<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(MARK ONE)
[x] QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1999
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 1-10890
HORACE MANN EDUCATORS CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 37-0911756
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1 Horace Mann Plaza, Springfield, Illinois 62715-0001
(Address of principal executive offices) (Zip Code)
Registrant's Telephone Number, Including Area Code: 217-789-2500
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No ____
-----
As of July 31, 1999, 41,024,044 shares of Common Stock, par value $0.001
per share, were outstanding, net of 18,258,896 shares of treasury stock.
<PAGE>
HORACE MANN EDUCATORS CORPORATION
FORM 10-Q
FOR THE QUARTER ENDED JUNE 30, 1999
INDEX
<TABLE>
<CAPTION>
Page
----
<S> <C>
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets as of
June 30, 1999 and December 31, 1998........................... 1
Consolidated Statements of Operations for the
Three and Six Months Ended June 30, 1999 and 1998............. 2
Consolidated Statements of Changes in Shareholders' Equity
for the Six Months Ended June 30, 1999 and 1998............... 3
Consolidated Statements of Cash Flows for the
Three and Six Months Ended June 30, 1999 and 1998............. 4
Notes to Consolidated Financial Statements...................... 5
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations......................... 12
Item 3. Quantitative and Qualitative Disclosures about Market Risk.. 24
PART II - OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders......... 24
Item 6. Exhibits and Reports on Form 8-K............................ 25
SIGNATURES.................................................................. 26
</TABLE>
<PAGE>
HORACE MANN EDUCATORS CORPORATION
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands)
<TABLE>
<CAPTION>
June 30, December 31,
1999 1998
------------ -------------
<S> <C> <C>
ASSETS
Investments
Fixed maturities, available for sale, at market
(amortized cost, 1999, $2,565,847; 1998, $2,552,537)......... $ 2,562,130 $ 2,651,379
Short-term and other investments.............................. 83,325 102,049
Short-term investments, loaned securities collateral.......... - 87,392
---------- ----------
Total investments........................................ 2,645,455 2,840,820
Cash............................................................ 18,957 12,044
Accrued investment income and premiums receivable............... 99,115 102,661
Value of acquired insurance in force and goodwill............... 97,642 101,055
Deferred policy acquisition costs............................... 124,964 101,658
Other assets.................................................... 142,599 114,503
Variable annuity assets......................................... 1,199,052 1,122,739
---------- ----------
Total assets............................................. $ 4,327,784 $ 4,395,480
========== ==========
LIABILITIES, REDEEMABLE SECURITIES AND SHAREHOLDERS' EQUITY
Policy liabilities
Fixed annuity contract liabilities............................ $ 1,242,454 $ 1,239,234
Interest-sensitive life contract liabilities.................. 423,650 402,490
Unpaid claims and claim expenses.............................. 315,769 307,387
Future policy benefits........................................ 178,861 179,693
Unearned premiums............................................. 177,681 179,194
---------- ----------
Total policy liabilities................................. 2,338,415 2,307,998
Other policyholder funds........................................ 126,674 124,820
Other liabilities............................................... 85,410 197,292
Short-term debt................................................. 49,000 50,000
Long-term debt.................................................. 99,657 99,637
Variable annuity liabilities.................................... 1,194,827 1,118,890
---------- ----------
Total liabilities........................................ 3,893,983 3,898,637
---------- ----------
Warrants, subject to redemption................................. 220 220
---------- ----------
Preferred stock................................................. - -
Common stock.................................................... 59 59
Additional paid-in capital...................................... 336,334 336,686
Retained earnings............................................... 440,095 420,274
Accumulated other comprehensive income
(net unrealized gains (losses) on fixed
maturities and equity securities)............................. (163) 57,327
Treasury stock, at cost......................................... (342,744) (317,723)
---------- ----------
Total shareholders' equity............................... 433,581 496,623
---------- ----------
Total liabilities, redeemable
securities, and shareholders' equity................. $ 4,327,784 $ 4,395,480
========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
1
<PAGE>
HORACE MANN EDUCATORS CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in thousands, except per share data)
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
----------------- ----------------
1999 1998 1999 1998
---- ---- ---- ----
<S> <C> <C> <C> <C>
Insurance premiums written
and contract deposits..................... $207,644 $210,065 $405,709 $407,019
======== ======== ======== ========
Revenues
Insurance premiums and
contract charges earned................. $148,535 $143,351 $294,779 $284,558
Net investment income..................... 46,983 48,157 93,907 96,677
Realized investment gains (losses)........ (5,336) 2,981 (8,473) 9,352
-------- -------- -------- --------
Total revenues........................ 190,182 194,489 380,213 390,587
-------- -------- -------- --------
Benefits, losses and expenses
Benefits, claims and settlement expenses.. 110,667 107,315 211,927 204,745
Interest credited......................... 22,882 23,802 46,015 47,931
Policy acquisition expenses amortized..... 13,023 11,688 23,752 23,134
Operating expenses........................ 24,494 26,402 50,230 53,627
Amortization of intangible assets......... 1,706 1,901 3,413 3,737
Interest expense.......................... 2,423 2,344 4,877 4,704
-------- -------- -------- --------
Total benefits, losses and expenses... 175,195 173,452 340,214 337,878
-------- -------- -------- --------
Income before income taxes................. 14,987 21,037 39,999 52,709
Income tax expense......................... 4,565 5,389 12,526 14,602
-------- -------- -------- --------
Net income................................. $ 10,422 $ 15,648 $ 27,473 $ 38,107
======== ======== ======== ========
Net income per share
Basic..................................... $ 0.25 $ 0.36 $ 0.66 $ 0.87
======== ======== ======== ========
Diluted................................... $ 0.25 $ 0.36 $ 0.65 $ 0.86
======== ======== ======== ========
Weighted average number of shares
and equivalent shares (in thousands)
Basic................................... 41,131 43,597 41,467 43,885
Diluted................................. 41,663 44,225 41,996 44,513
</TABLE>
See accompanying notes to consolidated financial statements.
2
<PAGE>
HORACE MANN EDUCATORS CORPORATION
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
(Dollars in thousands, except per share data)
<TABLE>
<CAPTION>
Six Months Ended
June 30,
----------------------
1999 1998
---------- ----------
<S> <C> <C>
Common stock
Beginning balance.......................................... $ 59 $ 59
Options exercised, 1999, 6,550 shares;
1998, 97,782 shares...................................... - -
--------- ---------
Ending balance............................................. 59 59
--------- ---------
Additional paid-in capital
Beginning balance.......................................... 336,686 340,564
Options exercised.......................................... 123 1,890
Catastrophe-linked equity put option premium............... (475) (1,475)
Purchase of 13,650 warrants................................ - (4,603)
--------- ---------
Ending balance............................................. 336,334 336,376
--------- ---------
Retained earnings
Beginning balance.......................................... 420,274 349,274
Net income................................................. 27,473 38,107
Cash dividends, 1999, $0.185 per share;
1998, $0.16 per share.................................... (7,652) (6,987)
--------- ---------
Ending balance............................................. 440,095 380,394
--------- ---------
Accumulated other comprehensive income (net unrealized
gains (losses) on fixed maturities and equity securities)
Beginning balance........................................ 57,327 62,167
Increase (decrease) for the period....................... (57,490) (1,726)
--------- ---------
Ending balance........................................... (163) 60,441
--------- ---------
Treasury stock, at cost
Beginning balance, 1999, 17,183,596 shares;
1998, 14,896,796 shares.................................. (317,723) (246,092)
Purchase of 1,075,300 shares in 1999;
1,379,100 shares in 1998 (See note 4).................... (25,021) (45,095)
--------- ---------
Ending balance, 1999, 18,258,896 shares;
1998, 16,275,896 shares.................................. (342,744) (291,187)
--------- ---------
Shareholders' equity at end of period....................... $ 433,581 $ 486,083
========= =========
Comprehensive income
Net income................................................. $ 27,473 $ 38,107
Other comprehensive income................................. (57,490) (1,726)
--------- ---------
Total.................................................... $ (30,017) $ 36,381
========= =========
</TABLE>
See accompanying notes to consolidated financial statements.
