<PAGE> 1
DIVERSIFIED INVESTORS VARIABLE FUNDS
DIVERSIFIED INVESTORS STRATEGIC
VARIABLE FUNDS
PROSPECTUS MAY 1, 2000
[DIVERSIFIED INVESTORS STRATEGIC VARIABLE FUNDS GRAPHIC]
<TABLE>
<S> <C>
[PHOTO]
INTERMEDIATE/LONG
HORIZON
STRATEGIC ALLOCATION
SERIES
[PHOTO]
INTERMEDIATE
HORIZON INTERNATIONAL EQUITY SERIES
STRATEGIC ALLOCATION
SERIES AGGRESSIVE EQUITY SERIES
[PHOTO] SPECIAL EQUITY SERIES
SHORT HORIZON
STRATEGIC ALLOCATION EQUITY GROWTH SERIES
SERIES
GROWTH & INCOME SERIES
[PHOTO]
VALUE & INCOME SERIES
BALANCED SERIES
CALVERT SERIES
HIGH-YIELD BOND SERIES
COREBOND SERIES
[DIVERSIFIED INVESTMENT ADVISORS LOGO]
INTERMEDIATE GOVERNMENT BOND SERIES DIVERSIFIED INVESTMENT ADVISORS
HIGH QUALITY BOND SERIES
MONEY MARKET SERIES
</TABLE>
<PAGE> 2
[PHOTO]
A LETTER FROM DIVERSIFIED INVESTMENT ADVISORS' PRESIDENT
Dear Prospective Investor:
Certainly the past several months have been times to try the patience of even
the most determined long-term investor. During this period, major market moves
and shifts in sentiment -- events that once took place over the course of
months or weeks -- have occurred in a matter of days or even hours. It has been
a very disconcerting time, to say the least, for anyone saving for a secure
retirement.
Yet, as difficult as it may be to maintain as the headlines blare, a long-term
perspective is now more important than ever. Even in today's uncertain markets,
one certainty remains: over the long run, short-term investors are seldom as
successful as those who stand strong and take a disciplined, long-term approach
to investing.
Diversified Investment Advisors offers investors a truly diversified array of
opportunities across asset classes and investment styles. Our funds are
sub-advised by some of the most prominent investment management firms in the
country -- institutional investment managers who are experienced in managing
retirement assets in all market environments and are focused on long-term
wealth building.
We are dedicated to assisting our clients in allocating their assets among our
funds to help dampen short-term market volatility and achieve their long-term
goals. And, we are committed to maintaining top quality funds across a full
array of asset classes and styles that are appropriate for allocation of our
clients' assets.
That's why we invite you to take a very close look at Diversified and the
prospectus enclosed. When you do, you'll appreciate the value we offer, and we
hope join our family of investors.
Thank you for your interest in Diversified Investment Advisors. We look forward
to helping you achieve your retirement goals.
Sincerely,
/s/ TOM SCHLOSSBERG
Tom Schlossberg, President
Diversified Investment Advisors, Inc.
Investments in the Diversified Investors Variable Funds and the Diversified
Investors Strategic Variable Funds will fluctuate so that an investor's units,
when redeemed, may be worth more or less than their original cost.
Not part of the prospectus
<PAGE> 3
PROSPECTUS
DIVERSIFIED INVESTORS VARIABLE FUNDS
DIVERSIFIED INVESTORS STRATEGIC VARIABLE FUNDS
GROUP VARIABLE ANNUITY CONTRACTS
SECTIONS 401(a), 401(k), 403(b), 408(IRA), 457 AND NQDC
ISSUED BY
AUSA LIFE INSURANCE COMPANY, INC. ("AUSA")
4 MANHATTANVILLE ROAD, PURCHASE, NEW YORK 10577; (800) 926-0044
This prospectus describes group variable annuity contracts (called Contracts)
that are designed and offered as funding vehicles for retirement plans
maintained by state educational organizations, certain tax-exempt organizations,
IRA contractholders, and taxed organizations in the case of the Section 401(a)
and/or Section 401(k) contracts and corporate nonqualified deferred compensation
contracts.
Participants may allocate amounts contributed and remitted to AUSA on their
behalf under the Contracts (called purchase payments) to one of two segregated
investment accounts of AUSA: the DIVERSIFIED INVESTORS VARIABLE FUNDS and the
DIVERSIFIED INVESTORS STRATEGIC VARIABLE FUNDS.
Participants may allocate purchase payments directed to the DIVERSIFIED
INVESTORS VARIABLE FUNDS ACCOUNT to subaccounts that invest in underlying mutual
funds. Currently, fourteen subaccounts are available. The underlying mutual
funds are the following series of Diversified Investors Portfolios: Money Market
Series, High Quality Bond Series, Intermediate Government Bond Series, Core Bond
Series (formerly Government/Corporate Bond Series), High-Yield Bond Series,
Balanced Series, Value & Income Series (formerly Equity Income Series), Equity
Value Series, Growth & Income Series, Equity Growth Series, Special Equity
Series, Aggressive Equity Series and International Equity Series and the Calvert
Social Series.
Participants may allocate purchase payments directed to the DIVERSIFIED
INVESTORS STRATEGIC VARIABLE FUNDS ACCOUNT to subaccounts that invest in
subaccounts of the Diversified Investors Variable Funds Account. Currently,
three subaccounts are available. These are the Diversified Investors Short
Horizon Strategic Allocation Variable Fund, the Diversified Investors
Intermediate Horizon Strategic Allocation Variable Fund and the Diversified
Investors Intermediate/Long Horizon Strategic Allocation Variable Fund.
To learn more about the Contracts, the segregated investment accounts and their
underlying investments, you can obtain a copy of the accounts' most recent
financial reports or a copy of the Statement of Additional Information ("SAI")
dated the date of this prospectus. The SAI has been filed with the Securities
and Exchange Commission and is incorporated into this prospectus by reference.
The SAI's table of contents can be found on page 56 of this prospectus. You may
obtain these documents from AUSA without charge upon written request to the
above address or by telephoning (800)-926-0044. You can also obtain copies of
these documents from the Securities and Exchange Commission's web site at
http://www.sec.gov.
This prospectus sets forth the basic information that you should know before
investing. Please keep this prospectus for future reference.
THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN
OFFER TO BUY THE CONTRACTS IN ANY JURISDICTION IN WHICH SUCH MAY NOT BE LAWFULLY
MADE. NO PERSON IS AUTHORIZED TO MAKE ANY REPRESENTATIONS IN CONNECTION WITH
THIS OFFERING OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS.
THE SECURITIES AND EXCHANGE COMMISSION HAS NOT APPROVED OR DISAPPROVED THESE
SECURITIES OR PASSED UPON THE ACCURACY OF THIS PROSPECTUS, AND ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
May 1, 2000
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CONTENTS
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Definitions................................................. iii
Synopsis.................................................... 1
Fee Tables................................................ 1
The Contracts............................................. 5
The Accounts.............................................. 6
Charges................................................... 7
Credit And Allocation of Purchase Payments................ 7
Redemption................................................ 7
Transfers................................................. 7
Payment Options........................................... 8
Voting Rights............................................. 8
Death Benefit............................................. 8
Distribution of the Contracts............................. 8
Financial Information..................................... 8
AUSA........................................................ 11
Diversified Investors Variable Funds........................ 11
Calvert Series............................................ 11
Diversified Investors Portfolios.......................... 12
Diversified Investors Strategic Variable Funds.............. 14
Management................................................ 15
Investment Restrictions................................... 16
Charges..................................................... 16
Charges For Mortality And Expense Risks................... 16
Annual Contract Charge.................................... 16
Investment Management Fees................................ 17
Premium Tax............................................... 17
Summary of the Contracts.................................... 18
Eligible Purchasers....................................... 18
Ownership................................................. 18
Purchase Payments......................................... 18
Employer Sponsored Plan Requirements...................... 18
Rights of the Participant Under The Contract.............. 19
Rights Upon Suspension of Contract or Termination of
Plan................................................... 19
Failure of Qualification.................................. 19
Transfers................................................. 20
Rights Reserved By AUSA..................................... 20
Credit of Purchase Payments................................. 21
Allocation of Purchase Payments........................... 21
Determination of Unit Value............................... 21
Death Benefit............................................... 22
Redemption During The Accumulation Period................... 23
Restrictions Under The Texas Optional Retirement Program.... 23
Payment Options............................................. 23
Annuity Purchase Date..................................... 24
Fixed Annuity............................................. 24
Fixed Annuity Options..................................... 24
Payments To A Beneficiary Following the Annuitant's
Death.................................................. 25
Voting Rights............................................... 26
Distribution of The Contracts............................... 28
</TABLE>
<PAGE> 6
-ii-
<TABLE>
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PAGE
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<S> <C>
Federal Tax Status.......................................... 28
Tax Treatment of AUSA..................................... 28
Taxation of Diversified Investors Portfolios.............. 29
Section 403(b) Annuities.................................. 29
Restrictions On Withdrawals Of Elective
Contributions......................................... 30
Section 401(a) Plans...................................... 30
Section 408(IRA) Contracts................................ 31
Minimum Distribution Requirements......................... 31
Section 457 Plans......................................... 31
Non-Qualified Deferred Compensation Contracts............. 32
Income Tax Withholding.................................... 32
Assumption Reinsurance...................................... 32
Performance Data............................................ 33
Diversified Investors Portfolios............................ 36
Principal Investment Strategies........................... 36
Money Market Portfolio.................................... 37
Bond Portfolios........................................... 38
Balanced Portfolio........................................ 40
Stock Portfolios.......................................... 41
Additional Investment Policies............................ 43
Core/Feeder Structure..................................... 44
Risk Considerations....................................... 44
Management of Diversified Investors Portfolios.............. 48
Board of Trustees......................................... 48
Investment Adviser........................................ 48
Advisory Fees............................................. 51
Administrator............................................. 52
Distribution Arrangements................................. 52
Custodian and Dividend Disbursing Agent................... 52
Expenses.................................................. 52
Other Information Regarding Diversified Investors
Portfolios................................................ 52
Portfolio Business Day.................................... 52
Purchase and Redemption of Interests in Diversified
Investors Portfolios................................... 52
Net Asset Value........................................... 53
Taxation of Diversified Investors Portfolios.............. 53
Description of Beneficial Interests, Voting Rights and
Liabilities............................................ 54
Independent Accountants..................................... 55
Legal Proceedings........................................... 55
Statutory Basis Financial Statements........................ 55
Additional Information...................................... 55
Miscellaneous............................................... 55
Table of Contents of Statement of Additional Information.... 56
Request Form for Statement of Additional Information........ 57
Appendix A -- Strategic Variable Funds Subaccounts.......... Appendix A
Appendix B -- Applicable Premium Tax Rates.................. Appendix B
</TABLE>
<PAGE> 7
-iii-
DEFINITIONS
As used in this Prospectus, the following terms have the meanings indicated:
ACCUMULATION ACCOUNT: an account maintained for each Participant in which is
recorded the number of Units held for his/her credit.
ACCUMULATION PERIOD: the accumulation period for each Participant is the period
during which Purchase Payments may be made on his/her behalf. It begins when the
Participant begins participation under the Plan and ends as of his/her Annuity
Purchase Date (see "Annuity Purchase Date" on page 24), or earlier termination
of his/her Accumulation Account.
AGGRESSIVE EQUITY PORTFOLIO: Diversified Investors Aggressive Equity Portfolio,
a series of Diversified Investors Portfolios.
BALANCED PORTFOLIO: Diversified Investors Balanced Portfolio, a series of
Diversified Investors Portfolios.
CALVERT SERIES: the Calvert Social Balanced Portfolio, a series of Calvert
Variable Series, Inc., an open-end management investment company registered
under the Investment Company Act of 1940, as amended.
CONTRACTHOLDER: a state educational organization or certain tax-exempt
organization employer or employer association for affiliated employers, taxed
subsidiaries of tax-exempt organizations and taxed stand-alone organizations.
CONTRACTS: the group variable annuity contracts offered by AUSA to
Contractholders, IRA Contractholders or NQDC Contractholders as described in
this Prospectus.
CORE BOND PORTFOLIO: Diversified Investors Core Bond Portfolio, a series of
Diversified Investors Portfolios.
CONTRACT YEAR: a period of 12 months measured from the date of the Contract
issued to or adopted by the Contractholder, and anniversaries thereof.
DISC: Diversified Investors Securities Corp., a registered broker-dealer under
the Securities Exchange Act of 1934, as amended, and a wholly-owned subsidiary
of Diversified.
DIVERSIFIED: Diversified Investment Advisors, Inc., a registered investment
adviser under the Investment Advisers Act of 1940, as amended, and an affiliate
of AUSA.
DIVERSIFIED INVESTORS PORTFOLIOS: an open-end diversified management investment
company registered under the Investment Company Act of 1940, as amended.
EQUITY GROWTH PORTFOLIO: Diversified Investors Equity Growth Portfolio, a series
of Diversified Investors Portfolios.
EQUITY VALUE PORTFOLIO: Diversified Investors Equity Value Portfolio, a series
of Diversified Investors Portfolios. Beneficial interests in the Portfolio are
not available for purchase by new investors.
FIXED ANNUITY: an annuity with payments which remain fixed throughout the
payment period and which do not reflect the investment experience of a separate
account.
GROWTH & INCOME PORTFOLIO: Diversified Investors Growth & Income Portfolio, a
series of Diversified Investors Portfolios.
HIGH QUALITY BOND PORTFOLIO: Diversified Investors High Quality Bond Portfolio,
a series of Diversified Investors Portfolios.
HIGH-YIELD BOND PORTFOLIO: Diversified Investors High-Yield Bond Portfolio, a
series of Diversified Investors Portfolios.
INTERMEDIATE GOVERNMENT BOND PORTFOLIO: Diversified Investors Intermediate
Government Bond Portfolio, a series of Diversified Investors Portfolios.
<PAGE> 8
-iv-
INTERNATIONAL EQUITY PORTFOLIO: Diversified Investors International Equity
Portfolio, a series of Diversified Investors Portfolios.
IRA CONTRACTHOLDER: a tax-exempt, or taxed organization or an association of
members who share a common interest.
MONEY MARKET PORTFOLIO: Diversified Investors Money Market Portfolio, a series
of Diversified Investors Portfolios.
NQDC: Non-qualified deferred compensation arrangement available to taxed
organizations only.
PARTICIPANT: an employee participating under a Contract issued to or adopted by
his/her employer or an individual participating under a Contract issued to an
IRA Contractholder.
PLAN: a retirement plan or program under which benefits are to be provided
pursuant to a Contract described herein or by a Participant.
PORTFOLIOS: the series of Diversified Investors Portfolios described herein.
PURCHASE PAYMENT: the amount contributed and remitted to AUSA by an employer on
behalf of a Participant.
SPECIAL EQUITY PORTFOLIO: Diversified Investors Special Equity Portfolio, a
series of Diversified Investors Portfolios.
STRATEGIC MANAGING BOARD: The Managing Board of the Strategic Variable Funds
Account.
STRATEGIC VARIABLE FUNDS ACCOUNT: a segregated investment account of AUSA which
has been designated Diversified Investors Strategic Variable Funds and to which
Purchase Payments may be allocated.
STRATEGIC VARIABLE FUNDS SUBACCOUNTS: those Subaccounts of the Strategic
Variable Funds Account that are made available under the Contracts.
UNIT: the measure by which the value of an investor's interest in each
Subaccount is determined.
VALUATION DATE: each day that the New York Stock Exchange is open for trading.
VALUATION PERIOD: The period between the ending of two successive Valuation
Dates.
VALUE & INCOME PORTFOLIO: Diversified Investors Value & Income Portfolio, a
series of Diversified Investors Portfolios.
VARIABLE FUNDS ACCOUNT: a segregated investment account of AUSA which has been
designated Diversified Investors Variable Funds and to which Purchase Payments
may be allocated.
VARIABLE FUNDS BOND SUBACCOUNTS: The High Quality Bond, Intermediate Government
Bond, Core Bond and High-Yield Bond Subaccounts of the Variable Funds Account,
each of which invests in a corresponding series of Diversified Investors
Portfolios.
VARIABLE FUNDS MONEY MARKET SUBACCOUNT: The Money Market Subaccount of the
Variable Funds Account, which invests in the Money Market series of Diversified
Investors Portfolios.
VARIABLE FUNDS STOCK SUBACCOUNTS: The Equity Value, Value & Income, Growth &
Income, Equity Growth, Special Equity, Aggressive Equity and International
Equity Subaccounts of the Variable Funds Account, each of which invests in a
corresponding series of Diversified Investors Portfolios.
VARIABLE FUNDS SUBACCOUNTS: those Subaccounts of the Variable Funds Account that
are made available under the Contracts.
<PAGE> 9
SYNOPSIS
FEE TABLES
These tables describe the various costs and expenses that you will pay, directly
or indirectly, if you invest in the Variable Funds Account or the Strategic
Variable Funds Account.
Your investment in each subaccount of the Variable Funds Account will bear its
pro rata share of Mortality and Risk Expense Fees equal to 1.10% of the average
account value of that subaccount. Your investment also will bear, indirectly,
its pro rata share of the fees and expenses of the underlying Portfolios (or the
Calvert Series) in which the subaccounts invest.
Your investment in each subaccount of the Strategic Variable Funds Account will
bear its pro rata share of a Management Fee equal to .20% of average daily net
assets of that subaccount. Your investment also will bear, indirectly, its pro
rata share of the Mortality and Risk Expense Fees charged at the Variable Funds
Subaccount level and of the fees and expenses of the underlying Portfolios (or
the Calvert Series) in which the Variable Funds Subaccounts invest.
DIVERSIFIED INVESTORS VARIABLE FUNDS
<TABLE>
<S> <C>
TOTAL SEPARATE ACCOUNT ANNUAL EXPENSES
(AS A PERCENTAGE OF AVERAGE ACCOUNT VALUE)
Annual Contract Fee......................................... None(1)
Mortality and Expense Risk Fees............................. 1.10%(2)
</TABLE>
- ------------------
(1) AUSA reserves the right to deduct an annual contract charge from a
Participant's Accumulation Account not to exceed $50. See "Charges -- Annual
Contract Charge" at page 16.
(2) AUSA reserves the right to charge maximum mortality and expense risk fees of
up to 1.25% upon notice. For the Variable Fund Subaccounts investing in the
Money Market Portfolio and the Equity Growth Portfolio, AUSA reimbursed
expenses of 0.18% and 0.14%, respectively, in 1999.
This table shows the annual expenses (after waivers and reimbursements) for each
Portfolio and the Calvert Series. Your investment in each Variable Funds
subaccount will bear its pro rata share of the fees and expenses of the
Portfolio or Calvert Series in which it invests.
DIVERSIFIED INVESTORS PORTFOLIOS
AND
CALVERT SERIES
1999 ANNUAL EXPENSES
(AS A PERCENTAGE OF AVERAGE NET ASSETS)
<TABLE>
<CAPTION>
HIGH INTERMEDIATE
MONEY QUALITY GOVERNMENT CORE HIGH-YIELD VALUE &
MARKET BOND BOND BOND BOND BALANCED INCOME
PORTFOLIO PORTFOLIO PORTFOLIO PORTFOLIO(2) PORTFOLIO PORTFOLIO PORTFOLIO(3)
--------- --------- ------------ ------------ ---------- --------- ------------
<S> <C> <C> <C> <C> <C> <C> <C>
Management Fees (after
waivers/reimbursements)(1)... 0.25% 0.35% 0.35% 0.35% 0.52% 0.45% 0.45%
Other Expenses................ 0.03% 0.03% 0.04% 0.02% 0.08% 0.05% 0.02%
----- ---- ---- ---- ---- ---- ----
TOTAL ANNUAL EXPENSES (AFTER
WAIVERS/REIMBURSEMENTS)(1)... 0.28% 0.38% 0.39% 0.37% 0.60% 0.50% 0.47%
</TABLE>
<PAGE> 10
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<TABLE>
<CAPTION>
EQUITY GROWTH & EQUITY SPECIAL AGGRESSIVE INTERNATIONAL
VALUE INCOME GROWTH EQUITY EQUITY CALVERT EQUITY
PORTFOLIO PORTFOLIO PORTFOLIO PORTFOLIO PORTFOLIO SERIES PORTFOLIO
--------- --------- --------- --------- ---------- ------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
Management Fees (after
waivers/reimbursements)(1)......... 0.56% 0.60% 0.62% 0.80% 0.87% 0.70% 0.75%
Other Expenses....................... 0.04% 0.02% 0.02% 0.04% 0.13% 0.16% 0.11%
---- ---- ----- ---- ---- ---- ----
TOTAL ANNUAL EXPENSES (AFTER
WAIVERS/REIMBURSEMENTS)(1)......... 0.60% 0.62% 0.64% 0.84% 1.00% 0.86% 0.86%
</TABLE>
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(1) Without waivers and reimbursements, management fees and total annual
expenses would be 0.25% and 0.28% for the Money Market Portfolio, 0.35% and
0.38% for the High Quality Bond Portfolio, 0.35% and 0.39% for the
Intermediate Government Bond Portfolio, 0.35% and 0.37% for the Core Bond
Portfolio, 0.55% and 0.61% for the High-Yield Bond Portfolio, 0.45% and
0.52% for the Balanced Portfolio, 0.45% and 0.47% for the Value & Income
Portfolio, 0.57% and 0.60% for the Equity Value Portfolio, 0.60% and 0.62%
for the Growth & Income Portfolio, 0.62% and 0.64% for the Equity Growth
Portfolio, 0.80% and 0.84% for the Special Equity Portfolio, 0.97% and 1.01%
for the Aggressive Equity Portfolio, 0.70% and 0.86% for the Calvert Series,
and 0.75% and 0.86% for the International Equity Portfolio.
(2) Prior to August 17, 1999, Core Bond Portfolio was named Diversified
Investors Government/Corporate Bond Fund.
(3) Prior to April 5, 2000, Value & Income Portfolio was named Diversified
Investors Equity Income Portfolio.
DIVERSIFIED INVESTORS STRATEGIC VARIABLE FUNDS
<TABLE>
<S> <C>
Annual Contract Fee......................................... None(1)
ANNUAL EXPENSES (AS A PERCENTAGE OF AVERAGE NET ASSETS)
Management Fees............................................. 0.20%(2)
Mortality and Expense Risk Fees............................. 1.10%(3)
Other Expenses.............................................. None
TOTAL ANNUAL EXPENSES....................................... 1.30%(3)
</TABLE>
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(1) AUSA reserves the right to deduct an annual contract charge from a
Participant's Accumulation Account not to exceed $50. See "Charges -- Annual
Contract Charge" at page 16.
(2) These fees are charged directly to the Strategic Variable Funds Subaccounts.
Each Strategic Variable Funds Subaccount will also bear, indirectly, its pro
rata share of the expenses of the Portfolios in which it invests through the
various Variable Funds Subaccounts. See below for a table showing the
expenses (after waivers and reimbursements) for the Portfolios in which the
Variable Funds Subaccounts invest.
(3) AUSA reserves the right to charge maximum mortality and expense risk fees of
up to 1.25% upon notice. These Mortality and Expense Fees are charged to the
underlying Variable Funds Subaccounts. Each Strategic Variable Funds
Subaccount will bear, indirectly, its pro rata share of the mortality and
expense risk fees charged at the Variable Funds Subaccount level.
This table shows the annual expenses (after waivers and reimbursements) for each
Portfolio in which the Strategic Variable Funds Subaccounts will, indirectly,
invest. Your investment in each Strategic Variable Funds Subaccount will bear
its pro rata share of the Portfolios' fees and expenses.
