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As Filed with the SEC on April 30, 1999
Registration No. 2-28316
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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Form N-3
REGISTRATION STATEMENT
under
THE SECURITIES ACT OF 1933
POST-EFFECTIVE AMENDMENT NO. 54
and
REGISTRATION STATEMENT UNDER
THE INVESTMENT COMPANY ACT OF 1940
AMENDMENT NO. 31
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THE PRUDENTIAL VARIABLE CONTRACT ACCOUNT-2
(Exact Name of Registrant)
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
(Name of Insurance Company)
751 Broad Street
Newark, New Jersey 07102-3777
(973) 802-8781
(Address and telephone number of Insurance Company's
principal executive offices)
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CAREN CUNNINGHAM
Assistant General Counsel
Prudential Investments Fund Management LLC
Gateway Center Three
100 Mulberry Street, 9th Floor
Newark, NJ 07102
(Name and address of agent for service)
Copy to:
Christopher E. Palmer, Esq.
Shea & Gardner
1800 Massachusetts Avenue, N.W.
Washington, D.C. 20036
It is proposed that this filing will become effective (Check appropriate space):
_______immediately upon filing pursuant to paragraph (b) of Rule 485
X on April 30, 1999 pursuant to paragraph (b) of Rule 485 (date)
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_______60 days after filing pursuant to paragraph (a)(i) of Rule 485
_______on_______pursuant to paragraph (a)(i) of Rule 485
_______75 days after filing pursuant (a)(ii) of Rule 485
_______on___________pursuant to paragraph (a)(ii) of Rule 485
(date)
If appropriate, check the following box:
_________this post-effective amendment designates a new effective date for a
previously filed post-effective amendment.
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PROSPECTUS
May 1, 1999
THE PRUDENTIAL VARIABLE CONTRACT ACCOUNT-2
The Prudential Variable Contract Account-2 invests primarily in equity
securities of major, established corporations. Its investment goal is long term
growth of capital. This means we look for investments whose price we expect will
increase over several years.
This prospectus describes a contract (the Contract) offered by The Prudential
Insurance Company of America (Prudential) for use in connection with retirement
arrangements that qualify for federal tax benefits under Section 403(b) of the
Internal Revenue Code of 1986, as amended. Contributions under the Contract may
be invested in The Prudential Variable Contract Account-2 (VCA 2).
Please read this prospectus before investing and keep it for future reference.
To learn more about the Contract, you can get a copy of the VCA 2 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 SAI,
material incorporated by reference and other information regarding registrants
that file electronically with the SEC. For a free copy of the SAI, call us at:
1-800-458-6333 or write us at:
The Prudential Insurance Company of America
c/o Prudential Investments
30 Scranton Office Park
Scranton, PA 18506-1789
FILING THIS PROSPECTUS WITH THE SEC DOES NOT MEAN THAT THE SEC HAS DETERMINED
THAT THE 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 THE CONTRACT IS SUBJECT TO RISK, INCLUDING THE POSSIBLE LOSS OF
PRINCIPAL. AN INVESTMENT IN THE CONTRACT IS NOT A BANK DEPOSIT AND IS NOT
INSURED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION OR ANY OTHER GOVERNMENT
AGENCY.
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[PRUDENTIAL INVESTMENTS LOGO]
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Table of Contents
PAGE
GLOSSARY OF SPECIAL TERMS.............................................. 3
FEE TABLE.............................................................. 4
SUMMARY................................................................ 5
PRUDENTIAL............................................................. 7
VCA 2.................................................................. 7
INVESTMENT PRACTICES................................................... 7
DETERMINATION OF NET ASSET VALUE....................................... 10
MANAGEMENT............................................................. 10
CONTRACT CHARGES....................................................... 10
Sales Charge......................................................... 10
Administration Fee................................................... 10
Modification of Sales Charge and Administration Fee.................. 11
Mortality and Expense Risk Fee....................................... 11
Investment Management Fee............................................ 11
THE CONTRACT........................................................... 11
The Accumulation Period.............................................. 11
1. Contributions.................................................. 11
2. The Unit Value................................................. 12
3. Withdrawal of Contributions.................................... 12
4. Systematic Withdrawal Plan..................................... 12
5. Texas Optional Retirement Program.............................. 13
6. Death Benefits................................................. 13
7. Discontinuance of Contributions................................ 14
8. Continuing Contributions Under New Employer.................... 14
9. Transfer Payments.............................................. 14
10. Requests by Telephone and Other Electronic Means............... 15
11. Prudential Mutual Funds........................................ 15
12. Discovery SelectSM Group Retirement Annuity.................... 15
13. Modified Procedures............................................ 16
The Annuity Period................................................... 16
1. Variable Annuity Payments...................................... 16
2. Electing the Annuity Date and Form of Annuity.................. 16
3. Available Forms of Annuity..................................... 16
4. Purchasing the Annuity......................................... 17
5. Assumed Investment Result...................................... 17
6. Schedule of Variable Annuity Purchase Rates.................... 18
7. Deductions for Taxes on Annuity Considerations................. 18
Assignment........................................................... 18
Changes in the Contract.............................................. 18
Reports.............................................................. 18
Performance Information.............................................. 18
Participation in Divisible Surplus................................... 18
FEDERAL TAX STATUS..................................................... 19
VOTING RIGHTS.......................................................... 20
LEGAL PROCEEDINGS...................................................... 20
YEAR 2000.............................................................. 21
ADDITIONAL INFORMATION................................................. 23
TABLE OF CONTENTS - STATEMENT OF ADDITIONAL INFORMATION................ 23
FINANCIAL HIGHLIGHTS................................................... 24
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Glossary of Special Terms
-------------------------
We have tried to make this prospectus as readable and understandable for you as
possible. By the very 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 PERIOD: The period that begins with the Contract date 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.
CONTRACT: The group variable annuity contract described in this prospectus.
CONTRACTHOLDER: The employer, association or trust to which Prudential has
issued a Contract.
CONTRIBUTIONS: Payments made under the Contract for the benefit of a
Participant.
INCOME PERIOD: The period that begins when you start receiving income payments
under the Contract.
NASDAQ: A computerized system that provides price quotations for securities
traded over-the-counter as well as many New York Stock Exchange listed
securities.
PARTICIPANT OR YOU: The person for whose benefit contributions are made under a
Contract.
PRUDENTIAL OR WE: The Prudential Insurance Company of America.
PRUDENTIAL'S GROUP TAX-DEFERRED ANNUITY PROGRAM: A Contractholders' program
providing for contributions under the contract, a companion fixed-dollar annuity
Contract or a combination of the two.
SEPARATE ACCOUNT: Contributions allocated to VCA 2 are held by Prudential in a
separate account.
TAX DEFERRAL: A way to increase your assets without being taxed every year.
Taxes are not paid on investment gains until you receive a distribution, such as
a withdrawal or annuity payment.
UNIT AND UNIT VALUE: You are credited with Units in VCA 2. Initially, the number
of Units credited to you is determined by dividing the amount of the
contribution made on your behalf by the applicable Unit Value for that day for
VCA 2. After that, the value of the Units is adjusted each day to reflect the
investment returns and expenses of VCA 2 plus any charges and fees that may
apply to you.
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Fee Table
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PARTICIPANT TRANSACTION EXPENSES
Sales Load Imposed on Purchases (as a percentage of contributions made). 2.5%
Maximum Deferred Sales Load............................................. None
Exchange Fee............................................................ None
Maximum Annual Administration Fee*...................................... $30
ANNUAL ACCOUNT OPERATING EXPENSES (as a percentage of average net assets)
Management Fees......................................................... .125%
Mortality and Expense Risk Fee*......................................... .375%
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Total Annual Expenses................................................... .500%
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*While a Participant is receiving annuity payments, we do not charge the annual
administration fee or the mortality and expense risk fee.
EXAMPLE
This example will help you compare the fees and expenses of the Contract with
other variable annuity contracts. It is based on information for VCA 2 for the
fiscal year ended December 31, 1998.** This example should not be considered as
representative of past or future expenses. Actual expenses may be greater or
less than those shown.
<TABLE>
<CAPTION>
1 year 3 years 5 years 10 years
----- ----- ----- -----
<S> <C> <C> <C> <C>
You would pay the following expenses on each $1,000
invested assuming a 5% annual return. You would pay
the same expenses whether you withdraw from VCA 2,
remain as a Participant or annuitize at the end of
each period....................................... $35 $46 $58 $93
</TABLE>
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**The annual administration fee is reflected in the above example on the
assumption that it is deducted from the Contract in the same proportions as
the aggregate annual administration fees are deducted from the fixed dollar or
VCA 2 Contracts. The actual expenses paid by each Participant will vary
depending upon the total amount credited to that Participant and how that
amount is allocated.
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Summary
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THE CONTRACTS
The VCA 2 Contract is a GROUP VARIABLE ANNUITY CONTRACT. A group variable
annuity contract is a contract between a Contractholder and Prudential, an
insurance company. The Contract offers a way to invest on a tax-deferred basis
and is intended for retirement savings or other long-term investment purposes.
The Contract, like all deferred annuity contracts, has two phases - an
accumulation period and an income period. During the accumulation period,
earnings accumulate on a tax-deferred basis. That means you are only taxed on
the earnings when you withdraw them. The second phase - the income period -
occurs when you begin receiving regular payments from the Contract. The amount
of money earned during the accumulation period determines the amount of payments
you will receive during the income period.
The Contract generally is issued to employers who make contributions on behalf
of their employees under Section 403(b) of the Internal Revenue Code. In this
case, the employer is called the "Contractholder" and the person for whom
contributions are being made is called a "Participant" or "you."
PRUDENTIAL'S GROUP TAX DEFERRED ANNUITY PROGRAM
PRUDENTIAL'S GROUP TAX DEFERRED ANNUITY PROGRAM CONSISTS OF THE FOLLOWING
CONTRACTS:
- the VCA 2 Contract described in this prospectus
- certain fixed dollar annuity contracts that are offered as companion to
the VCA 2 Contract (but are not described in this prospectus) and
- contracts combining the VCA 2 Contract and a fixed dollar annuity
contract.
CHARGES
We deduct a sales charge of 2.5% from each contribution at the time it is made.
This means 97.5% of each contribution is invested in VCA 2. This charge is paid
to Prudential to cover its expenses in marketing and selling the VCA 2 Contract.
The maximum sales charge may be changed by Prudential on 90 days' notice.
In addition, we charge an annual administration fee for recordkeeping and other
administrative expenses. This charge will not exceed $30 in any calendar year.
We will automatically deduct it from your account. (If you also have a
fixed-dollar annuity contract under Prudential's Group Tax Deferred Annuity
Program, the fee will be divided between that contract and your VCA 2 account.)
We also charge for investment management services and for mortality and expense
risks we assume. Those charges are deducted daily at annual rates of 0.125% and
0.375% of the value of your VCA 2 account.
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WITHDRAWALS & TRANSFERS
All written requests and notices required under the Contract - other than
withdrawal requests and death benefit claims - should be sent to Prudential at
the address on the cover of this prospectus. You can also use that address for
any written inquiries you may have.
As explained later, some transactions may be made by telephone and other
electronic means. Permitted telephone transactions can be made by calling
Prudential at 800-458-6333 and permitted electronic transactions may be made
through www.Prudential.com.
Your ability to make withdrawals under your Contract is limited by federal tax
law. Your employer - the Contractholder - may impose additional restrictions. If
you are allowed to make withdrawals, you may submit a written withdrawal request
to us in any of the following ways:
- by U.S. mail to Prudential Investments, P.O. Box 5410, Scranton,
Pennsylvania 18505-5410.
- by other delivery service - for example, Federal Express - to
Prudential Investments, 30 Scranton Office Park, Scranton, Pennsylvania
18507-1789.
- by fax to Prudential Investments, Attn: Client Payments at (570)
340-4328.
Requests for death benefits must also be submitted in writing by one of the
means listed above.
In order to process a withdrawal request or death benefit claim, it must be
submitted to Prudential in "good order." This is described under "The Contract
The Accumulation Period - Contributions," below.
In some cases, the Contractholder or a third-party may provide recordkeeping
services for the Contract instead of Prudential. In that case, withdrawal and
transfer procedures may vary.
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Prudential
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Prudential is a mutual life insurance company organized in 1873 under the laws
of New Jersey. Its corporate offices are located at 751 Broad Street, Newark,
New Jersey 07102-3777. It has been investing for pension funds since 1928.
Prudential is the issuer of the VCA 2 Contract. It is also the investment
adviser for VCA 2. It is registered as an investment adviser under the
Investment Advisers Act of 1940. Prudential is responsible for the
administration and recordkeeping activities for VCA 2.
Prudential is currently considering reorganizing itself into 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 the
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, all of which could take two or more years
to complete. Prudential's management and Board of Directors have not yet
determined to demutualize and it is possible that, after careful review,
Prudential could decide not to go public.
The plan of reorganization, which hasn't 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 the 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 would not be. It has not
yet been determined whether any exceptions to that general rule will be made
with respect to policyholders and contract owners of Prudential's subsidiaries.
Eligible policyholders would generally include employers, associations, other
groups, and trusts established by or for such entities, that own group policies
issued by Prudential, and generally would include Contractholders.
VCA 2
-----
VCA 2 was created on January 9, 1968. It is a separate account of Prudential,
which means its assets are the property of Prudential but are kept separate from
Prudential's general assets and cannot be used to meet liabilities from
Prudential's other businesses.
VCA 2 is registered with the SEC as an open-end, diversified management
investment company.
Investment Practices
--------------------
Before making your investment decision, you should carefully review VCA 2's
investment objective and policies. There is no guarantee that the investment
objective of VCA 2 will be met.
INVESTMENT OBJECTIVE AND POLICIES
VCA 2's investment objective is LONG-TERM GROWTH OF CAPITAL. VCA 2 will seek to
achieve this objective by investing primarily in EQUITY SECURITIES of major,
established corporations. Current income, if any, is incidental to this
objective. VCA 2 may also invest in PREFERRED STOCKS, WARRANTS, CONVERTIBLE
BONDS or other equity-related securities.
Equity securities are subject to COMPANY RISK. The price of stock of a
particular company can vary based on a variety of factors, such as the company's
financial performance, changes in management and product trends, and the
potential for takeover and acquisition. Equity securities are also subject to
MARKET RISK stemming from factors independent of any particular security.
Investment markets fluctuate. All markets go through cycles and market risk
involves being on the wrong side of a cycle. Factors affecting market risk
include political events, broad economic and social changes, and the mood of the
investing public. You can see market risk in action during large drops in the
stock market. If investor sentiment turns gloomy, the price of all stocks may
decline. It may not matter that a particular company has great profits and its
stock is selling at a relatively low price. If the overall market is dropping,
the values of stock are likely to drop.
Under normal market conditions, VCA 2 may also invest up to 20% of its total
assets in short, intermediate or long term DEBT INSTRUMENTS that have been rated
"investment grade." (This means major rating services, like Standard & Poor's
Ratings Group or Moody's Investors Service Inc., have rated the securities
within one of their four highest rating groups.) In response to adverse market
conditions, we may invest a higher percentage in debt instruments. Since VCA 2
invests in debt obligations, there is the risk that the value of a particular
obligation could decrease. Debt obligations may involve CREDIT RISK - the risk
that the borrower will not repay an obligation, and MARKET RISK the risk that
interest rates may change and affect the value of the obligation.
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VCA 2 may also invest in foreign securities in the form of AMERICAN DEPOSITARY
RECEIPTS (ADRs). ADRs are certificates representing the right to receive foreign
securities that have been deposited with a U.S. bank or a foreign branch of a
U.S. bank. We may purchase ADRs that are traded on a U.S. exchange or in an
over-the-counter market. ADRs are generally thought to be less risky than direct
investment in foreign securities because they can be transferred easily, have
readily available market quotations, and the foreign companies that issue them
are usually subject to the same types of financial and accounting standards as
U.S. companies. Nevertheless, as foreign securities, ADRs involve special risks
that should be considered carefully by investors. These risks include political
and/or economic instability in the country of the issuer, the difficulty of
predicting international trade patterns, and the fact that there may be less
publicly available information about a foreign company than about a U.S.
company.
VCA 2 may also purchase and sell FINANCIAL FUTURES CONTRACTS, including futures
contracts on stock indexes, interest-bearing securities (for example, U.S.
Treasury bonds and notes) or interest rate indexes. In addition, we may purchase
and sell futures contracts on foreign currencies or groups of foreign
currencies. Under a financial futures contract the seller agrees to sell a set
amount of a particular financial instrument or currency at a set price and time
in the future. Under a stock index futures contract, the seller of the contract
agrees to pay to the buyer an amount in cash which is equal to a set dollar
amount multiplied by the difference between the set dollar amount and the value
of the index on a specified date. No physical delivery of the stocks making up
the index is made. VCA 2 will use futures contracts only to hedge its positions
with respect to securities, interest rates and foreign securities.
The use of futures contracts for hedging purposes involves several risks. While
our hedging transactions may protect VCA 2 against adverse movements in interest
rates or other economic conditions, they may limit our ability to benefit from
favorable movements in interest rates or other economic conditions. There are
also the risks that we may not correctly predict changes in the market and that
there may be an imperfect correlation between the futures contract price
movements and the securities being hedged. Nor can there be any assurance that a
liquid market will exist at the time we wish to close out a futures position.
Most futures exchanges and boards of trade limit the amount of fluctuation in
futures prices during a single day - once the daily limit has been reached, no
trades may be made that day at a price beyond the limit. It is possible for
futures prices to reach the daily limit for several days in a row with little or
no trading. This could prevent us from liquidating an unfavorable position while
we are still required to meet margin requirements and continue to incur losses
until the position is closed.
In addition to futures contracts, VCA 2 is permitted to purchase and sell
OPTIONS on equity securities, debt securities, securities indexes, foreign
currencies and financial futures contracts. An option gives the owner the right
to buy (a call option) or sell (a put option) securities at a specified price
during a given period of time. VCA 2 will only invest in "covered" options. An
option can be covered in a variety of ways, such as setting aside certain
securities or cash in a segregated account equal in value to the obligation
under the option.
Options involve certain risks. We may not correctly anticipate movements in the
relevant markets. If this happens, VCA 2 would realize losses on its options
position. In addition, options have risks related to liquidity. A position in an
exchange-traded option may be closed out only on an exchange, board of trade or
other trading facility which provides a secondary market for an option of the
same series. Although generally VCA 2 will only purchase or write
exchange-traded options for which there appears to be an active secondary
market, there is no assurance that a liquid secondary market on an exchange will
exist for any particular option, or at any particular time. For some options, no
secondary market on an exchange or otherwise may exist and we might not be able
to effect closing transactions in particular options. In this event, VCA 2 would
have to exercise its options in order to realize any profit and would incur
brokerage commissions both upon the exercise of such options and upon the
subsequent disposition of underlying securities acquired through the exercise of
such options (or upon the purchase of underlying securities for the exercise of
put options). If VCA 2 - as a covered call option writer - is unable to effect a
closing purchase transaction in a secondary market, it will not be able to sell
the underlying security until the option expires or it delivers the underlying
security upon exercise.
VCA 2 may invest in SECURITIES BACKED BY REAL ESTATE or shares of real estate
investment trusts - called REITS - that are traded on a stock exchange or
NASDAQ. These types of securities are sensitive to factors that many other
securities are not - such as real estate values, property taxes, overbuilding,
cash flow and the management skill of the issuer. They may also be affected by
tax and regulatory requirements, such as those relating to the environment.
From time to time, VCA 2 may invest in REPURCHASE AGREEMENTS. In a repurchase
agreement, one party agrees to sell a security and also to repurchase it at a
set price and time in the future. The period covered by a repurchase
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period is usually very short - possibly overnight or a few days - though it can
extend over a number of months. Because these transactions may be considered
loans of money to the seller of the underlying security, VCA 2 will only enter
into repurchase agreements that are fully collaterized. VCA 2 will not enter
into repurchase agreements with Prudential or its affiliates as seller. However,
VCA 2 is seeking regulatory approval to permit it to enter into joint repurchase
transactions with other Prudential investment companies.
VCA 2 may also enter into REVERSE REPURCHASE AGREEMENTS and DOLLAR ROLL
TRANSACTIONS. In a reverse repurchase arrangement, VCA 2 agrees to sell one of
its portfolio securities and at the same time agrees to repurchase the same
security at a set price and time in the future. During the reverse repurchase
period, VCA 2 often continues to receive principal and interest payments on the
security that it "sold." Each reverse repurchase agreement reflects a rate of
interest for use of the money received by VCA 2 and for this reason, has some
characteristics of borrowing. Dollar rolls occur when VCA 2 sells a security for
delivery in the current month and at the same time agrees to repurchase a
substantially similar security from the same party at a specified price and time
in the future. During the roll period, VCA 2 does not receive the principal or
interest earned on the underlying security. Rather, it is compensated by the
difference in the current sales price and the specified future price as well as
by interest earned on the cash proceeds of the original "sale." Reverse
repurchase agreements and dollar rolls involve the risk that the market value of
the securities held by VCA 2 may decline below the price of the securities VCA 2
has sold but is obligated to repurchase. In addition, if the buyer of securities
under a reverse repurchase agreement or dollar roll files for bankruptcy or
becomes insolvent, VCA 2's use of the proceeds of the agreement may be
restricted pending a determination by the other party, or its trustee or
receiver, whether to enforce VCA 2's obligation to repurchase the securities.
From time to time, VCA 2 may purchase or sell securities on a WHEN-ISSUED or
DELAYED DELIVERY basis - that is, delivery and payment can take place a month or
more after the date of the transaction. VCA 2 will enter into when-issued or
delayed delivery transactions only when it intends to actually acquire the
securities involved.
VCA 2 may also enter into SHORT SALES AGAINST THE BOX. In a short sale we sell a
security we do not own to take advantage of an anticipated decline in the
stock's price. VCA 2 borrows the stock for delivery and if it can buy the stock
later at a lower price, a profit results. A short sale is "against the box" when
VCA 2 owns securities identical to those sold short.
VCA 2 may enter into INTEREST RATE SWAP TRANSACTIONS. Interest rate swaps, in
their most basic form, involve the exchange by one party with another party of
their respective commitments to pay or receive interest. For example, VCA 2
might exchange its right to receive certain floating rate payments in exchange
for another party's right to receive fixed rate payments. Interest rate swaps
can take a variety of other forms, such as agreements to pay the net differences
between two different indices or rates, even if the parties do not own the
underlying instruments. Despite their differences in form, the function of
interest rate swaps is generally the same - to increase or decrease exposure to
long- or short-term interest rates. For example, VCA 2 may enter into a swap
transaction to preserve a return or spread on a particular investment to a
portion of its portfolio or to protect against any increase in the price of
securities that VCA 2 anticipates purchasing at a later date. VCA 2 will
maintain appropriate liquid assets in a segregated custodial account to cover
its obligations under swap agreements.
The use of swap agreements is subject to certain risks. As with options and
futures, if our prediction of interest rate movements is incorrect, VCA 2's
total return will be less than if we had not used swaps. In addition, if the
counterparty's creditworthiness declines, the value of the swap would likely
decline. Moreover, there is no guarantee that VCA 2 could eliminate its exposure
under an outstanding swap agreement by entering into an offsetting swap
agreement with the same or another party.
VCA 2 may also use FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS. VCA 2's
successful use of forward foreign currency exchange contracts depends on our
ability to predict the direction of currency exchange markets and political
conditions, which requires different skills and techniques than predicting
changes in the securities markets generally.
VCA 2 may LEND its portfolio securities and invest up to 15% of its net assets
in ILLIQUID SECURITIES. Illiquid securities include those with legal or
contractual restrictions on resale, those without a readily available market and
repurchase agreements with maturities of longer than 7 days.
There is risk involved in the investment strategies we may use. Some of our
strategies require us to try to predict whether the price or value of an
underlying investment will go up or down over a certain period of time. There is
always the risk that investments will not perform as we
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thought they would. Like any mutual fund, an investment in VCA 2 could lose
value, and you could lose money.
Additional information about investment policies and restrictions, including the
risks associated with their use, is provided in the SAI.
Determination of Unit Value
---------------------------
To keep track of investment results, each Participant is credited with Units in
VCA 2. Initially, the number of Units credited to a Participant is determined by
dividing the amount of the contribution made on his or her behalf by the
applicable Unit Value for that day for VCA 2. After that, the Unit Value is
adjusted each day to reflect the investment returns and expenses of VCA 2 and
certain Contract charges.
The Unit Value is determined once a day - at 4:15 p.m. New York Time - on each
day the New York Stock Exchange is open for business. If the New York Stock
Exchange closes early on a day, the Unit Value will be calculated some time
between the closing time and 4:15 p.m. on that day.
EQUITY SECURITIES are generally valued at the last sale price on an exchange or
NASDAQ, or if there is not a sale, at the mean between the most recent bid and
asked prices on that day. If there is no asked price, the security will be
valued at the bid price. Equity securities that are not sold on an exchange or
NASDAQ are generally valued by an independent pricing agent or principal market
maker.
All SHORT-TERM DEBT SECURITIES having remaining maturities of 60 days or less
are valued at amortized cost. This valuation method is widely used by mutual
funds. It means that the security is valued initially at its purchase price and
then decreases (or increases when a security is purchased at a discount) in
value by equal amounts each day until the security matures. It almost always
results in a value that is extremely close to the actual market value.
OTHER DEBT SECURITIES - those that are not valued on an amortized cost basis -
are valued using an independent pricing service.
OPTIONS ON STOCK AND STOCK INDEXES that are traded on an national securities
exchange are valued at the average of the bid and asked prices as of the close
of that exchange.
FUTURES CONTRACTS AND OPTIONS ON FUTURES CONTRACTS are valued at the last sale
price at the close of the commodities exchange or board of trade on which they
are traded. If there has been no sale that day, the securities will be valued at
the mean between the most recently quoted bid and asked prices on that exchange
or board of trade.
SECURITIES FOR WHICH NO MARKET QUOTATIONS ARE AVAILABLE will be valued at fair
value by Prudential under the supervision of the VCA 2 Committee.
Management
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VCA 2 has a Committee - similar to a board of directors - that provides general
supervision. The members of the VCA 2 Committee are elected for indefinite terms
by the Participants of VCA 2. A majority of the members of the Committee are not
"interested persons" of Prudential or its affiliates, as defined by the
Investment Company Act of 1940 (the 1940 Act).
Under an investment management agreement, Prudential serves as the investment
manager of VCA 2. In turn, Prudential has contracted with its wholly owned
subsidiary, Prudential Investment Corporation (PIC), to provide these investment
services. Nevertheless, Prudential continues to have responsibility for all
investment management services. Prudential reimburses PIC for its costs and
expenses incurred in providing these services. PIC is registered as an
investment adviser under the Investment Advisers Act of 1940.
Prudential and PIC may use affiliated brokers to execute brokerage transactions
on behalf of VCA 2 as long as the commissions are reasonable and fair compared
to the commissions received by other brokers in connection with comparable
transactions involving similar securities during a comparable period of time.
More information about brokerage transactions is included in the SAI.
Contract Charges
----------------
We list below the current charges under the Contract. On 90 days' notice, we may
change the sales charge, administration fee and the mortality and expense risk
fee. The investment management fee may be changed only with Participant
approval.
SALES CHARGE
We deduct a sales charge of 2.5% from each contribution at the time it is made.
This means 97.5% of each contribution is invested in VCA 2. This sales charge is
designed to pay our sales and marketing expenses for VCA 2.
ADMINISTRATION FEE
We charge an annual administration fee for recordkeeping and other
administrative expenses. This fee will not exceed $30 in any calendar year and
will be auto-
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matically deducted from your account. (If you also have a fixed-dollar annuity
contract under Prudential's Group Tax Deferred Annuity Program, the fee will be
divided between that and your VCA 2 account.)
We deduct the administration fee on the last business day of each calendar year.
New Participants will only be charged a portion of the annual administration
fee, depending on the number of months remaining in the calendar year after the
first contribution is made.
If you withdraw all of your contributions before the end of a year, we will
deduct the fee on the date of the last withdrawal. After that, you may only make
contributions as a new Participant in which case you will be subject to the
annual administration fee on the same basis as other new Participants. If a new
Participant withdraws all of his or her Units during the first fiscal year of
participation under the Contract, the full annual administration fee will be
charged.
MODIFICATION OF SALES CHARGE AND ADMINISTRATION FEE
Prudential may reduce or waive the sales charge or administrative fee or both
with respect to a particular Contract. We will only do this if we think that our
sales or administrative costs with respect to a Contract will be less than for
other Contracts. This might occur, for example, if Prudential is able to save
money by using mass enrollment procedures or if recordkeeping or sales efforts
are performed by the Contractholder or a third party. You should refer to your
Contract documents which set out the exact amount of fees and charges that apply
to your Contract.
MORTALITY AND EXPENSE RISK FEE
A "mortality risk" charge is paid to Prudential for assuming the risk that a
Participant will live longer than expected based on our life expectancy tables.
When this happens, we pay a greater number of annuity payments. In addition, an
"expense risk" charge is paid to Prudential for assuming the risk that the
current charges will not cover the cost of administering the Contract in the
future. We deduct these charges daily. We compute the charge at an effective
annual rate of 0.375% of the current value of your account (0.125% is for
assuming the mortality risk, and 0.250% is for assuming the expense risk).
INVESTMENT MANAGEMENT FEE
Like other variable annuity contracts, VCA 2 is subject to a fee for investment
management services. We deduct this charge daily. We compute the charge at an
effective annual rate of 0.125% of the current value of your VCA 2 account.
The Contract
------------
The Contract described in this prospectus is generally issued to an employer
that makes contributions on behalf of its employees. The Contract can also be
issued to associations or trusts that represent employers or represent
individuals who themselves become Participants. Once a Participant begins to
receive annuity payments, Prudential will provide to the Contractholder - for
delivery to the Participant - a certificate which describes the variable annuity
benefits which are available to the Participant under the Contract.
THE ACCUMULATION PERIOD
1. Contributions
When you first become a Participant under the Contract, you must indicate if you
want contributions made on your behalf to be allocated between VCA 2 and a
companion fixed dollar annuity contract. You can change this allocation from
time to time. The discussion below applies only to contributions to VCA 2.
When a contribution is made, we invest 97.5% of it in VCA 2. (The remaining 2.5%
is for the sales charge.) You are credited with a certain number of Units, which
are determined by dividing the amount of the contribution (less the sales
charge) by the Unit Value for VCA 2 for that day. Then the value of your Units
is adjusted each business day to reflect the performance and expenses of VCA 2.
Units will be redeemed as necessary to pay your annual administration fee.
The first contribution made on your behalf will be invested within two business
days after it has been received by us if we receive your enrollment form in
"good order" (This means that all requested information must be submitted in a
manner satisfactory to Prudential.) If an initial contribution is made on your
behalf and the enrollment form is not in order, we will place the contribution
into one of two money market options until the paperwork is complete. The two
money market options are:
- - If the Contractholder has purchased only a VCA 2 Contract or a VCA 2
Contract together with either a group variable annuity contract issued
through Prudential's MEDLEY Program or unaffiliated mutual
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funds, then the initial contribution will be invested in The Prudential
Variable Contract Account-11 within Prudential's MEDLEY Program.
- - If the Contractholder has purchased a VCA 2 Contract as well as shares of
a money market fund, the initial contribution will be invested in that
money market fund.
In this event, the Contractholder will be promptly notified. However, if the
enrollment process is not completed within 105 days, we will redeem the
investment in the money market option. The redemption proceeds plus any earnings
will be paid to the Contractholder. Any proceeds paid to the Contractholder
under this procedure may be considered a prohibited transaction and taxable
reversion to the Contractholder under current provisions of the Code. Similarly,
returning proceeds may cause the Contractholder to violate a requirement under
the Employee Retirement Income Security Act of 1974, as amended (ERISA), to hold
all plan assets in trust. Both problems may be avoided if the Contractholder
arranges to have the proceeds paid into a qualified trust or annuity contract.
2. The Unit Value
Unit Value is determined each business day by multiplying the previous day's
Unit Value by the "gross change factor" for the current business day and
reducing this amount by the daily equivalent of the investment management and
mortality and expense risk charges. The gross change factor for VCA 2 is
determined by dividing the current day's net assets, ignoring changes resulting
from new purchase payments and withdrawals, by the previous day's net assets.
3. Withdrawal of Contributions
Because the Contract is intended as a part of your retirement arrangements there
are certain restrictions on when you can withdraw contributions. Under Section
403(b) of the Internal Revenue Code, contributions made from a Participant's own
salary (before taxes) cannot be withdrawn unless the Participant is at least
591/2 years old, no longer works for his or her employer, becomes disabled or
dies. (Contributions made from your own salary after December 31, 1988 may
sometimes be withdrawn in the case of hardship, but you need to check your
particular retirement arrangements.) Some retirement arrangements will allow you
to withdraw contributions made by the employer on your behalf or contributions
you have made with after-tax dollars.
If your retirement arrangement permits, you may withdraw at any time the dollar
value of all of your VCA Units as of December 31, 1988.
Spousal Consent. Under certain retirement arrangements, ERISA requires that
married Participants must obtain their spouses' written consent to make a
withdrawal request. The spouse's consent must be notarized or witnessed by an
authorized plan representative.
BECAUSE WITHDRAWALS WILL GENERALLY HAVE FEDERAL TAX IMPLICATIONS, WE URGE YOU TO
CONSULT WITH YOUR TAX ADVISER BEFORE MAKING ANY WITHDRAWALS UNDER THE CONTRACT.
Payment of Redemption Proceeds. In most cases, once we receive a withdrawal
request in good order, we will pay you the redemption amount within seven days.
The SEC permits us to delay payment of redemption amounts beyond seven days
under certain circumstances - for example, when the New York Stock Exchange is
closed or trading is restricted.
4. Systematic Withdrawal Plan
If you are at least 59 1/2 years old and have Units equal to least $5,000, you
may be able to participate in the Systematic Withdrawal Plan. Participants under
the age of 59 1/2 may also be able to participate in the Systematic Withdrawal
Plan if they no longer work for the Contractholder. Regardless of your age,
participation in this program may be restricted by your retirement arrangements.
Please consult your Contract documents.
RECEIVING PAYMENTS UNDER THE SYSTEMATIC WITHDRAWAL PLAN MAY HAVE SIGNIFICANT TAX
CONSEQUENCES AND PARTICIPANTS SHOULD CONSULT WITH THEIR TAX ADVISER BEFORE
SIGNING UP.
Generally, amounts you withdraw under the Systematic Withdrawal Plan will be
taxable at ordinary income tax rates. In addition, if you have not reached age
59 1/2, the withdrawals will generally be subject to a 10% premature
distribution penalty tax. Withdrawals you make after the later of (i) age
70 1/2 or (ii) your retirement, must satisfy certain minimum distribution rules.
Withdrawals by beneficiaries must also meet certain minimum distribution rules.
Plan enrollment. To participate in the Systematic Withdrawal Plan, you must make
an election on a form approved by Prudential. (Under some retirement
arrangements, if you are married you may also have to obtain your spouse's
written consent in order to participate in the Systematic Withdrawal Plan.) You
can choose to have withdrawals made on a monthly, quarterly, semi-annual or
annual basis. On the election form, you will also be asked to indicate whether
you want payments in equal dollar amounts or made over a specified period of
time. If you choose the second option, the amount of the withdrawal payment will
be determined by dividing the total value of your Units by the number of
withdrawals left to be made during the specified time period. These payments
will vary in amount reflecting the investment performance
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of VCA 2 during the withdrawal period. You may change the frequency of
withdrawals, as well as the amount, once during each calendar year on a form
which we will provide to you on request.
Termination of Systematic Withdrawal Plan Participation. You may terminate your
participation in the Systematic Withdrawal Plan at any time upon notice to us.
If you do so, you cannot participate in the Systematic Withdrawal Plan again
until the next calendar year.
Additional Contributions. If you have elected to participate in the Systematic
Withdrawal Plan, contributions may still be made on your behalf. These
contributions will be subject to the sales charge, so you should carefully
consider the effect of these charges while making withdrawals at the same time.
Non-Prudential Recordkeepers. If the Contractholder or some other organization
provides recordkeeping services for your Contract, different procedures under
the Systematic Withdrawal Plan may apply.
5. Texas Optional Retirement Program
Special rules apply with respect to Contracts covering persons participating in
the Texas Optional Retirement Program in order to comply with the provisions of
Texas law relating to this program. Please refer to your Contract documents if
this applies to you.
6. Death Benefits
In the event a Participant dies before the accumulation period under a Contract
is completed, a death benefit will be paid to the Participant's designated
beneficiary. The death benefit will equal the value of the Participant's Units
(less the full annual administration charge) on the day we receive the claim in
good order.
Payment Methods. You, the Participant, can elect to have the death benefit paid
to your beneficiary in one cash sum, as systematic withdrawals, as a variable
annuity, or a combination of the three, subject to the minimum distribution
rules of Section 401(a)(9) of the Internal Revenue Code described below. If a
Participant does not make an election, his or her beneficiary must chose from
the four options before the LATER to occur of: the first anniversary of the
Participant's death or two months after Prudential receives due proof of the
Participant's death. For benefits accruing after December 31, 1986, Internal
Revenue regulations requires that a designated beneficiary must begin to receive
payments no later than the EARLIER of (1) December 31 of the calendar year
during which the fifth anniversary of the Participant's death occurs or (2)
December 31 of the calendar year in which annuity payments would be required to
begin to satisfy the minimum distribution requirements described below. As of
such date the election must be irrevocable and must apply to all subsequent
years. However, if the election includes systematic withdrawals, the beneficiary
may terminate them and receive the remaining balance in cash (or effect an
annuity with it) or change the frequency, size or duration of the systematic
payments.