3
<PAGE>
HORACE MANN EDUCATORS CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
------------------ -----------------
1999 1998 1999 1998
---- ---- ---- ----
<S> <C> <C> <C> <C>
Cash flows from operating activities
Premiums collected................................ $ 145,926 $ 150,856 $ 303,103 $ 307,191
Policyholder benefits paid........................ (111,141) (113,623) (224,634) (227,937)
Policy acquisition and other
operating expenses paid......................... (44,455) (51,452) (89,064) (91,967)
Federal income taxes paid......................... (10,800) (19,600) (12,300) (20,400)
Investment income collected....................... 44,148 45,730 93,041 99,484
Interest expense paid............................. (718) (1,296) (4,785) (4,615)
Other............................................. 1,079 171 382 1,712
--------- --------- --------- ---------
Net cash provided by operating activities..... 24,039 10,786 65,743 63,468
--------- --------- --------- ---------
Cash flows used in investing activities
Fixed maturities
Purchases....................................... (226,504) (153,016) (458,972) (483,146)
Sales........................................... 139,896 95,522 285,390 294,449
Maturities...................................... 76,213 91,798 147,739 196,915
Net cash received from
short-term and other investments................ 12,970 18,896 19,327 34,005
--------- --------- --------- ---------
Net cash provided by
(used in) investing activities.............. 2,575 53,200 (6,516) 42,223
--------- --------- --------- ---------
Cash flows used in financing activities
Purchase of treasury stock........................ (10,725) (34,896) (25,021) (45,095)
Dividends paid to shareholders.................... (3,796) (3,451) (7,652) (6,987)
Principal borrowings (repayments)
on Bank Credit Facility......................... (2,000) 3,000 (1,000) 3,000
Repurchase of common stock warrants............... - (4,959) - (4,959)
Exercise of stock options......................... 26 476 123 1,890
Catastrophe-linked equity put option premium...... (238) - (475) (1,475)
Annuity contracts, variable and fixed
Deposits........................................ 55,920 63,056 107,180 117,399
Maturities and withdrawals...................... (65,389) (46,619) (116,944) (91,728)
Net transfer from (to) variable annuity assets.. 2,308 (39,213) (9,135) (66,420)
Net increase (decrease) in
life policy account balances.................... 319 (102) 610 (204)
--------- --------- --------- ---------
Net cash used in financing activities......... (23,575) (62,708) (52,314) (94,579)
--------- --------- --------- ---------
Net increase in cash............................... 3,039 1,278 6,913 11,112
Cash at beginning of period........................ 15,918 10,187 12,044 353
--------- --------- --------- ---------
Cash at end of period.............................. $ 18,957 $ 11,465 $ 18,957 $ 11,465
========= ========= ========= =========
</TABLE>
See accompanying notes to consolidated financial statements.
4
<PAGE>
HORACE MANN EDUCATORS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
June 30, 1999 and 1998
(Dollars in thousands)
Note 1 - Basis of Presentation
The accompanying unaudited consolidated financial statements of Horace Mann
Educators Corporation (the "Company") have been prepared in accordance with the
rules and regulations of the Securities and Exchange Commission. Certain
information and note disclosures normally included in financial statements
prepared in accordance with generally accepted accounting principles have been
condensed or omitted. The Company believes that these financial statements
contain all adjustments (consisting of normal recurring accruals) necessary to
present fairly the Company's consolidated financial position as of June 30, 1999
and December 31, 1998 and the consolidated results of operations, changes in
shareholders' equity and cash flows for the three and six months ended June 30,
1999 and 1998.
It is suggested that these financial statements be read in conjunction with
the financial statements and the related notes included in the Company's
December 31, 1998 Form 10-K.
The results of operations for the three and six months ended June 30, 1999
are not necessarily indicative of the results to be expected for the full year.
Note 2 - Debt
Indebtedness outstanding was as follows:
<TABLE>
<CAPTION>
June 30, December 31,
1999 1998
-------- ------------
<S> <C> <C>
Short-term debt:
$65,000 Bank Credit Facility, commitment to
December 31, 2001. (IBOR + 0.325%,
5.6% as of June 30, 1999).................. $ 49,000 $ 50,000
Long-term debt:
6 5/8% Senior Notes, due January 15, 2006.
Face amount less unaccrued discount
of $343 and $363 (6.7% imputed rate)....... 99,657 99,637
--------- ---------
Total.................................... $ 148,657 $ 149,637
========= =========
</TABLE>
5
<PAGE>
Note 3 - Investments
The following table presents the composition and value of the Company's
fixed maturity securities portfolio by rating category. The Company has
classified the entire fixed maturity securities portfolio as available for sale,
which is carried at market value.
<TABLE>
<CAPTION>
Percent of
Carrying Value June 30, 1999
------------------------- -------------------------
Rating of Fixed June 30, December 31, Carrying Amortized
Maturity Securities(1) 1999 1998 Value Cost
- ------------------------ --------- -------------- ---------- -------------
<S> <C> <C> <C> <C>
AAA............... 44.8% 44.0% $1,147,743 $1,147,881
AA................ 8.3 8.5 212,614 209,850
A................. 17.6 19.1 449,726 444,729
BBB............... 21.7 21.5 556,339 564,743
BB................ 2.5 2.0 64,763 67,200
B................. 4.3 4.1 110,699 110,046
CCC or lower...... 0.1 0.1 2,495 3,287
Not rated(2)...... 0.7 0.7 17,751 18,111
----- ----- ---------- ----------
Total........... 100.0% 100.0% $2,562,130 $2,565,847
===== ===== ========== ==========
</TABLE>
(1) Ratings are as assigned primarily by Standard & Poor's Corporation ("S&P")
when available, with remaining ratings as assigned on an equivalent basis
by Moody's Investors Service, Inc. ("Moody's"). Ratings for publicly
traded securities are determined when the securities are acquired and are
updated monthly to reflect any changes in ratings.
(2) This category includes $11.2 million of publicly traded securities not
currently rated by S&P or Moody's and $6.6 million of private placement
securities not rated by either S&P or Moody's. The National Association of
Insurance Commissioners (the "NAIC") has rated 97.4% of these private
placements as investment grade.
The following table presents a maturity schedule of the Company's fixed
maturity securities. Expected maturities will differ from contractual maturities
because borrowers may have the right to call or prepay obligations with or
without call or prepayment penalties.
<TABLE>
<CAPTION>
Percent Carrying
of Total Value
----------------------- ---------
June 30, December 31, June 30,
Scheduled Maturity 1999 1998 1999
- ------------------ -------- ------------ --------
<S> <C> <C> <C>
Due in 1 year or less................ 7.7% 7.0% $ 197,791
Due after 1 year through 5 years..... 28.1 25.8 719,774
Due after 5 years through 10 years... 31.0 31.8 794,474
Due after 10 years through 20 years.. 17.5 17.3 448,312
Due after 20 years................... 15.7 18.1 401,779
----- ----- ----------
Total.............................. 100.0% 100.0% $2,562,130
===== ===== ==========
</TABLE>
The Company loans fixed income securities to third parties, primarily major
brokerage firms. At December 31, 1998, fixed maturities with a fair value of
$87,392 were loaned. The Company separately maintains a minimum of 100% of the
value of the loaned securities as collateral for each loan. Financial
Accounting Standards Board ("FASB") Statement of Financial Accounting
6
<PAGE>
Note 3 -Investments-(Continued)
Standards ("SFAS") No. 125, "Accounting for Transfers and Servicing of Financial
Assets and Extinguishment of Liabilities," requires the securities lending
collateral to be classified as investments. The corresponding liability is
included in Other Liabilities in the Company's consolidated balance sheet.
