than 6.0% of the purchase payment.
ASSIGNMENT
You can assign the contract at any time during your lifetime. We will not be
bound by the assignment until we receive written notice. We will not be liable
for any payment or other action we take in accordance with the contract if that
action occurs before we receive notice of the assignment. AN ASSIGNMENT, LIKE
ANY OTHER CHANGE IN OWNERSHIP, MAY TRIGGER A TAXABLE EVENT.
If the contract is issued under a qualified plan, there may be limitations on
your ability to assign the contract. For further information please speak to
your financial professional.
FINANCIAL STATEMENTS
The financial statements of the Separate Account associated with Discovery
Select are included in the Statement of Additional Information.
YEAR 2000 COMPLIANCE
The services provided to you as a purchaser of Discovery Select depend on the
smooth functioning of numerous computer systems. Many computer systems in use
today are programmed to recognize only the last two digits of a date as the
year. As a result, any systems using this kind of programming can not
distinguish a date using "00" and may treat it as "1900" instead of "2000." This
problem may impact computer systems that store business information, but it
could also affect other equipment used in our business like telephone, fax
machines and elevators. If this problem is not corrected, the "Year 2000" issue
could affect the accuracy and integrity of business records. Prudential's
regular business operations could be interrupted as well as those of other
companies that deal with us.
In addition, the operations of the mutual funds associated with Discovery Select
could experience problems resulting from the Year 2000 issue. Please refer to
the respective mutual fund's prospectus for information regarding their approach
to Year 2000 concerns. The following describes the Prudential's effort to
address Year 2000 concerns
To address this potential problem Prudential as the parent company of Pruco Life
organized its Year 2000 efforts around the following three areas:
o BUSINESS SYSTEMS - Computer programs directly used to support our business;
o INFRASTRUCTURE - Computers and other business equipment like telephones and
fax machines; and
o BUSINESS PARTNERS - Year 2000 readiness of essential business partners.
BUSINESS SYSTEMS. The business systems component includes a wide range of
computer programs that directly support Prudential's business operations
including systems for: insurance product processing, securities trading,
personnel record keeping and general accounting systems. All business systems
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were analyzed to determine whether each computer program with a Year 2000
problem should be retired, replaced or renovated. The majority of this work has
been completed. A few remaining programs are currently being tested and
completion of this process is expected by June 1999.
INFRASTRUCTURE. As with business applications, we established a specific
methodology and process for addressing infrastructure issues. The infrastructure
effort includes mainframe computer system hardware and operating system
software, mid-range systems and servers, telecommunications equipment and
systems, buildings and facilities systems, personal computers, and vendor
hardware and software. Other than desktop systems, substantially all other
infastructure systems have been tested. Presently, a small number of midrange
computers, and building and facility systems are still in the testing phase. We
expect to have the infrastructure implementation process completed by June 1999.
BUSINESS PARTNERS. Prudential recognizes the importance of determining the Year
2000 readiness of external business relationships especially those that involve
electronic data transfer products and services, and products that impact our
essential business processes. Prudential first classified each business partner
as "highly critical" or "less critical" to our business, and then began to
develop risk assessment and contingency plans to address the potential that a
business partner could experience a Year 2000 failure. All highly critical
business partner relationships have been assessed and contigency planning is
completed. Risk assessment and contingency planning continues for less critical
business partners, and the target completion date for these relationships is
June 1999.
Prudential believes that the Business Application, Infrastructure and Business
Partners components of the Year 2000 project are substantially on schedule. A
small number of the projects may not meet their targeted completion date.
However, Prudential expects that these projects will be completed by September,
1999. If there are any delays, they should not have a significant impact on the
timing of the project as a whole.
THE COST OF YEAR 2000 READINESS
Prudential is funding the Year 2000 program from internal operating budgets, and
estimates that its total costs to address the Year 2000 issue will total
approximately $220 million. Because these expenses were part of the operating
budget, they did not impact the management of Discovery Select. During the
course of the Year 2000 program, some optional computer projects have been
delayed, but these delays have not had any material effect on Discovery Select.
YEAR 2000 RISKS AND CONTINGENCY PLANNING
Prudential believes that it is well positioned to lessen the impact of the Year
2000 problem. However, given the nature of this issue, we can not be 100%
certain that we are completely prepared, particularly because we can not be
certain of Year 2000 readiness of third parties. As a result, we are unable to
determine at this time whether the consequences of Year 2000 failures may have a
material adverse effect on the results of Prudential's operations, liquidity or
financial condition. In the worst case, it is possible that a Year 2000
technology failure, whether internal or external, could have a material impact
on Prudential's results of operations, liquidity, or financial position. If
Prudential is unable to address the Year 2000 problem, we may have difficulty in
responding to your incoming phone calls, calculating your unit values or
processing withdrawals and purchase payments. It is also possible that the
mutual funds associated with Discovery Select will be unable to value their
securities, in turn creating difficulties in purchasing or selling shares of the
respective mutual fund and calculating corresponding unit asset values. The
objective of Prudential's Year 2000 program has been to reduce these risks as
much as possible.
Most of the operations of Discovery Select involve such a large number of
individual transactions that they can only be handled with the help of
computers. As a result, our current contingency
24
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
plans include responses to the failure of specific business programs or
infrastructure components. However, our contingency responses are now being
reviewed and we expect to finalize them by June, 1999 to ensure that they are
workable under the special conditions of a Year 2000 failure. Prudential
believes that with the completion of its Year 2000 program as scheduled, the
possibility of significant interruptions of normal operations will be reduced.
STATEMENT OF ADDITIONAL INFORMATION
Contents:
Company
Experts
Litigation
Legal Opinions
Principal Underwriter
Determination of Accumulation Unit Values
Performance Information
Comparative Performance Information
Further Information about the Death Benefit
Financial Information
25
<PAGE>
DISCOVERY SELECT VARIABLE ANNUITY
ACCUMULATION UNIT VALUES:
<TABLE>
<CAPTION>
Accumulation Accumulation Number of
Unit Value at Unit Value at Accumulation
Beginning of End of Period Units
Period Outstanding at
the End of
Period
- --------------------------------------------------------------------------------------------------------------
PRUDENTIAL SERIES FUND
Diversified Bond Portfolio
<S> <C> <C> <C>
10/7/96* to 12/31/97 $1.03731 $1.06033 6,007,104
1/1/97 to 12/31/97 $1.06033 $1.13525 83,725,723
1/1/98 to 12/31/98 $1.13525 $1.19977 279,253,272
Equity Income Portfolio
10/7/96* to 12/31/97 $1.13494 $1.23339 2,784,921
1/1/97 to 12/31/97 $1.23339 $1.66167 99,533,257
1/1/98 to 12/31/98 $1.66167 $1.59960 254,746,617
Equity Portfolio
10/7/96* to 12/31/97 $1.13479 $1.20807 8,287,181
1/1/97 to 12/31/97 $1.20807 $1.48518 134,944,417
1/1/98 to 12/31/98 $1.48518 $1.60144 280,479,415
Global Portfolio
10/7/96* to 12/31/97 $1.14330 $1.19505 1,375,156
1/1/97 to 12/31/97 $1.19505 $1.26079 18,580,228
1/1/98 to 12/31/98 $1.26079 $1.55516 34,899,069
High Yield Portfolio
10/7/96* to 12/31/97 $1.11250 $1.12263 8,231,178
1/1/97 to 12/31/97 $1.12263 $1.25972 84,952,656
1/1/98 to 12/31/98 $1.25972 $1.21296 227,901,703
Money Market Portfolio
10/7/96* to 12/31/97 $1.03576 $1.04505 16,621,393
1/1/97 to 12/31/97 $1.04505 $1.08688 80,833,415
1/1/98 to 12/31/98 $1.08688 $1.12985 196,092,083
Prudential Jennison Portfolio
10/7/96* to 12/31/97 $1.12169 $1.13943 4,882,616
1/1/97 to 12/31/97 $1.13943 $1.48006 72,354,119
1/1/98 to 12/31/98 $1.48006 $2.00651 209,542,146
Small Capitalization Stock Portfolio
9/1/98* to 12/31/98 $1.02621 $1.25353 6,947,511
Stock Index Portfolio
10/7/96* to 12/31/97 $1.07837 $1.13652 7,481,300
1/1/97 to 12/31/97 $1.13652 $1.48876 115,667,746
1/1/98 to 12/31/98 $1.48876 $1.88540 261,786,090
AIM VARIABLE INSURANCE FUND, INC.
AIM VI Growth and Income Fund
10/7/96* to 12/31/97 $1.00065 $1.03757 3,408,550
1/1/97 to 12/31/97 $1.03757 $1.28644 32,365,952
1/1/98 to 12/31/98 $1.28644 $1.61976 59,407,686
AIM VI Value Fund
10/7/96* to 12/31/97 $1.00223 $1.04935 4,033,864
1/1/97 to 12/31/97 $1.04935 $1.27997 37,009,785
1/1/98 to 12/31/98 $1.27997 $1.67125 70,530,542
AMERICAN CENTURY VARIABLE PORTFOLIOS, INC.
American Century VP Value Fund
9/1/98* to 12/31/98 $1.02098 $1.17305 3,082,973
</TABLE>
* Commencement of Business
26
<PAGE>
DISCOVERY SELECT VARIABLE ANNUITY
ACCUMULATION UNIT VALUES: (CONT.)
<TABLE>
<CAPTION>
Accumulation Accumulation Number of
Unit Value at Unit Value at Accumulation
Beginning of End of Period Units
Period Outstanding at
the End of
Period
- --------------------------------------------------------------------------------------------------------------
JANUS ASPEN SERIES
Growth Portfolio
<S> <C> <C> <C> <C> <C> <C> <C>
10/7/96* to 12/31/97 $1.00191 $1.00830 5,459,309
1/1/97 to 12/31/97 $1.00830 $1.22056 40,236,135
1/1/98 to 12/31/98 $1.22056 $1.63278 70,344,877
International Growth Portfolio
10/7/96* to 12/31/97 $1.00130 $1.05349 5,902,196
1/1/97 to 12/31/97 $1.05349 $1.23121 63,737,492
1/1/98 to 12/31/98 $1.23121 $1.42337 95,669,051
MFS VARIABLE INSURANCE TRUST
Emerging Growth Series
10/7/96* to 12/31/97 $1.00860 $0.95812 5,755,823
1/1/97 to 12/31/97 $0.95812 $1.15186 44,342,700
1/1/98 to 12/31/98 $1.15186 $1.52386 96,930,075
Research Series
10/7/96* to 12/31/97 $1.00228 $1.02610 2,727,174
1/1/97 to 12/31/97 $1.02610 $1.21695 31,409,623
1/1/98 to 12/31/98 $1.21695 $1.48048 50,551,268
OCC ACCUMULATION TRUST
Managed Portfolio
10/7/96* to 12/31/97 $0.99909 $1.05185 8,643,614
1/1/97 to 12/31/97 $1.05185 $1.26868 144,784,302
1/1/98 to 12/31/98 $1.26868 $1.34022 302,639,179
Small Cap Portfolio
10/7/96* to 12/31/97 $0.99623 $1.05106 2,345,893
1/1/97 to 12/31/97 $1.05106 $1.26710 36,276,987
1/1/98 to 12/31/98 $1.26710 $1.13668 68,479,356
TEMPLETON VARIABLE PRODUCTS SERIES FUND
Franklin Small Cap Investments Fund - Class 2
9/1/98* to 12/31/98 $1.00945 $1.24477 2,820,341
T. ROWE PRICE
Equity Series - Equity Income Portfolio
10/7/96* to 12/31/97 $0.99996 $1.04885 6,578,342
1/1/97 to 12/31/97 $1.04885 $1.33212 65,481,114
1/1/98 to 12/31/98 $1.33212 $1.43277 110,131,073
International Series - International Stock Portfolio
10/7/96* to 12/31/97 $1.00159 $1.03988 2,951,074
1/1/97 to 12/31/97 $1.03988 $1.05690 22,039,049
1/1/98 to 12/31/98 $1.05690 $1.20747 29,923,449
WARBURG PINCUS TRUST
Post-Venture Capital Portfolio
10/7/96* to 12/31/97 $1.00587 $0.95745 1,786,115
1/1/97 to 12/31/97 $0.95745 $1.07018 11,039,843
1/1/98 to 12/31/98 $1.07018 $1.12410 18,649,002
</TABLE>
* Commencement of Business
27
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
MARKET-VALUE ADJUSTMENT FORMULA
WITH RESPECT TO RESIDENTS OF STATES, OTHER THAN PENNSYLVANIA, IN WHICH
DISCOVERY SELECT IS BEING OFFERED. WITH RESPECT TO RESIDENTS OF PENNSYLVANIA,
SEE PAGE 30.
MARKET-VALUE ADJUSTMENT FORMULA
The Market-Value Adjustment, which is applied to withdrawals and transfers made
at any time other than the 30-day period following the end of an interest rate
period, involves three amounts:
1. The number of whole months remaining in the existing interest rate
period.
2. The guaranteed interest rate.
3. The interest rate that Pruco Life declares for a duration of one year
longer than the number of whole years remaining on the existing cell
being withdrawn from.
Stated as a formula, the Market Value Factor is equal to: (M/12) x (R-C),
not to exceed +0.40 or be less than -0.40;
Where,
M = the number of whole months (not to be less than one) remaining in the
interest rate period.
R = the Contract's guaranteed interest rate expressed as a decimal. Thus
6.2% is converted to 0.062.
C = the interest rate, expressed as a decimal, that Pruco Life declares for
a duration equal to the number of whole years remaining in the present
interest rate period, plus 1 year as of the date the request for a
withdrawal or transfer is received.
The Market-Value Adjustment is then equal to the Market Value Factor
multiplied by the amount subject to a Market-Value Adjustment.
The steps below explain how a Market-Value Adjustment is calculated.
STEP 1: Divide the number of whole months left in the existing interest
rate period (not to be less than one) by 12.
STEP 2: Divide the interest rate Pruco Life declares on the date the
request for withdrawal or transfer is received for a duration of years
equal to the whole number of years determined in Step 1, plus 1 additional
year. Subtract this interest rate from the guaranteed interest rate. The
result could be negative.
STEP 3: Multiply the results of Step 1 and Step 2. Again, the result could
be negative. If the result is less than -0.4, use the value -0.4. If the
result is in between -0.4 and 0.4, use the actual value. If the result is
more than 0.4, use the value 0.4.
28
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
STEP 4: Multiply the result of Step 3 (which is the Market Value Factor) by
the value of the amount subject to a Market-Value Adjustment. The result is
the Market-Value Adjustment.
STEP 5: The result of Step 4 is added to the interest cell. If the
Market-Value Adjustment is positive, the interest cell will go up in value.
If the Market-Value Adjustment is negative, the interest cell will go down
in value.
Depending upon when the withdrawal request is made, a withdrawal charge may
apply.
The following example will illustrate the application of a Market-Value
Adjustment and the determination of the withdrawal charge. Suppose a
contractowner made two invested purchase payments, the first in the amount of
$10,000 on December 1 1995, all of which was allocated to the Equity Subaccount,
and the second in the amount of $5,000 on October 1 1997, all of which was
allocated to the MVA Option with a guaranteed interest rate of 8% (0.08) for 7
years. A request for withdrawal of $8,500 is made on February 1, 2000 (the
Contract owner does not provide any withdrawal instructions). On that date the
amount in the Equity Subaccount is equal to $12,000 and the amount in the
interest cell with a maturity date of September 30, 2004 is $5,985.23, so that
the Contract Fund on that date is equal to $17,985.23.
On February 1, 2000, the interest rates declared by Pruco Life for the
duration of 5 years (4 whole years remaining until September 30, 2004, plus 1
year) is 11%.
The following computations would be made:
1. Calculate the Contract Fund value as of the effective date of the
transaction. This would be $17,985.23.
2. Calculate the charge-free amount (the amount of the withdrawal that is not
subject to a withdrawal charge).
DATE PAYMENT FREE
---- ------- ----
12/1/95 $10,000 $1,000
12/1/96 $2,000
10/1/97 $5,000 $2,500
12/1/97 $4,000
12/1/98 $5,500
12/1/99 $7,000
The charge-free amount in the fifth contract year is 10% of $15,000 (total
purchase payments) plus $5,500 (the charge-free amount available in the
fourth contract year) for a total of $7,000.
3. Since the withdrawal request is in the fifth contract year, a 3% withdrawal
charge rate applies to any portion of the withdrawal which is not
charge-free.
$8,500.00 requested withdrawal amount
$7,000.00 charge-free
$1,500.00 additional amount needed to complete withdrawal
The contract provides that the contract fund will be reduced by an amount
which, when reduced by the
29
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
withdrawal charge, will equal the amount requested. Therefore, in order to
produce the amount needed to complete the withdrawal request ($1,500), we
must "gross-up" that amount, before applying the withdrawal charge rate.
This is done by dividing by 1 minus the withdrawal charge rate.
$1,500.00 / (1-.03) =
$1,500.00 / 0.97 = $1,546.39 grossed-up amount
Please note that a 3% withdrawal charge on this grossed-up amount reduces
it to $1,500, the balance needed to complete the request.
$1,546.39 grossed-up amount
x .03 withdrawal charge rate
$ 46.39 withdrawal charge
4. The Market Value Factor is determined as described in steps 1 through 5,
above. In this case, it is equal to 0.08 (8% is the guaranteed rate in the
existing cell) minus 0.11 (11% is the interest rate that would be offered
for an interest cell with a duration of the remaining whole years plus 1),
which is -0.03, multiplied by 4.58333 (55 months remaining until September
30, 2004, divided by 12) or -0.13750. Thus, there will be a negative
Market-Value Adjustment of 14% of the amount in the interest cell that is
subject to the adjustment.
-0.13750 x $5,985.23 = -822.97 negative MVA
$5,985.23 unadjusted value
$5,162.26 adjusted value
$12,000.00 Equity value
$17,162.26 adjusted Contract Fund
5. The total amount to be withdrawn, $8,546.39, (sum of the surrender charge,
$46.39, and the requested withdrawal amount of $8,500) is apportioned over
all accounts making up the Contract Fund following the Market-Value
Adjustments, if any, associated with the MVA option.
Equity ($12,000/$17,162.26) x $8,546.39 = $5,975.71
7-Yr ($5,162.26/$17,162.26) x $8,546.39 = $2,570.68
MVA
$8,546.39
6. The adjusted value of the interest cell, $5,162.26, reduced by the
withdrawal of $2,570.68 leaves $2,591.58. This amount must be "unadjusted"
by dividing it by 0.86250 (1 plus the Market-Value Adjustment of -0.13750)
to determine the amount remaining in the interest cell to which the
guaranteed interest rate of 8% will continue to be credited until September
30, 2004 or a subsequent withdrawal. That amount is $3,004.73.
30
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
WITH RESPECT TO RESIDENTS OF PENNSYLVANIA ONLY.