ERISA. Under certain types of retirement plans, ERISA requires that in the case
of a married Participant who dies prior to the date payments could have begun, a
death benefit be paid to the Participant's spouse in the form of a "qualified
pre-retirement survivor annuity." This is an annuity for the lifetime of the
Participant's spouse in an amount which can be purchased with no less than 50%
of the value of the Participant's Units as of the date of the Participant's
death. In these cases, the spouse may waive the benefit in a writing which is
notarized or witnessed by an authorized plan representative. If the spouse does
not consent, or the consent is not in good order, 50% of the value of the
Participant's Units will be paid to the spouse, even if the Participant named
someone else as the beneficiary. The remaining 50% will be paid to the
designated beneficiary.
Minimum Distribution Rules. Benefits accruing after December 31, 1986 under a
Section 403(b) annuity contract are subject to minimum distribution rules. These
specify the time when payments must begin and the minimum amount that must be
paid annually. Generally, when a Participant dies before we have started to make
benefit payments, we must pay out the death benefit entirely by December 31 of
the calendar year including the fifth anniversary of the Participant's date of
death. Or, the beneficiary may select an annuity under option 1, 2 or 4
described below, with the payments to begin as of December 31 of the calendar
year immediately following the calendar year in which the Participant died (or,
if the Participant's spouse is the designated beneficiary, December 31 of the
calendar year in which the Participant would have become 701/2 years old, if
that year is later). Options 3 and 5 described below may not be selected under
these rules. In addition, the duration of any period certain annuity may not
exceed the beneficiary's life expectancy as determined under IRS tables. If the
amount distributed to a beneficiary for a calendar year is less than the
required minimum amount, a federal excise tax is imposed equal to 50% of the
amount of the underpayment.
Annuity Option. Under many retirement arrangements, a beneficiary who elects a
fixed-dollar annuity death benefit may choose from among the forms of annuity
available. (See "The Annuity Period - Available Forms of Annuity," below.) He or
she will be entitled to the same
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annuity purchase rate basis that would have applied if you were purchasing the
annuity for yourself. The beneficiary may make this election immediately or at
some time in the future.
Systematic Withdrawal Option. If a beneficiary has chosen to receive the death
benefit in the form of systematic withdrawals, he or she may terminate the
withdrawals and receive the remaining value of the Participant's Units in cash
or to purchase an annuity. The beneficiary may also change the frequency or
amount of withdrawals, subject to the minimum distribution rules described
below.
Until Pay-out. Until all of your Units are redeemed and paid out in the form of
a death benefit, they will be maintained for the benefit of your beneficiary.
However, a beneficiary will not be allowed to make contributions or take a loan
against the Units. No deferred sales charges will apply on withdrawals by a
beneficiary.
7. Discontinuance of Contributions
A Contractholder can stop contributions on behalf of all Participants under a
Contract by giving notice to Prudential. In addition, any Participant may stop
contributions made on his or her behalf.
We also have the right to refuse new Participants or new contributions on behalf
of existing Participants upon 90 days' notice to the Contractholder.
If contributions on your behalf have been stopped, you may either keep your
Units in VCA 2 or elect any of the options described under "Transfer Payments,"
below.
8. Continuing Contributions Under New Employer
If you become employed by a new employer, and that employer is eligible to
provide tax deferred annuities, you may be able to enter into a new agreement
with your new employer which would allow you to continue to participate under
the Contract. Under that agreement, the new employer would continue to make
contributions under the Contract on your behalf.
9. Transfer Payments
Unless your Contract specifically provides otherwise, you can transfer all or
some of your VCA 2 Units to a fixed dollar annuity contract issued under
Prudential's Group Tax Deferred Annuity Program. In order to make a transfer,
you need to provide us with a completed written transfer request form or a
properly authorized telephone or Internet transfer request (see below). There is
no minimum transfer amount but we have the right to limit the number of
transfers you make in any given period of time. Although there is no charge for
transfers currently, we may impose one at any time upon notice to you. Different
procedures may apply if your Contract has a recordkeeper other than Prudential.
You may also make transfers into your VCA 2 account from a fixed dollar annuity
contract issued under Prudential's Group Tax Deferred Annuity Program or from a
similar group annuity contract issued by Prudential to another employer. When
you make transfers into your VCA 2 account no sales charges are imposed. Because
your retirement arrangements or the contracts available under your arrangements
may contain restrictions on transfers, you should consult those documents. For
example, some contracts and retirement plans provide that amounts transferred to
VCA 2 from the fixed dollar annuity may not be transferred within the following
90 days to an investment option deemed to be "competing" with the fixed dollar
annuity contract. Prudential reserves the right to limit how many transfers you
may make in any given period of time.
Processing Transfer Requests. On the day we receive your transfer request in
good order, we will redeem the number of Units you have indicated (or the number
of Units necessary to make up the dollar amount you have indicated) and invest
in the fixed-dollar annuity contract. The value of the Units redeemed will be
determined by dividing the amount transferred by the Unit Value for that day for
VCA 2.
Alternate Funding Agency. Some Contracts provide that if a Contractholder stops
making contributions, it can request Prudential to transfer a Participant's
Units in VCA 2 to a designated alternate funding agency. We will notify each
Participant with Units of the Contractholder's request. A Participant may then
choose to keep his or her Units in VCA 2 or have them transferred to the
alternate funding agency. If we do not hear from a Participant within 30 days,
his or her Units will remain in VCA 2.
If you choose to transfer your VCA 2 Units to the alternate funding agency, your
VCA 2 account will be closed on the "transfer date" which will be the LATER to
occur of:
- - a date specified by the Contractholder OR
- - 90 days after Prudential receives the Contractholder's request.
At the same time, all of the VCA 2 Units of Participants who have elected to go
into the alternate funding agency will be transferred to a liquidation account
(after deducting the full annual administration charge for each Participant).
Each month, beginning on the transfer date, a transfer will be made from the
liquidation account to the alternate funding agency equal to the GREATER of:
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- - $2 million or
- - 3% of the value of the liquidation account as of the transfer date.
When this happens, Units in the liquidation account will be canceled until there
are no more Units.
10. Requests by Telephone and other Electronic Means
Depending on your Contract, you may be able to make transfers and other
transactions by telephone, telecopy or other electronic means - like the
Internet. If your Contract provides for these privileges, you will automatically
be able to use them unless you decline them in writing on a form provided by us
or the Contractholder.
For your protection and to prevent unauthorized exchanges, telephone calls and
other communications will be recorded and you will be asked to provide your
personal identification number or other identifying information. Neither
Prudential nor our agents will be liable for any loss, liability or cost which
results from acting upon instructions reasonably believed to be genuine.
During times of extraordinary economic or market changes, electronic
instructions may be difficult to implement.
Some states may not allow these privileges.
11. Prudential Mutual Funds
We may offer certain Prudential mutual funds as an alternative investment
vehicle for existing VCA 2 Contractholders. These funds are managed by
Prudential Investments Fund Management LLC, a wholly-owned subsidiary of
Prudential. If the Contractholder elects to make one or more of these funds
available, Participants may direct new contributions to the funds.
Exchanges. Prudential may also permit Participants to exchange some or all of
their VCA 2 Units for shares of Prudential mutual funds without imposing any
sales charges. In addition, Prudential may allow Participants to exchange some
or all of their shares in Prudential mutual funds for VCA 2 Units. No sales
charge is imposed on these exchanges or subsequent withdrawals. Before deciding
to make any exchanges, you should carefully read the prospectus for the
Prudential mutual fund you are considering. The Prudential mutual funds are not
funding vehicles for variable annuity contracts and therefore do not have the
same features as the VCA 2 Contract.
Offer Period. Prudential will determine the time periods during which these
exchange rights will be offered. In no event will these exchange rights be
offered for a period of less than 60 days. Any exchange offer may be terminated,
and the terms of any offer may change. After an offering, a Participant may only
make transfers to Prudential mutual funds to the extent his or her Units are not
subject to a deferred sales charge.
Annual Administration Fee. If a Participant exchanges all of his or her VCA 2
Units for shares in the Prudential mutual funds, the annual administration fee
under the Contract may be deducted from the Participant's mutual fund account.
Taxes. Generally, there should be no adverse tax consequences if a Participant
elects to exchange amounts in the Participant's current VCA 2 account(s) for
shares of Prudential mutual funds or vice versa. Exchanges from a VCA 2 account
to a Prudential mutual fund will be effected from a 403(b) annuity contract to a
403(b)(7) custodial account so that such transactions will not constitute
taxable distributions. Conversely, exchanges from a Prudential mutual fund to a
VCA 2 account will be effected from a 403(b)(7) custodial account to a 403(b)
annuity contract so that such transactions will not constitute taxable
distributions. However, Participants should be aware that the Internal Revenue
Code may impose more restrictive rules on early withdrawals from Section
403(b)(7) custodial accounts under the Prudential mutual funds than under VCA 2.
Demutualization. If the Contractholder makes Prudential mutual funds available
and Participants exchange their VCA 2 Units for shares of the Prudential mutual
funds, and if Prudential demutualizes in the future, the Contractholder might
not receive consideration it might otherwise have received or the amount of the
consideration the Contractholder receives could be smaller than had Participants
not exchanged VCA 2 Units. 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 would not be. Under New
Jersey's demutualization law, a policy or an annuity contract would have to be
in effect on the date Prudential's Board of Directors adopts a plan of
reorganization in order to be considered for eligibility. A VCA 2 Contract will
cease to be in effect when all Participants have redeemed their Units under a
VCA 2 Contract. Decisions regarding the exchange of VCA 2 Units should be based
on the desire for the features of the mutual funds as well as Participants'
insurance needs, and not on Prudential's potential demutualization. For more
information about demutualization, see "Prudential," above.
12. Discovery Select(SM) Group Retirement Annuity
Certain Participants may be offered an opportunity to exchange their VCA 2 Units
for interests in Discovery SelectSM Group Retirement Annuity (Discovery Select),
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which offers 22 different investment options. The mutual funds available through
Discovery Select are described in the Discovery Select prospectus and include
both Prudential and non-Prudential funds.
For those who are eligible, no charge will be imposed upon transfer into
Discovery Select, however, Participants will become subject to the charges
applicable under that annuity. Generally, there should be no adverse tax
consequences if a Participant elects to exchange VCA 2 Units for interests in
Discovery Select.
A copy of the Discovery Select prospectus can be obtained at no cost by calling
1-800-458-6333.
If the Contractholder makes Discovery Select available and Participants exchange
their VCA 2 Units for interests in Discovery Select, and if Prudential
demutualizes in the future, the Contractholder might not receive consideration
it might otherwise have received or the amount of the consideration the
Contractholder receives could be smaller than had Participants not exchanged VCA
2 Units. Decisions regarding the exchange of VCA 2 Units should be based on the
desire for the features of Discovery Select as well as Participants' insurance
needs, and not on Prudential's potential demutualization. For more information
about demutualization, see "Prudential," above.
13. Modified Procedures
Under some Contracts, the Contractholder or a third party provides the
recordkeeping services that would otherwise be provided by Prudential. These
Contracts may have different procedures than those described in this prospectus.
For example, they may require that transfer and withdrawal requests be sent to
the recordkeeper rather than Prudential. For more information, please refer to
your Contract documents.
THE ANNUITY PERIOD
1. Variable Annuity Payments
The annuity payments you receive under the Contract once you reach the income
phase will depend on the following factors:
- - the total value of your VCA 2 Units on the date the annuity begins
- - the taxes on annuity considerations as of the date the annuity begins
- - the schedule of annuity rates in the Contract
- - the investment performance of VCA 2 after the annuity has begun
The annuitant will receive the value of a fixed number of Annuity Units each
month. Changes in the value of the Units, and thus the amount of the monthly
payment, will reflect investment performance after the date on which the income
phase begins.
2. Electing the Annuity Date and the Form of Annuity
If permitted under federal tax law and your Contract, you may use all or any
part of your VCA 2 Units to purchase a variable annuity under the Contract. If
you decide to purchase an annuity, you can choose from any of the options
described below unless your retirement arrangement otherwise restricts you. You
may also be able to purchase a fixed dollar annuity if you have a companion
fixed dollar contract.
The Retirement Equity Act of 1984 requires that a married Participant under
certain types of retirement arrangements must obtain the consent of his or her
spouse if the Participant wishes to select a payout that is not a qualified
joint and survivor annuity. The spouse's consent must be signed, and notarized
or witnessed by an authorized plan representative.
If the dollar amount of your first monthly annuity payment is less than the
minimum specified in the Contract, we may decide to make a withdrawal payment to
you instead of an annuity payment. If we do so, all of the Units in your VCA 2
account will be withdrawn as of the date the annuity was to begin.
3. Available Forms of Annuity
OPTION 1 - VARIABLE LIFE ANNUITY.
If you purchase this type of an annuity, you will begin receiving monthly
annuity payments immediately. These payments will continue throughout your
lifetime no matter how long you live. However, no payments will be made after
you pass away. It is possible under this type of annuity to receive only one
annuity payment. For this reason, this option is generally best for someone
without dependents who wants higher income during his or her lifetime.
OPTION 2 - VARIABLE LIFE ANNUITY WITH PAYMENTS CERTAIN.
If you purchase this type of an annuity, you will begin receiving monthly
annuity payments immediately. These payments will continue throughout your
lifetime no matter how long you live. You also get to specify a minimum number
of monthly payments that will be made - 120 or 180 - so that if you pass away
before the last payment is received, your beneficiary will continue to receive
payments for the rest of that period.
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OPTION 3 - VARIABLE JOINT AND SURVIVOR ANNUITY.
If you purchase this type of annuity, you will begin receiving monthly annuity
payments immediately. These payments will be continued throughout your lifetime
and afterwards, to the person you name as the "contingent annuitant," if living,
for the remainder of her or his lifetime. When you purchase this type of annuity
you will be asked to set the percentage of the monthly payment - for example,
33% or 66% or 100% - you want paid to the contingent annuitant for the remainder
of his or her lifetime.
OPTION 4 - VARIABLE ANNUITY CERTAIN.
If you purchase this type of annuity, you will begin receiving monthly annuity
payments immediately. However, unlike Options 1, 2 and 3, these payments will
only be paid for 120 months. If you pass away before the last payment is
received, your beneficiary will continue to receive payments for the rest of
that period. If you outlive the specified time period, you will no longer
receive any annuity payments.
Because Prudential does not assume any mortality risk, no mortality risk charges
are made in determining the annuity purchase rates for this option.
OPTION 5 - VARIABLE JOINT AND SURVIVOR ANNUITY WITH 120 PAYMENTS CERTAIN.
If you purchase this type of annuity, you will begin receiving monthly annuity
payments immediately. These payments will be continued throughout your lifetime
and afterwards, to the person you name as the "contingent annuitant," if living,
for the remainder of her or his lifetime. Your contingent annuitant will receive
monthly payments in the same amount as the monthly payments you have received
for a period of 120 months. You also set the percentage of the monthly payment -
for example, 33% or 66% or even 100% - you want paid to the contingent annuitant
for the remainder of his or her lifetime after the 120 month period.
If both you and the contingent annuitant pass away during the 120 month period,
payments will be made to the properly designated beneficiary for the rest of
that period.
If the dollar amount of the first monthly payment to a beneficiary is less than
the minimum set in the Contract, or the beneficiary named under Options 2, 4 and
5 is not a natural person receiving payments in his or her own right, Prudential
may elect to pay the commuted values of the unpaid payments certain in one sum.
With respect to benefits accruing after December 31, 1986, the duration of any
period certain payments may not exceed the life expectancy of the Participant
(or if there is a designated beneficiary, the joint life and last survivor
expectancy of the Participant and the designated beneficiary as determined under
Internal Revenue Service life expectancy tables). In addition, regulations have
been proposed by the Internal Revenue Service that would specify a maximum
duration of any period certain payment and the maximum survivor benefit payable
under a joint and survivor annuity.
4. Purchasing the Annuity
Once you have selected a type of annuity, you must submit to Prudential a
written form that we will provide to you on request. Unless you pick a later
date, the annuity will begin on the first day of the second month after we have
received your election form in good order and you will receive your first
annuity payment within one month after that.
If it is necessary to withdraw all of your contributions in VCA 2 in order to
purchase the annuity, the full annual administration fee will be charged. The
remainder - less any applicable taxes on annuity considerations - will be
applied to provide an annuity under which each monthly payment will be the value
of a specified number of "Annuity Units." The Annuity Unit Value is calculated
as of the end of each month. The value is determined by multiplying the "annuity
unit change factor" for the month by the Annuity Unit Value for the preceding
month. The annuity unit change factor is calculated by:
ADDING to 1.0 the rate of investment income earned, if any, after
applicable taxes and the rate of asset value changes in VCA 2 during the
period from the end of the preceding month to the end of the current
month
THEN DEDUCTING the rate of the investment management fee for the number
of days in the current month (computed at an effective annual rate of
0.125%) and
DIVIDING by the sum of 1.00 and the rate of interest for 1/12 of a year,
computed at the effective annual rate specified in the Contract as the
"Assumed Investment Result" (see below).
5. Assumed Investment Result
To calculate your initial payment, we use an "annuity purchase rate." This rate
is based on several factors, including an assumed return on your investment in
VCA 2. If VCA 2's actual investment performance is better than the assumed
return, your monthly payment will be higher. On the other hand, if VCA 2's
actual performance is not as good as the assumed return, your monthly payment
will be lower.
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<PAGE> 19
Under each Contract, the Contractholder chooses the assumed return rate. This
rate may be 3 1/2%, 4%, 4 1/2%, 5% or 5 1/2%. The return rate selected by the
Contractholder will apply to all Participants receiving annuities under the
Contract.
The higher the assumed return rate, the greater the initial annuity payment will
be. However, in reflecting the actual investment results of VCA 2, annuity
payments with a lower assumed return rate will increase faster - or decrease
slower - than annuity payments with a higher assumed return rate.
6. Schedule of Variable Annuity Purchase Rates
The annuity rate tables contained in the Contract show how much a monthly
payment will be, based on a given amount. Prudential may change annuity purchase
rates. However, no change will be made that would adversely affect the rights of
anyone who purchased an annuity prior to the change unless we first receive
their approval or we are required by law to make the change.
7. Deductions for Taxes on Annuity Considerations
Certain states and other jurisdictions impose premium taxes or similar
assessments upon Prudential, either at the time contributions are made or when
the Participant's investment in VCA 2 is surrendered or applied to purchase an
annuity. Prudential reserves the right to deduct an amount from contributions or
the Participant's investment in VCA 2 to cover such taxes or assessments, if
any, when applicable. Not all states impose premium taxes on annuities; however,
the rates of those that do currently range from 0.5% to 5%.
ASSIGNMENT
The right to any payment under a Contract is neither assignable nor subject to
the claim of a creditor unless state or federal law provides otherwise.
CHANGES IN THE CONTRACT
We have the right under the Contract to change the annual administration fee and
sales charges. In the event we decide to change the sales charge, the new charge
will only apply to contributions made after the change takes place.
The Contract allows us to revise the annuity purchase rates from time to time as
well as the mortality and expense risk fees. A Contract may also be changed at
any time by agreement of the Contractholder and Prudential - however, no change
will be made in this way that would adversely affect the rights of anyone who
purchased an annuity prior to that time unless we first receive their approval.
If Prudential does modify any of the Contracts as discussed above, it will give
the Contractholder at least 90 days' prior notice.
REPORTS
At least once a year, you will receive a report from us showing the number of
your Units in VCA 2. You will also receive semi-annual reports showing the
financial condition of VCA 2.
PERFORMANCE INFORMATION
Performance information for VCA 2 may appear in advertisements and reports to
current and prospective Contractholders and Participants. This performance
information is based on actual historical performance and does not indicate or
represent future performance.
Total return data is based on the overall dollar or percentage change in the
value of a hypothetical investment. Total return quotations reflect changes in
Unit Values and the deduction of applicable charges.
A cumulative total return figure reflects performance over a stated period of
time. An average annual total return reflects the hypothetical annually
compounded return that would have produced the same cumulative total return if
the performance had been constant over the entire period.
Comparative performance information may from time to time be included in reports
or advertising, including but not limited to, data from Morningstar, Inc.,
Lipper Inc., Standard & Poor's 500 Composite Price Index, Lehman Brothers
indexes and other commonly used indexes or industry publications.
See "Performance Information" in the SAI for recent performance information.
PARTICIPATION IN DIVISIBLE SURPLUS
A mutual life insurance company, like Prudential, differs from a stock life
insurance company in that it has no stockholders who are the owners of the
enterprise. Rather, the holders of Prudential contracts participate in the
divisible surplus of Prudential, if any, according to the annual determination
of the Prudential Board of Directors. For the Contract described in this
prospectus, any surplus determined by the Prudential Board of Directors as a
dividend
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<PAGE> 20
is credited to Participants. NO ASSURANCE CAN BE GIVEN AS TO THE AMOUNT, IF ANY,
THAT WILL BE AVAILABLE FOR DISTRIBUTION UNDER THIS CONTRACT IN THE FUTURE.
Such payments amounted to ($4,176,839) during 1998, $78,656 during 1997 and
($235,290) during 1996.
Federal Tax Status
------------------
The following 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.
Participants and Contractholders should consult a qualified tax adviser for
complete information and advice.
TAX-QUALIFIED RETIREMENT ARRANGEMENTS USING THE CONTRACTS
The Contract may be used with retirement programs governed by Internal Revenue
Code Section 403(b) (Section 403(b) plans). The provisions of the tax law that
apply to these retirement arrangements that may be funded by the Contract are
complex and you are advised to consult a qualified tax adviser.
Contributions
In general, assuming that you and your Contractholder follow the requirements
and limitations of tax law applicable to the particular type of plan,
contributions made under a retirement arrangement funded by a Contract are
deductible (or not includible in income) up to certain amounts each year.
Earnings
Federal income tax currently is not imposed upon the investment income and
realized gains earned by the investment option until you receive a distribution
or withdrawal.
Distribution or Withdrawal
When you receive a distribution or withdrawal (either as a lump sum, an annuity,
or as regular payments under a systematic withdrawal arrangement) all or a
portion of the distribution or withdrawal is normally taxable as ordinary
income.
Furthermore, premature distributions or withdrawals may be restricted or subject
to a penalty tax. Participants contemplating a withdrawal should consult a
qualified tax adviser. In addition, federal tax laws impose restrictions on
withdrawals from Section 403(b) annuities. This limitation is discussed in the
"Withdrawal of Contributions," above.
Minimum Distribution Rules
In general, distributions from a Section 403(b) plan that are attributable to
benefits accruing after December 31, 1986 must begin by the "Required Beginning
Date" which is April 1 of the calendar year following the later of (1) the year
in which you attain age 70 1/2 or (2) you retire. However, if you are a 5% owner
of the Contractholder as defined under the Internal Revenue Code, distributions
must begin by April 1 of the calendar year following the year you attain age
70 1/2.
Distributions that are made after the Required Beginning Date must generally be
made in the form of an annuity for your life or the lives of you and your
designated beneficiary, or over a period that is not longer than your life
expectancy or the life expectancies of you and your designated beneficiary.
Distributions to beneficiaries are also subject to minimum distribution rules.
If you die before your entire interest in your Contract has been distributed,
your remaining interest must be distributed at least as rapidly as under the
method of distribution being used as of your date of death. If you die before
distributions have begun (or are treated as having begun) the entire interest in
your Contract must be distributed by December 31 of the calendar year containing
the fifth anniversary of your death. Alternatively, if there is a designated
beneficiary, the designated beneficiary may elect to receive payments beginning
no later than December 31 of the calendar year immediately following the year in
which you die and continuing for the beneficiary's life or a period not
exceeding the beneficiary's life expectancy.
Special rules apply where your spouse is your designated beneficiary.
If you or your beneficiary does not meet the minimum distribution requirements,
an excise tax applies.
WITHHOLDING
Certain distributions from Section 403(b) plans, which are not directly rolled
over or transferred to another eligible qualified plan, are subject to a
mandatory 20% withholding for federal income tax. The 20% withholding
requirement does not apply to: (1) distributions for the life or life expectancy
of the Participant, or joint and last survivor expectancy of the Participant and
a designated beneficiary; or (b) distributions for a specified period of 10
years or more; or (c) distributions required as minimum distributions.
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<PAGE> 21
DEATH BENEFITS
In general, a death benefit consisting of amounts paid to your beneficiary is
includable in your estate for federal estate tax purposes.
TAXES ON PRUDENTIAL
VCA 2 is not considered a separate taxpayer for purposes of the Internal Revenue
Code. The earnings of this account are taxed as part of the operations of
Prudential. We do not currently charge you for federal income taxes paid by
Prudential. We will review the question of a charge for our federal income taxes
attributable to the Contract periodically. Such a charge may be made in future
years for any federal income taxes that would be attributable to the Contract.
Voting Rights
-------------
VCA 2 may call meetings of its Participants, just like other mutual funds have
shareholder meetings. Each Participant in VCA 2 has the right to vote at
meetings of VCA 2.
Participant meetings are not necessarily held every year. VCA 2 Participant
meetings may be called to elect Committee Members, vote on amendments to the
investment management agreement, and approve changes in fundamental investment
policies. Under the Rules and Regulations of VCA 2, a Participant meeting to
elect Committee Members must be held if less than a majority of the Members of a
Committee have been elected by Participants.
As a VCA 2 Participant, you are entitled to the number of votes that equals the
total dollar amount of your Units. To the extent Prudential has invested it own
money in VCA 2, it will be entitled to vote on the same basis as other
Participants. Prudential's votes will be cast in the same proportion that the
other Participants vote - for example, if 25% of the Participants who vote are
in favor of a proposal, Prudential will cast 25% of its votes in favor of the
proposal.
Legal Proceedings
-----------------
On October 28, 1996, Prudential entered into a Stipulation of Settlement in a
multidistrict proceeding involving allegations of various claims relating to
Prudential's life insurance sales practices. (In re Prudential Insurance Company
of America Sales Practices Litigation, D.N.J., MDL No. 1061, Master Docket No.
95-4704 (AMW)). On March 7, 1997, the United States District Court for the
District of New Jersey approved the Stipulation of Settlement as fair,
reasonable and adequate, and later issued a Final Order and Judgment in the
consolidated class actions before the court, 962 F. Supp. 450 (March 17, 1997,
as amended April 14, 1997). The Court's Final Order and Judgment approving the
class Settlement was appealed to the United States Court of Appeals for the
Third Circuit, which upheld the district court's approval of the Stipulation of
Settlement on July 23, 1998. The Supreme Court denied certiorari in January
1999, thereby making final the approval of the class action settlement.
Pursuant to the Settlement, Prudential agreed to provide and has been
implementing an Alternative Dispute Resolution (ADR) process for class members
who believe they were misled concerning the sale or performance of their life
insurance contracts. As of December 31, 1998, based on an analysis of claims
actually remedied, a sample of claims still to be remedied, and estimates of
additional liabilities associated with the ADR program, management estimated the
cost, before taxes, of remedying policyholder claims in the ADR process to be
approximately $2.56 billion. While management believes these to be reasonable
estimates based on available information, the ultimate amount of the total cost
of remedied policyholder claims and other related costs is dependent on complex
and varying factors, including the relief options still to be chosen by
claimants, the dollar value of those options, and the number and type of claims
that may successfully be appealed.
In addition, a number of actions have been filed against Prudential by
policyholders who have excluded themselves from the Settlement; Prudential
anticipates that additional suits may be filed by other policyholders.
Also, on July 9, 1996, a Multi-State Life Insurance Task Force comprised of
insurance regulators from 29 states and the District of Columbia, released a
report on Prudential's activities. As of February 24, 1997, Prudential had
entered into consent orders or agreements with all 50 states and the District of
Columbia to implement a remediation plan, whose terms closely parallel the
Settlement approved in the MDL proceeding, and agreed to a series of payments
allocated to all 50 states and the District of Columbia amounting to a total of
approximately $65 million. These agreements are now being implemented through
Prudential's implementation of the class Settlement.
Prudential's litigation is subject to many uncertainties, and given the
complexity and scope, the outcomes cannot be predicted with precision. It is
possible that the results of operations or the cash flow of the company, in
particular quarterly or annual periods, could be materially affected by an
ultimate unfavorable outcome of the matters specif-
20
<PAGE> 22
ically discussed above. Management believes, however, that the ultimate
resolution of all such matters, after consideration of applicable reserves,
should not have a material adverse effect on Prudential's financial position.
Year 2000
---------
The services provided under the Contracts by Prudential depend on the smooth
functioning of its 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 telephones, 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.
The following describes Prudential's effort to address Year 2000 concerns.
To address this potential problem Prudential organized its Year 2000 efforts
around the following three areas:
- - Business Systems - Computer programs directly used to support our
business;
- - Infrastructure - Computers and other business equipment like telephones
and fax machines; and
- - 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
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
infrastructure 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 contingency 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 VCA 2. 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 VCA 2.
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
21
<PAGE> 23
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. The objective of
Prudential's Year 2000 program has been to reduce
these risks as much as possible.
Most of the operations of VCA 2 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 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.
22
<PAGE> 24
Additional Information
A registration statement under the Securities Act of 1933 has been filed with
the SEC with respect to the Contract. This prospectus does not contain all the
information set forth in the registration statements, certain portions of which
have been omitted pursuant to the rules and regulations of the SEC. The omitted
information may be obtained from the SEC's principal office in Washington, D.C.
upon payment of the fees prescribed by the SEC.
For further information, you may also contact Prudential's office at the address
or telephone number on the cover of this prospectus.
A copy of the SAI, which provides more detailed information about the Contracts,
may be obtained without charge by calling Prudential at 1-800-458-6333.
Table of Contents - Statement of Additional Information
PAGE
INVESTMENT MANAGEMENT AND ADMINISTRATION OF VCA 2...................... 3
Fundamental Investment restrictions adopted by VCA 2................... 4
Non-fundamental investment restrictions adopted by VCA 2............... 5
Investment restrictions imposed by state law........................... 5
Additional information about financial futures contracts............... 6
Additional information about options................................... 7
Forward foreign currency exchange contracts............................ 12
Interest rate swap transactions........................................ 13
Loans of portfolio securities.......................................... 13
Portfolio turnover rate................................................ 14
Portfolio brokerage and related practices.............................. 14
Custody of securities.................................................. 15
THE VCA 2 COMMITTEE.................................................... 16
Officers who are not directors......................................... 16
Remuneration of members of the Committee and certain affiliated persons 17
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA-DIRECTORS.................. 17
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA-PRINCIPAL OFFICERS......... 19
SALE OF GROUP VARIABLE ANNUITY CONTRACTS............................... 21
EXPERTS................................................................ 21
FINANCIAL STATEMENTS OF VCA 2.......................................... A-1
CONSOLIDATED FINANCIAL STATEMENTS OF THE PRUDENTIAL INSURANCE
COMPANY OF AMERICA AND SUBSIDIARIES.................................. B-1
23
<PAGE> 25
FINANCIAL HIGHLIGHTS FOR VCA 2
INCOME AND CAPITAL CHANGES PER ACCUMULATION UNIT
(FOR AN ACCUMULATION UNIT OUTSTANDING THROUGHOUT THE YEAR)
The following financial highlights for the three-year period ended December 31,
1998 has been audited by PricewaterhouseCoopers LLP, independent accountants,
whose unqualified report thereon appears in VCA 2's Annual Report dated December
31, 1998. The condensed financial information for each of the years prior to and
including the period ended december 31, 1995 has been audited by other
independent auditors, whose report thereon was also unqualified. The information
set out below should be read together with the financial statements and related
notes that also appear in VCA 2's Annual Report which is included in the SAI.
<TABLE>
<CAPTION>
Year Ended December 31,
----------------------------------------------------------------------------------------------
1998 1997 1996 1995 1994 1993 1992 1991 1990 1989
---- ---- ---- ---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Investment Income........... $.3414 $.2633 $.2056 $.2000 $.1896 $.2823 $.1635 $.1629 $.2278 $.2061
Expenses
For investment
management fee........ (.0325) (.0284) (.0215) (.0170) (.0151) (.0138) (.0111) (.0094) (.0079) (.0078)
For assuming
mortality and
expense risks......... (.0974) (.0850) (.0646) (.0511) (.0453) (.0412) (.0335) (.0285) (.0239) (.0234)
-------- -------- -------- -------- -------- -------- ------- ------- ------- -------
Net investment income....... .2115 .1499 .1195 .1319 .1292 .2273 .1189 .1250 .1960 .1749
-------- -------- -------- -------- -------- -------- ------- ------- ------- -------
Capital Changes
Net realized gain (loss)
on investments........ 3.1604 4.7245 2.3368 1.5228 1.0028 1.1147 1.2862 .6231 .1523 .8364
Net unrealized
appreciation
(depreciation) of
investments........... (4.3161) 1.3843 1.7641 1.7558 (1.2955) .9803 (.2121) 1.4671 (.5709) .1931
-------- -------- -------- -------- -------- -------- ------- ------- ------- -------
Net increase (decrease)
in Accumulation
Unit Value............ (0.9442) 6.2587 4.2204 3.4105 (.1635) 2.3223 1.1930 2.2152 (.2226) 1.2044
-------- -------- -------- -------- -------- -------- ------- ------- ------- -------
Accumulation Unit Value
Beginning of year....... 25.8828 19.6241 15.4037 11.9932 12.1567 9.8344 8.6414 6.4262 6.6488 5.4444
End of year............. $24.9386 $25.8828 $19.6241 $15.4037 $11.9932 $12.1567 $9.8344 $8.6414 $6.4262 $6.6488
-------- -------- -------- -------- -------- -------- ------- ------- ------- -------
Ratio of Expenses to
average net assets**.... .50% .50% .50% .50% .50% .50% .50% .50% .50% .50%
-------- -------- -------- -------- -------- -------- ------- ------- ------- -------
Ratio of net investment
income to average
net assets.............. .81% .70% .69% .96% 1.07% 2.06% 1.32% 1.64% 3.08% 2.81%
-------- -------- -------- -------- -------- -------- ------- ------- ------- -------
Portfolio turnover rate..... 43% 47% 53% 42% 37% 47% 73% 79% 108% 71%
-------- -------- -------- -------- -------- -------- ------- ------- ------- -------
Number of Accumulation
Units outstanding for
Participants at end of
year(000 omitted)......... 26,278 28,643 30,548 31,600 32,624 32,968 33,147 34,228 35,218 37,813
-------- -------- -------- -------- -------- -------- ------- ------- ------- -------
</TABLE>
- ------------------------------
* Calculation by accumulating the actual per Unit amounts daily.
** These calculations exclude Prudential's equity in VCA 2.
The above table does not reflect the annual administration charge, which does
not affect the Accumulation Unit Value. This charge is made by reducing
Participants' Accumulation Accounts by a number of Accumulation Units equal in
value to the charge.
24
<PAGE> 26
FOR MORE INFORMATION
Additional information about VCA 2 can be obtained upon request without charge
and can be found in the following documents:
Statement of Additional Information (SAI) (incorporated by reference into
this prospectus)
Annual Report
(including a discussion of market conditions and strategies that
significantly affected VCA 2's performance during the previous year)
Semi-Annual Report
To obtain these documents or to ask any questions about VCA 2:
Call toll-free 1-800-458-6333
OR
Write to The Prudential Contract Account-2
c/o Prudential Investments
30 Scranton Office Park
Scranton, PA 18506-1789
You can also obtain copies of VCA 2 documents from the Securities and Exchange
Commission as follows:
By Mail:
Securities and Exchange Commission
Public Reference Section
Washington, DC 20549-6009
(The SEC charges a fee to copy documents.)
In Person:
Public Reference Room
in Washington, DC
(For hours of operation, call 1(800) SEC-0330.)
Via the Internet:
http://www.sec.gov
SEC File No.:
The Prudential Variable Contract Account 22-28136
25
<PAGE> 27
(This page intentionally left blank)
<PAGE> 28
(This page intentionally left blank)
<PAGE> 29
The Prudential Insurance Company of America
c/o Prudential Investments
30 Scranton Office Park
Scranton, Pennsylvania 18507-1789
ADDRESS SERVICE REQUESTED
MD.PU.004.0499
BULK RATE
U.S. POSTAGE
PAID
PERMIT No. 941
CHICAGO, IL
<PAGE> 30
A "Statement of Additional Information" about the Contracts has been filed with
the Securities and Exchange Commission. A copy of this Statement is available
without charge.
To receive additional information about the Contracts and VCA 2 fill in your
name and address on this card, tear it off, affix the proper postage, and mail
it to us.
YOU MUST DETACH BEFORE MAILING
- --------------------------------------------------------------------------------
Please send me the "Statement of Additional Information" describing The
Prudential's Group Tax-Deferred Variable Annuity Contracts.
Name ________________________________________________
Address________________________________________________
City ________________________________________________
State ______________________ Zip Code _______________
PLEASE PRINT -- will be used as mailing label!
<PAGE> 31
Please
place
correct
postage
here
Prudential Investments
c/o Prudential Investments
30 Scranton Office Park
Scranton, Pennsylvania 18507-1789
Attention: Retirement Services Marketing
<PAGE> 32
STATEMENT OF ADDITIONAL INFORMATION
MAY 1, 1999
GROUP TAX-DEFERRED VARIABLE ANNUITY CONTRACTS
ISSUED THROUGH
THE PRUDENTIAL
VARIABLE CONTRACT ACCOUNT-2
These Contracts are designed for use in connection with retirement arrangements
that qualify for federal tax benefits under Section 403(b) of the Internal
Revenue Code of 1986, as amended. Contributions made on behalf of Participants
are invested in The Prudential Variable Contract Account-2, a separate account
primarily invested in common stocks.