Note 4 - Shareholders' Equity
Share Repurchase Programs
During the first six months of 1999, the Company repurchased 1,075,300
shares of its common stock, or 3% of the outstanding shares on December 31,
1998, at an aggregate cost of $25,021, or an average cost of $23.26 per share,
under its stock repurchase program. Shares repurchased during the 24 months
ended June 30, 1999 represented 10.8% of the shares outstanding on June 30,
1999. Since early 1997, 7,082,700 shares, or 15% of the shares outstanding on
December 31, 1996, have been repurchased at an aggregate cost of $188,442, equal
to an average cost of $26.61 per share. Including shares repurchased in 1995,
the Company has repurchased 32% of the shares outstanding on December 31, 1994.
Shares of common stock may be purchased from time to time through open market
and private purchases, as available. The repurchase of shares was financed
through cash generated from operations and, when necessary, the Bank Credit
Facility. In May 1999, an additional $100,000 share repurchase authorization
was announced. As of June 30, 1999, $111,558 remained authorized for future
share repurchases.
The Company recently announced that its Board of Directors has retained
Morgan Stanley Dean Witter and Credit Suisse First Boston to explore the
strategic alternatives available to the corporation. During the process of
considering strategic alternatives, the Board of Directors has decided to
suspend the Company's share repurchase program.
Note 5 - Deferred Policy Acquisition Costs
Acquisition costs, consisting of commissions, premium taxes and other costs,
which vary with and are primarily related to the production of insurance
business, are capitalized and amortized in proportion to estimated gross profits
for interest-sensitive life and investment (annuity) contracts and over the
terms of the insurance policies for other individual life and property and
casualty contracts.
The Company periodically reviews the assumptions and estimates used in
capitalizing policy acquisition costs. In 1999, the Company began deferring
additional sales-related costs for all new life and annuity contracts to be more
consistent with common industry accounting practices. The estimated impact of
this change is an increase to net income of approximately $3,900 for 1999, of
which $1,950 was recognized during the first six months of 1999.
7
<PAGE>
Note 6 - Income Taxes
The Internal Revenue Service (the "IRS") regularly audits the Company's
federal income tax returns and recently completed its audit of the Company's
1994 and 1995 tax returns. As a result of this audit, certain tax benefits
which the Company realized in the past are no longer available to the Company.
In addition, in the course of the audit, the IRS has taken the position that it
is not bound by certain documented understandings contained in the Revenue
Agent's Reports (the "RARs") pertaining to the audits of the Company's 1989
through 1993 tax returns. The Company is vigorously contesting the IRS' position
and believes the IRS should honor the understandings documented in the RARs.
The Company's tax advisors, KPMG LLP, concur with the Company's interpretation
of the RARs. The outcome of this matter is uncertain. Therefore, the Company has
not accrued a liability in its financial statements with regard to this matter.
The maximum amount of additional taxes, with respect to the 1994 through 1998
tax years, if any, that might be due as a result of the resolution of this
matter would be approximately 5% of the Company's shareholders' equity before
unrealized investment gains and losses as of June 30, 1999. Such additional
taxes, if any, would increase the Company's income tax expense and effective
corporate tax rate only in the year when such an assessment becomes probable and
can be reasonably estimated.
8
<PAGE>
Note 7 - Reinsurance
The Company recognizes the cost of reinsurance premiums over the contract
periods for such premiums in proportion to the insurance protection provided.
Amounts recoverable from reinsurers for unpaid claims and claim settlement
expenses, including estimated amounts for unsettled claims, claims incurred but
not reported and policy benefits, are estimated in a manner consistent with the
insurance liability associated with the policy. The effect of reinsurance on
premiums written; premiums earned; and benefits, claims and settlement expenses
were as follows:
<TABLE>
<CAPTION>
Ceded to Assumed
Gross Other from State
Amount Companies Facilities Net
-------- --------- ---------- --------
<S> <C> <C> <C> <C>
Three months ended
June 30, 1999
- ---------------------------
Premiums written....... $209,563 $ 6,248 $4,329 $207,644
Premiums earned........ 150,270 6,412 4,677 148,535
Benefits, claims and
settlement expenses.. 115,599 9,216 4,284 110,667
Three months ended
June 30, 1998
- ---------------------------
Premiums written....... $212,817 $ 7,195 $4,443 $210,065
Premiums earned........ 145,500 6,551 4,402 143,351
Benefits, claims and
settlement expenses.. 115,958 11,505 2,862 107,315
Six months ended
June 30, 1999
- ---------------------------
Premiums written....... $408,945 $12,293 $9,057 $405,709
Premiums earned........ 297,915 12,490 9,354 294,779
Benefits, claims and
settlement expenses.. 222,050 19,013 8,890 211,927
Six months ended
June 30, 1998
- ---------------------------
Premiums written....... $410,687 $12,457 $8,789 $407,019
Premiums earned........ 287,995 11,796 8,359 284,558
Benefits, claims and
settlement expenses.. 217,342 19,007 6,410 204,745
</TABLE>
The Company maintains an excess and catastrophe treaty reinsurance program.
The Company reinsures 95% of catastrophe losses above a retention of $7.5
million per occurrence up to $80 million per occurrence in 1999. This program
is augmented by a $100 million equity
9
<PAGE>
Note 7 - Reinsurance-(Continued)
put that provides an option to sell shares of the Company's convertible
preferred stock with a floating rate dividend at a pre-negotiated price in the
event losses from catastrophes exceed the catastrophe reinsurance program
coverage limit. Before tax benefits, the equity put provides a source of
capital for up to $154 million of catastrophe losses above the reinsurance
coverage limit. The fee for the equity put is charged directly to additional
paid-in capital. For liability coverages, including the educator professional
liability policy, the Company reinsures each loss above a retention of $0.5
million up to $20 million. The Company also reinsures each property loss above
a retention of $0.5 million up to $2.5 million.
10
<PAGE>
Note 8 - Segment Information
The Company conducts and manages its business through four segments. The
three operating segments representing the major lines of insurance business are:
property and casualty insurance, principally personal lines automobile and
homeowners insurance; individual tax-qualified annuity products; and life
insurance. The fourth segment, Corporate and Other, includes primarily debt
service and realized investment gains and losses. Summarized financial
information for these segments is as follows:
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
---------------------- ----------------------
1999 1998 1999 1998
------- ------ -------- --------
<S> <C> <C> <C> <C>
Insurance premiums and
contract charges earned
Property and casualty............... $122,127 $117,600 $243,113 $ 233,631
Annuity............................. 4,286 3,954 8,260 7,548
Life................................ 22,122 21,797 43,406 43,379
-------- -------- -------- ----------
Total............................. $148,535 $143,351 $294,779 $ 284,558
======== ======== ======== ==========
Net investment income
Property and casualty................. $ 9,199 $ 9,696 $ 18,391 $ 19,630
Annuity............................... 26,381 27,092 52,865 54,419
Life.................................. 11,669 11,371 23,174 22,500
Corporate and other................... 62 270 95 674
Intersegment eliminations............. (328) (272) (618) (546)
-------- -------- -------- ----------
Total............................. $ 46,983 $ 48,157 $ 93,907 $ 96,677
======== ======== ======== ==========
Net income
Operating income
Property and casualty............... $ 5,918 $ 7,827 $ 16,393 $ 20,366
Annuity............................. 6,788 5,765 12,659 11,064
Life................................ 3,657 2,888 8,484 5,534
Corporate and other,
including interest expense........ (2,473) (2,770) (4,556) (4,936)
-------- -------- -------- ----------
Total operating income.......... 13,890 13,710 32,980 32,028
Realized investment gains (losses),
after tax........................... (3,468) 1,938 (5,507) 6,079
-------- -------- -------- ----------
Total........................... $ 10,422 $ 15,648 $ 27,473 $ 38,107
======== ======== ======== ==========
Amortization of intangible assets
Value of acquired insurance in force
Property and casualty............... $ 258 $ 258 $ 516 $ 516
Annuity............................. 501 657 1,002 1,248
Life................................ 543 582 1,086 1,164
-------- -------- -------- ----------
Subtotal.......................... 1,302 1,497 2,604 2,928
Goodwill.............................. 404 404 809 809
-------- -------- -------- ----------
Total........................... $ 1,706 $ 1,901 $ 3,413 $ 3,737
======== ======== ======== ==========
</TABLE>
<TABLE>
<CAPTION>
June 30, December 31,
Assets 1999 1998
------------ ------------
<S> <C> <C>
Property and casualty................. $ 720,924 $ 737,260
Annuity............................... 2,714,929 2,730,092
Life.................................. 833,469 863,864
Corporate and other................... 95,486 95,579
Intersegment eliminations............. (37,024) (31,315)
------------ -----------
Total........................... $ 4,327,784 $ 4,395,480
============ ===========
</TABLE>
11
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Dollars in millions)
Forward-looking Information
Statements made in the following discussion that state the Company's or
management's intentions, hopes, beliefs, expectations or predictions of the
future are forward-looking statements. It is important to note that the
Company's actual results could differ materially from those projected in such
forward-looking statements due to, among other risks and uncertainties inherent
in the Company's business, the following important factors:
. Changes in the composition of the Company's assets and liabilities through
acquisitions or divestitures.