MARKET-VALUE ADJUSTMENT FORMULA
The Market-Value Adjustment, which is applied to withdrawals and transfers made
at any time other than the 30-day period following the end of an interest rate
period, involves three amounts:
1. The number of whole months remaining in the existing interest rate
period.
2. The guaranteed interest rate.
3. The interpolated value of the interest rates that Pruco Life declares
for the number of whole years remaining and the duration 1 year longer
than the number of whole years remaining in the existing interest rate
period.
Stated as a formula, the Market Value Factor is equal to:
(M/12) x (R-C), not to exceed +0.40 or be less than -0.40;
Where,
M = the number of whole months (not to be less than one) remaining in the
interest rate period.
R = the contract's guaranteed interest rate expressed as a decimal. Thus
6.2% is converted to 0.062.
C = the interpolated value of the interest rates, expressed as a decimal,
that Pruco Life declares for the number of whole years remaining and the
duration 1 year longer than the number of whole years remaining as of the
date the request for a withdrawal or transfer is received or m/365 x (n+1)
year rate + (365-m)/365 x n year rate, where "n" equals years and "m"
equals days remaining in year "n" of the existing interest rate period.
The Market-Value Adjustment is then equal to the Market Value Factor
multiplied by the amount subject to a Market-Value Adjustment.
The steps below explain how a Market-Value Adjustment is calculated.
STEP 1: Divide the number of whole months left in the existing interest
rate period (not to be less than one) by 12.
STEP 2: Interpolate the interest rates Pruco Life declares on the date the
request for withdrawal or transfer is received for the duration of years
equal to the whole number of years determined in Step 1, plus the whole
number of years plus 1 additional year.
STEP 3: Subtract this interpolated interest rate from the guaranteed
interest rate. The result could be negative.
STEP 4: Multiply the results of Step 1 and Step 2. Again, the result could
be negative. If the result is less than -0.4, use the value -0.4. If the
result is in between -0.4 and 0.4, use the actual value. If the result is
more than 0.4, use the value 0.4.
STEP 5: Multiply the result of Step 3 (which is the Market Value Factor) by
the value of the amount subject to a Market-Value Adjustment. The result is
the Market-Value Adjustment.
31
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
STEP 6: The result of Step 4 is added to the interest cell. If the
Market-Value Adjustment is positive, the interest cell will go up in value.
If the Market-Value Adjustment is negative, the interest cell will go down
in value.
Depending upon when the withdrawal request is made, a withdrawal charge may
apply.
The following example will illustrate the application of a Market-Value
Adjustment and the determination of the withdrawal charge. Suppose a contract
owner made two invested purchase payments, the first in the amount of $10,000 on
December 1, 1995, all of which was allocated to the Equity Subaccount, and the
second in the amount of $5,000 on October 1, 1997, all of which was allocated to
the MVA Option with a guaranteed interest rate of 8% (0.08) for 7 years. A
request for withdrawal of $8,500 is made on February 1, 2000 (the contract owner
does not provide any withdrawal instructions). On that date the amount in the
Equity Subaccount is equal to $12,000 and the amount in the interest cell with a
maturity date of September 30, 2004 is $5,985.23, so that the Contract Fund on
that date is equal to $17,985.23.
On February 1, 2000, the interest rates declared by Pruco Life for the
durations 4 and 5 years (4 whole years remaining until September 30, 2004, plus
1 year) are 10.8% and 11.4%, respectively.
The following computations would be made:
1. Calculate the contract fund value as of the effective date of the
transaction. This would be $17,985.23.
2. Calculate the charge-free amount (the amount of the withdrawal that is not
subject to a withdrawal charge).
DATE PAYMENT FREE
---- ------- ----
12/1/95 $10,000 $1,000
12/1/96 $2,000
10/1/97 $5,000 $2,500
12/1/97 $4,000
12/1/98 $5,500
12/1/99 $7,000
The charge-free amount in the fifth contract year is 10% of $15,000 (total
purchase payments) plus $5,500 (the charge-free amount available in the
fourth contract year) for a total of $7,000.
3. Since the withdrawal request is in the fifth contract year, a 3% withdrawal
charge rate applies to any portion of the withdrawal which is not
charge-free.
$8,500.00 requested withdrawal amount
-$7,000.00 charge-free
$1,500.00 additional amount needed to complete withdrawal
The contract provides that the Contract Fund will be reduced by an amount
which, when reduced by the withdrawal charge, will equal the amount
requested. Therefore, in order to produce the amount needed to complete the
withdrawal request ($1,500), we must "gross-up" that amount, before
applying the withdrawal charge rate. This is done by dividing by 1 minus
the withdrawal charge rate.
32
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
$1,500.00 / (1-.03) =
$1,500.00 / 0.97 = $1,546.39 grossed-up amount
Please note that a 3% withdrawal charge on this grossed-up amount reduces
it to $1,500, the balance needed to complete the request.
$1,546.39 grossed-up amount
x.03 withdrawal charge rate
$46.39 withdrawal charge
4. The Market Value Factor is determined as described in steps 1 through 5,
above. In this case, it is equal to 0.08 (8% is the guaranteed rate in the
existing cell) minus 0.11 (11% is the interpolated value for the interest
rates that would be offered for interest cells with durations of whole
years remaining and whole year plus 1 remaining in the existing interest
rate period), which is -0.03, multiplied by 4.58333 (55 months remaining
until September 30, 2004, divided by 12) or -0.13750. Thus, there will be a
negative Market-Value Adjustment of approximately 14% of the amount in the
interest cell that is subject to the adjustment.
-0.13750 x $5,985.23 = -822.97 negative MVA
$5,985.23 unadjusted value
$5,162.26 adjusted value
$12,000.00 Equity value
$17,162.26 adjusted Contract Fund
5. The total amount to be withdrawn, $8,546.39, (sum of the surrender charge,
$46.39, and the requested withdrawal amount of $8,500) is apportioned over
all accounts making up the Contract Fund following the Market-Value
Adjustments, if any, associated with the MVA option.
Equity ($12,000/$17,162.26) x $8,546.39 = $5,975.71
7-Yr ($5,162.26/$17,162.26) x $8,546.39 = $2,570.68
MVA
$8,546.39
6. The adjusted value of the interest cell, $5,162.26, reduced by the
withdrawal of $2,570.68 leaves $2,591.58. This amount must be "unadjusted"
by dividing it by 0.86250 (1 plus the Market-Value Adjustment of -0.13750)
to determine the amount remaining in the interest cell to which the
guaranteed interest rate of 8% will continue to be credited until September
30, 2004 or a subsequent withdrawal. That amount is $3,004.73.
33
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
FURTHER INFORMATION ABOUT PRUCO LIFE
This section provides further information about Pruco Life. Presented first
is selected financial data followed by a discussion of Pruco Life's overall
business status. We have also provided a listing of Pruco Life's officers and
directors as well as a complete set of audited financial statements.
SELECTED FINANCIAL DATA
<TABLE>
<CAPTION>
Pruco Life Insurance Company and Subsidiaries
For the Years Ended December 31,
--------------------------------
(In Thousands)
1998 1997 1996 1995 1994
----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Revenues
Premiums and other revenue .................. $ 463,453 $ 413,589 $ 397,319 $ 388,087 $ 344,701
Realized investment gains, net .............. 44,841 10,974 10,835 13,200 (41,074)
Net investment income ....................... 261,430 259,634 247,328 246,618 241,132
-------------------------------------------------------------------------------
Total revenues ............................... 769,724 684,197 655,482 647,905 544,759
Benefits and expenses
Current and future benefits and claims ...... 305,462 290,234 305,119 280,913 235,660
Other expenses .............................. 228,067 225,721 122,006 134,790 179,173
-------------------------------------------------------------------------------
Total benefits and expenses .................. 533,529 515,955 427,125 415,703 414,833
-------------------------------------------------------------------------------
Income before income tax provision ........... 236,195 168,242 228,357 232,202 129,926
Income tax provision ......................... 84,233 61,868 79,135 79,558 48,031
-------------------------------------------------------------------------------
Net income ................................... $ 151,962 $ 106,374 $ 149,222 $ 152,644 $ 81,895
===============================================================================
Total assets at period end ................... $16,812,781 $12,851,467 $ 9,710,366 $ 8,471,638 $ 7,713,183
===============================================================================
Separate Account liabilities ................. $11,490,751 $ 7,948,788 $ 5,277,454 $ 4,263,896 $ 3,493,932
===============================================================================
</TABLE>
A-1
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL POSITION
AND RESULTS OF OPERATIONS.
The following analysis should be read in conjunction with the notes to
Consolidated Financial Statements.
The Company markets individual life insurance, variable life insurance, variable
annuities, fixed annuities, and a group annuity program primarily through
Prudential's sales force in the United States and markets individual life
insurance through its branch office in Taiwan.
The Company markets its products in the life insurance and annuity sectors of
the insurance industry. These markets are subject to regulatory oversight with
particular emphasis placed on company solvency and sales practices. These
markets are also subject to increasing competitive pressure as the legal
barriers which have historically segregated the markets of the financial
services industry are being challenged through both legislative and judicial
processes. Regulatory changes have opened the insurance industry to competition
from other financial institutions, particularly banks and mutual funds that are
positioned to deliver competing investment products through large, stable
distribution channels.
The Company had $16.8 billion in assets at December 31, 1998 compared to $12.9
billion at December 31, 1997, of which $11.5 billion and $7.9 billion were held
in Separate Accounts in 1998 and 1997, respectively, under variable life
insurance policies and variable annuity contracts. The remaining assets
consisted primarily of general account investments in bonds, policy loans and
short-term investments.
1. RESULTS OF OPERATIONS
Net income for the year ended December 31, 1998 was $152.0 million, an increase
of $45.6 million or 42.9% from $106.4 million earned in the year ended December
31, 1997. Net income for the year ended December 31, 1996 was $149.2 million.
(a) 1998 versus 1997
Total insurance revenues, consisting of premiums and policy charges and fee
income, increased $42.4 million for the year ended December 31, 1998 to $422.2
million from $379.8 million for the year ended December 31, 1997. In response to
customer needs and market trends, the Company markets a product portfolio
utilizing advice-based strategy including highly selective product offerings
from other investment advisors. The Discovery Select Variable Annuity was a
successful new product which generated significant sales. The Company also
introduced a new variable universal life (VUL) insurance product, which provides
an option to the customer to select proprietary or non-proprietary mutual fund
investments. Strong securities market conditions contributed to appreciation in
Separate Account asset values. Favorable market conditions also provided a
stimulus to investors to purchase mutual fund shares and annuities, including
VUL and Discovery Select products, which further contributed to growth in assets
under management and consequently on fees earned. In addition, the Company's
Taiwan branch generated continued growth in premiums for traditional insurance
products.
The Company's consolidated net investment income increased $1.8 million for the
year ended December 31, 1998 to $261.4 from $259.6 million for the year ended
December 31, 1997. Consolidated net realized investment gains increased $33.8
million for the year ended December 31, 1998 to $44.8 from $11.0 million for the
year ended December 31, 1997. Please refer to the section below titled
"Investment Portfolio and Investment Strategies" for a discussion of investment
income and net realized investment gains by asset type.
Other income increased $7.5 million for the year ended December 31, 1998 to
$41.3 million from $33.8 million for the year ended December 31, 1997. The
portfolio of mutual fund investments related to the Company's Separate Account
products are known as The Prudential Series Fund. The Company receives an
allocated portion of investment management fees that Prudential earns from The
Prudential Series Fund and records these fees in "Other income."
Policyholders' benefits increased $7.1 million for the year ended December 31,
1998 to $186.5 million from $179.4 million for the year ended December 31, 1997.
This change is attributable to an increase in death claims in absolute amount
and as a percentage of mean amount of insurance in force reflecting the overall
aging of the business in force.
Interest credited to policyholders' account balances increased by $8.1 million
for the year ended December 31, 1998 to $118.9 million from $110.8 million for
the year ended December 31, 1997. Accounting for more than
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<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
half of this year's increase is the introduction of a new non-participating
guaranteed investment contract (GIC) product, Prudential Credit Enhanced (PACE),
early in 1998. The remaining increase is attributable to the rise in
policyholder account balances as well as increased interest credited pertaining
to policy loans, partially offset by declining interest crediting rates for
interest-sensitive life contracts.
Other operating costs and expenses increased $2.4 million for the year ended
December 31, 1998 to $228.1 million compared to $225.7 million for the year
ended December 31, 1997. Increased sales activity of Discovery Select and the
new VUL product noted above resulted in a corresponding increase in expenses. In
addition to the increased sales volume, the Parent company's allocation
methodology for expenses billed to Pruco Life in 1998 changed, resulting in
increased expenses allocated to the Company. Offsetting this increase was a 1997
refinement of estimated gross profit margins which led to an overall decrease in
deferred policy acquisition costs (DAC) amortization relative to 1997.
INVESTMENT PORTFOLIO AND INVESTMENT STRATEGIES
The Company's investment portfolio supports its insurance and annuity
liabilities and other obligations to customers for which it assumes investment
related risks. The portfolio was comprised of total investments amounting to
$4.2 billion at December 31, 1998, versus $3.9 billion at December 31, 1997. A
diversified portfolio of publicly traded bonds, private placements, commercial
mortgages and equity investments is managed under strategies intended to
maintain optimal asset mix consistent with current and anticipated cash flow
requirements of the related obligations.
The asset management strategy for the portfolio is in accordance with an
investment policy statement developed and coordinated within the Company by the
Portfolio Management Group, agreed to by senior management, and approved by the
Board of Directors. In managing the investment portfolio, the long term
objective is to generate favorable investment results through asset-liability
management, strategic and tactical asset allocation and asset manager selection.
Asset mix strategies are constrained by the need to match asset structure to
product liabilities, considering the underlying income and return
characteristics of investment alternatives and seeking to closely approximate
the interest rate sensitivity of the asset portfolio with the estimated interest
rate sensitivity of the product liabilities. Asset mix strategies also include
maintenance of broad diversification across asset classes, issuers and sectors;
effective utilization of capital while maintaining liquidity believed to be
adequate to satisfy cash flow requirements; and achievement of competitive
performance. The major categories of invested assets, quality across the
portfolio, and recent activities to manage the portfolio are discussed below.
FIXED MATURITIES
The fixed maturity portfolio is diversified across maturities, sectors and
issuers. As of December 31, 1998 and 1997, the Company has classified all
publicly traded securities and 63% and 52%, respectively, of privately traded
securities as "available for sale" with the remainder of the privately placed
fixed maturities as "held to maturity. The estimated fair value of fixed
maturities totaled $3.2 billion, an increase of $271.9 million compared to
December 31, 1997. This increase is primarily attributable to the new product,
PACE.
<TABLE>
<CAPTION>
1998 1997
-------------------------------------- -----------------------------------------
NET NET
AMORTIZED ESTIMATED UNREALIZED AMORTIZED ESTIMATED UNREALIZED
COST FAIR VALUE GAINS COST FAIR VALUE GAINS
---------- ---------- ---------- ---------- ---------- ----------
(In Thousands)
<S> <C> <C> <C> <C> <C> <C>
FIXED MATURITIES - AVAILABLE FOR SALE
Publicly traded ........................... $2,040,592 $2,054,807 $ 14,215 $2,157,525 $2,187,405 $ 29,880
Privately traded .......................... 698,062 709,119 11,057 369,029 376,447 7,418
Total Fixed maturities - available for sale 2,738,654 2,763,926 25,272 2,526,554 2,563,852 37,298
---------- ---------- ---------- ---------- ---------- ----------
FIXED MATURITIES - HELD TO MATURITY
Privately traded .......................... 410,558 421,845 11,287 338,848 350,056 11,208
---------- ---------- ---------- ---------- ---------- ----------
TOTAL ..................................... $3,149,212 $3,185,771 $ 36,559 $2,865,046 $2,913,908 $ 48,506
========== ========== ========== ========== ========== ==========
</TABLE>
At December 31, 1998, the net unrealized capital gains on the "available for
sale" fixed maturity portfolio totaled $25.3 million compared to $37.3 million
at December 31, 1997. The decrease in the net unrealized gain
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<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
position is primarily due to the effect of a higher level of sales activity,
offset in part by the effect of lower interest rates.
Based on estimated fair value, the Company's holdings of private placement fixed
maturities constituted 35% and 25% of total fixed maturities at December 31,
1998 and 1997, respectively. These investments generally offer higher yields
than comparable quality public market securities, increase the diversification
of the portfolio, and contain tighter covenant protection than public
securities.
Gross investment income from fixed maturities increased by $17.2 million from
1997 to 1998 as a result growth in invested assets, including the addition of
the PACE product. Realized gains increased by $20.0 million from 1997 primarily
due to the sale of fixed maturities during a period of declining interest rates.
The table below summarizes fixed maturity investment results:
YEAR ENDED DECEMBER 31,
---------------------------------
1998 1997
------------- -----------
(In Thousands)
Gross investment income........ $205,312 $188,076
Yield (1)...................... 7.08% 7.35%
Realized capital gains......... $ 29,817 $ 9,860
(1) Yields are determined by dividing gross investment income by the average of
quarter-end asset carrying values, excluding unrealized gains and losses, less
one-half of gross investment income.
CREDIT QUALITY
The following table describes the credit quality of the fixed maturity
portfolio, based on ratings assigned by the National Association of Insurance
Commissioners ("NAIC") or Standard & Poor's Corporation, an independent rating
agency:
<TABLE>
<CAPTION>
DECEMBER 31, 1998
--------------------------------------------------------------------
ESTIMATED
NAIC STANDARD & POOR'S AMORTIZED COST % FAIR VALUE %
- ---------------------------------- ------------------------------- ----------------------------------
(In Thousands)
<S> <C> <C> <C> <C> <C>
1 AAA to AA- $ 1,375,371 43.7 $ 1,398,678 43.9
2 BBB+ to BBB- 1,436,820 45.6 1,449,073 45.5
3 BB+ to BB- 240,379 7.6 244,932 7.7
4 B+ to B- 68,620 2.2 66,763 2.1
5 CCC or lower 27,552 .9 26,061 .8
6 In or near default 470 -- 264 --
------------ ------------
TOTAL $ 3,149,212 $ 3,185,771
============ ============
<CAPTION>
DECEMBER 31, 1997
---------------------------------------------------------------------
ESTIMATED
NAIC STANDARD & POOR'S AMORTIZED COST % FAIR VALUE %
- ---------------------------------- ----------------------------------- -------------------------------
(In Thousands)
<S> <C> <C> <C> <C> <C>
1 AAA to AA- $ 1,507,219 52.6 $ 1,529,620 52.5
2 BBB+ to BBB- 1,175,684 41.0 1,194,461 41.0
3 BB+ to BB- 100,676 3.5 104,557 3.6
4 B+ to B- 75,849 2.7 78,953 2.7
5 CCC or lower 5,943 .2 6,288 .2
6 In or near default 31 -- 29 --
------------ ------------
TOTAL $ 2,865,402 $ 2,913,908
============ ============
</TABLE>
The fixed maturity portfolio consists largely of investment grade assets (rated
"1" or "2" by the NAIC), with such investments accounting for 89% and 94% of the
portfolio at December 31, 1998 and 1997, respectively, based on estimated fair
value. As of both of those dates, less than 1% of the fixed maturities portfolio
was rated "6" by the NAIC, defined as public and private placement securities
which are currently non-performing or believed subject to default in the
near-term.