---------------
This Statement of Additional Information is not a prospectus and should be read
in conjunction with the Prospectus, dated May 1, 1999, which is available
without charge upon written request to The Prudential Insurance Company of
America, c/o Prudential Investments, 30 Scranton Office Park, Scranton,
Pennsylvania 18507-1789, or by telephoning 1-800-458-6333.
[PRUDENTIAL LOGO]
<PAGE> 33
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
<S> <C>
INVESTMENT MANAGEMENT AND ADMINISTRATION OF VCA 2........................................................ 3
Fundamental investment restrictions adopted by VCA 2................................................... 4
Non-fundamental investment restrictions adopted by VCA 2............................................... 5
Investment restrictions imposed by state law........................................................... 5
Additional information about financial futures contracts............................................... 6
Additional information about options................................................................... 7
Forward foreign currency exchange contracts............................................................ 12
Interest rate swap transactions........................................................................ 13
Loans of portfolio securities.......................................................................... 13
Portfolio turnover rate................................................................................ 14
Portfolio brokerage and related practices.............................................................. 14
Custody of securities.................................................................................. 15
THE VCA 2 COMMITTEE...................................................................................... 16
Officers who are not directors......................................................................... 16
Remuneration of members of the Committee and certain affiliated persons................................ 17
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA--DIRECTORS................................................... 17
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA--PRINCIPAL OFFICERS.......................................... 19
SALE OF GROUP VARIABLE ANNUITY CONTRACTS................................................................. 21
EXPERTS.................................................................................................. 21
FINANCIAL STATEMENTS OF VCA 2............................................................................ A-1
CONSOLIDATED FINANCIAL STATEMENTS OF THE PRUDENTIAL INSURANCE COMPANY OF AMERICA AND
SUBSISIARIES.................................................... B-1
</TABLE>
2
<PAGE> 34
INVESTMENT MANAGEMENT AND
ADMINISTRATION OF
VCA 2
Prudential acts as investment manager for VCA 2 under an Agreement for
Investment Management Services. The Account's assets are invested and reinvested
in accordance with its investment objective and policies, subject to the general
supervision and authorization of the Account's Committee.
Subject to Prudential's supervision, substantially all of the investment
management services provided by Prudential are furnished by its wholly-owned
subsidiary, The Prudential Investment Corporation ("PIC"), pursuant to the
service agreement between Prudential and PIC (the "Service Agreement") which
provides that Prudential will reimburse PIC for its costs and expenses. PIC is
registered as an investment adviser under the Investment Advisers Act of 1940.
Prudential continues to have responsibility for all investment advisory services
under its advisory or subadvisory agreements with respect to its clients.
Prudential's Agreement for Investment Management Services with VCA 2 was
approved initially by the Participants at their meeting on May 29, 1969 and was
most recently renewed by unanimous vote of the Committee on May 28, 1998. The
Service Agreement was approved by participants in VCA 2 on July 25, 1985 and its
annual continuation was most recently approved by unanimous vote of the VCA 2
Committee on May 28, 1998. The Account's Agreement for Investment Management
Services and the Service Agreement will continue in effect as long as approved
at least once a year by a majority of the non-interested members of the
Account's Committee and either by a majority of the entire Committee or by a
majority vote of persons entitled to vote in respect of the Account. The
Account's Agreement for Investment Management Services will terminate
automatically in the event of assignment, and may be terminated without penalty
on 60 days' notice by the Account's Committee or by the majority vote of persons
having voting rights in respect of the Account, or on 90 days' notice by
Prudential.
The Service Agreement will continue in effect as to the Account for a period of
more than two years from its execution only so long as such continuance is
specifically approved at least annually in the same manner as the Agreement for
Investment Management Services between Prudential and the Account. The Service
Agreement may be terminated by either party upon not less than thirty days'
prior written notice to the other party, will terminate automatically in the
event of its assignment and will terminate automatically as to the Account in
the event of the assignment or termination of the Agreement for Investment
Management Services between Prudential and the Account. Prudential is not
relieved of its responsibility for all investment advisory services under the
Agreement for Investment Management Services between Prudential and the Account.
The Service Agreement provides for Prudential to reimburse PIC for its costs and
expenses incurred in furnishing investment advisory services. For the meaning of
a majority vote of persons having voting rights with respect to the Account, see
the section entitled "Voting Rights" in the Prospectus.
Prudential is responsible for the administrative and recordkeeping functions of
VCA 2 and pays the expenses associated with them. These functions include
enrolling Participants, receiving and allocating contributions, maintaining
Participants' Accumulation Accounts, preparing and distributing confirmations,
statements, and reports. The administrative and recordkeeping expenses borne by
Prudential include salaries, rent, postage, telephone, travel, legal, actuarial
and accounting fees, office equipment, stationery and maintenance of computer
and other systems.
A daily charge is made which is equal to an effective annual rate of 0.50% of
the net asset value of VCA 2. One-half (0.25%) of this charge is for assuming
expense risks; 1/4 (0.125%) of this charge is for assuming mortality risks; and
1/4 (0.125%) is for investment management services. During 1998, 1997, and 1996,
Prudential received $3,622,935, $3,351,395 and $2,694,889, respectively, from
VCA 2 for assuming mortality and expense risks and for providing investment
management services.
There is also an annual administration charge made against each Participant's
accumulation account in an amount which varies with each Contract but which is
not more than $30 for any accounting year. During 1998, 1997, and 1996,
Prudential collected $26,137, $28,266 and $30,477, respectively, from VCA 2 in
those annual account charges.
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A sales charge is also imposed on certain purchase payments made under a
Contract on behalf of a Participant. The sales charges imposed on purchase
payments to VCA 2 during 1998, 1997, and 1996 were $9,673, $9,628 and $162,008,
respectively.
FUNDAMENTAL INVESTMENT RESTRICTIONS ADOPTED BY VCA 2
In addition to the investment objective described in the Prospectus, the
following investment restrictions are fundamental investment policies of VCA 2
and may not be changed without the approval of a majority vote of persons having
voting rights in respect of the Account.
Concentration in Particular Industries. VCA 2 will not purchase any security
(other than obligations of the U.S. Government, its agencies or
instrumentalities) if as a result: (i) with respect to 75% of VCA 2's total
assets, more than 5% of VCA 2's total assets (determined at the time of
investment) would then be invested in securities of a single issuer, or (ii) 25%
or more of VCA 2's total assets (determined at the time of the investment) would
be invested in a single industry.
Investments in Real Estate-Related Securities. No purchase of or investment in
real estate will be made for the account of VCA 2 except that VCA 2 may buy and
sell securities that are secured by real estate or shares of real estate
investment trusts listed on stock exchanges or reported on the National
Association of Securities Dealers, Inc. automated quotation system ("NASDAQ").
Investments in Financial Futures. No commodities or commodity contracts will be
purchased or sold for the account of VCA 2 except that VCA 2 may purchase and
sell financial futures contracts and related options. Loans. VCA 2 will not lend
money, except that loans of up to 10% of the value of VCA 2's total assets may
be made through the purchase of privately placed bonds, debentures, notes, and
other evidences of indebtedness of a character customarily acquired by
institutional investors that may or may not be convertible into stock or
accompanied by warrants or rights to acquire stock. Repurchase agreements and
the purchase of publicly traded debt obligations are not considered to be
"loans" for this purpose and may be entered into or purchased by VCA 2 in
accordance with its investment objectives and policies.
Borrowing. VCA 2 will not issue senior securities, borrow money or pledge its
assets, except that VCA 2 may borrow from banks up to 33 1/3 percent of the
value of its total assets (calculated when the loan is made) for temporary,
extraordinary or emergency purposes, for the clearance of transactions or for
investment purposes. VCA 2 may pledge up to 33 1/3 percent of the value of its
total assets to secure such borrowing. For purposes of this restriction, the
purchase or sale of securities on a when-issued or delayed delivery basis,
forward foreign currency exchange contracts and collateral arrangements relating
thereto, and collateral arrangements with respect to interest rate swap
transactions, reverse repurchase agreements, dollar roll transactions, options,
futures contracts, and options thereon are not deemed to be a pledge of assets
or the issuance of a senior security.
Margin. VCA 2 will not purchase securities on margin (but VCA 2 may obtain such
short-term credits as may be necessary for the clearance of transactions);
provided that the deposit or payment by VCA 2 of initial or maintenance margin
in connection with futures or options is not considered the purchase of a
security on margin.
Underwriting of Securities. VCA 2 will not underwrite the securities of other
issuers, except where VCA 2 may be deemed to be an underwriter for purposes of
certain federal securities laws in connection with the disposition of portfolio
securities and with loans that VCA 2 is permitted to make.
Control or Management of Other Companies. No securities of any company will be
acquired for VCA 2 for the purpose of exercising control or management thereof.
NON-FUNDAMENTAL INVESTMENT RESTRICTIONS ADOPTED BY VCA 2
The VCA 2 Committee has also adopted the following additional investment
restrictions as non-fundamental operating policies. The
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Committee can change these restrictions without the approval of the persons
having voting rights in respect of VCA 2.
Investments in Other Investment Companies. Except as part of a merger,
consolidation, acquisition or reorganization, VCA 2 will not invest in the
securities of other investment companies in excess of the limits stipulated by
the Investment Company Act of 1940, as amended, and the rules and regulations
thereunder.
Short Sales. VCA 2 will not make short sales of securities or maintain a short
position, except that VCA 2 may make short sales against the box. Collateral
arrangements entered into with respect to options, futures contracts and forward
contracts are not deemed to be short sales. Collateral arrangements entered into
with respect to interest rate swap agreements are not deemed to be short sales.
Restricted Securities. No more than 15% of the value of the net assets held in
VCA 2 will be invested in securities (including repurchase agreements and
non-negotiable time deposits maturing in more than seven days) that are subject
to legal or contractual restrictions on resale or for which no readily available
market exists.
INVESTMENT RESTRICTIONS IMPOSED BY STATE LAW
In addition to the investment objectives, policies and restrictions that VCA 2
has adopted, the Account must limit its investments to those authorized for
variable contract accounts of life insurance companies by the laws of the State
of New Jersey. In the event of future amendments of the applicable New Jersey
statutes, the Account will comply, without the approval of Participants or
others having voting rights in respect of the Account, with the statutory
requirements as so modified. The pertinent provisions of New Jersey law as they
currently read are, in summary form, as follows:
1. An account may not purchase any evidence of indebtedness issued, assumed
or guaranteed by any institution created or existing under the laws of
the U.S., any U.S. state or territory, District of Columbia, Puerto
Rico, Canada or any Canadian province, if such evidence of indebtedness
is in default as to interest. "Institution" includes any corporation,
joint stock association, business trust, business joint venture,
business partnership, savings and loan association, credit union or
other mutual savings institution.
2. The stock of a corporation may not be purchased unless (i) the
corporation has paid a cash dividend on the class of stock during each
of the past five years preceding the time of purchase, or (ii) during
the five-year period the corporation had aggregate earnings available
for dividends on such class of stock sufficient to pay average dividends
of 4% per annum computed upon the par value of such stock, or upon
stated value if the stock has no par value. This limitation does not
apply to any class of stock which is preferred as to dividends over a
class of stock whose purchase is not prohibited.
3. Any common stock purchased must be (i) listed or admitted to trading on
a securities exchange in the United States or Canada; or (ii) included
in the National Association of Securities Dealers' national price
listings of "over-the-counter" securities; or (iii) determined by the
Commissioner of Insurance of New Jersey to be publicly held and traded
and as to which market quotations are available.
4. Any security of a corporation may not be purchased if after the purchase
more than 10% of the market value of the assets of an Account would be
invested in the securities of such corporation.
The currently applicable requirements of New Jersey law impose substantial
limitations on the ability of VCA 2 to invest in the stock of companies whose
securities are not publicly traded or who have not recorded a five-year history
of dividend payments or earnings sufficient to support such payments. This means
that the Account will not generally invest in the stock of newly organized
corporations. Nonetheless, an investment not otherwise eligible under paragraph
1 or 2 above may be made if, after giving effect to the investment, the total
cost of all such non-eligible investments does not exceed 5% of the aggregate
market value of the assets of the Account.
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Investment limitations may also arise under the insurance laws and regulations
of the other states where the Contracts are sold. Although compliance with the
requirements of New Jersey law set forth above will ordinarily result in
compliance with any applicable laws of other states, under some circumstances
the laws of other states could impose additional restrictions on the portfolios
of the Account.
ADDITIONAL INFORMATION ABOUT FINANCIAL FUTURES CONTRACTS
As described in the Prospectus, VCA 2 may engage in certain transactions
involving financial futures contracts. This additional information on those
instruments should be read in conjunction with the Prospectus.
VCA 2 will only enter into futures contracts that are standardized and traded on
a U.S. exchange or board of trade. When a financial futures contract is entered
into, each party deposits with a broker or in a segregated custodial account
approximately 5% of the contract amount, called the "initial margin." Subsequent
payments to and from the broker, called the "variation margin," are made on a
daily basis as the underlying security, index, or rate fluctuates, making the
long and short positions in the futures contracts more or less valuable, a
process known as "marking to the market."
There are several risks associated with the use of futures contracts for hedging
purposes. While VCA 2's hedging transactions may protect it against adverse
movements in the general level of interest rates or other economic conditions,
such transactions could also preclude VCA 2 from the opportunity to benefit from
favorable movements in the level of interest rates or other economic conditions.
There can be no guarantee that there will be correlation between price movements
in the hedging vehicle and in the securities or other assets being hedged. An
incorrect correlation could result in a loss on both the hedged assets and the
hedging vehicle so that VCA 2's return might have been better if hedging had not
been attempted. The degree of imperfection of correlation depends on
circumstances such as variations in speculative market demand for futures and
futures options, including technical influences in futures trading and futures
options, and differences between the financial instruments being hedged and the
instruments underlying the standard contracts available for trading in such
respects as interest rate levels, maturities, and creditworthiness of issuers. A
decision as to whether, when, and how to hedge involves the exercise of skill
and judgment and even a well-conceived hedge may be unsuccessful to some degree
because of market behavior or unexpected market trends.
There can be no assurance that a liquid market will exist at a time when VCA 2
seeks to close out a futures contract or a futures option position. Most futures
exchanges and boards of trade limit the amount of fluctuation permitted in
futures contract prices during a single day; once the daily limit has been
reached on a particular contract, no trades may be made that day at a price
beyond that limit. In addition, certain of these instruments are relatively new
and without a significant trading history. As a result, there is no assurance
that an active secondary market will develop or continue to exist. The daily
limit governs only price movements during a particular trading day and therefore
does not limit potential losses because the limit may work to prevent the
liquidation of unfavorable positions. For example, futures prices have
occasionally moved to the daily limit for several consecutive trading days with
little or no trading, thereby preventing prompt liquidation of positions and
subjecting some holders of futures contracts to substantial losses. Lack of a
liquid market for any reason may prevent VCA 2 from liquidating an unfavorable
position and VCA 2 would remain obligated to meet margin requirements and
continue to incur losses until the position is closed.
ADDITIONAL INFORMATION ABOUT OPTIONS
As described in the Prospectus, VCA 2 may engage in certain transactions
involving options. This additional information on those instruments should be
read in conjunction with the Prospectus.
In addition to those described in the Prospectus, options have other risks,
primarily related to liquidity. A position in an exchange-traded option may be
closed out only on an exchange, board of trade or other trading facility which
provides a secondary market for an option of the same series. Although VCA 2
will generally purchase or write only those exchange-traded options for which
there appears to be an active secondary market, there is no assurance that a
liquid secondary market on an exchange will exist for any particular option, or
at any particular time, and for some options no secondary market on an exchange
or otherwise may exist. In such
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event it might not be possible to effect closing transactions in particular
options, with the result that VCA 2 would have to exercise its options in order
to realize any profit and would incur brokerage commissions upon the exercise of
such options and upon the subsequent disposition of underlying securities
acquired through the exercise of call options or upon the purchase of underlying
securities for the exercise of put options. If VCA 2 as a covered call option
writer is unable to effect a closing purchase transaction in a secondary market,
it will not be able to sell the underlying security until the option expires or
it delivers the underlying security upon exercise.
Reasons for the absence of a liquid secondary market on an exchange include the
following: (i) there may be insufficient trading interest in certain options;
(ii) restrictions imposed by an exchange on opening transactions or closing
transactions or both; (iii) trading halts, suspensions or other restrictions may
be imposed with respect to particular classes or series of options or underlying
securities; (iv) unusual or unforeseen circumstances may interrupt normal
operations on an exchange; (v) the facilities of an exchange or a clearing
corporation may not at all times be adequate to handle current trading volume;
or (vi) one or more exchanges could, for economic or other reasons, decide or be
compelled at some future date to discontinue the trading of options (or a
particular class or series of options), in which event the secondary market on
that exchange (or in the class or series of options) would cease to exist,
although outstanding options on that exchange that had been issued by a clearing
corporation as a result of trades on that exchange would continue to be
exercisable in accordance with their terms. There is no assurance that higher
than anticipated trading activity or other unforeseen events might not, at
times, render certain of the facilities of any of the clearing corporations
inadequate, and thereby result in the institution by an exchange of special
procedures which may interfere with the timely execution of customers' orders.
The purchase and sale of over-the-counter ("OTC") options will also be subject
to certain risks. Unlike exchange-traded options, OTC options generally do not
have a continuous liquid market. Consequently, VCA 2 will generally be able to
realize the value of an OTC option it has purchased only by exercising it or
reselling it to the dealer who issued it. Similarly, when VCA 2 writes an OTC
option, it generally will be able to close out the OTC option prior to its
expiration only by entering into a closing purchase transaction with the dealer
to which VCA 2 originally wrote the OTC option. There can be no assurance that
VCA 2 will be able to liquidate an OTC option at a favorable price at any time
prior to expiration. In the event of insolvency of the other party, VCA 2 may be
unable to liquidate an OTC option.
Options on Equity Securities. VCA 2 may purchase and write (i.e., sell) put and
call options on equity securities that are traded on U.S. securities exchanges,
are listed on the National Association of Securities Dealers Automated Quotation
System ("NASDAQ"), or that result from privately negotiated transactions with
broker-dealers. A call option is a short-term contract pursuant to which the
purchaser or holder, in return for a premium paid, has the right to buy the
security underlying the option at a specified exercise price at any time during
the term of the option. The writer of the call option, who receives the premium,
has the obligation, upon exercise of the option, to deliver the underlying
security against payment of the exercise price. A put option is a similar
contract which gives the purchaser or holder, in return for a premium, the right
to sell the underlying security at a specified price during the term of the
option. The writer of the put, who receives the premium, has the obligation to
buy the underlying security at the exercise price upon exercise by the holder of
the put.
VCA 2 will write only "covered" options on stocks. A call option is covered if:
(1) VCA 2 owns the security underlying the option; or (2) VCA 2 has an absolute
and immediate right to acquire that security without additional cash
consideration (or for additional cash consideration held in a segregated account
by its custodian) upon conversion or exchange of other securities it holds; or
(3) VCA 2 holds on a share-for-share basis a call on the same security as the
call written where the exercise price of the call held is equal to or less than
the exercise price of the call written or greater than the exercise price of the
call written if the difference is maintained by VCA 2 in cash, U.S. government
securities or other liquid unencumbered assets in a segregated account with its
custodian. A put option is covered if: (1) VCA 2 deposits and maintains with its
custodian in a segregated account cash, U.S. government securities or other
liquid unencumbered assets having a value equal to or greater than the exercise
price of the option; or (2) VCA 2 holds on a share-for-share basis a put on the
same security as the put written where the exercise price of the put held is
equal to or greater than the exercise price of the put written or less than the
exercise price if the difference is maintained by VCA 2 in cash, U.S. government
securities or other liquid unencumbered assets in a segregated account with its
custodian.
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VCA 2 may also purchase "protective puts" (i.e., put options acquired for the
purpose of protecting a VCA 2 security from a decline in market value). The loss
to VCA 2 is limited to the premium paid for, and transaction costs in connection
with, the put plus the initial excess, if any, of the market price of the
underlying security over the exercise price. However, if the market price of the
security underlying the put rises, the profit VCA 2 realizes on the sale of the
security will be reduced by the premium paid for the put option less any amount
(net of transaction costs) for which the put may be sold.
VCA 2 may also purchase putable and callable equity securities, which are
securities coupled with a put or call option provided by the issuer.
VCA 2 may purchase call options for hedging or investment purposes. VCA 2 does
not intend to invest more than 5% of its net assets at any one time in the
purchase of call options on stocks.
If the writer of an exchange-traded option wishes to terminate the obligation,
he or she may effect a "closing purchase transaction" by buying an option of the
same series as the option previously written. Similarly, the holder of an option
may liquidate his or her position by exercise of the option or by effecting a
"closing sale transaction" by selling an option of the same series as the option
previously purchased. There is no guarantee that closing purchase or closing
sale transactions can be effected.
Options on Debt Securities. VCA 2 may purchase and write exchange-traded and OTC
put and call options on debt securities. Options on debt securities are similar
to options on stock, except that the option holder has the right to take or make
delivery of a debt security, rather than stock.
VCA 2 will write only "covered" options. Options on debt securities are covered
in the same manner as options on stocks, discussed above, except that, in the
case of call options on U.S. Treasury Bills, VCA 2 might own U.S. Treasury Bills
of a different series from those underlying the call option, but with a
principal amount and value corresponding to the option contract amount and a
maturity date no later than that of the securities deliverable under the call
option.
VCA 2 may also write straddles (i.e., a combination of a call and a put written
on the same security at the same strike price where the same issue of the
security is considered as the cover for both the put and the call). In such
cases, VCA 2 will also segregate or deposit for the benefit of VCA 2's broker
cash or other liquid unencumbered assets equivalent to the amount, if any, by
which the put is "in the money." It is contemplated that VCA 2's use of
straddles will be limited to 5% of VCA 2's net assets (meaning that the
securities used for cover or segregated as described above will not exceed 5% of
VCA 2's net assets at the time the straddle is written).
VCA 2 may purchase "protective puts" in an effort to protect the value of a
security that it owns against a substantial decline in market value. Protective
puts on debt securities operate in the same manner as protective puts on equity
securities, described above. VCA 2 may wish to protect certain securities
against a decline in market value at a time when put options on those particular
securities are not available for purchase. VCA 2 may therefore purchase a put
option on securities it does not hold. While changes in the value of the put
should generally offset changes in the value of the securities being hedged, the
correlation between the two values may not be as close in these transactions as
in transactions in which VCA 2 purchases a put option on an underlying security
it owns.
VCA 2 may also purchase call options on debt securities for hedging or
investment purposes. VCA 2 does not intend to invest more than 5% of its net
assets at any one time in the purchase of call options on debt securities.
VCA 2 may also purchase putable and callable debt securities, which are
securities coupled with a put or call option provided by the issuer.
VCA 2 may enter into closing purchase or sale transactions in a manner similar
to that discussed above in connection with options on equity securities.
Options on Stock Indices. VCA 2 may purchase and sell put and call options on
stock indices traded on national securities
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exchanges, listed on NASDAQ or OTC options. Options on stock indices are similar
to options on stock except that, rather than the right to take or make delivery
of stock at a specified price, an option on a stock index gives the holder the
right to receive, upon exercise of the option, an amount of cash if the closing
level of the stock index upon which the option is based is greater than in the
case of a call, or less than, in the case of a put, the strike price of the
option. This amount of cash is equal to such difference between the closing
price of the index and the strike price of the option times a specified multiple
(the "multiplier"). If the option is exercised, the writer is obligated, in
return for the premium received, to make delivery of this amount. Unlike stock
options, all settlements are in cash, and gain or loss depends on price
movements in the stock market generally (or in a particular industry or segment
of the market) rather than price movements in individual stocks.
VCA 2 will write only "covered" options on stock indices. A call option is
covered if VCA 2 follows the segregation requirements set forth in this
paragraph. When VCA 2 writes a call option on a broadly based stock market
index, it will segregate or put into escrow with its custodian or pledge to a
broker as collateral for the option, cash, U.S. government securities or other
liquid unencumbered assets, or "qualified securities" (defined below) with a
market value at the time the option is written of not less than 100% of the
current index value times the multiplier times the number of contracts. A
"qualified security" is an equity security which is listed on a national
securities exchange or listed on NASDAQ against which VCA 2 has not written a
stock call option and which has not been hedged by VCA 2 by the sale of stock
index futures. When VCA 2 writes a call option on an industry or market segment
index, it will segregate or put into escrow with its custodian or pledge to a
broker as collateral for the option, cash, U.S. government securities or other
liquid unencumbered assets, or at least five qualified securities, all of which
are stocks of issuers in such industry or market segment, with a market value at
the time the option is written of not less than 100% of the current index value
times the multiplier times the number of contracts. Such stocks will include
stocks which represent at least 50% of the weighting of the industry or market
segment index and will represent at least 50% of VCA 2's holdings in that
industry or market segment. No individual security will represent more than 15%
of the amount so segregated, pledged or escrowed in the case of broadly based
stock market stock options or 25% of such amount in the case of industry or
market segment index options. If at the close of business on any day the market
value of such qualified securities so segregated, escrowed, or pledged falls
below 100% of the current index value times the multiplier times the number of
contracts, VCA 2 will so segregate, escrow, or pledge an amount in cash, U.S.
government securities, or other liquid unencumbered assets equal in value to the
difference. In addition, when VCA 2 writes a call on an index which is
in-the-money at the time the call is written, it will segregate with its
custodian or pledge to the broker as collateral, cash or U.S. government
securities or other liquid unencumbered assets equal in value to the amount by
which the call is in-the-money times the multiplier times the number of
contracts. Any amount segregated pursuant to the foregoing sentence may be
applied to VCA 2's obligation to segregate additional amounts in the event that
the market value of the qualified securities falls below 100% of the current
index value times the multiplier times the number of contracts.
A call option is also covered if VCA 2 holds a call on the same index as the
call written where the strike price of the call held is equal to or less than
the strike price of the call written or greater than the strike price of the
call written if the difference is maintained by VCA 2 in cash, U.S. government
securities or other liquid unencumbered assets in a segregated account with its
custodian.
A put option is covered if: (1) VCA 2 holds in a segregated account cash, U.S.
government securities or other liquid unencumbered assets of a value equal to
the strike price times the multiplier times the number of contracts; or (2) VCA
2 holds a put on the same index as the put written where the strike price of the
put held is equal to or greater than the strike price of the put written or less
than the strike price of the put written if the difference is maintained by VCA
2 in cash, U.S. government securities or other liquid unencumbered assets in a
segregated account with its custodian.
VCA 2 may purchase put and call options on stock indices for hedging or
investment purposes. VCA 2 does not intend to invest more than 5% of its net
assets at any one time in the purchase of puts and calls on stock indices. VCA 2
may effect closing sale and purchase transactions involving options on stock
indices, as described above in connection with stock options.
The distinctive characteristics of options on stock indices create certain risks
that are not present with stock options. Index prices may be distorted if
trading of certain stocks included in the index is interrupted. Trading in the
index options also may be interrupted in certain circumstances, such as if
trading were halted in a substantial number of stocks included in the index. If
this occurred, VCA 2
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would not be able to close out options which it had purchased or written and, if
restrictions on exercise were imposed, might be unable to exercise an option it
holds, which could result in substantial losses to VCA 2. Price movements in VCA
2's equity security holdings probably will not correlate precisely with
movements in the level of the index and, therefore, in writing a call on a stock
index VCA 2 bears the risk that the price of the securities held by VCA 2 may
not increase as much as the index. In such event, VCA 2 would bear a loss on the
call which is not completely offset by movement in the price of VCA 2's equity
securities. It is also possible that the index may rise when VCA 2's securities
do not rise in value. If this occurred, VCA 2 would experience a loss on the
call which is not offset by an increase in the value of its securities holdings
and might also experience a loss in its securities holdings. In addition, when
VCA 2 has written a call, there is also a risk that the market may decline
between the time VCA 2 has a call exercised against it, at a price which is
fixed as of the closing level of the index on the date of exercise, and the time
VCA 2 is able to sell stocks in its portfolio. As with stock options, VCA 2 will
not learn that an index option has been exercised until the day following the
exercise date but, unlike a call on stock where VCA 2 would be able to deliver
the underlying securities in settlement, VCA 2 may have to sell part of its
stock portfolio in order to make settlement in cash, and the price of such
stocks might decline before they can be sold. This timing risk makes certain
strategies involving more than one option substantially more risky with options
in stock indices than with stock options.
There are also certain special risks involved in purchasing put and call options
on stock indices. If VCA 2 holds an index option and exercises it before final
determination of the closing index value for that day, it runs the risk that the
level of the underlying index may change before closing. If such a change causes
the exercise option to fall out of-the-money, VCA 2 will be required to pay the
difference between the closing index value and the strike price of the option
(times the applicable multiplier) to the assigned writer. Although VCA 2 may be
able to minimize the risk by withholding exercise instructions until just before
the daily cutoff time or by selling rather than exercising an option when the
index level is close to the exercise price, it may not be possible to eliminate
this risk entirely because the cutoff times for index options may be earlier
than those fixed for other types of options and may occur before definitive
closing index values are announced.
Options on Foreign Currencies. VCA 2 may purchase and write put and call options
on foreign currencies traded on U.S. or foreign securities exchanges or boards
of trade. Options on foreign currencies are similar to options on stock, except
that the option holder has the right to take or make delivery of a specified
amount of foreign currency, rather than stock. VCA 2's successful use of options
on foreign currencies depends upon the investment manager's ability to predict
the direction of the currency exchange markets and political conditions, which
requires different skills and techniques than predicting changes in the
securities markets generally. In addition, the correlation between movements in
the price of options and the price of currencies being hedged is imperfect.
Options on Futures Contracts. VCA 2 may enter into certain transactions
involving options on futures contracts. VCA 2 will utilize these types of
options for the same purpose that it uses the underlying futures contract. An
option on a futures contract gives the purchaser or holder the right, but not
the obligation, to assume a position in a futures contract (a long position if
the option is a call and a short position if the option is a put) at a specified
price at any time during the option exercise period. The writer of the option is
required upon exercise to assume an offsetting futures position (a short
position if the option is a call and long position if the option is a put). Upon
exercise of the option, the assumption of offsetting futures positions by the
writer and holder of the option will be accomplished by delivery of the
accumulated balance in the writer's futures margin account which represents the
amount by which the market price of the futures contract, at exercise, exceeds,
in the case of a call, or is less than, in the case of a put, the exercise price
of the option on the futures contract. As an alternative to exercise, the holder
or writer of an option may terminate a position by selling or purchasing an
option of the same series. There is no guarantee that such closing transactions
can be effected. VCA 2 intends to utilize options on futures contracts for the
same purposes that it uses the underlying futures contracts.
Options on futures contracts are subject to risks similar to those described
above with respect to options on securities, options on stock indices, and
futures contracts. These risks include the risk that the investment manager may
not correctly predict changes in the market, the risk of imperfect correlation
between the option and the securities being hedged, and the risk that there
might not be a liquid secondary market for the option. There is also the risk of
imperfect correlation between the option and the underlying futures contract. If
there were no liquid secondary market for a particular option on a futures
contract, VCA 2 might have to exercise an option it held in order to realize any
profit and might continue to be obligated under an option it had written until
the option expired or was exercised. If VCA 2 were unable to close out an option
it had written on a futures contract, it would continue to be required to
maintain
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initial margin and make variation margin payments with respect to the option
position until the option expired or was exercised against VCA 2.
FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS
A forward foreign currency exchange contract is a contract obligating one party
to purchase and the other party to sell one currency for another currency at a
future date and price. When investing in foreign securities, VCA 2 may enter
into such contracts in anticipation of or to protect itself against fluctuations
in currency exchange rates.
VCA 2 generally will not enter into a forward contract with a term of greater
than 1 year. At the maturity of a forward contract, VCA 2 may either sell the
security and make delivery of the foreign currency or it may retain the security
and terminate its contractual obligation to deliver the foreign currency by
purchasing an "offsetting" contract with the same currency trader obligating it
to purchase, on the same maturity date, the same amount of the foreign currency.
VCA 2's successful use of forward contracts depends upon the investment
manager's ability to predict the direction of currency exchange markets and
political conditions, which requires different skills and techniques than
predicting changes in the securities markets generally.
INTEREST RATE SWAP TRANSACTIONS
VCA 2 may enter into interest rate swap transactions. Interest rate swaps, in
their most basic form, involve the exchange by one party with another party of
their respective commitments to pay or receive interest. For example, VCA 2
might exchange its right to receive certain floating rate payments in exchange
for another party's right to receive fixed rate payments. Interest rate swaps
can take a variety of other forms, such as agreements to pay the net differences
between two different indices or rates, even if the parties do not own the
underlying instruments. Despite their differences in form, the function of
interest rate swaps is generally the same -- to increase or decrease exposure to
long- or short-term interest rates. For example, VCA 2 may enter into a swap
transaction to preserve a return or spread on a particular investment or a
portion of its portfolio or to protect against any increase in the price of
securities the Account anticipates purchasing at a later date. VCA 2 will
maintain appropriate liquid assets in a segregated custodial account to cover
its obligations under swap agreements.
The use of swap agreements is subject to certain risks. As with options and
futures, if the investment manager's prediction of interest rate movements is
incorrect, VCA 2's total return will be less than if the Account had not used
swaps. In addition, if the counterparty's creditworthiness declines, the value
of the swap would likely decline. Moreover, there is no guarantee that VCA 2
could eliminate its exposure under an outstanding swap agreement by entering
into an offsetting swap agreement with the same or another party.
LOANS OF PORTFOLIO SECURITIES
VCA 2 may from time to time lend its portfolio securities to broker-dealers,
qualified banks and certain institutional investors provided that such loans are
made pursuant to written agreements and are continuously secured by collateral
in the form of cash, U.S. Government securities or irrevocable standby letters
of credit in an amount equal to at least the market value at all times of the
loaned securities. During the time portfolio securities are on loan, VCA 2
continues to receive the interest and dividends, or amounts equivalent thereto,
on the loaned securities while receiving a fee from the borrower or earning
interest on the investment of the cash collateral. The right to terminate the
loan is given to either party subject to appropriate notice. Upon termination of
the loan, the borrower returns to the lender securities identical to the loaned
securities. VCA 2 does not have the right to vote securities on loan, but would
terminate the loan and regain the right to vote if that were considered
important with respect to the investment. The primary risk in lending securities
is that the borrower may become insolvent on a day on which the loaned security
is rapidly advancing in price. In such event, if the borrower fails to return
the loaned securities, the existing collateral might be insufficient to purchase
back the full amount of stock loaned, and the borrower would be unable to
furnish additional collateral. The borrower would be liable for any shortage but
VCA 2 would be an unsecured creditor as to such shortage and might not be able
to recover all or any of it. However, this
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risk may be minimized by a careful selection of borrowers and securities to be
lent.
VCA 2 will not lend its portfolio securities to entities affiliated with
Prudential, including Prudential Securities Incorporated. This will not affect
VCA 2's ability to maximize its securities lending opportunities.
PORTFOLIO TURNOVER RATE
VCA 2 has no fixed policy with respect to portfolio turnover, which is an index
determined by dividing the lesser of the purchases or sales of portfolio
securities during the year by the monthly average of the aggregate value of the
portfolio securities owned during the year. VCA 2 seeks long term growth of
capital rather than short-term trading profits. However, during any period when
changing economic or market conditions are anticipated, successful management
requires an aggressive response to such changes which may result in portfolio
shifts that may significantly increase the rate of portfolio turnover. The rate
of portfolio activity will normally affect the brokerage expenses of VCA 2. The
annual portfolio turnover rate was 43% in 1998 and 47% in 1997.
PORTFOLIO BROKERAGE AND RELATED PRACTICES
In connection with decisions to buy and sell securities for VCA 2, brokers and
dealers to effect the transactions must be selected and brokerage commissions,
if any, negotiated. Transactions on a stock exchange in equity securities will
be executed primarily through brokers that will receive a commission paid by VCA
2. Fixed income securities, on the other hand, as well as equity securities
traded in the over-the-counter market, will not normally incur any brokerage
commissions. These securities are generally traded on a "net" basis with dealers
acting as principals for their own accounts without a stated commission,
although the price of the security usually includes a profit to the dealer. In
underwritten offerings, securities are purchased at a fixed price that includes
an amount of compensation to the underwriter, generally referred to as the
underwriter's concession or discount. Certain of these securities may also be
purchased directly from an issuer, in which case neither commissions nor
discounts are paid.
In placing orders of securities transactions, primary consideration is given to
obtaining the most favorable price and efficient execution. An attempt is made
to effect each transaction at a price and commission, if any, that provides the
most favorable total cost or proceeds reasonably attainable in the
circumstances. However, a higher commission than would otherwise be necessary
for a particular transaction may be paid when to do so would appear to further
the goal of obtaining the best available execution.
In connection with any securities transaction that involves a commission
payment, the commission is negotiated with the broker on the basis of the
quality and quantity of execution services that the broker provides, in light of
generally prevailing commission rates. Periodically, Prudential and PIC review
the allocation among brokers of orders for equity securities and the commissions
that were paid.
When selecting a broker or dealer in connection with a transaction for VCA 2,
consideration is given to whether the broker or dealer has furnished PIC with
certain services, provided this does not jeopardize the objective of obtaining
the best price and execution. These services, which include statistical and
economic data and research reports on particular companies and industries, are
services that brokerage houses customarily provide to institutional investors.