. Prevailing interest rate levels, including the impact of interest rates on
(i) unrealized gains and losses on the Company's investment portfolio and
the related after-tax effect on the Company's shareholders' equity and
total capital and (ii) the book yield of the Company's investment
portfolio.
. The impact of fluctuations in the capital markets on the Company's ability
to refinance outstanding indebtedness or repurchase shares of the Company's
outstanding common stock.
. The frequency and severity of catastrophes such as hurricanes, earthquakes
and storms, and the ability of the Company to maintain a favorable
catastrophe reinsurance program.
. Future property and casualty loss experience and its impact on estimated
claims and claim adjustment expenses for losses occurring in prior years.
. The Company's ability to develop and expand its agency force and its direct
product distribution systems, as well as the Company's ability to maintain
and secure product sponsorships by local, state and national education
associations.
. The competitive impact of new entrants such as mutual funds and banks into
the tax deferred annuity products markets, and the Company's ability to
profitably expand its property and casualty business in highly competitive
environments.
. Changes in insurance regulations, including (i) those effecting the ability
of the Company's insurance subsidiaries to distribute cash to the holding
company and (ii) those impacting the Company's ability to profitably write
property and casualty insurance policies in one or more states.
. Changes in federal income tax laws and changes resulting from federal tax
audits effecting corporate tax rates or taxable income, and regulations
changing the relative tax advantages of the Company's life and annuity
products to customers.
. The Company's ability to maintain favorable claims-paying ability ratings.
. Adverse changes in policyholder mortality and morbidity rates.
. The resolution of legal proceedings and related matters.
Strategic Review
The Company recently announced that its Board of Directors has retained
Morgan Stanley Dean Witter and Credit Suisse First Boston to explore the
strategic alternatives available to the corporation.
12
<PAGE>
Six Months Ended June 30, 1999 Compared With Six Months Ended June 30, 1998
Insurance Premiums and Contract Charges
Insurance Premiums Written and Contract Deposits
<TABLE>
<CAPTION>
Six Months Ended Growth Over
June 30, Prior Year
----------------- --------------------
1999 1998 Percent Amount
------ ------ ------- ------
<S> <C> <C> <C> <C>
Automobile and property
(voluntary).............. $231.9 $224.8 3.2% $ 7.1
Annuity deposits........... 107.2 117.4 -8.7% (10.2)
Life insurance............. 58.0 56.1 3.4% 1.9
------ ------ ------
Subtotal - core lines.. 397.1 398.3 -0.3% (1.2)
Involuntary and other
property & casualty...... 8.6 8.7 -1.1% (0.1)
------ ------ ------
Total.................. $405.7 $407.0 -0.3% $ (1.3)
====== ====== ======
</TABLE>
Insurance Premiums and Contract Charges Earned
(Excludes annuity and life contract deposits)
<TABLE>
<CAPTION>
Six Months Ended Growth Over
June 30, Prior Year
------------------- ------------------
1999 1998 Percent Amount
------- ------- ------- -------
<S> <C> <C> <C> <C>
Automobile and property
(voluntary).............. $230.6 $221.5 4.1% $ 9.1
Annuity.................... 8.3 7.5 10.7% 0.8
Life....................... 43.4 43.4 - -
------ ------ -----
Subtotal - core lines.. 282.3 272.4 3.6% 9.9
Involuntary and other
property & casualty...... 12.5 12.2 2.5% 0.3
------ ------ -----
Total.................. $294.8 $284.6 3.6% $10.2
====== ====== =====
</TABLE>
Insurance premiums written and contract deposits decreased slightly for the
six months due to the decline in new annuity deposits. Growth continued in the
property and casualty and life segments. For the first six months of 1999,
single premium annuity deposits declined significantly, -23.5%, compared to the
same period last year. 1998's annuity deposit growth benefitted from new tax
legislation contributing to a high volume of single premium and rollover
deposits to tax-qualified products. Also, annuity deposits in the first six
months of 1999 were impacted by the recent performance of the Company's variable
annuity mutual funds through the first quarter of 1999. Changes were
implemented, the mutual fund investment manager was replaced and contract
structural changes were made that will enable the Company's management to make a
much quicker reaction to unfavorable performance in the future. Overall
management of outside mutual fund portfolio managers has been outsourced to
Wilshire Associates. These changes were approved by the Company's mutual fund
shareholders in March 1999. For the second quarter of 1999, performance of the
Company's two largest mutual funds, which comprise 90% of the Company's variable
annuity accumulations, exceeded their comparable Lipper indices.
13
<PAGE>
The Company continues to expand its exclusive agency force including the
number of experienced agents. In total, the Company ended the first six months
with 1,070 exclusive full-time agents, growth of 2.3% compared to 1,046 agents
12 months earlier. Particularly significant was the 4.6% growth in the number
of experienced agents, reflecting the success of the Company's efforts to
improve agent recruitment, training and retention.
Voluntary automobile and homeowners premium written growth was 3.2% for the
first six months of 1999, reflecting growth in average premium per policy and
the number of both automobile and homeowners policies in force. Automobile
insurance premium increased 1.8%, or $3.2 million, compared to the first six
months of last year, and homeowners premium increased 8.3%, or $3.9 million.
Approximately one-half of the property and casualty increase in premiums
resulted from unit growth of 1.9% bringing quarter-end policies in force to
870,000. Compared to December 31, 1998, total property and casualty policies in
force increased 11,000, with the growth split equally between automobile and
homeowners insurance. Two-thirds of this growth in policies in force was
produced in the first half of 1999 following no growth in the fourth quarter of
1998. The Company's average annual premium per policy for automobile and
homeowners increased approximately 2% and 3%, respectively, compared to a year
earlier. Including the impact of increased deductibles and reduced coverage in
coastal areas, the Company's average effective premium per policy for homeowners
insurance increased 5% compared to the first six months of 1998.
Based on policies in force, the property and casualty 12-month retention
rate for new and renewal policies was 88%, about 1 percentage point less than
the 12 months ended June 30, 1998. The change in property and casualty
retention was primarily caused by greater price competition for automobile
insurance.
Compared to the second quarter and the first six months of 1998, new annuity
deposits decreased 11.4% in the second quarter and 8.7% in the first half of
1999. The decline was primarily attributable to a 23.5% decrease in the first
six months of this year in single premium deposits, which last year benefitted
from new tax legislation contributing to a high volume of single premium and
rollover deposits to tax-qualified products. Annuity deposits in the first half
of 1999 were also impacted by the recent performance of the Company's variable
annuity mutual funds through the first quarter of 1999. After implementing a
number of changes, second quarter 1999 performance of the Company's two largest
mutual funds, which comprise 90% of the Company's variable annuity
accumulations, exceeded their comparable Lipper indices. New deposits to
variable mutual fund annuities decreased 5.3% and new deposits to fixed
annuities were 14.1% lower than last year. Variable annuity accumulated funds
on deposit at June 30, 1999 were $1.2 billion, $117 million more than a year
ago, a 10.9% increase. Fixed annuity cash value retention for the 12 months
ended June 30, 1999 was 93.0%. Over the last 12 months, the number of annuity
contracts in force grew 7.0%, or 8,000 contracts.