The Company continually reviews fixed maturities and identifies potential
problem assets which require additional monitoring. The Company defines
"problem" fixed maturities as those for which principal and/or interest payments
are in default. The Company defines "potential problem" fixed maturities as
assets which are believed to present default risk associated with future debt
service obligations and therefore require more active management. At December
31, 1998 management identified $264 thousand of fixed maturity investments as
problem or potential problem. An immaterial amount of problem or potential
problem fixed maturities were identified in 1997.
A-4
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
PORTFOLIO DIVERSITY
The fixed maturity portfolio is broadly diversified by type and industry of
issuer. The greatest industry concentrations within the public portfolio were
finance, utilities, and manufacturing. The greatest concentrations within the
private portfolio were asset backed securities and within the service and
manufacturing industries. The total portfolio is summarized below by issuer
category:
<TABLE>
<CAPTION>
DECEMBER 31, 1998 DECEMBER 31, 1997
------------------------- -------------------------
AMORTIZED ESTIMATED AMORTIZED ESTIMATED
COST FAIR VALUE COST FAIR VALUE
---------- ---------- ---------- ----------
(In Thousands)
<S> <C> <C> <C> <C>
United States government securities
and obligations .............. $ 110,294 $ 110,839 $ 177,334 $ 178,536
Mortgage backed securities ........ 2,257 2,411 3,116 3,260
Asset backed securities (1) ....... 442,272 445,518 320,554 323,744
Manufacturing ..................... 585,680 589,775 401,291 409,856
Utilities ......................... 469,343 478,262 397,374 406,790
Retail and wholesale .............. 166,979 168,837 97,333 99,993
Energy ............................ 6,429 6,648 1,473 1,599
Finance ........................... 545,760 550,291 818,532 826,767
Services .......................... 584,495 594,240 430,827 441,775
Transportation .................... 148,999 151,091 122,056 124,807
Other ............................. 86,704 87,859 95,156 96,345
---------- ---------- ---------- ----------
TOTAL ............................. $3,149,212 $3,185,771 $2,865,046 $2,913,472
========== ========== ========== ==========
</TABLE>
(1) Asset backed securities are primarily backed by credit card receivables,
home equity loans, trade receivables and auto loans.
SHORT-TERM INVESTMENTS
Short-term investments include highly liquid debt instruments such as commercial
paper which are purchased with an original maturity of twelve months or less.
These securities are carried at amortized cost, which approximates fair value.
As of December 31, 1998, the Company's short-term investments totaled $240.7
million, a decrease of $75.7 million compared to $316.4 million at December 31,
1997. The decrease in short-term investments was primarily due to decreased
securities lending activity, resulting in lower cash collateral held and
invested in short-term instruments, coupled with a strategic decision to hold
less short-term investments. While income remained relatively unchanged, the
short-term yield decreased 175 basis points primarily due to lower average
interest rates. Investment expenses increased by $10.0 million primarily as a
result of 1998 including a full year's worth of securities lending activity
versus one quarters worth in 1997.
The table below presents summary data with respect to the Company's short-term
investment positions:
YEAR ENDED DECEMBER 31,
-----------------------------------
1998 1997
------------- -------------
(In Thousands)
Carrying amount at end of period..... $ 240,727 $ 316,355
Net investment income................ $ 13,347 $ 19,511
Yield (1)............................ 3.67% 5.42%
(1) Yields are determined by dividing net investment income by the average of
quarter-end asset carrying values, less one-half of net investment income.
DERIVATIVES
At the end of 1997 The Company began using derivatives, primarily futures
contracts, to hedge interest-rate risk related to the insurance and annuity
liabilities. During 1998 $12.4 million of gains were realized from derivatives.
The gains are reported in "Realized investment gains, net."
A-5
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
(b) 1997 versus 1996
Total insurance revenues, consisting of premiums and policy charges and fee
income, increased $3.3 million for the year ended December 31, 1997 to $379.8
million from $376.5 million for the year ended December 31, 1996. This increase
in insurance revenues consists of an increase of $5.3 million in policy charges
and fee income partially offset by a decrease in premiums of $2.0 million. These
fluctuations are due to an increased emphasis in the domestic market place on
retirement type investment products rather than life insurance protection
products. Lower domestic premiums were partially offset by an increase in
premiums for traditional insurance products generated from the Company's Taiwan
branch.
The Company's consolidated net investment income increased $12.3 million for the
year ended December 31, 1997 to $259.6 from $247.3 million for the year ended
December 31, 1996. Increase in cash flows from insurance operations and average
assets as well as the asset allocation strategies, produced favorable investment
results in 1997. Fixed maturity income increased in 1997 due to higher
investment returns as a result of a shift to higher yielding securities. Income
from short term investments increased because of higher fixed maturity assets
available to lend to third parties as part of the Company's securities lending
program. Offsetting these increases was a decline in income on the mortgage loan
portfolio, a result of declining asset base.
Other income increased $13.0 million for the year ended December 31, 1997 to
$33.8 million from $20.8 million for the year ended December 31, 1996. This
increase is due to a higher level of advisory fees attributable to the Discovery
Preferred and Discovery Select Separate Account products.
Policyholders' benefits decreased $7.5 million for the year ended December 31,
1997 to $179.4 million from $186.9 million for the year ended December 31, 1996.
This decrease is attributable to better mortality experience associated with the
Company's products.
Interest credited to policyholders' account balances decreased by $7.4 million
for the year ended December 31, 1997 to $110.8 million from $118.2 million for
the year ended December 31, 1996. This decrease is primarily attributable to a
decrease in interest crediting rates, partially offset by increased fund values
due to new sales of Separate Account products.
Other operating costs and expenses increased $103.7 million for the year ended
December 31, 1997 to $225.7 million compared to $122.0 million for the year
ended December 31, 1996. The increase reflects factors including the refinement
of estimated gross profit margins used to amortize DAC. Favorable mortality
experience and reduction in cost of insurance charges contributed to a change in
net amortization. Favorable sales in 1997 were a partial offset. Also, increased
operating costs resulted from higher sales activity of Discovery Select and
Discovery Preferred annuity products, and technological advancements made in
annuity processing, customer service, and product development.
2. LIQUIDITY AND CAPITAL RESOURCES
The Company's liquidity requirements include the payment of sales commissions
and other underwriting expenses and the funding of its contractual obligations
for the life insurance and annuity contracts it has in-force. The Company has
developed and utilizes a cash flow projection system and regularly performs
asset/liability duration matching in the management of its asset and liability
portfolios. The Company anticipates funding all its cash requirements utilizing
cash from operations, normal investment maturities and anticipated calls and
repayments or through short term borrowing from its affiliate Prudential Funding
Corporation (see Related Party Transactions). As of December 31, 1998, the
Company's assets included $1.9 billion of cash, short-term investments and
investment grade publicly traded fixed maturity securities that could be
liquidated if funds were required.
In order to continue to market life insurance and annuity products, the Company
must meet or exceed the statutory capital and surplus requirements of the
insurance departments of the states in which it conducts business. Statutory
accounting practices differ from generally accepted accounting principles
("GAAP") in two major respects. First, under statutory accounting practices, the
acquisition costs of new business are charged to expense, while under GAAP they
are initially deferred and amortized over a period of time. Second, under
statutory accounting practices, the required additions to statutory reserves for
new business in some cases may initially exceed the statutory revenues
attributable to such business. These practices result in a reduction of
statutory income and surplus at the time of recording new business.
A-6
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
Insurance companies are subject to Risk-Based Capital (RBC) guidelines,
monitored by insurance regulatory authorities, that measure the ratio of the
Company's statutory equity with certain adjustments ("Adjusted Capital") to its
required capital, based on the risk characteristics of its insurance liabilities
and investments. Required capital is determined by statutory formulae that
consider risks related to the type and quality of invested assets,
insurance-related risks associated with the Company's products, interest rate
risks, and general business risks. The RBC calculations are intended to assist
regulators in measuring the adequacy of the Company's statutory capitalization.
The Company considers RBC implications in its asset/liability management
strategies. Each year, the Company conducts a thorough review of the adequacy of
statutory insurance reserves and other actuarial liabilities. The review is
performed to ensure that the Company's statutory reserves are computed in
accordance with accepted actuarial standards, reflect all contractual
obligations, meet the requirements of state laws and regulations and include
adequate provisions for any other actuarial liabilities that need to be
established. All significant reserve changes are reviewed by the Board of
Directors and are subject to approval by the Arizona Department of Banking and
Insurance. The Company believes that its statutory capital is adequate for its
currently anticipated levels of risk as measured by regulatory guidelines.
The National Association of Insurance Commissioners recently approved a series
of codified statutory accounting standards for consideration by the various
state regulators. Certain of the proposed standards, if adopted by insurance
regulatory authorities, could have an impact on the measurement of statutory
capital which, in turn, could affect RBC ratios of insurance companies. At the
present time, the Company cannot estimate the potential impact of these proposed
standards on its RBC position.
3. REGULATORY ENVIRONMENT
The Company is subject to the laws of the State of Arizona and to the
regulations of the Department of Insurance of the State of Arizona and the New
Jersey Department of Banking and Insurance (the "Insurance Departments"). A
detailed financial statement in the prescribed form (the "Annual Statement") is
filed with the Insurance Departments each year covering the Company's operations
for the preceding year and its financial position as of the end of that year.
Regulation by the Insurance Departments includes periodic examinations to verify
the accuracy of contract liabilities and reserves. The Company's books and
accounts are subject to review by the Insurance Departments at all times. A full
examination of the Company's operations is conducted periodically by the
Insurance Departments and under the auspices of the NAIC.
The Company is subject to regulation under the insurance laws of all
jurisdictions in which it operates. The laws of the various jurisdictions
establish supervisory agencies with broad administrative powers with respect to
various matters, including licensing to transact business, overseeing trade
practices, licensing agents, approving contract forms, establishing reserve
requirements, fixing maximum interest rates on life insurance contract loans and
minimum rates for accumulation of surrender values, prescribing the form and
content of required financial statements and regulating the type and amounts of
investments permitted. The Company is required to file the Annual Statement with
supervisory agencies in each of the jurisdictions in which it does business, and
its operations and accounts are subject to examination by these agencies at
regular intervals.
The NAIC has adopted several regulatory initiatives designed to improve the
surveillance and financial analysis regarding the solvency of insurance
companies in general. These initiatives include the development and
implementation of a risk-based capital formula for determining adequate levels
of capital and surplus. Insurance companies are required to calculate their
risk-based capital in accordance with this formula and to include the results in
their Annual Statement. It is anticipated that these standards will have no
significant effect upon the Company.
Although the federal government generally does not directly regulate the
business of insurance, federal initiatives often have an impact on the business
in a variety of ways. Certain insurance products of the Company are subject to
various federal securities laws and regulations. In addition, current and
proposed federal measures which may significantly affect the insurance business
include regulation of insurance company solvency, employee benefit regulation,
removal of barriers preventing banks from engaging in the insurance business,
tax law changes affecting the taxation of insurance companies and the tax
treatment of insurance products and its impact on the relative desirability of
various personal investment vehicles.
A-7
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
4. THE YEAR 2000 ISSUE
Pruco Life utilizes many of the same business applications, infrastructure and
business partners as Prudential. Prudential has addressed the Year 2000 issue on
an enterprise-wide basis. Therefore, it is not possible to differentiate Pruco
Life's Year 2000 issue from that of Prudential. The accompanying discussion of
the Year 2000 issue reflects steps taken by Prudential to mitigate the Year 2000
risks.
Many computer systems are programmed to recognize only the last two digits in a
date. As a result, any computer system that has date-sensitive programming may
recognize a date using "00" as the year 1900 rather than the year 2000. This
problem can affect non-information technology systems that include embedded
technology, such as microprocessors included in "infrastructure" equipment used
for telecommunications and other services as well as computer systems. If this
anomaly is not corrected, the year "00" could cause systems to perform date
comparisons and calculations incorrectly, which could in turn affect the
accuracy and compromise the integrity of business records. Business operations
could be interrupted when companies are unable to process transactions, send
invoices, or engage in similar normal business activities.
Prudential established a Company-wide Program Office (CPO) to develop and
coordinate an operating framework for the Year 2000 compliance activities.
Prudential's CPO structured the Year 2000 program into three major components:
Business Applications, Infrastructure and Business Partners. The CPO also
established quality assurance procedures including a certification process to
monitor and evaluate enterprise-wide progress of each component of Prudential's
program for conversion and upgrading of systems for Year 2000 compliance.
BUSINESS APPLICATIONS
The scope of the Business Applications component includes a wide range of
computer systems that directly support Prudential's business operations and
accounting systems. The entire application portfolio was analyzed in 1996 to
determine appropriate Year 2000 readiness strategies (i.e., renovate, replace or
retire). Rigorous testing standards have been employed for all applications that
will not be retired, including those that are newly developed or purchased.
Application replacement and renovation projects follow a similar path toward
Year 2000 compliance. The key project phases include Year 2000 analysis and
design, programming activities, testing, and implementation. Replacement
projects are also tracked until the existing applications are removed from
production.
Of Prudential's total application portfolio, approximately 70% of the
applications are being renovated, 13% are being replaced by Year 2000 compliant
systems, and the remaining 17% are being retired from production. At December
31, 1998, the percentage of business applications (based on application count)
in the implementation phase for Year 2000 compliance for renovation, replacement
and retirement are 99%, 96% and 99%, respectively. The overall completion date
for Business Applications is June 1999.
INFRASTRUCTURE
The scope of Prudential's Year 2000 Infrastructure initiatives include mainframe
computer system hardware and operating system software, mid-range systems and
servers, telecommunications equipment, buildings and facilities systems,
personal computers, and vendor hardware and software.
Although there are minor differences among these various components, the
approach to Year 2000 readiness for Infrastructure generally involves phases
identified as inventory, assessment, remediation activities (e.g., upgrading
hardware or software), testing and implementation. The overall completion date
for Infrastructure is June 1999.
BUSINESS PARTNERS
Prudential's approach to business partner readiness includes classification of
each partner's status as "highly critical" or "less critical" and the
development of contingency plans to address the potential that a business
partner could experience a Year 2000 failure. Approximately 30% of Prudential's
business partners have been identified as highly critical and the remaining 70%
as less critical. Project phases include inventory, risk assessment, and
contingency planning activities. All project phases for highly critical business
partner readiness were achieved in December 1998; Prudential has an overall
completion date for less critical business partner readiness of June 1999.
A-8
<PAGE>
THE COST OF YEAR 2000 READINESS
Prudential is funding the Year 2000 program from operating cash flows. Some of
the expenses of Prudential's Year 2000 readiness are allocated across its
various businesses and subsidiaries, including Pruco Life. Expenses related to
the Year 2000 initiatives allocated to Pruco Life are part of systems overhead
costs to date and are included in Pruco Life's general and administrative
expenses. The Year 2000 costs allocated to Pruco Life to date are not material
to its operations and financial position. Moreover, the forecasted allocated
Year 2000 costs are not expected to have a material impact on Pruco Life's
ability to meet its contractual commitments.
YEAR 2000 RISKS AND CONTINGENCY PLANNING
The major portion of the Prudential's transactions are of such volume that they
can only be effectively processed through the use of automated systems.
Therefore, substantially all of Prudential's contingency plans include the
ultimate resolution of any causative technology failures that may be
encountered.
Prudential believes that the Business Application, Infrastructure and Business
Partners components of the Year 2000 project are substantially on schedule.
While management expects a small number of the projects may not meet their
targeted completion date, it is anticipated that these projects will be
completed by September 1999 so that any delays, if experienced, would not have a
significant impact on the timing of the project as a whole. During the course of
the Year 2000 program, some discretionary technology projects have been delayed
in favor of the completion of Year 2000 projects. However, this impact has been
minimized by Prudential's strategic decision to outsource most of the Year 2000
renovation work.
While Prudential and its subsidiaries believe that they are well positioned to
mitigate its Year 2000 issue, this issue, by its nature, contains inherent
uncertainties, including the uncertainty of Year 2000 readiness of third
parties. Consequently, the Company is unable to determine at this time whether
the consequences of Year 2000 failures will have a material adverse effect on
the Company's results of operations, liquidity or financial position. In the
worst case, it is possible that any technology failure, including an internal or
external Year 2000 failure, could have a material impact on the Company's
results of operations, liquidity, or financial position.
Prudential is enhancing existing business contingency plans to mitigate Year
2000 risk. Current contingency plans include planned responses to the failure of
specific business applications or infrastructure components. These responses are
being reviewed and expected to be finalized by June 1999 to ensure that they are
workable under the special conditions of a Year 2000 failure. The plans are also
being updated to reduce the level of uncertainty about the Year 2000 problem
including readiness of Prudential's Business Partners.
The discussion of the Year 2000 Issue herein, and in particular Prudential's
plans to remediate this issue and the estimated costs thereof, are
forward-looking in nature. See cautionary statement below relating to
forward-looking statements.
5. EFFECTIVE NEW ACCOUNTING PRONOUNCEMENTS
Refer to Note 2, "Summary of Significant Accounting Policies," of the Notes to
Consolidated Financial Statements.
6. INFORMATION CONCERNING FORWARD-LOOKING STATEMENTS
Certain of the statements contained in Management's Discussion and Analysis may
be considered forward-looking statements. Words such as "expects," "believes,"
"anticipates," "intends," "plans," or variations of such words are generally
part of forward-looking statements. Forward-looking statements are made based
upon management's current expectations and beliefs concerning future
developments and their potential effects upon the Company. There can be no
assurance that future developments affecting the Company will be those
anticipated by management. There are certain important factors that could cause
actual results to differ materially from estimates or expectations reflected in
such forward-looking statements including without limitation, changes in general
economic conditions, including the performance of financial markets and interest
rates; market acceptance of new products and distribution channels; competitive,
regulatory or tax changes that affect the cost or demand for the Company's
products; and adverse litigation results. While the Company reassesses material
trends and uncertainties affecting its financial position and results of
operations, it does not intend to review or revise any particular
forward-looking statement referenced in this Management's Discussion and
Analysis in light of future events. The information referred to above should be
considered by readers when reviewing any forward-looking statements contained in
this Management's Discussion and Analysis.
A-9
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
RISK MANAGEMENT, MARKET RISK, AND DERIVATIVE FINANCIAL INSTRUMENTS
As a direct subsidiary of Prudential, the Company benefits from the risk
management strategies implemented by its parent.
Risk management includes the identification and measurement of various forms of
risk, establishment of acceptable risk thresholds, and creation of processes
intended to maintain risks within these thresholds while maximizing returns.
Prudential considers risk management an integral part of its core businesses.
The risks inherent in the Company's operations include market risk, product
risk, credit risk, concentration risk, liquidity risk, and operating risk. These
risk categories, and the Company's strategies relative to each, are discussed
below.