<TABLE>
<CAPTION>
TOTAL ANNUAL
SHORT HORIZON MANAGEMENT FEE PORTFOLIO EXPENSES
STRATEGIC ALLOCATION (AFTER WAIVERS AND OTHER (AFTER WAIVERS AND
VARIABLE FUND REIMBURSEMENTS) EXPENSES REIMBURSEMENTS)(2)
- -------------------- ------------------ -------- ------------------
<S> <C> <C> <C>
Money Market Portfolio(1)........................... 0.25% 0.03% 0.28%
High Quality Bond Portfolio......................... 0.35% 0.03% 0.38%
Intermediate Government Bond Portfolio.............. 0.35% 0.04% 0.39%
Core Bond Portfolio................................. 0.35% 0.02% 0.37%
High-Yield Bond Portfolio........................... 0.52% 0.08% 0.60%
Value & Income Portfolio............................ 0.45% 0.02% 0.47%
Equity Value Portfolio.............................. 0.56% 0.04% 0.60%
Growth & Income Portfolio........................... 0.60% 0.02% 0.62%
</TABLE>
<PAGE> 11
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<TABLE>
<CAPTION>
TOTAL ANNUAL
INTERMEDIATE AND MANAGEMENT FEE PORTFOLIO EXPENSES
INTERMEDIATE/LONG HORIZON STRATEGIC (AFTER WAIVERS AND OTHER (AFTER WAIVERS AND
ALLOCATION VARIABLE FUNDS REIMBURSEMENTS) EXPENSES REIMBURSEMENTS)(2)
- ----------------------------------- ------------------ -------- ------------------
<S> <C> <C> <C>
Money Market Portfolio(1)........................... 0.25% 0.03% 0.28%
High Quality Bond Portfolio......................... 0.35% 0.03% 0.38%
Intermediate Government Bond Portfolio.............. 0.35% 0.04% 0.39%
Core Bond Portfolio................................. 0.35% 0.02% 0.37%
High-Yield Bond Portfolio........................... 0.52% 0.08% 0.60%
Value & Income Portfolio............................ 0.45% 0.02% 0.47%
Equity Value Portfolio.............................. 0.56% 0.04% 0.60%
Growth & Income Portfolio........................... 0.60% 0.02% 0.62%
Equity Growth Portfolio(1).......................... 0.62% 0.02% 0.64%
Special Equity Portfolio............................ 0.80% 0.04% 0.84%
Aggressive Equity Portfolio......................... 0.87% 0.13% 1.00%
International Equity Portfolio...................... 0.74% 0.11% 0.86%
</TABLE>
- ------------------
(1) AUSA has agreed to provide reimbursements to limit total expenses for
Variable Funds Subaccounts investing in the Money Market Portfolio and the
Equity Growth Portfolio to 0.10% and 0.50%, respectively, of average net
assets of the applicable Portfolio, with AUSA reserving the right to raise
the limit upon notice.
(2) Without waivers and reimbursements, total annual portfolio expenses for the
following Portfolios would be as follows: Money Market Portfolio -- .28%;
High Quality Portfolio -- .38%; Intermediate Government Bond
Portfolio -- .39%; Core Bond Portfolio -- .37%; High-Yield Bond
Portfolio -- .61%; Value & Income Portfolio -- .47%; Equity Value
Portfolio -- .60%; Growth & Income Portfolio -- .62%; Equity Growth
Portfolio -- .64%; Special Equity Portfolio -- .84%; Aggressive Equity
Portfolio -- 1.01%; and International Equity Portfolio -- .86%.
The average weighted expense ratio for the Short Horizon Strategic Allocation
Variable Fund is expected to be from 1.43% to 1.50%, for the Intermediate
Horizon Strategic Allocation Variable Fund from 1.57% to 1.70% and for the
Intermediate/Long Horizon Strategic Allocation Variable Fund from 1.63% to
1.76%. The lower end of each range reflects the estimated allocation to the
least expensive combination of underlying Portfolios which would trigger
rebalancing by Diversified. The higher end of each range reflects the estimated
allocation to the most expensive combination of underlying Portfolios which
would trigger rebalancing by Diversified.
A range is provided since the average assets of the Strategic Variable Funds
Subaccounts invested in each of the Variable Funds Subaccounts will fluctuate.
These ranges are based on the permissible range of investments of the Strategic
Variable Funds Subaccounts in the underlying Portfolios. For a list of
permissible ranges, see Appendix A. These expense ratios do not include any fees
charged directly to the Strategic Variable Funds Subaccounts or the Variable
Funds Subaccounts.
<PAGE> 12
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DIVERSIFIED INVESTORS VARIABLE FUNDS
Examples
If you (i)surrender your contract at the end of the applicable time period, (ii)
annuitize at the end of the applicable period or (iii) do not surrender your
contract, you would pay the following expenses on a $1,000 investment. These
examples assume a 5% return each year (the assumption of a 5% return is required
by the SEC for this example and is not a prediction of any subaccount's future
performance). These examples should not be considered a representation of past
or future expenses, and actual expenses may be greater or lesser than those
shown. Premium taxes may also be applicable.
This example is based on fees after waivers and reimbursements as if those
waivers and reimbursements were in effect for the full 10 year period covered by
the example and reflect the imposition of the 1.10% mortality and expense risk
charge presently in effect.
<TABLE>
<CAPTION>
AFTER AFTER AFTER AFTER
SUBACCOUNT 1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ---------- ------ ------- ------- --------
<S> <C> <C> <C> <C>
Money Market......................................... $12 $38 $ 66 $145
High Quality Bond.................................... 15 47 81 177
Intermediate Government Bond......................... 15 47 81 178
Core Bond............................................ 15 46 80 176
High-Yield Bond...................................... 17 54 92 201
Balanced............................................. 16 50 87 190
Value & Income....................................... 16 50 86 187
Equity Value......................................... 17 54 92 201
Growth & Income...................................... 17 54 93 203
Equity Growth........................................ 16 50 87 190
Special Equity....................................... 20 61 105 226
Aggressive Equity.................................... 21 66 113 243
Calvert.............................................. 20 62 106 229
International Equity................................. 20 62 106 229
</TABLE>
This example is based on fees after waivers and reimbursements as if those
waivers and reimbursements were in effect for the full 10 year period covered by
the example and reflects the imposition of the maximum mortality and expense
risk charge of 1.25% which may be imposed by AUSA.
<TABLE>
<CAPTION>
AFTER AFTER AFTER AFTER
SUBACCOUNT 1 YEAR 3 YEARS 5 YEARS 10 YEARS
---------- ------ ------- ------- --------
<S> <C> <C> <C> <C>
Money Market......................................... $14 $43 $ 74 $162
High Quality Bond.................................... 17 51 89 193
Intermediate Government Bond......................... 17 52 89 194
Core Bond............................................ 16 51 88 192
High-Yield Bond...................................... 19 58 100 217
Balanced............................................. 18 55 95 206
Value & Income....................................... 17 54 93 203
Equity Value......................................... 19 58 100 217
Growth & Income...................................... 19 59 101 219
Equity Growth........................................ 18 55 95 206
Special Equity....................................... 21 65 112 242
Aggressive Equity.................................... 23 70 120 258
Calvert.............................................. 21 66 113 244
International Equity................................. 21 66 113 244
</TABLE>
DIVERSIFIED INVESTORS STRATEGIC VARIABLE FUNDS
Examples(1)
If you (i) surrender your contract at the end of the applicable time period,
(ii) annuitize at the end of the applicable time period or (iii) do not
surrender your contract, you would pay, using the midpoint
<PAGE> 13
-5-
ratios of 1.45, 1.64 and 1.70, respectively, of the ranges set forth above, the
following expenses on a $1,000 investment. These examples assume a 5% return
each year (the assumption of a 5% return is required by the SEC and is not a
prediction of any subaccount's future performance). These examples should not be
considered a representation of past or future expenses, and actual expenses may
be greater or lesser than those shown. Premium taxes may also be applicable.
This example reflects fees charged at the Strategic Variable Funds Account,
Variable Funds Account and Portfolio levels after waivers and reimbursements as
if those waivers and reimbursements were in effect for the full 10 year period
covered by the example and reflect the imposition of the 1.10% mortality and
expense risk charge presently in effect.
<TABLE>
<CAPTION>
AFTER AFTER AFTER AFTER
STRATEGIC ALLOCATION VARIABLE FUND 1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ---------------------------------- ------ ------- ------- --------
<S> <C> <C> <C> <C>
Short Horizon........................................ $15 $46 $79 $174
Intermediate Horizon................................. 17 52 89 194
Intermediate/Long Horizon............................ 17 54 92 201
</TABLE>
This example reflects fees charged at the Strategic Variable Funds Account,
Variable Funds Account and Portfolio levels after waivers and reimbursements as
if those waivers and reimbursements were in effect for the full 10 year period
covered by the example and reflects the imposition of the maximum mortality and
expense risk charge of 1.25% which may be imposed by AUSA.
<TABLE>
<CAPTION>
AFTER AFTER AFTER AFTER
STRATEGIC ALLOCATION VARIABLE FUND 1 YEAR 3 YEARS 5 YEARS 10 YEARS
---------------------------------- ------ ------- ------- --------
<S> <C> <C> <C> <C>
Short Horizon........................................ $16 $50 $87 $190
Intermediate Horizon................................. 18 56 87 211
Intermediate/Long Horizon............................ 19 58 100 217
</TABLE>
THE CONTRACTS
The Group Variable Annuity Contracts (the "Contracts") described in this
Prospectus are designed and offered as funding vehicles for retirement Plans
maintained by state educational organizations, certain tax-exempt organizations,
and IRA Contractholders and for taxed organizations in the case of the Section
401(a) and/or Section 401(k) Contracts and corporate nonqualified deferred
compensation Contracts ("NQDC"). The Section 401(k) Contract will fund the
benefits for tax-qualified pension and profit-sharing plans from
employee/employer contributions of such organizations. The Section 403(b)
Contract will purchase tax-deferred annuities for employees of these same
organizations. The Section 457 Contract will provide deferred compensation
eligible for deferred tax treatment. The Section 401(a) Contract will fund
benefits for tax-qualified pension and profit-sharing Plans of such tax-exempt
organizations as well as taxed subsidiaries of these organizations and
stand-alone taxed organizations; the NQDC Contracts will fund benefits for taxed
organizations. The Section 408 (Individual Retirement Account ("IRA")) Contract
is a Group Variable Annuity Contract which will provide for on-going or rollover
contributions from individuals who are eligible under Section 408 to make such
contributions. Section references are to the Internal Revenue Code of 1986, as
amended (the "Code").
Insofar as possible, the provisions of the Contracts are identical, and the
information provided in this Prospectus is generally applicable to all
Contracts. However, whenever statutory or administrative considerations require
significant differences among the Contracts, such differences are explained
separately for each.
With respect to the Section 401(a), Section 401(k) and NQDC Contracts, the
employer and/or the employee will make contributions pursuant to the terms and
conditions of the underlying retirement Plan. As to the Section 403(b) and
Section 457 Contracts, the employer will make Purchase Payments for each
participating employee pursuant to either a salary reduction agreement or an
agreement to forego a salary increase under which the employee decides the level
and number of Purchase Payments to his/her Accumulation Account, except with
respect to employer-sponsored Section 401(a) Plans under which the employer will
make contributions pursuant to the underlying retirement Plan. In the case of
<PAGE> 14
-6-
the Section 408 IRA Contract, Purchase Payments will be made by the employer on
behalf of and as determined by each participating employee pursuant to a salary
reduction agreement or by the Participant.
THE ACCOUNTS
Purchase Payments under the Contracts are allocated to one of two segregated
investment accounts of AUSA Life Insurance Company, Inc., which have been
designated the Diversified Investors Variable Funds (the "Variable Funds
Account") and the Diversified Investors Strategic Variable Funds (the "Strategic
Variable Funds Account", and, together with the Variable Funds Account, the
"Accounts").
The Variable Funds Account
The Variable Funds Account is divided into fourteen Subaccounts (the "Variable
Funds Subaccounts"), thirteen of which correspond to Diversified Investors
Portfolios' Money Market, High Quality Bond, Intermediate Government Bond, Core
Bond, High-Yield Bond, Balanced, Value & Income, Equity Value, Growth & Income,
Equity Growth, Special Equity, Aggressive Equity and International Equity
Portfolios, respectively. The Calvert Series Subaccount invests in the Calvert
Series. The assets in each Variable Funds Subaccount are invested in the
corresponding series of Diversified Investors Portfolios or the Calvert Series
at their net asset value. See "Diversified Investors Portfolios" at page 12 and
"Calvert Series" at page 11.
Diversified Investors Portfolios is an open-ended, diversified management
investment company which has thirteen series with differing investment
objectives available under the Contracts. Each series of Diversified Investors
Portfolios is managed by Diversified, an affiliate of AUSA. DISC, a wholly-owned
subsidiary of Diversified, is the principal underwriter and distributor.
The Calvert Series is a series of Calvert Variable Series, Inc., an open-end
management investment company whose investment adviser is Calvert Asset
Management Company, Inc. The Calvert Series in an actively managed portfolio of
common and preferred stocks, bonds, and money market instruments which offer
income and capital growth opportunity and which satisfy the social concern
criteria established by the Calvert Series. A copy of the Calvert Series
Prospectus appears at the end of this Prospectus.
The value of a Participant's Accumulation Account maintained in a Variable Funds
Subaccount will vary based upon the investment experience of the corresponding
Portfolio or Calvert Series to which Purchase Payments are allocated.
The Strategic Variable Funds Account
The Strategic Variable Funds Account is divided into three Subaccounts (the
"Strategic Variable Funds Subaccounts"), the Diversified Investors Short Horizon
Strategic Allocation Variable Fund, the Diversified Investors Intermediate
Horizon Strategic Allocation Variable Fund and the Diversified Investors
Intermediate/Long Horizon Strategic Allocation Variable Fund.
Diversified is the investment adviser to each Strategic Variable Funds
Subaccount and seeks to achieve the investment objective of each Strategic
Variable Funds Subaccount by investing in a diversified portfolio of units
issued by the Variable Funds Subaccounts. There are currently twelve Variable
Funds Subaccounts with varying investment objectives available for investment by
the Strategic Variable Funds Subaccounts; the Balanced Subaccount and the
Calvert Series Subaccount are not available to the Strategic Variable Funds
Subaccounts. See "Diversified Investors Strategic Variable Funds" at page 14. As
noted above, the assets in each Variable Funds Subaccount are invested in a
corresponding series of Diversified Investors Portfolios. See "Diversified
Investors Portfolios" at page 12.
The value of a Participant's Accumulation Account maintained in a Strategic
Variable Funds Subaccount will vary based upon the investment experience of the
various Variable Funds Subaccounts and their corresponding Portfolios to which
Purchase Payments are allocated.
<PAGE> 15
-7-
CHARGES
AUSA makes daily charges against the net assets of the Variable Funds
Subaccounts at a maximum annual rate of 1.25%, consisting of .80% for mortality
risks and .45% for administrative expense risks. The annual rate charged is
1.10% consisting of .70% for mortality risks and .40% for administrative expense
risk. However, AUSA reserves the right to charge a maximum fee of 1.25% upon
notice thereof. See "Charges -- Charges for Mortality and Expense Risks" on page
16.
Diversified, as investment adviser to each Strategic Variable Funds Subaccount,
imposes a charge against the net assets of each Strategic Variable Funds
Subaccount, computed daily, at an annual rate of .20% for investment advisory
and other services.
In addition, AUSA reserves the right to deduct an annual contract charge not to
exceed $50 from a Participant's Accumulation Account. See "Charges -- Annual
Contract Charge" on page 16.
In addition to the charges set forth above, Diversified, which serves as
investment adviser to each Portfolio, and Calvert Asset Management Company,
Inc., which serves as investment adviser to the Calvert Series, impose a charge
against the net asset value of each Portfolio or the Calvert Series, as
appropriate, computed daily, for investment advisory services and other
expenses. See "Charges -- Investment Management Fee" on page 17.
Premium taxes may be payable on annuity considerations. See "Charges -- Premium
Tax" on page 17.
CREDIT AND ALLOCATION OF PURCHASE PAYMENTS
Each Participant must direct Purchase Payments to the Variable Funds Account or
the Strategic Variable Funds Account, or a combination of the two. Each
Participant must also designate Subaccounts within each Account to which
Purchase Payments will be directed. Purchase Payments will be credited to the
Subaccounts designated by the Participant in the form of Units. The number of
Units credited will not change but the dollar value of a Unit will vary
depending upon the investment experience of the underlying Portfolio or the
Calvert Series, as appropriate, and, in the case of the Strategic Variable Funds
Subaccounts, the investment experience of the Variable Funds Subaccounts in
which the Strategic Variable Funds Subaccounts invest. See "Credit of Purchase
Payments" on page 21.
REDEMPTION
A Participant may redeem at any time prior to the time an annuity benefit takes
effect and prior to his/her death all or a portion of the Units credited to
his/her Accumulation Account without any charge, subject to any limitations in
the underlying Plan. There are no redemption charges. See "Restrictions Under
the Texas Optional Retirement Program" on page 23 for withdrawal restrictions
applicable to Contracts issued under the Texas Optional Retirement Program.
A penalty tax may be payable under the Code upon the redemption of amounts from
an Accumulation Account under a Contract and other significant withdrawal
restrictions may be imposed by the Code. See "Federal Tax Status" on page 28.
TRANSFERS
A Participant may transfer Units back and forth between the Variable Funds
Account and the Strategic Variable Funds Account. A participant also may
transfer Units among the various Variable Funds Subaccounts and among the
various Strategic Variable Funds Subaccounts. In any case, no transfer charges
are imposed, and there is no limit to the number of transfers. AUSA may impose
transfer charges at a later date. Transfers may be made in writing or by
telephone by calling (800) 926-0044. See "Transfers" on page 20. AUSA reserves
the right to discontinue allowing telephone transfers.
<PAGE> 16
-8-
PAYMENT OPTIONS
Unless a Fixed Annuity is elected, a Participant will receive a lump sum payment
at the end of the Accumulation Period. The Contracts may provide for several
Fixed Annuity options: Life Annuity, Life Annuity With Period Certain, Specified
Fixed Period Annuity, Contingent Annuity and Contingent Annuity With Period
Certain. For NQDC, an installment payment option may also be available. See
"Payment Options" on page 23.
VOTING RIGHTS
To the extent required by law, AUSA will vote the interests in the Portfolios
and the Calvert Series held in the Variable Funds Subaccounts in accordance with
the instructions received from Contractholders, IRA Contractholders and NQDC
Contractholders. Similarly, to the extent required by law, AUSA will vote the
interests in the Variable Funds Subaccounts held in the Strategic Variable Funds
Subaccounts in accordance with the instructions received from Contractholders,
IRA Contractholders and NQDC Contractholders. In each case, the Contractholders
will instruct AUSA in accordance with the instructions received from
Participants. See "Voting Rights" on page 26.
DEATH BENEFIT
If a Participant dies before the Annuity Purchase Date, the Accumulation Account
value will be paid to his/her beneficiary in a lump sum. See "Death Benefit" on
page 22.
DISTRIBUTION OF THE CONTRACTS
DISC will be the principal underwriter and distributor of the Contracts which
will be sold by registered representatives who are also licensed insurance
agents of AUSA. The Contracts may also be sold through registered
representatives of other broker-dealers authorized by DISC and applicable law
who may be insurance agents licensed by an insurance company other than AUSA.
See "Distribution of the Contracts" on page 28.
FINANCIAL INFORMATION
These tables contain financial information about the Accounts and are included
in the Accounts' Annual Reports. The tables have been audited by
PricewaterhouseCoopers LLP, independent accountants. Their reports on the
financial statements and condensed financial information are included in the
Annual Reports. The financial statements and condensed financial information are
incorporated by reference into the Statement of Additional Information. Copies
of the Annual Reports may be obtained without charge by calling (800)-926-0044.
CONDENSED FINANCIAL INFORMATION
DIVERSIFIED INVESTORS VARIABLE FUNDS
ACCUMULATION UNIT VALUES
<TABLE>
<CAPTION>
UNIT VALUE
---------------------------------------------------------------------------------------------
DEC. 31, 1999 DEC. 31, 1998 DEC. 31, 1997 DEC. 31, 1996 DEC. 31, 1995 DEC. 31, 1994
------------- ------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Money Market(a)......... $17.18 $16.45 $15.71 $15.01 $14.35 $13.65
High Quality Bond (b)... $11.72 $11.45 $10.83 $10.34 $10.00 --
Intermediate Government
Bond(a)............... $16.18 $16.06 $15.13 $14.21 $13.84 $12.24
Core Bond(a)............ $22.75 $23.16 $21.67 $20.10 $19.63 $16.70
High-Yield Bond(b)...... $12.00 $12.04 $11.84 $10.58 $10.00 --
Balanced(a)............. $35.90 $32.46 $29.12 $24.62 $21.25 $16.66
Value & Income(a)....... $40.87 $38.07 $33.98 $26.38 $22.48 $16.86
<CAPTION>
UNIT VALUE
-------------
AUG. 18, 1994
-------------
<S> <C>
Money Market(a)......... $13.44
High Quality Bond (b)... --
Intermediate Government
Bond(a)............... $12.33
Core Bond(a)............ $16.76
High-Yield Bond(b)...... --
Balanced(a)............. $16.85
Value & Income(a)....... $17.21
</TABLE>
<PAGE> 17
-9-
<TABLE>
<CAPTION>
UNIT VALUE
---------------------------------------------------------------------------------------------
DEC. 31, 1999 DEC. 31, 1998 DEC. 31, 1997 DEC. 31, 1996 DEC. 31, 1995 DEC. 31, 1994
------------- ------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Equity Value(c)......... $14.11 $14.62 $13.24 $10.95 $10.00 --
Growth & Income(d)...... $37.40 $28.83 $21.50 $16.09 $13.29 $10.14
Equity Growth(a)........ $70.56 $51.55 $37.98 $30.50 $25.58 $21.65
Special Equity(d)....... $30.04 $24.05 $23.40 $18.64 $14.88 $10.63
Aggressive Equity(c).... $24.36 $14.92 $10.57 $10.01 $10.00 --
Calvert(a).............. $28.73 $25.81 $22.40 $18.83 $16.87 $13.11
International
Equity(e)............. $23.11 $14.15 $12.87 $11.99 $10.53 $ 9.56
<CAPTION>
UNIT VALUE
-------------
AUG. 18, 1994
-------------
<S> <C>
Equity Value(c)......... --
Growth & Income(d)...... $10.31
Equity Growth(a)........ $20.67
Special Equity(d)....... $10.47
Aggressive Equity(c).... --
Calvert(a).............. $13.28
International
Equity(e)............. --
</TABLE>
<TABLE>
<CAPTION>
UNITS OUTSTANDING
---------------------------------------------------------------------------------------------
DEC. 31, 1999 DEC. 31, 1998 DEC. 31, 1997 DEC. 31, 1996 DEC. 31, 1995 DEC. 31, 1994
------------- ------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Money Market(a).............. 2,121,184 1,777,954 1,520,230 1,468,262 1,023,590 587,295
High Quality Bond(b)......... 579,522 393,946 123,847 20,094 -- --
Intermediate Government
Bond(a).................... 1,502,336 1,623,414 1,285,250 1,352,706 1,313,065 580,105
Core Bond.................... 1,710,978 1,572,400 962,769 813,757 638,648 385,881
High-Yield Bond(b)........... 313,883 203,868 47,081 251 -- --
Balanced(a).................. 3,878,298 4,184,725 4,125,273 3,889,984 3,011,719 1,750,876
Value & Income(a)............ 8,782,906 9,744,341 10,309,097 9,797,859 8,469,952 6,344,534
Equity Value(c).............. 1,261,139 923,179 457,127 18,336 -- --
Growth & Income(d)........... 6,072,770 5,222,023 2,817,842 1,341,567 388,800 29,489
Equity Growth(a)............. 5,844,016 5,391,952 5,421,544 5,425,267 4,460,273 2,812,266
Special Equity(d)............ 3,599,540 3,820,805 3,308,346 2,403,076 730,748 83,503
Aggressive Equity(c)......... 2,649,773 1,167,284 533,625 81,079 -- --
Calvert(a)................... 1,450,380 1,381,200 1,293,126 1,212,176 1,052,208 575,200
International Equity(e)...... 3,152,866 2,409,233 2,061,367 1,392,586 -- --
</TABLE>
- ------------------
(a) Commencement of Operations on August 18, 1998 at the stated unit value.
(b) Commencement of Operations August 20, 1996 at $10.00 unit value.
(c) Commencement of Operations May 10, 1996 at $10.00 unit value.
(d) Commencement of Operations August 24, 1994 at the stated unit value.
(e) The International Equity Subaccount fully redeemed its shares in the Scudder
Variable Life Fund on October 18, 1996, and invested the proceeds in the
International Equity series of Diversified Investors Portfolios. The unit
value continued after the change in investment options.