PIC uses these services in connection with all of its investment activities, and
some of the data or services obtained in connection with the execution of
transactions for VCA 2 may be used in connection with the execution of
transactions for other investment accounts. Conversely, brokers and dealers
furnishing such services may be selected for the execution of transactions of
such other accounts, while the data or service may be used in connection with
investment management for VCA 2. Although Prudential's present policy is not to
permit higher commissions to be paid for transactions for VCA 2 in order to
secure research and statistical services from brokers or dealers, Prudential
might in the future authorize the payment of higher commissions, but only with
the prior concurrence of the VCA 2 Committee, if it is determined that the
higher commissions are necessary in order to secure desired research and are
reasonable in relation to all of the services that the broker or dealer
provides.
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When investment opportunities arise that may be appropriate for more than one
entity for which Prudential serves as investment manager or adviser, one entity
will not be favored over another and allocations of investments among them will
be made in an impartial manner believed to be equitable to each entity involved.
The allocations will be based on each entity's investment objectives and its
current cash and investment positions. Because the various entities for which
Prudential acts as investment manager or adviser have different investment
objectives and positions, from time to time a particular security may be
purchased for one or more such entities while, at the same time, such security
may be sold for another.
An affiliated broker may be employed to execute brokerage transactions on behalf
of VCA 2 as long as the commissions are reasonable and fair compared to the
commissions received by other brokers in connection with comparable transactions
involving similar securities being purchased or sold on a securities exchange
during a comparable period of time. During 1998, 1997, and 1996, $15,138,
$17,671 and $35,806, respectively, was paid to Prudential Securities
Incorporated, an affiliated broker. For 1998, the commissions paid to this
affiliated broker constituted 1.3% of the total commissions paid by VCA 2 for
that year, and the transactions through this affiliated broker accounted for
1.7% of the aggregate dollar amount of transactions for VCA 2 involving the
payment of commissions. VCA 2 may not engage in any transactions in which
Prudential or its affiliates, including Prudential Securities Incorporated, acts
as principal, including over-the-counter purchases and negotiated trades in
which such a party acts as a principal.
Prudential or PIC may enter into business transactions with brokers or dealers
for purposes other than the execution of portfolio securities transactions for
accounts Prudential manages. These other transactions will not affect the
selection of brokers or dealers in connection with portfolio transactions for
VCA 2.
During the calendar year 1998, $1,184,991 was paid to various brokers in
connection with securities transactions for VCA 2. Of this amount, approximately
63.1% was allocated to brokers who provided research and statistical services to
Prudential. The equivalent figures for 1997 were $1,102,637 and 62.1%, and for
1996 were $718,2311 and 77.6%.
CUSTODY OF SECURITIES
Investors Fiduciary Trust Company, 127 West 10th Street, Kansas City, Missouri
64105, is custodian of VCA 2's assets and maintains certain books and records in
connection therewith.
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THE VCA 2 COMMITTEE
VCA 2 is managed by The Prudential Variable Contract Account-2 Committee ("VCA 2
Committee"). The members of the Committee are elected by the persons having
voting rights in respect of the VCA 2 Account. The affairs of the Account are
conducted in accordance with the Rules and Regulations of the Account. The
members of the Account's Committee, the Account's Secretary and Treasurer and
the principal occupation of each during the past five years are shown below.
VCA 2 COMMITTEE*
SAUL K. FENSTER, 66, Director--President of New Jersey Institute of Technology.
Address: 323 Martin Luther King Jr., Boulevard, Newark, New Jersey 07102.
W. SCOTT MCDONALD, JR., 62, Director--Vice President, Kaludis Consulting Group
since 1997; 1995 to 1996: Principal, Scott McDonald & Associates; Prior to 1995:
Executive Vice President of Fairleigh Dickinson University. Address: 9 Zamrok
Way, Morristown, New Jersey 07960.
JOSEPH WEBER, 75, Director--Vice President, Interclass (international corporate
learning). Address: 37 Beachmont Terrace, North Caldwell, New Jersey 07006.
- ----------------------
* Certain actions of the Committee, including the annual continuance of the
Agreement for Investment Management Services between the Account and Prudential,
must be approved by a majority of the Members of the Committee who are not
interested persons of Prudential, its affiliates or the Account as defined in
the Investment Company Act of 1940 (the 1940 Act). Messrs. Fenster, McDonald,
and Weber are not interested persons of Prudential, its affiliates, or the
Account. However, Mr. Fenster is President of the New Jersey Institute of
Technology. Prudential has issued a group annuity contract to the Institute and
provides group life and group health insurance to its employees.
OFFICERS WHO ARE NOT DIRECTORS
E. MICHAEL CAULFIELD, President -- Executive Vice President, Prudential
Financial Management since 1998; 1995 to 1998: Chief Executive Officer of
Prudential Investments; 1995: Chief Executive Officer, Prudential Preferred
Financial Services; prior to 1995: President, Prudential Preferred Financial
Services.
CAREN A. CUNNINGHAM, Secretary--Assistant General Counsel of Prudential
Investments Fund Management, LLC ("PIFM") since 1997; Prior to 1997: Vice
President and Associate General Counsel of Smith Barney Mutual Fund Management
Inc. Address: 100 Mulberry Street, Gateway Center Three, Newark, New Jersey
07102.
GRACE C. TORRES, Treasurer and Principal Financial and Accounting Officer--First
Vice President of PIFM since 1996; Prior to 1996: First Vice President of
Prudential Securities Inc. Address: 100 Mulberry Street, Gateway Center Three,
Newark, New Jersey 07102.
STEPHEN M. UNGERMAN, Assistant Treasurer--Vice President and Tax Director of
Prudential Investments since 1996; Prior to 1996: First Vice President of
Prudential Mutual Fund Management, Inc. Address: 100 Mulberry Street, Gateway
Center Three, Newark, New Jersey 07102.
REMUNERATION OF MEMBERS OF THE COMMITTEES AND CERTAIN AFFILIATED PERSONS
No member of the VCA 2 Committee nor any other person (other than Prudential)
receives remuneration from the Account. Prudential pays certain of the expenses
relating to the operation of, including all compensation paid to members of the
Committee, its Chairman, its Secretary and Treasurer. No member of the VCA 2
Committee, its Chairman, its Secretary or Treasurer who is also an officer,
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Director or employee of Prudential or an affiliate of Prudential is entitled to
any fee for his services as a member or officer of the Committee.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
DIRECTORS
FRANKLIN E. AGNEW--Director since 1994 (current term expires April, 2000).
Member, Committee on Finance & Dividends; Member, Corporate Governance
Committee. Business consultant since 1986. Senior Vice President, H.J. Heinz
from 1971 to 1986. Mr. Agnew is also a director of Bausch & Lomb, Inc. and Erie
Plastics Corporation. Age 64. Address: 600 Grant Street, Suite 660, Pittsburgh,
PA 15219.
FREDERICK K. BECKER--Director since 1994 (current term expires April, 2005).
Member, Auditing Committee; Member, Corporate Governance Committee. President,
Wilentz Goldman and Spitzer, P.A. (law firm) since 1989, with firm since 1960.
Age 63. Address: 90 Woodbridge Center Drive, Woodbridge, NJ 07095.
GILBERT F. CASELLAS--Director since 1998 (current term expires April, 2003).
Member, Compensation Committee. President, The Swarthmore Group, Inc. since
1999. Partner, McConnell Valdes, LLP in 1998. Chairman, U.S. Equal Employment
Opportunity Commission from 1994 to 1998. Age 46. Address: 1646 West Chester
Pike, Suite 3, West Chester, PA 19382.
JAMES G. CULLEN--Director since 1994 (current term expires April, 2001). Member,
Compensation Committee; Member, Committee on Business Ethics. President & Chief
Operating Officer, Bell Atlantic Corporation, since 1998. President & Chief
Executive Officer, Telecom Group, Bell Atlantic Corporation, from 1997 to 1998.
Vice Chairman, Bell Atlantic Corporation from 1995 to 1997. President, Bell
Atlantic Corporation from 1993 to 1995. Mr. Cullen is also a director of Bell
Atlantic Corporation and Johnson & Johnson. Age 56. Address: 1310 North Court
House Road, 11th Floor, Alexandria, VA 22201.
CAROLYNE K. DAVIS--Director since 1989 (current term expires April, 2001).
Member, Committee on Business Ethics; Member, Compensation Committee.
Independent Health Care Advisor since 1997. National and International Health
Care Advisor, Ernst & Young, LLP from 1985 to 1997. Dr. Davis is also a director
of Beckman Coulter Instruments, Inc., Merck & Co., Inc., Minimed Incorporated,
and Beverley Enterprises. Age 67. Address: 751 Broad Street, 23rd Floor, Newark,
NJ 07102.
ROGER A. ENRICO--Director since 1994 (current term expires April, 2002). Member,
Committees on Nominations & Corporate Governance; Member, Compensation
Committee. Chairman and Chief Executive Officer, PepsiCo, Inc. since 1996. Mr.
Enrico originally joined PepsiCo, Inc. in 1971. Mr. Enrico is also a director of
A.H. Belo Corporation and Dayton Hudson Corporation. Age 54. Address: 700
Anderson Hill Road, Purchase, NY 10577.
ALLAN D. GILMOUR--Director since 1995 (current term expires April, 2003).
Member, Investment Committee; Member, Committee on Finance & Dividends. Retired
since 1995. Vice Chairman, Ford Motor Company, from 1993 to 1995. Mr. Gilmour
originally joined Ford in 1960. Mr. Gilmour is also a director of Whirlpool
Corporation, MeidiaOne Group, Inc., AP Automotive Systems, Inc., The Dow
Chemical Company and DTE Energy Company. Age 64. Address: 751 Broad Street, 23rd
Floor, Newark, NJ 07102.
WILLIAM H. GRAY, III--Director since 1991 (current term expires April, 2000).
Chairman, Committees on Nominations & Corporate Governance. Member, Executive
Committee; Member, Committee on Business Ethics. President and Chief Executive
Officer, The College Fund/UNCF since 1991. Mr. Gray served in Congress from 1979
to 1991. Mr. Gray is also a director of Chase Manhattan Corporation, Municipal
Bond Investors Assurance Corporation, Rockwell International Corporation,
Union-Pacific Corporation, Warner-Lambert Company, CBS Corporation, and
Electronic Data Systems. Age 57. Address: 8260 Willow Oaks Corp. Drive, Fairfax,
VA 22031-4511.
JON F. HANSON--Director since 1991 (current term expires April, 2003). Member,
Investment Committee; Member, Committee on Business Ethics. Chairman, Hampshire
Management Company since 1976. Mr. Hanson is also a director of James E. Hanson
Management Company, Neumann Distributors, Inc., Fleet Trust and Investment
Services Company,
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N.A., United Water Resources, Orange & Rockland Utilities, Inc., and
Consolidated Delivery and Logistics. Age 62. Address: 235 Moore Street, Suite
200, Hackensack, NJ 07601.
GLEN H. HINER, JR.--Director since 1997 (current term expires April, 2001).
Member, Compensation Committee. Chairman and Chief Executive Officer, Owens
Corning since 1991. Senior Vice President and Group Executive, Plastics Group,
General Electric Company from 1983 to 1991. Mr. Hiner is also a director of Dana
Corporation and Owens Corning. Age 64. Address: One Owens Corning Parkway,
Toledo, OH 43659.
CONSTANCE J. HORNER--Director since 1994 (current term expires April, 2002).
Member, Auditing Committee; Member, Committees on Nominations & Corporate
Governance. Guest Scholar, The Brookings Institution since 1993. Ms. Horner is
also a director of Foster Wheeler Corporation, Ingersoll-Rand Company, and
Pfizer, Inc. Age 56. Address: 1775 Massachusetts Ave., N.W. Washington, D.C.
20036-2188.
GAYNOR N. KELLEY--Director since 1997 (current term expires April, 2001).
Member, Auditing Committee. Retired since 1996. Chairman and Chief Executive
Officer, The Perkin Elmer Corporation from 1990 to 1996. Mr. Kelley is also a
director of Hercules Incorporated, and Alliant Techsystems. Age 67. Address: 751
Broad Street, 23rd Floor, Newark, NJ 07102-3777.
BURTON G. MALKIEL--Director since 1978 (current term expires April, 2002).
Chairman, Investment Committee; Member, Executive Committee; Member, Committee
on Finance & Dividends. Professor of Economics, Princeton University, since
1988. Dr. Malkiel is also a director of Banco Bilbao Vizcaya, Baker Fentress &
Company, The Jeffrey Company, The Southern New England Telecommunications
Company, and Vanguard Group, Inc. Age 66. Address: Princeton University, 110
Fisher Hall, Prospect Avenue, Princeton, NJ 08544-1021.
ARTHUR F. RYAN--Chairman of the Board, President and Chief Executive Officer of
Prudential since 1994. President and Chief Operating Officer, Chase Manhattan
Bank from 1990 to 1994, with Chase since 1972. Age 56. Address: 751 Broad
Street, Newark, NJ 07102.
IDA F.S. SCHMERTZ--Director since 1997 (current term expires April, 2004).
Member, Audit Committee. Principal, Investment Strategies International since
1994. Age 64. Address: 751 Broad Street, 23rd Floor, Newark, NJ 07102.
CHARLES R. SITTER--Director since 1995 (current term expires April, 2003).
Member, Committee on Finance & Dividend; Member, Investment Committee. Retired
since 1996. President, Exxon Corporation from 1993 to 1996. Mr. Sitter began his
career with Exxon in 1957. Age 68. Address: 5959 Las Colinas Boulevard, Irving,
TX 75039-2298.
DONALD L. STAHELI--Director since 1995 (current term expires April, 2003).
Member, Compensation Committee; Member, Auditing Committee. Retired since 1996.
Chairman and Chief Executive Officer, Continental Grain Company from 1994 to
1997. President and Chief Executive Officer, Continental Grain Company from 1988
to 1994. Mr. Staheli is also director of Bankers Trust Company, Conti-Financial
Corporation and Continental Grain Company. Age 67 Address: 39 Locust Street,
Suite 204, New Canaan, CT 06840.
RICHARD M. THOMSON--Director since 1976 (current term expires April, 2000).
Chairman, Executive Committee; Chairman, Compensation Committee. Retired since
1998. Chairman of the Board, The Toronto-Dominion Bank from 1997 to 1998.
Chairman and Chief Executive Officer from 1978 to 1997. Mr. Thomson is also a
director of CGC, Inc., INCO, Limited, S.C. Johnson & Son, Inc., The Thomson
Corporation, Canadian Occidental Petroleum, Ltd., The Toronto-Dominion Bank and
Ontario Hydro. Age 64. Address: P.O. Box 1, Toronto-Dominion Centre, Toronto,
Ontario, M5K 1A2, Canada.
JAMES A. UNRUH--Director since 1996 (current term expires April, 2000). Member,
Committees on Nominations & Corporate Governance; Member, Investment Committee.
Retired since 1997. Chairman and Chief Executive Officer, Unisys Corporation,
from 1990 to 1997. Mr. Unruh is also a director of Ameritech Corporation and
Moss Micro. Age 57. Address: 751 Broad Street, Newark, NJ 07102-3777
P. ROY VAGELOS, M.D.--Director since 1989 (current term expires April, 2001).
Chairman, Auditing Committee; Member, Executive Committee; Member, Committees on
Nominations & Corporate Governance. Chairman, Regeneron Pharmaceuticals since
1995. Chairman, Advanced Medicines, Inc. since 1997. Chairman, Chief Executive
Officer and President, Merck & Co., Inc. from 1986 to 1995, Dr. Vagelos
originally joined Merck in 1975 Dr. Vagelos is also a director
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<PAGE> 48
of The Estee Lauder Companies, Inc. and PepsiCo., Inc. Age 69. Address: One
Crossroads Drive, Building A, 3rd Floor, Bedminster, NJ 07921.
STANLEY C. VAN NESS--Director since 1990 (current term expires April, 2002).
Chairman, Committee on Business Ethics; Member, Executive Committee; Member,
Auditing Committee. Partner, Herbert, Van Ness, Cayci & Goodell (law firm) since
1998. Counselor at Law, Picco Herbert Kennedy (law firm) from 1990 to 1998. Mr.
Van Ness is also a director of Jersey Central Power & Light Company.
Age 64. Address: 22 Chambers Street, Princeton, NJ 08542.
PAUL A. VOLCKER--Director since 1988 (current term expires April, 2000).
Chairman, Committee on Finance & Dividends; Member, Executive Committee; Member,
Committee on Nominations & Corporate Governance. Consultant since 1997.
Chairman, Wolfensohn & Co., Inc. 1988 to 1996 Chairman, James D. Wolfensohn,
Inc. 1988 to 1996. Chief Executive Officer, James D. Wolfensohn, Inc. from 1995
to 1996. Mr. Volcker is also a director Nestle, S.A., and Bankers Trust New York
Corporation as well as a Director of the Board of Overseers of TIAA-CREF. Age
71, Address: 610 Fifth Avenue, Suite 420, New York, NY 10020.
JOSEPH H. WILLIAMS--Director since 1994 (current term expires April, 2002).
Member, Committee on Finance & Dividends; Member, Investment Committee.
Director, The Williams Companies since 1979. Chairman & Chief Executive Officer,
The Williams Companies from 1979 to 1993. Mr. Williams is also a director of The
Orvis Company, MTC Investors, LLC., and AEA Investors, Inc. Age 65. Address:
One Williams Center, Tulsa, OK 74102.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
PRINCIPAL OFFICERS
ARTHUR F. RYAN--Chairman of the Board, President and Chief Executive Officer
since 1994; prior to 1994, President and Chief Operating Officer, Chase
Manhattan Corporation. Age 56.
E. MICHAEL CAULFIELD--Executive Vice President, Financial Management since 1998;
Chief Executive Officer, Prudential Investments from 1995 to 1998; Chief
Executive Officer, Money Management Group in 1995; prior to 1995, President,
Prudential Preferred Financial Services. Age 52.
MICHELE S. DARLING--Executive Vice President, Human Resources since 1997; prior
to 1997, Executive Vice President, Canadian Imperial Bank of Commerce. Age 45.
ROBERT C. GOLDEN--Executive Vice President, Operations and Systems since 1997;
prior to 1997, Executive Vice President, Prudential Securities,. Age 53.
MARK B. GRIER--Executive Vice President, Corporate Governance, since 1998;
Executive Vice President, Financial Management from 1997 to 1998; Chief
Financial Officer from 1995 to 1997; prior to 1995, Executive Vice President,
Chase Manhattan Corporation. Age 46.
JEAN D. HAMILTON--Executive Vice President, Institutional, since 1998;
President, Diversified Group since 1995 to 1998; prior to 1995, President,
Prudential Capital Group. Age 52.
RODGER A. LAWSON--Executive Vice President, International Investments & Global
Marketing, since 1998; Executive Vice President, Marketing and Planning from
1996 to 1998; President and CEO, Van Eck Global, from 1994 to 1996; prior to
1994, President and CEO, Global Private Banking, Bankers Trust Company. Age 52.
KIYOFUMI SAKAGUCHI--Executive Vice President, International Insurance, since
1998; President, International Insurance Group from 1995 to 1998; prior to 1995,
Chairman and CEO, The Prudential Life Insurance Co., Ltd. Age 56.
JOHN V. SCICUTELLA--Executive Vice President, Individual Financial Services,
since 1998; Chief Executive Officer, Individual Insurance Group from 1997 to
1998; Executive Vice President Operations and Systems from 1995 to 1997; prior
to 1995, Executive Vice President, Chase Manhattan Corporation. Age 49.
JOHN R. STRANGFELD--Executive Vice President, Global Asset Management, since
1998; Chief Executive Officer, Private Asset Management Group (PAMG) from 1996
to 1998; President, PAMG, from 1994 to 1996; prior to 1994, Senior Managing
Director. Age 45.
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<PAGE> 49
JAMES J. AVERY, JR.--Senior Vice President & Chief Actuary, Individual Insurance
Group since 1997; President Prudential Select from 1996 to 1997; prior to 1995,
Executive Vice President and Chief Operating Officer, Prudential Select. Age 47.
MARTIN A. BERKOWITZ--Senior Vice President, Financial Management, since 1998;
Senior Vice President and Comptroller from 1995 to 1998; prior to 1995, Senior
Vice President and CFO, Prudential Investment Corporation. Age 50.
WILLIAM M. BETHKE--Senior Vice President and Chief Investment Officer since
1997; prior to 1997, President, Capital Management Group. Age 51.
ANNE E. BOSSI--Senior Vice President, Institutional, since 1998; President,
Group Life & Disability 1997 to 1998; President, Group Life Insurance 1995 to
1997; prior to 1995, President, Northeastern Group Operations. Age 47
RICHARD J. CARBONE--Senior Vice President and Chief Financial Officer since
1997. Controller, Salomon Brothers from 1995 to 1997; prior to 1995, Controller,
Bankers Trust. Age 51.
THOMAS J. CARROLL-- Senior Vice President and Chief Auditor since 1999. Managing
Director, Bankers Trust Company from 1996 to 1998; prior to 1996, Global Chief
Auditor and Managing Director, Credit Suisse First Boston. Age 57.
THOMAS W. CRAWFORD--Senior Vice President, Individual Financial Services, since
1998; President and Chief Executive Officer, Prudential Property & Casualty
Company from 1996 to 1998; Vice President, Prudential Property & Casualty
Company in 1996; prior to 1996, President & CEO, Southern Heritage Insurance
Company. Age 55.
WILLIAM D. FRIEL--Senior Vice President and Chief Information Officer since
1996; prior to 1996, Chief Executive Officer, Prudential Service Company. Age
60.
MICHAEL J. HINES--Senior Vice President, Marketing and Communications, since
1999; 1996 to 1998 Vice President, Marketing and Communications. Age 47.
RONALD P. JOELSON--Senior Vice President, Financial Management, since 1999.
Senior Vice President, Guaranteed Products from 1996 to 1999; Vice President,
Guaranteed Investments during 1996; prior to 1996, Managing Director, Retirement
Services. Age 40.
IRA J. KLEINMAN--Senior Vice President, International Insurance, since 1997;
prior to 1997, Chief Marketing & Product Development Officer. Age 51.
KATHLEEN KRALL--Senior Vice President, Individual Financial Services, since
1999; Vice President, Individual Financial Services from 1996 to 1999; Vice
President, Operations and Systems from 1995 to 1996; prior to 1995 Vice
President, Chase Manhattan Bank. Age 41.
JOYCE R. LEIBOWITZ--Senior Vice President, Management Internal Controls, since
1999; Vice President, Management Internal Controls from 1995 to 1999; prior to
1995 Integrated Control Officer. Age 51.
JOHN M. LIFTIN--Senior Vice President and General Counsel since 1998;
Self-employed from 1997 to 1998; prior to 1997 Senior Vice President and General
Counsel, Kidder & Peabody Group, Inc. Age 55.
NEIL A. MCGUINNESS--Senior Vice President, Individual Financial Services, since
1996; Director, Putnam Investments, in 1996; prior to 1996, President, Fidelity
Investment Employer Services Company. Age 52.
PRISCILLA A. MYERS--Senior Vice President, Demutualization, since 1998; Senior
Vice President and Auditor from 1995 to 1998; prior to 1995, Vice President and
Auditor. Age 48.
I. EDWARD PRICE--Senior Vice President, Individual Financial Services, since
1996; Senior Vice President and Actuary from 1995 to 1996; prior to 1995, Chief
Executive Officer, Prudential International Insurance. Age 56.
ROBERT J. SULLIVAN--Senior Vice President, Individual Financial Services, since
1997; prior to 1997, Managing Director, Fidelity Investments. Age 60.
SUSAN J. BLOUNT--Vice President and Secretary since 1995; prior to 1995,
Assistant General Counsel. Age 41.
C. EDWARD CHAPLIN--Vice President and Treasurer since 1995; prior to 1995,
Managing Director and Assistant Treasurer. Age 41.
18
<PAGE> 50
ANTHONY S. PISZEL--Vice President and Controller since 1998; Vice President,
Enterprise Financial Management from 1997 to 1998; prior to 1997, Chief
Financial Officer, Individual Insurance Group. Age 44.
SALE OF GROUP VARIABLE ANNUITY CONTRACTS
Prudential offers the Contracts on a continuous basis through Corporate Office,
regional home office and group sales office employees in those states in which
the Contracts may be lawfully sold. It may also offer the Contracts through
licensed insurance brokers and agents, or through appropriately registered
direct or indirect subsidiary(ies) of Prudential, provided clearances to do so
are secured in any jurisdiction where such clearances may be necessary or
desirable. During 1998, 1997 and 1996, Prudential received $9,673, $9,628 and
$162,008, respectively, as sales charges in connection with the sale of these
contracts. Prudential credited $91,483, $151,753 and $108,192, respectively to
other broker-dealers in connection with such sales.
EXPERTS
The condensed financial information included in the Prospectus and the financial
statements for VCA 2-2 and Prudential in this Statement of Additional
Information for the three year period ended December 31, 1998 have been audited
by PricewaterhouseCoopers LLP, independent accountants, as stated in their
reports appearing herein. Such financial statements and condensed financial
information have been included in reliance upon the reports of
PricewaterhouseCoopers LLP given upon their authority as experts in accounting
and auditing. The Committee approves the accountant's employment annually.
PricewaterhouseCoopers LLP's business address is 1177 Avenue of the Americas,
New York, NY 10036.
Financial statements for VCA 2 and Prudential, as of December 31, 1998, are
included in this Statement of Additional Information, beginning on the next
page.
19
<PAGE> 51
FINANCIAL HIGHLIGHTS FOR VCA-2
INCOME AND CAPITAL CHANGES PER ACCUMULATION UNIT*
(FOR AN ACCUMULATION UNIT OUTSTANDING THROUGHOUT THE PERIOD)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
- -------------------------------------------------------------------------------------------------------------------------------
1998 1997 1996 1995 1994
- -------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
INVESTMENT INCOME ............................... $ .3414 $ .2633 $ .2056 $ .2000 $ .1896
EXPENSES
For investment management fee ................ (.0325) (.0284) (.0215) (.0170) (.0151)
For assuming mortality and expense risks...... (.0974) (.0850) (.0646) (.0511) (.0453)
- -------------------------------------------------------------------------------------------------------------------------------
NET INVESTMENT INCOME ........................... .2115 .1499 .1195 .1319 .1292
CAPITAL CHANGES
Net realized gain on investments ............. 3.1604 4.7245 2.3368 1.5228 1.0028
Net unrealized appreciation (depreciation)
of investments ............................... (4.3161) 1.3843 1.7641 1.7558 (1.2955)
- -------------------------------------------------------------------------------------------------------------------------------
NET INCREASE (DECREASE) IN ACCUMULATION UNIT VALUE (0.9442) 6.2587 4.2204 3.4105 (.1635)
- -------------------------------------------------------------------------------------------------------------------------------
ACCUMULATION UNIT VALUE
Beginning of year ............................ 25.8828 19.6241 15.4037 11.9932 12.1567
- -------------------------------------------------------------------------------------------------------------------------------
End of year .................................. $24.9386 $25.8828 $19.6241 $15.4037 $11.9932
- -------------------------------------------------------------------------------------------------------------------------------
RATIO OF EXPENSES TO
AVERAGE NET ASSETS** ......................... .50% .50% .50% .50% .50%
- -------------------------------------------------------------------------------------------------------------------------------
RATIO OF NET INVESTMENT INCOME TO
AVERAGE NET ASSETS** ......................... .81% .70% .69% .96% 1.07%
- -------------------------------------------------------------------------------------------------------------------------------
PORTFOLIO TURNOVER RATE ......................... 43% 47% 53% 42% 37%
- -------------------------------------------------------------------------------------------------------------------------------
NUMBER OF ACCUMULATION UNITS OUTSTANDING
for Participants at end of year
(000 omitted) ................................ 26,278 28,643 30,548 31,600 32,624
- -------------------------------------------------------------------------------------------------------------------------------
</TABLE>
*Calculated by accumulating the actual per unit amounts daily.
**These calculations exclude Prudential's equity in VCA-2.
The above table does not reflect the annual administration charge, which does
not affect the Accumulation Unit Value. This charge is made by reducing
Participants' Accumulation Accounts by a number of Accumulation Units equal in
value to the charge.
SEE NOTES TO FINANCIAL STATEMENTS
A-1
<PAGE> 52
FINANCIAL STATEMENTS OF VCA-2
STATEMENT OF NET ASSETS AS OF DECEMBER 31, 1998
<TABLE>
<CAPTION>
COMMON STOCK VALUE
INVESTMENTS SHARES [NOTE 2A]
- ------------------------------------------------------------------------------------
LONGTERM INVESTMENTS - 96.7%
- ------------------------------------------------------------------------------------
<S> <C> <C>
AEROSPACE/DEFENSE -3.0%
Doncasters PLC - (ADR)
(United Kingdom) + 195,100 $3,158,181
Gen Corp. 419,000 10,448,812
Litton Industries, Inc.+ 113,700 7,418,925
----------
21,025,918
- ------------------------------------------------------------------------------------
AUTOS & TRUCKS - 3.4%
Borg-Warner Automotive, Inc. 242,600 13,540,112
Lear Corp.+ 113,700 4,377,450
Tower Automotive, Inc.+ 218,900 5,458,819
----------
23,376,381
- ------------------------------------------------------------------------------------
CHEMICALS - 3.9%
Agrium, Inc. 658,000 5,716,375
Cytec Industries, Inc.+ 429,900 9,135,375
Dow Chemical Co. 65,600 5,965,500
Mississippi Chemical Corp. 436,714 6,113,996
----------
26,931,246
- ------------------------------------------------------------------------------------
COMPUTER RELATED - 0.6%
Electronic Data Systems Corp. 81,300 4,085,325
- ------------------------------------------------------------------------------------
CONSUMER SERVICES - 7.5%
Darden Restaurants 558,100 10,045,800
Hilton Hotels Corp.+ 352,000 6,732,000
Innkeepers USA Trust 422,300 4,988,419
Lodgian, Inc. 492,200 2,399,475
Ogden Corp. 157,300 3,942,331
Reynolds & Reynolds
(Class 'A' Stock) 543,200 12,459,650
RFS Hotel Investors, Inc.+ 329,200 4,032,700
Station Casinos, Inc. 809,100 6,624,506
----------
51,224,881
- ------------------------------------------------------------------------------------
CONTAINERS AND PACKAGING - 1.7%
Alltrista Corp.+ 242,900 5,829,600
Crown Cork & Seal Co., Inc. 80,000 2,465,000
U.S. Can Corp.+ 190,600 3,406,975
----------
11,701,575
- ------------------------------------------------------------------------------------
ELECTRICAL EQUIPMENT - 1.4%
Emcor Group Inc. 316,000 5,095,500
Hussman International Inc. 233,850 4,530,844
----------
9,626,344
- ------------------------------------------------------------------------------------
ELECTRONICS - 2.5%
Marshall Industries+ 218,600 5,355,700
National Semiconductor Corp. 203,100 2,741,850
Pioneer Standard
Electronics, Inc. 477,400 4,475,625
VSLI Technology, Inc. 397,300 4,345,469
----------
16,918,644
- ------------------------------------------------------------------------------------
ENGINERING & CONSTRUCTION - 3.6%
Apogee Enterprises, Inc. 285,800 3,215,250
Cameron Ashley
Building Products + 141,700 1,850,956
Giant Cement Holding, Inc.+ 453,300 11,219,175
Gradall Industries, Inc.+ 387,600 5,571,750
Texas Industries, Inc. 108,900 2,933,494
----------
24,790,625
- ------------------------------------------------------------------------------------
EXPLORATION & PRODUCTION - 4.0%
Atlantic Richfield Co. 105,400 6,877,350
Cabot Oil & Gas Corp. 292,800 4,392,000
Chesapeake Energy Corp. 270,700 236,862
Comstock Resources, Inc. + 468,200 1,433,862
Occidental Petroleum Corp. 225,600 3,807,000
Oryx Energy Co.+ 327,100 4,395,406
Pioneer Natural Resources Co. 406,000 3,552,500
Vintage Petroleum, Inc. 340,400 2,935,950
----------
27,630,930
- ------------------------------------------------------------------------------------
FINANCIAL SERVICES - 6.5%
C.I.T. Corp.
(Class 'A' Stock) 249,600 7,940,400
Citigroup, Inc. 156,699 7,756,601
Financial Security Assurance
Holdings Corp. 171,600 9,309,300
Heller Financial Inc. 192,600 5,657,625
Morgan (J.P.) & Co. 41,300 4,339,081
The PMI Group, Inc. 141,400 6,981,625
Waddell & Reed Financial, Inc.
(Class 'A' Stock 20,516 485,973
Waddell & Reed Financial, Inc. 82,692 1,922,589
----------
44,393,194
- ------------------------------------------------------------------------------------
HEALTHCARE - 3.8%
Columbia HCA Healthcare 160,400 3,969,900
Mallinckrodt, Inc. 157,000 4,837,563
Tenet Healthcare Corp.+ 257,100 6,748,875
United Healthcare Corp. 129,200 5,563,675
Wellpoint Health Networks, Inc. 58,800 5,115,600
----------
26,235,613
- ------------------------------------------------------------------------------------
</TABLE>
SEE NOTES TO FINANCIAL STATEMENTS
A-2
<PAGE> 53
FINANCIAL STATEMENTS OF VCA-2
STATEMENT OF NET ASSETS AS OF DECEMBER 31, 1998
<TABLE>
<CAPTION>
COMMON STOCK VALUE
INVESTMENTS SHARES [NOTE 2A]
- ------------------------------------------------------------------------------------
<S> <C> <C>
HOUSING RELATED - 0.8%
Furniture Brands
International, Inc.+ 206,600 $5,629,850
- ------------------------------------------------------------------------------------
INSURANCE - 9.7%
Berkley (W.R.) Corp. 344,200 11,724,312
MMI Companies, Inc. 395,011 6,616,434
NAC Re Corp. 274,300 12,874,956
Old Republic
International Corp. 287,450 6,467,625
Reinsurance
Group of America 88,650 6,205,500
Torchmark Corp. 227,000 8,015,938
Travelers Property Casualty
(Class 'A' Stock) 151,600 4,699,600
Trenwick Group, Inc. 314,400 10,257,300
----------
66,861,665
- ------------------------------------------------------------------------------------
MACHINERY - 3.5%
Allied Products Corp. 332,650 2,099,853
Applied Power, Inc. 165,700 6,255,175
Columbus McKinnon Corp. 243,700 4,386,600
Denison International,
PLC - (ADR) (United Kingdom) 181,100 2,263,750
Hardinge, Inc. 286,350 5,279,578
New Holland N.V. 259,300 3,549,169
----------
23,834,125
- ------------------------------------------------------------------------------------
MEDIA - 13.2%
Belo (A.H.) Corp.
(Class 'A' Stock) 217,900 4,344,381
CBS Corp.+ 172,600 5,652,650
Century Communications Corp.
(Class 'A' Stock)+ 275,400 8,735,358
Comcast Corp.
(Class 'A' Stock) 160,700 9,230,206
Comcast Corp.
(Class 'A' Stock) Special 240,626 14,121,738
Cox Communication, Inc.+ 50,987 3,524,476
MediaOne Group Inc.+ 378,500 17,789,500
Tele-Communications, Inc.
Liberty Media Group
(Series A)+ 313,350 14,433,684
Time Warner, Inc. 96,600 5,995,238
Viacom, Inc.
(Class B Stock) + 92,800 6,867,200
----------
90,694,431
- ------------------------------------------------------------------------------------
METALS - 2.9%
Alcoa, Inc. 65,600 4,891,300
The Carbide/Graphite Group, Inc.+ 465,100 6,860,225
Cleveland Cliffs, Inc. 138,500 5,583,281
UCAR International, Inc.+ 146,200 2,604,188
----------
19,938,994
- ------------------------------------------------------------------------------------
MISCELLANEOUS-INDUSTRIAL - 9.1%
Crane Co. 310,350 9,368,691
Dexter Corp. 166,100 5,221,769
Global Industrial
Technologies, Inc.+ 460,500 4,921,594
Harsco Corp. 179,900 5,475,706
Pentair, Inc. 100,100 3,985,231
PPG Industries, Inc. 105,600 6,151,200
Regal Beloit Corp. 159,200 3,661,600
United Dominion Industries, Ltd. 361,700 7,369,638
Varian Associates, Inc. 243,000 9,203,625
Wolverine Tube, Inc.+ 341,100 7,163,100
----------
62,522,154
- ------------------------------------------------------------------------------------
PAPER PRODUCTS - 2.5%
Boise Cascade Corp. 109,500 3,394,500
Ennis Business Forms 358,100 3,558,619
Georgia Pacific Corp.
(GP - Group)+ 82,500 4,831,406
Georgia Pacific Corp.
(Timber - Group) + 117,800 2,805,112
Mead Corp 89,900 2,635,194
----------
17,224,831
- ------------------------------------------------------------------------------------
RAILROADS - 1.9%
Burlington Northern Santa Fe 232,200 7,836,750
Varlen Corp. 234,852 5,416,274
----------
13,253,024
- ------------------------------------------------------------------------------------
REGIONAL BANKS - 3.0%
Banc One Corp. 296,977 15,164,388
PNC Bank Corp. 104,700 5,666,888
----------
20,831,276
- ------------------------------------------------------------------------------------
RETAIL - 2.8%
Food Lion, Inc. 364,600 3,873,875
(Class 'A' Stock)
Food Lion, Inc. 133,200 1,340,325
(Class 'B' Stock)
Haverty Furniture, Inc. 379,100 7,961,100
The Limited, Inc. 202,700 5,903,638
----------
19,078,938
- ------------------------------------------------------------------------------------
</TABLE>
SEE NOTES TO FINANCIAL STATEMENTS
A-3
<PAGE> 54
FINANCIAL STATEMENTS OF VCA-2
STATEMENT OF NET ASSETS AS OF DECEMBER 31, 1998
<TABLE>
<CAPTION>
COMMON STOCK VALUE
INVESTMENTS SHARES [NOTE 2A]
- -------------------------------------------------------------------------------------
<S> <C> <C>
SPECIALTY CHEMICALS - 3.7%
Cambrex Corp. 167,900 $4,029,600
Crompton & Knowles Corp. 317,000 6,557,938
Ferro Corp. 245,900 6,393,400
French Fragances, Inc. + 366,500 2,657,125
IMC Global, Inc. 270,400 5,779,800
----------
25,417,863
- -------------------------------------------------------------------------------------
TELECOMMUNICATIONS - 1.7%
Alltel Corp. 190,272 11,380,644
- -------------------------------------------------------------------------------------
TOTAL COMMON STOCKS INVESTMENTS - 96.7%
(Cost: $575,574,440) $664,608,471
- -------------------------------------------------------------------------------------
PREFERRED STOCKS INVESTMENT - 0.1%
Chesapeake Energy Corp.