The Company's risk monitoring processes include preparation and review of risk
reports on a regular basis, with frequency based on the purpose of the report.
For example, reports associated with specific strategies or assets are produced
daily, while portfolio level reports are typically semi-monthly or monthly and
high level reports are produced quarterly.
MARKET RISK is the risk of change in the value of financial instruments as a
result of changes in interest rates, currency exchange rates, equity and
commodity prices. To varying degrees, the investment activities supporting all
of the Company's products and services generate market risks. These products and
services include life insurance and annuities. Market risks incurred and the
strategies for managing these risks vary by product.
Insurance products and fixed rate annuities, incur market risk primarily in the
form of interest rate risk. This is controlled through asset/liability
management strategies that seek to match the interest rate sensitivity of the
assets to that of the underlying liabilities, with the objective of insulating
the portfolio's underlying capital from market value changes due to interest
rate movements. If perfectly matched, interest rate movements will generate
asset market value changes that offset changes in the value of the liabilities
relating to the underlying insurance products.
Variable annuities also incur market risk to the Company in part through
interest rate risk but largely through equity price risk. Equity price risk is
controlled primarily by managing the risk profile of equity investments against
the risk profile incorporated in the related variable annuity products.
For fee-based products, including variable contracts and Separate Accounts,
investment risk is borne primarily by the contractholders rather than the
Company (subject to any minimum guarantees). The greatest market-related risk to
the Company for these products is the indirect one that, in the event of sub-par
performance, asset based fee revenues could decline and that competitive factors
could impede the Company's ability to maintain or grow assets under management.
However, since this is primarily an operating risk it is not quantified as part
of the Company's analysis of market risk.
The Company's exposure to market risk results from "other than trading"
activities in its insurance business. Market risks in the Company's insurance
business are managed through an investment process that incorporates
asset/liability management techniques and other risk management policies and
limits. Derivatives, as discussed further below, are used for hedging purposes
in the asset/liability management process.
INSURANCE ASSET/LIABILITY MANAGEMENT
Interest rate and equity exposures are maintained within established ranges,
which are subject to adjustment based on market conditions and the design of
related insurance products sold to customers. Risk managers, independent of
portfolio and asset managers, establish investment risk limits on
asset/liability management and oversee ongoing efforts to manage risk within
policy constraints.
The Company uses duration and convexity analyses to measure price sensitivity to
interest rate changes. Duration measures the relative sensitivity of the fair
value of a financial instrument to changes in interest rates. Convexity measures
the rate of change of duration with respect to changes in yield, recognizing
that the price of a bond is usually expected to fall at a slower rate as yield
increases.
While duration and convexity are useful indicators of asset price sensitivity to
interest rate changes, pricing models used in the portfolio management process
also consider the effects of optionality. This entails a variety of option
pricing model applications.
A-10
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
The Company also performs portfolio stress testing as part of its regulatory
cash flow testing in which interest-sensitive assumptions (such as asset calls
and prepayments and insurance product contract persistency) are evaluated under
various severe interest rate environments. Any shortfalls revealed by cash flow
testing are evaluated to determine whether there is a need to increase reserves
or adjust portfolio management strategies.
INTEREST RATE RELATED MARKET RISK ON ASSETS
Assets with interest rate risk include fixed maturities, mortgage loans and
policy loans which, in the aggregate, comprise 94% of the Company's consolidated
invested assets (excluding assets held in Separate Accounts) as of December 31,
1998.
INTEREST RATE RELATED MARKET RISK ON LIABILITIES
In addition to insurance reserves, which are not measured by the sensitivity
analysis below, the Company has policyholders' account balances relating to
interest-sensitive life and annuity contracts through which it is exposed to
interest rate risk.
DERIVATIVES
Derivatives are financial instruments whose values are derived from interest
rates, foreign exchange rates, various financial indices, or the value of
securities or commodities. Derivative financial instruments can be
exchange-traded or contracted in the over-the-counter market and include swaps,
futures, forwards and options contracts. Fixed rate loan commitments may also be
considered similar to derivatives because of their off balance sheet and
option-like characteristics. See Note 10 of Notes to Consolidated Financial
Statements as to the Company's derivative positions at December 31, 1998 and
1997. Insurance statutes applicable to the Company restrict the use of
derivative securities to hedging activities intended to offset changes in the
market value of assets held, obligations, and anticipated transactions and
prohibit the use of derivatives for speculation. The Company uses derivative
financial instruments to reduce market risk from changes in interest rates or
foreign currency exchange rates, and to alter interest rate or currency
exposures arising from mismatches between assets and liabilities.
INTEREST RATE SENSITIVITY
Interest rate sensitivity for the indicated classes of financial assets,
financial liabilities, and derivatives is assessed using hypothetical test
scenarios which assume both upward and downward 100 basis point parallel shifts
in the yield curve from prevailing interest rates at December 31, 1998. The
following table summarizes the potential loss in fair value associated with a
hypothetical 100 basis point upward parallel shift in the yield curve from
prevailing interest rates at December 31, 1998. This scenario results in the
greatest net exposure to interest rate risk of the hypothetical scenarios
tested. The test scenario is for illustrative purposes only and is not intended
to reflect management's expectations regarding future interest rates or
performance of fixed income markets.
In addition, this presentation includes only assets, liabilities and derivatives
required by the Rules and does not include $535 million of insurance
liabilities. Management includes the interest rate sensitivities implicit in
these insurance liabilities in its internal measurements and believes these
insurance liabilities substantially offset the interest rate risk summarized in
the following table.
<TABLE>
<CAPTION>
DECEMBER 31, 1998
---------------------------------------------------------------------------
NOTIONAL VALUE FAIR FAIR VALUE AFTER + 100 HYPOTHETICAL
(DERIVATIVES) VALUE BASIS POINT YIELD CURVE CHANGE IN FAIR
SHIFT VALUE
-------------- ------------ ------------------------- ----------------
(In Millions)
<S> <C> <C> <C> <C>
FINANCIAL ASSETS AND LIABILITIES WITH
INTEREST RATE RISK: $
Financial Assets:..................................
Fixed maturities:...............................
Available for sale............................ -- 2,764 2,666 (98)
Held to maturity.............................. -- 422 408 (14)
Mortgage loans on real estate................... -- 19 19 -
Policy loans.................................... -- 806 762 (44)
Derivatives:.......................................
Futures......................................... 41 -- (2) (2)
Financial Liabilities:.............................
Policyholders' account balances.................... -- (2,704) (2,727) (23)
-------
Total estimated potential loss..................... $ (181)
=======
</TABLE>
A-11
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
The estimated changes in fair values of financial assets shown above relate to
assets invested in support of the Company's insurance liabilities, and do not
include assets associated with products for which investment risk is borne
primarily by the contractholders rather than the Company.
EQUITY PRICE MARKET RISK
Equity price risk is actively managed relative to benchmarks in respective
markets. Excluding equities relating to products for which investment risk is
borne primarily by the contractholder rather than by the Company, the table
below provides an estimate of the Company's equity risk following a 10% decline
in benchmark equity market prices. Equity holdings are benchmarked against a
blend of leading market indices, including prominently the Standard & Poor's
("S&P") 500 and Russell 2000, and target price sensitivities approximating those
of the benchmark indices. This scenario is not intended to reflect management's
expectations regarding future performance of equity markets.
<TABLE>
<CAPTION>
DECEMBER 31, 1998
---------------------------------------------------------
FAIR VALUE AFTER 10% HYPOTHETICAL
FAIR DROP IN EQUITY MARKET CHANGE IN
VALUE BENCHMARK (1) FAIR VALUE
------------- ----------------------- ----------------
(In Millions)
<S> <C> <C> <C>
Financial Assets with Equity Price Risk
Equity securities...................................................... $ 2.8 $ 2.5 $ (0.3)
</TABLE>
(1) The market benchmark used for purposes of this analysis is a blend of
leading equities market indices, including the S&P 500 Index and the
Russell 2000 Index. This benchmark is believed to have broadly similar
characteristics, in terms of price sensitivity, to the Company's equity
securities portfolio.
FOREIGN CURRENCY EXCHANGE MARKET RISK
The Company is exposed to foreign currency exchange risk in its investment
portfolio and through its operations in Taiwan. The Company's investment policy
dictates that foreign currency exchange rate risk created by fixed income
investments denominated in foreign currencies, in most instances, is to be fully
hedged into U.S. dollars. Investment-related foreign currency exchange rate risk
retained in the portfolio emanates principally from foreign denominated equity
investments for which currency exchange rate volatility is factored into
expected returns when allocating funds to this asset class. Hedging of market
risk associated with changes in foreign currency exchange rates is generally
accomplished through the use of foreign exchange forward contracts and foreign
currency swaps.
Foreign currency exchange risk is actively managed within specified limits at
the enterprise level using Value-at-Risk analysis. As previously mentioned, this
statistical technique estimates, at a specified confidence level, the potential
pretax loss in portfolio market value that could occur over an assumed holding
period due to adverse movements in underlying risk factors, which in this case
are foreign currency exchange rates.
Value-at-Risk (VaR) estimates of exposure to loss from volatility in foreign
currency exchange rates are calculated for one day and one month time periods.
Exponentially weighted historical price volatilities and covariance data are
used at a confidence level such that losses are not expected to exceed this VaR
estimate in no more than one in twenty business days.
A-12
<PAGE>
<TABLE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
<CAPTION>
DECEMBER 31, 1998
-------------------------------------------------------------------
HYPOTHETICAL
FAIR FAIR VALUE LESS ONE CHANGE IN
VALUE MONTH'S VALUE AT RISK (1) FAIR VALUE
----------- -------------------------- -------------------------
(In Millions)
<S> <C> <C> <C>
Financial Assets with Foreign
Currency Exchange Rate Risk:
Foreign currency denominated assets
not hedged to United States dollars.......................... $ 32.0 $ 31.5 $ (0.5)
</TABLE>
(1) Value at risk measured at 95% confidence level.
LIMITATIONS OF VAR MODELS
VaR models have inherent limitations, including reliance on historical data that
may not be indicative of future market conditions or trading patterns, and
therefore should not be viewed as a predictor of future results. There can be no
assurance that the Company will not incur losses in excess of the amounts
indicated by the model on a particular trading day or over a period of time. A
VaR model does not estimate the greatest possible loss outside of its confidence
interval. These models are used by the Company in addition to other risk
management tools, including stress testing, and in conjunction with the
experience and judgment of management.
PRODUCT RISK is the risk of adverse results due to deviation of experience from
expected levels reflected in pricing. The Company, in its insurance and annuity
operations, sells traditional and interest sensitive individual insurance
products and annuity products. Products are priced to reflect the expected
levels of risk and to allow a margin for adverse deviation. The level of margin
varies with product design and pricing strategy with respect to the targeted
market. The Company seeks to maintain underwriting standards so that premium
charged is consistent with risk assumed on an overall basis. Additionally, most
of the Company's policies and contracts allow the Company to adjust credits (via
interest crediting rates) and/or charges (in contracts where elements such as
mortality and expense charges are not guaranteed), allowing the Company to
respond to changes in actuarial experience. The competitive environment is also
an important element in determining pricing elements including premiums,
crediting rates, and non-guaranteed charges.
Mortality risks, generally inherent in most of the Company's life insurance and
annuity products, are incorporated in pricing based on the Company's experience
(if available and relevant) and/or industry experience. Mortality studies are
performed periodically to compare the actual incidence of death claims in
relation to business in force, to levels assumed in pricing and to industry
experience. Persistency risk represents the risk that the pattern of policy
surrenders will deviate from assumed levels so that policies do not remain in
force long enough to allow the Company to recover its acquisition costs. Certain
products are designed, by use of surrender charges and other features, to
discourage early surrenders and thus mitigate this risk to the Company. Periodic
studies are performed to compare actual surrender experience to pricing
assumptions and industry experience.
For fee-based products in which investment risk is borne by the client, the
Company retains the risk that fees charged may not adequately cover
administrative expenses. The ability to earn a spread between these fees and the
associated costs is dependent upon the competitive environment, product
performance, the ability to attract clients and assets, and the Company's
control of expense levels.
CREDIT RISK is the risk that counterparties or issuers may default or fail to
fully honor contractual obligations and is inherent in investment portfolio
asset positions including corporate bonds and mortgages, private placements and
other lending-type products, certain derivative transactions, and various
investment operations functions. In derivative transactions, the Company follows
an established credit approval process which includes risk control limits and
monitoring procedures.
Limits of exposure by counterparty, country and industry are in place at the
portfolio level, and counterparty concentration risk is also reviewed at the
enterprise level. Credit concentration risks are limited based on credit
quality, and enterprise-level concentrations are reviewed on a quarterly basis.
Business group credit analysis units evaluate creditworthiness of counterparties
and assign internal credit ratings based on data from
A-13
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
independent rating agencies and their own fundamental analysis. Additionally,
stress tests and sensitivity analysis are utilized to estimate the exposure to
credit losses from unusual events.
LIQUIDITY RISK is the risk that the Company will be unable to liquidate
positions at a reasonable price in order to meet cash flow requirements under
various scenarios. As indicated above, the Company's asset/liability management
strategies seek to maintain asset positions that are consistent with the
expected cash flow demands associated with its liabilities under various
possible situations. Liquidity policies are formally managed at the enterprise
level, using various comparisons of asset liquidity to potential liability
outflows. The Company believes that the comparison of its general account net
liquidity to individual policy net cash surrender value is key to the periodic
evaluation of its ability to meet policyholder claim requirements, and stress
tests are utilized to measure the expected liquidity situation under
hypothetical unusual events. The Company believes that its liquidity position is
more than adequate to meet the expected cash flow demands associated with its
liabilities under reasonably possible stress situations.
OPERATING RISK is the risk of potential loss from internal or external events
such as mismanagement, fraud, systems breakdowns, business interruption, or
failure to satisfy legal or fiduciary responsibilities. All financial
institutions, including the Company, are exposed to the risk of unauthorized
activities by employees that are contrary to the internal controls designed to
manage such risks. Legal risk may arise from inadequate control over contract
documentation, marketing processes, or other operations. Internal controls
responsive to regulatory, legal, credit, asset stewardship and other concerns
are established at the business unit level for specific lines of business and at
the enterprise level for company-wide processes. Controls are monitored by
business unit management, internal and external auditors, and by an enterprise
level Management Internal Control unit, and in certain instances, are subject to
regulatory review.
Following recent revelations and negative publicity surrounding the issue of
sales practices, the Company has implemented a strategy to emphasize ethical
conduct in the recruitment and training of agents and in the sales process. The
Company has also strengthened controls including the establishment of a client
acquisition program, in conjunction with the underwriting process, intended to
ascertain the appropriateness of insurance coverages sold and mitigate the risk
of inappropriate policy replacement activity.
Another aspect of operating risk relates to the Company's ability to conduct
transactions electronically and to gather, process, and disseminate information
and maintain data integrity and uninterrupted operations given the possibility
of unexpected or unusual events. The Company is implementing a business
continuation initiative to address these concerns. Considerations relative to
the potential impact of the Year 2000 on computer operations, infrastructural
support, and other matters are discussed above.
A-14
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
DIRECTORS AND OFFICERS
The directors and major officers of Pruco Life, listed with their principal
occupations during the past 5 years, are shown below.
DIRECTORS OF PRUCO LIFE
JAMES J. AVERY, JR., CHAIRMAN AND DIRECTOR -- Senior Vice President, Chief
Actuary and CFO, Prudential Individual Insurance since 1997; 1995 to 1997:
President, Prudential Select; 1993 to 1995: Chief Operating Officer, Prudential
Select. Age 47.
WILLIAM M. BETHKE, DIRECTOR -- Chief Investment Officer since 1997; prior to
1997: President, Prudential Capital Markets Group. Age 52.
IRA J. KLEINMAN, DIRECTOR -- Executive Vice President, International Insurance
Group since 1997; 1995 to 1997: Chief Marketing and Product Development Officer,
Prudential Individual Insurance Group; 1993 to 1995: President, Prudential
Select. Age 52.
ESTHER H. MILNES, PRESIDENT AND DIRECTOR -- Vice President and Actuary,
Prudential Individual Insurance Group since 1996; 1993 to 1996: Senior Vice
President and Chief Actuary, Prudential Insurance and Financial Services. Age
48.
I. EDWARD PRICE, VICE CHAIRMAN AND DIRECTOR -- Senior Vice President and
Actuary, Prudential Individual Insurance Group since 1995; 1994 to 1995: Chief
Executive Officer, Prudential International Insurance. Age 56.
KIYOFUMI SAKAGUCHI, DIRECTOR -- President, Prudential International Insurance
Group since 1995; 1994 to 1995: Chairman and Chief Executive Officer, The
Prudential Life Insurance Company, Ltd.; prior to 1994: President and Chief
Executive Officer, Asia Pacific Region -- Prudential International Insurance and
President, The Prudential Life Insurance Co., Ltd. Age 56.
OFFICERS WHO ARE NOT DIRECTORS
C. EDWARD CHAPLIN, TREASURER-- Vice President and Treasurer of Prudential since
1995; 1993 to 1995: Managing Director and Assistant Treasurer of Prudential. Age
42.
JAMES C. DROZANOWSKI, SENIOR VICE PRESIDENT -- Vice President and Operations
Executive, Prudential Individual Insurance Group since 1996; 1995 to 1996:
President, Credit Card Division, Chase Manhattan Bank; prior to 1995: Chase
Manhattan Bank. Age 56
CLIFFORD E. KIRSCH, CHIEF LEGAL OFFICER AND SECRETARY-- Chief Counsel, Variable
Products, Law Department of Prudential since 1995; 1994 to 1995: Associate
General Counsel with PaineWebber. Age 39.
FRANK P. MARINO, SENIOR VICE PRESIDENT -- Vice President, Policyowner Relations
Department, Prudential Individual Insurance Group since 1996; prior to 1996:
Senior Vice President, Prudential Mutual Fund Services. Age 54.
EDWARD A. MINOGUE, SENIOR VICE PRESIDENT -- Vice President, Annuity Services,
Prudential Investments since 1997; prior to 1997: Director, Merrill Lynch. Age
56.
HIROSHI NAKAJIMA, SENIOR VICE PRESIDENT ---President & CEO, Pruco Life Insurance
Company Taiwan Branch, since 1997; prior to 1997: Senior Managing Director,
Prudential Life Insurance Co., Ltd. Age 55.
IMANTS SAKSONS, SENIOR VICE PRESIDENT -- Vice President, Compliance, Prudential
Individual Financial Services since 1998; prior to 1998: Vice President, Market
Conduct, U.S. Operations, Manulife Financial. Age 48.
SHIRLEY H. SHAO, SENIOR VICE PRESIDENT AND CHIEF ACTUARY -- Vice President and
Associate Actuary, Prudential. Age 43.