<PAGE> 18
-10-
CONDENSED FINANCIAL INFORMATION
DIVERSIFIED INVESTORS STRATEGIC VARIABLE FUNDS
PER ACCUMULATION UNIT INCOME AND CAPITAL CHANGES
SHORT HORIZON STRATEGIC VARIABLE FUNDS SUBACCOUNT
<TABLE>
<CAPTION>
YEAR ENDING YEAR ENDING YEAR ENDING
DEC. 31, 1999 DEC. 31, 1998 DEC. 31, 1997
------------- ------------- -------------
<S> <C> <C> <C>
Investment Income........................................... .13 $ 0.65 $ 0.85
Expenses.................................................... (0.02) $ (0.02) $ (0.02)
Net Investment Income (Loss)................................ (0.02) $ (0.02) $ (0.02)
Net realized and unrealized gains on securities............. 0.15 $ 0.67 $ 0.87
Net increase in accumulation unit value..................... 0.13 $ 0.65 $ 0.85
Accumulation unit value at beginning of period.............. 11.50 $ 10.85 $ 10.00
Accumulation unit value at end of period.................... 11.63 $ 11.50 $ 10.85
Expenses to average net assets.............................. 0.20 0.20% 0.20%
Net investment income to average net assets................. (0.20) (0.20)% (0.20)%
Portfolio turnover rate..................................... 84% 223% 394%
Number of accumulation units outstanding at end of period... 216,926 155,246 69,892
</TABLE>
INTERMEDIATE HORIZON STRATEGIC VARIABLE FUNDS SUBACCOUNT
<TABLE>
<CAPTION>
YEAR ENDING YEAR ENDING YEAR ENDING
DEC. 31, 1999 DEC. 31, 1998 DEC. 31, 1997
------------- ------------- -------------
<S> <C> <C> <C>
Investment Income........................................... 1.67 $ 1.27 $ 1.43
Expenses.................................................... (0.03) $ (0.02) $ (0.02)
Net Investment Income (Loss)................................ (0.03) $ (0.02) $ (0.02)
Net realized and unrealized gains on securities............. 1.70 $ 1.29 $ 1.43
Net increase in accumulation unit value..................... 1.67 $ 1.27 $ 1.41
Accumulation unit value at beginning of period.............. 12.68 $ 11.41 $ 10.00
Accumulation unit value at end of period.................... 14.35 $ 12.68 $ 11.41
Expenses to average net assets.............................. 0.20% 0.20% 0.20%
Net investment income to average net assets................. 0.20% (0.20)% (0.20)%
Portfolio turnover rate..................................... 81 129% 419%
Number of accumulation units outstanding at end of period... 1,111,519 695,501 294,712
</TABLE>
INTERMEDIATE/LONG HORIZON STRATEGIC VARIABLE FUNDS SUBACCOUNT
<TABLE>
<CAPTION>
YEAR ENDING YEAR ENDING YEAR ENDING
DEC. 31, 1999 DEC. 31, 1998 DEC. 31, 1997
------------- ------------- -------------
<S> <C> <C> <C>
Investment Income........................................... 2.51 $ 1.60 $ 1.88
Expenses.................................................... (0.03) $ (0.02) $ (0.02)
Net Investment Income (Loss)................................ (0.03) $ (0.02) $ (0.02)
Net realized and unrealized gains on securities............. 2.54 $ 1.62 $ 1.90
Net increase in accumulation unit value..................... 2.51 $ 1.60 $ 1.88
Accumulation unit value at beginning of period.............. 13.48 $ 11.88 $ 10.00
Accumulation unit value at end of period.................... 15.99 $ 13.48 $ 11.88
Expenses to average net assets.............................. 0.20% 0.20% 0.20%
Net investment income to average net assets................. (0.20)% (0.20)% (0.20)%
Portfolio turnover rate..................................... 72 143% 455%
Number of accumulation units outstanding at end of period... 1,288,011 838,229 355,329
</TABLE>
<PAGE> 19
-11-
AUSA
AUSA Life Insurance Company, Inc. is a stock life insurance company which was
organized under the laws of the State of New York on October 3, 1947. AUSA is an
indirect, wholly-owned subsidiary of AEGON USA, Inc. ("AEGON"), a financial
services holding company whose primary emphasis is life insurance and annuity
and investment products. AEGON is an indirect, wholly-owned subsidiary of AEGON
N.V., a Netherlands corporation which is a publicly traded international
insurance group. AUSA's principal place of business is 4 Manhattanville Road,
Purchase, N.Y. 10577; (800) 926-0044.
DIVERSIFIED INVESTORS VARIABLE FUNDS
Diversified Investors Variable Funds (the "Variable Funds Account") was
established by AUSA under New York Insurance Law on November 30, 1993 as a
separate account. The Variable Funds Account will hold assets that are
segregated from all of AUSA's other assets and at present are used only to
support Contracts for which Purchase Payments have been allocated to the
Variable Funds Account. AUSA is the legal holder of the assets in the Variable
Funds Account and will at all times maintain assets in the Variable Funds
Account with a total market value at least equal to the contract liabilities for
the Variable Funds Account. The obligations under the Contracts are obligations
of AUSA. Income, gains, and losses, whether or not realized, from assets
allocated to the Variable Funds Account, are, in accordance with the Contracts,
credited to or charged against the Variable Funds Account without regard to
other income, gains, or losses of AUSA. The assets in the Variable Funds Account
may not be charged with liabilities which arise from any other business AUSA
conducts. The Variable Funds Account assets may include accumulation of the
charges AUSA makes against a Contract participating in the Variable Funds
Account. From time to time, any such additional assets may be transferred in
cash to AUSA's general account.
The Variable Funds Account is registered with the Securities and Exchange
Commission (the "SEC") under the Investment Company Act of 1940, as amended (the
"1940 Act"), as a unit investment trust, which is a type of investment company.
This does not involve any supervision by the SEC of the management or investment
policies or practices of the Variable Funds Account. For state law purposes, the
Variable Funds Account is treated as a part or division of AUSA.
There are currently fourteen Subaccounts within the Variable Funds Account which
are available for allocation of Purchase Payments under the Contracts. The
Calvert Series Subaccount invests only in the Calvert Social Balanced Portfolio
(the "Calvert Series"), a series of Calvert Variable Series, Inc. ("Calvert,
Inc."), an open-end management investment company registered with the SEC under
the 1940 Act. The thirteen other Variable Funds Subaccounts invest in thirteen
corresponding series of Diversified Investors Portfolios (the "Portfolios"), an
open-end diversified management investment company registered with the SEC under
the 1940 Act. Set forth below is a brief description of the Calvert Series and
the thirteen Portfolios. A full description of the Calvert Series, its
investment objects, policies and restrictions, its expenses, the risks attendant
in investing therein and other aspects of its operations are contained in the
accompanying prospectus for the Calvert Series. Full descriptions of the
thirteen Portfolios, their investment objectives, policies and restrictions,
their expenses, the risks attendant to investing therein and other aspects of
their operations are set forth herein under "Diversified Investors Portfolios"
at page 36. Further disclosure appears in the Statement of Additional
Information. Each Participant should periodically consider his/her allocation
among the Variable Funds Subaccounts in light of current market conditions and
the investment risks attendant to investment in the various Portfolios and the
Calvert Series.
CALVERT SERIES
The Calvert Series is a series of Calvert, Inc., a Maryland corporation
registered with the SEC under the 1940 Act as an open-end management company,
whose investment adviser is Calvert Asset Management Company, Inc. The shares of
Calvert, Inc. are currently sold only to insurance companies for allocation to
their separate accounts to fund the benefits under certain variable annuity and
variable life insurance
<PAGE> 20
-12-
policies issued by such companies. Because the Calvert Series sells its shares
to insurance companies offering both variable annuity and variable life
insurance policies, potential for conflict between the interests of
Contractholders of these contracts may arise. The Board of Directors of Calvert,
Inc. will monitor the Calvert Series for the existence of any material
irreconcilable conflicts between interests of Contractholders of all separate
accounts investing in the Calvert Series. If it is determined by a majority of
the Board of Directors of Calvert, Inc. that such material conflict exists, then
AUSA will take whatever steps are necessary to eliminate the material conflict
including withdrawing the assets allocable to the Calvert Series and reinvesting
them in a different investment medium. For additional risk disclosure, see the
Calvert Series prospectus which follows this Prospectus. The Calvert Series
Subaccount of the Variable Funds Account will purchase and redeem shares from
the Calvert Series at net asset value.
The investment objective of the Calvert Series is set forth in the prospectus
for the Calvert Series which appears at the end of this Prospectus. Briefly, the
objective is to achieve a total return above the rate of inflation through an
actively managed, diversified portfolio of common and preferred stocks, bonds
and money market instruments which offer income and capital growth opportunity
and which satisfy the social concern criteria established for the Calvert
Series. There can be no assurance that the objective of the Calvert Series will
be realized.
DIVERSIFIED INVESTORS PORTFOLIOS
Each of the other thirteen Variable Funds Subaccounts invests exclusively in a
corresponding Portfolio, as set forth below:
<TABLE>
<CAPTION>
VARIABLE FUNDS SUBACCOUNT SERIES OF DIVERSIFIED INVESTORS PORTFOLIOS
- ------------------------- ------------------------------------------
<S> <C>
Diversified Investors Variable Funds Money Market
Subaccount............................................... Diversified Investors Money Market Portfolio (the "Money
Market Portfolio")
Diversified Investors Variable Funds High Quality Bond
Subaccount............................................... Diversified Investors High Quality Bond Portfolio (the
"High Quality Bond Portfolio")
Diversified Investors Variable Funds Intermediate
Government Bond Subaccount............................... Diversified Investors Intermediate Government Bond
Portfolio (the "Intermediate Government Bond Portfolio")
Diversified Investors Variable Funds Core Bond
Subaccount............................................... Diversified Investors Core Bond Portfolio (the "Core Bond
Portfolio")
Diversified Investors Variable Funds High-Yield Bond
Subaccount............................................... Diversified Investors High-Yield Bond Portfolio (the
"High-Yield Bond Portfolio")
Diversified Investors Variable Funds Balanced Subaccount... Diversified Investors Balanced Portfolio (the "Balanced
Portfolio")
Diversified Investors Variable Funds Equity Value
Subaccount............................................... Diversified Investors Equity Value Portfolio (the "Equity
Value Portfolio")
Diversified Investors Variable Funds Value & Income
Subaccount............................................... Diversified Investors Value & Income Portfolio (the "Value
& Income Portfolio")
Diversified Investors Variable Funds Growth & Income
Subaccount............................................... Diversified Investors Growth & Income Portfolio (the
"Growth & Income Portfolio")
Diversified Investors Variable Funds Equity Growth
Subaccount............................................... Diversified Investors Equity Growth Portfolio (the "Equity
Growth Portfolio")
Diversified Investors Variable Funds Special Equity
Subaccount............................................... Diversified Investors Special Equity Portfolio (the
"Special Equity Portfolio")
Diversified Investors Variable Funds Aggressive Equity
Subaccount............................................... Diversified Investors Aggressive Equity Portfolio (the
"Aggressive Equity Portfolio")
Diversified Investors Variable Funds International Equity
Subaccount............................................... Diversified Investors International Equity Portfolio (the
"International Equity Portfolio")
</TABLE>
<PAGE> 21
-13-
Diversified Investors Portfolios is registered with the SEC under the 1940 Act
as an open-end diversified management investment company. This registration does
not involve supervision by the SEC of the management or investment practices or
policies of Diversified Investors Portfolios.
Diversified acts as investment adviser and administrator to each Portfolio.
Diversified has contracted with one or more subadvisers for certain investment
advisory services for each Portfolio. The investment objectives of the
Portfolios currently available under the Contracts through Variable Funds
Subaccounts are described briefly below. There can be no assurance that the
investment objectives of any of the Portfolios will be met.
MONEY MARKET PORTFOLIO: To provide liquidity and as high a level of income as is
consistent with the preservation of capital.
HIGH QUALITY BOND PORTFOLIO: To provide a high risk-adjusted return while
focusing on the preservation of capital.
INTERMEDIATE GOVERNMENT BOND PORTFOLIO: To provide as high a level of current
income as is consistent with the preservation of capital.
CORE BOND PORTFOLIO: To achieve maximum total return.
HIGH-YIELD BOND PORTFOLIO: To provide a high level of current income.
BALANCED PORTFOLIO: To provide a high total investment return through investment
in a broadly diversified portfolio of stocks, bonds and money market
instruments.
VALUE & INCOME PORTFOLIO: To provide a high level of current income through
investment in a diversified portfolio of common stocks with relatively high
current yield. Capital appreciation is a secondary objective.
EQUITY VALUE PORTFOLIO: To provide a high total investment return through
investment primarily in a diversified portfolio of common stocks. Beneficial
interests in the Portfolio are not available for purchase by new investors.
GROWTH & INCOME PORTFOLIO: To provide capital appreciation and current income.
EQUITY GROWTH PORTFOLIO: To provide a high level of capital appreciation through
investment in a diversified portfolio of common stocks with a potential for
above-average growth in earnings. Current income is a secondary objective.
SPECIAL EQUITY PORTFOLIO: To provide a high level of capital appreciation
through investment in a diversified portfolio of common stocks of small to
medium size companies.
AGGRESSIVE EQUITY PORTFOLIO: To provide a high level of capital appreciation
primarily through investing in a diversified portfolio of common stocks.
INTERNATIONAL EQUITY PORTFOLIO: To provide a high level of long-term capital
appreciation primarily through investment in a diversified portfolio of
securities of foreign issuers.
See "Diversified Investors Portfolios" at page 36 and the Statement of
Additional Information for more information on each of the Portfolios described
above.
<PAGE> 22
-14-
DIVERSIFIED INVESTORS STRATEGIC VARIABLE FUNDS
Diversified Investors Strategic Variable Funds (the "Strategic Variable Funds
Account") was established by AUSA under New York Insurance Law on April 15, 1996
as a non-diversified separate account. The Strategic Variable Funds Account will
hold assets that are segregated from all of AUSA's other assets and at present
are used only to support Contracts for which Purchase Payments have been
allocated to the Strategic Variable Funds Account. AUSA is the legal holder of
the assets in the Strategic Variable Funds Account and will at all times
maintain assets in the Strategic Variable Funds Account with a total market
value at least equal to the contract liabilities for the Strategic Variable
Funds Account. The obligations under the Contracts are obligations of AUSA.
Income, gains, and losses, whether or not realized, from assets allocated to the
Strategic Variable Funds Account, are, in accordance with the Contracts,
credited to or charged against the Strategic Variable Funds Account without
regard to other income, gains, or losses of AUSA. The assets in the Strategic
Variable Funds Account may not be charged with liabilities which arise from any
other business AUSA conducts. The Strategic Variable Funds Account assets may
include accumulation of the charges AUSA makes against a Contract participating
in the Strategic Variable Funds Account. From time to time, any such additional
assets may be transferred in cash to AUSA's general account.
The Strategic Variable Funds Account is registered with the SEC under the 1940
Act as a management investment company, which is a type of investment company.
This does not involve any supervision by the SEC of the management or investment
policies or practices of the Strategic Variable Funds Account. For state law
purposes, the Strategic Variable Funds Account is treated as a part or division
of AUSA.
The investment objectives of the Strategic Variable Funds Subaccounts currently
available under the Contracts are described briefly below. There can be no
assurance that the investment objectives of any of the Strategic Variable Funds
Subaccounts will be met. Each of the Strategic Variable Funds Subaccount's
objectives may be changed without the approval of a majority of interest
holders.
SHORT HORIZON STRATEGIC ALLOCATION VARIABLE FUND: To provide a high level of
income and preservation of capital.
INTERMEDIATE HORIZON STRATEGIC ALLOCATION VARIABLE FUND: To provide a high total
investment return.
INTERMEDIATE/LONG HORIZON STRATEGIC ALLOCATION VARIABLE FUND: To provide
long-term growth of capital and growth of income.
As a fundamental policy, each Strategic Variable Funds Subaccount offers a
professionally managed asset allocation investment program by investing in a
combination of the Variable Funds Subaccounts (other than the Balanced, Equity
Value and Calvert Series Subaccounts) described above. These Variable Funds
Subaccounts in turn invest in the Portfolios. Consistent with its investment
objective, each Strategic Variable Funds Subaccount will allocate its assets
among the Variable Funds Subaccounts according to Diversified's outlook for the
economy, financial markets and relative market valuation of the Variable Funds
Subaccounts and the underlying Portfolios. Each Strategic Variable Funds
Subaccount's share price will fluctuate with changing market conditions and the
value of the Variable Funds Subaccounts in which it invests. Purchase Payments
should not be allocated to the Strategic Variable Funds Subaccounts for
short-term financial needs nor used to play short-term swings in the stock or
bond markets. The Strategic Variable Funds Subaccounts cannot guarantee that
they will achieve their objectives.
As noted above, each Variable Funds Subaccount is a subaccount of the Variable
Funds Account. Each Variable Funds Subaccount available under the Strategic
Variable Funds Subaccounts seeks to achieve its investment objective by
investing all of its assets in a corresponding Portfolio. See "Diversified
Investors Variable Funds" above at page 11 and the Statement of Additional
Information for more information on the Variable Funds Subaccounts. See
"Diversified Investors Portfolios" below at page 36 and the Statement of
Additional Information for more information on the Portfolios.
The following chart shows approximately how much of the assets of each Variable
Funds Subaccount are invested in the Variable Funds Money Market, Bond and Stock
Subaccounts. These allocations reflect
<PAGE> 23
-15-
Diversified's present strategy for asset allocation during normal market
conditions, and may be changed at any time without shareholder approval. Under
severe market conditions, Diversified also may allocate the assets of each
Strategic Variable Funds Subaccount without limit to the Variable Funds Money
Market Subaccount. For specific allocations to the underlying Subaccounts, see
Appendix A.
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------
MONEY MARKET BOND STOCK
SUBACCOUNT SUBACCOUNT SUBACCOUNT
- -----------------------------------------------------------------------------------------------
<S> <C> <C> <C>
SHORT HORIZON 10% 80% 10%
- -----------------------------------------------------------------------------------------------
INTERMEDIATE HORIZON None 50% 50%
- -----------------------------------------------------------------------------------------------
INTERMEDIATE/LONG HORIZON None 30% 70%
- -----------------------------------------------------------------------------------------------
</TABLE>
MANAGEMENT
Subject to such policies as the Board of Directors of AUSA may determine and
pursuant to the Investment Advisory Agreement with AUSA with respect to the
Strategic Variable Funds Subaccounts, Diversified Investment Advisers, Inc.
manages the assets of each Strategic Variable Funds Subaccount in accordance
with the investment policies approved by the Board of Directors of AUSA. Subject
to such policies, Diversified provides general investment advice to each
Strategic Variable Funds Subaccount. Diversified is also the investment adviser
of each of the Portfolios and the Diversified Investors Strategic Allocation
Funds. For its services under the Investment Advisory Agreement, Diversified
receives from each Strategic Variable Funds Subaccount fees accrued daily and
paid monthly at an annual rate equal to 0.20% of the average daily net assets.
Investment management decisions are taken by a committee of Diversified's
personnel and not by a particular individual.
Diversified's address is 4 Manhattanville Road, Purchase, New York 10577.
Diversified is an indirect, wholly-owned subsidiary of AEGON USA, Inc.
("AEGON"), a financial services holding company whose primary emphasis is life
and health insurance and annuity and investment products. AEGON is an indirect,
wholly-owned subsidiary of AEGON N.V., a Netherlands corporation which is a
publicly traded international insurance group. Diversified was incorporated in
1992 for the purpose of acting as the investment adviser to the Portfolios.
The management of each Strategic Variable Funds Subaccount's business and
affairs is the responsibility of the Board of Directors of AUSA. The Board of
Directors of AUSA has established a managing board (the "Strategic Managing
Board") and has delegated certain responsibilities for the operation of the
Strategic Variable Funds Subaccounts to the Strategic Managing Board. A majority
of the members of the Strategic Managing Board will be non-interested persons as
defined in Section 2(a)(19) of the 1940 Act. However, the members of the
Strategic Managing Board also serve in similar positions with the Portfolios.
Thus, if the interests of a Strategic Variable Funds Subaccount and the
Portfolios were ever to become divergent, it is possible that a conflict of
interest could arise and affect how these persons fulfill their fiduciary duties
to that Strategic Variable Funds Subaccount and the Portfolios. The Strategic
Managing Board believes they have structured each Strategic Variable Funds
Subaccount to avoid these concerns. However, it is conceivable that a situation
could occur where proper action for a Strategic Variable Funds Subaccount could
be adverse to the interests of a Portfolio, or vice versa. If such a possibility
arises, the Trustees/Directors and Officers of the affected funds and
Diversified will carefully analyze the situation and take all steps they believe
reasonable to minimize and, where possible, eliminate the potential conflict.
Before approving any advisory contract, the Strategic Managing Board, including
a majority of the members who are not "interested persons" as defined in Section
2(a)(19) of the 1940 Act, must find that advisory fees charged under such
contract are based on services provided that are in addition to, rather than
duplicative of, services provided pursuant to any Portfolio advisory contract.
<PAGE> 24
-16-
INVESTMENT RESTRICTIONS
The Statement of Additional Information contains a list of specific investment
restrictions which govern the investment policies of the Strategic Variable
Funds Subaccounts. Under its investment restrictions, each Subaccount may borrow
money in an amount not to exceed 30% of the Subaccount's assets. If a percentage
or rating restriction (other than a restriction as to borrowing) is adhered to
at the time an investment is made, a later change in percentage or rating
resulting from changes in a Subaccount's securities is not a violation of
policy.
CHARGES
Following is a discussion of various charges relating to an investment in either
the Variable Funds Account or the Strategic Variable Funds Account. To the
extent that charges are made against the Variable Funds Subaccounts, a pro rata
share of these charges will ultimately be borne by Strategic Variable Funds
Subaccounts investing in the Variable Funds Subaccounts.
CHARGES FOR MORTALITY AND EXPENSE RISKS
The maximum daily charges against the Variable Funds Subaccounts for mortality
and expense risks assumed by AUSA are computed and deducted from the value of
the net assets of the Variable Funds Subaccounts. The maximum daily charge will
be at the rate of 0.003425% (equivalent to an annual rate of 1.25%) of the
average daily net assets of the Variable Funds Subaccounts. The daily charge
will be deducted from the net asset value of each Variable Funds Subaccount on
each Valuation Date. Where the previous day (or days) was not a Valuation Date,
the maximum deduction on the Valuation Date will be 0.003425% multiplied by the
number of days since the last Valuation Date. The sum of these charges on an
annual basis will not exceed 1.25% of the average net assets invested in the
Variable Funds Subaccounts. Of this charge, AUSA estimates that .80% is for
mortality risk and .45% is for expense risk. The daily charge from the Variable
Funds Subaccounts based on an annual mortality and expense risk rate of 1.10%,
.70% for mortality risks and .40% for administrative expense risks, is
0.0030139%.
The mortality risk is that individuals may live for a longer period of time than
projected and therefore a greater amount of annuity benefits than projected will
be payable. The expense risk is that expenses incurred in issuing and
administering the Contract will exceed the administrative expense charge
provided in the Contract. AUSA believes that this level of charge is within the
range of industry practice for comparable group variable annuity contracts.
Sales distribution expenses and any other expenses in excess of the described
charges will be paid from AUSA's general account and not directly from any
Subaccount or from the mortality and expense risk charges. However, asset
charges for AUSA's assumption of mortality and expense risks might be a source
of contribution to the surplus in AUSA's general account.
ANNUAL CONTRACT CHARGE
AUSA reserves the right to deduct an annual contract charge from a Participant's
Accumulation Account to reimburse AUSA for administrative expenses relating to
the maintenance of the Contracts. AUSA has no present intention to impose such a
charge; however, AUSA may, in the future, impose such a charge in accordance
with the provisions of the Contracts. Any such annual charge will not exceed
$50. AUSA also reserves the right, if such a charge is imposed, to waive, on a
temporary or permanent basis, all or part of such charge for certain classes of
Contracts or for certain new classes of Contracts which may be sold in the
future where circumstances exist that result in differences in AUSA's costs or
in the services required from AUSA. For example, waivers may be granted for
Contractholders with large numbers of participants with large account balances
or for Contractholders which assume certain administrative expenses which AUSA
would otherwise bear. If imposed, this charge would represent reimbursement for
administrative costs expected to be incurred over the life of the Contracts.
AUSA does not anticipate any profit from this charge.
<PAGE> 25
-17-
INVESTMENT MANAGEMENT FEES
The Variable Funds Subaccounts
Because the Variable Funds Subaccounts purchase interests in the Portfolios and
the Calvert Series, the net assets of the Variable Funds Subaccounts will
reflect the investment management fee and other expenses incurred by the
Portfolios and the Calvert Series, as applicable.
Diversified serves as the investment adviser to each Portfolio. For information
with respect to the arrangements under which Diversified provides such advisory
services, including charges and arrangements with subadvisers, see "Management
of Diversified Investors Portfolios" at page 48.
Calvert Asset Management Company, Inc. ("CAMCO") (4550 Montgomery Avenue, Suite
1000N, Bethesda, Maryland 20814) is the investment adviser to the Calvert Series
and provides day-to-day investment management services to the Calvert Series. It
has been managing mutual funds since 1976. CAMCO is the investment adviser for
over 25 mutual funds, including the first and largest family of socially
screened funds. As of December 31, 1999, CAMCO had $6.5 billion in assets under
management.
CAMCO uses a team approach to its management of the Calvert Series. Reno J.
Martini, Senior Vice President and Chief Investment Officer, heads this team and
oversees the management of all Calvert Funds for CAMCO. Mr. Martini has over 15
years of experience in the investment industry and has been the head of CAMCO's
asset management team since 1985.
NCM Capital Management Group, Inc., 103 West Main Street, Durham, North Carolina
27701, has managed part of the equity investments of the Calvert Series since
1995. NCM is one of the largest minority-owned investment management firms in
the country and provides products in equity fixed income and balanced portfolio
management. It is also one of the industry leaders in the employment and
training of minority and women investment professionals.