(Cost: $4,299,058) 86,700 $910,350
- -------------------------------------------------------------------------------------
TOTAL LONG-TERM INVESTMENTS - 96.8%
(Cost: $579,873,498) $665,518,821
- -------------------------------------------------------------------------------------
SHORT-TERM INVESTMENT - 3.2% PRINCIPAL
AMOUNT
- -------------------------------------------------------------------------------------
DISCOUNT NOTE
Federal Home Loan Bank
4.50%, 1/4/99
(Cost: $21,809,090) 21,820,000 $21,809,090
- -------------------------------------------------------------------------------------
TOTAL INVESTMENTS - 100%
(Cost: $601,682,588) 687,327,911
- -------------------------------------------------------------------------------------
OTHER ASSETS, LESS LIABILITIES
Cash 840
Dividends and Interest Receivable 877,819
Receivable for Investments Sold 207,678
Payable for Pending
Capital Transactions (1,184,220)
- -------------------------------------------------------------------------------------
TOTAL LIABILITIES
LESS OTHER ASSETS - 0.0% (97,883)
- -------------------------------------------------------------------------------------
NET ASSETS - 100% $687,230,028
- -------------------------------------------------------------------------------------
NET ASSETS, REPRESENTING:
Equity of Participants
(other than Annuitants)
26,278,350 Accumulation Units at an
Accumulation Unit Value of
$24.9386 $655,346,467
Equity of Annuitants 30,398,372
Equity of Prudential Insurance
Company of America 1,485,189
------------
$687,230,028
- -------------------------------------------------------------------------------------
</TABLE>
The following abbreviations are used in portfolio descriptions:
ADR - American Depository Receipts
N.V. - Naamloze Vennootschap (Dutch Corporation)
PLC - Public Limited Company
+Non - Income Producing Security
SEE NOTES TO FINANCIAL STATEMENTS
A-4
<PAGE> 55
FINANCIAL STATEMENTS OF VCA-2
STATEMENT OF OPERATIONS
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31, 1998
- ---------------------------------------------------------------------------------------------------------------
<S> <C>
INVESTMENT INCOME [NOTE 2B]
Dividends $ 8,831,940
Interest 1,125,472
- ---------------------------------------------------------------------------------------------------------------
TOTAL INCOME 9,957,412
- ---------------------------------------------------------------------------------------------------------------
EXPENSES [NOTE 3]
Fees Charged to Participants and Annuitants for Investment Management Services 928,544
Fees Charged to Participants (other than Annuitants) for Assuming
Mortality and Expense Risks 2,694,391
- ---------------------------------------------------------------------------------------------------------------
TOTAL EXPENSES 3,622,935
- ---------------------------------------------------------------------------------------------------------------
INVESTMENT INCOME - NET 6,334,477
- ---------------------------------------------------------------------------------------------------------------
REALIZED AND UNREALIZED GAIN ON INVESTMENTS - NET [NOTE 2B]
Realized Gain on Investments - Net 93,450,128
Decrease in Unrealized Appreciation on Investments - Net (128,066,902)
- ---------------------------------------------------------------------------------------------------------------
NET LOSS ON INVESTMENTS (34,616,774)
- ---------------------------------------------------------------------------------------------------------------
NET DECREASE IN NET ASSETS RESULTING FROM OPERATIONS $(28,282,297)
===============================================================================================================
</TABLE>
STATEMENTS OF CHANGES IN NET ASSETS
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31, 1998 DECEMBER 31, 1997
- ---------------------------------------------------------------------------------------------------------------
<S> <C> <C>
OPERATIONS
Investment Income - Net $ 6,334,477 $ 4,884,485
Realized Gain on Investments - Net [Note 2B] 93,450,128 147,369,906
Increase/Decrease In Unrealized
Appreciation on Investments - Net [Note 2B] (128,066,902) 43,649,467
- ---------------------------------------------------------------------------------------------------------------
NET INCREASE/DECREASE IN NET ASSETS RESULTING FROM OPERATIONS (28,282,297) 195,903,858
- ---------------------------------------------------------------------------------------------------------------
CAPITAL TRANSACTIONS [NOTES 3 & 5]
Purchase Payments and Transfers In 25,857,801 37,581,652
Withdrawals and Transfers Out (85,141,729) (80,261,096)
Annual Administration Charges Deducted from
Participants' Accumulation Accounts (26,134) (28,266)
Mortality and Expense Risk Charges Deducted
from Annuitants' Accounts (91,240) (123,028)
Variable Annuity Payments (4,762,987) (4,174,661)
- ---------------------------------------------------------------------------------------------------------------
NET INCREASE/DECREASE IN NET ASSETS
RESULTING FROM CAPITAL TRANSACTIONS (64,164,292) (47,005,399)
- ---------------------------------------------------------------------------------------------------------------
NET INCREASE/DECREASE IN NET ASSETS
RESULTING FROM SURPLUS TRANSFERS [NOTE 6] (4,176,839) 78,656
- ---------------------------------------------------------------------------------------------------------------
TOTAL INCREASE/DECREASE IN NET ASSETS (96,623,428) 148,977,115
NET ASSETS
Beginning of Year 783,853,456 634,876,341
- ---------------------------------------------------------------------------------------------------------------
End of Year $687,230,028 $783,853,456
===============================================================================================================
</TABLE>
SEE NOTES TO FINANCIAL STATEMENTS
A-5
<PAGE> 56
NOTES TO FINANCIAL STATEMENTS OF VCA-2
- -------------------------------------------------------------------------------
NOTE 1: GENERAL
The Prudential Variable Contract Account-2 (VCA-2 or the Account) was
established on January 9, 1968 by The Prudential Insurance Company of America
(Prudential) under the laws of the State of New Jersey and is registered as an
open-end, diversified management investment company under the Investment
Company Act of 1940, as amended. VCA-2 has been designed for use by public
school systems and certain tax-exempt organizations to provide for the purchase
and payment of tax-deferred variable annuities. Its investments are composed
primarily of common stocks. All contractual and other obligations arising under
contracts participating in VCA-2 (Contracts) are general obligations of
Prudential, although Participants' payments from the Account will depend upon
the investment experience of the Account.
NOTE 2: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A. SECURITIES VALUATION
EQUITY SECURITIES
Any security for which the primary market is on an exchange is generally valued
at the last sale price on such exchange as of the close of the NYSE (which is
currently 4:00 p.m. Eastern time) or, in the absence of recorded sales, at the
mean between the most recently quoted bid and asked prices. Nasdaq National
Market System equity securities are valued at the last sale price or, if there
was no sale on such day, at the mean between the most recently quoted bid and
asked prices. Other over-the-counter equity securities are valued at the mean
between the most recently quoted bid and asked prices. Portfolio securities for
which market quotations are not readily available will be valued at fair value
as determined in good faith under the direction of the Account's Pricing
Committee.
FIXED INCOME SECURITIES
Fixed income securities will be valued utilizing an independent pricing service
to determine valuations for normal institutional size trading units of
securities. The pricing service considers such factors as security prices,
yields, maturities, call features, ratings and developments relating to
specific securities in arriving at securities valuations. Convertible debt
securities that are actively traded in the over-the-counter market, including
listed securities for which the primary market is believed to be
over-the-counter, are valued at the mean between the most recently quoted bid
and asked prices provided by an independent pricing service.
SHORT-TERM INVESTMENTS
Short-term investments having maturities of 60 days or less are valued at
amortized cost which approximates market value. Amortized cost is computed
using the cost on the date of purchase, adjusted for constant accrual of
discount or amortization of premium to maturity.
B. SECURITIES TRANSACTIONS AND INVESTMENT INCOME
Securities transactions are recorded on the trade date. Realized gains and
losses on sales of securities are calculated on the identified cost basis.
Dividend income is recorded on the ex-dividend date and interest income is
recorded on the accrual basis. Income and realized and unrealized gains and
losses are allocated to the Participants and Prudential on a daily basis in
proportion to their respective ownership in VCA-2. Expenses are recorded on the
accrual basis which may require the use of certain estimates by management.
A-6
<PAGE> 57
NOTES TO FINANCIAL STATEMENTS OF VCA-2
- -------------------------------------------------------------------------------
C. TAXES
The operations of VCA-2 are part of, and are taxed with, the operations of
Prudential. Under the current provisions of the Internal Revenue Code,
Prudential does not expect to incur federal income taxes on earnings of VCA-2 to
the extent the earnings are credited under the Contracts. As a result, the Unit
Value of VCA-2 has not been reduced by federal income taxes.
D. EQUITY OF ANNUITANTS
Reserves are computed for purchased annuities using the Prudential 1950 Group
Annuity Valuation (GAV) Table, adjusted, and a valuation interest rate related
to the Assumed Investment Result (AIR). The valuation interest rate is equal to
the AIR less .5% which is a charge defined in Note 3A. The AIRs are selected by
each Contract-holder and are described in the prospectus.
NOTE 3: CHARGES
A. Prudential acts as investment manager for VCA-2 under an agreement for
Investment Management Services. The expenses charged to VCA-2 consist of the
following contract charges which are paid to Prudential:
(i) An investment management fee is calculated daily at an effective annual
rate of 0.125% of the current value of the accounts of Participants (other than
Annuitants and Prudential). An equivalent charge is made monthly in determining
the amount of Annuitants' payments.
(ii) A daily charge for assuming mortality and expense risks is calculated at
an effective annual rate of 0.375% of the current value of the accounts of
Participants (other than Annuitants and Prudential). A one-time equivalent
charge is deducted when the initial Annuity Units for Annuitants are
determined.
B. An annual administration charge of not more than $30 annually, is deducted
from the accumulation account of certain Participants either at the time of
withdrawal of the value of the entire Participant's account or at the end of
the accounting year by canceling Accumulation Units. This deduction may be made
from a fixed-dollar annuity contract if the Participant is enrolled under such
a contract.
C. A charge of 2.5% for sales and other marketing expenses is made from certain
Participant's purchase payments. For the year ended December 31, 1998,
Prudential has advised the Account it has received $9,673 for such charges.
NOTE 4: PURCHASES AND SALES OF PORTFOLIO SECURITIES
For the year ended December 31, 1998, the aggregate cost of purchases and the
proceeds from sales of securities, excluding short-term investments, were
$323,324,521 and $391,496,636 respectively.
A-7
<PAGE> 58
NOTES TO FINANCIAL STATEMENTS OF VCA-2 (UNAUDITED)
- -------------------------------------------------------------------------------
NOTE 5: UNIT TRANSACTIONS
The number of Accumulation Units issued and redeemed for the years
ended December 31, 1998 and December 31, 1997 is as follows:
<TABLE>
<CAPTION>
1998 1997
- ----------------------------------------------------
<S> <C> <C>
Units issued 1,824,158 4,486,054
- ----------------------------------------------------
Units redeemed 4,188,962 6,391,015
====================================================
</TABLE>
NOTE 6: NET DECREASE IN NET ASSETS RESULTING FROM SURPLUS TRANSFERS
The decrease in net assets resulting from surplus transfers represents the net
reductions from the equity of Prudential from VCA-2.
NOTE 7: RELATED PARTY TRANSACTIONS
For the year ended December 31, 1998 Prudential Securities Incorporated, an
indirect, wholly owned subsidiary of Prudential, earned $15,138 in brokerage
commissions from portfolio transactions executed on behalf of VCA-2.
NOTE 8: PARTICIPANT LOANS
Participant loan initiations are not permitted in VCA-2. However, participants
who initiated loans in other accounts are permitted to direct loan repayments
into VCA-2.
For the years ended December 31, 1998 and December 31,1997, $36,727 and $18,529
of participant loan principal and interest has been paid to VCA-2,
respectively.
This report is for the information of persons participating in The Prudential
Variable Contract Account-2 (VCA-2, Long Term Growth Account, or the Account).
It is not authorized for distribution to prospective investors unless preceded
or accompanied by a current prospectus for VCA-2. Prudential Investment
Management Services LLC, Distributor, is an affiliate of The Prudential
Insurance Company of America. VCA-2 is a group annuity insurance product issued
by The Prudential Insurance Company of America.
A-8
<PAGE> 59
REPORT OF INDEPENDENT ACCOUNTANTS
To the Committee and Participants
of The Prudential Variable Contract Account - 2
of The Prudential Insurance Company of America
In our opinion, the accompanying statement of net assets, and the related
statements of operations and of changes in net assets and the financial
highlights present fairly, in all material respects, the financial position of
The Prudential Variable Contract Account - 2 of The Prudential Insurance
Company of America (the "Account") at December 31, 1998, the results of its
operations for the year then ended, the changes in its net assets for each of
the two years in the period then ended and the financial highlights for each of
the three years in the period then in conformity with generally accepted
accounting principles. These financial statements and financial highlights
(hereafter referred to as "financial statements") are the responsibility of the
Account's management; our responsibility is to express an opinion on these
financial statements based on our audits. We conducted our audits of these
financial 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, which included
confirmation of securities at December 31, 1998 by correspondence with the
custodian, provide a reasonable basis for the opinion expressed above. The
accompanying financial highlights for each of the two years in the period ended
in December 31, 1995 were audited by the other independent accountants, whose
opinion dated February 15, 1996 was unqualified.
PriceWaterhouse LLP
New York, New York
February 25, 1999
A-9
<PAGE> 60
THE PRUDENTIAL INSURANCE
COMPANY OF AMERICA
CONSOLIDATED FINANCIAL STATEMENTS AND
REPORT OF INDEPENDENT ACCOUNTANTS
DECEMBER 31, 1998 AND 1997
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Policyholders of
The Prudential Insurance Company of America
In our opinion, the accompanying consolidated statements of financial position
and the related consolidated statements of operations, of changes in equity and
of cash flows present fairly, in all material respects, the financial position
of The Prudential Insurance Company of America 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.
/s/ PricewaterhouseCoopers LLP
New York, New York
February 26, 1999
2
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
CONSOLIDATED STATEMENTS OF FINANCIAL POSITION
DECEMBER 31, 1998 AND 1997 (IN MILLIONS)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
ASSETS
Fixed maturities:
Available for sale, at fair value (amortized cost, 1998: $76,997; 1997: $71,496) $ 80,158 $ 75,270
Held to maturity, at amortized cost (fair value, 1998: $17,906; 1997: $19,894) 16,848 18,700
Trading account assets, at fair value 8,888 6,347
Equity securities, available for sale, at fair value (cost, 1998: $2,583; 1997: $2,376) 2,759 2,810
Mortgage loans on real estate 16,495 16,004
Investment real estate 801 1,519
Policy loans 7,476 7,034
Securities purchased under agreements to resell 10,252 8,661
Cash collateral for borrowed securities 5,622 5,047
Other long-term investments 2,658 2,489
Short-term investments 9,781 12,106
--------- ---------
Total investments 161,738 155,987
Cash 1,943 1,859
Accrued investment income 1,795 1,909
Broker-dealer related receivables 10,142 8,442
Deferred policy acquisition costs 6,462 6,083
Other assets 15,721 11,452
Separate Account assets 81,621 73,839
--------- ---------
TOTAL ASSETS $ 279,422 $ 259,571
========= =========
LIABILITIES AND EQUITY
LIABILITIES
Future policy benefits $ 69,129 $ 67,367
Policyholders' account balances 30,974 33,246
Unpaid claims and claim adjustment expenses 3,860 4,864
Policyholders' dividends 1,444 1,269
Securities sold under agreements to repurchase 21,486 12,347
Cash collateral for loaned securities 7,132 14,117
Income taxes payable 785 500
Broker-dealer related payables 6,530 3,338
Securities sold but not yet purchased 5,771 3,648
Other liabilities 16,169 14,659
Short-term debt 10,082 6,774
Long-term debt 4,734 4,273
Separate Account liabilities 80,931 73,451
--------- ---------
Total liabilities 259,027 239,853
--------- ---------
COMMITMENTS AND CONTINGENCIES (SEE NOTE 16)
EQUITY
Accumulated other comprehensive income 1,232 1,661
Retained earnings 19,163 18,057
--------- ---------
Total equity 20,395 19,718
--------- ---------
TOTAL LIABILITIES AND EQUITY $ 279,422 $ 259,571
========= =========
</TABLE>
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
3
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (IN MILLIONS)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
REVENUES
Premiums $ 9,024 $ 9,005 $ 9,999
Policy charges and fee income 1,462 1,434 1,490
Net investment income 9,520 9,456 9,461
Realized investment gains, net 2,630 2,168 1,128
Commissions and other income 4,451 4,481 4,512
-------- -------- --------
Total revenues 27,087 26,544 26,590
-------- -------- --------
BENEFITS AND EXPENSES
Policyholders' benefits 9,976 10,076 11,094
Interest credited to policyholders' account balances 1,806 2,044 2,251
Dividends to policyholders 2,478 2,422 2,339
General and administrative expenses 9,720 8,992 8,956
Sales practices remedies 510 1,640 410
-------- -------- --------
Total benefits and expenses 24,490 25,174 25,050
-------- -------- --------
INCOME FROM CONTINUING OPERATIONS BEFORE INCOME TAXES 2,597 1,370 1,540
-------- -------- --------
Income taxes
Current 1,185 101 556
Deferred (215) 306 (376)
-------- -------- --------
970 407 180
-------- -------- --------
INCOME FROM CONTINUING OPERATIONS 1,627 963 1,360
-------- -------- --------
DISCONTINUED OPERATIONS
Loss from Healthcare operations, net of taxes (298) (353) (282)
Loss on disposal of Healthcare operations, net of taxes (223) -- --
-------- -------- --------
Net loss from discontinued operations (521) (353) (282)
-------- -------- --------
NET INCOME $ 1,106 $ 610 $ 1,078
======== ======== ========
</TABLE>
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
4
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY
YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (IN MILLIONS)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
ACCUMULATED OTHER COMPREHENSIVE INCOME
------------------------------------------------------
FOREIGN NET TOTAL
CURRENCY UNREALIZED PENSION ACCUMULATED OTHER
TRANSLATION INVESTMENT LIABILITY COMPREHENSIVE RETAINED TOTAL
ADJUSTMENTS GAINS ADJUSTMENT INCOME EARNINGS EQUITY
-------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
BALANCE, JANUARY 1, 1996 $ (24) $ 2,397 $ -- $ 2,373 $ 16,369 $ 18,742
Comprehensive income (loss):
Net income 1,078 1,078
Other comprehensive income (loss), net of tax:
Change in foreign currency translation
adjustments (32) (32) (32)
Change in net unrealized investment gains (1,261) (1,261) (1,261)
Additional pension liability adjustment (4) (4) (4)
--------
Other comprehensive income (loss) (1,297)
--------
Total comprehensive income (loss) (219)
-----------------------------------------------------------------------------
BALANCE, DECEMBER 31, 1996 (56) 1,136 (4) 1,076 17,447 18,523
Comprehensive income:
Net income 610 610
Other comprehensive income (loss), net of tax:
Change in foreign currency translation
adjustments (29) (29) (29)
Change in net unrealized investment gains 616 616 616
Additional pension liability adjustment (2) (2) (2)
--------
Other comprehensive income 585
--------
Total comprehensive income 1,195
-----------------------------------------------------------------------------
BALANCE, DECEMBER 31, 1997 (85) 1,752 (6) 1,661 18,057 19,718
Comprehensive income:
Net income 1,106 1,106
Other comprehensive income, net of tax:
Change in foreign currency translation
adjustments 54 54 54
Change in net unrealized investment gains (480) (480) (480)
Additional pension liability adjustment (3) (3) (3)
--------
Other comprehensive income (429)
--------
Total comprehensive income 677
-----------------------------------------------------------------------------
BALANCE, DECEMBER 31, 1998 $ (31) $ 1,272 $ (9) $ 1,232 $ 19,163 $ 20,395
=============================================================================
</TABLE>
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
5
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (IN MILLIONS)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 1,106 $ 610 $ 1,078
Adjustments to reconcile net income to
net cash provided by operating activities:
Realized investment gains, net (2,660) (2,209) (1,138)
Policy charges and fee income (135) (258) (208)
Interest credited to policyholders' account balances 1,806 2,044 2,251
Depreciation and amortization 305 258 266
Loss (gain) on disposal of businesses 223 -- (116)
Change in:
Deferred policy acquisition costs (165) (142) (122)
Future policy benefits and other insurance liabilities 584 2,762 2,471
Securities purchased under agreements to resell (1,591) (3,314) (217)
Trading account assets (2,540) (1,825) (433)
Income taxes receivable/payable 594 (1,391) (937)
Cash collateral for borrowed securities (575) (2,631) (332)
Cash collateral for securities loaned (net) (6,985) 5,668 2,891
Broker-dealer related receivables/payables 1,495 (672) (607)
Securities sold but not yet purchased 2,122 1,633 251
Securities sold under agreements to repurchase 9,139 4,844 (490)
Other, net (5,168) 4,142 (1,334)
--------- --------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES (2,445) 9,519 3,274
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from the sale/maturity of:
Fixed maturities, available for sale 123,151 123,550 123,368
Fixed maturities, held to maturity 4,466 4,042 4,268
Equity securities, available for sale 2,792 2,572 2,162
Mortgage loans on real estate 4,839 4,299 5,731
Investment real estate 1,364 1,842 615
Other long-term investments 1,848 5,081 3,203
Disposal of businesses -- -- 52
Payments for the purchase of:
Fixed maturities, available for sale (126,742) (129,854) (125,093)
Fixed maturities, held to maturity (2,244) (2,317) (2,844)
Equity securities, available for sale (2,547) (2,461) (2,384)
Mortgage loans on real estate (4,885) (3,363) (1,906)
Investment real estate (31) (241) (142)
Other long-term investments (1,415) (4,148) (2,060)
Short-term investments (net) 2,145 (2,848) (1,915)
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES 2,741 (3,846) 3,055
--------- --------- ---------
</TABLE>
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
6
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (IN MILLIONS)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
CASH FLOWS FROM FINANCING ACTIVITIES:
Policyholders' account deposits 6,955 5,020 2,676
Policyholders' account withdrawals (11,111) (9,873) (8,099)
Net increase in short-term debt 2,422 305 583
Proceeds from the issuance of long-term debt 1,940 324 93
Repayments of long-term debt (418) (464) (1,306)
-------- -------- --------
CASH FLOWS USED IN FINANCING ACTIVITIES (212) (4,688) (6,053)
-------- -------- --------
NET INCREASE IN CASH 84 985 276
CASH, BEGINNING OF YEAR 1,859 874 598
-------- -------- --------
CASH, END OF YEAR $ 1,943 $ 1,859 $ 874
======== ======== ========
SUPPLEMENTAL CASH FLOW INFORMATION:
Income taxes paid $ 163 $ 968 $ 793
-------- -------- --------
Interest paid $ 864 $ 708 $ 595
-------- -------- --------
</TABLE>
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
7
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
1. BUSINESS
The Prudential Insurance Company of America and its subsidiaries
(collectively, "the Company") provide financial services throughout the
United States and several locations worldwide. The Company's businesses
provide a full range of insurance, investment, securities brokerage and
other financial products and services to both retail consumers and
institutions. Principal products and services provided include life
insurance, property and casualty insurance, annuities, mutual funds,
pension and retirement related investments and administration, asset
management, and securities brokerage.
DEMUTUALIZATION
On February 10, 1998, the Company's Board of Directors authorized
management to take the preliminary steps necessary to allow the Company to
demutualize and become a publicly traded stock company. 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 voters and regulatory approval. There can be no assurance that
the Company will demutualize or, if it does so, when demutualization will
occur.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The consolidated financial statements include the accounts of The
Prudential Insurance Company of America, a mutual life insurance company,
and its consolidated subsidiaries, and those partnerships and joint
ventures in which the Company has a controlling interest. 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
positive intent and ability to hold to maturity are stated at amortized
cost and classified as "held to maturity." The amortized cost of fixed
maturities are written down to estimated fair value when a decline in value
is considered to be other than temporary. Unrealized gains and losses on
fixed maturities "available for sale," net of income tax, the effect on
deferred policy acquisition costs and 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."
TRADING ACCOUNT ASSETS AND SECURITIES SOLD BUT NOT YET PURCHASED are
carried at estimated fair value. Realized and unrealized gains and losses
on trading account assets and securities sold but not yet purchased are
included in "Commissions and other income."
EQUITY SECURITIES, available for sale, are comprised of common and
non-redeemable preferred stock and are carried at estimated fair value. The
associated unrealized gains and losses, net of income tax, and the effects
on deferred policy acquisition costs and 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."
8
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
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, for
performing loans collectively evaluated, a portfolio review. The loan
specific review includes consideration of expected future cash flows
relative to outstanding balances. The portfolio review includes
consideration of the composition of the loan portfolio, current economic
conditions, past results, current trends, the estimated aggregate value of
the underlying collateral, and other relevant environmental 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. Impaired loans, identified in management's
specific review of probable loan losses, 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.
INVESTMENT REAL ESTATE to be disposed of is carried at the lower of
depreciated cost or fair value less selling costs and is not depreciated
once classified as such. Real estate which the Company has the intent to
hold for the production of income, is carried at depreciated cost less any
write-downs to fair value for impairment losses and is reviewed for
impairment whenever events or circumstances indicate the carrying value may
not be recoverable. In reviewing recoverability, an impairment loss is
recognized for an other than temporary decline in value to the extent the
reduction in carrying values of investment real estate exceeds estimated
undiscounted future cash flows. Charges relating to real estate to be
disposed of and impairments of real estate held for investment are included
in "Realized investment gains, net." Depreciation on real estate is
computed using the straight-line method over the estimated lives of the
properties.
POLICY LOANS are carried at unpaid principal balances.
SECURITIES PURCHASED UNDER AGREEMENTS TO RESELL AND SECURITIES SOLD UNDER
AGREEMENTS TO REPURCHASE are treated as financing arrangements and are
carried at the amounts at which the securities will be subsequently resold
or 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 or resold is monitored, and additional collateral is requested,
where appropriate, to protect against credit exposure.
SECURITIES BORROWED AND SECURITIES LOANED are treated as financing
arrangements and are recorded at the amount of cash advanced or received.
With respect to securities loaned, the Company obtains collateral in an
amount equal to 102% and 105% of the fair value of the domestic and foreign
securities, respectively. The Company monitors the market value of
securities borrowed and 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 because the debtor typically
has the right to redeem the collateral on short notice. Substantially all
of the Company's securities borrowed contracts are with other brokers and
dealers, commercial banks and institutional clients. Substantially all of
the Company's securities loaned are with large brokerage firms.
9
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Securities repurchase and resale agreements and securities borrowed and
loaned transactions are used to generate net investment income and
facilitate trading activity. These instruments are short-term in nature
(usually 30 days or less) and are collateralized principally by U.S.
Government and mortgage-backed securities. 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.
OTHER LONG-TERM INVESTMENTS primarily represent the Company's investments
in joint ventures and partnerships in which the Company does not have
control and derivatives held for purposes other than trading. Joint venture
and partnership investments are recorded using the equity method of
accounting, reduced for other than temporary declines in value.
SHORT-TERM INVESTMENTS, including highly liquid debt instruments purchased
with an original maturity of twelve months or less, are carried at
amortized cost, which approximates fair value.
REALIZED INVESTMENT GAINS, NET are computed using the specific
identification method. Costs of fixed maturities and equity securities are
adjusted for impairments considered to be other than temporary. Allowances
for losses on mortgage loans on real estate are netted against asset
categories to which they apply and provisions for losses on investments are
included in "Realized investment gains, net." Decreases in the lower of
depreciated cost or fair value less selling costs of investment real estate
held for sale are recorded in "Realized investment gains, net."
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 such costs 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, for certain products, 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."
For participating life insurance, deferred policy acquisition costs are
amortized over the expected life of the contracts (up to 45 years) in
proportion to estimated gross margins based on historical and anticipated
future experience, which is updated periodically. The effect of changes in
estimated gross margins is reflected in earnings in the period they are
revised. Policy acquisition costs related to interest-sensitive products
and certain investment-type products are deferred and amortized over the
expected life of the contracts (periods ranging from 15 to 30 years) in
proportion to estimated gross profits arising principally from investment
results, mortality and expense margins and surrender charges based on
historical and anticipated future experience, updated periodically. 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. The average rate of assumed investment yield in
estimating expected gross margins was 9.97%, 9.39%, and 8.39% for 1998,
1997 and 1996, respectively. Deferred policy acquisition costs related to
non-participatory term insurance are amortized over the expected life of
the contracts in proportion to the premium income.
For property and casualty contracts, deferred policy acquisition costs are
amortized over the period in which related premiums are earned. Future
investment income is considered in determining the recoverability of
deferred policy acquisition costs.
10
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
For disability insurance, group life insurance and most group annuities,
acquisition costs are expensed as incurred.
POLICYHOLDERS' DIVIDENDS
The amount of the dividends to be paid to policyholders is determined
annually by the Company's Board of Directors. The aggregate amount of
policyholders' dividends is related to actual interest, mortality,
morbidity, persistency and expense experience for the year and judgment as
to the appropriate level of statutory surplus to be retained by the
Company.
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, pension fund and other customers. The assets consist of
common stocks, fixed maturities, real estate related securities, real
estate mortgage loans 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 generally 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 Statements of Operations. Mortality, policy administration and
surrender charges on the accounts are included in "Policy charges and fee
income."
OTHER ASSETS AND OTHER LIABILITIES
Other assets consist primarily of prepaid benefit costs, reinsurance
recoverables, certain restricted assets, trade receivables and property and
equipment. Property and equipment are stated at cost less accumulated
depreciation. Depreciation is determined using the straight-line method
over the estimated useful lives of the related assets which generally range
from 3 to 40 years. Other liabilities consist primarily of trade payables
and reserves for sales practice remediation costs.
INSURANCE REVENUE AND EXPENSE RECOGNITION
Premiums from participating insurance policies are recognized when due.
Benefits are recorded as an expense when they are incurred. A liability for
future policy benefits is recorded using the net level premium method.
Premiums from non-participating group annuities with life contingencies are
recognized when due. For single premium immediate annuities and structured
settlements, 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 investment contracts,
deferred annuities and participating group annuities are reported as
deposits to "Policyholders' account balances." Revenues from these
contracts are reflected in "Policy charges and fee income" and consist
primarily of fees assessed during the period against the policyholders'
account balances for mortality charges, policy administration charges,
surrender charges and interest earned from the investment of these account
balances. 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.
For disability insurance, group life insurance, and property and casualty
insurance, premiums are recognized over the period to which the premiums
relate in proportion to the amount of insurance protection provided. Claim
and claim adjustment expenses are recognized when incurred.
11
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Premiums, benefits and expenses are stated net of reinsurance ceded to
other companies. Estimated reinsurance receivables and the cost of
reinsurance are recognized over the life of the reinsured policies using
assumptions consistent with those used to account for the underlying
policies.
FOREIGN CURRENCY TRANSLATION ADJUSTMENTS
Assets and liabilities of foreign operations and subsidiaries reported in
other than U.S. dollars are translated 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. The effects of
translating the Statements of Financial Position of non-U.S. entities with
functional currencies other than the U.S. dollar are recorded, net of
related hedge gains and losses and income taxes, as "Other comprehensive
income," a separate component of equity.
COMMISSIONS AND OTHER INCOME
Commissions and other income principally includes securities and
commodities commission revenues, asset management fees, investment banking
revenue and realized and unrealized gains from trading activities of the
Company's broker-dealer subsidiary.
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 can be
exchange-traded or contracted in the over-the-counter market and those used
by the Company include swaps, futures, forwards and options contracts. 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. Additionally, derivatives are used in the broker-dealer
business and in a limited-purpose subsidiary for 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 are evaluated at the inception of the hedge and throughout the
hedge period.
DERIVATIVES HELD FOR TRADING PURPOSES are used in the Company's securities
broker-dealer business and in a limited-purpose subsidiary to meet the
needs of its customers by structuring transactions that allow customers to
manage their exposure to interest rates, foreign exchange rates, indices or
prices of securities and commodities. Trading derivative positions are
valued daily, generally by obtaining quoted market prices or through the
use of pricing models. Values are affected by changes in interest rates,
currency exchange rates, credit spreads, market volatility and liquidity.
The Company monitors these exposures through the use of various analytical
techniques.
Derivatives held for trading are recorded at fair value in "Trading account
assets," "Other liabilities" or "Receivables from/Payables to broker-dealer
clients" in the Consolidated Statements of Financial Position, and realized
and unrealized changes in fair value are included in "Commissions and other
income" of the Consolidated Statements of Operations in the periods in
which the changes occur. Cash flows from trading derivatives are reported
in the operating activities section of the Consolidated Statements of Cash
Flows.
DERIVATIVES HELD FOR PURPOSES OTHER THAN TRADING are primarily used to
hedge or reduce exposure to interest rate and foreign currency risks
associated with assets held or expected to be purchased or sold, and
liabilities incurred or expected to be incurred. Additionally, other than
trading derivatives are used to change the characteristics of the Company's
asset/liability mix consistent with the Company's risk management
activities.
12
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
See Note 14 for a discussion of the accounting treatment of derivatives
that qualify as hedges. 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 long-term investments" or
"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 investing activities section in the
Consolidated Statements of Cash Flows.
INCOME TAXES
The Company and its domestic subsidiaries file a consolidated federal
income tax return. The Internal Revenue Code (the "Code") limits the amount
of non-life insurance losses that may offset life insurance company taxable
income. The Code also imposes an "equity tax" on mutual life insurance
companies which, in effect, imputes an additional tax to the Company based
on a formula that calculates the difference between stock and mutual life
insurance companies' earnings. Income taxes include an estimate for changes
in the total equity tax to be paid for current and prior years.
Subsidiaries operating outside the United States are taxed under applicable
foreign statutes.
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
was 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 delayed the implementation of SFAS 125 for one year
for certain provisions, including repurchase agreements, dollar rolls,
securities lending and similar transactions. The Company adopted the
delayed provisions of SFAS 125 in 1998. The adoption of SFAS 125 did not
have a material impact on the Company's results of operations or financial
position.
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 Statements 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.
During 1998, the Company adopted SFAS No. 132, "Employers' Disclosures
about Pensions and Other Postretirement Benefits," which was issued by the
FASB in February 1998. This statement standardizes the disclosure
requirements for pensions and other postretirement benefits, requires
additional information on changes in the benefit obligations and fair
values of plan assets and eliminates certain disclosures. This statement is
limited to changes in reporting and presentation and does not change
recognition or measurement of pension or other postretirement benefit
plans. Therefore, its adoption did not affect the Company's financial
position or results of operations.
13
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
On January 1, 1998, 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 did not have a material effect on the Company's financial
condition 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 prior years have been reclassified to conform to current
year presentation.
14
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
3. DISCONTINUED OPERATIONS
In December 1998, the Company entered into a definitive agreement to sell
its HealthCare business to Aetna Inc. ("Aetna"). Included in this
transaction are the Company's managed medical care, point of service,
preferred provider organization and indemnity health lines, dental
business, as well as the Company's Administrative Services Only ("ASO")
businesses. The transaction was approved by the boards of directors of both
companies and is expected to be completed in the second quarter of 1999,
subject to review by federal antitrust authorities and approval by state
regulators, and other customary closing conditions. Proceeds from the sale
will consist of $500 million of cash and $500 million of Aetna three year
senior notes.
Loss from operations of discontinued businesses for 1998 includes results
through December 31, 1998 (the measurement date). The Statements of
Operations for 1997 and 1996 have been restated to conform with the 1998
presentation. Amounts within the footnotes have been adjusted, where noted,
to eliminate the impact of discontinued operations and to be consistent
with the presentation in the Consolidated Statements of Operations. The
following table presents the results of operations and the loss on the
disposal of the Company's HealthCare business, determined as of the
measurement date, which are included in "Discontinued Operations" in the
Consolidated Statements of Operations. Amounts for 1997 and 1996 include
revenues and expenses relating to a contract with the American Association
of Retired Persons for healthcare and similar coverages which was
terminated effective December 31, 1997.
<TABLE>
<CAPTION>
1998 1997 1996
--------- --------- ---------
(In Millions)
<S> <C> <C> <C>
Revenues $ 7,461 $ 10,305 $ 9,187
Policyholder benefits (6,064) (8,484) (7,711)
General and administrative expenses (1,822) (2,364) (1,921)
--------- --------- ---------
Loss before income taxes (425) (543) (445)
Income tax benefit 127 190 163
--------- --------- ---------
Loss from operations (298) (353) (282)
Loss on disposal, net of tax benefit of $131 (223) - -
--------- --------- ---------
Loss from discontinued operations, net of taxes $ (521) $ (353) $ (282)
========= ========= =========
</TABLE>
The loss on disposal includes anticipated operating losses to be incurred
by the HealthCare business subsequent to the measurement date through the
expected date of the sale, as well as estimates of other costs the Company
will incur in connection with the disposition of the HealthCare business.