DENNIS G. SULLIVAN, VICE PRESIDENT AND CHIEF ACCOUNTING OFFICER-- Vice President
and Deputy Controller, Prudential, since 1998; 1997 to 1998, Vice President &
Controller, Contifinancial Corporation. Prior to 1997, Director, Saloman
Brothers. Age 43
The business address of all directors and officers of Pruco Life is 213
Washington Street, Newark, New Jersey 07102-2992. Pruco Life directors and
officers are elected annually.
A-15
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
EXECUTIVE COMPENSATION
The following table shows the 1998 annual compensation, paid by Prudential, and
allocated based on time devoted to the duties as an executive of the Company for
services provided to the Company:
NAME AND PRINCIPAL OTHER ANNUAL
POSITION YEAR SALARY BONUS COMPENSATION
- ------------------- ------ --------- -------- --------------
Esther H. Milnes 1998 $ 20,769 $ 26,313 $ 0
President 1997 18,660 21,398 0
1996 18,058 12,136 0
A-16
<PAGE>
DISCOVERY SELECT(R) VARIABLE ANNUITY
CONSOLIDATED FINANCIAL STATEMENTS OF PRUCO LIFE INSURANCE COMPANY
AND SUBSIDIARIES
<TABLE>
Pruco Life Insurance Company and Subsidiaries
Consolidated Statements of Financial Position
December 31, 1998 and 1997 (In Thousands)
- --------------------------------------------------------------------------------
<CAPTION>
1998 1997
------------ ------------
<S> <C> <C>
ASSETS
Fixed maturities
Available for sale, at fair value (amortized cost, 1998: $2,738,654;
1997: $2,526,554) $ 2,763,926 $ 2,563,852
Held to maturity, at amortized cost (fair value, 1998: $421,845; 1997:
$350,056) 410,558 338,848
Equity securities - available for sale, at fair value (cost, 1998: $2,951; 2,847 1,982
1997: $1,289)
Mortgage loans on real estate 17,354 22,787
Policy loans 766,917 703,955
Short-term investments 240,727 316,355
Other long-term investments 1,047 1,317
------------ ------------
Total investments 4,203,376 3,949,096
Cash 89,679 71,358
Deferred policy acquisition costs 861,713 655,242
Accrued investment income 61,114 67,000
Other assets 65,145 86,692
Separate Account assets 11,531,754 8,022,079
------------ ------------
TOTAL ASSETS $ 16,812,781 $ 12,851,467
============ ============
LIABILITIES AND STOCKHOLDER'S EQUITY
Liabilities
Policyholders' account balances $ 2,696,191 $ 2,380,460
Future policy benefits and other policyholder liabilities 534,599 472,460
Cash collateral for loaned securities 73,336 143,421
Securities sold under agreement to repurchase 49,708 --
Income taxes payable 44,524 71,703
Net deferred income tax liability 148,834 138,483
Payable to affiliate 66,568 70,375
Other liabilities 55,038 120,260
Separate Account liabilities 11,490,751 7,948,788
------------ ------------
Total liabilities 15,159,549 11,345,950
------------ ------------
Contingencies (See Note 11)
Stockholder's Equity
Common stock, $10 par value;
1,000,000 shares, authorized;
250,000 shares, issued and outstanding at
December 31, 1998 and 1997 2,500 2,500
Paid-in-capital 439,582 439,582
Retained earnings 1,202,833 1,050,871
Accumulated other comprehensive income
Net unrealized investment gains 9,902 17,129
Foreign currency translation adjustments (1,585) (4,565)
------------ ------------
Accumulated other comprehensive income 8,317 12,564
------------ ------------
Total stockholder's equity 1,653,232 1,505,517
------------ ------------
TOTAL LIABILITIES AND
STOCKHOLDER'S EQUITY $ 16,812,781 $ 12,851,467
============ ============
</TABLE>
See Notes to Consolidated Financial Statements
B-1
<PAGE>
<TABLE>
Pruco Life Insurance Company and Subsidiaries
Consolidated Statements of Operations
Years Ended December 31, 1998, 1997 and 1996 (In Thousands)
- --------------------------------------------------------------------------------
<CAPTION>
1998 1997 1996
--------- --------- ---------
REVENUES
<S> <C> <C> <C>
Premiums $ 57,467 $ 49,496 $ 51,525
Policy charges and fee income 364,719 330,292 324,976
Net investment income 261,430 259,634 247,328
Realized investment gains, net 44,841 10,974 10,835
Other income 41,267 33,801 20,818
--------- --------- ---------
Total revenues 769,724 684,197 655,482
--------- --------- ---------
BENEFITS AND EXPENSES
Policyholders' benefits 186,527 179,419 186,873
Interest credited to policyholders' account balances 118,935 110,815 118,246
General, administrative and other expenses 228,067 225,721 122,006
--------- --------- ---------
Total benefits and expenses 533,529 515,955 427,125
--------- --------- ---------
Income from operations before income taxes 236,195 168,242 228,357
--------- --------- ---------
Income taxes
Current 69,768 73,326 60,196
Deferred 14,465 (11,458) 18,939
--------- --------- ---------
Total income taxes 84,233 61,868 79,135
--------- --------- ---------
NET INCOME 151,962 106,374 149,222
--------- --------- ---------
Other comprehensive income, net of tax:
Unrealized gains on securities, net of
reclassification adjustment (7,227) 3,025 (17,952)
Foreign currency translation adjustments 2,980 (2,863) (482)
--------- --------- ---------
Other comprehensive income (4,247) 162 (18,434)
--------- --------- ---------
TOTAL COMPREHENSIVE INCOME $ 147,715 $ 106,536 $ 130,788
========= ========= =========
</TABLE>
See Notes to Consolidated Financial Statements
B-2
<PAGE>
<TABLE>
Pruco Life Insurance Company and Subsidiaries
Consolidated Statements of Changes in Stockholder's Equity
Years Ended December 31, 1998, 1997, and 1996 (In Thousands)
- --------------------------------------------------------------------------------
<CAPTION>
Accumulated
other Total
Common Paid-in- Retained comprehensive stockholder's
stock capital earnings income equity
----------- ----------- ----------- ------------- -------------
<S> <C> <C> <C> <C> <C>
Balance, January 1, 1996 $ 2,500 $ 439,582 $ 795,275 $ 30,836 $ 1,268,193
Net income -- -- 149,222 -- 149,222
Change in foreign currency
translation adjustments -- -- -- (482) (482)
Change in net unrealized
investment gains, net of
reclassification adjustment -- -- -- (17,952) (17,952)
----------- ----------- ----------- ----------- -----------
Balance, December 31, 1996 2,500 439,582 944,497 12,402 1,398,981
Net income -- -- 106,374 -- 106,374
Change in foreign currency
translation adjustments -- -- -- (2,863) (2,863)
Change in net unrealized
investment gains, net of
reclassification adjustment -- -- -- 3,025 3,025
----------- ----------- ----------- ----------- -----------
Balance, December 31, 1997 2,500 439,582 1,050,871 12,564 1,505,517
Net income -- -- 151,962 -- 151,962
Change in foreign currency
translation adjustments -- -- -- 2,980 2,980
Change in net unrealized
investment gains, net of
reclassification adjustment -- -- -- (7,227) (7,227)
----------- ----------- ----------- ----------- -----------
Balance, December 31, 1998 $ 2,500 $ 439,582 $ 1,202,833 $ 8,317 $ 1,653,232
=========== =========== =========== =========== ============
</TABLE>
See Notes to Consolidated Financial Statements
B-3
<PAGE>
<TABLE>
Pruco Life Insurance Company and Subsidiaries
Consolidated Statements of Cash Flows
Years Ended December 31, 1998, 1997, and 1996 (In Thousands)
- --------------------------------------------------------------------------------
<CAPTION>
1998 1997 1996
----------- ----------- -----------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 151,962 $ 106,374 $ 149,222
Adjustments to reconcile net income to net cash (used in)
provided by operating activities:
Policy charges and fee income (47,230) (40,783) (50,286)
Interest credited to policyholders' account balances 118,935 110,815 118,246
Realized investment gains, net (44,841) (10,974) (10,835)
Amortization and other non-cash items 18,611 (31,181) 29,334
Change in:
Future policy benefits and other policyholders' liabilities 62,139 39,683 54,176
Accrued investment income 5,886 (4,890) (2,248)
Separate Accounts 32,288 (13,894) (38,025)
Payable to affiliate (3,807) 20,547 16,519
Policy loans (62,962) (64,173) (70,509)
Deferred policy acquisition costs (206,471) (22,083) (66,183)
Income taxes payable (27,179) 78,894 (816)
Deferred income tax liability 10,351 (10,477) 7,912
Other, net (43,675) 34,577 7,814
----------- ----------- -----------
Cash Flows (Used In) From Operating Activities (35,993) 192,435 144,321
----------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from the sale/maturity of:
Fixed maturities:
Available for sale 5,429,396 2,828,665 3,886,254
Held to maturity 74,767 138,626 138,127
Equity securities 4,101 6,939 7,527
Mortgage loans on real estate 5,433 24,925 19,226
Other long-term investments 1,140 3,276 288
Investment real estate -- -- 4,488
Payments for the purchase of:
Fixed maturities:
Available for sale (5,617,208) (3,141,785) (4,008,810)
Held to maturity (145,919) (70,532) (114,494)
Equity securities (2,274) (4,594) (4,697)
Other long-term investments (409) (51) (657)
Cash collateral for loaned securities, net (70,085) 143,421 -
Securities sold under agreement to repurchase, net 49,708 - -
Short-term investments, net 75,771 (147,030) 58,186
----------- ----------- -----------
Cash Flows Used In Investing Activities (195,579) (218,140) (14,562)
----------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Policyholders' account balances:
Deposits 3,098,721 2,099,600 536,370
Withdrawals (2,848,828) (2,076,303) (633,798)
----------- ----------- -----------
Cash Flows From (Used in) Financing Activities 249,893 23,297 (97,428)
----------- ----------- -----------
Net increase (decrease) in Cash 18,321 (2,408) 32,331
Cash, beginning of year 71,358 73,766 41,435
----------- ----------- -----------
CASH, END OF PERIOD $ 89,679 $ 71,358 $ 73,766
=========== =========== ===========
SUPPLEMENTAL CASH FLOW INFORMATION
Income taxes paid (received) $ 99,810 $ (7,904) $ 61,760
=========== =========== ===========
</TABLE>
See Notes to Consolidated Financial Statements
B-4
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
1. BUSINESS
Pruco Life Insurance Company (the Company) is a stock life insurance company,
organized in 1971 under the laws of the state of Arizona. The Company markets
individual life insurance, variable life insurance, variable annuities, fixed
annuities, and a group annuity program (the Contracts) in all states and
territories except the District of Columbia and Guam. In addition, the Company
markets individual life insurance through its branch office in Taiwan. The
Company has two wholly owned subsidiaries, Pruco Life Insurance Company of New
Jersey (PLNJ) and The Prudential Life Insurance Company of Arizona (PLICA). PLNJ
is a stock life insurance company organized in 1982 under the laws of the state
of New Jersey. It is licensed to sell individual life insurance, variable life
insurance, fixed annuities, and variable annuities only in the states of New
Jersey and New York. PLICA is a stock life insurance company organized in 1988
under the laws of the state of Arizona. PLICA had no new business sales in 1997
or 1998 and at this time will not be issuing new business.
The Company is a wholly owned subsidiary of The Prudential Insurance Company of
America (Prudential), a mutual insurance company founded in 1875 under the laws
of the state of New Jersey. Prudential intends to make additional capital
contributions to the Company, as needed, to enable it to comply with its reserve
requirements and fund expenses in connection with its business. Generally,
Prudential is under no obligation to make such contributions and its assets do
not back the benefits payable under the Contracts.
The Company is engaged in a business that is highly competitive because of the
large number of stock and mutual life insurance companies and other entities
engaged in marketing insurance products, and individual and group annuities.
There are approximately 1,620 stock, mutual and other types of insurers in the
life insurance business in the United States.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The consolidated financial statements have been prepared in accordance with
generally accepted accounting principles ("GAAP"). All significant intercompany
balances and transactions have been eliminated.
Use of Estimates
The preparation of financial statements in conformity with GAAP requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the period. Actual results could differ from those estimates.
Investments
Fixed maturities classified as "available for sale" are carried at estimated
fair value. Fixed maturities that the Company has both the intent and ability to
hold to maturity are stated at amortized cost and classified as "held to
maturity". The amortized cost of fixed maturities is written down to estimated
fair value if a decline in value is considered to be other than temporary.
Unrealized gains and losses on fixed maturities "available for sale", including
the effect on deferred policy acquisition costs and participating annuity
contracts that would result from the realization of unrealized gains and losses,
net of income taxes, are included in a separate component of equity,
"Accumulated other comprehensive income."
Equity securities, available for sale, comprised of common and non-redeemable
preferred stock, are carried at estimated fair value. The associated unrealized
gains and losses, net of income tax, the effects on deferred policy acquisition
costs and on participating annuity contracts that would result from the
realization of unrealized gains and losses, are included in a separate component
of equity, "Accumulated other comprehensive income."
Mortgage loans on real estate are stated primarily at unpaid principal balances,
net of unamortized discounts and allowance for losses. The allowance for losses
is based upon a loan specific review and management's consideration of past
results, current trends, the estimated value of the underlying collateral,
composition of the loan portfolio, current economic conditions and other
relevant factors. Impaired loans are identified by management as loans in which
a probability exists that all amounts due according to the contractual terms of
the loan agreement will not be collected.
B-5
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Impaired loans are measured based on the present value of expected future cash
flows discounted at the loan's effective interest rate, or the fair value of the
collateral if the loan is collateral dependent.
Interest received on impaired loans, including loans that were previously
modified in a troubled debt restructuring, is either applied against the
principal or reported as revenue, according to management's judgment as to the
collectibility of principal. Management discontinues the accrual of interest on
impaired loans after the loans are 90 days delinquent as to principal or
interest, or earlier when management has serious doubts about collectibility.
When a loan is recognized as impaired, any accrued but unpaid interest
previously recorded on such loan is reversed against interest income of the
current period. Generally, a loan is restored to accrual status only after all
delinquent interest and principal are brought current and, in the case of loans
where interest has been interrupted for a substantial period, a regular payment
performance has been established.
Policy loans are carried at unpaid principal balances.
Short-term investments, consists primarily of highly liquid debt instruments
purchased with an original maturity of twelve months or less and are carried at
amortized cost, which approximates fair value.
Other long-term investments primarily represent the Company's investments in
joint ventures and partnerships in which the Company does not have control.
These investments are recorded using the equity method of accounting, reduced
for other than temporary declines in value.
Realized investment gains, net are computed using the specific identification
method. Costs of fixed maturity and equity securities are adjusted for
impairments considered to be other than temporary.
Cash
Cash includes cash on hand, amounts due from banks, and money market
instruments.
Deferred Policy Acquisition Costs
The costs which vary with and that are related primarily to the production of
new insurance business are deferred to the extent that they are deemed
recoverable from future profits. Such costs include certain commissions, costs
of policy issuance and underwriting, and certain variable field office expenses.
Deferred policy acquisition costs are subject to recoverability testing at the
time of policy issue and loss recognition testing at the end of each accounting
period. Deferred policy acquisition costs are adjusted for the impact of
unrealized gains or losses on investments as if these gains or losses had been
realized, with corresponding credits or charges included in "Accumulated other
comprehensive income."
Acquisition costs related to interest-sensitive life products and
investment-type contracts are deferred and amortized in proportion to total
estimated gross profits arising principally from investment results, mortality
and expense margins and surrender charges based on historical and anticipated
future experience. Amortization periods range from 15 to 30 years. For
participating life insurance, deferred policy acquisition costs are amortized
over the expected life of the contracts in proportion to estimated gross margins
based on historical and anticipated future experience, which is updated
periodically. Deferred policy acquisition costs are analyzed to determine if
they are recoverable from future income, including investment income. If such
costs are determined to be unrecoverable, they are expensed at the time of
determination. The effect of revisions to estimated gross profits on unamortized
deferred acquisition costs is reflected in earnings in the period such estimated
gross profits are revised.
Securities loaned
Securities loaned are treated as financing arrangements and are recorded at the
amount of cash received as collateral. The Company obtains collateral in an
amount equal to 102% of the fair value of the securities. The Company monitors
the market value of securities loaned on a daily basis with additional
collateral obtained as necessary. Non-cash collateral received is not reflected
in the consolidated statements of financial position. Substantially all of the
Company's securities loaned are with large brokerage firms.
B-6
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Securities Sold Under Agreements to Repurchase
Securities sold under agreements to repurchase are treated as financing
arrangements and are carried at the amounts at which the securities will be
subsequently reacquired, including accrued interest, as specified in the
respective agreements. The Company's policy is to take possession of securities
purchased under agreements to resell. The market value of securities to be
repurchased is monitored and additional collateral is requested, where
appropriate, to protect against credit exposure.
Securities lending and securities repurchase agreements are used to generate net
investment income and facilitate trading activity. These instruments are
short-term in nature (usually 30 days or less). Securities loaned are
collateralized principally by U.S. Government and mortgage-backed securities.
Securities sold under repurchase agreements are collateralized principally by
cash. The carrying amounts of these instruments approximate fair value because
of the relatively short period of time between the origination of the
instruments and their expected realization.
Separate Account Assets and Liabilities
Separate Account assets and liabilities are reported at estimated fair value and
represent segregated funds which are invested for certain policyholders and
other customers. Separate Account assets include common stocks, fixed
maturities, real estate related securities, and short-term investments. The
assets of each account are legally segregated and are not subject to claims that
arise out of any other business of the Company. Investment risks associated with
market value changes are borne by the customers, except to the extent of minimum
guarantees made by the Company with respect to certain accounts. The investment
income and gains or losses for Separate Accounts generally accrue to the
policyholders and are not included in the Consolidated Statement of Operations.
Mortality, policy administration and surrender charges on the accounts are
included in "Policy charges and fee income."
Separate Accounts represent funds for which investment income and investment
gains and losses accrue directly to, and investment risk is borne by, the
policyholders, with the exception of the Pruco Life Modified Guaranteed Annuity
Account. The Pruco Life Modified Guaranteed Annuity Account is a non-unitized
separate account, which funds the Modified Guaranteed Annuity Contract and the
Market Value Adjustment Annuity Contract. Owners of the Pruco Life Modified
Guaranteed Annuity and the Market Value Adjustment Annuity Contracts do not
participate in the investment gain or loss from assets relating to such
accounts. Such gain or loss is borne, in total, by the Company.
Insurance Revenue and Expense Recognition
Premiums from insurance policies are generally recognized when due. Benefits are
recorded as an expense when they are incurred. For traditional life insurance
contracts, a liability for future policy benefits is recorded using the net
level premium method. For individual annuities in payout status, a liability for
future policy benefits is recorded for the present value of expected future
payments based on historical experience.
Premiums from non-participating group annuities with life contingencies are
generally recognized when due. For single premium immediate annuities, premiums
are recognized when due with any excess profit deferred and recognized in a
constant relationship to insurance in-force or, for annuities, the amount of
expected future benefit payments.