Life premium growth was 3.4% for the first six months of 1999. This growth
included new business from term life products introduced early in 1997 and a new
series of whole life products introduced late in the third quarter of 1998 and
reflects an insurance in force lapse ratio of 8%. Customer acceptance of these
new products continues to grow, as they accounted for approximately half of the
Company's new life sales in the first six months of 1999.
14
<PAGE>
Net Investment Income
Investment income of $93.9 million for the first six months of 1999
decreased 2.9%, or $2.8 million, (2.3% after tax) compared to last year due to a
decline in interest rates and small growth in the investment portfolio. The
average pretax yield on the investment portfolio was 7.1% (4.8% after tax) for
the first six months of 1999 compared to a pretax yield of 7.3% (4.9% after tax)
last year, a decrease of 23 basis points, or 3.1%. Average investments
(excluding the securities lending collateral) increased only slightly over the
past 12 months reflecting the utilization of capital for the share repurchase
program and customers' preference for variable as opposed to fixed annuity
contracts. All of the investment income decrease in the annuity segment was
offset by a decline in interest credited to fixed annuity deposits. Excluding
the effect of the use of cash in the share repurchase program, net investment
income would have been $99.4 million, a small decrease compared to the first six
months of 1998.
Realized Investment Gains and Losses
Net realized investment losses were $5.4 million for the three months ended
June 30, 1999, and $8.5 million for the six months ended June 30, 1999. These
losses compare to net realized investment gains of $3.0 million and $9.4 million
for the same periods, respectively, in 1998. All of the net realized gains and
losses occurred in the fixed income portfolios. The net realized investment
losses in the first half of 1999 were about two-thirds due to credit decisions
and rate of return considerations in the Company's fixed income investment
portfolio and about one-third due to the sale of U.S. Treasury securities in a
rising interest rate environment for duration management purposes. Realized
investment gains in the first half of 1998 included calls and tenders in the
bond portfolio as well as credit and rate of return decisions.
Benefits, Claims and Settlement Expenses
<TABLE>
<CAPTION>
Six Months Ended Growth Over
June 30, Prior Year
----------------- ----------------
1999 1998 Percent Amount
-------- ------- ------- ------
<S> <C> <C> <C> <C>
Property and casualty.... $191.0 $182.6 4.6% $ 8.4
Life..................... 20.9 22.1 -5.4% (1.2)
------ ------ ------
Total.................. $211.9 $204.7 3.5% $ 7.2
====== ====== ======
Property and casualty
statutory loss ratio:
Before catastrophes.. 73.5% 69.7% 3.8%
After catastrophes... 78.6% 78.3% 0.3%
</TABLE>
Property and casualty claims and settlement costs reflect a high level of
catastrophe losses in both years and higher than expected claims in property and
automobile other than catastrophe claims in 1999, including an increase in the
average cost per automobile claim. Although catastrophe losses in 1999 were
lower than last year, the second quarter of 1999 was the Company's second-worst
ever, trailing only the record set in the second quarter of 1998, as
policyholders in 23 states incurred damages from 13 separate events. Favorable
development of property and casualty claims occurring in prior years was $4.5
million in the first six months of 1999, compared to $15.5 million in the same
period in 1998.
15
<PAGE>
Life mortality was comparable in both years, in both amount and relation to
premiums earned. The decrease in life benefits resulted from positive
experience on a small closed block of individual accident and health policies.
Interest Credited to Policyholders
<TABLE>
<CAPTION>
Six Months Ended Growth Over
June 30, Prior Year
----------------- ------------------
1999 1998 Percent Amount
------ ------ ------- ------
<S> <C> <C> <C> <C>
Annuity...... $34.0 $36.9 -7.9% $(2.9)
Life......... 12.0 11.0 9.1% 1.0
----- ----- -----
Total...... $46.0 $47.9 -4.0% $(1.9)
===== ===== =====
</TABLE>
Interest credited to fixed annuity contracts decreased as the fixed annuity
average annual interest rate credited decreased 0.5 percentage points to 5.1% in
the first six months of 1999, compared to a rate of 5.6% for the same period
last year. In addition, the average accumulated deposits for the six months
ended June 30, 1999 increased only slightly compared to the same period in 1998.
Life insurance interest credited increased as a result of continued growth in
the interest-sensitive life insurance reserves.
Policy Acquisition and Operating Expenses
Policy acquisition and operating expenses represent the Company's insurance
underwriting expenses. For the first six months of 1999, policy acquisition and
operating expenses decreased $3.0 million, or 3.9%, compared to the same period
last year, reflecting the deferral of additional acquisition costs. In 1999,
the Company began deferring additional sales-related costs for all new life and
annuity contracts to be more consistent with common industry accounting
practices. This increased net acquisition costs deferred by $3.0 million for the
six months ended June 30, 1999, including $1.5 million in the second quarter.
Future quarterly expenses are expected to include similar amounts of additional
net deferrals. Excluding the net deferral of additional sales-related costs,
policy acquisition and operating expenses for the first six months of 1999 were
equal to the same period last year due to a decrease in the amortization of life
deferred acquisition costs of $1.9 million to reflect current mortality
estimates resulting in higher anticipated future gross profits. Excluding both
of these items, the Company's policy acquisition and underwriting expenses
increased $1.9 million, or 2.5%, compared to the first six months of 1998.
The total corporate expense ratio on a statutory accounting basis was 21.0%
for the six months ended June 30, 1999, 0.3 percentage points better than the
same period in 1998. The property and casualty expense ratio, the 15th lowest
of the 100 largest property and casualty insurance groups for 1997, improved to
19.4% for the six months ended June 30, 1999, compared to 19.5% last year.
Income Tax Expense
The effective income tax rate was 31.3% for the six months ended June 30,
1999, compared to 27.7% for the same period last year. Income from investments
in tax-advantaged securities reduced the effective income tax rate 4.3 and 4.1
percentage points in the six months ended June 30, 1999 and 1998, respectively.
In the first six months of last year, non-recurring tax benefits reduced the
effective rate 6.4 percentage points and contributed $2.8 million, or $0.06 per
share, to operating income for that period.
16
<PAGE>
The Internal Revenue Service (the "IRS") regularly audits the Company's
federal income tax returns and recently completed its audit of the Company's
1994 and 1995 tax returns. As a result of this audit, certain tax benefits
which the Company realized in the past are no longer available to the Company.
Therefore, the Company's effective corporate tax rate is expected to be
approximately 31% in 1999 and beyond (an increase from approximately 27% in
1998), assuming that the Company's level of tax-exempt investment income remains
about the same.
In addition, in the course of the audit, the IRS has taken the position that
it is not bound by certain documented understandings contained in the Revenue
Agent's Reports (the "RARs") pertaining to the audits of the Company's 1989
through 1993 tax returns. The Company is vigorously contesting the IRS'
position and believes the IRS should honor the understandings documented in the
RARs. The Company's tax advisors, KPMG LLP, concur with the Company's
interpretation of the RARs. The outcome of this matter is uncertain.
Therefore, the Company has not accrued a liability in the financial statements
with regard to this matter. The maximum amount of additional taxes, with
respect to the 1994 through 1998 tax years, if any, that might be due as a
result of the resolution of this matter would be approximately 5% of the
Company's shareholders' equity before unrealized investment gains and losses as
of June 30, 1999. Such additional taxes, if any, would increase the Company's
income tax expense and effective corporate tax rate only in the year when such
an assessment becomes probable and can be reasonably estimated.