Actual amounts may differ from these estimates. These include costs
attributable to facilities closure and systems terminations, severance,
payments to Aetna related to the ASO business, and estimated payments in
connection with an agreement covering the fully insured medical and dental
business. The latter agreement provides for payments either to or from
Aetna in the event that medical loss ratios (i.e., incurred medical expense
divided by earned premiums) for covered businesses are either less
favorable or more favorable than levels specified in the agreement for the
years 1999 and 2000. The loss on disposition was reduced by the estimated
impact of expected modifications of certain pension and other
postretirement benefit plans in which employees of the HealthCare business
participate. This amount includes curtailment gains and the cost of
termination benefits. (See Note 9.)
15
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
3. DISCONTINUED OPERATIONS (CONTINUED)
The following table presents the assets and liabilities pertaining to the
Company's HealthCare business at December 31, 1998 which are included in
the Company's Consolidated Statements of Financial Position.
(In Millions)
Cash and investments $ 1,652
Other assets 1,030
-------
Total assets 2,682
Future policy benefits 1,241
Other liabilities 1,105
-------
Total liabilities 2,346
-------
Net assets $ 336
=======
4. INVESTMENTS
FIXED MATURITIES AND EQUITY SECURITIES
The following tables provide additional information relating to fixed
maturities and equity securities (excluding trading account assets) as of
December 31:
<TABLE>
<CAPTION>
1998
-------------------------------------------------------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED ESTIMATED
COST GAINS LOSSES FAIR VALUE
---------- ---------- ---------- ----------
(In Millions)
<S> <C> <C> <C> <C>
FIXED MATURITIES AVAILABLE FOR SALE
U.S. Treasury securities and obligations of
U.S. government corporations and agencies $ 5,761 $ 580 $ 9 $ 6,332
Obligations of U.S. states and
their political subdivisions 2,672 204 1 2,875
Foreign government bonds 3,156 253 52 3,357
Corporate securities 57,373 2,545 553 59,365
Mortgage-backed securities 7,935 208 14 8,129
Other fixed maturities 100 - - 100
-----------------------------------------------------------
Total fixed maturities available for sale $ 76,997 $ 3,790 $ 629 $ 80,158
===========================================================
EQUITY SECURITIES AVAILABLE FOR SALE $ 2,583 $ 472 $ 296 $ 2,759
===========================================================
</TABLE>
16
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
4. INVESTMENTS (CONTINUED)
<TABLE>
<CAPTION>
1998
------------------------------------------------------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED ESTIMATED
COST GAINS LOSSES FAIR VALUE
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
FIXED MATURITIES HELD TO MATURITY (In Millions)
U.S. Treasury securities and obligations of
U.S. government corporations and agencies $ 5 $ - $ - $ 5
Obligations of U.S. states and
their political subdivisions 62 2 1 63
Foreign government bonds 31 4 - 35
Corporate securities 16,699 1,096 49 17,746
Mortgage-backed securities 1 - - 1
Other fixed maturities 50 6 - 56
------------------------------------------------------------
Total fixed maturities held to maturity $ 16,848 $ 1,108 $ 50 $ 17,906
============================================================
<CAPTION>
1997
-------------------------------------------------------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED ESTIMATED
COST GAINS LOSSES FAIR VALUE
--------- ---------- ----------- ----------
<S> <C> <C> <C> <C>
FIXED MATURITIES AVAILABLE FOR SALE (In Millions)
U.S. Treasury securities and obligations of
U.S. government corporations and agencies $ 9,071 $ 671 $ - $ 9,742
Obligations of U.S. states and
their political subdivisions 1,529 152 - 1,681
Foreign government bonds 3,177 218 17 3,378
Corporate securities 50,043 2,611 144 52,510
Mortgage-backed securities 7,576 288 5 7,859
Other fixed maturities 100 - - 100
-----------------------------------------------------------
Total fixed maturities available for sale $ 71,496 $ 3,940 $ 166 $ 75,270
===========================================================
EQUITY SECURITIES AVAILABLE FOR SALE $ 2,376 $ 680 $ 246 $ 2,810
===========================================================
</TABLE>
17
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
4. INVESTMENTS (CONTINUED)
<TABLE>
<CAPTION>
1997
---------------------------------------------------------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED ESTIMATED
COST GAINS LOSSES FAIR VALUE
----------- ---------- ----------- ----------
(In Millions)
<S> <C> <C> <C> <C>
FIXED MATURITIES HELD TO MATURITY
U.S. Treasury securities and obligations of
U.S. government corporations and agencies $ 88 $ - $ - $ 88
Obligations of U.S. states and
their political subdivisions 152 4 1 155
Foreign government bonds 33 5 - 38
Corporate securities 18,282 1,212 34 19,460
Mortgage-backed securities 1 - - 1
Other fixed maturities 144 8 - 152
------------------------------------------------------------
Total fixed maturities held to maturity $ 18,700 $ 1,229 $ 35 $ 19,894
============================================================
</TABLE>
18
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
4. INVESTMENTS (CONTINUED)
The amortized cost and estimated fair value of fixed maturities by
contractual maturities at December 31, 1998, is shown below:
<TABLE>
<CAPTION>
AVAILABLE FOR SALE HELD TO MATURITY
---------------------------- -----------------------
ESTIMATED ESTIMATED
AMORTIZED FAIR AMORTIZED FAIR
COST VALUE COST VALUE
------------ -------------- ----------- ----------
(In Millions) (In Millions)
<S> <C> <C> <C> <C>
Due in one year or less $ 2,638 $ 2,644 $ 730 $ 736
Due after one year through five years 17,551 17,874 4,326 4,465
Due after five years through ten years 19,523 19,976 6,783 7,162
Due after ten years 29,350 31,535 5,008 5,542
Mortgage-backed securities 7,935 8,129 1 1
--------- ---------- -------- --------
Total $ 76,997 $ 80,158 $ 16,848 $ 17,906
========= ========== ======== ========
</TABLE>
Actual maturities may differ from contractual maturities because issuers
may have the right to call or prepay obligations.
Proceeds from the repayment of held to maturity fixed maturities during
1998, 1997 and 1996 were $4,466 million, $4,042 million and $4,268 million,
respectively. Gross gains of $135 million, $62 million and $78 million, and
gross losses of $2 million, $1 million and $7 million, were realized on
prepayment of held to maturity fixed maturities during 1998, 1997 and 1996,
respectively.
Proceeds from the sale of available for sale fixed maturities during 1998,
1997 and 1996 were $119,096 million, $120,604 million and $121,910 million,
respectively. Proceeds from the maturity of available for sale fixed
maturities during 1998, 1997 and 1996 were $ 4,055 million, $2,946 million
and $1,458 million, respectively. Gross gains of $1,765 million, $1,310
million and $1,562 million and gross losses of $443 million, $639 million
and $1,026 million were realized on sales and prepayments of available for
sale fixed maturities during 1998, 1997 and 1996, respectively.
Writedowns for impairments of fixed maturities which were deemed to be
other than temporary were $96 million, $13 million and $54 million for the
years 1998, 1997 and 1996, respectively.
During the years ended December 31, 1998 and December 31, 1997, certain
securities classified as held to maturity were transferred to the available
for sale portfolio. These actions were taken as a result of a significant
deterioration in credit worthiness. The aggregate amortized cost of the
securities transferred was $73 million and $27 million, respectively with
gross unrealized investment losses of $.4 million and gross unrealized
investment gains of $.6 million included during the years ended December
31, 1998 and 1997, respectively, in "Accumulated other comprehensive
income" at the time of the transfer.
19
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
4. INVESTMENTS (CONTINUED)
MORTGAGE LOANS ON REAL ESTATE
The Company's mortgage loans were collateralized by the following property
types at December 31:
AMOUNT PERCENTAGE AMOUNT PERCENTAGE
(IN MILLIONS) OF TOTAL (IN MILLIONS) OF TOTAL
------------- ---------- ------------- ----------
1998 1997
------------------------ -------------------------
Office buildings $ 4,267 25.2% $ 4,692 28.5%
Retail stores 3,021 17.9% 3,078 18.7%
Residential properties 716 4.2% 891 5.4%
Apartment complexes 4,362 25.8% 3,551 21.6%
Industrial buildings 1,989 11.8% 1,958 11.9%
Agricultural properties 1,936 11.4% 1,666 10.1%
Other 631 3.7% 618 3.8%
-------- ----- -------- -----
Subtotal 16,922 100.0% 16,454 100.0%
===== =====
Allowance for losses (427) (450)
-------- --------
Net carrying value $ 16,495 $ 16,004
======== ========
The mortgage loans are geographically dispersed throughout the United
States and Canada with the largest concentrations in California (23.8%)
and New York (9.5%) at December 31, 1998. Included in the above balances
are mortgage loans receivable from affiliated joint ventures of $87 million
and $225 million at December 31, 1998 and 1997, respectively.
Activity in the allowance for losses for all mortgage loans, for the years
ended December 31, is summarized as follows:
1998 1997 1996
----- ----- -----
(In Millions)
Allowance for losses, beginning of year $ 450 $ 515 $ 862
Additions charged to operations - - -
Release of allowance for losses - (41) (247)
Charge-offs, net of recoveries (23) (24) (100)
----- ----- -----
Allowance for losses, end of year $ 427 $ 450 $ 515
===== ===== =====
The $41 million and $247 million reductions of the mortgage loan allowance
for losses in 1997 and 1996, respectively, are primarily attributable to
the improved economic climate, changes in the nature and mix of borrowers
and underlying collateral and a significant decrease in impaired loans.
20
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
4. INVESTMENTS (CONTINUED)
Impaired mortgage loans identified in management's specific review of
probable loan losses and related allowance for losses at December 31, are
as follows:
1998 1997
------- -------
(In Millions)
Impaired mortgage loans with allowance for losses $ 149 $ 330
Impaired mortgage loans with no allowance for losses 924 1,303
Allowance for losses (45) (97)
------- -------
Net carrying value of impaired mortgage loans $ 1,028 $ 1,536
======= =======
Impaired mortgage loans with no provision for losses are loans where the
fair value of the collateral or the net present value of the expected
future cash flows related to the loan equals or exceeds the recorded
investment. The average recorded investment in impaired loans before
allowance for losses was $1,329 million, $2,102 million and $2,842 million
during 1998, 1997 and 1996, respectively. Net investment income recognized
on these loans totaled $94 million, $140 million and $265 million for the
years ended December 31, 1998, 1997 and 1996, respectively.
INVESTMENT REAL ESTATE
The Company's "Investment real estate" of $801 million and $1,519 million
at December 31, 1998 and 1997, respectively, is held through direct
ownership. Of the Company's real estate, $675 million and $1,490 million
consists of commercial and agricultural assets held for disposal at
December 31, 1998 and 1997, respectively. Impairment losses aggregated $8
million, $40 million and $38 million for the years ended December 31, 1998,
1997 and 1996, respectively, and are included in "Realized investment
gains, net."
RESTRICTED ASSETS AND SPECIAL DEPOSITS
Assets of $3,135 million and $2,783 million at December 31, 1998 and 1997,
respectively, were on deposit with governmental authorities or trustees as
required by certain insurance laws. Additionally, assets valued at $3,727
million and $2,352 million at December 31, 1998 and 1997, respectively,
were held in voluntary trusts. Of this amount, $3,131 million and $1,801
million at December 31, 1998 and 1997, respectively, related to the
multi-state policyholder settlement as described in Note 16. The remainder
relates to trusts established to fund guaranteed dividends to certain
policyholders. The terms of these trusts provide that the assets are to be
used for payment of the designated settlement and dividend benefits, as the
case may be. Assets valued at $403 million and $632 million at December 31,
1998 and 1997, respectively, were maintained as compensating balances,
which do not legally restrict the use of the funds, or pledged as
collateral for bank loans and other financing agreements. Restricted cash
and securities of $2,366 million and $1,835 million at December 31, 1998
and 1997, respectively, were included in the consolidated financial
statements in "Other assets." The restricted cash represents funds
deposited by clients and funds accruing to clients as a result of trades or
contracts.
OTHER LONG-TERM INVESTMENTS
The Company's "Other long-term investments" of $2,658 million and $2,489
million as of December 31, 1998 and 1997, respectively, are comprised of
$1,007 million and $1,498 million in real estate related interests and
$1,651 million and $991 million of non-real estate related interests. The
Company's share of net income from such entities was $285 million, $411
million and $245 million for 1998, 1997 and 1996, respectively, and is
reported in "Net investment income."
21
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
4. INVESTMENTS (CONTINUED)
INVESTMENT INCOME AND INVESTMENT GAINS AND LOSSES
NET INVESTMENT INCOME arose from the following sources for the years ended
December 31:
<TABLE>
<CAPTION>
1998 1997 1996
-------- -------- --------
(In Millions)
<S> <C> <C> <C>
Fixed maturities - available for sale $ 5,366 $ 5,074 $ 4,871
Fixed maturities - held to maturity 1,406 1,622 1,793
Trading account assets 677 504 444
Equity securities - available for sale 54 52 81
Mortgage loans on real estate 1,525 1,555 1,690
Investment real estate 230 565 685
Policy loans 410 396 384
Securities purchased under agreements to resell 18 15 11
Receivables from broker-dealer clients 836 706 579
Short-term investments 725 697 702
Other investment income 415 520 559
-------- -------- --------
Gross investment income 11,662 11,706 11,799
Less investment expenses (2,035) (2,038) (2,130)
-------- -------- --------
Subtotal 9,627 9,668 9,669
Less amount relating to discontinued operations (107) (212) (208)
-------- -------- --------
Net investment income $ 9,520 $ 9,456 $ 9,461
======== ======== ========
</TABLE>
REALIZED INVESTMENT GAINS, NET, for the years ended December 31, were from
the following sources:
<TABLE>
<CAPTION>
1998 1997 1996
-------- -------- --------
(In Millions)
<S> <C> <C> <C>
Fixed maturities $ 1,381 $ 684 $ 513
Mortgage loans on real estate 22 68 248
Investment real estate 642 700 76
Equity securities - available for sale 427 363 267
Other 188 394 34
-------- -------- --------
Subtotal 2,660 2,209 1,138
Less amounts related to discontinued operations (30) (41) (10)
-------- -------- --------
Realized investment gains, net $ 2,630 $ 2,168 $ 1,128
======== ======== ========
</TABLE>
Based on the carrying value, assets categorized as "non-income producing"
for the year ended December 31, 1998 included in fixed maturities available
for sale, mortgage loans on real estate and other long term investments
totaled $1 million, $23 million and $13 million, respectively.
22
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
4. INVESTMENTS (CONTINUED)
NET UNREALIZED INVESTMENT GAINS
Net unrealized investment gains on securities available for sale are
included in the Consolidated Statements 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 had been part of "Other comprehensive income" in earlier
periods. The amounts for the years ended December 31, are as follows:
<TABLE>
<CAPTION>
1998 1997 1996
------- ------- -------
(In Millions)
<S> <C> <C> <C>
Net unrealized investment gains, beginning of year $ 1,752 $ 1,136 $ 2,397
Changes in net unrealized investment gains attributable to:
Investments:
Net unrealized investment gains (losses) on investments arising
during the period 522 1,706 (1,281)
Reclassification adjustment for gains included in net income (1,087) (631) (471)
------- ------- -------
Change in net unrealized investment gains, net of adjustments (565) 1,075 (1,752)
Impact of net unrealized investment gains on:
Future policy benefits 23 (360) 318
Deferred policy acquisition costs 62 (99) 173
------- ------- -------
Change in net unrealized investment gains (480) 616 (1,261)
------- ------- -------
Net unrealized investment gains, end of year $ 1,272 $ 1,752 $ 1,136
======= ======= =======
</TABLE>
Unrealized gains (losses) on investments arising during the periods
reported in the above table are net of income tax expense (benefit) of $282
million, $961 million and $(647) 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
$588 million, $355 million and $238 million, respectively.
The future policy benefits reported in the above table are net of income
tax expense (benefit) of $15 million, $(203) million and $161 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 expense (benefit) of
$36 million, $(55) million and $88 million, respectively.
23
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
5. DEFERRED POLICY ACQUISITION COSTS
The balances of and changes in deferred policy acquisition costs as of and
for the years ended December 31, are as follows:
<TABLE>
<CAPTION>
1998 1997 1996
------- ------- -------
(In Millions)
<S> <C> <C> <C>
Balance, beginning of year $ 6,083 $ 6,095 $ 5,892
Capitalization of commissions, sales and issue expenses 1,313 1,409 1,260
Amortization (1,139) (1,176) (1,261)
Change in unrealized investment gains 77 (154) 261
Foreign currency translation 128 (91) (57)
------- ------- -------
Balance, end of year $ 6,462 $ 6,083 $ 6,095
======= ======= =======
</TABLE>
6. POLICYHOLDERS' LIABILITIES
FUTURE POLICY BENEFITS at December 31, are as follows:
1998 1997
------- -------
(In Millions)
Life insurance $48,927 $46,765
Annuities 15,360 15,469
Other contract liabilities 4,842 5,133
------- -------
Future policy benefits $69,129 $67,367
======= =======
Life insurance liabilities include reserves for death and endowment policy
benefits, terminal dividends, premium deficiency reserves, and certain
health benefits. Annuity liabilities include reserves for immediate
annuities and non-participating group annuities. Other contract liabilities
primarily consist of unearned premium and benefit reserves for group health
products.
24
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
6. POLICYHOLDERS' LIABILITIES (CONTINUED)
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 Generally rates 2.5% to 7.5% Net level premium
guaranteed in calculating based on non-forfeiture
cash surrender values interest rate
Individual immediate 1983 Individual 3.5% to 11.25% Present value of
annuities Annuity Mortality expected future payments
Table with certain based on historical
modifications experience
Group annuities in 1950 Group 3.75% to 17.35% Present value of
payout status Annuity Mortality expected future
Table with certain payments
modifications based on historical
experience
Other contract liabilities - 5.3% to 7.0% Present value of
expected future
payments
based on historical
experience
</TABLE>
For the above categories, premium deficiency reserves are established, if
necessary, when the liability for future policy benefits plus the present
value of expected future gross premiums are insufficient to provide for
expected future policy benefits and expenses and to recover any unamortized
acquisition costs. A premium deficiency reserve has been recorded for the
group single premium annuity business, which consists of limited-payment,
long duration, traditional and non-participating annuities. A liability of
$1,780 million and $1,645 million is included in "Future policy benefits"
with respect to this deficiency for the years ended December 31, 1998 and
1997, respectively.
POLICYHOLDERS' ACCOUNT BALANCES at December 31, are as follows:
<TABLE>
<CAPTION>
1998 1997
-------- --------
(In Millions)
<S> <C> <C>
Individual annuities $ 4,997 $ 5,695
Group annuities and guaranteed investment contracts 16,770 19,053
Interest-sensitive life contracts 3,566 3,258
Dividend accumulations and other 5,641 5,240
------- --------
Policyholders' account balances $30,974 $ 33,246
======= ========
</TABLE>
Policyholders' account balances for interest-sensitive life and
investment-type contracts represent an accumulation of gross premium
payments plus credited interest less withdrawals, expenses and mortality
charges.
25
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
6. POLICYHOLDERS' LIABILITIES (Continued)
Certain contract provisions that determine the policyholder account
balances are as follows:
<TABLE>
<CAPTION>
WITHDRAWAL/
PRODUCT INTEREST RATE SURRENDER CHARGES
--------------------------------- ------------- -----------------------------------
<S> <C> <C>
Individual annuities 3.0% to 6.6% 0% to 8% for up to 8 years
Group annuities 5.0% to 13.4% Contractually limited or subject
to market value adjustment
Guaranteed investment contracts 3.9% to 15.4% Subject to market value withdrawal
payout status provisions for any funds withdrawn
other than for benefit responsive
and contractual payments
Interest-sensitive life contracts 4.0% to 6.5% Various up to 10 years
Dividend accumulations and other 3.0% to 4.5% --
</TABLE>
26
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
6. POLICYHOLDERS' LIABILITIES (Continued)
Unpaid Claims and Claim Adjustment Expenses. The following table provides
a reconciliation of the activity in the liability for unpaid claims and
claim adjustment expenses for property and casualty and accident and
health insurance at December 31:
<TABLE>
<CAPTION>
1998 1997 1996
-------------------------- -------------------------- -----------------------
ACCIDENT PROPERTY ACCIDENT PROPERTY ACCIDENT PROPERTY
AND HEALTH AND CASUALTY AND HEALTH AND CASUALTY AND HEALTH AND CASUALTY
---------- ------------ ---------- ------------ ---------- -------------
(In Millions)
<S> <C> <C> <C> <C> <C> <C>
Balance at January 1 $ 1,908 $ 2,956 $ 1,990 $ 3,076 $ 2,033 $ 3,053
Less reinsurance recoverables 810 535 10 553 15 557
------- ------- ------- ------- ------- -------
Net balance at January 1 1,098 2,421 1,980 2,523 2,018 2,496
------- ------- ------- ------- ------- -------
Incurred related to:
Current year 6,127 1,354 8,348 1,525 8,391 1,760
Prior years 7 (194) 102 (91) (66) (25)
------- ------- ------- ------- ------- -------
Total incurred 6,134 1,160 8,450 1,434 8,325 1,735
------- ------- ------- ------- ------- -------
Paid related to:
Current year 5,289 717 6,676 739 6,589 908
Prior years 851 681 1,854 797 1,774 800
------- ------- ------- ------- ------- -------
Total paid 6,140 1,398 8,530 1,536 8,363 1,708
------- ------- ------- ------- ------- -------
Net balance at December 31 1,092 2,183 1,900 2,421 1,980 2,523
Plus reinsurance recoverables 52 533 8 535 10 553
------- ------- ------- ------- ------- -------
Balance at December 31 $ 1,144 $ 2,716 $ 1,908 $ 2,956 $ 1,990 $ 3,076
======= ======= ======= ======= ======= =======
</TABLE>
The Accident and Health balance at December 31 includes amounts
attributable to the Company's discontinued HealthCare business: 1998 -
$1,082; 1997 - $1,757 and 1996 - $1,750.
In 1998 and 1997, the changes in provision for claims and claim adjustment
expenses for property and casualty related to prior years are primarily
driven by lower than anticipated losses for the Voluntary Auto line of
business.
The changes in provision for claims and claim adjustment expense for
accident and health related to prior years are primarily due to such
factors as changes in claim cost trends and an accelerated decline in the
indemnity health business.
The unpaid claims and claim adjustment expenses presented above consist of
unpaid claim liabilities which include estimates for liabilities
associated with reported claims and for incurred but not reported claims
based, in part, on the Company's experience. Changes in the estimated cost
to settle unpaid claims are charged or credited to the Consolidated
Statement of Operations periodically as the estimates are revised.
Accident and health unpaid claims liabilities for 1998, 1997 and 1996
included above are discounted using interest rates ranging from 3.0%
to 6.0%.
27
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
7. REINSURANCE
The Company participates in reinsurance 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. Life
reinsurance is accomplished through various plans of reinsurance,
primarily yearly renewable term and coinsurance. Property-casualty
reinsurance is placed on both a pro-rata and excess of loss basis.
Reinsurance ceded arrangements do not discharge the Company or the
insurance subsidiaries as the primary insurer. 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 Company periodically reviews the financial
condition of its reinsurers and amounts recoverable therefrom, recording
an allowance when necessary for uncollectible reinsurance.
Reinsurance amounts included in the Consolidated Statements of Operations,
excluding HealthCare, for the years ended December 31, were as follows:
1998 1997 1996
------- ------ -------
(In Millions)
Direct Premiums $9,615 $9,679 $10,690
Reinsurance Assumed 65 42 13
Reinsurance Ceded (656) (716) (704)
------ ------ -------
Premiums $9,024 $9,005 $ 9,999
====== ====== =======
Policyholders' benefits ceded $ 519 $ 530 $ 571
====== ====== =======
Reinsurance recoverables, included in "Other assets" in the Company's
Consolidated Statements of Financial Position, at December 31, were as
follows:
1998 1997
------ ------
(In Millions)
Life insurance $ 620 $ 685
Property-casualty 564 554
Other reinsurance 92 65
------ ------
$1,276 $1,304
====== ======
28
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- -------------------------------------------------------------------------------
8. SHORT-TERM AND LONG-TERM DEBT
Debt consists of the following at December 31:
SHORT-TERM DEBT
1998 1997
------- ------
(In Millions)
Commercial paper $ 7,057 $4,268
Notes payable 2,164 2,151
Current portion of long-term debt 861 355
------- ------
Total short-term debt $10,082 $6,774
======= ======
The weighted average interest rate on outstanding short-term debt was
approximately 5.4% and 6.0% at December 31, 1998 and 1997, respectively.
The Company issues commercial paper primarily to manage operating cash flows and
existing commitments, meet working capital needs and take advantage of current
investment opportunities. Commercial paper borrowings are supported by various
lines of credit.
LONG-TERM DEBT
<TABLE>
<CAPTION>
DESCRIPTION MATURITY DATES RATE 1998 1997
- ----------- -------------- ---- ----- ----
(In Millions)
<S> <C> <C> <C> <C>
Floating rate notes ("FRN") 1999 - 2005 4.04-14.00%(a) $ 729 $ 324
Long term notes 1999 - 2023 5.5% - 12% 1,318 910
Zero coupon notes 1999 8.6% (b) 364 334
Canadian dollar notes - 7.0% - 9.125% - 117
Japanese yen notes 1999 - 2000 0.5% - 4.6% 160 178
Swiss francs notes - 3.875% - 120
Canadian dollar FRN 2003 5.25%-5.89% 96 96
Surplus notes 2003 - 2025 6.875% - 8.3% 987 986
Senior notes 1999 - 2006 6.375% 393 -
Commercial paper backed by long-term
credit agreements 1,500 1,500
Other notes payable 1999 - 2017 4% - 7.5% 48 63
------- -------
Subtotal 5,595 4,628
Less: current portion of long-term debt (861) (355)
------- -------
Total long-term debt $ 4,734 $ 4,273
======= =======
</TABLE>
(a) The Company issued an S&P 500 index linked note of $29 million in September
of 1997. The interest rate on the note is based on the appreciation of the
S&P 500 index, with a contractual cap of 14%. At December 31, 1998, this
rate was 14%. Excluding this note, floating rate note interest rates were
between 4.04% - 5.50%.
(b) The rate shown for zero coupon notes represents a level yield to maturity.
29
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
8. SHORT-TERM AND LONG-TERM DEBT (CONTINUED)
Payment of interest and principal on the surplus notes issued after 1993,
of which $686 million were outstanding at December 31, 1998, may be made
only with the prior approval of the Commissioner of Insurance of the State
of New Jersey.
In order to modify exposure to interest rate and currency exchange rate
movements, the Company utilizes derivative instruments, primarily interest
rate swaps, in conjunction with some of its debt issues. The effect of
these derivative instruments is included in the calculation of the
interest expense on the associated debt, and as a result, the effective
interest rates on the debt may differ from the rates reflected in the
tables above. Floating rates are determined by formulas and may be subject
to certain minimum or maximum rates.
Scheduled principal repayments of long-term debt as of December 31, 1998,
are as follows: $862 million in 1999, $560 million in 2000, $327 million
in 2001, $1,816 million in 2002, $458 million in 2003 and $1,575 million
thereafter.
At December 31, 1998, the Company had $9,853 million in lines of credit
from numerous financial institutions of which $8,330 million were unused.
These lines of credit generally have terms ranging from one to five years.
Interest expense for short-term and long-term debt is $920 million,
$743 million and $618 million for the years ended December 31, 1998, 1997
and 1996, respectively.
9. EMPLOYEE BENEFIT PLANS
PENSION AND OTHER POSTRETIREMENT PLANS
The Company has funded non-contributory defined benefit pension plans
which cover substantially all of its employees. The Company also has
several non-funded non-contributory defined benefit plans covering
certain executives. Benefits are generally based on career average
earnings and credited length of service. The Company's funding policy is
to contribute annually an amount necessary to satisfy the Internal
Revenue Service contribution guidelines.
The Company provides certain life insurance and health care benefits
("Other postretirement benefits") for its retired employees, their
beneficiaries and covered dependents. The healthcare plan is
contributory; the life insurance plan is non-contributory. Substantially
all of the Company's employees may become eligible to receive benefits if
they retire after age 55 with at least 10 years of service or under
certain circumstances after age 50 with at least 20 years of continuous
service. These benefits are funded as considered necessary by Company
management.
The Company has elected to amortize its transition obligation for other
postretirement benefits over 20 years.
30
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
9. EMPLOYEE BENEFIT PLANS (CONTINUED)
Prepaid and accrued benefit costs are included in "Other assets" and
"Other liabilities", respectively, in the Company's Consolidated
Statements of Financial Position. The status of these plans as of
September 30, adjusted for fourth quarter activity, is summarized below:
<TABLE>
<CAPTION>
OTHER
PENSION BENEFITS POSTRETIREMENT BENEFITS
---------------------- ------------------------
1998 1997 1998 1997
-------- ------- ------- -------
(In Millions) (In Millions)
<S> <C> <C> <C> <C>
CHANGE IN BENEFIT OBLIGATION:
Benefit obligation at the beginning of period $(5,557) $(5,148) $(2,128) $(2,002)
Service cost (159) (127) (35) (38)
Interest cost (397) (376) (142) (149)
Plan participants' contributions - - ( 6) (4)
Amendments (58) - - 31
Actuarial losses (600) (334) (31) (84)
Transfer to third party - 32 - -
Contractual termination benefits (30) (63) - -
Benefits paid 485 460 128 117
Foreign currency changes 7 (1) 1 1
------- ------- ------- -------
Benefit obligation at end of period $(6,309) $(5,557) $(2,213) $(2,128)
======= ======= ======= =======
CHANGE IN PLAN ASSETS:
Fair value of plan assets at beginning of period $ 8,489 $ 7,306 $ 1,354 $ 1,313
Actual return on plan assets 445 1,693 146 120
Transfer to third party (4) (32) - -
Contribution from pension plan - - 31 25
Employer contributions 25 16 13 9
Plan participants' contributions - - 6 4
Withdrawal under IRS Section 420 (36) (35) - -
Benefits paid (485) (460) (128) (117)
Foreign currency changes (7) 1 - -
------- ------- ------- -------
Fair value of plan assets at end of period $ 8,427 $ 8,489 $ 1,422 $ 1,354
======= ======= ======= =======
FUNDED STATUS:
Funded status at end of period $ 2,118 $ 2,932 $ (791) $ (774)
Unrecognized transition (asset) liability (554) (661) 660 707
Unrecognized prior service cost 335 327 - -
Unrecognized actuarial net gain (813) (1,644) (353) (364)
Effects of 4th quarter activity (9) (63) 2 33
------- ------- ------- -------
Net amount recognized $ 1,077 $ 891 $ (482) $ (398)
======= ======= ======= =======
AMOUNTS RECOGNIZED IN THE STATEMENTS OF FINANCIAL
POSITION CONSIST OF:
Prepaid benefit cost $ 1,348 $ 1,150 $ - $ -
Accrued benefit liability (287) (270) (482) (398)
Intangible asset 7 5 - -
Accumulated other comprehensive income 9 6 - -
-------- -------- -------- ---------
Net amount recognized $ 1,077 $ 891 $ (482) $ (398)
======== ======== ======== =========
</TABLE>
31
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
9. EMPLOYEE BENEFIT PLANS (CONTINUED)
The projected benefit obligation, accumulated benefit obligation and fair
value of plan assets for the pension plan with accumulated benefit
obligations in excess of plan assets were $384 million, $284 million and
$0, respectively, as of September 30, 1998 and $319 million, $226 million
and $ 0, respectively, as of September 30, 1997.
The effects of fourth quarter activity are summarized as follows:
<TABLE>
<CAPTION>
OTHER
PENSION BENEFITS POSTRETIREMENT BENEFITS
---------------------- -----------------------
1998 1997 1998 1997
------ ------- ------ ------
(In Millions)
<S> <C> <C> <C> <C>
Effect of IRS Section 420 transfer $ - $ (36) $ - $ -
Contractual termination benefits (14) (30) - -
Contribution from pension plan - - - 31
Employer contributions 5 3 2 2
----- ------- ------ ------
Effects of 4th quarter activity $ (9) $ (63) $ 2 $ 33
====== ======= ====== ======
</TABLE>
Pension plan assets consist primarily of equity securities, bonds, real estate
and short-term investments, of which $5,926 million and $6,022 million are
included in Separate Account assets and liabilities at September 30, 1998 and
1997, respectively.
Other postretirement plan assets consist of group and individual variable life
insurance policies, group life and health contracts, common stocks, U.S.
government securities and short-term investments. Plan assets include $1,018
million and $1,044 million of Company insurance policies and contracts at
September 30, 1998 and 1997, respectively.
Effective December 31, 1996, The Prudential Securities Incorporated Cash Balance
Plan (the "PSI Plan") was merged into The Retirement System for United States
Employees and Special Agents of The Prudential Insurance Company of America (the
"Prudential Plan"). The name of the merged plan is The Prudential Merged
Retirement Plan ("Merged Retirement Plan"). All of the assets of the Merged
Retirement Plan are available to pay benefits to participants and their
beneficiaries who are covered by the Merged Retirement Plan. The merger of the
plans had no effect on the December 31, 1996 results of operations.
During 1996, the Prudential Plan was amended to provide cost of living
adjustments for retirees. The effect of this plan amendment increased benefit
obligations and unrecognized prior service cost by $170 million at September 30,
1996. In addition, the Prudential Plan was amended to provide contractual
termination benefits to certain plan participants who were notified between
September 15, 1996 and December 31, 1998 that their employment had been
terminated. Costs related to these amendments are reflected below in contractual
termination benefits.
32
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
9. EMPLOYEE BENEFIT PLANS (CONTINUED)
Net periodic benefit cost included in "General and administrative expenses"
in the Company's Consolidated Statements of Operations for the years ended
December 31, includes the following components:
<TABLE>
<CAPTION>
OTHER
PENSION BENEFITS POSTRETIREMENT BENEFITS
----------------------------------- ------------------------------------
1998 1997 1996 1998 1997 1996
----------------------------------- ------------------------------------
(In Millions)
<S> <C> <C> <C> <C> <C> <C>
COMPONENTS OF NET PERIODIC BENEFITS COSTS:
Service cost $ 159 $ 127 $ 140 $ 35 $ 38 $ 45
Interest cost 397 376 354 142 149 157
Expected return on plan assets (674) (617) (594) (119) (87) (93)
Amortization of transition amount (106) (106) (107) 47 50 53
Amortization of prior service cost 45 42 26 - - -
Amortization of actuarial net (gain) loss 1 - - (13) (13) (3)
Curtailment gain (loss) 5 - - - - (9)
Contractual termination benefits 14 30 63 - - -
------- ------- ------- ------- ------- ------
Net periodic (benefit) cost $ (159) $ (148) $ (118) $ 92 $ 137 $ 150
======= ======= ======= ======= ======= ======
</TABLE>
The assumptions at September 30, used by the Company to calculate the benefit
obligations as of that date and to determine the benefit cost in the subsequent
year are as follows:
<TABLE>
<CAPTION>
OTHER
PENSION BENEFITS POSTRETIREMENT BENEFITS
------------------------------ ----------------------------------------
1998 1997 1996 1998 1997 1996
------------------------------ ----------------------------------------
<S> <C> <C> <C> <C> <C> <C>
WEIGHTED-AVERAGE ASSUMPTIONS:
Discount rate 6.50% 7.25% 7.75% 6.50% 7.25% 7.75%
Rate of increase in compensation levels 4.50% 4.50% 4.50% 4.50% 4.50% 4.50%
Expected return on plan assets 9.50% 9.50% 9.50% 9.00% 9.00% 9.00%
Health care cost trend rates - - - 7.80-11.00% 8.20-11.80% 8.50-12.50%
Ultimate health care cost trend rate
after gradual decrease until 2006 - - - 5.00% 5.00% 5.00%
</TABLE>
33
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
9. EMPLOYEE BENEFIT PLANS (CONTINUED)
Assumed health care cost trend rates have a significant effect on the
amounts reported for the health care plan. A one-percentage point
increase and decrease in assumed health care cost trend rates would have
the following effects:
OTHER
POSTRETIREMENT BENEFITS
-----------------------
1998
------
(In Millions)
ONE PERCENTAGE POINT INCREASE
Effect on total service and interest costs $ 24
Effect on postretirement benefit obligation (226)
ONE PERCENTAGE POINT DECREASE
Effect on total service and interest costs $ (19)
Effect on postretirement benefit obligation 187
POSTEMPLOYMENT BENEFITS
The Company accrues postemployment benefits primarily for life and health
benefits provided to former or inactive employees who are not retirees. The
net accumulated liability for these benefits at December 31, 1998 and 1997
was $135 million and $144 million, respectively, and is included in "Other
liabilities."
OTHER EMPLOYEE BENEFITS
The Company sponsors voluntary savings plans for employees (401(k) plans).
The plans provide for salary reduction contributions by employees and
matching contributions by the Company of up to 3% of annual salary,
resulting in $54 million, $63 million and $57 million of expenses included in
"General and administrative expenses" for 1998, 1997 and 1996, respectively.
DISCONTINUED OPERATIONS
In connection with the disposal of the Company's HealthCare business, as more
fully discussed in Note 3, the loss on disposal was reduced by an estimated
curtailment gain of $30 million.