Amounts received as payment for interest-sensitive life, individual annuities,
and guaranteed investment contracts are reported as deposits to "Policyholders'
account balances." Revenues from these contracts reflected as "Policy charges
and fee income" consist primarily of fees assessed during the period against the
policyholders' account balances for mortality charges, policy administration
charges and surrender charges. In addition, interest earned from the investment
of these account balances is reflected in "Net investment income." Benefits and
expenses for these products include claims in excess of related account
balances, expenses of contract administration, interest credited and
amortization of deferred policy acquisition costs.
Foreign Currency Translation Adjustments
Assets and liabilities of the Taiwan branch are translated to U.S. dollars at
the exchange rate in effect at the end of the period. Revenues, benefits and
other expenses are translated at the average rate prevailing during the period.
Cumulative translation adjustments arising from the use of differing exchange
rates from period to period are charged or credited directly to "Other
comprehensive income." The cumulative effect of changes in foreign exchange
rates are included in "Accumulated other comprehensive income."
B-7
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Other Income
Other income consists primarily of asset management fees which are received by
the Company from Prudential for services Prudential provides to the Prudential
Series Fund, an underlying investment option of the Separate Accounts.
Derivative Financial Instruments
Derivatives are financial instruments whose values are derived from interest
rates, foreign exchange rates, various financial indices, or the value of
securities or commodities. Derivative financial instruments used by the Company
include futures, currency swaps, and options contracts and can be
exchange-traded or contracted in the over-the-counter market. The Company uses
derivative financial instruments to hedge market risk from changes in interest
rates or foreign currency exchange rates, and to alter interest rate or currency
exposures arising from mismatches between assets and liabilities. All
derivatives used by the Company are for other than trading purposes.
To qualify as a hedge, derivatives must be designated as hedges for existing
assets, liabilities, firm commitments, or anticipated transactions which are
identified and probable to occur, and effective in reducing the market risk to
which the Company is exposed. The effectiveness of the derivatives must be
evaluated at the inception of the hedge and throughout the hedge period.
When derivatives qualify as hedges, the changes in the fair value or cash flows
of the derivatives and the hedged items are recognized in earnings in the same
period. If the Company's use of other than trading derivatives does not meet the
criteria to apply hedge accounting, the derivatives are recorded at fair value
in "Other liabilities" in the Consolidated Statements of Financial Position, and
changes in their fair value are recognized in earnings in "Realized investment
gains, net" without considering changes in the hedged assets or liabilities.
Cash flows from other than trading derivative assets and liabilities are
reported in the operating activities section in the Consolidated Statements of
Cash Flows.
Income Taxes
The Company and its subsidiaries are members of the consolidated federal income
tax return of Prudential and files separate company state and local tax returns.
Pursuant to the tax allocation arrangement with Prudential, total federal income
tax expense is determined on a separate company basis. Members with losses
record tax benefits to the extent such losses are recognized in the consolidated
federal tax provision. Deferred income taxes are generally recognized, based on
enacted rates, when assets and liabilities have different values for financial
statement and tax reporting purposes. A valuation allowance is recorded to
reduce a deferred tax asset to that portion that is expected to be realized.
New Accounting Pronouncements
In June 1996, the Financial Accounting Standards Board ("FASB") issued the
Statement of Financial Accounting Standards ("SFAS") No. 125, "Accounting for
Transfers and Servicing of Financial Assets and Extinguishments of Liabilities"
("SFAS 125"). The statement provides accounting and reporting standards for
transfers and servicing of financial assets and extinguishments of liabilities
and provides consistent standards for distinguishing transfers of financial
assets that are sales from transfers that are secured borrowings. SFAS 125
became effective January 1, 1997 and is to be applied prospectively. Subsequent
to June 1996, FASB issued SFAS No. 127 "Deferral of the Effective Date of
Certain Provisions of SFAS 125" ("SFAS 127"). SFAS 127 delays the implementation
of SFAS 125 for one year for certain transactions, including repurchase
agreements, dollar rolls, securities lending and similar transactions. Adoption
of SFAS 125 did not have a material impact on the Company's results of
operations, financial position and liquidity.
During 1998, the Company adopted SFAS No. 130, "Reporting Comprehensive Income,"
which was issued by the FASB in June 1997. This statement defines comprehensive
income and establishes standards for reporting and displaying comprehensive
income and its components in financial statements. The statement requires that
the Company classify items of other comprehensive income by their nature and
display the accumulated balance of other comprehensive income separately from
retained earnings in the equity section of the Statement of Financial Position.
Application of this statement did not change recognition or measurement of net
income and, therefore, did not affect the Company's financial position or
results of operations.
B-8
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
On January 1, 1999, the Company adopted the American Institute of Certified
Public Accountants ("AICPA") Statement of Position 97-3, "Accounting by
Insurance and Other Enterprises for Insurance-Related Assessments" ("SOP 97-3").
This statement provides guidance for determining when an insurance company or
other enterprise should recognize a liability for guaranty-fund assessments as
well as guidance for measuring the liability. The adoption of SOP 97-3 is not
expected to have a material effect on the Company's financial position or
results of operations.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities" which requires that companies recognize all
derivatives as either assets or liabilities in the balance sheet and measure
those instruments at fair value. SFAS No. 133 provides, if certain conditions
are met, that a derivative may be specifically designated as (1) a hedge of the
exposure to changes in the fair value of a recognized asset or liability or an
unrecognized firm commitment (fair value hedge), (2) a hedge of the exposure to
variable cash flows of a forecasted transaction (cash flow hedge), or (3) a
hedge of the foreign currency exposure of a net investment in a foreign
operation, an unrecognized firm commitment, an available-for-sale security or a
foreign-currency-denominated forecasted transaction (foreign currency hedge).
SFAS No. 133 does not apply to most traditional insurance contracts. However,
certain hybrid contracts that contain features which can affect settlement
amounts similarly to derivatives may require separate accounting for the "host
contract" and the underlying "embedded derivative" provisions. The latter
provisions would be accounted for as derivatives as specified by the statement.
Under SFAS No. 133, the accounting for changes in fair value of a derivative
depends on its intended use and designation. For a fair value hedge, the gain or
loss is recognized in earnings in the period of change together with the
offsetting loss or gain on the hedged item. For a cash flow hedge, the effective
portion of the derivative's gain or loss is initially reported as a component of
other comprehensive income and subsequently reclassified into earnings when the
forecasted transaction affects earnings. For a foreign currency hedge, the gain
or loss is reported in other comprehensive income as part of the foreign
currency translation adjustment. For all other derivatives not designated as
hedging instruments, the gain or loss is recognized in earnings in the period of
change. The Company is required to adopt this Statement no later than January 1,
2000 and is currently assessing the effect of the new standard.
In October, 1998, the AICPA issued Statement of Position 98-7, "Deposit
Accounting: Accounting for Insurance and Reinsurance Contracts That Do Not
Transfer Insurance Risk," ("SOP 98-7"). This statement provides guidance on how
to account for insurance and reinsurance contracts that do not transfer
insurance risk. SOP 98-7 is effective for fiscal years beginning after June 15,
1999. The adoption of this statement is not expected to have a material effect
on the Company's financial position or results of operations.
Reclassifications
Certain amounts in the prior years have been reclassified to conform to current
year presentation.
B-9
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
3. INVESTMENTS
Fixed Maturities and Equity Securities:
The following tables provide additional information relating to fixed maturities
and equity securities as of December 31,:
<TABLE>
<CAPTION>
1998
----------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Estimated
Cost Gains Losses Fair Value
---------- ---------- ---------- ----------
(In Thousands)
<S> <C> <C> <C> <C>
Fixed maturities available for sale
U.S. Treasury securities and obligations of
U.S. government corporations and agencies 110,294 864 318 110,840
Foreign government bonds 87,112 2,003 696 88,419
Corporate securities 2,540,498 30,160 6,897 2,563,761
Mortgage-backed securities 750 156 -- 906
---------- ---------- ---------- ----------
Total fixed maturities available for sale $2,738,654 $ 33,183 $ 7,911 $2,763,926
========== ========== ========== ==========
Equity securities available for sale $ 2,951 $ 168 $ 272 $ 2,847
========== ========== ========== ==========
Fixed maturities held to maturity
Corporate securities $ 410,558 $ 11,287 $ -- $ 421,845
---------- ---------- ---------- ----------
Total fixed maturities held to maturity $ 410,558 $ 11,287 $ -- $ 421,845
========== ========== ========== ==========
1997
----------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Estimated
Cost Gains Losses Fair Value
---------- ---------- ---------- ----------
(In Thousands)
Fixed maturities available for sale
U.S. Treasury securities and obligations of
U.S. government corporations and agencies $ 177,691 $ 1,231 $ 20 $ 178,902
Foreign government bonds 83,889 1,118 19 84,988
Corporate securities 2,263,898 36,857 2,017 2,298,738
Mortgage-backed securities 1,076 180 32 1,224
---------- ---------- ---------- ----------
Total fixed maturities available for sale $2,526,554 $ 39,386 $ 2,088 $2,563,852
========== ========== ========== ==========
Equity securities available for sale $ 1,289 $ 802 $ 109 $ 1,982
========== ========== ========== ==========
Fixed maturities held to maturity
Corporate securities $ 338,848 $ 11,427 $ 219 $ 350,056
---------- ---------- ---------- ----------
Total fixed maturities held to maturity $ 338,848 $ 11,427 $ 219 $ 350,056
========== ========== ========== ==========
</TABLE>
B-10
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
3. INVESTMENTS (continued)
The amortized cost and estimated fair value of fixed maturities, categorized by
contractual maturities at December 31, 1998 are shown below:
<TABLE>
<CAPTION>
Available for Sale Held to Maturity
-------------------------------- ---------------------------------
Amortized Estimated Fair Amortized Estimated Fair
Cost Value Cost Value
--------- -------------- ---------- --------------
(In Thousands) (In Thousands)
<S> <C> <C> <C> <C>
Due in one year or less $ 72,931 $ 73,254 $ 3,036 $ 3,064
Due after one year through five years 1,050,981 1,059,389 193,749 201,136
Due after five years through ten years 1,142,507 1,156,664 155,568 158,801
Due after ten years 471,485 473,713 58,205 58,844
Mortgage-backed securities 750 906 -- --
---------- ---------- ---------- ----------
Total $2,738,654 $2,763,926 $ 410,558 $ 421,845
========== ========== ========== ==========
</TABLE>
Actual maturities will differ from contractual maturities because, in certain
circumstances, issuers have the right to call or prepay obligations.
Proceeds from the sale of fixed maturities available for sale during 1998, 1997,
and 1996 were $5,327.3 million, $2,796.3 million, and $3,667.1 million,
respectively. Gross gains of $46.3 million, $18.6 million, and $22.1 million and
gross losses of $14.1 million, $7.9 million, and $17.6 million were realized on
those sales during 1998, 1997, and 1996, respectively.
Proceeds from the maturity of fixed maturities available for sale during 1998,
1997, and 1996 were $102.1 million, $32.4 million, and $219.2 million,
respectively. During the years ended December 31, 1998, 1997, and 1996, there
were no securities classified as held to maturity that were sold.
Writedowns for impairments of fixed maturities which were deemed to be other
than temporary were $2.8 million, $.1 million and $.1 million for the years
1998, 1997 and 1996, respectively.
B-11
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
3. INVESTMENTS (continued)
The following table describes the credit quality of the fixed maturity
portfolio, based on ratings assigned by the National Association of Insurance
Commissioners ("NAIC") or Standard & Poor's Corporation, an independent rating
agency as of December 31, 1998:
<TABLE>
<CAPTION>
Available for Sale Held to Maturity
------------------------------ -------------------------------------
Amortized Estimated Fair Amortized Estimated Fair
Cost Value Cost Value
---------- -------------- ---------- --------------
(In Thousands) (In Thousands)
NAIC Standard & Poor's
<S> <C> <C> <C> <C>
1 AAA to AA- $1,195,301 $1,211,995 $ 180,070 $ 186,683
2 BBB+ to BBB- 1,254,522 1,263,656 182,298 185,417
3 BB+ to BB- 201,033 204,278 39,346 40,654
4 B+ to B- 59,799 57,695 8,821 9,068
5 CCC or lower 27,552 26,061 -- --
6 In or near default 447 241 23 23
---------- ---------- ---------- ----------
Total $2,738,654 $2,763,926 $ 410,558 $ 421,845
========== ========== ========== ==========
</TABLE>
The fixed maturity portfolio consists largely of investment grade assets (rated
"1" or "2" by the NAIC), with such investments accounting for 89% and 94% of the
portfolio at December 31, 1998 and 1997, respectively, based on fair value. As
of both of those dates, less than 1% of the fixed maturities portfolio was rated
"6" by the NAIC, defined as public and private placement securities which are
currently non-performing or believed subject to default in the near-term.
The Company continually reviews fixed maturities and identifies potential
problem assets which require additional monitoring. The Company defines
"problem" fixed maturities as those for which principal and/or interest payments
are in default. The Company defines "potential problem" fixed maturities as
assets which are believed to present default risk associated with future debt
service obligations and therefore require more active management. At December
31, 1998 management identified $264.0 thousand of fixed maturity investments as
problem or potential problem. An immaterial amount of problem or potential
problem fixed maturities were identified in 1997.
Mortgage Loans on Real Estate
The Company's mortgage loans were collateralized by the following property types
at December 31, 1998 and 1997.
1998 1997
------------------ -------------------
(In Thousands)
Office buildings $ -- -- $ 4,607 20%
Retail stores 7,356 42% 8,090 35%
Apartment complexes 5,988 35% 6,080 27%
Industrial buildings 4,010 23% 4,010 18%
------------------ ------------------
Net carrying value $17,354 100% $22,787 100%
================== ==================
B-12
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
3. INVESTMENTS (continued)
The largest concentration of mortgage loans are in the states of Pennsylvania
(35%), Washington (34%), and New Jersey (23%).
Special Deposits
Fixed maturities of $8.6 million and $8.3 million at December 31, 1998 and 1997,
respectively, were on deposit with governmental authorities or trustees as
required by certain insurance laws.
Other Long-Term Investments
The Company's "Other long-term investments" of $1.0 million and $1.3 million as
of December 31, 1998 and 1997, respectively, are comprised of joint ventures and
limited parterships. The Company's share of net income from these entities was
$.1 million, $2.2 million and $1.4 million for the years ended December 31,
1998, 1997 and 1996, respectively, and is reported in "Net investment income."
Investment Income and Investment Gains and Losses
Net investment income arose from the following sources for the years ended
December 31:
1998 1997 1996
--------- --------- ---------
(In Thousands)
Fixed maturities - available for sale $ 179,184 $ 161,140 $ 152,445
Fixed maturities - held to maturity 26,128 26,936 33,419
Equity securities 14 76 44
Mortgage loans on real estate 1,818 2,585 5,669
Policy loans 40,928 37,398 33,449
Short-term investments 23,110 22,011 16,780
Other 6,886 14,920 10,051
--------- --------- ---------
Gross investment income 278,068 265,066 251,857
Less: investment expenses (16,638) (5,432) (4,529)
--------- --------- ---------
Net investment income $ 261,430 $ 259,634 $ 247,328
========= ========= =========
Realized investment gains ,net including charges for other than temporary
reductions in value, for the years ended December 31, were from the following
sources:
1998 1997 1996
--------- --------- ---------
(In Thousands)
Fixed maturities - available for sale $ 29,330 $ 9,039 $ 9,036
Fixed maturities - held to maturity 487 821 --
Equity securities 3,489 8 781
Mortgage loans on real estate -- 797 1,677
Derivative instruments 12,414 -- --
Other (879) 309 (659)
--------- --------- ---------
Realized investment gains, net $ 44,841 $ 10,974 $ 10,835
========= ========= =========
B-13
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
3. INVESTMENTS (continued)
Net Unrealized Investment Gains
Net unrealized investment gains on securities available for sale are included in
the Consolidated Statement of Financial Position as a component of "Accumulated
other comprehensive income." Changes in these amounts include reclassification
adjustments to avoid double-counting in "Comprehensive income," items that are
included as part of "Net income" for a period that also have been part of "Other
comprehensive income" in earlier periods. The amounts for the years ended
December 31, net of tax, are as follows:
<TABLE>
<CAPTION>
1998 1997 1996
-------- -------- --------
(In Thousands)
<S> <C> <C> <C>
Net unrealized investment gains, beginning of year $ 17,129 $ 14,104 $ 32,056
Changes in net unrealized investment gains attributable to:
Investments:
Net unrealized gains on investments arising during the period 14,593 13,880 (20,405)
Reclassification adjustment for gains included in net income 22,799 6,680 6,165
-------- -------- --------
Change in net unrealized gains on investments, net of adjustments (8,206) 7,200 (26,570)
Impact of net unrealized investment gains on:
Policyholder's account balances (1,063) 1,293 (2,467)
Deferred policy acquisition costs 2,042 (5,468) 11,085
-------- -------- --------
Change in net unrealized investment gains (7,227) 3,025 (17,952)
-------- -------- --------
Net unrealized investment gains, end of year $ 9,902 $ 17,129 $ 14,104
======== ======== ========
</TABLE>
Unrealized gains (losses) on investments arising during the periods reported in
the above table are net of income tax (benefit) expense of $(8.2) million,
$(7.6) million and $12.1 million for the years ended December 31, 1998, 1997 and
1996, respectively.
Reclassification adjustments reported in the above table for the years ended
December 31, 1998, 1997 and 1996 are net of income tax expense of $12.8 million,
$3.6 million and $3.8 million, respectively.
Policyholder's account balances reported in the above table are net of income
tax (benefit) expense of $(.2) million, $.0 million and $1.4 million for the
years ended December 31, 1998, 1997 and 1996, respectively.
Deferred policy acquisition costs in the above tables for the years ended
December 31, 1998, 1997 and 1996 are net of income tax (benefit) expense of
$(1.1) million, $2.9 million and $(6.2) million, respectively.
4. POLICYHOLDERS' LIABILITIES
Future policy benefits and other policyholder liabilities at December 31 are as
follows:
1998 1997
-------- --------
(In Thousands)
Life insurance $506,249 $444,737
Annuities 28,350 27,723
-------- --------
$534,599 $472,460
======== ========
B-14
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
4. POLICYHOLDERS' LIABILITIES (continued)
Life insurance liabilities include reserves for death benefits. Annuity
liabilities include reserves for immediate annuities.