17
<PAGE>
Operating Income
For the first six months of 1999, operating income (net income before the
after tax impact of realized investment gains and losses) increased 3.1% and
operating income per share on a diluted basis of $0.79 increased 9.7%. Second
quarter 1999 catastrophe claims were $10 million pretax. Catastrophe losses
were widespread during the quarter and reflected an unusually large number of
catastrophes. Higher than expected claims in property and automobile other than
catastrophe claims added approximately 5 percentage points to the Company's
property and casualty combined ratio for the second quarter of 1999. The pretax
earnings impact of the 5 percentage points increase in the combined ratio was
approximately $6 million. Current year earnings and investment income were
reduced compared to the first six months of 1998 due to the utilization of
capital in the Company's share repurchase programs. Operating income by segment
was as follows:
<TABLE>
<CAPTION>
Six Months Ended Growth Over
June 30, Prior Year
----------------- -----------------
1999 1998 Percent Amount
----- ----- ------- ------
<S> <C> <C> <C> <C>
Property & casualty
Before catastrophe losses and
non-recurring tax benefits.......... $24.3 $30.5 -20.3% $(6.2)
Catastrophe losses, after tax......... 7.9 13.1 -39.7% (5.2)
Non-recurring tax benefits............ - 2.8 -100.0% (2.8)
----- ----- -----
Total including catastrophe losses.. 16.4 20.2 -18.8% (3.8)
Annuity................................. 12.7 11.0 15.5% 1.7
Life.................................... 8.5 5.7 49.1% 2.8
Corporate and other expense............. 1.4 1.8 (0.4)
Interest expense........................ 3.2 3.1 0.1
----- ----- ------
Total............................... $33.0 $32.0 3.1% $ 1.0
===== ===== =====
Total before catastrophe losses
and non-recurring tax benefits.... $40.9 $42.3 -3.3% $(1.4)
===== ===== =====
Property and casualty
statutory combined ratio:
Before catastrophes................. 92.9% 89.1% 3.8%
After catastrophes.................. 98.0% 97.7% 0.3%
</TABLE>
Property and casualty segment operating income was lower than the first six
months of last year due to higher than expected claims in property and
automobile other than catastrophe claims, including an increase in the average
cost per automobile claim. Also, 1998 included a non-recurring tax benefit.
Despite the impact of unusually high weather-related losses, the Company's
property and casualty combined ratio increased only 0.3 percentage points from
the first six months of last year. Automobile results for the first six months
of 1999 produced a combined ratio of 92.1%, 2.4 percentage points higher than
the same period last year, reflecting the increase in average cost per
automobile claim. The homeowners combined ratio of 117.3% was 11.6 percentage
points better than the first six months of 1998, reflecting the decline in
catastrophe losses. However, catastrophe losses in both years were significant
as the second quarter of 1999 represented the Company's second-worst ever for
catastrophe losses, trailing only the record set in last year's second quarter,
with an unusually large number of catastrophes that were widespread across the
country.
18
<PAGE>
The 15.5% increase in annuity segment operating income was driven by a 10.9%
growth in variable annuity funds on deposit, 8.4% growth in total margin and
deferral of additional sales-related costs. Excluding the deferral of
additional sales-related costs, annuity operating income increased 8.2% compared
to the first six months of 1998, 3.8% in the first quarter increasing to 12.3%
growth in the second quarter of 1999. The net deferral of additional sales-
related costs contributed $0.8 million to operating income for the first half of
1999. Variable annuity accumulated deposits were $1.2 billion at June 30, 1999,
$117.4 million more than 12 months earlier. Fixed annuity accumulated cash
value of $1.4 billion was comparable to June 30, 1998.
The increase in life operating earnings included the $1.2 million net
deferral of additional sales-related costs. In addition, life segment earnings
reflected the impact of better mortality versus prior assumptions in the
amortization of deferred acquisition costs and positive experience on a small
closed block of individual accident and health business. Excluding these items,
life segment earnings increased 5.3% over the first six months of 1998.
Net Income
Net Income Per Share, Diluted
<TABLE>
<CAPTION>
Six Months Ended Growth Over
June 30, Prior Year
--------------------- ------------------
1999 1998 Percent Amount
----- ----- ------- ------
<S> <C> <C> <C> <C>
Operating income.................... $ 0.79 $0.72 9.7% $ 0.07
Realized investment gains (losses).. (0.14) 0.14 (0.28)
------ ----- ------
Net income.......................... $ 0.65 $0.86 -24.4% $(0.21)
====== ===== ======
</TABLE>
Net income, which includes realized investment gains and losses, for the
first six months of 1999 decreased by 27.8% and net income per diluted share
decreased by 24.4% compared to the same period in 1998 reflecting $5.5 million
of after tax realized investment losses for the six months, compared to $6.1
million of after tax realized investment gains in the same period last year.
The net realized investment losses in the first half of 1999 were about two-
thirds due to credit decisions and rate of return considerations in the
Company's fixed income investment portfolio and about one-third due to the sale
of U.S. Treasury securities in a rising interest rate environment for duration
management purposes. Realized investment gains in the first half of 1998
included calls and tenders in the bond portfolio as well as credit and rate of
return decisions. The Company's share repurchase program reduced net income by
$3.6 million for the first six months of 1999 but resulted in an increase of
$0.04 in earnings per share for the period due to the reduction in the number of
shares outstanding. Return on shareholders' equity based on net income for the
last 12 months was 16%.
Liquidity and Financial Resources
Investments
The Company's investment strategy emphasizes investment grade, publicly
traded fixed income securities. At June 30, 1999, fixed income securities
represented 96.9% of investments excluding the securities lending collateral.
Of the fixed income investment portfolio, 92.4% was investment grade and 99.7%
was publicly traded. The average quality of the total fixed income portfolio
was A+ at June 30, 1999.
19
<PAGE>
The duration of the investment portfolio is managed to provide cash flow to
satisfy policyholder liabilities as they become due. The average option
adjusted duration of total investments was 4.3 years at June 30, 1999 and 4.4
years at December 31, 1998. The Company has included in its annuity products
substantial surrender penalties to reduce the likelihood of unexpected increases
in policy or contract surrenders. All annuities issued since 1982 and
approximately 75% of all outstanding fixed annuity accumulated cash values are
subject in most cases to substantial early withdrawal penalties.
Cash Flow
The short-term liquidity requirements of the Company, within a 12-month
operating cycle, are for the timely payment of claims and benefits to
policyholders, operating expenses, interest payments and federal income taxes.
Cash flow in excess of these amounts has been used to fund business growth,
retire short-term debt, pay dividends to shareholders and repurchase shares of
the Company's common stock. Long-term liquidity requirements, beyond one year,
are principally for the payment of future insurance policy claims and benefits
and retirement of long-term notes.
Operating Activities
As a holding company, HMEC conducts its principal operations in the personal
lines segment of the property and casualty and life insurance industries through
its subsidiaries. HMEC's insurance subsidiaries generate cash flow from premium
and investment income, generally well in excess of their immediate needs for
policy obligations, operating expenses and other cash requirements. Net cash
provided by operating activities was comparable to the first six months of 1998.
Cash provided by operating activities primarily reflects net cash generated by
the insurance subsidiaries.
Payment of principal and interest on debt, fees related to the catastrophe-
linked equity put option, dividends to shareholders and parent company operating
expenses, as well as the share repurchase program, are dependent upon the
ability of the insurance subsidiaries to pay cash dividends or make other cash
payments to HMEC, including tax payments pursuant to tax sharing agreements.
The insurance subsidiaries are subject to various regulatory restrictions which
limit the amount of annual dividends or other distributions, including loans or
cash advances, available to HMEC without prior approval of the insurance
regulatory authorities. Dividends which may be paid by the insurance
subsidiaries to HMEC during 1999 without prior approval are approximately $67
million. Although regulatory restrictions exist, dividend availability from
subsidiaries has been, and is expected to be, more than adequate for HMEC's
capital needs.
Investing Activities
HMEC's insurance subsidiaries maintain significant investments in fixed
maturity securities to meet future contractual obligations to policyholders. In
conjunction with its management of liquidity and other asset/liability
management objectives, the Company, from time to time, will sell fixed maturity
securities prior to maturity and reinvest the proceeds in other investments with
different interest rates, maturities or credit characteristics. Accordingly,
the Company has classified the entire fixed maturity securities portfolio as
available for sale. For the six months ended June 30, 1999, purchases and sales
of fixed maturity securities were comparable to last year while maturities
decreased reflecting timing of scheduled maturities and a higher level of calls
20
<PAGE>
during the first six months of 1998 due to market conditions conducive to
refinancing securities compared to the previous several years.