34
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
10. INCOME TAXES
The components of income tax expense for the years ended December 31, were
as follows:
1998 1997 1996
------ ------ ------
(In Millions)
Current tax expense (benefit):
U.S. $ 983 $ (14) $ 400
State and local 54 51 108
Foreign 148 64 48
------ ------ ------
Total $1,185 $ 101 $ 556
====== ====== ======
Deferred tax expense (benefit):
U.S. $ (193) $ 269 $ (428)
State and local (6) 4 (2)
Foreign (16) 33 54
------ ------ ------
Total $ (215) $ 306 $ (376)
====== ====== ======
Total income tax expense $ 970 $ 407 $ 180
====== ====== ======
The Company's 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 continuing operations before income taxes for the following reasons:
<TABLE>
<CAPTION>
1998 1997 1996
------ ------ ------
(In Millions)
<S> <C> <C> <C>
Expected federal income tax expense $ 908 $ 480 $ 539
Equity tax (benefit) 75 (65) (365)
State and local income taxes 31 37 69
Tax-exempt interest and dividend received deduction (46) (67) (67)
Other
2 22 4
------ ------ ------
Total income tax expense $ 970 $ 407 $ 180
====== ====== ======
</TABLE>
35
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
10. INCOME TAXES (CONTINUED)
Deferred tax assets and liabilities at December 31, resulted from the items
listed in the following table:
1998 1997
------- -------
(In Millions)
Deferred tax assets
Insurance reserves $ 1,584 $ 1,482
Policyholder dividends 265 250
Net operating loss carryforwards 260 80
Litigation related reserves 104 178
Employee benefits 63 42
Other 134 287
------- -------
Deferred tax assets before valuation allowance 2,410 2,319
Valuation allowance (13) (18)
------- -------
Deferred tax assets after valuation allowance 2,397 2,301
------- -------
Deferred tax liabilities
Investments 1,414 1,867
Deferred policy acquisition costs 1,436 1,525
Depreciation 64 36
------- -------
Deferred tax liabilities 2,914 3,428
------- -------
Net deferred tax liability $ 517 $ 1,127
======= =======
Management believes that based on its historical pattern of taxable income, the
Company will produce sufficient income in the future to realize its deferred tax
asset 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 had federal life net operating loss carryforwards of
$540 million and $1,200 million, which expire by 2012. At December 31, 1998 and
1997, respectively, the Company had state non-life operating loss carryforwards
for tax purposes approximating $1,059 million and $800 million, which expire by
2018.
The Internal Revenue Service (the "Service") has completed all examinations of
the 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. Management, however, 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.
36
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
11. STATUTORY EQUITY AND INCOME
Applicable insurance department regulations require that the Company
prepare statutory financial statements in accordance with statutory
accounting practices prescribed or permitted by the New Jersey Department
of Banking and Insurance. Statutory accounting practices primarily differ
from GAAP by charging policy acquisition costs to expense as incurred,
establishing future policy benefits reserves using different actuarial
assumptions, not providing for deferred taxes, and valuing securities on a
different basis. The Company's statutory net income, as filed with the New
Jersey Department of Banking and Insurance was $1,247 million, $1,471
million and $1,402 million for the years 1998, 1997 and 1996,
respectively. Statutory capital and surplus, as filed, at December 31,
1998 and 1997 was $8,536 million and $9,242 million, respectively.
12. OPERATING LEASES
The Company and its subsidiaries occupy leased office space in many
locations under various long-term leases and have entered into numerous
leases covering the long-term use of computers and other equipment. At
December 31, 1998, future minimum lease payments under non-cancelable
operating leases are estimated as follows:
(In Millions)
1999 $ 295
2000 263
2001 231
2002 198
2003 157
Remaining years after 2003 753
-------
Total $ 1,897
=======
Amounts presented in the table above include operating leases relating to
the Company's HealthCare business. See Note 3 for a discussion of the
pending sale of this business. Amounts applicable to the HealthCare
business are $65 million in 1999, $58 million in 2000, $52 million in
2001, $45 million in 2002, $34 million in 2003 and $89 million thereafter.
Rental expense incurred for the years ended December 31, 1998, 1997 and
1996 was approximately $320 million, $352 million and $343 million,
respectively.
13. 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).
37
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- -------------------------------------------------------------------------------
13. 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 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. For certain non-performing loans, the
estimated fair value is based upon the present value of expected future
cash flows discounted at the appropriate U.S. Treasury rate adjusted for
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.
DERIVATIVE FINANCIAL INSTRUMENTS
The fair value of swap agreements is estimated based on the present value
of future cash flows under the agreements discounted at the applicable
zero coupon U.S. Treasury rate and swap spread. The fair value of
forwards, futures and options is estimated based on market quotes for a
transaction with similar terms. The estimated fair value of loan
commitments is derived by comparing the contractual stream of fees with
such fee streams adjusted to reflect current market rates that would be
applicable to instruments of similar type, maturity, and credit standing.
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. For interest sensitive life
contracts, fair value approximates carrying value.
DEBT
The estimated fair value of short-term and long-term debt is derived by
using discount rates based on the borrowing rates currently available to
the Company for debt with similar terms and remaining maturities.
38
<PAGE>
- -------------------------------------------------------------------------------
13. FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
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
AMOUNT FAIR VALUE AMOUNT FAIR VALUE
-------- ---------- -------- ----------
(In Millions)
<S> <C> <C> <C> <C>
FINANCIAL ASSETS:
Other than trading:
Fixed maturities:
Available for sale $ 80,158 $ 80,158 $ 75,270 $ 75,270
Held to maturity 16,848 17,906 18,700 19,894
Equity securities 2,759 2,759 2,810 2,810
Mortgage loans on real estate 16,495 17,265 16,004 16,703
Policy loans 7,476 8,037 7,034 7,201
Securities purchased under agreements to resell 1,737 1,737 - -
Short-term investments 9,781 9,781 12,106 12,106
Cash 1,943 1,943 1,859 1,859
Restricted Assets 2,366 2,366 1,835 1,835
Separate Account assets 81,621 81,621 73,839 73,839
Derivative financial instruments 132 135 93 92
Trading:
Trading account assets $ 8,888 $ 8,888 $ 6,347 $ 6,347
Broker-dealer related receivables 10,142 10,142 8,442 8,442
Derivative financial instruments 765 765 910 910
Securities purchased under agreements to resell 8,515 8,515 8,661 8,661
Cash collateral for borrowed securities 5,622 5,622 5,047 5,047
FINANCIAL LIABILITIES:
Other than trading:
Policyholders' account balances $ 30,974 $ 31,940 $ 33,246 $ 34,201
Securities sold under agreements to repurchase 7,085 7,085 85 85
Cash collateral for loaned securities 2,450 2,450 9,647 9,647
Short-term and long-term debt 14,816 15,084 11,047 11,131
Securities sold but not yet purchased 2,215 2,215 - -
Separate Account liabilities 80,931 80,931 73,451 73,451
Derivative financial instruments 390 391 100 99
Trading:
Broker-dealer related payables $ 6,530 $ 6,530 $ 3,338 $ 3,338
Derivative financial instruments 725 725 1,019 1,019
Securities sold under agreements to repurchase 14,401 14,401 12,262 12,262
Cash collateral for loaned securities 4,682 4,682 4,470 4,470
Securities sold but not yet purchased 3,556 3,556 3,648 3,648
</TABLE>
39
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
14. DERIVATIVE AND OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS
INTEREST RATE SWAPS
The Company uses interest rate swaps to reduce market risks from changes in
interest rates and to alter interest rate exposures arising from mismatches
between assets and liabilities. Under interest rates swaps, the Company
agrees with other parties to exchange, at specified intervals the difference
between fixed-rate and floating-rate interest amounts calculated by
reference to an agreed notional principal amount. Generally, no cash is
exchanged at the outset of the contract and no principal payments are made
by either party. Cash is paid or received based on the terms of the swap.
These transactions are entered into pursuant to master agreements that
provide for a single net payment to be made by one counterparty at each due
date. The fair value of swap agreements is estimated based on the present
value of future cash flows under the agreements, discounted at the
applicable zero coupon U.S. Treasury rate and swap spread.
If swap agreements meet the criteria for hedge accounting, net interest
receipts or payments are accrued and recognized over the life of the swap
agreements as an adjustment to interest income or expense of the hedged
item. Any unrealized gains or losses are not recognized until the hedged
item is sold or matures. Gains or losses on early termination of interest
rate swaps are deferred and amortized over the remaining period originally
covered by the swaps. If the criteria for hedge accounting are not met, the
swap agreements are accounted for at market value with changes in fair value
reported in current period earnings.
FUTURES AND 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
based on market quotes for transactions 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 modify 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.
If futures 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
gains and losses associated with anticipatory transactions are not material.
40
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
14. DERIVATIVE AND OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS (CONTINUED)
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.
CURRENCY DERIVATIVES
The Company uses currency derivatives, including exchange-traded currency
futures and options, currency forwards and 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 U.S. Dollar.
Under currency forwards, the Company agrees with other parties upon
delivery of a specified amount of specified currency at a specified future
date. Typically, the price is agreed upon at the time of the contract and
payment for such a contract is made at the specified future date. 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
"Accumulated other comprehensive income." If currency derivatives do not
meet hedge accounting criteria, gains or losses from those derivatives are
recognized in current period earnings.
The tables below summarize the Company's outstanding positions by
derivative instrument types as of December 31, 1998 and 1997. The amounts
presented are classified as either trading or other than trading, based on
management's intent at the time of contract inception and throughout the
life of the contract. The table includes the estimated fair values of
outstanding derivative positions only and does not include the changes in
fair values of associated financial and non-financial assets and
liabilities, which generally offset derivative notional amounts. The fair
value amounts presented also do not reflect the netting of amounts
pursuant to right of setoff, qualifying master netting agreements with
counterparties or collateral arrangements.
41
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
14. DERIVATIVE AND OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS (CONTINUED)
DERIVATIVE FINANCIAL INSTRUMENTS
DECEMBER 31, 1998
(In Millions)
<TABLE>
<CAPTION>
TRADING OTHER THAN TRADING TOTAL
------------------------- ------------------------- -------------------------
ESTIMATED ESTIMATED ESTIMATED
NOTIONAL FAIR VALUE NOTIONAL FAIR VALUE NOTIONAL FAIR VALUE
-------- ---------- -------- ---------- -------- ----------
<S> <C> <C> <C> <C> <C> <C>
Swaps:
Assets $ 4,564 $ 309 $ 2,200 $ 96 $ 6,764 $ 405
Liabilities 4,734 274 3,065 349 7,799 623
Forwards:
Assets 45,651 282 1,004 14 46,655 296
Liabilities 39,153 280 2,039 37 41,192 317
Futures:
Assets 3,272 61 1,786 23 5,058 84
Liabilities 4,371 47 531 5 4,902 52
Options:
Assets 8,310 113 130 2 8,440 115
Liabilities 6,388 124 213 - 6,601 124
-------- -------- -------- ------- -------- --------
Total:
Assets $ 61,797 $ 765 $ 5,120 $ 135 $ 66,917 $ 900
======== ======== ======== ======= ======== ========
Liabilities $ 54,646 $ 725 $ 5,848 $ 391 $ 60,494 $ 1,116
======== ======== ======== ======= ======== ========
</TABLE>
42
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- -------------------------------------------------------------------------------
14. DERIVATIVE AND OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS (CONTINUED)
DERIVATIVE FINANCIAL INSTRUMENTS
DECEMBER 31, 1997
(In Millions)
<TABLE>
<CAPTION>
TRADING OTHER THAN TRADING TOTAL
-------------------------- ------------------------- --------------------------
ESTIMATED ESTIMATED ESTIMATED
NOTIONAL FAIR VALUE NOTIONAL FAIR VALUE NOTIONAL FAIR VALUE
-------- ----------- -------- ----------- -------- ----------
<S> <C> <C> <C> <C> <C> <C>
Swaps:
Assets $ 5,798 $ 316 $ 1,446 $ 67 $ 7,244 $ 383
Liabilities 5,439 418 1,197 70 6,636 488
Forwards:
Assets 29,947 438 1,171 25 31,118 463
Liabilities 29,985 461 687 8 30,672 469
Futures:
Assets 4,103 51 46 - 4,149 51
Liabilities 3,064 50 3,320 21 6,384 71
Options:
Assets 6,893 105 239 - 7,132 105
Liabilities 3,946 90 224 - 4,170 90
------- ------- ------- ------ ------- -------
Total:
Assets $46,741 $ 910 $ 2,902 $ 92 $49,643 $ 1,002
======= ======= ======= ====== ======= =======
Liabilities $42,434 $ 1,019 $ 5,428 $ 99 $47,862 $ 1,118
======= ======= ======= ====== ======= =======
</TABLE>
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. At December
31, 1998 and 1997 approximately 97% and 95%, respectively, of the net credit
exposure for the Company from derivative contracts is with investment-grade
counterparties.
Net trading revenues for the years ended December 31, 1998, 1997 and 1996
relating to forwards, futures and swaps were $67 million, $(5) million and $(13)
million; $59 million, $37 million and $(13) million; and $42 million, $32
million and $(11) million, respectively. Net trading revenues for options were
not material. Average fair values for trading derivatives in an asset position
during the years ended December 31, 1998 and 1997 were $1,165 million and $1,015
million, respectively, and for derivatives in a liability position were $1,140
million and $1,166 million, respectively. Of those derivatives held for trading
purposes at December 31, 1998, 63% of the notional amount consisted of interest
rate derivatives, 32% consisted of foreign currency derivatives, and 5%
consisted of equity and commodity derivatives. Of those derivatives held for
purposes other than trading at December 31, 1998, 60% of notional consisted of
interest rate derivatives, 31% consisted of foreign currency derivatives, and 9%
consisted of equity and commodity derivatives.
43
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
14. DERIVATIVE AND OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS (CONTINUED)
OFF-BALANCE SHEET CREDIT-RELATED INSTRUMENTS
During the normal course of its business, the Company utilizes financial
instruments with off-balance sheet credit risk such as commitments,
financial guarantees, loans sold with recourse and letters of credit.
Commitments include commitments to purchase and sell mortgage loans, the
underfunded portion of commitments to fund investments in private placement
securities, and unused credit card and home equity lines. In connection
with the Company's commercial banking business, loan commitments for credit
cards and home equity lines of credit include agreements to lend up to
specified limits to customers. It is anticipated that commitment amounts
will only be partially drawn down based on overall customer usage patterns,
and, therefore, do not necessarily represent future cash requirements. The
Company evaluates each credit decision on such commitments at least
annually and has the ability to cancel or suspend such lines at its option.
The total available lines of credit card and home equity commitments were
$3.0 billion of which $2.2 billion remains available at December 31, 1998.
Also in connection with the Company's investment banking activities, the
Company enters into agreements with mortgage originators and others to
provide financing on both a secured and unsecured basis. Aggregate
financing commitments on a secured basis approximate $6.1 billion of which
$3.3 billion remains available at December 31, 1998. Unsecured commitments
approximate $65.0 million, the majority of which is outstanding at December
31, 1998.
Other commitments substantially include commitments to purchase and sell
mortgage loans and the underfunded portion of commitments to fund
investments in private placement securities. These mortgage loans and
private commitments were $2.5 billion of which $1.8 billion remain
available at December 31, 1998. Additionally, mortgage loans sold with
recourse were $0.5 billion at December 31, 1998.
The Company also provides financial guarantees incidental to other
transactions and letters of credit that guarantee the performance of
customers to third parties. These credit-related financial instruments have
off-balance sheet credit risk because only their origination fees, if any,
and accruals for probable losses, if any, are recognized until the
obligation under the instrument is fulfilled or expires. These instruments
can extend for several years and expirations are not concentrated in any
period. The Company seeks to control credit risk associated with these
instruments by limiting credit, maintaining collateral where customary and
appropriate, and performing other monitoring procedures. At December 31,
1998 these were immaterial.
15. DIVESTITURE
On July 31, 1996, the Company sold a substantial portion of its Canadian
Branch business to the London Life Insurance Company ("London Life"). This
transaction was structured as a reinsurance transaction whereby London Life
assumed total liabilities of the Canadian Branch equal to $3,291 million as
well as a related amount of assets equal to $3,205 million. This transfer
resulted in a reduction of policy liabilities of $3,257 million and a
corresponding reduction in invested assets. The Company recognized an
after-tax gain in 1996 of $116 million as a result of this transaction,
recorded in "Realized investment gains, net."
16. CONTINGENCIES AND LITIGATION
STOP-LOSS REINSURANCE AGREEMENT
In connection with the sale in 1995 of its wholly-owned subsidiary
Prudential Reinsurance Company ("Pru Re"), the Company's subsidiary,
Gibraltar Casualty Insurance Company ("Gibraltar") entered into a stop-loss
reinsurance agreement with Pru Re whereby Gibraltar has reinsured up to
$375 million of the first $400 million of aggregate adverse loss
development on reserves recorded by Pru Re at June 30, 1995. The Company
has guaranteed
44
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
16. CONTINGENCIES AND LITIGATION (CONTINUED)
Gibraltar's obligations arising under the stop-loss agreement subject to a
limit of $375 million. Through December 31, 1998, Gibraltar has incurred
$375 million in losses under the stop-loss agreement, including $90 million
in 1998. Gibraltar has paid $197 million to Pru Re under the stop-loss
agreement.
ENVIRONMENTAL AND ASBESTOS-RELATED CLAIMS
Certain of the Company's subsidiaries received claims under expired
contracts which assert alleged injuries and/or damages relating to or
resulting from toxic torts, toxic waste and other hazardous substances. The
liabilities for such claims cannot be estimated by traditional reserving
techniques. As a result of judicial decisions and legislative actions, the
coverage afforded under these contracts may be expanded beyond their
original terms. Extensive litigation between insurers and insureds over
these issues continues and the outcome is not predictable. In establishing
the liability for unpaid claims for these losses, management considered the
available information. However, given the expansion of coverage and
liability by the courts and legislatures in the past, and potential for
other unfavorable trends in the future, the ultimate cost of these claims
could increase from the levels currently established.
MANAGED CARE REIMBURSEMENT
The Company has reviewed its obligations under certain managed care
arrangements for possible failure to comply with contractual and regulatory
requirements. It is the opinion of management that adequate reserves have
been established to provide for appropriate reimbursements to customers.
REINSURANCE AND PARTICIPATION AGREEMENT
The Company and a number of other insurers ("the Consortium") entered into
a Reinsurance and Participation Agreement (the "Agreement") with MBL Life
Assurance Corporation ("MBLLAC") and others, under which the Company and
the other insurers agreed to reinsure certain payments to be made to
contract holders by MBLLAC in connection with the plan of rehabilitation of
Mutual Benefit Life Insurance Company. Under the agreement, the Consortium,
subject to certain terms and conditions, will indemnify MBLLAC for the
ultimate net loss sustained by MBLLAC on each contract subject to the
Agreement. The ultimate net loss represents the amount by which the
aggregate required payments exceed the fair market value of the assets
supporting the covered contracts at the time such payments are due. The
Company's share of any net loss is 30.55%. The Company has determined that
it does not expect to make any payments to MBLLAC under the agreement. The
Company concluded this after testing a wide range of potentially adverse
scenarios during the rehabilitation period for MBLLAC. In November 1998,
the Rehabilitation Court approved the sale of MBLLAC's individual life
insurance and individual group annuity business to affiliates of SunAmerica
Inc. Upon the end of the rehabilitation period, expected during 1999, the
agreement will terminate.
LITIGATION
Various lawsuits against the Company have arisen in the course of the
Company's business. In certain of these matters, large and/or indeterminate
amounts are sought.
Two putative class actions and approximately 320 individual actions were
pending against the Company in the United States as of January 31, 1999
brought on behalf of those persons who purchased life insurance policies
allegedly because of deceptive sales practices engaged in by the Company
and its insurance agents in violation of state and federal laws. Additional
suits may be filed by individuals who opted out of the class action
settlement described below. The sales practices alleged to have occurred
are contrary to Company policy. Some of these cases seek substantial
damages while others seek unspecified compensatory, punitive and treble
damages. The Company intends to defend these cases vigorously.
45
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
16. CONTINGENCIES AND LITIGATION (CONTINUED)
A Multi-State Life Insurance Task Force (the "Task Force"), comprised of
insurance regulators from 29 states and the District of Columbia, was
formed in April 1995 to conduct a review of sales and marketing practices
throughout the life insurance industry. The Company was the initial focus
of the Task Force examination. On July 9, 1996, the Task Force released its
report on the Company's activities. The Task Force found that some sales of
life insurance policies by the Company had been improper and that the
Company's efforts to prevent such practices were not sufficiently
effective. Based on the findings, the Task Force recommended, and the
Company agreed to, various changes to its sales and business practices
controls, and a series of fines allocated to all 50 states and the District
of Columbia. In addition, the Task Force recommended a remediation program
pursuant to which the Company would offer relief to the policyowners who
were misled when they purchased permanent life insurance policies in the
United States from 1982 to 1995.
On October 28, 1996, the Company entered into a Stipulation of Settlement
with attorneys for the plaintiffs in the consolidated class action lawsuit
pending in a Multi-District Litigation proceeding in the U.S. District
Court for the District of New Jersey. The class action suit involved
alleged improprieties in connection with the Company's sale, servicing and
operation of permanent life insurance policies from 1982 through 1995.
Pursuant to the settlement, the Company agreed to provide certain
enhancements and changes to the remediation program previously accepted by
the Task Force, including some additional remedies. In addition, the
Company agreed that it would incur a minimum cost of $410 million in
providing remedies to policyowners under the program and, in specified
circumstances, agreed to make certain other payments and guarantees. Under
the terms of the settlement, the Company agreed to a minimum average cost
per remedy of $2,364 for up to 330,000 claims remedied and also agreed to
provide additional compensation to be determined by formula that will range
in aggregate amount from $50 million to $300 million depending on the total
number of claims remedied. At the end of the remediation program's claim
evaluation process, the Court will determine how the additional
compensation will be distributed.
The terms of the remediation program described above were enhanced again in
February 1997 pursuant to agreements reached with several states that had
not previously accepted the terms of the program. These changes were
incorporated as amendments to the above-described Stipulation of Settlement
and related settlement documents, and the amended Stipulation of Settlement
was approved as fair to class members by the U.S. District Court in March
1997. By that point in time, the Company had entered into agreements with
all 50 states and the District of Columbia pursuant to which each
jurisdiction had accepted the remediation plan and the Company had agreed
to pay approximately $65 million in fines, penalties and related payments.
The decision of the U.S. District Court to certify a class in the
above-described litigation for settlement purposes only and to approve the
class action settlement as described in the amended Stipulation of
Settlement was affirmed by the U.S. Court of Appeals for the Third Circuit
in July 1998 although the issue of class counsel's fees was sent back to
the U.S. District Court for review. The Supreme Court denied certiorari in
January 1999, thereby making final the approval of the class action
settlement.
While the approval of the class action settlement is now final, the Company
remains subject to oversight and review by insurance regulators and other
regulatory authorities with respect to its sales practices and the conduct
of the remediation program. The releases granted by the state insurance
regulators pursuant to the individual state settlement agreements do not
become final until the remediation program has been completed without any
material changes to which those regulators have not agreed. The U.S.
District Court has also retained jurisdiction as to all matters relating to
the administration, consummation, enforcement and interpretation of the
class action settlement.
Pursuant to the state agreements and the amended Stipulation of Settlement,
as approved by the U.S. District Court, the Company initiated its
remediation program in 1997. The Company mailed packages and provided broad
class notice to the owners of approximately 10.7 million policies eligible
to participate in the remediation program in
46
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
16. CONTINGENCIES AND LITIGATION (CONTINUED)
October 1996, informing them of their rights. Owners of approximately
21,800 policies elected to be excluded from the class action settlement. Of
those eligible to participate in the settlement, policyowners who believed
they were misled were invited to file a claim through an Alternative
Dispute Resolution ("ADR") process. The ADR process was established to
enable the Company to discharge its liability to the affected policyowners.
Policyowners who did not wish to file a claim in the ADR process were
permitted to choose from options available under Basic Claim Relief, such
as preferred rate premium loans, or annuities, mutual fund shares or life
insurance policies that the Company will enhance.
In January 1997 the U.S. District Court sanctioned and fined the Company
$1 million for failure to properly implement procedures for its employees
to retain documents in violation of the Courts' order that required the
parties to preserve all documents relevant to the class action and
remediation program. The Court ordered the Company to implement a document
retention policy and directed that an independent expert be engaged to
investigate the extent of document destruction and its impact on the
remediation program.
In response to the class notices, the owners of approximately 503,000
policies indicated an interest in a Basic Claim Relief remedy. Management
believes that costs associated with providing Basic Claim Relief will not
be material to the Company's financial position or results of operations.
The owners of approximately 1.16 million policies responded to the class
notices by indicating an intent to file an ADR claim. All policyholders
who responded were provided an ADR claim form for completion and
submission. The ADR process generally requires that individual claim forms
and files be reviewed by the Company and by one or more independent claim
evaluators. Approximately 649,000 claim forms were completed and returned
and approximately 591,000 decision letters had been mailed to claimants as
of January 31, 1999. In many instances, claimants have the right to
"appeal" the Company's decision to an independent reviewer. Management
believes that the bulk of such appeals will be resolved in 1999.
In 1996, the Company recorded in its Consolidated Statement of Operations
the cost of $410 million as a guaranteed minimum remediation expense
pursuant to the settlement agreement. Management had no better information
available at that time upon which to make a reasonable estimate of losses
associated with the settlement. In 1997, based on additional information
derived from claim sampling techniques, the terms of the settlement and
the number of claim forms received, management increased the estimated
liability for the cost of remedying policyholder claims in the ADR process
by $1.64 billion before taxes to approximately $2.05 billion before taxes,
of which $1.80 billion was funded in a settlement trust. Management
expressly noted that additional cost items were anticipated that could not
be fully evaluated at that time.
In 1998, based on estimates derived from an analysis of claims actually
remedied (including interest), a sample of claims still to be remedied, an
estimate of additional liability associated with the results of the
investigation by the independent expert regarding the impact of document
destruction on the ADR program, and an estimate of additional liabilities
associated with a claimant's right to "appeal" the Company's decision,
management increased the estimated liability for the cost of ADR remedies
by $.51 billion before taxes to a total of $2.56 billion before taxes, all
of which has been funded in a settlement trust as discussed in Note 4. The
Company has also recorded from 1996 through 1998 additional charges to
reflect ongoing administrative costs related to the ADR program,
regulatory fines, penalties and related payments, litigation costs and
settlements, and other fees and expenses associated with the resolution of
sales practices issues. While management believes the foregoing provisions
are reasonable estimates based on information currently available, the
ultimate amount of the total cost of remedied policyholder claims and
other related costs is dependent on complex and varying factors, including
the relief options still to be chosen by claimants, the dollar value of
those options, and the number and type of claims that may successfully be
appealed.
47
<PAGE>
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
16. CONTINGENCIES AND LITIGATION (CONTINUED)
The Company's litigation is subject to many uncertainties, and given the
complexity and scope, the outcomes cannot be predicted with precision. It
is possible that the results of operations or the cash flow of the Company,
in particular quarterly or annual periods, could be materially affected by
an ultimate unfavorable outcome of the matters specifically discussed
above. Management believes, however, that the ultimate resolution of all
such matters, after consideration of applicable reserves, should not have a
material adverse effect on the Company's financial position.
******
48
<PAGE> 61
PART C - OTHER INFORMATION
ITEM 28. FINANCIAL STATEMENTS AND EXHIBITS
(a) FINANCIAL STATEMENTS
(1) Financial Statements of The Prudential Variable Contract Account-2
(Registrant) consisting of the Statement of Net Assets, as of December
31, 1998; the Statement of Operations for the period ended December 31,
1998; the Statements of Changes in Net Assets for the periods ended
December 31, 1998 and 1997; and the Notes relating thereto appear in the
statement of additional information (Part B of the Registration
Statement)
(2) Financial Statements of The Prudential Insurance Company of America
(Depositor) consisting of the Statements of Financial Position as of
December 31, 1998 and 1997; the Statements of Operations and Changes in
Surplus and Asset Valuation Reserve and the Statements of Cash
Flows for the years ended December 31, 1998 and 1997 and the Notes
relating thereto appear in the statement of additional information (Part
B of the Registration Statement)
(b) EXHIBITS
<TABLE>
<CAPTION>
<S> <C>
(1) Resolution of the Board of Directors Filed herewith
of The Prudential Insurance
Company of America establishing
The Prudential Variable Contract
Account-2
(2) Rules and Regulations of The Filed herewith
Prudential Variable Contract
Account-2
(3) Form of Custodian Agreement Incorporated by reference to Exhibit (3)
to Post-Effective Amendment No. 52 to this
with Investors Fiduciary Trust Registration Statement filed via EDGAR on April 29,
Company 1998
(4) (i) Agreement for Investment Filed herewith
Management Services between
Prudential and The Prudential
Variable Contract Account-2
(ii) Amendment No. 1 to Agreement Filed herewith
for Investment Management Services
between Prudential and The
Prudential Variable Contract
Account-2
(iii) Amendment No. 2 to Agreement Filed herewith
for Investment Management Services
between Prudential and The
Prudential Variable Contract
Account-2
(iv) Service Agreement between Incorporated by reference to Exhibit (v)(2) to
Prudential and The Prudential Post-Effective Amendment No. 33 to The Prudential
Investment Corporation Series Fund, Inc. filed 4/28/97
(5) Agreement for the Sale of VCA-2 Incorporated by reference to
Contracts between Prudential, The Exhibit 5(v) to Post-Effective
</TABLE>
C-1
<PAGE> 62
<TABLE>
<S> <C>
Prudential Variable Contract Amendment No. 50 to this
Account-2 and Prudential Investment Registration Statement
Management Services LLC
(6) (i) Specimen copy of group variable Incorporated by reference to
annuity contract Form GVA-120, with Exhibit (4) to Post-Effective
State modifications Amendment No. 32 to this
Registration Statement
(To be filed via EDGAR)
(ii) Specimen copy of Group Annuity Incorporated by reference to
Amendment Form GAA-7764 for Exhibit (6)(ii) to Post-Effective
tax-deferred annuities Amendment No 42 to this
Registration Statement
(To be filed via EDGAR)
(iii) Specimen copy of Group Incorporated by reference to
Annuity Amendment Form GAA-7852 Exhibit (6)(iii) to Post-Effective
for tax-deferred annuities Amendment No. 45 to this
Registration Statement
(To be filed via EDGAR)
(7) Application form Incorporated by reference to
Exhibit (4) of Post-Effective
Amendment No. 32 to this
Registration Statement
(To be filed via EDGAR)
(8) (i) Copy of the Charter of Prudential Incorporated by reference to
as amended to and including Post Effective Amendment No.9 to
November 14, 1995 Form S-1, Registration No. 33-20083
filed 4/9/97 on behalf of The Prudential
Variable Contract Real Property Account
(ii) Copy of the By-Laws of Prudential Incorporated by reference to Form S-6, Registration
as amended to and including May 12, 1998 No. 333-64957 filed on September 30, 1998 via
EDGAR on behalf of The Prudential Variable
Appreciable Account
(13) (i) Consent of independent accountants Filed herewith
(ii)Powers of Attorney
(a) Members of the Registrant's Incorporated by reference to Exhibit (13) (ii)(a)
Committee, Messrs. Fenster, McDonald to Post-Effective Amendment No. 52 to this
and Weber Registration Statement filed via EDGAR on April 28, 1998
(b) Directors and Officers of Incorporated by reference to Post-Effective
Prudential Amendment No. 10 to Form S-1, Registration No. 33-20083,
filed on April 9, 1998 on behalf of The Prudential
Variable Contract Real Property Account
(b)(i) Anthony S. Piszel Incorporated by reference to Post-Effective Amendment No.
4 for Form N-4, Registration No. 333-23271, filed February
23, 1999, on behalf of The Prudential Discovery Select
Group Variable Contract Account
</TABLE>
C-2
<PAGE> 63
<TABLE>
<S> <C>
(17) Financial Data Schedule Filed herewith
</TABLE>
ITEM 29. DIRECTORS AND OFFICERS OF PRUDENTIAL
Information about Prudential's Directors and Executive Officers appears under
the heading "Directors and Officers of Prudential" in the Statement of
Additional Information (Part B of this Registration Statement).
ITEM 30. PERSONS CONTROLLED BY OR UNDER COMMON CONTROL WITH REGISTRANT
Registrant is a separate account of The Prudential Insurance Company of America,
a mutual life insurance company organized under the laws of the State of New
Jersey. The subsidiaries of Prudential are listed under Item 24 to
Post-Effective Amendment No. 36 to the Form N-1A Registration Statement for The
Prudential Series Fund, Inc., Registration No. 2-80896, filed on or about April
27, 1999, the text of which is hereby incorporated.
In addition to the subsidiaries shown on the Organization Chart, Prudential
holds all of the voting securities of Prudential's Gibraltar Fund, Inc., a
Maryland corporation, in three of its separate accounts. Prudential also holds
directly and in three of its other separate accounts, shares of The Prudential
Series Fund, Inc., a Maryland corporation. The balance are held in separate
accounts of Pruco Life Insurance Company and Pruco Life Insurance Company of New
Jersey, wholly-owned subsidiaries of Prudential. All of the separate accounts
referred to above are unit investment trusts registered under the Investment
Company Act of 1940. Prudential's Gibraltar Fund, Inc. and The Prudential Series
Fund, Inc. are registered as open-end, diversified management investment
companies under the Investment Company Act of 1940. The shares of these
investment companies are voted in accordance with the instructions of persons
having interests in the unit investment trusts, and Prudential, Pruco Life
Insurance Company and Pruco Life Insurance Company of New Jersey vote the shares
they hold directly in the same manner that they vote the shares that they hold
in their separate accounts.
Registrant may also be deemed to be under common control with The Prudential
Variable Contract Account-10 and The Prudential Variable Contract Account-11,
separate accounts of Prudential registered as open-end, diversified management
investment companies under the Investment Company Act of 1940, and with The
Prudential Variable Contract Account-24, a separate account of Prudential
registered as a unit investment trust.
Prudential is a mutual insurance company. Its financial statements have been
prepared in conformity with generally accepted accounting principles, which
include statutory accounting practices prescribed or permitted by state
regulatory authorities for insurance companies.
ITEM 31. NUMBER OF CONTRACTOWNERS
As of March 31, 1999, the number of contractowners of qualified contracts
offered by Registrant was 591 and the number of contractowners of non-qualified
contracts offered by Registrant was 0.
ITEM 32. INDEMNIFICATION
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.
New Jersey, being the state of organization of The Prudential Insurance Company
of America (Prudential), permits entities organized under its jurisdiction to
indemnify directors and officers with certain limitations. The relevant
provisions of New Jersey law permitting indemnification can be found in Section
14A:3-5 of the New Jersey Statutes Annotated. The text of Prudential's By-law
27, which relates to indemnification of officers and directors, is incorporated
by reference to Exhibit (6)(b) of Form S-6, Registration No. 333-64957, filed
September 30, 1998, on behalf of The Prudential Variable Appreciable Account.
C-3
<PAGE> 64
Insofar as indemnification for liabilities arising under the Securities Act of
1933 (the Act) 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 33. BUSINESS AND OTHER CONNECTIONS OF INVESTMENT ADVISER
Prudential does have other business of a substantial nature besides activities
relating to the assets of the Registrant. Prudential is involved in insurance,
securities, pension services, real estate and banking.
The Prudential Investment Corporation (PIC) is an investment unit of Prudential
and is actively engaged in the business of giving investment advice. The
officers and directors of Prudential and PIC who are engaged directly or
indirectly in activities relating to the Registrant have no other business,
profession, vocation, or employment of a substantial nature, and have not had
such other connections during the past two years.
The business and other connections, including principal business address, of
Prudential's Directors are listed under "Directors and Officers of Prudential"
in the Statement of Additional Information (Part B of this Registration
Statement).
ITEM 34. PRINCIPAL UNDERWRITER
(a) Prudential Investment Management Services LLC (PIMS), a direct wholly-owned
subsidiary of Prudential, acts as the principal underwriter for The
Prudential Variable Contract Account-10, The Prudential Variable Contract
Account-11, The Prudential Variable Contract Account-24 and for the
Registrant, all (except for The Prudential Variable Contract Account-24)
registered as open-end management investment companies under the Investment
Company Act of 1940.
(b) Information regarding the Officers and Directors of PIMS is set forth below.
<TABLE>
<CAPTION>
Name and Principal Position and Offices Positions and Offices
Business Address with Underwriter with Registrant
---------------- ---------------- ---------------
<S> <C> <C>
Robert F. Gunia*** President None
Jean D. Hamilton* Executive Vice President None
John R. Strangfeld, Jr.*** Executive Vice President None
Brian Henderson*** Senior Vice President and None
Chief Operating Officer
William V. Healey*** Senior Vice President, Secretary and None
Chief Legal Officer
Margaret M. Deverell*** Vice President, Comptroller and None
Chief Financial Officer
C. Edward Chaplin* Treasurer None
Kevin B. Frawley** Senior Vice President and Chief None
Compliance Officer
</TABLE>
- -------------------------
* Principal Business Address: 751 Broad Street, Newark, NJ 07102
** Principal Business Address: 213 Washington Street, Newark, NJ 07102
*** Principal Business Address: 100 Mulberry Street, Newark, NJ 07102
C-4
<PAGE> 65
(c) Reference is made to the Sections entitled "Summary-Charges" and "Contract
Charges" in the prospectus (Part A of this Registration Statement) and "Sale
of Group Variable Annuity Contracts" in the Statement of Additional
Information (Part B of this Registration Statement).