NCM's portfolio management team consists of several members, headed by Maceo K.
Sloan. Mr. Sloan has more than 10 years of experience in the investment
industry, and is a frequent panelist on Wall Street Week with Louis Rukeyser.
Calvert, Inc. has obtained an exemptive order from the Securities and Exchange
Commission to permit the Calvert Series, pursuant to approval by the Board of
Directors, to enter into and materially amend contracts with subadvisers without
shareholder approval.
The Strategic Variable Funds Subaccounts
For its services as investment adviser to the Strategic Variable Funds
Subaccounts, Diversified receives fees, accrued daily and paid monthly, at an
annual rate equal to 0.20% of the average daily net assets of each Strategic
Variable Funds Subaccount.
Because the Strategic Variable Funds Subaccounts purchase interests in the
Variable Funds Subaccounts, which, in turn, purchase interests in the
Portfolios, the net assets of the Strategic Variable Funds Subaccounts will
reflect the investment management fee and other expenses incurred by the
Portfolios. Diversified serves as the investment adviser to each Portfolio. For
information with respect to the arrangements under which Diversified provides
such advisory services, including charges and arrangements with subadvisers, see
"Management of Diversified Investors Portfolios" at page 48.
PREMIUM TAX
Under the laws of certain jurisdictions, premium taxes are payable on annuity
considerations which can include Purchase Payments or the Accumulation Account
under the Contracts. Any applicable premium taxes will generally be deducted
when the Accumulation Account under a Contract is applied to purchase an
annuity. Under present laws, the range of premium taxes is from .5% to 3.5%.
Attached as Appendix B is a schedule of applicable premium taxes payable upon
annuitization which are in effect as of the date of this Prospectus. The laws of
the various jurisdictions relating to annuity taxes and the
<PAGE> 26
-18-
interpretations of such laws are subject to changes which may affect the
deductions, if any, under the Contracts for such taxes.
SUMMARY OF THE CONTRACTS
ELIGIBLE PURCHASERS
State educational organizations and organizations that qualify for tax-exempt
status under Code Section 501(c)(3), including associations thereof that qualify
for tax-exempt status under Code Section 501(c)(3), are eligible purchasers. In
addition, any organization qualifying as an IRA Contractholder may purchase or
hold an IRA Contract. Any type of non-profit organization as well as taxed
subsidiaries of tax-exempt organizations and taxed stand-alone organizations may
purchase a Section 401(a) and/or a Section 401(k) or an NQDC Contract.
OWNERSHIP
The organization purchasing or holding a Contract is the owner of the Contract
for the benefit of the Participants. The Contract will cover all eligible
Participants under a Plan. Each Participant will receive a certificate at the
time his/her first annuity payment becomes payable, or earlier, if required by
applicable law. The certificate summarizes the Participant's benefits under the
Contract.
PURCHASE PAYMENTS
With respect to the Section 401(a) Contract, the employer and/or employee will
make contributions pursuant to the underlying retirement Plan. The Section
401(k) and NQDC Contracts will accept employer and/or employee contributions
pursuant to the terms and conditions of the underlying Plan. As to the Section
403(b) Contract, the employer will make Purchase Payments in accordance with a
salary reduction agreement or an agreement to forego a salary increase, except
with respect to employer-sponsored Section 403(b) Plans under which the employer
will make contributions pursuant to the underlying retirement Plan. In the case
of the Section 408 IRA Contract, Purchase Payments will be made by the employer
on behalf of and as determined by each participating employee pursuant to a
salary reduction agreement or by the Participant. An Accumulation Account will
be established for each Participant which will record the number of Units held
in each Subaccount. Purchase Payments to the Variable Funds Account may be
allocated among any of the Variable Funds Subaccounts. Similarly, Purchase
Payments to the Strategic Variable Funds Account may be allocated among any of
the Strategic Variable Funds Subaccounts.
All Purchase Payments credited to an Accumulation Account are vested and
nonforfeitable. However, Purchase Payments made by employers, including all such
payments made under a Section 401(a) Contract, which are not the result of a
reduction in salary or a give up in salary agreement, under an
employer-sponsored Plan may be forfeitable but are generally subject to the
vesting requirements, where applicable, of the Employee Retirement Income
Security Act of 1974, as amended. In general, all Purchase Payments made to NQDC
and Section 457 Contracts may be forfeitable even though partially or fully
vested.
EMPLOYER SPONSORED PLAN REQUIREMENTS
Since the Contracts are intended to implement the Plans of state educational
organizations, organizations that qualify for tax-exempt status under Code
Section 501(c)(3), IRA Contractholders and, in the case of Section 401(a) and/or
Section 401(k) and NQDC Contracts, for taxed subsidiaries of such organizations
and stand-alone taxed organizations and since such Plans may be sponsored by
employers or associations who may have their own desires regarding certain Plan
details and the manner in which the Plan is to be administered, there will be
some variations in details in the Contract and Plan to reflect such desires.
Reference to the provisions of the Plan in which the individual is a Participant
must be made in all cases for particulars.
<PAGE> 27
-19-
RIGHTS OF THE PARTICIPANT UNDER THE CONTRACT
There are no stipulated or required Purchase Payments to be made under the
Contract. Except for the 15 days prior to a Participant's Annuity Purchase Date
(see "Annuity Purchase Date" on page 24) during which no Purchase Payments will
be accepted by AUSA, during a Participant's Accumulation Period Purchase
Payments may be made in the amount authorized by the Participant. The Contract
permits the Participant to elect his/her Annuity Purchase Date, to allocate
Purchase Payments, to redeem all or a portion of the Units in his/her
Accumulation Account, to designate beneficiaries, and to elect Fixed Annuity
options, except that employer-sponsored Plans may affect these rights.
During a Participant's Accumulation Period, one's rights and those of the
Contractholder or IRA Contractholder shall be as set forth in the Contract and
Plan. On and after the Annuity Purchase Date, or on the Participant's death, if
earlier, all rights, as specified in the Contract and Plan, shall belong to the
Participant or beneficiary as the case may be.
RIGHTS UPON SUSPENSION OF CONTRACT OR TERMINATION OF PLAN
403(b) Contract
In the event that the making or receipt of all Purchase Payments under certain
403(b) Contracts is discontinued or a Contractholder terminates its Plan or
discontinues Purchase Payments for a Participant, AUSA shall give written notice
thereof to the appropriate Participant(s) together with notice of the right of
the Participant to elect to have the value of his/her Accumulation Account
applied under one of the following options: (1) to be held and distributed by
AUSA in accordance with the terms of the Contract, (2) to be paid to him/her in
cash, or (3) in the event of suspension of the Contract or termination of the
Plan, to be transferred to an alternate funding agency (e.g., another insurance
company). Certain other 403(b) Contracts require the Contractholder, not AUSA,
to give written notice thereof to Participants.
401(a) Contract/401(k) Contract and NQDC Contracts
If the Contractholder terminates its Plan or discontinues Purchase Payments, it
is the Contractholder's responsibility, and not AUSA's, to give written notice
thereof to the affected Participants. In such cases, the Contractholder shall
elect to have the entire balance held under the Contract applied under one of
the following options: (1) to be held and distributed by AUSA in accordance with
the terms of the Contract; (2) to be transferred to an alternate funding agency
(e.g., another insurance company); or (3) to purchase deferred, paid-up life
annuity benefits for Participants.
457 and 408(IRA) Contracts
If the Contractholder or IRA Contractholder terminates its Plan or discontinues
Purchase Payments for a Participant, AUSA shall give written notice thereof to
the appropriate Participant(s) together with notice of the right of the
Participant to elect to have the value of his/her Accumulation Account applied
under either of the following options: (1) to be held and distributed by AUSA in
accordance with the terms of the Contract or (2) to be paid to him/her in cash,
except that, under the terms of certain 457 Contracts, the Contractholder, not
AUSA, shall give notice to affected Participants.
FAILURE OF QUALIFICATION
In the event that a Plan, Contractholder or IRA Contractholder or a Participant
thereunder becomes ineligible for any previously applicable tax benefits under
the Code, AUSA upon notice thereof shall refuse during the period of such
ineligibility to accept Purchase Payments with respect to that Plan or
Participant. A failure of qualification under a particular Contract shall have
no effect on other issued and outstanding Contracts.
<PAGE> 28
-20-
TRANSFERS
No transfers may be made between any of the Contracts; however, the following
transfers are permissible with respect to each Contract.
401(a), 401(k), 403(b), 457, 408(IRA) and NQDC Contracts
A Participant may transfer all or a portion of his/her Accumulation Account in
the Diversified Investors Variable Funds or the Diversified Investors Strategic
Variable Funds among the various Subaccounts of that Account. No transfer
charges are imposed, and there is no limit to the number of transfers permitted.
While AUSA has no present intention to do so, AUSA reserves the right to impose
transfer charges at a later date.
Transfers from the Section 403(b), 401(a) and (k) and NQDC Group Fixed Annuity
Contracts to a Participant's Accumulation Account under the Diversified
Investors Variable Funds Contracts are permitted only to the Subaccounts which
invest in the Balanced Portfolio, Value & Income Portfolio, Growth & Income
Portfolio, Equity Growth Portfolio, Special Equity Portfolio, Calvert Series or
International Equity Portfolio. Transfers from the Section 403(b), 401(a) and
(k) and NQDC Group Fixed Annuity Contracts to a Participant's Accumulation
Account under the Diversified Investors Strategic Variable Funds Contracts are
permitted only to the Intermediate Strategic Allocation Variable Fund or the
Intermediate/Long Strategic Allocation Variable Fund.
Certain other restrictions which apply to transfers from the AUSA Section
403(b), Section 401(a), Section 401(k), NQDC and Section 408(IRA) Group Fixed
Annuity Contracts to the Diversified Investors Variable Funds Contracts or the
Diversified Investors Strategic Variable Funds Contracts are contained in the
AUSA Section 403(b) and Section 401(a) and NQDC and 408(IRA) Group Fixed Annuity
Contracts.
Transfers may be made in writing or by telephoning (914) 697-8000. Transfers are
effective within 48 hours of receipt of instructions. All Participants should be
aware that a transfer authorized by telephone and reasonably believed to be
genuine by AUSA may subject the Participant to risk of loss if such instruction
is subsequently found not to be genuine. AUSA will employ reasonable procedures,
including requiring Participants to give certain identification information and
tape recording of telephone instructions, to confirm that instructions
communicated by telephone are genuine. To the extent that AUSA fails to use
reasonable procedures to verify the genuineness of telephone instructions, AUSA
may be liable for any losses due to telephone instructions that prove to be
fraudulent or unauthorized.
RIGHTS RESERVED BY AUSA
Subject to compliance with applicable laws and, when required by law, approval
of the Contractholders, IRA Contractholders, NQDC Contractholders and/or
Participants and any appropriate regulatory authority, AUSA reserves the right
to make the following changes:
(1) To operate the Diversified Investors Variable Funds and the Diversified
Investors Strategic Variable Funds in any form permitted under the 1940
Act or in any other form permitted by law;
(2) To take any action necessary to comply with or obtain and continue any
exemptions from the 1940 Act;
(3) To transfer any assets in a Subaccount to another Subaccount or to one or
more separate accounts, or to AUSA's general account to the extent
permitted by law or to add, combine or remove Subaccounts in a separate
account;
(4) To substitute, for the interests in a Portfolio or the Calvert Series held
in any Variable Funds Subaccount, interests in another Portfolio or
interests in another investment company or any other investment permitted
by law; and
<PAGE> 29
-21-
(5) To make any necessary technical changes in the Contracts in order to
conform with any of the above-described actions or as may be required or
permitted by applicable laws affecting Diversified Investors Variable
Funds, Diversified Investors Strategic Variable Funds or the Contracts.
AUSA will exercise its right to make any of these changes when, in AUSA's
judgment, such change is in the best interests of Contractholders and
Participants and/or such change is required under applicable law.
Contractholders will be notified of any changes and Participants will be
notified of any changes that result in a material change in their Contract or in
the investment options thereunder.
CREDIT OF PURCHASE PAYMENTS
A Participant's initial Purchase Payment will be credited to the Participant's
Accumulation Account to provide Units as of a Valuation Date for the Valuation
Period, not later than (1) two business days after receipt of the Purchase
Payment by AUSA at 4 Manhattanville Road, Purchase, New York 10577, if the
contract application and/or Participant's enrollment form is complete upon
receipt, or (2) two business days after an application and/or enrollment form
which is incomplete upon receipt by AUSA is made complete, provided that if such
information is not made complete within five business days after receipt (i) the
prospective Participant will be informed of the reasons for the delay, and (ii)
the initial Purchase Payment will be returned immediately and in full, unless
the prospective Participant specifically consents to AUSA retaining the Purchase
Payment until such information is made complete.
Subsequent Purchase Payments will be credited to the Participant's Accumulation
Account to provide Units as of the Valuation Date for the Valuation Period in
which the Purchase Payment is received in good order by AUSA.
ALLOCATION OF PURCHASE PAYMENTS
Upon receipt of a Purchase Payment, it will be credited to the Account and the
Subaccount or Subaccounts thereof designated by the Participant in the form of
Units. The number of Units to be credited is determined by dividing the dollar
amount allocated to the particular Subaccount(s) by the Unit value of that
Subaccount for the Valuation Date for the Valuation Period on which the Purchase
Payment is received. The number of Units shall not be changed by any subsequent
change in the value of a Unit, but the dollar allocation value of a Unit will
vary in amount depending upon the investment experience of the applicable
Subaccount.
Allocation instructions may be changed at any time by sending to AUSA a
correctly completed allocation form. Any change in allocations will be effective
within 10 business days following receipt of the allocation form by AUSA. If an
allocation form is incorrectly completed, Purchase Payments will be credited in
accordance with the most recent allocation form on record. AUSA reserves the
right to limit a Participant's right to change allocation instructions to four
times a calendar year.
DETERMINATION OF UNIT VALUE
The Variable Funds Subaccounts
The Unit value for a Variable Funds Subaccount for any Valuation Date is
determined by subtracting (b) from (a) and dividing the result by (c), where
(a) is the aggregate net asset value on the Valuation Date of all investments
by the Variable Funds Subaccount in the Portfolio or the Calvert Series in
which the Variable Funds Subaccount invests; and
(b) is the mortality and expense risk charge accrued as of that Valuation
Date; and
(c) is the total number of Units held in the Variable Funds Subaccount on the
Valuation Date before the purchase or redemption of any Units on that
Date.
<PAGE> 30
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The Strategic Variable Funds Subaccounts
The Unit value for a Strategic Variable Funds Subaccount for any Valuation Date
is determined by subtracting (b) from (a) and dividing the result by (c), where
(a) is the aggregate net asset value on the Valuation Date of all investments
by the Strategic Variable Funds Subaccount in the Variable Funds
Subaccounts; and
(b) is the investment advisory fee accrued as of that Valuation Date; and
(c) is the total number of Units held in the Strategic Variable Funds
Subaccount on the Valuation Date before the purchase or redemption of any
Units on that Date.
AUSA values the investment of each Strategic Variable Funds Subaccount at the
respective unit values of the Variable Funds Subaccounts invested in. The unit
values of such Variable Funds Subaccounts are, in turn, determined by the
valuation practices of the underlying Portfolios. The Portfolios value the
securities of the Money Market Portfolio based on the amortized cost method of
valuation. Securities of other Portfolios are valued based on their current
market value when market quotations are available. Where market quotations are
not available, assets are valued at fair value as determined in good faith under
the direction of the Board of Trustees of the Portfolios. Debt obligations with
60 days or less remaining to maturity may be valued by the amortized cost
method, which the Board of Trustees of the Portfolios has determined to
constitute fair value for such securities.
DEATH BENEFIT
Under Section 403(b), Section 457, and 408(IRA) Contract, if a Participant dies
before the Annuity Purchase Date (see "Annuity Purchase Date" on page 24), the
value of his/her Accumulation Account will be paid to the beneficiary in a lump
sum. If the beneficiary is under the age of 75 at the time of the Participant's
death, the beneficiary may elect to have this lump sum applied to provide a
Fixed Annuity. A lump sum payment to some extent may be taxed as ordinary income
to the beneficiary in the year received. A beneficiary should consider the
possible tax advantages to electing an annuity. See "Section 403(b) Annuities"
on page 29. Under Section 401(a) and/or Section 401(k) Contracts, however, the
underlying tax-qualified Plan is generally required to provide that in the case
of a married Participant, a survivorship annuity death benefit will be paid to
the surviving spouse if the Participant dies prior to retirement. In each case
involving Section 401(a) and/or Section 401(k) Contracts, reference must be made
to the underlying Plan for particulars.
If the Participant dies before the Annuity Purchase Date, his/her entire
interest must generally be distributed within five years after the date of
death, or if payable to a designated beneficiary must be annuitized over the
life of that designated beneficiary or over a period not extending beyond the
life expectancy of that beneficiary, within one year after the date of death. If
the beneficiary is the Participant's spouse, distributions are not required to
be made until the April 1st after the end of the calendar year in which the
Participant would have attained age 70 1/2; if the spouse dies before
distributions begin, the rules discussed above will apply as if the spouse were
the Participant (owner).
If a lump sum payment is elected, the Accumulation Account value will be
determined on the Valuation Date for the Valuation Period in which a certified
copy of the death certificate evidencing the Participant's death is received by
AUSA. If a Fixed Annuity is elected, the Accumulation Account value will be
determined on the Valuation Date for the Valuation Period of the beneficiary's
Annuity Purchase Date. For Section 401(a) and/or Section 401(k) and NQDC
Contracts, the underlying Plan should be consulted to determine the options
available.
For NQDC Contracts, the remaining value will be paid to a designated
beneficiary. If no such beneficiary is so designated or in existence, the
remaining value will be paid in the following order: Participant's (1) spouse,
(2) children, (3) parents, (4) siblings and (5) estate.
<PAGE> 31
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For all Contracts except NQDC Contracts, the death benefit is guaranteed to be
not less than the total amount of all contributions, less any withdrawals, made
by the Participant.
REDEMPTION DURING THE ACCUMULATION PERIOD
For Section 403(b), Section 457 and Section 408(IRA) Contracts and subject to
applicable federal tax law restrictions, a Participant at any time during
his/her Accumulation Period and prior to his/her death may redeem all or a
portion of the Units credited to the Accumulation Account. There is no
redemption charge. See "Federal Tax Status" on page 28.
The Accumulation Account value redeemed or the Units remaining after a partial
redemption will be determined on the Valuation Date for the Valuation Period in
which a written request for a redemption on a form approved by AUSA is received
by AUSA. The Accumulation Account will be reduced by the lesser of the number of
Units obtained by dividing the amount of the redemption request by the Unit
value for that day or the number of Units remaining in the Accumulation Account.
A full or partial redemption payment will be made within seven days after
receipt of the written request. A request for a partial redemption must specify
the Subaccount(s) from which the partial withdrawal is to be made. Payment may
be postponed as permitted by the 1940 Act. Currently, deferment is permissible
only when the New York Stock Exchange is closed or trading is restricted, when
an emergency exists as a result of which disposal of interests in the Portfolios
or the Calvert Series held by Variable Funds Subaccounts is not reasonably
practicable or it is not reasonably practicable to determine fairly the value of
these assets, or when the SEC has provided for such deferment for the protection
of Participants.
A withdrawal will generally have federal income tax consequences which may
include penalties. See "Federal Tax Status" on page 28.
With respect to Section 401(a), Section 401(k) and NQDC Contracts, the ability
to withdraw funds during the Accumulation Period is generally more limited;
however, in each instance the underlying Plan document should be consulted to
determine what options, if any, are available.
RESTRICTIONS UNDER THE TEXAS OPTIONAL RETIREMENT PROGRAM
The Texas Optional Retirement Program ("Program") imposes on participants in
such Program certain restrictions on withdrawal, which affect redemptions with
respect to any variable annuity contract issued under the Program. Under section
830.104 of the Texas Government Code, such participant in the Program, in order
to withdraw accumulated contributions from the retirement system, must complete
the required application form prescribed by the board of trustees. A person who
withdraws contributions pursuant to section 830.104 relinquishes all accrued
rights in the retirement system.
Nothing in section 830.105 of the Texas Government Code, entitled Termination of
Participation, precludes the election by a participant to withdraw accumulated
contributions pursuant to section 830.104. However, section 830.105 restricts
the availability of an annuity purchased under the Program to situations where
the participant attains age 70 1/2 or terminates participation in the Program
by: death, retirement, or termination of employment in all institutions of
higher education.
PAYMENT OPTIONS
With respect to Section 403(b), Section 457 and Section 408(IRA) Contracts,
unless a Fixed Annuity as described below is elected, payment to the Participant
shall be made at the end of his/her Accumulation Period in a lump sum calculated
in the same manner as if a total withdrawal request of one's Accumulation
Account had been received by AUSA on his/her Annuity Purchase Date. See above
for "Redemption During the Accumulation Period". However, Section 401(a),
Section 401(k) and NQDC Contracts provide the funding for the Plans and
reference to the particular Plan must be made in each case for details. For
example, tax-qualified Plans must generally provide by law that in the case of a
married Participant who does not properly elect otherwise, retirement annuity
benefits will be paid in the form of a contingent annuity with a survivorship
annuity benefit for his surviving spouse at least
<PAGE> 32
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equal to 50% of the amount which would have been payable if the Participant were
living. For NQDC Contracts, the employer may also provide for installment
payments without the purchase of an annuity.
ANNUITY PURCHASE DATE
The Annuity Purchase Date is the first day of the month coincident with or
following the receipt by AUSA of written notice, submitted through the
Participant's employer, of the Participant's retirement (i.e., the termination
of employment with his/her employer). Subject to the terms of the Plan, a
Participant may elect to retire at any time and receive annuity benefits. As a
general rule, benefits must begin no later than April 1 of the calendar year
following the year in which the Participant attains age 70 1/2 or, except in the
case 408(IRA) Contracts, retires at which time an election to receive an annuity
or lump sum benefit must be made.
In the case of a beneficiary who elects a Fixed Annuity, the Annuity Purchase
Date will be the first day of the month following receipt by AUSA of the
election of a Fixed Annuity; however, if any election is received during the
last 15 days of a month, the Annuity Purchase Date will be the first day of the
second month after receipt of the election.
For Section 408(IRA) Contracts, the Annuity Purchase Date is the date the
annuity first begins under the terms of the IRA Contract.
FIXED ANNUITY
Fixed Annuity payments are not made from the Variable Funds Account or the
Strategic Variable Funds Account but are made from the general account of AUSA
which supports insurance and annuity obligations. Because of exemptive and
exclusionary provisions, Fixed Annuity payments and interests in the general
account have not been registered under the Securities Act of 1933, as amended,
(the "1933 Act") nor is the general account registered as an investment company
under the 1940 Act. Accordingly, neither the general account nor any interests
therein are generally subject to the provisions of the 1933 or 1940 Acts. The
SEC staff has not reviewed the disclosures in this Prospectus that relate to the
Fixed Annuity payments and interests in the general account. Disclosures
regarding Fixed Annuity payments and the general account in this Prospectus,
however, may be subject to certain generally applicable provisions of the
federal securities laws relating to the accuracy and completeness of statements
made in prospectuses.
A Fixed Annuity may not be elected if the initial monthly payment under the form
elected would be less than $20. Fixed Annuity payments will be made monthly
unless the annuitant elects to receive payments annually, semi-annually or
quarterly. Any such election must be made at the same time that the annuitant
elects to receive a Fixed Annuity and cannot be changed during the annuity
period. Once a Fixed Annuity takes effect, it may not be redeemed, surrendered
or changed to any other form of annuity.
FIXED ANNUITY OPTIONS
The following Fixed Annuity options may be available:
(i) Life Annuity -- Annuity payments will be made during the lifetime of the
annuitant. It would be possible for the annuitant to receive no annuity
payment if he/she died prior to the date of the first annuity payment.
(ii) Life Annuity With Period Certain -- Annuity payments will be made during
the lifetime of the annuitant with the guarantee that if the annuitant
dies before a period certain elected, the beneficiary will receive
payments for the duration of the period. The period certain may be any
number of years between 5 and 20 inclusive.
(iii) Specified Fixed Period Annuity -- Annuity payments will be made for a
specified fixed period selected by the annuitant. If the annuitant dies
during the specified fixed period, the annuity
<PAGE> 33
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payments for the remainder of the period will be paid to the
beneficiary. No annuity payments are made after the expiration of the
specified fixed period even if the annuitant survives. The specified
fixed period may be for any number of years between 10 and 30 years
inclusive.