Financing Activities
Financing activities include primarily repurchases of the Company's common
stock, payment of dividends, the receipt and withdrawal of funds by annuity
policyholders and borrowings and repayments under the Company's debt facilities.
Fees related to the catastrophe-linked equity put which augments its reinsurance
program have been charged directly to additional paid-in capital.
For the first six months of 1999, receipts from annuity contracts decreased
8.7% reflecting the reduced level of single premium deposits received. Annuity
contract maturities and withdrawals increased $25.2 million, or 27.5%, compared
to the first six months of 1998 due to higher withdrawals from the variable
annuity option. Improvements during the second quarter of 1999 in the
performance of the Company's mutual funds are anticipated to slow these
withdrawals. Retention of fixed annuity accumulated cash value was 93.0% for
the 12 months ended June 30, 1999. Net transfers to variable annuity assets for
the first six months of 1999 were unusually low and were influenced by the
performance of the underlying mutual funds through the first quarter of 1999.
During the first six months of 1999, the Company repurchased 1,075,300
shares of its common stock, or 3% of the shares outstanding on December 31,
1998, at an aggregate cost of $25.0 million, or an average cost of $23.26 per
share, under its stock repurchase program. This compares to 1,379,100 shares
repurchased in the first six months of 1998 at an aggregate cost of $45.1
million. Shares repurchased over the last 24 months represented 10.8% of the
shares outstanding on June 30, 1999. Since early 1997, 7,082,700 shares, or 15%
of the shares outstanding on December 31, 1996, have been repurchased at an
aggregate cost of $188.4 million, equal to an average cost of $26.61 per share.
Including shares repurchased in 1995, the Company has repurchased 32% of the
shares outstanding on December 31, 1994. Shares of common stock may be
purchased from time to time through open market and private purchases, as
available. The repurchase of shares was financed through cash generated from
operations and, when necessary, the Bank Credit Facility. In May 1999, an
additional $100 million share repurchase authorization was announced. As of
June 30, 1999, $111.6 million remained authorized for future share repurchases.
The Company recently announced that its Board of Directors has retained
Morgan Stanley Dean Witter and Credit Suisse First Boston to explore the
strategic alternatives available to the corporation. During the process of
considering strategic alternatives, the Board of Directors has decided to
suspend the Company's share repurchase program.
Capital Resources
The Company has determined the amount of capital which is needed to
adequately fund and support business growth, primarily based on risk-based
capital formulas including those developed by the NAIC. Historically, the
Company's insurance subsidiaries have generated capital in excess of such needed
capital. These excess amounts have been paid to HMEC through dividends. HMEC
has then utilized these dividends and its access to the capital markets to
retire long-term debt, repurchase shares of its common stock, increase and pay
dividends to its shareholders and for other corporate purposes. Management
anticipates that the Company's
21
<PAGE>
sources of capital will continue to generate capital in excess of the needs for
business growth, debt interest payments and shareholder dividends.
The total capital of the Company was $582.5 million at June 30, 1999,
including $99.7 million of long-term debt and $49.0 million of short-term debt.
Total debt represented 25.5% of capital at the end of June, at the upper end of
the Company's target operating range of 20% to 25%.
Shareholders' equity was $433.6 million at June 30, 1999, including a very
small unrealized loss in the Company's investment portfolio of $0.2 million
after taxes and the related impact on deferred policy acquisition costs
associated with annuity and interest-sensitive life policies. The market value
of the Company's common stock and the market value per share were $1,115.3
million and $27 3/16, respectively, at June 30, 1999. Book value per share was
$10.57 at June 30, 1999, both including and excluding investment market value
adjustments.
In January 1996, the Company issued $100.0 million face amount of 6 5/8%
Senior Notes ("Senior Notes") at a discount of 0.5% which will mature on January
15, 2006. Interest on the Senior Notes is payable semi-annually. The Senior
Notes are redeemable in whole or in part, at any time at the Company's option.
The Senior Notes have an investment grade rating from Standard & Poor's
Corporation ("S&P") (A-), Duff & Phelps Credit Rating Co. ("Duff & Phelps") (A),
and Moody's Investors Service, Inc. ("Moody's") (Baa2) and are traded on the New
York Stock Exchange (HMN 6 5/8).
As of June 30, 1999 and December 31, 1998, the Company had short-term debt
of $49.0 million and $50.0 million, respectively, outstanding under the Bank
Credit Facility. The Bank Credit Facility allows unsecured borrowings of up to
$65.0 million at Interbank Offering Rates plus 0.3% to 0.5% or Bank of America
National Trust and Savings Association reference rates. The rate on the
borrowings under the Bank Credit Facility was Interbank Offering Rate plus 0.3%,
or 5.6%, as of June 30, 1999. The commitment for the Bank Credit Facility
terminates on December 31, 2001.
The Company's ratio of earnings to fixed charges for the six months ended
June 30, 1999 was 9.2x compared to 12.2x for the same period in 1998, with the
decline attributable to realized investment losses recorded in the current
period compared to realized investment gains recorded in the first six months of
1998.
Total shareholder dividends were $7.7 million for the first six months of
1999. The Company has targeted a dividend payout ratio of approximately 15%.
In November 1998, the Board of Directors authorized the seventh increase to the
Company's quarterly dividend since the Company's initial public offering in
November 1991. The regular quarterly dividend increased by 16% to $0.0925 per
share.
The Company reinsures 95% of catastrophe losses above a retention of $7.5
million per occurrence up to $80 million per occurrence in 1999. This
catastrophe reinsurance program is augmented by a $100 million equity put. This
equity put provides an option to sell shares of the Company's convertible
preferred stock with a floating rate dividend at a pre-negotiated price in the
event losses from catastrophes, individually or in the aggregate during a
calendar year, exceed the $80 million coverage limit. The equity put provides a
source of capital for up to $154 million of catastrophe losses, before tax
benefits, above the reinsurance coverage limit.
22
<PAGE>
Market Risk
Market risk is the risk that the Company will incur losses due to adverse
changes in market rates. The Company's primary market risk exposure is the risk
that the Company will incur economic losses due to adverse changes in interest
rates. This risk arises as the Company's profitability is affected by the
spreads between interest yields on investments and rates credited on insurance
liabilities.
The Company manages its market risk by matching the projected cash outflows
of assets with the projected cash outflows of liabilities. For all its assets
and liabilities, the Company seeks to maintain reasonable durations to pay
future policyholder obligations as they become due, consistent with the
maximization of income without sacrificing investment quality and providing for
liquidity and diversification. The risks associated with mutual fund
investments supporting variable annuity products are assumed by those
contractholders, not by the Company.
There have been no material changes during the first six months of 1999 in
the market risks the Company is exposed to and the management of those risks,
which are described in "Management's Discussion and Analysis of Financial
Condition and Results of Operations" in the Company's 1998 Form 10-K.
Year 2000
All of the Company's mainframe computer systems critical to its business are
year 2000 compliant, including the new life processing system which the Company
implemented in April 1999. The Company has contacted its vendors inquiring with
regard to their year 2000 compliance status and plans and the Company has
received responses indicating that most major vendors believe that they are, or
would be before the end of 1999, year 2000 compliant. In the remainder of 1999,
additional testing of systems, final review of individual personal computer
applications and contingency plans will be completed.
Because of the extent of systems conversion already completed, the Company
believes the worst-case scenario would be limited to major vendor conversions
that fail to achieve compliance by the end of 1999. The result of this worst-
case scenario would be to interrupt the Company's ability to process certain
business transactions which could have a significant effect on its business,
results of operations and financial condition. During 1999, contingency plans
are being completed to mitigate the risks of vendor failures to achieve
compliance by the end of the year.
In addition, non-system contingency plans are being developed during 1999
for possible lapse in service from utility suppliers and other third party
service providers. These contingency plans will include efforts to minimize
business interruption through action plans which will encompass back-up
processes that utilize alternative suppliers and third party service providers,
where appropriate.