The following table highlights the key assumptions generally utilized in
calculating these reserves:
<TABLE>
<CAPTION>
Product Mortality Interest Rate Estimation Method
- ------------------------------ ------------------------- ------------- -----------------------
<S> <C> <C> <C>
Life insurance - Domestic Generally rates 2.5% to 7.5% Net level premium based
guaranteed in on non-forfeiture
calculating cash interest rate
surrender values
Life insurance - International Generally rates 6.25% to 6.5% Net level premium based
guaranteed in on the expected
calculating cash investment return
surrender values
Individual immediate annuities 1983 Individual Annuity 6.25% to 11.0% Present value of
Mortality Table with expected future payment
certain modifications based on historical
experience
</TABLE>
Policyholders' account balances at December 31, are as follows:
1998 1997
---------- ----------
(In Thousands)
Interest-sensitive life contracts $1,386,829 $1,345,089
Individual annuities 1,077,996 1,035,371
Guaranteed investment contracts 231,366 --
---------- ----------
$2,696,191 $2,380,460
========== ==========
Policyholders' account balances for interest-sensitive life, individual
annuities, and guaranteed investment contracts are equal to policy account
values plus unearned premiums. The policy account values represent an
accumulation of gross premium payments plus credited interest less withdrawals,
expenses, mortality charges.
Certain contract provisions that determine the policyholder account balances are
as follows:
<TABLE>
<CAPTION>
Product Interest Rate Withdrawal / Surrender Charges
- --------------------------------- -------------- ----------------------------------
<S> <C> <C>
Interest sensitive life contracts 4.0% to 6.5% Various up to 10 years
Individual annuities 3.0% to 5.6% 0% to 8% for up to 8 years
Guaranteed investment contracts 5.02% to 6.23% Subject to market value withdrawal
provisions for any funds withdrawn
other than for benefit responsive
and contractual payments
</TABLE>
B-15
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
5. REINSURANCE
The Company participates in reinsurance, with Prudential and other companies, in
order to provide greater diversification of business, provide additional
capacity for future growth and limit the maximum net loss potential arising from
large risks. Reinsurance ceded arrangements do not discharge the Company or the
insurance subsidiaries as the primary insurer, except for cases involving a
novation. Ceded balances would represent a liability to the Company in the event
the reinsurers were unable to meet their obligations to the Company under the
terms of the reinsurance agreements. The likelihood of a material reinsurance
liability reassumed by the Company is considered to be remote.
Reinsurance amounts included in the Consolidated Statement of Operations for the
year ended December 31 are below.
1998 1997 1996
-------- -------- --------
(In Thousands)
Direct Premiums $ 65,423 $ 51,851 $ 53.776
Reinsurance assumed 1,395 1,369 1,128
Reinsurance ceded - affiliated (6,532) (686) (254)
Reinsurance ceded - unaffiliated (2,819) (3,038) (3,125)
-------- -------- --------
Premiums $ 57,467 $ 49,496 $ 51,525
======== ======== ========
Policyholders' benefits ceded $ 27,991 $ 25,704 $ 26,796
======== ======== ========
Reinsurance recoverables, included in "Other assets" in the Company's
Consolidated Statements of Financial Position, at December 31 include amounts
recoverable on unpaid and paid losses and were as follows:
1998 1997
------- -------
(In Thousands)
Life insurance - affiliated $ 6,481 $ 2,618
Other reinsurance - affiliated 21,650 23,243
------- -------
$28,131 $25,861
======= =======
B-16
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
6. EMPLOYEE BENEFIT PLANS
Pension and Other Postretirement Plans
The Company has a non-contributory defined benefit pension plan which covers
substantially all of its Taiwanese employees. This plan was established as of
September 30, 1997 and the projected benefit obligation and related expenses at
September 30, 1998 was not material to the Consolidated Statements of Financial
Position or results of operations for the years presented. All other employee
benefit costs are allocated to the Company from Prudential in accordance with
the service agreement described in Note 13.
7. INCOME TAXES
The components of income taxes for the years ended December 31, are as follows:
1998 1997 1996
-------- -------- --------
(In Thousands)
Current tax expense (benefit):
U.S $ 67,272 $ 71,989 $ 59,489
State and local 2,496 1,337 703
Foreign -- -- 4
-------- -------- --------
Total 69,768 73,326 60,196
-------- -------- --------
Deferred tax expense (benefit):
U.S 14,059 (11,458) 18,413
State and local 406 -- 526
-------- -------- --------
Total 14,465 (11,458) 18,939
-------- -------- --------
Total income tax expense $ 84,233 $ 61,868 $ 79,135
======== ======== ========
The income tax expense for the years ended December 31, differs from the amount
computed by applying the expected federal income tax rate of 35% to income from
operations before income taxes for the following reasons:
1998 1997 1996
-------- -------- --------
(In Thousands)
Expected federal income tax expense $ 82,668 $ 58,885 $ 79,925
State and local income taxes 1,886 869 799
Other (321) 2,114 (1,589)
-------- -------- --------
Total income tax expense $ 84,233 $ 61,868 $ 79,135
======== ======== ========
B-17
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
7. INCOME TAXES (continued)
Deferred tax assets and liabilities at December 31, resulted from the items
listed in the following table:
1998 1997
-------- --------
(In Thousands)
Deferred tax assets
Insurance reserves $ 93,564 $ 52,144
-------- --------
Deferred tax assets 93,564 52,144
-------- --------
Deferred tax liabilities
Deferred acquisition costs 224,179 167,128
Net investment gains 12,241 16,068
Other 5,978 7,431
-------- --------
Deferred tax liabilities 242,398 190,627
-------- --------
Net deferred tax liability $148,834 $138,483
======== ========
Management believes that based on its historical pattern of taxable income, the
Company and its subsidiaries will produce sufficient income in the future to
realize its deferred tax assets after valuation allowance. Adjustments to the
valuation allowance will be made if there is a change in management's assessment
of the amount of the deferred tax asset that is realizable. At December 31, 1998
and 1997, respectively, the Company and its subsidiaries had no federal or state
operating loss carryforwards for tax purposes.
The Internal Revenue Service (the "Service") has completed examinations of all
consolidated federal income tax returns through 1989. The Service has examined
the years 1990 through 1992. Discussions are being held with the Service with
respect to proposed adjustments. However, management believes there are adequate
defenses against, or sufficient reserves to provide for, such adjustments. The
Service has begun their examination of the years 1993 through 1995.
B-18
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
8. EQUITY
Reconciliation of Statutory Surplus and Net Income
Accounting practices used to prepare statutory financial statements for
regulatory purposes differ in certain instances from GAAP. The following table
reconciles the Company's statutory net income and surplus as of and for the
years ended December 31, determined in accordance with accounting practices
prescribed or permitted by the Arizona and New Jersey Departments of Banking and
Insurance with net income and equity determined using GAAP.
1998 1997 1996
--------- --------- ---------
(In Thousands)
Statutory net income $ (33,097) $ 12,778 $ 48,846
Adjustments to reconcile to net
income on a GAAP basis:
Statutory income of subsidiaries 18,953 18,553 25,001
Deferred acquisition costs 202,375 38,003 48,862
Deferred premium 2,625 1,144 1,295
Insurance liabilities (24,942) 26,517 28,662
Deferred taxes (14,465) 11,458 (18,939)
Valuation of investments 20,077 506 365
Other, net (19,564) (2,585) 15,130
--------- --------- ---------
GAAP net income $ 151,962 $ 106,374 $ 149,222
========= ========= =========
1998 1997
----------- -----------
(In Thousands)
Statutory surplus $ 931,164 $ 853,130
Adjustments to reconcile to equity
on a GAAP basis:
Valuation of investments 117,254 97,787
Deferred acquisition costs 861,713 655,242
Deferred premium (15,625) (14,817)
Insurance liabilities (133,811) (107,525)
Deferred taxes (148,834) (138,483)
Other, net 41,371 160,183
----------- -----------
GAAP stockholder's equity $ 1,653,232 $ 1,505,517
=========== ===========
9. FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values presented below have been determined using available
information and valuation methodologies. Considerable judgment is applied in
interpreting data to develop the estimates of fair value. Accordingly, such
estimates presented may not be realized in a current market exchange. The use of
different market assumptions and/or estimation methodologies could have a
material effect on the estimated fair values. The following methods and
assumptions were used in calculating the estimated fair values (for all other
financial instruments presented in the table, the carrying value approximates
estimated fair value).
B-19
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
9. FAIR VALUE OF FINANCIAL INSTRUMENTS (continued)
Fixed maturities and Equity securities
Estimated fair values for fixed maturities and equity securities, other than
private placement securities, are based on quoted market prices or estimates
from independent pricing services. Fair values for private placement securities
are estimated using a discounted cash flow model which considers the current
market spreads between the U.S. Treasury yield curve and corporate bond yield
curve, adjusted for the type of issue, its current credit quality and its
remaining average life. The estimated fair value of certain non-performing
private placement securities is based on amounts estimated by management.
Mortgage loans on real estate
The estimated fair value of the mortgage loan portfolio is primarily based upon
the present value of the scheduled future cash flows discounted at the
appropriate U.S. Treasury rate, adjusted for the current market spread for a
similar quality mortgage.
Policy loans
The estimated fair value of policy loans is calculated using a discounted cash
flow model based upon current U.S. Treasury rates and historical loan
repayments.
Policyholders' account balances
Estimated fair values of policyholders' account balances are derived by using
discounted projected cash flows, based on interest rates being offered for
similar contracts, with maturities consistent with those remaining for the
contracts being valued.
Derivative financial instruments
The fair value of futures is estimated based on market quotes for a transactions
with similar terms.
The following table discloses the carrying amounts and estimated fair values of
the Company's financial instruments at December 31,:
<TABLE>
<CAPTION>
1998 1997
------------------------------- ---------------------------------
Carrying Estimated Carrying Estimated
Value Fair Value Value Fair Value
----------- ----------- ------------- -----------
(In Thousands)
<S> <C> <C> <C> <C>
Financial Assets:
Fixed maturities:
Available for sale $ 2,763,926 $ 2,763,926 $ 2,563,852 $ 2,563,852
Held to maturity 410,558 421,845 338,848 350,056
Equity securities 2,847 2,847 1,982 1,982
Mortgage loans 17,354 19,465 22,787 24,994
Policy loans 766,917 806,099 703,955 703,605
Short-term investments 240,727 240,727 316,355 316,355
Cash 89,679 89,679 71,358 71,358
Separate Account assets 11,531,754 11,531,754 8,022,079 8,022,079
Financial Liabilities:
Policyholders'
account balances $ 2,696,191 $ 2,703,725 $ 2,380,460 $ 2,374,040
Cash collateral for loaned
securities 123,044 123,044 143,421 143,421
Separate Account liabilities 11,490,751 11,490,751 7,948,788 7,948,788
Derivatives 1,723 2,374 653 653
</TABLE>
B-20
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
10. DERIVATIVE AND OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS
Futures & Options
The Company uses exchange-traded Treasury futures and options to reduce market
risks from changes in interest rates, to alter mismatches between the duration
of assets in a portfolio and the duration of liabilities supported by those
assets, and to hedge against changes in the value of securities it owns or
anticipates acquiring. The Company enters into exchange-traded futures and
options with regulated futures commissions merchants who are members of a
trading exchange. The fair value of futures and options is estimated based on
market quotes for a transaction with similar terms.
Under exchange-traded futures, the Company agrees to purchase a specified number
of contracts with other parties and to post variation margin on a daily basis in
an amount equal to the difference in the daily market values of those contracts.
Futures are typically used to hedge duration mismatches between assets and
liabilities by replicating Treasury performance. Treasury futures move
substantially in value as interest rates change and can be used to either
generate new or hedge existing interest rate risk. This strategy protects
against the risk that cash flow requirements may necessitate liquidation of
investments at unfavorable prices resulting from increases in interest rates.
This strategy can be a more cost effective way of temporarily reducing the
Company's exposure to a market decline than selling fixed income securities and
purchasing a similar portfolio when such a decline is believed to be over.
For futures that meet hedge accounting criteria, changes in their fair value are
deferred and recognized as an adjustment to the carrying value of the hedged
item. Deferred gains or losses from the hedges for interest-bearing financial
instruments are amortized as a yield adjustment over the remaining lives of the
hedged item. Futures that do not qualify as hedges are carried at fair value
with changes in value reported in current period earnings. The notional value of
futures contracts was $40.8 million and $115.7 million at December 31, 1998 and
1997, respectively. The fair value of futures contracts was immaterial at
December 31, 1998 and 1997.
When the Company anticipates a significant decline in the stock market which
will correspondingly affect its diversified portfolio, it may purchase put index
options where the basket of securities in the index is appropriate to provide a
hedge against a decrease in the value of the equity portfolio or a portion
thereof. This strategy effects an orderly sale of hedged securities. When the
Company has large cash flows which it has allocated for investment in equity
securities, it may purchase call index options as a temporary hedge against an
increase in the price of the securities it intends to purchase. This hedge
permits such investment transactions to be executed with the least possible
adverse market impact.
Option premium paid or received is reported as an asset or liability and
amortized into income over the life of the option. If options meet the criteria
for hedge accounting, changes in their fair value are deferred and recognized as
an adjustment to the hedged item. Deferred gains or losses from the hedges for
interest-bearing financial instruments are recognized as an adjustment to
interest income or expense of the hedged item. If the options do not meet the
criteria for hedge accounting, they are fair valued, with changes in fair value
reported in current period earnings. The fair value of options was immaterial at
December 31, 1998, and there were no options in 1997.
Currency Derivatives
The Company uses currency swaps to reduce market risks from changes in currency
values of investments denominated in foreign currencies that the Company either
holds or intends to acquire and to alter the currency exposures arising from
mismatches between such foreign currencies and the US Dollar.
Under currency swaps, the Company agrees with other parties to exchange, at
specified intervals, the difference between one currency and another at a
forward exchange rate and calculated by reference to an agreed principal amount.
Generally, the principal amount of each currency is exchanged at the beginning
and termination of the currency swap by each party. These transactions are
entered into pursuant to master agreements that provide for a single net payment
to be made by one counterparty for payments made in the same currency at each
due date.
If currency derivatives are effective as hedges of foreign currency translation
and transaction exposures, gains or losses are recorded in "Foreign currency
translation adjustments". If currency derivatives do not meet hedge accounting
criteria, gains or losses from those derivatives are recognized in current
period earnings.
As of December 31, 1998, the notional value of the swaps was $40.5 million with
a fair value of ($2.3) million. There were no currency swaps at year end 1997.
B-21
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
10. DERIVATIVE AND OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS (continued)
Credit Risk
The current credit exposure of the Company's derivative contracts is limited to
the fair value at the reporting date. Credit risk is managed by entering into
transactions with creditworthy counterparties and obtaining collateral where
appropriate and customary. The Company also attempts to minimize its exposure to
credit risk through the use of various credit monitoring techniques. As of
December 31, 1998, 47% of notional consisted of interest rate derivatives, 47%
of notional consisted of foreign currency derivatives, and 6% of notional
consisted of equity derivatives.
11. CONTINGENCIES
Several actions have been brought against the Company on behalf of those persons
who purchased life insurance policies based on complaints about sales practices
engaged in by Prudential, the Company and agents appointed by Prudential and the
Company. Prudential has agreed to indemnify the Company for any and all losses
resulting from such litigation.
In the normal course of business, the Company is subject to various claims and
assessments. Management believes the settlement of these matters would not have
a material effect on the financial position or results of operations of the
Company.
12. DIVIDENDS
The Company is subject to Arizona law which limits the amount of dividends that
insurance companies can pay to stockholders. The maximum dividend which may be
paid in any twelve month period without notification or approval is limited to
the lesser of 10% of statutory surplus as of December 31 of the preceding year
or the net gain from operations of the preceding calendar year. Cash dividends
may only be paid out of surplus derived from realized net profits. Based on
these limitations and the Company's surplus position at December 31, 1998, the
Company would not be permitted a dividend distribution in 1998.
13. RELATED PARTY TRANSACTIONS
Service Agreements
Prudential and Pruco Life operate under service and lease agreements whereby
services of officers and employees (except for those agents employed by the
Company in Taiwan), supplies, use of equipment and office space are provided by
Prudential. The net cost of these services allocated to the Company were $269.9
million, $139.5 million and $101.7 million for the years ended December 31,
1998, 1997, and 1996, respectively. These costs are treated in a manner
consistent with the Company's policy on deferred acquisition costs.
Prudential and Pruco Life have an agreement with respect to administrative
services for the Prudential Series Fund. The Company invests in the various
portfolios of the Series Fund through the Separate Accounts. Under this
agreement, Prudential pays compensation to Pruco Life in the amount equal to a
portion of the gross investment advisory fees paid by the Prudential Series
Fund. The Company received from Prudential its allocable share of such
compensation in the amount of $40.1 million, $29.4 million and $19.1 million
during 1998, 1997 and 1996, respectively, recorded in other income.
Reinsurance
The Company currently has three reinsurance agreements in place with Prudential
(the reinsurer). Specifically a reinsurance Group Annuity Contract, whereby the
reinsurer, in consideration for a single premium payment by the Company,
provides reinsurance equal to 100% of all payments due under the contract, and
two yearly renewable term agreements in which the Company may offer and the
reinsurer may accept reinsurance on any life in excess of the Company's maximum
limit of retention. The Company is not relieved of its primary obligation to the
policyholder as a result of these reinsurance transactions. These agreements had
no material effect on net income for the years ended December 31, 1998, 1997,
and 1996.
B-22
<PAGE>
Pruco Life Insurance Company and Subsidiaries
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
13. RELATED PARTY TRANSACTIONS (continued)
Debt Agreements
In July 1998, the Company established a revolving line of credit facility of up
to $300 million with Prudential Funding Corporation, a wholly owned subsidiary
of Prudential. There is no outstanding debt relating to this credit facility as
of December 31, 1998.
B-23
<PAGE>
Report of Independent Accountants
---------------------------------
To the Board of Directors of
Pruco Life Insurance Company
In our opinion, the accompanying consolidated statements of financial position
and the related consolidated statements of operations, of changes in
stockholder's equity and of cash flows present fairly, in all material respects,
the financial position of Pruco Life Insurance Company and its subsidiaries at
December 31, 1998 and 1997, and the results of their operations and their cash
flows for each of the three years in the period ended December 31, 1998, in
conformity with generally accepted accounting principles. These financial
statements are the responsibility of the Company's management; our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these statements in accordance with
generally accepted auditing standards which require that we plan and perform the
audit to obtain reasonable assurance about whether the financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant estimates made by
management, and evaluating the overall financial statement presentation. We
believe that our audits provide a reasonable basis for the opinion expressed
above.
PricewaterhouseCoopers LLP
New York, New York
February 26, 1999
B-24
B-1
<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
Not applicable.
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS
The Registrant, in conjunction with certain affiliates, maintains insurance on
behalf of any person who is or was a trustee, director, officer, employee, or
agent of the Registrant, or who is or was serving at the request of the
Registrant as a trustee, director, officer, employee or agent of such other
affiliated trust or corporation, against any liability asserted against and
incurred by him or her arising out of his or her position with such trust or
corporation.
Arizona, being the state of organization of Pruco Life Insurance Company
("Pruco"), permits entities organized under its jurisdiction to indemnify
directors and officers with certain limitations. The relevant provisions of
Arizona law permitting indemnification can be found in Section 10-850, et seq.
of the Arizona Statutes Annotated. The text of Pruco's By-law, Article VIII
which relates to indemnification of officers and directors, is incorporated by
reference to Exhibit 3(ii) to its Form 10-Q, filed August 15, 1997.