(iv) Contingent Annuity -- Annuity payments will be made during the joint
lifetimes of the annuitant and a designated second person ("contingent
annuitant") with payments continued during the remaining lifetime of the
contingent annuitant. Annuity payments to the contingent annuitant may
be made in the same amount paid while both annuitants lived or a lesser
percentage of this amount. For Section 401(a) and/or Section 401(k)
Contracts, in the absence of a proper election by the Participant, a
contingent annuity with a survivorship annuity benefit for the surviving
spouse at least equal to 50% of the amount which would have been payable
if the Participant were living will be the normal form of benefit.
If the contingent annuitant dies before the first annuity payment to the
annuitant, the contingent annuity election will be void and the
annuitant will receive a Life Annuity. If the contingent annuitant dies
after the first annuity payment to the annuitant, but before the death
of the annuitant, annuity payments under the Contingent Annuity election
will be made to the annuitant during his/her lifetime. If the annuitant
and the contingent annuitant die before the date of the first annuity
payment, no annuity payments will be made.
(v) Contingent Annuity With Period Certain -- Annuity payments will be made
during the joint lifetimes of the annuitant and a designated second
person ("contingent annuitant"). Annuity payments to the contingent
annuitant may be in the same amount as paid to the annuitant or a lessor
percentage of that amount and will be made for a period certain of any
number of years between 5 and 20 years inclusive.
The Life Annuity With Period Certain and the Specified Fixed Period Annuity may
only be elected for a number of years that will not exceed an annuitant's life
expectancy. The annuity benefit option elected by the Participant will affect
the level of annuity payments the Participant will receive. The longer annuity
payments are projected to continue based upon actuarial possibilities, the lower
annuity payments will be.
The annuity purchase rates for these Fixed Annuity benefits shall not exceed,
during the initial period set forth in the Contract, the maximum rates set forth
in the Contract. Thereafter, the annuity purchase rate will be the rate in
effect as declared by AUSA on the Annuity Purchase Date. The guaranteed level of
Fixed Annuity payments will be determined based upon (i) a Participant's
Accumulation Account value on the Annuity Purchase Date, (ii) the applicable
annuity purchase rate on the Annuity Purchase Date which will reflect the age of
the Participant and (iii) the type of Fixed Annuity option elected.
PAYMENTS TO A BENEFICIARY FOLLOWING THE ANNUITANT'S DEATH
If any annuity payment is payable to the beneficiary after the death of an
annuitant on or after his/her Annuity Purchase Date but during a period certain,
it shall be payable as each payment becomes due to the beneficiary. If the
benefit is payable to more than one beneficiary, it shall be paid in equal
shares to such beneficiaries, the survivors or survivor, unless the annuitant
has elected otherwise. Upon the death of the last surviving beneficiary, AUSA
shall pay the commuted value of any remaining payments in a lump sum cash
payment to the estate of such last surviving beneficiary in lieu of any further
income payments.
The annuitant's beneficiary may direct in writing to AUSA that any income
payable after the death of the annuitant or contingent annuitant be terminated
and a single commuted value be paid to the beneficiary. The commuted values
referred to above shall be based upon the value of the payments for the balance
of the period certain determined as of the date AUSA receives written notice of
the beneficiary's election to receive the commuted value on the basis of the
interest rate (compounded annually) inherent in the annuity purchase rate
applied to provide the annuitant's Fixed Annuity.
<PAGE> 34
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VOTING RIGHTS
The Variable Funds Subaccounts
The assets held in the Variable Funds Subaccounts will be invested in the
Portfolios or the Calvert Series, as applicable. AUSA is the legal holder of the
interests and shares held in a Variable Funds Subaccount and as such has the
right to vote to elect the governing boards of Diversified Investors Portfolios
and Calvert, Inc., to vote upon certain matters that are required by the 1940
Act to be approved or ratified by the shareholders of a mutual fund, and to vote
upon any other matter that may be voted upon at a shareholders' meeting. To the
extent required by law, AUSA will vote at regular and special shareholder
meetings in accordance with the instructions received from Contractholders, IRA
Contractholders and NQDC Contractholders. AUSA will furnish Contractholders, IRA
Contractholders and NQDC Contractholders with the proper forms to enable them to
give these instructions. The record date for any such vote shall be selected by
the governing boards of Diversified Investors Portfolios or Acacia.
Each Contractholder, IRA Contractholder and NQDC Contractholder will have the
equivalent of one vote per $100 of the dollar value of the Accumulation Accounts
in a Contract held in each Variable Funds Subaccount, with fractional votes for
amounts less than $100. These votes, are converted into a proportionate number
of votes in beneficial interests in a Portfolio or shares of the Calvert Series.
Interests held in each Variable Funds Subaccount for which no timely
instructions from Contractholders, IRA Contractholders or NQDC Contractholders
are received will be voted by AUSA in the same proportion as those interests in
that Subaccount for which instructions are received. Should applicable federal
securities laws or regulations permit, AUSA may elect to vote in its own right.
A Participant will have the right to instruct the Contractholder, IRA
Contractholder or NQDC Contractholder with respect to interests in the Portfolio
or the Calvert Series attributable to his/her portion of the Accumulation
Account held in each Variable Funds Subaccount. Each Participant under the
Contract shall receive a statement of the amount attributable to his/her
participation in each Variable Funds Subaccount and stating his/her right to
instruct the Contractholder as to how to vote such interest. AUSA will provide
voting instruction materials to the Contractholder, IRA Contractholder or NQDC
Contractholder and to the Participants.
The Contractholder, IRA Contractholder and NQDC Contractholder shall provide
voting instructions to AUSA with respect to interests attributable to the
Accumulation Account values held in each Variable Funds Subaccount in accordance
with instructions received by Participants. For interests for which no timely
instructions from Participants are received, the Contractholder, IRA
Contractholder or NQDC Contractholder will instruct AUSA to vote these interests
in the same proportion as those shares for which instructions from Participants
are received.
Matters on which the Contractholder, IRA Contractholder or NQDC Contractholder
may give voting instructions include the following: (1) election of the
governing boards of Diversified Investors Portfolios or Acacia; (2) ratification
of the independent accountant of a Portfolio or the Calvert Series corresponding
to the Contractholder's, IRA Contractholder's or NQDC Contractholder's selected
Subaccount(s); (3) approval of any change in the Investment Advisory Agreement
or any Subadvisory Agreement for a Portfolio or the Calvert Series corresponding
to the Contractholder's, IRA Contractholder's or NQDC Contractholder's selected
Subaccount(s); (4) any change in the fundamental investment policies of a
Portfolio or the Calvert Series corresponding to the Contractholder's, IRA
Contractholder's or NQDC Contractholder's selected Subaccount(s); and (5) any
other matter requiring a vote of the investors in Diversified Investors
Portfolios or the Calvert Series. With respect to approval of the Investment
Advisory Agreements or Subadvisory Agreements or any change in a fundamental
investment policy, Contractholders, IRA Contractholders and NQDC Contractholders
participating in the
<PAGE> 35
-27-
affected Subaccount will vote separately on the matter pursuant to the
requirements of Rule 18f-2 under the 1940 Act.
Furthermore, Diversified Investors Portfolios has obtained an exemptive order
from the Securities and Exchange Commission to permit the Portfolios, pursuant
to approval by the Board of Trustees, to enter into and materially amend
contracts with subadvisers without the approval of the investors of the
applicable Portfolio. Before a Portfolio relies on the exemptive order, the
Portfolio's investors must approve it. To date, the investors of the Core Bond,
Balanced, Equity Growth and Special Equity Portfolios have each approved
operation under the exemptive order.
The Strategic Variable Funds Subaccounts
The assets held in the Strategic Variable Funds Subaccounts will be invested in
units of the Variable Funds Subaccounts. AUSA is the legal holder of the units
in the Strategic Variable Funds Subaccounts and as such has the right to vote
upon any matter that may be voted upon by holders of units. To the extent
required by law, AUSA will vote at regular and special meetings in accordance
with the instructions received from Contractholders, IRA Contractholders and
NQDC Contractholders. AUSA will furnish Contractholders, IRA Contractholders and
NQDC Contractholders with the proper forms to enable them to give these
instructions.
Each Contractholder, IRA Contractholder and NQDC Contractholder will have the
equivalent of one vote per $100 of the dollar value of the Accumulation Accounts
in a Contract held in each Strategic Variable Funds Subaccount, with fractional
votes for amounts less than $100. Interests held in each Strategic Variable
Funds Subaccount for which no timely instructions from Contractholders, IRA
Contractholders or NQDC Contractholders are received will be voted by AUSA in
the same proportion as those interests in that Strategic Variable Funds
Subaccount for which instructions are received. Should applicable federal
securities laws or regulations permit, AUSA may elect to vote in its own right.
A Participant will have the right to instruct the Contractholder, IRA
Contractholder or NQDC Contractholder with respect to interests in Strategic
Variable Funds Subaccounts attributable to his/her portion of the Accumulation
Account. Each Participant under the Contract shall receive a statement of the
amount attributable to his/her participation in each Strategic Variable Funds
Subaccount and stating his/her right to instruct the Contractholder as to how to
vote such interest. AUSA will provide voting instruction materials to the
Contractholder, IRA Contractholder or NQDC Contractholder and to the
Participants.
The Contractholder, IRA Contractholder and NQDC Contractholder shall provide
voting instructions to AUSA with respect to interests attributable to the
Accumulation Account values held in a Strategic Variable Funds Subaccount in
accordance with instructions received by Participants. For interests for which
no timely instructions from Participants are received, the Contractholder, IRA
Contractholder or NQDC Contractholder will instruct AUSA to vote these interests
in the same proportion as those shares for which instructions from Participants
are received.
Matters on which the Contractholder, IRA Contractholder or NQDC Contractholder
may give voting instructions include the following: (1) approval of any change
in the Investment Advisory Agreement corresponding to the Contractholder's, IRA
Contractholder's or NQDC Contractholder's selected Subaccount(s); (2) any change
in the fundamental investment policies of the Contractholder's, IRA
Contractholder's or NQDC Contractholder's selected Subaccount(s); and (3) any
other matter requiring a vote of the unitholders of a Subaccount. With respect
to approval of the Investment Advisory Agreements or any change in a fundamental
investment policy, Contractholders, IRA Contractholders and NQDC Contractholders
participating in the affected Subaccount will vote separately on the matter
pursuant to the requirements of Rule 18f-2 under the 1940 Act. On matters
submitted for consideration by holders of units of the underlying Variable Funds
Subaccounts, AUSA will vote in proportion to the vote of all other holders of
units in that underlying Variable Funds Subaccount.
<PAGE> 36
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General
AUSA may, if required by state insurance officials, disregard voting
instructions if those instructions would require voting to cause a change in the
subclassification or investment objectives or policies of one or more of the
Portfolios, the Calvert Series or the Variable Funds Subaccounts, or to approve
or disapprove an investment adviser or principal underwriter for one or more of
the Variable Funds Subaccounts. In addition, AUSA may disregard voting
instructions that would require changes in the investment objectives or policies
of any of the Portfolios, the Calvert Series or the Variable Funds Subaccounts
or in an investment adviser or principal underwriter, if AUSA reasonably
disapproves those changes in accordance with applicable federal regulations. If
AUSA disregards voting instructions, it will advise Contractholders, IRA
Contractholders, NQDC Contractholders and Participants of that action and its
reasons for the action in the next semiannual report to Contractholders, IRA
Contractholders, NQDC Contractholders and Participants.
DISTRIBUTION OF THE CONTRACTS
DISC will act as the principal underwriter and the distributor of the Contracts.
DISC will perform all sales, marketing and administrative functions relative to
the Contracts which participate in the Variable Funds Account or the Strategic
Variable Funds Account, with certain exceptions in connection with the use of
other authorized broker-dealers. DISC is registered as a broker-dealer under the
Securities Exchange Act of 1934, as amended, and is a member of the National
Association of Securities Dealers, Inc. The principal business address of DISC
is 4 Manhattanville Road, Purchase, New York 10577. The Contracts are sold by
individuals who are registered representatives of DISC and who are also licensed
as insurance agents for AUSA. The Contracts may also be sold through registered
representatives of other broker-dealers authorized by DISC and applicable law
who may be insurance agents licensed by an insurance company other than AUSA.
Commissions and other expenses directly related to the sale of the Contracts
will not exceed 8 percent of Purchase Payments. Additional expense allowance may
be paid for other services not directly related to the sale of the Contracts.
Such services include the training of personnel and the production of
promotional literature.
FEDERAL TAX STATUS
The ultimate effect of federal income taxes on Fixed Annuity payments and on the
economic benefit to the Participant, annuitant, payee and beneficiary depends on
the tax and employment status of the individual concerned.
The discussion which follows on the treatment of AUSA and of the Contracts under
federal income tax law is general in nature, is based upon AUSA's understanding
of current federal income tax laws, and is not intended as tax advice. No
representation is made regarding the likelihood of continuation of the present
federal income tax law or of the current interpretations by the Internal Revenue
Service. No attempt is made to consider any applicable state or other tax laws.
Each Contractholder, IRA Contractholder, NQDC Contractholders and Participant
contemplating investment in the Contracts should consult a qualified tax
adviser.
Participants receiving large distributions (generally those in excess of
$150,000 per year, as indexed; or lump sum distributions in excess of $750,000)
from qualified retirement Plans, including those funded through Section 401(a),
Section 408(IRA) and Section 403(b) Contracts, may be subject to a 15% excise
tax on their distributions in excess of a specified amount. The Small Business
Job Protection Act of 1996 suspended the imposition of the excess distribution
excise tax in 1997, 1998 and 1999. Finally, the Taxpayer Relief Act of 1997 has
repealed the excise tax (and a related estate tax on excess retirement
accumulations) for all subsequent years.
TAX TREATMENT OF AUSA
AUSA is taxed as a life insurance company under the Code.
<PAGE> 37
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Investment income from the assets of the Variable Funds Account are reinvested
and taken into account in determining the value of the Variable Funds Account.
Under existing federal income tax law, the investment income of the Variable
Funds Account, including realized capital gains, is substantially not taxed to
AUSA.
Investment income from the assets of the Strategic Variable Funds Account and
the underlying Variable Funds Subaccounts are reinvested and taken into account
in determining the value of the Strategic Variable Funds Account and the
underlying Variable Funds Subaccounts. Under existing federal income tax law,
the investment income of the Strategic Variable Funds Account, including
realized capital gains, is substantially not taxed to AUSA.
TAXATION OF DIVERSIFIED INVESTORS PORTFOLIOS
Diversified Investors Portfolios is organized as a New York trust. None of its
series are subject to any income or franchise tax in the State of New York.
AUSA, as an investor in series of Diversified Investors Portfolios, will be
taxable on its share (as determined in accordance with the governing instruments
of Diversified Investors Portfolios) of such series' ordinary income and capital
gain in determining its income tax liability. The determination of such share
will be made in accordance with the Code and regulations promulgated thereunder.
See "Tax Treatment of AUSA" above.
SECTION 403(b) ANNUITIES
Purchase Payments made under a Contract meeting the requirements of Section
403(b) of the Code afford certain federal income tax benefits to employees of
state educational organizations, and organizations which are tax-exempt under
Section 501(c)(3) of the Code.
The employer may make contributions to the Contract or the employer may agree
with the Participant that in return for employer contributions to the Contract,
the Participant will take a reduction in salary or give up a salary increase.
The agreement may not be changed with respect to earnings of the Participant
while the agreement is in effect. The Participant can only make one agreement
with his/her employer during the year, but the Participant may terminate the
agreement at any time with respect to amounts not yet earned. No federal income
tax is payable by the Participant on increases in the value of his/her
Accumulation Account until payments are received by the Participant.
Purchase Payments meeting the requirements of Sections 402(g), Section 403(b)
and Section 415 of the Code are not includable in the gross income of the
Participant at the time they are made. Under Section 402(g) of the Code,
Purchase Payments made under a reduction in salary or a give up in salary
increase agreement ("elective deferrals") are excluded from a Participant's
gross income to the extent of the lesser of $10,500 (as indexed) or the
Participant's exclusion allowance. The $10,500 (as indexed) limit will be
reduced on a dollar for dollar basis by employee pre-tax elective deferrals made
by that individual under a Section 401(k) Plan, a simplified employee pension
plan, or other tax deferred annuity. Under Section 403(b) of the Code, Purchase
Payments made under a reduction in salary or a give up in salary agreement
and/or contributed by the employer are excluded from a Participant's gross
income to the extent of the applicable "exclusion allowance". The "exclusion
allowance" is equal to 20% of a Participant's includable compensation (taxable
earnings) for the tax year, multiplied by the number of years of employment,
reduced by the total of Purchase Payments made in prior tax years.
When Fixed Annuity payments commence, or if the Participant obtains a partial or
full redemption of the Units credited to his/her Accumulation Account under the
Contract, the amount received will be includable as ordinary income in the year
received, except that such portion of any amount received as is deemed to
represent a return of Purchase Payments originally included as gross income made
by the Participant will not be taxed. Full redemptions do not qualify for any
special tax treatment which might otherwise be applicable to qualified plan lump
sum distributions. However, a Participant may delay including certain
distributions in income by making a rollover transfer, subject to requirements
set by the Code, to an Individual Retirement Account or another Section 403(b)
annuity. A Participant may not
<PAGE> 38
-30-
rollover hardship distributions of salary reduction amounts, distributions part
of a series of installments or any required minimum distributions made after age
70 1/2, however.
If the Participant receives any amount under the Contract, the Participant must
pay an additional tax of 10% of the amount of the distribution includable in
gross income for the taxable year. This additional tax does not apply to
distributions which are (1) made on or after the date on which the Participant
attains age 59 1/2, (2) made to a beneficiary on or after the death of the
Participant, (3) attributable to the Participant's becoming permanently
disabled, (4) made after separation from service in a series of substantially
equal periodic payments made for the life (or life expectancy) of the
Participant or the joint lives (or joint life expectancies) of the Participant
and his beneficiary, (5) made to a Participant after separation of service after
attainment of age 55, (6) made to a Participant for medical care (not to exceed
the amount deductible by the employee), (7) paid to alternate payees under a
qualified domestic relations order or (8) paid to the IRS pursuant to a levy to
collect unpaid taxes.
RESTRICTIONS ON WITHDRAWALS OF ELECTIVE CONTRIBUTIONS. Effective January 1, 1989
and thereafter, any funds in the Participant's account balance other than funds
attributable to assets held at the close of the last year beginning before
January 1, 1989 will be restricted from withdrawal except upon attainment of age
59 1/2, separation from service, death, disability or hardship (hardship
withdrawals are to be limited to the amount of the Participant's own
contributions exclusive of earnings). However, any funds in the Participant's
account balance attributable to employer contributions, if any, and the earnings
thereon will not be restricted unless specifically provided for by the
employer's plan.
In tax years beginning after 1988, Section 403(b) Plans (other than church
plans) will be subject to nondiscrimination and coverage requirements, as well
as special rules with respect to minimum distributions.
SECTION 401(a) PLANS
An employer maintaining a pension or profit sharing Plan which satisfies the
requirements of Section 401(a) of the Code may make contributions to the
Contract which are generally currently deductible by the employer and are not
currently taxed to the Participants. The Code prescribes various limitations on
the maximum amount which may be contributed on behalf of any Participant.
Generally, annual contributions on behalf of a Participant may not exceed the
lesser of the $30,000 (as indexed) or 25% of such Participant's compensation. In
the case of a 401(k) plan, the annual deferral limit for the Participant's
elective contributions is $10,500 (as indexed). In addition, Participants may
make after-tax contributions to the Contract if their Section 401(a) Plan
permits.
When Fixed Annuity payments commence, or if the Participant obtains a partial
redemption of the Units credited to his/her Accumulation Account under the
Contract, the amount received will be includable as ordinary income in the year
received, except that such portion of any amount received as is deemed to
represent a return of Participant after-tax Purchase Payments will not be taxed.
Full redemptions to participants before 1936 may qualify for year income
averaging if the payment constitutes a "lump sum distribution," as that term is
defined in the Code, and if certain conditions are met. The special five-year
forward averaging is available to a recipient of a lump-sum distribution,
received in a taxable year beginning before January 1, 2000, from a qualified
retirement plan only if all these conditions are satisfied: (1) The distribution
is received on or after the employee has reached age 59 1/2 (except for the
recipients making the ten-year forward averaging election for employees who
reach age 50 before 1986); (2) the recipient elects special five-year forward
averaging for the taxable year for all lump-sum distributions received during
that taxable year; and (3) no lump-sum distribution from the same plan was
rolled over tax-free into an IRA or another qualified plan.
The rules governing rollovers of distributions from a Section 401(a) Plan are
parallel to those dealing with distributions from Section 403(b) annuities. If
the Participant receives a direct distribution from the plan, automatic
withholding of 20% will be made on the distribution -- even though it is
rendered not currently taxable by the Participant's subsequent rollover or
transfer of the gross amount to an IRA or another employer's plan.
Alternatively, the Participant may avoid the automatic 20% withholding by
<PAGE> 39
-31-
directing the plan to transfer the amount involved directly to the IRA or
another employer's qualified plan. See "Income Tax Withholding" below. In
addition, the 10% penalty on premature distributions from Section 403(b)
annuities is also applicable to Section 401(a) Plan distributions.
SECTION 408 (IRA) CONTRACTS
An individual, participating under a Contract which satisfies the requirements
of Section 408 of the Code, may make contributions to the Contract. The Code
prescribes various limitations on the maximum amounts which may be contributed
by or on behalf of the Participant and on the deductibility of the contributions
for federal income tax purposes. No federal income tax is payable by the
Participant on increases in the value of his/her Accumulation Account until
payments are received by the Participant.
When Fixed Annuity payments commence, or if the Participant obtains a partial
redemption of the Units credited to his/her Accumulation Account under the
Contract, the amount received will be includable as ordinary income in the year
received, except that such portion of any amount received which is deemed to
represent a return of Participant non-deductible Purchase Payments will not be
taxed. Full or partial redemptions do not qualify for special capital gains
treatment nor 10-year income averaging applicable to certain qualified plan
distributions.
If the Participant receives any amount under the Contract prior to attainment of
age 59 1/2, the Participant must pay an additional excise tax of 10% of the
amount of the distribution includable in gross income for the taxable year. The
additional tax shall not apply to distributions which are (1) made to a
beneficiary on or after the death of the Participant, (2) attributable to the
Participant's becoming permanently disabled, (3) made in a series of
substantially equal periodic payments made for the life (or life expectancy),
(4) made for certain allowable medical care expenses, (5) made for certain
"qualified higher education expenses" or (6) made as "qualified first-time home
buyer distributions" (not to exceed $10,000 in the aggregate), of the
Participant or the joint lives (or joint life expectancies) of the Participant
and his/her beneficiary. Any full or partial redemption will not be includable
in ordinary income if the Participant rolls over the distribution within 60 days
to another IRA.
MINIMUM DISTRIBUTION REQUIREMENTS
If the actual distributions from a qualified retirement plan, eligible state or
local government deferred compensation plan or an IRA are less than the minimum
required to be distributed commencing by April 1 in the calendar year following
the year the Participant attains age 70 1/2 or, in the case of a plan and if
still employed at that age, the year in which he retires (see "Annuity Purchase
Date", on page 24) the difference is considered to be an excess accumulation and
the IRS may impose a 50% excise tax on this excess amount.
SECTION 457 PLANS
Section 457 of the Code allows employees of or independent contractors who
furnish services to a state or local government to establish a deferred
compensation plan allowing the deferral of certain limited amounts of
compensation by way of salary reduction. Generally, the annual deferral limit is
the lesser of $8,000 (as indexed) or 33 1/3% of the Participant's includable
compensation. There is a "catch-up" provision which may permit a Participant to
defer a greater amount prior to retirement. State and local government includes
a state, a political subdivision of a state, any agency or instrumentality of
either of them, a tax-exempt rural electric cooperative or its tax-exempt
affiliates. Contributions are based on a special definition of compensation and
include any amounts contributed to a Section 403(b) tax sheltered annuity for
determining the contribution limits. All amounts deferred and property bought
with those amounts or income earned on those amounts remain the property of the
employer and are subject to the claims of its general creditors. However, under
the Small Business Job Protection Act of 1996 the assets of new eligible plans
of state and local governments must be held in trust for the "exclusive benefit"
of the Participants (and their beneficiaries). Eligible plans existing before
the enactment of this law must comply with the trust and "exclusive benefit"
requirement by January 1,
<PAGE> 40
-32-
1999. Distributions from a Section 457 Plan are subject to Section 401(a)(9) of
the Code in addition to the rules applicable under Section 457 of the Code and
must begin no later than the April 1st of the calendar year following the year
in which the participant attains age 70 1/2 or, if later, the year in which he
retires.