ITEM 35. LOCATION OF ACCOUNTS AND RECORDS
The names and addresses of the persons who maintain physical possession of the
accounts, books and documents required to be maintained by Section 31(a) of the
Investment Company Act of 1940 and the rules thereunder are:
The Prudential Insurance Company of America and The Prudential Investment
Corporation 751 Broad Street Newark, New Jersey 07102-3777
The Prudential Insurance Company of America and The Prudential Investment
Corporation 56 North Livingston Avenue Roseland, New Jersey 07068
The Prudential Insurance Company of America c/o Prudential Defined
Contribution Services 30 Scranton Office Park Scranton, Pennsylvania
18507-1789
Prudential Investments Fund Management LLC 100 Mulberry Street, Gateway
Center Three, Newark, New Jersey 07102
Investors Fiduciary Trust Company 801 Pennsylvania, Kansas City, Missouri
64105
ITEM 36. MANAGEMENT SERVICES
NOT APPLICABLE
ITEM 37. UNDERTAKINGS
The Prudential Insurance Company of America (Prudential) represents that the
fees and charges deducted under the Contract in the aggregate, are reasonable in
relation to the services rendered, the expenses expected to be incurred, and the
risks assumed by Prudential.
Subject to the terms and conditions of Section 15(d) of the Securities Exchange
Act of 1934, the undersigned Registrant hereby undertakes to file with the
Securities and Exchange Commission such supplementary and periodic information,
documents and reports as may be prescribed by any rule or regulation of the
Commission heretofore or hereafter duly adopted pursuant to authority conferred
in that section. Registrant also undertakes (1) to file a post-effective
amendment to this registration statement as frequently as is necessary to ensure
that the audited financial statements in the registration statement are never
more than 16 months old as long as payment under the contracts may be accepted;
(2) to affix to the prospectus a postcard that the applicant can remove to send
for a Statement of Additional Information or to include as part of any
application to purchase a contract offered by the prospectus, a space that an
applicant can check to request a Statement of Additional Information; and (3) to
deliver any Statement of Additional Information promptly upon written or oral
request.
Restrictions on withdrawal under Section 403(b) Contracts are imposed in
reliance upon, and in compliance with, a no-action letter issued by the Chief of
the Office of Insurance Products and Legal Compliance of the Securities and
Exchange Commission to the American Council of Life Insurance on November 28,
1988.
REPRESENTATION PURSUANT TO RULE 6c-7
Registrant represents that it is relying upon Rule 6c-7 under the Investment
Company Act of 1940 in connection with the sale of its group variable contracts
to participants in the Texas Optional Retirement Program. Registrant also
represents that it has complied with the provisions of paragraphs (a) - (d) of
the Rule.
C-5
<PAGE> 66
SIGNATURES
As required by the Securities Act of 1933 and the Investment Company Act
of 1940, the Registrant certifies that it meets the requirements of Securities
Act Rule 485(b) for effectiveness of this Registration Statement and has caused
this Registration Statement to be signed on its behalf, in the City of Newark,
and State of New Jersey on this 26th day of April, 1999.
THE PRUDENTIAL VARIABLE CONTRACT ACCOUNT-2
By: /s/ E. MICHAEL CAULFIELD
--------------------------------
E. Michael Caulfield
President
SIGNATURES
As required by the Securities Act of 1933, this Registration Statement has
been signed below by the following persons in the capacities and on the dates
indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
---------------------------- ---------------------------- ----------------
<S> <C> <C>
/s/ E. MICHAEL CAULFIELD President, The Prudential Variable Contract April 26, 1999
---------------------------- Account-2 Committee
E. Michael Caulfield
/s/GRACE C.TORRES Treasurer and Principal April 26, 1999
---------------------------- Financial and Accounting Officer
Grace Torres
*SAUL K. FENSTER Member, The Prudential Variable Contract April 26, 1999
---------------------------- Account-2 Committee
Saul K. Fenster
*W. SCOTT McDONALD, JR. Member, The Prudential Variable Contract April 26, 1999
---------------------------- Account 2 Committee
W. Scott McDonald, Jr.
*JOSEPH WEBER Member, The Prudential Variable Contract April 26, 1999
---------------------------- Account-2 Committee
Joseph Weber
</TABLE>
*By: /s/ CAREN CUNNINGHAM
----------------------------------
Caren Cunningham
(Attorney-in-Fact)
C-6
<PAGE> 67
SIGNATURES
As required by the Securities Act of 1933 and the Investment Company Act of
1940, The Prudential Insurance Company of America has caused this Amendment to
the Registration Statement to be signed on its behalf by the undersigned,
thereunto duly authorized, in the City of Newark, and State of New Jersey, on
this 26th day of April, 1999.
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
By: /s/ E. MICHAEL CAULFIELD
---------------------------------
E. Michael Caulfield
Executive Vice President
As required by the Securities Act of 1933, this Amendment to the
Registration Statement has been signed below by the following Directors and
Officers of The Prudential Insurance Company of America in the capacities and on
the dates indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
---------------------------- ---------------------------- ----------------
<S> <C> <C>
*ARTHUR F. RYAN Chairman of the Board,
---------------------------- Chief Executive Officer
Arthur F. Ryan and President
*FRANKLIN E. AGNEW
----------------------------
Franklin E. Agnew Director
*FREDERIC K. BECKER
----------------------------
Frederic K. Becker Director
*MARTIN A. BERKOWITZ
----------------------------
Martin A. Berkowitz Senior Vice President
*RICHARD J. CARBONE
----------------------------
Richard J. Carbone Chief Financial Officer April 26, 1999
*JAMES G. CULLEN
----------------------------
James G. Cullen Director
*CAROLYNE K. DAVIS
----------------------------
Carolyne K. Davis Director
*ROGER A. ENRICO
----------------------------
Roger A. Enrico Director
*ALLAN D. GILMOUR
----------------------------
Allan D. Gilmour Director
*WILLIAM H. GRAY, III
----------------------------
William H. Gray, III Director
*JON F. HANSON
----------------------------
Jon F. Hanson Director
*GLEN H. HINER, JR.
----------------------------
Glen H. Hiner, Jr. Director
</TABLE>
C-7
<PAGE> 68
<TABLE>
<S> <C> <C>
*CONSTANCE J. HORNER
----------------------------
Constance J. Horner Director
*GAYNOR KELLEY
----------------------------
Gaynor Kelley Director
*BURTON G. MALKIEL
----------------------------
Burton G. Malkiel Director
*IDA F.S. SCHMERTZ
----------------------------
Ida F.S. Schmertz Director
*CHARLES R. SITTER
----------------------------
Charles R. Sitter Director
*DONALD L. STAHELI
----------------------------
Donald L. Staheli Director
*RICHARD M. THOMSON
----------------------------
Richard M. Thomson Director
*JAMES A. UNRUH
----------------------------
James A. Unruh Director April 26, 1999
*P. ROY VAGELOS, M.D.
----------------------------
P. Roy Vagelos, M.D. Director
*STANLEY C. VAN NESS
----------------------------
Stanley C. Van Ness Director
*PAUL A. VOLCKER
----------------------------
Paul A. Volcker Director
*JOSEPH H. WILLIAMS
----------------------------
Joseph H. Williams Director
*ANTHONY S. PISZEL
----------------------------
Anthony S. Piszel Vice President
and Controller
</TABLE>
*By: /s/ CAREN CUNNINGHAM
--------------------------
Caren Cunningham
(Attorney-in-Fact)
C-8
<PAGE> 69
EXHIBIT INDEX
<TABLE>
<CAPTION>
Page
<S> <C>
(1) Resolution of the Board of Directors of The Prudential Insurance Company
of America establishing The Prudential Variable Contract Account-2 C-10
(2) Rules and Regulations of The Prudential Variable Contract Account-2 C-13
(4)(i) Agreement for Investment Management Services between Prudential and
The Prudential Variable Contract Account-2 C-21
(4)(ii) Amendment No. 1 to Agreement for Investment Management Services
between Prudential and The Prudential Variable Contract Account-2 C-23
(4)(iii) Amendment No. 2 to Agreement for Investment Management Services
between Prudential and The Prudential Variable Contract Account-2 C-25
(13)(i) Consent of independent accountants C-26
(17) Financial Data Schedule C-27
</TABLE>
C-9
<PAGE> 1
EXHIBIT (1)
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
Certified Copy of Resolutions Adopted
By the Board of Directors on January 9, 1968
I, W.D. Freeston, Secretary of The Prudential Insurance Company of
America, do hereby certify that the following is a true copy of the resolutions
duly adopted by the Board of Directors of The Prudential Insurance Company of
America at a regular meeting of said Board held on January 9, 1968, and that
these resolutions have not been altered or rescinded:
RESOLVED, that, subject to the approval of the Commissioner of
Banking and Insurance of the State of New Jersey, the Company hereby
establishes, pursuant to Section 17:35A-6 of the Revised Statutes of
New Jersey, a variable contract account, to be designated "The
Prudential Variable Contract Account-2;" and it is further
RESOLVED, that the use of said account shall be limited to
providing a funding medium for such contracts on a variable basis
issued and administered by the Company as the Company shall elect to
designate as participating therein, and in furtherance thereof such
account shall:
(a) receive, hold, invest, and reinvest only the amounts
arising from (i) contributions made pursuant to
contracts on a variable basis issued and administered
by the Company which have been designated by it as
participating in said account, (ii) such assets of
the Company as it shall deem prudent and appropriate
to have invested in the same manner as the assets
applicable to its reserve liability under such
variable contracts, and (iii) the dividends, interest
and gains produced by the foregoing;
(b) to the extent required by the Investment Company Act
of 1940, register under such Act and make application
for exemption from such of the provisions thereof as
may appear to be necessary or desirable;
(c) to the extent required by the Securities Act of 1933,
file one or more registration statements thereunder,
including any documents required as a part thereof;
(d) provide for investment management services;
(e) provide for the sale of contracts on a variable basis
issued and administered by the Company to the extent
they include participating interests in said account;
(f) select an independent public accountant to audit the
books and records of said account; and
(g) perform such further functions as may be required to
comply with the Investment Company Act of 1940 or as
may from time to time be authorized by further
resolution of this Board; and it is further
RESOLVED, that the said account, as authorized by Section
17:35A-9(b) of the Revised Statutes of New Jersey, shall be managed by
a Committee consisting of not less than three nor more than nine
persons to be designated "The Prudential Variable Contract Account-2
Committee" ("VCA-2 Committee"); and it is further
RESOLVED, that the VCA-2 Committee shall initially be composed
of five members, to be selected by the President of the Company with
the approval of the Executive Committee, each of whom shall serve until
the first annual meeting of persons having voting rights in respect of
said account as provided for by its Rules and Regulations or until his
successor shall qualify, and thereafter the members of the VCA-2
Committee shall be elected by a majority of the votes cast by such
persons having voting rights in respect of said account; and it is
further
<PAGE> 2
RESOLVED, that subject to the qualifications contained in
By-Law 26, as amended, the Company shall, because of its interest in
said account, and in consideration of each member's agreement to serve
as such, indemnify each member of the VCA-2 Committee, or the legal
representative of such member, against reasonable costs, expenses
(exclusive of any amount paid to said account or to the Company in
settlement) and counsel fees paid or incurred in connection with any
action, suit or proceeding, to which such member, or his legal
representative, may be made a party either during his term of office or
thereafter by reason of his being or having been such member, provided
that, unless and until renewed by resolution of this board, such
indemnification shall be in respect of action taken or omitted only
during the period ending with the first meeting of persons having
voting rights in respect of said account; and it is further
RESOLVED, that the Rules and Regulations, in the form
submitted to this meeting, be and the same are hereby adopted as the
Rules and Regulations of said account; and it is further
RESOLVED, that the Company shall offer to provide such account
with such services relating to investment management and sales as the
VCA-2 Committee shall require, at rates of compensation for said
services as shall be approved by the President or by any Vice President
designated by him; and the President or any such Vice President is
hereby authorized and directed to execute on behalf of the Company such
agreements with respect thereto as may be necessary or appropriate,
which agreements shall include whatever provisions may be necessary to
satisfy the requirements of the Investment Company Act of 1940 and the
regulations issued thereunder; and it is further
RESOLVED, that the proper officers of the Company are
authorized and directed to sign and file, or cause to be filed, in
cooperation with the VCA-2 Committee, a registration statement with the
Securities and Exchange Commission, including the financial statements
and schedules, exhibits and form of prospectus required as a part
thereof, for the registration of group variable annuity contracts under
the Securities Act of 1933, which registration statement shall be
substantially in the form presented to this meeting with such changes
therein as may be approved by the President or by any Vice-President
designated by him; and to pay the registration fees required in
connection therewith; and it is further
RESOLVED, that the proper officers of the Company are
authorized and directed to sign and file, or cause to be filed, in
cooperation with the VCA-2 Committee, such amendment or amendments of
the registration statement as they may find necessary or advisable from
time to time, and it is further
RESOLVED, that the signature of any director or officer
required by law to affix his signature to the foregoing registration
statement, or to any amendment thereof, may be affixed by said director
or officer personally, or by any attorney in fact duly constituted in
writing by said director or officer to sign his name thereto; and it is
further
RESOLVED, that the Secretary of the Company is appointed agent
of the Company to receive any and all notices and communications from
the Securities and Exchange Commission relating to such registration
statement and any and all amendments thereof; and it is further
RESOLVED, that the proper officers of the Company are
authorized and directed to sign and file, or cause to be filed, in
cooperation with the VCA-2 Committee, an application for an order under
Section 6(c) of the Investment Company Act of 1940 for such exemptions
from the provisions of that Act as may be necessary or desirable; and
it is further
RESOLVED, that the proper officers of the Company shall take
such steps as may be required to cause the Company to comply with the
Securities and Exchange Act of 1934 in connection with the sale of
contracts on a variable basis and the enrollment of participants
thereunder, including, without limitation, registration as a broker or
dealer pursuant to Section 15 of said Act, and application for such
exemptions from the provisions and regulations of said Act as may be
necessary or desirable; and it is further
RESOLVED, that the proper officers of the Company are
authorized and directed to take whatever steps may be necessary or
desirable to comply with State statutes or regulations to the extent
they may be applicable to contracts on a variable basis issued by the
Company pursuant to which contributions may be made to The Prudential
Variable Contract Account-2; and it is further
RESOLVED, that the proper officers of the Company be and they
hereby are from time to time authorized, empowered and directed to do
all acts and things from time to time necessary, desirable or
appropriate to be done in order to effectuate the purposes of the
foregoing resolutions or any of them.
<PAGE> 3
/S/ W.D. Freeston
-----------------
William D. Freeston, Secretary
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
February 16, 1968
Newark, New Jersey
<PAGE> 1
EXHIBIT (2)
THE PRUDENTIAL INSURANCE COMPANY OF AMERICA
VARIABLE CONTRACT ACCOUNT-2
RULES AND REGULATIONS
ARTICLE I
GENERAL
Section 1. Name. The name of this account shall be The Prudential Variable
Contract Account-2 ("VCA-2").
Section 2. Purpose. VCA-2 is a variable contract account established pursuant to
the provisions of Chapter 35A of Title 17 of the Revised Statutes of New Jersey,
as amended. Its purpose is to provide a funding medium for such contracts on a
variable basis issued and administered by The Prudential Insurance Company of
America ("Prudential") as Prudential shall elect to designate as participating
therein.
ARTICLE II
MEETINGS OF PERSONS HAVING VOTING RIGHTS IN VCA-2
Section 1. Meetings. Meetings of the persons having voting rights in respect of
VCA-2 under Section 6 of this Article may be called by a majority of the
Committee referred to in Article III hereof. The notice of the meeting shall
state the purpose or purposes of the meeting. All such meetings shall be held at
the Corporate Home Office of Prudential or at such other place as may be
determined by the Committee, at the time and place stated in the notice of the
meeting.
Section 2. Required Meetings. (a) In the event that at any time less than a
majority of members of the Committee holding office at that time were elected by
persons having voting rights in respect of VCA-2, the Committee shall forthwith
cause to be held as promptly as possible, and in any event within 60 days, a
meeting of such persons for the purpose of electing Committee members to fill
any existing vacancies, unless the United States Securities and Exchange
Commission shall by order extend such period.
Section 3. Notice of Meeting. A written or printed notice stating the place, day
and hour of the meeting and the purpose or purposes for which the meeting is
called, shall be given by mail, postage prepaid, to each person having voting
rights in respect of VCA-2 as of
<PAGE> 2
the date of such meeting, at his address as carried on the records of VCA-2.
Such notice shall be placed in the mail not less than 25 days prior to the date
of the meeting.
Section 4. Quorum. Persons entitled to cast more than thirty-five percent of the
votes which may be cast in accordance with Section 6 of this Article II,
represented either in person or by proxy, shall constitute a quorum for the
transaction of business at any meeting provided for by this Article, except
insofar as a higher quorum for the transaction of any particular item of
business may be required by applicable law. If a quorum shall not be present,
persons entitled to cast more than fifty percent of the votes represented in
person or by proxy at the meeting may adjourn the meeting to some later time.
When a quorum is present, the vote of more than fifty percent of the votes
represented in person or by proxy shall determine any question except as may be
otherwise provided by these Rules and Regulations or by law.
Section 5. Proxies. A vote may be cast either in person or by proxy duly
executed in writing. A proxy for any meeting shall be valid for any adjournment
of such meeting.
Section 6. Voting. (a) For the purpose of determining the persons having voting
rights in respect of VCA-2 who are entitled to notice of and to vote at any
meeting of such persons or any adjournment thereof, or to express consent to or
dissent from any proposal without a meeting, or for the purpose of any other
action, the Committee may fix, in advance, a date as the record date for any
such determination of such persons. Such date shall not be more than 70 nor less
than 10 days before the date of such meeting, nor more than 70 days prior to any
other action.
(b) The following persons shall have voting rights in respect of VCA-2 as of
the date of any meeting provided for by this Article:
(1) each person who had an individual accumulation account in
VCA-2 as of the record date fixed in accordance with paragraph
(a) of this Section; and
(2) each other person for whom a reserve liability was held in
VCA-2 as of the record date so fixed.
(c) The number of votes which each such person described in Paragraph (b)(1) of
this Section may cast at a meeting provided for by this Article shall be equal
to the number of dollars and fractions thereof in his individual accumulation
account in VCA-2 as of the record date fixed in accordance with Paragraph (a) of
this Section. The number of votes which each such person described in Paragraph
(b)(2) of this Section may cast at a meeting provided for by this Article shall
be equal to the aggregate number of dollars and fractions thereof of reserve
liability as of the record date so fixed.
<PAGE> 3
Section 7. Order of Business. The order of business at the meetings provided for
in this Article shall be determined by the presiding officer.
Section 8. Inspectors. At each meeting of persons having voting rights in
respect of VCA-2 the polls shall be opened and closed, the proxies and ballots
shall be received and be taken in charge, and all questions touching the
qualification of voters, the validity of proxies or the acceptance or rejection
of votes shall be decided by three inspectors. Such inspectors, who need not be
persons having voting rights in respect of VCA-2, shall be appointed by the
Committee before the meeting, or if no such appointment shall have been made,
then by the presiding officer of the meeting. In the event of failure, refusal
or inability of any inspector previously appointed to serve, the presiding
officer may appoint any person to fill such vacancy.
ARTICLE III
THE PRUDENTIAL VARIABLE CONTRACT ACCOUNT-2 COMMITTEE
Section 1. Composition. The Prudential Variable Contract Account-2 Committee
("Committee") shall consist of not less than three or more than nine members.
The initial Committee, which shall consist of five members, shall be appointed
by the Chairman of the Board and Chief Executive Officer, the President or the
Vice Chairman of Prudential. The Committee shall, prior to giving notice of each
meeting at which members of the Committee are to be elected, fix the number of
members that shall constitute the Committee until the next such meeting. The
members of the Committee elected at the June 1989 meeting of persons having
voting rights in respect of VCA-2 shall serve indefinite terms. Any vacancy may
be filled either by vote of the Committee pursuant to Section 9 of this Article
or by a ballot at a meeting of persons having voting rights in respect of VCA-2.
Members elected to the Committee pursuant to Section 9 of this Article shall
serve until the next meeting of persons having voting rights in respect of
VCA-2. Members elected by vote of persons having voting rights in respect shall
serve indefinite terms. Members of the Committee need not have voting rights in
respect of VCA-2.
Section 2. Powers. The Committee shall have the following powers:
(a) to negotiate and approve agreements, required by the
Investment Company Act of 1940, entered into by VCA-2
providing for services relating to investment management and
to the sale of contracts on a variable basis issued and
administered by Prudential to the extent they include
participating interests in VCA-2 and to submit any
<PAGE> 4
agreement for investment management services to the persons
having voting rights in respect of VCA-2 for their approval;
(b) to determine the initial fundamental investment policy of
VCA-2 and review investments made for VCA-2 to determine that
they conform to such policy;
(c) to consider changes in the fundamental investment policy
of VCA-2 and submit any recommendations with respect thereto
to the persons having voting rights in respect of VCA-2 for
their approval;
(d) to select an independent public accountant for VCA-2;
(e) to amend these Rules and Regulations without the approval
of persons having voting rights in respect of VCA-2;
(f) to authorize the filing of all registration statements and
applications for exemptions, and related reports and documents
to be filed by VCA-2 with the Securities and Exchange
Commission under the Investment Company Act of 1940 and the
Securities Act of 1933 and the rules and regulations
thereunder; and
(g) to perform such additional acts for VCA-2 as may be
required to comply with the Investment Company Act of 1940 or
as may be necessary to carry out the functions of VCA-2 as
provided for by resolution of the Board of Directors of
Prudential.
Section 3. Subcommittees. The Committee may elect by vote of a majority thereof,
which majority shall include a majority of the members who are not affiliated
persons of Prudential, two or more of its members to constitute an Executive
Subcommittee, which subcommittee shall have, and may exercise when the Committee
is not in session, any or all powers of the Committee.
The Committee by a majority thereof may appoint from among its members
other subcommittees, from time to time, and may determine the number of members
(not less than two) composing such subcommittees, and their functions.
Each subcommittee may make rules for the notice and conduct of its
meetings and the keeping of the records thereof. The term of any member of any
subcommittee shall be fixed by the Committee but no member of a subcommittee
shall hold office after the first meeting of the Committee following a meeting
of the persons having voting rights in VCA-2 at which one or more members of the
Committee is elected, unless reappointed.
<PAGE> 5
Section 4. Meetings. Regular meetings of the Committee shall be held at such
places and at such times as the Committee, by majority vote, may determine from
time to time, and if so determined, no call or notice thereof need be given
except that at least two days' notice shall be given of the first regular
meeting following a change in the date of regular meetings. Special meetings of
the Committee may be held at any time or place, whenever called by the Chairman
of the Committee, or two or more members of the Committee. Notice thereof shall
be given to each member by the Secretary or any Assistant Secretary to the
Committee, unless all members are present or unless those not present shall have
waived notice thereof in writing, which waivers shall be filed with the records
of the meeting. Notice of special meetings stating the time and place thereof
shall be given by mail to each member at his residence or business address at
least two days before the meeting, or by delivering or telephoning the same to
him personally or by telephoning the same to him at his residence or business
address at least one day before the meeting; provided, that the Chairman of the
Committee may prescribe a shorter notice to be given personally or by telephone
or telegraph to each member at his residence or business address. The Chairman
of the Committee shall preside at all meetings of the Committee at which he is
present.
Section 5. Quorum. A majority of the members of the Committee shall constitute a
quorum for the transaction of business. When a quorum is present at any meeting,
a majority of the members present shall decide any question brought before such
meeting except as otherwise provided by law, or by these Rules and Regulations.
Section 6. Action Other Than at Meetings. Any action which may validly be taken
by the Committee at a regular or special meeting thereof may also be taken
without a meeting, provided that unanimous approval of such action has been
obtained either by telephonic communication with or in writing from each member
of the Committee. A record of any such action shall be maintained as part of the
minutes of the meetings of the Committee.
Section 7. Officers. At the first meeting of the Committee and at the first
meeting following each meeting of persons having voting rights in respect of
VCA-2 at which one or more members of the Committee is elected, the Committee
shall elect one of its members to act as Chairman of the Committee and he shall
hold office until his successor is elected and qualified.
The Committee shall appoint a Secretary to the Committee and such other
officers and assistant officers as it may deem advisable. With the exception of
the Chairman, none of the officers or assistant officers need be members of the
Committee. The Secretary and any Assistant Secretary shall have the power to
certify the minutes of the meetings, or any portion thereof, of the persons
<PAGE> 6
having voting rights in respect of VCA-2 and of the Committee, shall perform the
duties customarily associated with the Secretary of a corporation, and shall
perform such other duties and have such other powers as the Committee shall
designate from time to time. All other officers and assistant officers shall
perform such duties and have such powers as the Committee shall designate from
time to time.
Section 8. Resignations. Any member of the Committee, the Chairman, the
Secretary or any other officer or assistant officer may resign his membership or
office at any time by mailing or delivering his resignation in writing to the
Chairman or to a meeting of the Committee. Any such resignation shall take
effect at the time specified therein or, if the time be not specified, upon
acceptance thereof by the Committee.
Section 9. Vacancies. (a)Vacancies occurring by reason of death, resignation or
otherwise of members of the Committee may be filled by a majority vote of all
the remaining members, provided that, immediately after filling any such vacancy
at least two-thirds of the members then holding office shall have been elected
to such office by persons having voting rights in respect of VCA-2. Members
elected pursuant to this Section shall serve until the next meeting of the
persons having voting rights in respect of VCA-2.
(b) The Committee shall have and may exercise all its powers notwithstanding the
existence of one or more vacancies in its number, provided there are at least
three members in office. If the office of any member of any subcommittee, or the
Chairman of the Committee, the Secretary or any other officer or assistant
officer becomes vacant, the Committee may elect a successor by vote of a
majority of the members then in office. Each successor shall hold office until
his successor shall be duly elected or appointed and qualified.
Section 10. Removal. Any member of the Committee, the Chairman, the Secretary or
any other officer or assistant officer may be removed from office by a vote of
three-fifths of the Committee members then in office.
No person shall serve as a member of the Committee after the persons
having two-thirds or more of the voting rights in respect of VCA-2 have
declared, either in a writing filed with Prudential or by votes cast in person
or by proxy at a meeting, called for such purpose, of persons having voting
rights in respect of VCA-2, that such person should be removed as a Committee
member.
The Committee shall promptly call a meeting of persons with voting
rights in respect of VCA-2 to vote on the removal of any Committee member when
asked to do so by persons having 10% or more of the voting rights in respect to
VCA-2.
<PAGE> 7
Whenever ten or more persons having voting rights in respect of VCA-2
who hold, in the aggregate, interests in VCA-2 having an asset value of at last
$25,000 or 1% of the voting rights in respect to VCA-2, whichever is less, shall
advise the Committee in writing that they wish to communicate with other persons
having voting rights in respect of VCA-2 with a view to a request for a meeting
for the purpose of removing any member or members of the Committee from office,
and such advice is accompanied by a form of communication and request which they
wish to transmit, the Committee shall within five business days after receiving
such advice either afford such persons access to a list of the names and
addresses of persons having voting rights in respect of VCA-2 or inform them as
to the approximate number of persons having voting rights in respect of VCA-2
and the approximate cost of mailing the proposed form of communication and
request.
If the Committee elects to provide the information regarding the
approximate number of persons having voting rights in respect of VCA-2 and the
approximate cost of mailing to them the proposed communication and form of
request, the Committee, upon the written request of those desiring such a
mailing, accompanied by a tender of the material to be mailed and of the
reasonable expenses of mailing, shall, with reasonable promptness, mail such
material to all persons having voting rights in respect of VCA-2 at their
addresses of record, unless within five business days after such tender the
Committee shall mail to the persons requesting the mailing and file with the
U.S. Securities and Exchange Commission, together with a copy of the material to
be mailed, a written statement signed by at least a majority of the members of
the Committee to the effect that in their opinion either such material contains
untrue statements of fact or omits to state facts necessary to make the
statements contained therein not misleading, or would be in violation of
applicable law, and specifying the basis of such opinion.
The Committee shall mail copies of such material to all persons having
voting rights in respect of VCA-2 with reasonable promptness after the entry of
an order by the Securities and Exchange Commission so providing and the renewal
of such tender.
<PAGE> 8
ARTICLE IV
COMPENSATION
The members of the Committee who are affiliated with Prudential shall
not receive any additional compensation for services which they may perform for
or on behalf of VCA-2. Members of the Committee who are not so affiliated shall
be compensated by Prudential. The Secretary and other officers or assistant
officers shall serve without additional compensation.
ARTICLE V
CHANGE IN CLASSIFICATION OF VCA-2
Any plan of reorganization pursuant to which the classification of
VCA-2 is changed from a management company to a unit investment trust, as
defined in Section 4(2) of the Investment Company Act of 1940, must be submitted
to the persons holding voting rights in respect of VCA-2 and approved by a
majority of the votes cast by such persons.
<PAGE> 1
EXHIBIT (4)(I)
AGREEMENT FOR INVESTMENT MANAGEMENT SERVICES
Statement of Facts
A. On January 9, 1968, the Board of Directors of The Prudential
Insurance Company of America ("Prudential") adopted a resolution establishing
The Prudential Variable Contract Account-2 ("VCA-2") as a funding medium for
such contracts on a variable basis sold and administered by Prudential as may be
designated by it as participating therein.
B. Pursuant to the requirements of the Investment Company Act of
1940 ("1940 Act") VCA-2 will be registered thereunder as an investment company.
C. The 1940 Act forbids any person from acting as investment adviser
to a registered investment company except pursuant to a written
contract and Prudential may be regarded as the investment adviser
of VCA-2.
Agreement
NOW, THEREFORE, Prudential and VCA-2 do agree as follows:
1. Prudential shall manage the investment and reinvestment of the
assets held in VCA-2 in a manner consistent with the investment policy as set
forth in the registration statement of VCA-2, as from time to time amended,
under the 1940 Act.
2. Prudential shall determine what securities shall be purchased or
sold for VCA-2 and shall arrange for the necessary placement of orders and
execution of transactions. All brokers' commission, taxes or governmental fees
attributable to transactions for VCA-2, and all other applicable taxes arising
out of the investment operations of VCA-2, including income and capital gains
taxes, if any, shall be charged against VCA-2.
3. At least once each month Prudential shall furnish to The Prudential
Variable Contract Account-2 Committee ("Committee") a schedule of the
investments held in VCA-2 and shall include therein a statement of all purchases
and sales made on behalf of VCA-2 during the period since the preceding report.
4. For the services performed hereunder, Prudential will, in
determining unit values under the contracts participating in VCA-2 and in the
manner specified in such contracts, deduct an investment management fee at the
effective annual rate of one-eighth of one per cent (0.125 per cent).
<PAGE> 2
5. This agreement shall remain in force until June 1, 1969, and from
year to year thereafter, but only so long as such continuance is approved at
least annually by the affirmative vote of the Committee, including the specific
approval of a majority of the members of the Committee who are not persons
affiliated with Prudential, or by a majority of the votes cast by those persons
having voting rights in respect of VCA-2, as provided for by the Rules and
Regulations of VCA-2.
6. This agreement shall automatically terminate in the event is shall
not be approved by a majority of the votes cast by those persons having voting
rights in respect of VCA-2 at their first meeting, or at any subsequent meeting
at which the question of the renewal or continuance of this agreement shall be
voted upon. This agreement shall also terminate automatically in the event of
its assignment by Prudential.
7. This agreement may be terminated at any time, and without payment
of any penalty, by the Committee or by a majority of the votes
cast by those persons having voting rights in respect of VCA-2, on
60 days' written notice to Prudential. This agreement may be
terminated by Prudential on 90 days' written notice to the
Committee.
IN WITNESS WHEREOF, the parties have caused this Agreement to be
executed this 16th day of February, 1968.
Attest: THE PRUDENTIAL INSURANCE COMPANY
OF AMERICA
/S/ By/S/
- -------------------------- ---
W.D. Freeston, Secretary Executive Vice President
Witnessed: THE PRUDENTIAL VARIABLE CONTRACT
ACCOUNT-2
/S/ By/S/
- -------------------------- ---
Secretary to the Committee Chairman of the Committee
<PAGE> 1
EXHIBIT (4)(ii)
AMENDMENT NO. 1 to
AGREEMENT FOR INVESTMENT MANAGEMENT SERVICES
Amendment No. 1 dated as of the 1st day of January, 1972 to AGREEMENT
dated the 16th day of February, 1968 (herein referred to as the "Agreement") by
and between THE PRUDENTIAL INSURANCE COMPANY OF AMERICA (herein referred to as
"Prudential"), and THE PRUDENTIAL VARIABLE CONTRACT ACCOUNT-2 (herein referred
to as the "VCA-2").
WHEREAS, Pruco Securities Corporation (herein referred to as "Pruco
Securities"), is a broker-dealer affiliated with Prudential, and is a member of
the Philadelphia-Baltimore-Washington Stock Exchange, and enjoys preferential
status on the Pacific Coast and Boston Stock Exchanges; and
WHEREAS, Prudential and VCA-2 desire to provide for the use of Pruco
Securities as broker on certain of the portfolio transactions of the Fund; and
WHEREAS, Prudential and VCA-2 desire to conform the terms of the
Agreement to recently enacted provisions of the Investment Company Act of 1940;
NOW THEREFORE, Prudential and VCA-2 hereby agree as follows:
1. Pruco Securities shall be used as broker on such of the portfolio
transactions of VCA-2 as Prudential in its discretion determines can be executed
advantageously on any stock exchange of which Pruco Securities is a member or as
to which it enjoys a preferential status. Pruco Securities shall be paid the
appropriate broker's commission for such transactions.
2. With respect to the calendar year 1972 and subsequent years, the
amount of the investment advisory fee payable to Prudential by VCA-2 pursuant to
the Agreement shall be reduced by an amount equal to the portion of the "net
profits after taxes" of Pruco Securities allocable in accordance with generally
accepted accounting principles to the transactions it has executed on behalf of
VCA-2. "Net profits after taxes" shall be determined by subtracting from the
gross brokerage commissions received by Pruco Securities all its expenses
attributable to the earning of such commissions (including capital charges), and
by calculating taxes as those that would be payable if Pruco Securities were to
file a separate tax return, whether or not it does so. The reduction of the
advisory fee described herein shall be determined promptly at the end of each
calendar year and shall be credited against the amount of the fourth quarterly
installment of the advisory fee then payable.
<PAGE> 2
3. Notwithstanding the provisions of Paragraph 5 of the Agreement, it
shall continue in effect from year to year only so long as such continuance is
approved at least annually by the Board of Directors at a meeting held in person
for the purpose, such approval to include the specific approval of a majority of
the Directors who are not interested persons of Prudential
IN WITNESS WHEREOF, the parties have caused this Amendment to be
executed on their behalf by their duly authorized officers as of the date first
hereinabove mentioned.
Attest: THE PRUDENTIAL INSURANCE COMPANY
OF AMERICA
/S/ By/S/
- -------------------------- ---
Secretary Vice President
Attest: THE PRUDENTIAL VARIABLE CONTRACT
ACCOUNT-2
/S/ By/S/
- -------------------------- ---
Secretary Chairman
<PAGE> 1
EXHIBIT (4)(iii)
AMENDMENT NO. 2 to
AGREEMENT FOR INVESTMENT MANAGEMENT SERVICES
Amendment No. 2 dated as of the 20th day of June, 1985 to the AGREEMENT
FOR INVESTMENT MANAGEMENT SERVICES, as amended, dated the 16th day of February,
1968 (the "Agreement") by and between THE PRUDENTIAL INSURANCE COMPANY OF
AMERICA ("Prudential") and THE PRUDENTIAL VARIABLE CONTRACT ACCOUNT-2 ("VCA-2").
Prudential and VCA-2 hereby agree as follows:
1. Paragraph 3 of the Agreement is hereby amended to read as
follows:
3. Once each quarter, or with such greater
frequency as may be specified in a resolution adopted
by The Prudential Variable Contract Account-2
Committee (the "Committee"), Prudential shall furnish
to the Committee a schedule of the investments held
in VCA-2 together with a statement of all purchases
and sales made on behalf of VCA-2 during the period
since the last preceding report.
IN WITNESS WHEREOF, the parties have caused this Amendment to be
executed on their behalf by their duly authorized officers as of the date first
hereinabove mentioned.
Attest: THE PRUDENTIAL INSURANCE COMPANY
OF AMERICA
/S/ By/S/
- -------------------------- ---
Assistant Secretary Vice President
Witnessed: THE PRUDENTIAL VARIABLE CONTRACT
ACCOUNT-2
/S/ By/S/
- -------------------------- ---
Secretary Chairman
<PAGE> 1
EXHIBIT (13)(i)
CONSENT OF INDEPENDENT ACCOUNTANTS
We hereby consent to the use in the Statement of Additional Information
constituting part of this Post-Effective Amendment No. 54 to the registration
statement on Form N-3 of The Prudential Variable Contract Account-2 (the
"Registration Statement") of our report dated February 25, 1999, relating to the
financial statements and financial highlights of The Prudential Variable
Contract Account-2, which appears in such Statement of Additional Information.
We also consent to the use in the Statement of Additional Information
constituting part of this Registration Statement of our report dated February
26, 1999, relating to the consolidated financial statements of The Prudential
Insurance Company of America and its subsidiaries, which appears in such
Statement of Additional Information.
We also consent to the references to us under the headings "Financial
Highlights" in the Prospectus and "Experts" in the Statement of Additional
Information.
PricewaterhouseCoopers LLP
New York, New York
April 23, 1999
<TABLE> <S> <C>
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<NAME> THE PRUDENTIAL VARIABLE CONTRACT ACCOUNT-2
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<NAME> THE PRUDENTIAL VARIABLE CONTRACT ACCOUNT-2
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<PERIOD-START> JAN-01-1998
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