Insofar as indemnification for liabilities arising under the Securities Act of
1933 may be permitted to directors, officers and controlling persons of the
Registrant pursuant to the foregoing provisions or otherwise, the Registrant has
been advised that in the opinion of the Securities and Exchange Commission such
indemnification is against public policy as expressed in the Act and is
therefore, unenforceable. In the event that a claim for indemnification against
such liabilities (other than the payment by the Registrant of expenses incurred
or paid by a director, officer or controlling person of the Registrant in the
successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the Registrant will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Act and will be governed by the final adjudication of
such issue.
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES
Not applicable.
ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) EXHIBITS
(1) Form of a Distribution Agreement between Prudential Investment Management
Services, Inc., "PIMS" (Principal Underwriter) and Pruco Life Insurance
Company (Depositor). (Note 1)
(3) (a) Articles of Incorporation of Pruco Life Insurance Company, as amended
October 19,1993. (Note 6)
(b) By-laws of Pruco Life Insurance Company, as amended May 6, 1997.
(Note 7)
(c) Resolution of the Board of Directors of Pruco Life Insurance Company
establishing the Pruco Life Modified Guaranteed Annuity Account.
(Note 5)
(5) Opinion of Counsel as to the legality of the securities being registered.
(Note 1)
(10) The Prudential DISCOVERY SELECT Contract. (Note 3)
(22) Subsidiary Organizational Chart. (Note 3)
(23) (a) Written consent of PricewaterhouseCoopers LLP, independent accountants.
(Note 1)
II-1
<PAGE>
(25) Powers of Attorney:
(a) William M. Bethke, Ira J. Kleinman, Esther H. Milnes, and I. Edward
Price.(Note 8)
(b) Dennis G. Sullivan. (Note 4)
(c) Kiyofumi Sakaguchi. (Note 6)
(d) James J. Avery, Jr. (Note 9)
(27) Financial Data Schedule. (Note 1)
- ----------
(Note 1) Filed herewith.
(Note 2) Incorporated by reference to Form N-4, Registration No. 333-06701,
filed June 24, 1996, on behalf of the Pruco Life Flexible Premium
Variable Annuity Account.
(Note 3) Incorporated by reference to Registrant's Form S-1, filed July 19,
1995.
(Note 4 Incorporated by reference to Post-Effective Amendment No. 6 to Form
S-1, Registration No. 33-86780, filed on or about April 12, 1999 on
behalf of the Pruco Life Variable Contract Real Property Account.
(Note 5) Incorporated by reference to Pre-Effective Amendment No. 1 to this
Registration Statement, filed November 17, 1995.
(Note 6) Incorporated by reference to Post-Effective Amendment No. 8 to Form
S-6, Registration No. 33-49994, filed April 28, 1997 on behalf of the
Pruco Life PRUvider Variable Appreciable Account.
(Note 7) Incorporated by reference to Post-Effective Amendment No. 2 to Form
S-6, Registration No. 333-07451, filed on or about June 25, 1997 on
behalf of the Pruco Life Variable Appreciable Account.
(Note 8) Incorporated by reference to Form 10-K, Registration No. 33-08698,
filed March 31, 1997 on behalf of the Pruco Life Variable Contract
Real Property Account.
(Note 9) Incorporated by reference to Post-Effective Amendment No. 2 to Form
S-6, Registration No. 333-07451, filed June 25, 1997 on behalf of the
Pruco Life Variable Appreciable Account.
II-2
<PAGE>
SIGNATURES
As required by the Securities Act of 1933, the Registrant has caused this
Post-Effective Amendment No. 4 to the Registration Statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of Newark,
State of New Jersey, on this 15th day of
April, 1999.
PRUCO LIFE INSURANCE COMPANY
(Registrant)
By: /s/ ESTHER H. MILNES
-------------------------
ESTHER H. MILNES
PRESIDENT
As required by the Securities Act of 1933, this Post-Effective Amendment
No. 4 to the Registration Statement has been signed by the following persons in
the capacities and on the date indicated.
SIGNATURE AND TITLE
-------------------
/s/* April 15, 1999
- ------------------------------------------
ESTHER H. MILNES
PRESIDENT AND DIRECTOR
/s/* *By: /s/ CLIFFORD E. KIRSCH
- ------------------------------------------ -----------------------
DENNIS G. SULLIVAN CLIFFORD E. KIRSCH
VICE PRESIDENT AND CHIEF (ATTORNEY-IN-FACT)
ACCOUNTING OFFICER,(PRINCIPAL FINANCIAL
OFFICER AND CHIEF ACCOUNTING OFFICER)
/s/*
- ------------------------------------------
WILLIAM M. BETHKE
DIRECTOR
/s/*
- ------------------------------------------
IRA J. KLEINMAN
DIRECTOR
/s/*
- ------------------------------------------
I. EDWARD PRICE
DIRECTOR
/s/*
- ------------------------------------------
KIYOFUMI SAKAGUCHI
DIRECTOR
/s/*
- ------------------------------------------
JAMES J. AVERY, JR.
CHAIRMAN OF THE BOARD AND
DIRECTOR
II-3
<PAGE>
EXHIBIT INDEX
(1) (a) Form of Distribution Agreeement
(5) Opinion of Counsel
(23) (a) Consent of PricewaterhouseCoopers LLP, independent accountants
(27) Financial Data Schedules
DISTRIBUTION AGREEMENT
* * *
This Distribution Agreement made this __ day of ____________, 199_,
by and between Pruco Life Insurance Company, an Arizona corporation ("Company"),
on its own behalf and on behalf of Pruco Life Flexible Premium Variable Annuity
Account ("Account") used to fund individual annuity contracts and Prudential
Investment Management Services LLC, a Delaware limited liability company
("Distributor").
WITNESSETH:
WHEREAS, Company has established and maintains the Account, which is
a separate investment account, pursuant to the laws of the State of Arizona for
the purpose of selling variable annuity contracts ("Contracts"), to commence
after the effectiveness of the Registration Statement relating thereto filed
with the Securities and Exchange Commission on Forms S-1 and N-4 pursuant to the
Securities Act of 1933, as amended (the "1933 Act") and the Investment Company
Act of 1940 ("Investment Company Act"); and
WHEREAS, the Account is registered as a unit investment trust under
the Investment Company Act of 1940 (the "1940 Act"); and
WHEREAS, Distributor is registered as a broker-dealer under the
Securities Exchange Act of 1934 (the "Exchange Act") and is a member of the
National Association of Securities Dealers, Inc. ("NASD"); and
WHEREAS, Company and the Distributor wish to enter into an agreement
to have the Distributor act as Company's principal underwriter for the sale of
the Contracts through the Account.
NOW, THEREFORE, for good and valuable consideration, the sufficiency
of which is acknowledged hereby, the parties agree as follows:
1. APPOINTMENT OF THE DISTRIBUTOR
Company agrees that during the term of this Agreement it will take
all action required to cause the Contracts to comply as an insurance product and
a registered security with all applicable federal and state laws and
regulations. Company appoints Distributor and Distributor agrees to act as the
principal underwriter for the sale of Contracts to the public, during the term
of this Agreement, in each state and other jurisdictions in which such Contracts
may lawfully be sold. Distributor shall offer Contracts for sale and
distribution at premium rates set by Company. Applications for Contracts shall
be solicited only by representatives duly and appropriately licensed or
otherwise qualified for the sale of such Contracts in each state or other
jurisdiction. Company shall undertake to appoint Distributor's qualified
representatives as life insurance agents of Company. Completed applications for
Contracts shall be transmitted directly to Company for acceptance or rejection
in accordance with underwriting rules established by Company. Initial
<PAGE>
premium payments under the Contracts shall be made by check payable to Company
and shall be held at all times by Distributor or its representatives in a
fiduciary capacity and remitted promptly to Company. Anything in this Agreement
to the contrary notwithstanding, Company retains the ultimate right to control
the sale of Contracts and to appoint and discharge life insurance agents of
Company. Distributor shall be held to the exercise of reasonable care in
carrying out the provisions of this Agreement.
2. SALES AGREEMENTS
Distributor is hereby authorized to enter into separate written
agreements, on such terms and conditions as Distributor may determine not
inconsistent with the terms of this Agreement, with one or more organizations
which agree to participate in the distribution of Contracts. Such organizations
(hereafter "Brokers" or "Broker") shall be both registered as a broker/dealer
under the Exchange Act and a member in good standing of the NASD. Broker and its
agents or representatives soliciting applications for Contracts shall be duly
and appropriately licensed, registered, or otherwise qualified for the sale of
such Contracts (and the riders and other policies offered in connection
therewith) under the insurance laws and any applicable blue-sky laws of each
state or other jurisdiction in which Company is licensed to sell the Contracts.
Distributor shall have the responsibility for ensuring that Broker
supervises its representatives. Broker shall assume any legal responsibilities
of Company for the acts, commissions or defalcations of such representatives
insofar as they relate to the sale of the Contracts. Applications for Contracts
solicited by such Broker through its agents or representatives shall be
transmitted directly to Company, and if received by Distributor, shall be
forwarded to Company. All premium payments under the Contracts shall be made by
check to Company and, if received by Distributor, shall be held at all times in
a fiduciary capacity and remitted promptly to Company.
3. LIFE INSURANCE LICENSING
Company shall be responsible for insuring that Brokers are duly
qualified, under the insurance laws of the applicable jurisdictions, to sell the
Contracts.
4. SUITABILITY
Company wishes to ensure that Contracts sold by Distributor will be
issued to purchasers for whom the Contract will be suitable. Distributor shall
take reasonable steps to ensure that the various representatives appointed by it
shall not make recommendations to an applicant to purchase a Contract in the
absence of reasonable grounds to believe that the purchase of the Contract is
suitable for such applicant. While not limited to the following, a determination
of suitability shall be based on information furnished to representatives after
reasonable inquiry of such applicant concerning the applicant's insurance and
investment objectives, financial situation and needs, and the likelihood that
the applicant will continue to make the premium payments contemplated by the
Contracts.
5. PROMOTION MATERIALS
Company shall have the responsibility for furnishing to Distributor
and its representatives sales promotion materials and individual sales proposals
related to the sale of Contracts. Distributor shall not use any such materials
that have not been approved by Company. Distributor shall be responsible for
obtaining NASD review of all promotional materials.
2
<PAGE>
6. COMPENSATION
Company shall arrange for the payment of commissions directly to
those registered representatives of Distributor who are entitled thereto in
connection with the sale of the Contracts on behalf of Distributor, in the
amounts and on such terms and conditions as Company and Distributor shall
determine; provided that such terms, conditions, and commissions shall be as set
forth in, or as are not inconsistent with, the Prospectus included as part of
the Registration Statement for the Contracts and effective under the 1933 Act.
Company shall arrange for the payment of commissions directly to
those Brokers who sell Contracts under agreements entered into pursuant to
paragraph 2 hereof, in amounts as may be agreed to by the Company and specified
in such written agreements.
Company shall reimburse Distributor for the costs and expenses
incurred by Distributor in furnishing or obtaining the services, materials and
supplies required by the terms of this Agreement in the initial sales efforts
and the continuing obligations hereunder.
7. RECORDS
Distributor shall be responsible for maintaining records of
representatives licensed, registered, and otherwise qualified to sell Contracts.
Distributor shall maintain such other records as are required of it by
applicable laws and regulations. The books, accounts, and records of Company,
the Account, and Distributor shall be maintained so as to clearly and accurately
disclose the nature and details of the transactions. All records maintained by
Distributor in connection with this Agreement shall be the property of Company
and shall be returned to Company upon termination of this Agreement, free from
any claims or retention of rights by Distributor. Distributor shall keep
confidential any information obtained pursuant to this Agreement and shall
disclose such information only if Company has authorized such disclosure or if
such disclosure is expressly required by applicable federal or state regulatory
authorities.
8. INVESTIGATION AND PROCEEDING
(a) Distributor and Company agree to cooperate fully in any insurance
regulatory investigation or proceeding or judicial proceeding arising in
connection with Contracts distributed under this Agreement. Distributor and
Company further agree to cooperate fully in any securities regulatory
investigation or proceeding or judicial proceeding with respect to Company,
Distributor, their affiliates and their agents or representatives to the extent
that such investigation or proceeding is in connection with Contracts
distributed under this Agreement. Distributor shall furnish applicable federal
and state regulatory authorities with any information or reports in connection
with its services under this Agreement which such authorities may request in
order to ascertain whether Company's operations are being conducted in a manner
consistent with any applicable law or regulations.
(b) In the case of a substantive customer complaint, Distributor and
Company will cooperate in investigating such complaint and any response to such
complaint will be sent to the other party to this Agreement for approval not
less than FIVE (5) BUSINESS DAYS prior to its being
3
<PAGE>
sent to the customer or regulatory authority, except that if more prompt
response is required, the proposed response shall be communicated by telephone
or telegraph.
9. TERMINATION
This Agreement may be terminated at any time by either party on SIXTY
(60) DAYS prior written notice to the other party, without payment of penalty.
In the event that the Agreement is assigned, however, it shall terminate
automatically. Upon termination of this Agreement, all authorizations, rights,
and obligations shall cease except the obligation to settle accounts hereunder,
including commissions on premiums subsequently received for Contracts in effect
at times of termination, and the agreements contained in paragraph 8 hereof.
10. ASSIGNMENTS AND TRANSFERS
No transfer or assignment shall be effective without the prior
written consent of both the Company and the Distributor, except with respect to
transfers pursuant to Rule 2a-6 under the Investment Company Act. All agreements
that result from any assignment or transfer affecting Arizona are subject to
the approval of the Arizona Department of Insurance. Additional regulatory
approvals may also be required.
11. REGULATION
This Agreement shall be subject to the provisions of the 1940 Act and
the Exchange Act and the rules, regulations, and rulings thereunder and of the
applicable rules and regulations of the NASD, from time to time in effect, and
the terms hereof shall be interpreted and construed in accordance therewith.
12. SEVERABILITY
Should any provision of this Agreement be held or made invalid by a
court decision, statute, rule, or otherwise, the remainder of this Agreement
shall not be affected thereby.
13. WARRANTIES
Each party to this Agreement warrants to the other party as follows:
(a) it has full power and authority to execute and deliver this
Agreement and to perform and observe the provisions herein;
(b) the execution, delivery, and performance of this Agreement have
been authorized by all necessary corporate actions and do not and will not
contravene any requirement of law or any contractual restrictions or agreement
binding on or affecting such party or its assets; and
(c) this Agreement has been duly and properly executed and delivered
by such party and constitutes a legal, valid, and binding obligation of such
party enforceable with its terms.
4
<PAGE>
14. APPLICABLE LAW
This Agreement shall be construed and enforced in accordance with and
governed by the laws of the State of Arizona.
IN WITNESS WHEREOF, the parties hereto have caused this Agreement to
be duly executed as of the day and year first above written.
PRUCO LIFE INSURANCE COMPANY
By:__________________________________
Name:________________________________
Title:_______________________________
PRUDENTIAL INVESTMENT MANAGEMENT
SERVICES LLC
By:__________________________________
Name:________________________________
Title:_______________________________
5
April 15, 1999
Pruco Life Insurance Company
213 Washington Street
Newark, New Jersey 07102-2992
Gentlemen:
In my capacity as Chief Legal Officer of Pruco Life Insurance Company ("Pruco
Life "), I have reviewed the establishment of the Pruco Life Modified Guaranteed
Annuity Account (the "Account") on September 25, 1990, by the Executive
Committee of the Board of Directors of Pruco Life as a non-unitized separate
account for assets applicable to certain modified guaranteed annuity contracts,
pursuant to the provisions of Section 20-651 of the Arizona Insurance Code. I
was responsible for oversight of the preparation and review of the Registration
Statement on Form S-1, as amended, filed by Pruco Life with the U.S. Securities
and Exchange Commission (Registration No. 33-61143) under the Securities Act of
1933 for the registration of certain modified guaranteed annuity contracts
issued with respect to the Account.
I am of the following opinion:
(1) Pruco Life was duly organized under the laws of Arizona and is
a validly existing corporation.
(2) The Account has been duly created and is validly existing as a
non-unitized separate account pursuant to the aforesaid
provisions of Arizona law.
(3) The modified guaranteed annuity contracts are legal and
binding obligations of Pruco Life in accordance with their
terms.
In arriving at the foregoing opinion, I have made such examination of law and
examined such records and other documents as I judged to be necessary or
appropriate.
I hereby consent to the filing of this opinion as an exhibit to the Registration
Statement.
Very truly yours,
Clifford E. Kirsch
CONSENT OF INDEPENDENT ACCOUNTANTS
We hereby consent to the use in the Prospectus constituting part of this
Post-Effective Amendment No. 4 to the registration statement on Form S-1 (the
"Registration Statement") of our report dated February 26, 1999, relating to the
consolidated financial statements of Pruco Life Insurance Company and
Subsidiaries, which appears in such Prospectus.
We also consent to the reference to us under the heading "Experts" in the
Prospectus.
PRICEWATERHOUSECOOPERS LLP
New York, New York 10036
April 12, 1999
<TABLE> <S> <C>
<ARTICLE> 7
<LEGEND>
FINANCIAL DATA SCHEDULE
Article 7 of Regulation S-X
Pruco Life Insurance Company
</LEGEND>
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> DEC-31-1999
<DEBT-HELD-FOR-SALE> 2,763,926
<DEBT-CARRYING-VALUE> 410,558
<DEBT-MARKET-VALUE> 421,845
<EQUITIES> 2,847
<MORTGAGE> 17,354
<REAL-ESTATE> 0
<TOTAL-INVEST> 4,203,375
<CASH> 89,679
<RECOVER-REINSURE> 28,131
<DEFERRED-ACQUISITION> 861,713
<TOTAL-ASSETS> 16,812,781
<POLICY-LOSSES> 2,623,789
<UNEARNED-PREMIUMS> 72,402
<POLICY-OTHER> 534,599
<POLICY-HOLDER-FUNDS> 0
<NOTES-PAYABLE> 0
0
0
<COMMON> 2,500
<OTHER-SE> 1,649,772
<TOTAL-LIABILITY-AND-EQUITY> 16,812,781
57,467
<INVESTMENT-INCOME> 261,430
<INVESTMENT-GAINS> 44,841
<OTHER-INCOME> 41,267
<BENEFITS> 305,462
<UNDERWRITING-AMORTIZATION> 50,104
<UNDERWRITING-OTHER> 177,963
<INCOME-PRETAX> 236,195
<INCOME-TAX> 84,233
<INCOME-CONTINUING> 151,962
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 151,962
<EPS-PRIMARY> 0
<EPS-DILUTED> 0
<RESERVE-OPEN> 0
<PROVISION-CURRENT> 0
<PROVISION-PRIOR> 0
<PAYMENTS-CURRENT> 0
<PAYMENTS-PRIOR> 0
<RESERVE-CLOSE> 0
<CUMULATIVE-DEFICIENCY> 0
</TABLE>