NON-QUALIFIED DEFERRED COMPENSATION CONTRACTS
Taxed employers may establish a non-qualified deferred compensation arrangement
funded by non-qualified deferred compensation contracts allowing the deferral of
compensation through salary reduction. Such Plans include, but are not limited
to, excess benefit plans, plans maintained by an employer primarily for a select
group of management or highly compensated employees, as well as rabbi and
secular trusts. Taxed employers for these non-qualified deferred compensation
Plans include corporations, partnerships, S corporations and any of their
affiliates or subsidiaries. Contributions are determined on the Plan's
definition of compensation. All amounts deferred by employees and any income
earned thereon remain the property of the employer and are subject to the claims
of its general creditors. In-service withdrawals from deferred compensation
Plans may be permitted for reasons of hardship under certain conditions as
specified in the Plans. Distributions from these Plans are permitted when the
Participant terminates employment, becomes permanently disabled, retires, dies
or as otherwise specified in the Plan. As a general rule, the Participant is
subject to taxation upon receipt of the funds, and there is usually no tax
consequences to the employer, i.e., no deduction is available for an employee's
salary reduction agreement until paid out.
INCOME TAX WITHHOLDING
Unless the Participant or payee elects to have no withholding, the taxable
portion of distributions under a Contract will be subject to income tax
withholding under federal and certain state laws. AUSA will notify recipients of
taxable distributions under a Contract of their right to elect not to have
withholding apply.
For NQDC Contracts, Form W-2 withholding by the employer may be required.
Effective January 1, 1992, distributions from qualified retirement plans and
Section 403(b) Contracts other than individual retirement arrangements ("IRAs")
generally are subject to mandatory federal income tax withholding unless they
either are:
1. Part of a series of substantially equal periodic payments (at least
annually) for the participant's life or life expectancy, the joint
lives or life expectancies of the participant and his/her beneficiary,
or a period certain of not less than 10 years, or
2. Required by the Code upon the participant's attainment of age 70 1/2
(or retirement) or death.
Such withholding will apply even if the distribution is rolled over into another
qualified plan including an IRA. The withholding can be avoided if the
participant's interest is directly transferred by the old plan to another
eligible qualified plan including an IRA. A direct transfer to the new plan can
be made only in accordance with the terms of the old plan. If withholding is not
avoided, the amount withheld may be subject to income tax and penalties unless
an equivalent amount is rolled over into an IRA.
Pursuant to Revenue Ruling 90-24 of the Code, an exchange of a Section 403(b)
annuity contract for another Section 403(b) annuity contract may qualify as a
tax-free exchange.
ASSUMPTION REINSURANCE
The Contracts described in this Prospectus include group variable annuity
contracts which were originally issued by MONY Life Insurance Company (formerly
The Mutual Life Insurance Company of New York) ("MONY") and then assumed by AUSA
pursuant to certain assumption reinsurance agreements executed by MONY and AUSA
effective December 31, 1993. Pursuant to the terms of these
<PAGE> 41
-33-
agreements and applicable state insurance laws, affected MONY contractholders
may elect to participate and "opt in" or choose to remain contractholders of
MONY and "opt out" of the assumption.
The former holders of MONY contracts who opted in to the assumption of their
contracts by AUSA experience no differences in the terms or charges under the
Contracts. All investment options previously available to these MONY
contractholders are available under the Contracts under Variable Funds
Subaccounts which correspond to investment options under the MONY contracts. In
addition, such assumed AUSA Contractholders may be able to direct the investment
of their funds into certain additional investment options which were not
available under the MONY contracts.
PERFORMANCE DATA
From time to time the performance of one or more of the Subaccounts may be
advertised. The performance data contained in these advertisements is based upon
historical earnings and is not indicative of future performance. The data for
each Variable Funds Subaccount reflects the results of the corresponding
Portfolio or the Calvert Series and recurring charges and deductions borne by or
imposed on the Variable Funds Subaccount and on the corresponding Portfolio or
the Calvert Series. The data for each Strategic Variable Funds Subaccount
reflects the results of the underlying Variable Funds Subaccounts invested in
and the corresponding Portfolios and recurring charges and deductions borne by
or imposed on the Strategic Variable Funds Subaccount, the underlying Variable
Funds Subaccounts and the corresponding Portfolios. Set forth below for each
Subaccount is the manner in which the data contained in such advertisements will
be calculated.
Variable Funds Money Market Subaccount
The performance data for this Subaccount will reflect "yield", "effective yield"
and "total return". The "yield" of the Subaccount refers to the income generated
by an investment in the Subaccount over the seven day period stated in the
advertisement. This income is "annualized", that is, the amount of income
generated by the investment during that week is assumed to be generated each
week over a 52-week period and is shown as a percentage of the investment. The
"effective yield" is calculated similarly, but, when annualized, the income
earned by an investment in the Subaccount is assumed to be reinvested. The
"effective yield" will be slightly higher than the "yield" because of the
compounding effect of this assumed reinvestment. The total return is calculated
as shown below.
Other Variable Funds Subaccounts
The performance data for these Subaccounts will reflect "yield" and "total
return". The "yield" of each of these Subaccounts refers to the income generated
by an investment in that Subaccount over the 30 day period stated in the
advertisement and is the result of dividing that income by the value of the
Subaccount. The value of each Subaccount is the average daily number of Units
outstanding multiplied by the Unit Value on the last day of the period. The
"yield" reflects deductions for all charges, expenses, and fees of both the
underlying Portfolio or Calvert Series, as applicable, and the Subaccount
itself. "Annualized total return" for each of these Subaccounts and the Variable
Funds Money Market Subaccount refers to the return a Contractholder would
receive during the period indicated if a $1,000 Purchase Payment was made the
indicated number of years ago. It reflects historical investment results less
charges and deductions of both the Portfolio or Calvert Series, as applicable,
and the Subaccount itself, with the distribution being made in cash rather than
in the form of one of the settlement options, at the close of the period for
which the "annualized total return" data is given.
Strategic Variable Funds Subaccounts
The performance data for the Strategic Variable Funds Subaccounts will reflect
"yield" and "total return". The "yield" of each of the Strategic Variable Funds
Subaccounts refers to the income generated by an investment in that Strategic
Variable Funds Subaccount over the 30 day period stated in the advertisement and
is the result of dividing that income by the value of the Strategic Variable
Funds
<PAGE> 42
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Subaccount. The value of each Strategic Variable Funds Subaccount is the average
daily number of Units outstanding multiplied by the Unit Value on the last day
of the period. The "yield" reflects deductions for all charges, expenses, and
fees. "Annualized total return" for each of the Strategic Variable Funds
Subaccounts refers to the return a Contractholder would receive during the
period indicated if a $1,000 Purchase Payment was made the indicated number of
years ago. It reflects historical investment results less charges and
deductions, with the distribution being made in cash rather than in the form of
one of the settlement options, at the close of the period for which the
"annualized total return" data is given.
Information Relating To All Subaccounts
Total return is historical in nature and is not intended to indicate future
performance. Total return will be quoted for the most recent one-year period,
and annualized total return will be quoted for the most recent five-and ten-year
periods, or the period from the commencement of operations of the Subaccount (or
its corresponding Portfolio or predecessor separate account), if shorter.
Actual total return quotations may also be advertised for other specified
periods, such as calendar years and calendar quarters. Cumulative total return
for periods of more than one year may also be quoted. These figures will be
accompanied by the standard, annualized total return quotations.
From time to time, information may be provided concerning general economic
conditions and supply comparative performance data and rankings, with respect to
comparable investments for the same period, for unmanaged market indices such as
the Dow Jones Industrial Average and the Standard and Poor's 500, and from
recognized independent sources such as Bank Rate Monitor, Money, Forbes,
Barron's, Lipper Analytical Services, Inc., CDA Investment Technologies, Inc.,
Frank Russell Universe Data, Wiesenberger Investment Companies Service, Mutual
Fund Values, Mutual Fund Forecaster, VARDS and Morningstar.
In addition, reference may be made in advertisements to various indices
including, without limitation, the Standard & Poor's 500 Stock Index, Salomon
Brothers Broad Investment Grade Index and Lehman Brothers Core Bond Index, and
Russell Price Driven Index, in order to provide the reader a basis of comparison
for performance.
Please note that the investment results of each Subaccount will fluctuate over
time.
<PAGE> 43
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Average Annual Total Returns
The annualized total return for the Subaccounts is shown for the periods
indicated in the table below.
<TABLE>
<CAPTION>
----------------------------------------------------------------------------------------------------------------------------
FOR THE
PERIOD
FOR THE FOR THE FOR THE FOR THE SINCE
YEAR 3 YEARS 5 YEARS 10 YEARS INCEPTION
INCEPTION ENDED ENDED ENDED ENDED THROUGH
DATE(1) 12/31/99 12/31/99 12/31/99 12/31/99 12/31/99(1)
----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
MONEY MARKET(2) 11/78 4.39% 4.61% 4.70% 4.52% 7.16%
----------------------------------------------------------------------------------------------------------------------------
HIGH QUALITY BOND(2) 7/90 2.36% 4.27% 5.36% N/A 5.61%
----------------------------------------------------------------------------------------------------------------------------
INTERMEDIATE GOVERNMENT BOND(2) 7/90 0.71% 4.43% 5.74% N/A 6.01%
----------------------------------------------------------------------------------------------------------------------------
CORE BOND(2) 1/78 (1.74)% 4.22% 6.38% 6.78% 7.83%
----------------------------------------------------------------------------------------------------------------------------
HIGH-YIELD BOND 8/95 (0.31)% 4.29% N/A N/A 6.12%
----------------------------------------------------------------------------------------------------------------------------
BALANCED(2) 12/92 10.59% 13.40% 16.60% N/A 13.32%
----------------------------------------------------------------------------------------------------------------------------
VALUE & INCOME 1/78 7.35% 15.71% 19.38% 12.95% 13.73%
----------------------------------------------------------------------------------------------------------------------------
EQUITY VALUE 4/96 (3.47)% 8.81% N/A N/A 9.76%
----------------------------------------------------------------------------------------------------------------------------
GROWTH & INCOME(2) 1/86 29.71% 32.45% 29.81% 17.76% 16.93%
----------------------------------------------------------------------------------------------------------------------------
EQUITY GROWTH(2) 3/93 36.86% 32.91% 26.66% N/A 20.70%
----------------------------------------------------------------------------------------------------------------------------
SPECIAL EQUITY(2) 1/86 24.92% 17.24% 23.10% 15.61% 16.07%
----------------------------------------------------------------------------------------------------------------------------
AGGRESSIVE EQUITY 4/96 63.32% 34.55% N/A N/A 28.58%
----------------------------------------------------------------------------------------------------------------------------
CALVERT SERIES 9/86 11.22% 15.57% 17.29% 11.49% 11.13%
----------------------------------------------------------------------------------------------------------------------------
INTERNATIONAL EQUITY(2) 12/92 63.30% 24.45% 19.79% N/A 18.93%
----------------------------------------------------------------------------------------------------------------------------
SHORT HORIZON STRATEGIC 1/97 1.15% 5.17% N/A N/A 5.17%
----------------------------------------------------------------------------------------------------------------------------
INTERMEDIATE HORIZON STRATEGIC 1/97 13.17% 12.80% N/A N/A 12.80%
----------------------------------------------------------------------------------------------------------------------------
INTERMEDIATE/LONG HORIZON
STRATEGIC 1/97 18.63% 16.93% N/A N/A 16.93%
----------------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Inception date refers to the commencement of operations of each
Subaccount except that where indicated by footnote 2, inception date
refers to commencement of operations of a predecessor separate account.
(2) Each of the corresponding Pooled Separate Accounts of MONY set forth
below contributed all of its assets to, and thereby established, the
Portfolios in which the corresponding Variable Funds Subaccounts invest
their assets:
<TABLE>
MONY POOLED
SERIES SEPARATE ACCOUNT
- ------------------------------------------------------------ -----------------------
<S> <C>
Money Market................................................ Pooled Account No. 4
High Quality Bond........................................... Pooled Account No. 15
Intermediate Government Bond................................ Pooled Account No. 10d
Core Bond................................................... Pooled Account No. 5
Balanced.................................................... Pooled Account No. 14
Value & Income.............................................. Pooled Account No. 6
Equity Growth............................................... Pooled Account No. 1
Growth & Income............................................. Pooled Account No. 10a
Special Equity.............................................. Pooled Account No. 10b
International Equity........................................ Pooled Account No. 12
</TABLE>
Total returns calculated for any period for each of the Money Market,
High Quality Bond, Intermediate Government Bond, Core Bond, Balanced,
Value & Equity Income, Growth & Income, Equity Growth, Special Equity and
International Equity Subaccounts reflect the performance of the
corresponding Pooled Separate Account for any period prior to its
establishment and the performance of the corresponding Portfolio
thereafter. Such total returns calculated for each of the
<PAGE> 44
-36-
Subaccounts reflect the performance of the corresponding Pooled Separate
Account only from the date that such corresponding Pooled Separate Account
adopted investment objectives, policies and practices substantially
similar to those of the corresponding Portfolio invested in by the
Subaccount. Total return percentages for the Subaccounts and the
Portfolios reflect the historical rates of return for the applicable
period. Total return percentages for the corresponding Pooled Separate
Accounts reflect historical rates of return after giving effect to a
one-time adjustment to reflect charges, expenses and fees in affect at the
time the Portfolios commenced operations. The corresponding Pooled
Separate Accounts were not registered under the Investment Company Act of
1940 and, therefore, were not subject to certain investment restrictions
imposed by the Act. If the corresponding Pooled Separate Accounts had been
registered under the Act, investment performance might have been adversely
affected.
The table above assumes that a $1,000 payment was made to each Subaccount at the
beginning of the period shown, that no further payments were made, that any
distribution from the corresponding series (or its predecessor investment
vehicle) were reinvested, and that a Contractholder surrendered the Contract for
cash, rather than electing commencement of annuity benefits in the form of one
of the Settlement Options available, at the end of the period shown. The average
annual total return percentages shown in the table reflect the annualized
historical rates of return and deductions for all charges, expenses, and fees
which would be imposed on the payment assumed by both the corresponding
Portfolio or Calvert Series, as applicable, and the corresponding Subaccount.
DIVERSIFIED INVESTORS PORTFOLIOS
The Variable Funds Subaccounts other than the Calvert Series Subaccount (and the
Strategic Variable Funds Subaccounts, through those Variable Funds Subaccounts
other than the Balanced Subaccount) invest exclusively in corresponding series
of Diversified Investors Portfolios. Diversified Investors Portfolios is a trust
organized on September 1, 1993 under the laws of the State of New York and is
registered under the 1940 Act as an open-end, diversified management investment
company.
Each of these Subaccounts seeks its investment objective by investing all of its
assets in a corresponding Portfolio. The investment objective of each Portfolio
may be changed without the approval of investors in that Portfolio, but not
without written notice thereof to its investors (including the applicable
Subaccount) 30 days prior to implementing the change. AUSA may withdraw the
investment of a Subaccount from its Portfolio on any Portfolio Business Day (see
page 52). Upon any such withdrawal, AUSA would consider what action might be
taken, including investment of the assets of the Subaccount in another pooled
investment entity having the same investment objective.
PRINCIPAL INVESTMENT STRATEGIES
This section describes principal investment strategies of the series of
Diversified Investors Portfolios currently available under the Contracts through
the Subaccounts. There can, of course, be no assurance that any Portfolio will
achieve its investment objectives. Except as noted below, each Portfolio's
objectives and strategies may be changed without shareholder approval.
Please note that each Portfolio may also use strategies and invest in securities
that are described in the Statement of Additional Information. Of course, the
Portfolio's advisers may decide, as a matter of investment strategy, not to use
the investments and investment techniques described below or in the Statement of
Additional Information at any particular time.
Each Portfolio is actively managed, and the portfolio managers may trade
securities frequently, resulting, from time to time, in an annual portfolio
turnover rate of over 100%. Trading securities may produce capital gains, which
are taxable when distributed to investors with non-tax-sheltered accounts.
Active trading may also increase the amount of commissions or mark-ups to
broker-dealers that the Portfolio pays when it buys and sells securities.
Each Portfolio may, from time to time, take temporary defensive positions that
are inconsistent with the Portfolio's principal investment strategies in
attempting to respond to adverse market, political or other conditions. When
doing so, the Portfolio may invest without limit in high quality money market
and
<PAGE> 45
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other short-term instruments, and may not be pursuing its investment goal. These
investments may result in a lower yield than would be available from investments
with a lower quality or longer term.
What are Money Market Instruments?
A MONEY MARKET INSTRUMENT is a short-term IOU issued by banks or other
corporations, the U.S. or a foreign government or state or local governments.
Money market instruments have maturity dates of 13 months or less. Money market
instruments may include CERTIFICATES OF DEPOSIT, BANKERS' ACCEPTANCES, VARIABLE
RATE DEMAND NOTES (where the interest rate is reset periodically and the holder
may demand payment from the issuer at any time), FIXED-TERM OBLIGATIONS,
COMMERCIAL PAPER (short term unsecured debt of corporations), ASSET-BACKED
SECURITIES (which are backed by pools of accounts receivable such as car
installment loans or credit card receivables) and REPURCHASE AGREEMENTS. In a
repurchase agreement, the seller sells a security and agrees to buy it back at a
later date (usually within seven days) and at a higher price, which reflects an
agreed upon interest rate.
MONEY MARKET PORTFOLIO
The investment objective of the Money Market Portfolio is to provide liquidity
and as high a level of income as is consistent with the preservation of capital.
This Portfolio invests primarily in high quality, short-term money market
instruments. The Portfolio may invest more than 25% of its total assets in
obligations of U.S. banks.
The Portfolio complies SEC with industry regulations applicable to money market
funds. These regulations require that the Portfolio's investments mature or be
deemed to mature within 397 days from the date of acquisition, that the average
maturity of the Portfolio's investments (on a dollar-weighted basis) be ninety
days or less, and that all of the Portfolio's investments be in U.S.
dollar-denominated high quality securities which have been determined by the
Portfolio to present minimal credit risks. Investments in high quality,
short-term instruments may, in many circumstances, result in a lower yield than
would be available from investments in instruments with a lower quality or a
longer term.
The Portfolio does not maintain a stable net asset value of $1.00 per share and
does not declare dividends on a daily basis (many money market funds do).
Investment income that has not yet been declared as a dividend, or a default on
a portfolio security, may cause the Portfolio's net asset value to fluctuate.
If the Portfolio concentrates in bank obligations, the Portfolio will be
particularly sensitive to adverse events affecting U.S. banks. Banks are
sensitive to changes in money market and general economic conditions, as well as
decisions by regulators that can affect banks' profitability.
Management of the Portfolio reflects the goal of maximizing yield, subject to
the portfolio manager's outlook for short-term interest rates and anticipated
liquidity needs. The Portfolio is constructed from an approved list of money
market issues that have passed and maintain rigorous credit facility standards.
Securities are sold when the Portfolio needs cash to meet redemptions, or when
the managers believe that better opportunities exist or that particular
securities no longer fit within the overall strategy for achieving the
Portfolio's goal. In general, the portfolio managers attempt to temper income
volatility in the Portfolio by investing significant portions of the portfolio
in securities with maturities of thirty to forty-five days.
<PAGE> 46
-38-
BOND PORTFOLIOS
What is a Bond?
A BOND, which is also called a DEBT SECURITY or DEBT OBLIGATION, is like a loan.
The issuer of the bond, which could be the U.S. government, a corporation, or a
city or state, borrows money from investors and agrees to pay back the loan
amount (the PRINCIPAL) on a certain date (the MATURITY DATE). Usually, the
issuer also agrees to pay interest on certain dates during the period of the
loan. Some bonds, such as ZERO COUPON BONDS, do not pay interest, but instead
pay back more at maturity than the original loan. Most bonds pay a fixed rate of
interest (or income), but some bonds' interest rates may change based on market
or other factors.
The investment objective of the HIGH QUALITY BOND PORTFOLIO is to provide a high
risk-adjusted return while focusing on the preservation of capital. This
Portfolio invests primarily in a diverse portfolio of high quality debt
securities with short and intermediate maturities, such as corporate bonds and
notes, mortgage-backed and asset-backed securities, U.S. Treasury and government
agency obligations, securities of foreign issuers (such as Yankee bonds) and
repurchase agreements. Under normal circumstances the Portfolio invests at least
65% of its assets in these securities.
The dollar-weighted average maturity of the Portfolio generally does not exceed
three years under normal circumstances. Individual securities held by the
Portfolio may have longer maturities. Short-term debt securities generally
fluctuate less in price, and have lower yields, than longer-term securities of
comparable quality. The Portfolio's duration generally is between one and three
years. Duration is a way of measuring the Portfolio's overall sensitivity to
interest rate fluctuations. The net asset value of a fund with a shorter
duration will generally fluctuate less in response to interest rate changes than
that of a fund with a longer duration.
The Portfolio considers securities rated BBB- or better by Standard & Poor's or
Baa 3 or better by Moody's (and securities that the Portfolio's advisers believe
are of comparable quality) to be high quality. Ratings are described in the
Statement of Additional Information. Investments in higher quality instruments
may result in a lower yield than would be available from investments in lower
quality instruments.
What are U.S. Government Obligations?
U.S. GOVERNMENT OBLIGATIONS are securities that are issued or guaranteed as to
principal and interest by the U.S. government or one of its agencies or
instrumentalities. Some obligations of U.S. government agencies and
instrumentalities are supported by the "full faith and credit" of the United
States, others by the right of the issuer to borrow from the U.S. Treasury, and
others only by the credit of the agency or instrumentality. U.S. government
obligations generally have less credit risk than other debt obligations.
The investment objective of the INTERMEDIATE GOVERNMENT BOND PORTFOLIO is to
provide as high a level of current income as is consistent with the preservation
of capital. This Portfolio invests primarily in U.S. government obligations and
repurchase agreements secured by U.S. government obligations. Under normal
circumstances the Portfolio invests at least 65% of its assets in these
securities.
The Portfolio also invests in mortgage-backed securities backed by pass-through
certificates issued or guaranteed by the U.S. government or its agencies, and in
other high quality, short-term obligations (such as corporate bonds and notes,
bank obligations and repurchase agreements). ALTHOUGH THE PORTFOLIO INVESTS IN
U.S. GOVERNMENT OBLIGATIONS, AN INVESTMENT IN THE PORTFOLIO IS NOT INSURED OR
GUARANTEED BY THE U.S. GOVERNMENT.
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The Portfolio's duration generally is between one and five years, and its
dollar-weighted average maturity generally is between three and ten years under
normal circumstances. The Portfolio may invest in securities with maturities of
as much as thirty years.
The portfolio managers of the HIGH QUALITY BOND PORTFOLIO AND INTERMEDIATE
GOVERNMENT BOND PORTFOLIO use "top down" economic analysis to determine economic
outlook and to forecast interest rates. They also analyze the yield curve under
multiple market conditions in making maturity and duration decisions for
portfolio securities. The managers of these Portfolios then attempt to select
securities that will enable each Portfolio to maintain a stable share price and
at the same time to achieve a high level of income. The managers use the same
top down approach when deciding which securities to sell. Securities are sold
when a Portfolio needs cash to meet redemptions, or when the managers believe
that better opportunities exist or that particular securities no longer fit
within the overall strategy for achieving the Portfolio's goal.
What are Mortgage-Backed Securities?
Home mortgage loans are typically grouped together into "POOLS" by banks and
other lending institutions. Interests in these pools (called MORTGAGE-BACKED
SECURITIES) are then sold to investors, allowing the bank or other lending
institution to have more money available to loan to home buyers. When homeowners
make interest and principal payments, these payments are passed on to the
investors in the pool. Most of these pools are guaranteed by U.S. government
agencies or by government sponsored private corporations -- interests in the
pool are then referred to as "GINNIE MAES", "FANNIE MAES" and "FREDDIE MACS."
Mortgaged-backed securities include COLLATERALIZED MORTGAGE OBLIGATIONS, or
CMOs.
The investment objective of the CORE BOND PORTFOLIO is to achieve maximum total
return. This Portfolio invests primarily in investment grade debt securities and
U.S. government obligations (including mortgage-backed securities guaranteed by
U.S. government agencies and instrumentalities). Under normal circumstances the
Portfolio invests at least 65% of its assets in U.S. government securities and
corporate bonds.
The Portfolio also invests in high quality, short-term obligations and
repurchase agreements, and in securities of foreign issuers.
Investment grade debt securities carry a rating of at least BBB from Standard &
Poor's or Baa from Moody's or are of comparable quality as determined by the
Portfolio's advisers.
The Portfolio's duration generally is between three and ten years, and its
dollar-weighted average maturity generally is between five and fifteen years
(and does not exceed thirty years) under normal circumstances. While longer-term
securities tend to have higher yields than short-term securities, they are
subject to greater price fluctuations as a result of interest rate changes and
other factors.
Payden & Rygel uses both "top down" and "bottom up" analysis to determine
sector, security and duration positions for the Core Bond Portfolio. These three
factors are jointly determined and are interdependent. The overall position in
the corporate sector, for example, is established in conjunction with
assessments of relative value for specific corporate securities. Extensive
bottom up analysis using a variety of valuation tools is conducted for sector
allocation and security selection. Duration policy is primarily a result of
sector allocations and expected long-term interest rate trends (rather than
short-term interest rate forecasting). Yield curve positioning is also a key
aspect of duration management. Security sales decisions are driven by the same
criteria as purchase decisions.