Costs for this compliance project represent the allocation of existing
internal information technology resources to address year 2000 compliance and
are not incremental costs to the Company. The total cost of the compliance
project is being funded through operating cash flows. The Company is expensing
all costs associated with these system changes and through June 30, 1999 has
expensed $6.1 million before tax benefits, including a cost of $0.7 million for
the first six months of 1999. Costs to complete the remaining testing and
contingency planning are estimated to be less than $0.5 million before tax
benefits.
23
<PAGE>
Item 3: Quantitative and Qualitative Disclosures About Market Risk
The information required by Item 305 of Regulation S-K is contained in
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" contained in this Form 10-Q.
PART II: OTHER INFORMATION
Item 4: Submission of Matters to a Vote of Security Holders
At the Company's Annual Meeting of Shareholders held on May 14, 1999,
36,879,938 shares of Common Stock were represented and entitled to vote. The
results of the matters submitted to a vote of security holders are shown in the
table below.
<TABLE>
<CAPTION>
Votes Votes
For Against Abstentions
--- ------- -----------
<S> <C> <C> <C>
Election of the following nominees to
hold the office of Director until the next
Annual Meeting of Shareholders and
until their respective successors have
been duly elected and qualified:
William W. Abbott 36,862,172 17,766 -
Dr. Emita B. Hill 36,862,172 17,766 -
Paul J. Kardos 36,862,172 17,766 -
Donald Kiernan 36,862,172 17,766 -
Jeffrey L. Morby 36,862,172 17,766 -
Shaun F. O'Malley 36,862,172 17,766 -
Charles A. Parker 36,862,172 17,766 -
Ralph S. Saul 36,861,902 18,036 -
William J. Schoen 36,862,172 17,766 -
Ratification of the appointment of KPMG
LLP, independent certified public
accountants, to serve as the Company's
auditors for the fiscal year ending
December 31, 1999. 36,674,926 27,881 177,131
</TABLE>
24
<PAGE>
Item 6: Exhibits and Reports on Form 8-K
Exhibit
No. Description
-------- -----------
(a) The following items are filed as Exhibits. Management contracts and
compensatory plans are indicated by an asterisk(*).
(10) Material contracts:
10.1* Severance Agreements between HMEC and certain
officers of HMEC, incorporated by reference to
Exhibit 10.9 to HMEC's Annual Report on Form 10-K
for the year ended December 31, 1993, filed with the
SEC on March 31, 1994.
10.1(a)* Revised Schedule to Severance Agreements between
HMEC and certain officers of HMEC.
(11) Statement re computation of per share earnings.
(27) Financial Data Schedule.
(b) No reports on Form 8-K were filed by the Company during the second
quarter of 1999.
25
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
<TABLE>
<S> <C>
HORACE MANN EDUCATORS CORPORATION
(Registrant)
Date August 12, 1999 /s/ Paul J. Kardos
--------------------------------------- ----------------------------------------------------
Paul J. Kardos
Chairman of the Board,
President and Chief Executive Officer
Date August 12, 1999 /s/ Larry K. Becker
--------------------------------------- -----------------------------------------------------
Larry K. Becker
Executive Vice President
and Chief Financial Officer
Date August 12, 1999 /s/ Roger W. Fisher
--------------------------------------- -----------------------------------------------------
Roger W. Fisher
Senior Vice President,
Financial Information and Control
</TABLE>
26
<PAGE>
EXHIBIT 10.1(a)
SCHEDULE
TO
EXHIBIT 10.9 - SEVERANCE AGREEMENT
Horace Mann Educators Corporation entered into severance agreements on the date
shown with the following persons. These agreements are identical to the one
included herein as Exhibit 10.9.
Paul Kardos - December 27, 1991
Larry Becker - December 27, 1991
George Zock - December 27, 1991
H. Albert Inkel - December 27, 1991
Ann Caparros - March 07, 1994
Horace Mann Educators Corporation entered into severance agreements on the date
shown with the following persons. These agreements are substantially identical
to the one included herein as Exhibit 10.9 except that they provide (1) a one-
time cash payment equal to 2 times the highest annual compensation received by
the employee in the five preceding years (as compared to 2.9 times) and (2) the
specified period during which such employee's insurance benefits would continue
is 2 years (as compared to 2.9 years):
A. Thomas Arisman - December 27, 1991
Valerie Chrisman - December 27, 1991
Bret Conklin - July 01, 1998
Roger Fisher - December 27, 1991
J. Michael Henderson - September 02, 1997
William Hinkle - July 19, 1999
Robert Lee - July 19, 1999
Michael Orr - July 19, 1999
Francis Purcell - December 27, 1991
Michael Vignola - March 16, 1998
Walter Stooksbury - December 27, 1991
<PAGE>
EXHIBIT 11
Horace Mann Educators Corporation
Computation of Net Income per Share
For the Three and Six Months Ended June 30, 1999 and 1998
(Amounts in thousands, except per share data)
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
----------------------- ---------------------
1999 1998 1999 1998
------- ------- ------ -------
<S> <C> <C> <C> <C>
Basic - assumes no dilution:
Net income for the period $10,422 $15,648 $27,473 $38,107
------- ------- ------- -------
Weighted average number of common
shares outstanding during the period 41,131 43,597 41,467 43,885
------- ------- ------- -------
Net income per share - basic $ 0.25 $ 0.36 $ 0.66 $ 0.87
======= ======= ======= =======
Diluted - assumes full dilution:
Net income for the period $10,422 $15,648 $27,473 $38,107
------- ------- ------- -------
Weighted average number of common
shares outstanding during the period 41,131 43,597 41,467 43,885
Weighted average number of common
equivalent shares to reflect the dilutive
effect of common stock equivalent securities:
Warrants 96 99 96 99
Stock options 365 483 362 484
Common stock units related to Deferred
Equity Compensation Plan for Directors 65 44 65 44
Common stock units related to Deferred
Compensation Plan for Employees 6 2 6 1
------- ------- ------- -------
Total common and common equivalent shares
adjusted to calculate diluted earnings per share 41,663 44,225 41,996 44,513
------- ------- ------- -------
Net income per share - diluted $ 0.25 $ 0.36 $ 0.65 $ 0.86
======= ======= ======= =======
Percentage of dilution compared
to basic net income per share 0.0% 0.0% 1.5% 1.1%
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 7
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEET AND THE CONSOLIDATED STATEMENT OF OPERATIONS AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> JUN-30-1999
<DEBT-HELD-FOR-SALE> 2,562,130<F1>
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 0
<MORTGAGE> 18,097
<REAL-ESTATE> 164
<TOTAL-INVEST> 2,645,455
<CASH> 18,957
<RECOVER-REINSURE> 0
<DEFERRED-ACQUISITION> 124,964
<TOTAL-ASSETS> 4,327,784
<POLICY-LOSSES> 2,160,734<F2>
<UNEARNED-PREMIUMS> 177,681
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 126,674
<NOTES-PAYABLE> 148,657
0
0
<COMMON> 59
<OTHER-SE> 433,522
<TOTAL-LIABILITY-AND-EQUITY> 4,327,784
294,779
<INVESTMENT-INCOME> 93,907
<INVESTMENT-GAINS> (8,473)
<OTHER-INCOME> 0
<BENEFITS> 211,927
<UNDERWRITING-AMORTIZATION> 23,752
<UNDERWRITING-OTHER> 50,230
<INCOME-PRETAX> 39,999
<INCOME-TAX> 12,526
<INCOME-CONTINUING> 27,473
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 27,473
<EPS-BASIC> 0.66
<EPS-DILUTED> 0.65
<RESERVE-OPEN> 0
<PROVISION-CURRENT> 0
<PROVISION-PRIOR> 0
<PAYMENTS-CURRENT> 0
<PAYMENTS-PRIOR> 0
<RESERVE-CLOSE> 0
<CUMULATIVE-DEFICIENCY> 0
<FN>
<F1>Refer to Note 3 - Investments of the Company's Consolidated Notes to Financial
Statements for June 30, 1999.
<F2>Refer to the Company's Consolidated Balance Sheet as of June 30, 1999.
</FN>
</TABLE>