The investment objective of the HIGH-YIELD BOND PORTFOLIO is to provide a high
level of current income. This Portfolio invests primarily in high-yielding,
income producing debt securities, such as debentures and notes, and in
convertible and non-convertible preferred stocks. Under normal circumstances the
Portfolio invests at least 65% of its assets in debt securities and preferred
stock.
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The Portfolio may invest all or a substantial portion of its assets in
lower-rated debt securities, commonly referred to as "junk bonds." Lower-rated
debt securities offer yields that fluctuate over time but that generally are
superior to the yields offered by higher-rated securities. However, these
securities also involve significantly greater risks, including price volatility
and risk of default in the payment of interest and principal, than higher-rated
securities. Lower-rated debt securities usually are defined as securities rated
BB or lower by Standard & Poor's or Ba or lower by Moody's. See the Statement of
Additional Information for more information on ratings.
Lower quality securities tend to be issued by companies that are less secure
financially. In addition, in the event these companies have financial
difficulty, banks or other senior lenders have priority in being repaid. As a
result, when selecting investments, the Portfolio's advisers rely on fundamental
research to identify companies with adequate cash flows, attractive valuations
and strong management teams. In selecting investments for the Portfolio, the
Portfolio's advisers exclude securities that are in default or that pay interest
in the form of additional debt securities. As a result, the Portfolio may be
somewhat more conservative than certain other high-yield funds. The Portfolio is
designed to outperform more aggressive high-yield funds in high-yield market
downturns, and its performance may lag these funds in high-yield market upturns.
Of course, it is possible that the Portfolio will not perform as expected.
The Portfolio may also invest in equity securities, including common stocks,
warrants and rights. Investors should carefully consider the special risks of
investing in this Portfolio.
* * *
Fixed income securities may bear fixed, fixed and contingent, or variable rates
of interest and may involve equity features, such as conversion or exchange
rights or warrants for the acquisition of stock of the same or a different
issuer or participations based on revenues, sales or profits. Changes in
interest rates will generally cause bigger changes in prices of longer-term
securities than in prices of shorter-term securities.
Each of the Bond Portfolios may use derivatives solely for hedging purposes.
These may include options, futures, swaps and forward currency contracts.
Each of the Bond Portfolios will use short-term debt and money market
instruments, including short-term U.S. government and corporate obligations,
commercial paper, bank obligations and repurchase agreements, in varying amounts
for liquidity and cash management, and as a risk management tool.
BALANCED PORTFOLIO
The investment objective of the Balanced Portfolio is to provide a high total
investment return through investment in a broadly diversified portfolio of
stocks, bonds and money market instruments. The Portfolio invests in a managed
mix of equity and debt securities of predominately U.S. issuers. However, the
Fund may invest in securities of foreign issuers, including issuers located in
emerging, or developing, markets.
The Portfolio's equity securities include common and preferred stocks (and their
equivalents such as American Depositary Receipts). The Portfolio's debt
securities include corporate bonds, notes and commercial paper, U.S. government
securities and bank obligations.
The Portfolio varies the percentage of assets invested in any one type of
security in accordance with its adviser's interpretation of economic and market
conditions, fiscal and monetary policy, and underlying securities values.
Generally, the Portfolio invests approximately 60% of its assets in equity
securities and approximately 40% of its assets in fixed income securities
(investing at least 25% in fixed-income senior securities, including debt
securities and preferred stock).
In selecting common stocks, the Portfolio emphasizes established companies. Most
of the Portfolio's long-term debt investments are investment grade (rated BBB or
better by Standard & Poor's or Baa or better by Moody's) or considered by the
Portfolio's advisers to be of comparable quality.
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The Portfolio may use derivatives solely for hedging purposes. These may include
options, futures, swaps and forward currency contracts.
The Portfolio will use short-term debt and money market instruments, including
short-term U.S. government and corporate obligations, commercial paper, bank
obligations and repurchase agreements, in varying amounts for liquidity and cash
management, and as a risk management tool.
STOCK PORTFOLIOS
The investment objective of the VALUE & INCOME PORTFOLIO is to provide a high
level of current income through investment in a diversified portfolio of common
stocks with relatively high current yield. Capital appreciation is a secondary
goal. This Portfolio invests primarily in stocks of companies which, in the
opinion of the Portfolio's advisers, are fundamentally sound financially and
which pay relatively high dividends on a consistent basis. The Portfolio
emphasizes common stocks and preferred stocks listed on the New York Stock
Exchange and on other national securities exchanges and, to a lesser extent,
stocks that are traded over-the-counter.
What is Value Investing?
Funds that use a VALUE-ORIENTED STRATEGY search for those companies that appear
to be trading below their true worth. These companies tend to have relatively
low price/earnings ratios and/or relatively low price/book value ratios. Low
price/earnings ratios or price/book value ratios mean that a stock is less
expensive than average relative to the company's earnings or book value,
respectively. These funds use research to identify potential investments,
examining such features as a firm's financial condition, business prospects,
competitive position and business strategy. They look for companies that appear
likely to come back into favor with investors, for reasons that may range from
good prospective earnings or strong management teams to new products or
services. A fund's advisers may not be correct in its determinations of
companies that are in fact undervalued, but have good longer term business
prospects.
The investment objective of the EQUITY VALUE PORTFOLIO is to provide a high
total investment return through investment primarily in a diversified portfolio
of common stocks. This Portfolio invests primarily in stocks of companies which,
in the opinion of the Portfolio's advisers, are trading at low valuations
relative to market and/or historical levels. These stocks tend to have
relatively low price/earnings ratios and/or relatively low price/book value
ratios. Low price/earnings ratios or price/book value ratios mean that the stock
is less expensive than average relative to the company's earnings or book value,
respectively. The Portfolio emphasizes common stocks and preferred stocks listed
on the New York Stock Exchange and on other national securities exchanges and,
to a lesser extent, stocks that are traded over-the-counter.
The portfolio managers of the VALUE & INCOME PORTFOLIO and EQUITY VALUE
PORTFOLIO use a "bottom up" value-oriented approach in selecting investments for
the Portfolios. When portfolio managers use a "bottom up" approach, they look
primarily at individual companies against the context of broader market factors.
A value-oriented approach attempts to identify companies that appear to be
trading below their true worth. The managers use the same bottom up approach
when deciding which securities to sell. Securities are sold when a Portfolio
needs cash to meet redemptions, or when the managers believe that better
opportunities exist or that particular securities no longer fit within the
overall strategy for achieving the Portfolio's goals.
The investment objective of the GROWTH & INCOME PORTFOLIO is to provide capital
appreciation and current income. This Portfolio invests primarily in securities
selected in large part for their potential to generate long-term capital
appreciation. The Portfolio also may select securities based on their potential
to generate current income. The Portfolio emphasizes securities of growing,
financially stable and undervalued companies. This Portfolio attempts to achieve
more capital appreciation than an income fund and less price volatility than a
growth fund. The Portfolio emphasizes common stocks and preferred
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stocks listed on the New York Stock Exchange and on other national securities
exchanges and, to a lesser extent, stocks that are traded over-the-counter.
The investment objective of the EQUITY GROWTH PORTFOLIO is to provide a high
level of capital appreciation through investment in a diversified portfolio of
common stocks with a potential for above-average growth in earnings. Current
income is a secondary goal. This Portfolio invests primarily in common stocks of
companies with potential for above average growth in earnings and dividends.
Under normal circumstances the Portfolio invests at least 65% of its assets in
equity securities. The Portfolio emphasizes common and preferred stocks listed
on the New York Stock Exchange and other national securities exchanges and, to a
lesser extent, stocks that are traded over-the-counter. The Portfolio uses
multiple managers to control the volatility often associated with growth funds.
What is Growth Investing?
Funds that use a GROWTH-ORIENTED STRATEGY search for companies growing faster
than the economy as a whole. Often, these companies are in expanding industries,
such as computers and pharmaceuticals. While the size of a company is not
necessarily a factor in determining whether its stock is suitable for a growth
fund, a growth strategy that focuses on larger companies is generally considered
less aggressive than one that focuses on smaller companies. Many stocks owned by
growth funds do not pay dividends and can be more volatile than other types of
investments. A fund's advisers may fail to pick stocks that outperform the
economy or that do as well as the economy. As a result, growth funds are
appropriate for investors who have long-term investment horizons. A fund's
adviser may not be correct in its determination of companies that are in fact
undervalued, but have good longer term business prospects.
The investment objective of the SPECIAL EQUITY PORTFOLIO is to provide a high
level of capital appreciation through investment in a diversified portfolio of
common stocks of small to medium size companies. This Portfolio invests
primarily in stocks of small to medium size companies which, in the opinion of
the Portfolio's advisers, present an opportunity for significant increases in
earnings, revenue and/or value, without consideration for current income. The
Special Equity Portfolio emphasizes common stocks of U.S. companies with market
capitalizations of less than $1 billion. The Portfolio uses multiple managers to
control the volatility often associated with investments in companies of this
size. The Portfolio is actively managed, and the portfolio manager may trade
securities frequently, resulting, from time to time, in an annual portfolio
turnover rate of over 100%. The Portfolio utilizes two growth-style managers and
two value-oriented managers. The Portfolio is designed to provide an opportunity
for higher returns relative to the broad small cap market during periods when a
particular style is out of favor.
Investing in securities of smaller companies involves special risks. Investors
should carefully consider the risks of investing in the Special Equity
Portfolio.
The investment objective of the AGGRESSIVE EQUITY PORTFOLIO is to provide a high
level of capital appreciation primarily through investing in a diversified
portfolio of common stocks. This Portfolio invests primarily in high growth
companies without regard to market capitalization. The Portfolio seeks to invest
in companies which present an opportunity for significant increases in earnings,
revenue and/or value, without consideration for current income, to achieve
excess market returns relative to its benchmark, the Russell 2000 Growth Index.
The Portfolio also emphasizes stocks of companies with consistent, above-average
and accelerating profitability and growth. The Portfolio invests primarily in
common stocks. The investment characteristics, such as price-to-earnings ratio,
of the Portfolio can undergo major changes at any time. As a result, the value
of shares of this Portfolio may be very volatile. The Portfolio is actively
managed, and the portfolio manager may trade securities frequently, resulting,
from time to time, in an annual portfolio turnover rate of over 100%.
The portfolio managers of the GROWTH & INCOME PORTFOLIO, EQUITY GROWTH
PORTFOLIO, SPECIAL EQUITY PORTFOLIO and AGGRESSIVE EQUITY PORTFOLIO use a
"bottom up" approach in selecting securities, relying primarily on stock
selection against the context of broader market factors. These managers look for
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companies that they believe are in dynamic high growth sectors of the world
economy, and that are thought to have dominant or strong competitive positions
within their sectors. They also look for companies that are expected to have
strong earnings growth potential. The managers use the same bottom up approach
when deciding which securities to sell. Securities are sold when a Portfolio
needs cash to meet redemptions, or when the managers believe that better
opportunities exist or that particular securities no longer fit within the
overall strategy for achieving the Portfolio's goals.
The investment objective of the INTERNATIONAL EQUITY PORTFOLIO is to provide a
high level of long-term capital appreciation through investment in a diversified
portfolio of securities of foreign issuers. This Portfolio invests primarily in
foreign securities, meaning securities of issuers that, in the opinion of the
Portfolio's advisers, have their principal activities outside the United States
or whose securities are traded primarily outside the United States. Under normal
circumstances the Portfolio invests at least 65% of its assets in equity
securities of issuers in at least three countries other than the United States.
The Portfolio invests most of its assets in securities of issuers in Canada,
Australia and developed countries in Europe and the Far East. The Portfolio may
invest up to 10% of its assets in securities of issuers in developing countries.
The Portfolio may also invest in any type or quality of debt securities,
including lower-rated securities, and may enter into forward currency exchange
contracts solely for hedging purposes.
The portfolio managers of the International Equity Portfolio use a "bottom-up"
approach in which stock selection is based on in-depth local research. In
selecting individual securities, the portfolio managers use a value-oriented
strategy to identify companies that appear to be trading below their true worth.
The managers blend their basic, fundamental approach with macroeconomics and
political judgments on the outlook for economies, industries, currencies and
markets. The managers also use a bottom up approach when deciding which
securities to sell. Securities are sold when the Portfolio needs cash to meet
redemptions, or when the managers believe that better opportunities exist or
that particular securities no longer fit within the overall strategy for
achieving the Portfolio's goal.
* * *
Each of the Stock Portfolios may use derivatives solely for hedging purposes.
These may include options, futures, swaps and forward currency contracts.
Each of the Stock Portfolios may also invest in bonds and short-term obligations
as well as securities convertible into common stocks, preferred stocks, debt
securities and short-term obligations. These Portfolios will use short-term
obligations and money market securities, including commercial paper, bank
obligations and repurchase agreements, in varying amounts for liquidity and cash
management, and as a risk management tool.
ADDITIONAL INVESTMENT POLICIES
Investment Restrictions
The Statement of Additional Information contains a list of specific investment
restrictions which govern the investment policies of the Portfolios. Under its
investment restrictions, each Portfolio may borrow money and enter into reverse
repurchase agreements in an amount not to exceed 33 1/3% of the Portfolio's
assets (including the borrowing) less liabilities (not including the borrowing).
Except as otherwise noted, the Portfolios' investment objectives and policies
may be changed without shareholder approval. If a percentage or rating
restriction (other than a restriction as to borrowing) is adhered to at the time
an investment is made, a later change in percentage or rating resulting from
changes in a Portfolio's securities is not a violation of policy.
Brokerage Transactions
The primary consideration in placing each Portfolio's securities transactions
with broker-dealers for execution is to obtain and maintain the availability of
execution at the most favorable prices and in the
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most effective manner possible. A Portfolio may execute brokerage or other
agency transactions through an investment adviser or distributor of the
Portfolio. These entities may be paid for these transactions.
CORE/FEEDER STRUCTURE
Each Subaccount which invests in a Portfolio does so through a two tier,
core/feeder fund structure in which each such Subaccount invests in a
corresponding Portfolio.
In addition to selling beneficial interests to such Subaccounts, Diversified
Investors Portfolios may sell beneficial interests in its series to other
insurance company separate accounts, mutual funds, collective investment
vehicles or institutional investors. Such investors will invest in a Portfolio
on the same terms and conditions as the applicable Subaccount and will pay a
proportionate share of the Portfolio's expenses. However, the other investors
investing in such Portfolio are not required to sell their shares at the same
public offering price as the Subaccount due to variations in sales commissions
and other operating expenses. Therefore, Contractholders should be aware that
these differences may result in differences in returns experienced by investors
in the different entities that invest in each Portfolio.
Smaller entities investing in a Portfolio may be materially affected by the
actions of larger entities investing in that Portfolio. For example, if a large
fund withdraws from a Portfolio, the remaining investors may experience higher
pro rata operating expenses, thereby producing lower returns. Additionally, the
affected Portfolio may become less diverse, resulting in increased portfolio
risk. (However, this possibility also exists for any type of collective
investment vehicle which has institutional or other large investors.) Also,
investors with a greater pro rata ownership in a Portfolio could have effective
voting control of the operations of that series. Whenever a Subaccount is
requested to vote on matters pertaining to a Portfolio (other than a vote to
continue the Portfolio upon the withdrawal of an investor in the Portfolio),
AUSA, as the legal owner of all assets in the Subaccount, shall vote in
accordance with the procedures set forth under "Voting Rights" at page 26,
including, to the extent required by law, procedures through which AUSA shall
receive instructions with respect to such vote from Contractholders and/or
Participants. Certain changes in the investment objectives, policies or
restrictions of a Portfolio may require that AUSA withdraw a Subaccount's
interest in that Portfolio. Any such withdrawal could result in a distribution
"in kind" of portfolio securities (as opposed to a cash distribution from the
Portfolio). If securities are distributed, the Subaccount could incur brokerage
or other charges in converting the securities to cash. In addition, the
distribution in kind may result in a less diversified portfolio of investments
or adversely affect the liquidity of the Subaccount. Notwithstanding the above,
there are other ways for Diversified Investors Portfolios to meet redemption
requests from its investors, such as temporary borrowings.
RISK CONSIDERATIONS
The risks of investing in each Portfolio vary depending upon the nature of the
securities held, and the investment practices employed, on its behalf. For
example, Portfolios investing more of their assets in fixed income securities
may be more susceptible to interest rate risk and credit risk than Portfolios
investing more of their assets in equity securities. Similarly, Portfolios
investing more of their assets in equity securities may be susceptible to
greater price volatility under certain circumstances than Portfolios investing
more of their assets in fixed income securities. Certain of these risks are
described in this section.
The net asset value of each Portfolio will change daily as the value of its
underlying securities change. This means that an investor's shares may be worth
more or less at the time of redemption than at the time of purchase. An investor
may receive little or no return on an investment in the Portfolios. An investor
may lose money by investing in the Portfolios.
Certain of the investment practices employed for the Portfolios may entail
certain risks in addition to the risks described below. These risks are
described in the Statement of Additional Information.
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MARKET RISK. This is the risk that the prices of securities will rise or fall
due to changing economic, political or market conditions, or due to a company's
individual situation. The value of some securities held by certain of the
Portfolios may be quite volatile. Historically, equity securities have been more
volatile than most debt securities in response to market risk.
INTEREST RATE RISK. In general, the prices of debt securities rise when interest
rates fall, and fall when interest rates rise. Longer term obligations are
usually more sensitive to interest rate changes than shorter term obligations. A
change in interest rates could cause a Portfolio's share price to go down.
Generally, the longer the average maturity of the bonds in a Portfolio, the more
the Portfolio's share price will fluctuate in response to interest rate changes.
CREDIT RISK. Some issuers may not make payments on debt securities held by a
Portfolio, causing a loss. Or, an issuer may suffer adverse changes in its
financial condition that could lower the credit quality of a security, leading
to greater volatility in the price of the security and in shares of a Portfolio.
A change in the quality rating of a bond or other security can also affect the
security's liquidity and make it more difficult for a Portfolio to sell. The
lower quality debt securities in which the Portfolios may invest are more
susceptible to these problems than higher quality obligations. Investments held
by the High-Yield Bond Portfolio will be particularly susceptible to credit
risk. U.S. government securities are generally considered not to be subject to
credit risk.
PORTFOLIO SELECTION FOR THE BOND PORTFOLIOS. The advisers of the Bond Portfolios
may not pick securities that perform well because they are unable to predict
accurately the direction of interest rates or the maturity of certain debts
obligations or to assess accurately credit quality or other factors. In that
case, investors in a Bond Portfolio may lose money or their investment in such a
Portfolio may not do as well as other similar investments.
GROWTH SECURITIES. Growth securities typically are quite sensitive to market
movements because their market prices tend to reflect future expectations. When
it appears those expectations will not be met, the prices of growth securities
typically fall. In addition, a Portfolio investing in growth securities may
underperform certain other stock funds (those emphasizing value stocks, for
example) during periods when growth stocks are out of favor.
PORTFOLIO SELECTION FOR THE GROWTH & INCOME PORTFOLIO AND EQUITY GROWTH
PORTFOLIO. The success of the Growth & Income and Equity Growth Portfolios'
investment strategy depends largely on the skill of those Portfolios' advisers
in assessing the growth potential of companies in which the Portfolios invest.
The advisers may fail to pick stocks that outperform the market or that do as
well as the market. In that case, investors in one of these Portfolios may lose
money or their investment may not do as well as an investment in another stock
fund using a growth approach.
VALUE INVESTING. When a Portfolio's portfolio managers use a value oriented
approach in managing the Portfolio, they look for securities that they believe
are currently undervalued, or priced below their true worth, but whose issuers
have good longer term prospects. An issuer may be undervalued relative to the
stock market in general, relative to the underlying value of its assets or
relative to what a sophisticated private investor would pay for the entire
company. Value investing is based on the belief that securities of companies
which are temporarily underpriced may provide a higher total return over time
than securities of companies whose positive attributes are reflected in the
securities' current price.
A security may not achieve its expected value because the circumstances causing
it to be undervalued worsen (causing the price to decline further) or do not
change. In addition, Portfolios with a value orientation may underperform
certain other stock funds (those emphasizing growth stocks, for example) during
periods when value stocks are not in favor.
PORTFOLIO SELECTION FOR VALUE INVESTING. The success of a Portfolio using a
value approach depends largely on the adviser's skill in identifying securities
of companies that are in fact undervalued, but have good longer term business
prospects. The advisers may not be correct in their determinations. In that
case, investors in such a Portfolio may lose money or their investment in the
Portfolio may not do as well as an investment in another stock fund using a
value approach.
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PORTFOLIO SELECTION. The advisers of the Bond Portfolios and the Balanced
Portfolio may not pick securities that perform well because they are unable to
predict accurately the direction of interest rates or the repayment of certain
debt obligations or to assess accurately fundamental changes affecting credit
quality or other factors. In that case, investors in a Bond Portfolio or the
Balanced Portfolio may lose money, or their investment in a Bond Portfolio or
the Balanced Portfolio may not do as well as investments in other fixed income
funds or balanced funds.
The success of the Growth & Income and Equity Growth Portfolios' investment
strategy depends largely on the skill of those Portfolios' advisers in assessing
the growth potential of companies in which the Portfolios invest. The advisers
may fail to pick stocks that outperform the market or that do as well as the
market. In that case, investors in those Portfolios may lose money or their
investment may not do as well as an investment in another stock fund using a
growth approach.
The success of a Portfolio using a value approach, such as the Value & Income,
Equity Value and International Equity Portfolios, depends largely on the
adviser's skill in identifying securities of companies that are in fact
undervalued, but have good longer term business prospects. The advisers may not
be correct in their determinations. In that case, investors in these Portfolios
may lose money or their investment in the Portfolio may not do as well as an
investment in another stock fund using a value approach.
SMALLER COMPANIES. The securities of smaller capitalization companies may have
more risks than those of larger, more seasoned companies. They may be
particularly susceptible to market downturns because of limited product lines,
markets, distribution channels or financial and management resources. Also,
there may be less publicly available information about small cap companies.
Investments in small cap companies may be in anticipation of future products or
services to be provided by the companies. If those products or services are
delayed, the prices of the securities of the companies may drop. Sometimes, the
prices of the securities of smaller capitalized companies rise and fall based on
investor perception rather than economics. Securities of small cap companies may
be thinly traded, making their disposition more difficult. For all these
reasons, the prices of the securities of small cap companies may be more
volatile, causing a Portfolio's share price to be volatile. Portfolios that
invest a higher percentage of their assets in small cap stocks are generally
more volatile than funds investing a higher percentage of their assets in
larger, more established companies. Investments held by the Special Equity
Portfolio are likely to be particularly susceptible to the risks of small cap
companies.
FOREIGN SECURITIES. Each Portfolio may invest a portion of its assets in foreign
securities. The International Equity Portfolio will invest a substantial portion
of its assets in foreign securities. Investing in foreign securities involves
risks in addition to those of investing in U.S. securities, including risks
relating to political, social and economic developments abroad, as well as risks
resulting from the differences between the regulations to which U.S. and foreign
issuers and markets are subject.
- These risks may include expropriation of assets, confiscatory taxation,
withholding taxes on dividends and interest paid on Portfolio
investments, currency exchange controls and other limitations on the use
or transfer of Portfolio assets and political or social instability.
- Foreign companies may not be subject to accounting standards or
governmental supervision comparable to U.S. companies, and there may be
less public information about their operations.
- Foreign markets may be less liquid and more volatile than U.S. markets.
Rapid increases in money supply may result in speculative investing,
contributing to volatility. Also, equity securities may trade at
price-earnings multiples that are higher than those of comparable U.S.
companies, and that may not be sustainable. As a result, there may be
rapid changes in the value of foreign securities.
- Foreign markets may offer less protection to investors. Enforcing legal
rights may be difficult, costly and slow. There may be special problems
enforcing claims against foreign governments.
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- Since foreign securities often trade in currencies other than the U.S.
dollar, changes in currency exchange rates will affect a Portfolio's net
asset value, the value of dividends and interest earned, and gains and
losses realized on the sale of securities. An increase in the U.S.
dollar relative to these other currencies will adversely affect the
value of the Portfolio. In addition, some foreign currency values may be
volatile and there is the possibility of governmental controls on
currency exchanges or governmental intervention in currency markets.
Controls or intervention could limit or prevent a Portfolio from
realizing value in U.S. dollars from its investment in foreign
securities.
- The International Equity Portfolio and the Balanced Portfolio may invest
in issuers located in emerging, or developing, markets. Emerging or
developing countries are generally defined as countries in the initial
stages of their industrialization cycles with low per capita income. All
of the risks of investing in foreign securities are heightened by
investing in developing countries. The markets of developing countries
have been more volatile than the markets of developed countries with
more mature economies. These markets often have provided higher rates of
return, and greater risks, to investors, but they also may provide lower
rates of return or negative returns, for extended periods.
PREPAYMENT AND EXTENSION RISK. The issuers of debt securities held by a
Portfolio may be able to prepay principal due on the securities, particularly
during periods of declining interest rates. The Portfolio may not be able to
reinvest that principal at attractive rates. The Portfolio would also lose the
benefit of falling interest rates on the price of the repaid bond. Securities
subject to prepayment risk generally offer less potential for gains when
interest rates decline, and may offer a greater potential for loss when interest
rates rise. Also, rising interest rates may cause prepayments to occur at slower
than expected rates. This effectively lengthens the maturities of the affected
securities, making them more sensitive to interest rate changes and the
Portfolio's share price more volatile. Mortgage-backed securities are
particularly susceptible to prepayment risk and their prices may be volatile.
SPECIAL CHARACTERISTICS OF CONVERTIBLE SECURITIES. Convertible securities, which
are debt securities that may be converted into stock, are subject to the market
risk of stocks, and, like other debt securities, are also subject to interest
rate risk and the credit risk of their issuers. Call provisions may allow the
issuer to repay the debt before it matures.
DERIVATIVES. Each Portfolio may, but is not required to, engage in certain
investment strategies involving derivatives (such as options, futures, swaps and
forward currency contracts). These investment strategies may be employed only in
connection with hedging activities such as the following:
- protecting against a decline in value of a Portfolio's current or
anticipated securities holdings;
- as a substitute for buying or selling portfolio holdings; and
- seeking to generate income to offset expenses or increase return.
A hedge is designed to neutralize a loss on a portfolio position with a gain in
the hedge position. A properly executed hedge will result in a loss in the
portfolio position being offset by a gain in the hedge position, or vice versa.
However, the market movement of a hedge may not be of the same magnitude as the
market movement of the hedged position. The success or failure of a hedging
transaction will depend on the advisers' ability to predict movements in the
hedge, the investment being hedged and the market in general (and the
correlation between these factors). If these predictions are wrong, or if the
derivatives do not work as anticipated, the Portfolio could suffer greater
losses than if the Portfolio had not used derivatives. Derivatives may involve a
small investment of cash relative to the magnitude of the risk being taken.
Derivatives may not always be available on terms that make economic sense (for
example, they may be too costly), and, when used, their transaction costs and
premiums may adversely affect Portfolio performance. The ability to use
derivatives to hedge may also be restricted by limits established by securities
and commodities exchanges and by tax considerations.
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MANAGEMENT OF DIVERSIFIED INVESTORS PORTFOLIOS
BOARD OF TRUSTEES
The Board of Trustees of Diversified Investors Portfolios provides broad
supervision over the affairs of Diversified Investors Portfolios. For further
information about the Board of Trustees, see "Management of Diversified
Investors Portfolios" in the Statement of Additional Information. A majority of
the Board of Trustees are not affiliated with Diversified or any Subadviser.
INVESTMENT ADVISER
Diversified manages the assets of each Portfolio pursuant to an Investment
Advisory Agreement with Diversified Investors Portfolios with respect to that
Portfolio and in accordance with the investment policies described herein and in
the Statement of Additional Information. Subject to such further policies as the
Board of Trustees may determine, Diversified provides general investment advice
to each Portfolio. It is Diversified's responsibility to select, subject to the
review and approval of the Diversified Investors Portfolio's Board of Trustees,
appropriate subadvisers with distinguished backgrounds and to review such
subadviser's continued performance. For its services under the Investment
Advisory Agreements, Diversified receives from each Portfolio the fees specified
below. Diversified is currently waiving a portion of its investment advisory
fee. Investment management decisions are taken by a committee of Diversified's
personnel and not by a particular individual.
Diversified is an indirect, wholly-owned subsidiary of AEGON USA, Inc.
("AEGON"), a financial services holding company whose primary emphasis is life
and health insurance and annuity and investment products. AEGON is an indirect,
wholly-owned subsidiary of AEGON N.V., a Netherlands corporation which is a
publicly traded international insurance group. Diversified was incorporated in
1992 for the purpose of acting as the investment adviser to the Portfolios.
Diversified Investors Portfolios has obtained an exemptive order from the
Securities and Exchange Commission to permit the Portfolios, pursuant to
approval by the Board of Trustees, to enter into and materially amend contracts
with subadvisers without the approval of the investors of the applicable
Portfolio. Before a Portfolio relies on the exemptive order, the Portfolio's
investors must approve it. To date, the investors of the Core Bond, Balanced,
Equity Growth and Special Equity Portfolios have each approved operation under
the exemptive order.
Diversified has selected Subadvisers for each Portfolio which have been approved
by the Board of Trustees of Diversified Investors Portfolios and, except as
permitted by the Portfolios exemptive order, the investors in that Portfolio and
was entered into an Investment Subadvisory Agreement with each Subadviser. It is
the responsibility of the Subadviser(s) to each Portfolio to make the day-to day
investment decisions for the Portfolio and to place the purchase and sale orders
for securities transactions, subject in all cases to the general supervision of
Diversified and the policies set by the Trustees of Diversified Investors
Portfolios. The Subadvisers are as follows and, except as otherwise noted,
investment decisions are made by a committee of each subadviser's personnel:
MONEY MARKET PORTFOLIO AND
INTERMEDIATE GOVERNMENT BOND PORTFOLIO
Capital Management Group. Capital Management Group is a division of 1740
Advisers, Inc., a wholly-owned subsidiary of The MONY Group, Inc. Capital
Management Group has been a registered investment adviser since 1971. The
address of Capital Management Group is 1740 Broadway, New York, New York 10019.
The following representatives of Capital Management Group are primarily
responsible for the day-to-day management of the Portfolios indicated:
Money Market Portfolio: David E. Wheeler, Investment Vice President and
Portfolio Manager, has been responsible for the day-to-day management of the
Money Market Portfolio since 1997. Mr. Wheeler has
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been employed by Capital Management Group since 1994 and was employed at AIG
Investment Advisers prior to 1994.
Intermediate Government Bond Portfolio: Gregory Staples, Vice President, has
been responsible for the day-to-day management of the Intermediate Government
Bond Portfolio since 1994. Mr. Staples has been employed by Capital Management
Group since 1987.
CORE BOND PORTFOLIO
Payden & Rygel. Payden was formed in 1984 and is owned by certain of its
employees. Payden (or its predecessor) has been a registered investment adviser
since 1983. The principal business address of Payden is 333 South Grand Avenue,
32nd Floor, Los Angeles, California 90071.
HIGH QUALITY BOND PORTFOLIO
Merganser Capital Management Limited Partnership. Merganser was formed in 2000,
as a successor to an investment adviser formed in 1984, and is owned by certain
of its employees. Merganser, or its predecessor, has been a registered
investment adviser since 1984. The principal business address of Merganser is
One Cambridge Center, Cambridge, Massachusetts 02142.
HIGH-YIELD BOND PORTFOLIO
Delaware Investment Advisers. Delaware Investment Advisers is a series of
Delaware Management Business Trust. Delaware is indirectly owned by Lincoln
National Corp. Delaware and its predecessors have been registered investment
advisers since 1952. The principal business address of Delaware Investment
Advisers is 2005 Market Street, Philadelphia, Pennsylvania 19103.
BALANCED FUND
Aeltus Investment Management, Inc.
Payden & Rygel
Aeltus Investment Management, Inc. Aeltus was formed in 1972 and is an indirect
wholly-owned subsidiary of Aetna Inc. Aeltus has been a registered investment
adviser since 1972. The principal business address of Aeltus is 10 State House
Square, Hartford, Connecticut 06103-3602.
Geoffrey A. Brod, Portfolio Manager, has been responsible for the day-to-day
supervision of the Balanced Fund on behalf of Aeltus since 1999 and has been
employed by Aeltus or its parent company since 1966.
Payden & Rygel. Payden was formed in 1984 and is owned by certain of its
employees. Payden (or its predecessor) has been a registered investment adviser
since 1983. The principal business address of Payden is 333 South Grand Avenue,
32nd Floor, Los Angeles, California 90071.
VALUE & INCOME PORTFOLIO
Asset Management Group
Sanford C. Bernstein & Co., Inc.
Asset Management Group. Asset Management Group is a division of 1740 Advisers,
Inc., which is a wholly-owned subsidiary of The MONY Group, Inc. Asset
Management Group has been a registered investment adviser since 1971. The
address of Asset Management Group is 1740 Broadway, New York, New York 10019.
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Sanford C. Bernstein & Co., Inc. Sanford Bernstein was incorporated in 1969 and
is owned by Sanford C. Bernstein Inc. Sanford Bernstein has been a registered
investment adviser since 1975. The address of Sanford Bernstein is 1767 Fifth
Avenue, New York, New York 10153.
EQUITY VALUE PORTFOLIO
Sanford C. Bernstein & Co., Inc. Sanford Bernstein was incorporated in 1969 and
is owned by Sanford C. Bernstein Inc. Sanford Bernstein has been a registered
investment adviser since 1975. The address of Sanford Bernstein is 1767 Fifth
Avenue, New York, New York 10153.
GROWTH & INCOME PORTFOLIO
Putnam Advisory Company, Inc. Putnam was formed in 1937 and is owned by Putnam
Investments, Inc., which is in turn, other than a minority interest owned by
employees, owned by Marsh & McLennan Companies, Inc. Putnam manages
institutional assets and has been a registered investment adviser since 1968.
The principal address of Putnam is One Post Office Square, Boston, Massachusetts
02109.
EQUITY GROWTH PORTFOLIO
Dresdner RCM Global Investors LLC
Montag & Caldwell Incorporated
Dresdner RCM Global Investors LLC was established in 1996, when Dresdner Bank AG
acquired RCM Capital Management. Dresdner RCM has been a registered investment
adviser since 1972. The principal address of Dresdner RCM is Four Embarcadero
Center, San Francisco, California 94111.
Montag & Caldwell Incorporated was established in 1945 and is owned by Alleghany
Corporation. Montag & Caldwell has been a registered investment adviser since
1968. The principal address of Montag & Caldwell is 3455 Peachtree Road, N.E.,
Suite 1200, Atlanta, Georgia 30326-3248.
SPECIAL EQUITY PORTFOLIO
Goldman Sachs Asset Management
Husic Capital Management
RS Investment Management, L.P.
Westport Asset Management, Inc.
Created in 1988, Goldman Sachs Asset Management ("Goldman Sachs") is a unit of
the Investment Management Division of Goldman, Sachs & Co., a worldwide
investment banking firm, with numerous offices throughout the United States and
globally. The business address of the Goldman Sachs branch office responsible
for managing the Portfolio is 2502 Rocky Point Drive, Suite 500, Tampa, Florida
33607.
Herbert E. Ehlers, Managing Director, and Timothy G. Ebright, Portfolio Manager,
have been responsible for the day-to-day management of the Special Equity
Portfolio on behalf of Liberty Investment Management, Inc. ("Liberty"), and now
Goldman Sachs, since 1994. Mr. Ehlers and Mr. Ebright have been employed by
Goldman Sachs since 1997. Before that, they were employed by Liberty or its
predecessor, Eagle Asset Management, Inc., since 1980 and 1988, respectively.
Husic Capital Management Husic was founded in March 1986 and is a California
limited partnership. The General Partner of Husic is Frank J. Husic & Co., a
California corporation. Mr. Husic has been a registered investment adviser since
1986. The principal business address of Husic is 555 California Street, Suite
2900, San Francisco, California 94104. Mr. Husic and Ronald J. Leong are jointly
responsible for the day-to-day management of the Special Equity Fund on behalf
of Husic. Mr. Husic is the founder of the firm and is Chief Investment Officer.
Mr. Leong has been employed by Husic since 1988.
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RS Investment Management, L.P. RS was formed in 1994 and is owned by certain of
its employees. RS (or its predecessor) has been a registered investment adviser
since 1984. The principal business address of RS is 388 Market Street, Suite
200, San Francisco, California 94111.
David J. Evans, Portfolio Manager, has been responsible for the day-to-day
supervision of management of the Special Equity Fund on behalf of RS Investment
Management, L.P. since 1999 and has been employed by RS Investment Management,
L.P. since 1989.
Westport Asset Management, Inc. was formed in 1983 and is owned by certain of
its employees. Westport has been a registered investment adviser since 1983. The
principal business address of Westport is 253 Riverside Avenue, Westport,
Connecticut 06880.
Andrew Knuth, Portfolio Manager, has been responsible for the day-to day
management of the Special Equity Portfolio on behalf of Westport since 1994 and
has been employed by Westport since 1983.
AGGRESSIVE EQUITY PORTFOLIO
McKinley Capital Management, Inc. McKinley was formed in March of 1991 and is
owned by Robert B. Gillam. In 1998 and 1999 McKinley awarded equity interest to
key employees. McKinley has been a registered investment adviser since 1991. The
principal business address of McKinley is 3301 C Street, Anchorage, Alaska
99503.
Robert B. Gillam, Portfolio Manager, has been responsible for the day-to-day
supervision of management of the Aggressive Equity Portfolio since 1996 and has
been employed by McKinley since 1991.
INTERNATIONAL EQUITY PORTFOLIO
Capital Guardian Trust Company. Capital Guardian was formed in 1968 and is owned
by Capital Group International, Inc., which is owned by The Capital Group
Companies, Inc. Capital Guardian is a trust company regulated by the California
Department of Financial Institutions. The principal address of Capital Guardian
is 333 South Hope Street, Los Angeles, California 90071.
Capital Guardian uses a system of multiple portfolio managers. Within investment
guidelines, each portfolio manager makes individual decisions as to company,
country, industry, timing and percentage based on extensive field research and
direct company contact.
ADVISORY FEES
For the fiscal year ended December 31, 1999, Diversified and the subadvisers
received aggregate advisor fees (after waivers) equal to that percentage of each
Fund's average daily net assets set forth in the table below.
<TABLE>
<S> <C>
Money Market Fund 0.25%
High Quality Bond Fund 0.35%
Intermediate Government Bond Portfolio 0.35%
Core Bond Portfolio 0.35%
High-Yield Bond Portfolio 0.55%
Balanced Portfolio 0.45%
Value & Income Portfolio 0.45%
Equity Value Portfolio 0.57%
Growth & Income Portfolio 0.60%
Equity Growth Portfolio 0.62%
Special Equity Portfolio 0.80%
Aggressive Equity Portfolio 0.97%
International Equity Portfolio 0.75%
</TABLE>
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ADMINISTRATOR
Diversified provides administrative services to the Portfolios, including
regulatory reporting, office facilities and equipment and personnel. Diversified
receives no additional fee for its administrative services to Diversified
Investors Portfolios.
DISTRIBUTION ARRANGEMENTS
Diversified Investors Portfolios has retained the services of DISC as Exclusive
Placement Agent. The principal business address of DISC is Four Manhattanville
Road, Purchase, New York 10577. DISC receives no compensation as Exclusive
Placement Agent.
CUSTODIAN AND DIVIDEND DISBURSING AGENT
Investors Bank & Trust Company, 89 South Street, Boston, Massachusetts 02205, is
the custodian of the securities held by the Portfolios and is authorized to use
the facilities of the Depositary Trust Company and the facilities of the
book-entry system for the Federal Reserve Bank. Securities may be held by sub-
custodians approved by the Board of Trustees of Diversified Investors
Portfolios. Investors Bank & Trust Company is also dividend-disbursing agent for
Diversified Investors Portfolios.
EXPENSES
The expenses of Diversified Investors Portfolios include the compensation of its
Trustees who are not affiliated with Diversified; governmental fees; interest
charges; taxes; fees and expenses of independent auditors, of legal counsel and
of any transfer agent, depository, registrar or dividend disbursing agent of
Diversified Investors Portfolios; insurance premiums; and expenses of
calculating the net asset value of, and the net income on, beneficial interests
in the series of Diversified Investors Portfolios. Expenses of Diversified
Investors Portfolios also include the expenses connected with the execution,
recording and settlement of securities transactions; fees and expenses of
Diversified Investors Portfolios' custodian for all services to the series of
Diversified Investors Portfolios, including safekeeping of funds and securities
and maintaining required books and accounts; expenses of preparing and mailing
reports to investors and to governmental officers and commissions; expenses of
meetings of investors and Trustees of Diversified Investors Portfolios; and the
advisory fees payable to Diversified under the Investment Advisory Agreements.
OTHER INFORMATION REGARDING
DIVERSIFIED INVESTORS PORTFOLIOS
PURCHASE AND REDEMPTION OF INTERESTS IN DIVERSIFIED INVESTORS PORTFOLIOS
Beneficial interests in the Portfolios described in this Prospectus are
currently being offered by DISC to AUSA for allocation to the appropriate
Variable Funds Subaccount to fund benefits payable under the Contracts.
Investments in the Portfolios may only be made by investment companies,
insurance company separate accounts, common or commingled trust funds or similar
organizations or entities that are "accredited investors" within the meaning of
Regulation D under the 1933 Act. This Prospectus does not constitute an offer to
sell, or the solicitation of an offer to buy, any beneficial interests in any of
the Portfolios.
The net asset value of each Portfolio is determined each day during which the
Advisers of that Portfolio are open for business ("Portfolio Business Day").
This determination is made once each day as of 4:00 p.m., New York time (the
"Valuation Time").
Each investor in a Portfolio may add to or reduce its investment in such
Portfolio on each Portfolio Business Day. As of the Valuation Time on each such
day, the value of each investor's beneficial interest in a Portfolio will be
determined by multiplying the net asset value of the Portfolio by the
percentage, effective for that day, which represents that investor's share of
the aggregate beneficial interests in the
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Portfolio. Any additions or reductions, which are to be effected as of the
Valuation Time on such day, will then be effected. The investor's percentage of
the aggregate beneficial interests in a Portfolio will then be recomputed as the
percentage equal to the fraction (i) the numerator of which is the value of such
investor's investment in the Portfolio as of the Valuation Time on such day plus
or minus, as the case may be, the amount of net additions to or reductions in
the investor's investment in the Portfolio effected as of the Valuation Time,
and (ii) the denominator of which is the aggregate net asset value of the
Portfolio as of the Valuation Time on such day, plus or minus, as the case may
be, the amount of net additions to or reductions in the aggregate net asset
value of the Portfolio as of the Valuation Time on such day, plus or minus as
the case may be, the amount of net additions to or reductions in the aggregate
investments in the Portfolio by all investors in such Portfolio. The percentage
so determined will then be applied to determine the value of the investor's
interest in the Portfolio as of the Valuation time on the following Portfolio
Business Day.
An investor in a Portfolio may withdraw all or any portion of its investment at
the net asset value next determined if a withdrawal request in proper form is
furnished by the investor to Diversified Investors Portfolios by the designated
cut-off time for each accredited investor. The proceeds of a reduction or a
withdrawal will be paid by Diversified Investors Portfolios in federal funds
normally on the Portfolio Business Day the withdrawal is effected, but in any
event within seven days. Diversified Investors Portfolios, on behalf of each of
its Portfolios, reserves the right to pay redemptions in kind. Unless requested
by an investor, Diversified Investors Portfolios will not make a redemption in
kind to the investor, except in situations where that investor may make
redemptions in kind. Diversified Investors Portfolios, on behalf of each of its
Portfolios, has elected, however, to be governed by Rule 18f-1 under the 1940
Act, as a result of which Diversified Investors Portfolios is obligated to
redeem beneficial interests in each Portfolio with respect to any one investor
during any 90 day period, solely in cash up to the lesser of $250,000 or 1% of
the net asset value of the Portfolio at the beginning of the period. Investments
in a Portfolio may not be transferred.
The right to redeem beneficial interests or to receive payment with respect to
any redemption may be suspended only (i) for any period during which trading on
the New York Stock Exchange is restricted as determined by the Securities and
Exchange Commission or when the New York Stock Exchange is closed (other than
customary weekend and holiday closings), (ii) for any period during which an
emergency exists as defined by the Securities and Exchange Commission as a
result of which disposal of a Portfolio's securities or determination of the net
asset value of each Portfolio is not reasonably practicable, and (iii) for such
other periods as the SEC may by order permit for the protection of investors in
any Portfolio.
NET ASSET VALUE
Diversified Investors Portfolios values the securities of the Money Market
Portfolio based on the amortized cost method of valuation. Securities of other
Portfolios are valued based on their current market value when market quotations
are available. Where market quotations are not available, assets are valued at
fair value as determined in good faith under the direction of the Board of
Trustees of Diversified Investors Portfolios. Debt obligations with 60 days or
less remaining to maturity may be valued by the amortized cost method, which the
Board of Trustees of Diversified Investors Portfolios has determined to
constitute fair value for such securities. For more information on the valuation
of portfolio securities, see "Diversified Investors Portfolios" in the Statement
of Additional Information.
TAXATION OF DIVERSIFIED INVESTORS PORTFOLIOS
Diversified Investors Portfolios is organized as a New York trust. None of its
series is subject to any income or franchise tax in the State of New York.
However, each investor in a Portfolio will be taxable on its share (as
determined in accordance with the governing instruments of Diversified Investors
Portfolio) of the Portfolio's ordinary income and capital gain in determining
its income tax liability. The determination of such share will be made in
accordance with the Code, and regulations promulgated thereunder.
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Diversified Investors Portfolios, since it is taxed as a partnership, is not
subject to federal income taxation. Instead, any investor in Diversified
Investors Portfolios must take into account, in computing its federal income tax
liability, its share of Diversified Investors Portfolios' income, gains, losses,
deductions, credits and tax preference items, without regard to whether it has
received any cash distributions from Diversified Investors Portfolios.
Withdrawals by any investor in Diversified Investors Portfolios from its
corresponding Portfolio generally will not result in recognizing any gain or
loss for federal income tax purposes, except that (1) gain will be recognized to
the extent that any cash distributed exceeds the basis of such investor's
interest in the Portfolio prior to the distribution, (2) income or gain will be
realized if the withdrawal is in liquidation of such investor's entire interest
in the Portfolio and includes a disproportionate share of any unrealized
receivables held by the Portfolio and (3) loss will be recognized if the
distribution is in liquidation of that entire interest and consists solely of
cash and/or unrealized receivables. The basis of any investor's interest in
Diversified Investors Portfolios generally equals the amount of cash and the
basis of any property that such investor invests in a Portfolio, increased by
such investor's share of income from that Portfolio and decreased by the amount
of any cash distributions and the basis of any property distributed from that
Portfolio.
DESCRIPTION OF BENEFICIAL INTERESTS, VOTING RIGHTS AND LIABILITIES
Diversified Investors Portfolios is organized as a series trust under the laws
of the State of New York. Under the Declaration of Trust, the Trustees are
authorized to issue beneficial interests in one or more series (referred to
herein as "Portfolios"). Investments in each Portfolio may not be transferred,
but an investor may withdraw all or any portion of its investment at any time at
net asset value. Investors in a Portfolio (e.g., investment companies, insurance
company separate accounts and common and commingled trust funds) will each be
liable for all obligations of that Portfolio (and of no other Portfolio).
However, the risk of an investor in a Portfolio incurring financial loss on
account of such liability is limited to circumstances in which both inadequate
insurance existed and the Portfolio itself was unable to meet its obligations.
Investments in each Portfolio have no preemptive or conversion rights and are
fully paid and nonassessable, except as set forth below.
Each investor is entitled to a vote in proportion to the amount of its
investment in each Portfolio. Investors in a Portfolio will vote as a separate
class, except as to voting for election of Trustees of Diversified Investors
Portfolios, as otherwise required by the 1940 Act, or if determined by the
Trustees of Diversified Investors Portfolios to be a matter which affects all
Portfolios. As to any matter which does not affect a particular Portfolio, only
investors in the one or more affected Portfolios are entitled to vote.
Diversified Investors Portfolios is not required and has no current intention of
holding special meetings of investors, but special meetings of investors will be
held when in the judgment of the Trustees of Diversified Investors Portfolios it
is necessary or desirable to submit matters for an investor vote. Changes in
fundamental policies will be submitted to investors for approval, or otherwise
voted on in accordance with applicable law. Investors under certain
circumstances (e.g., upon application and submission of certain specified
documents to the Trustees by a specified number of investors) have the right to
communicate with other investors in connection with requesting a meeting of
investors for the purpose of removing one or more Trustees of Diversified
Investors Portfolios. Investors also have the right to remove one or more
Trustees of Diversified Investors Portfolios without a meeting by a declaration
in writing by a specified number of investors. Upon liquidation of a Portfolio,
investors would be entitled to share pro rata in the net assets of that
Portfolio (and no other Portfolio) available for distribution to investors. See
"Voting Rights" at page 26.
Each Portfolio determines its net income and realized capital gains, if any, on
each Portfolio Business Day (as defined below) and allocates all such income and
gain pro rata among the investors in such Portfolio at the time of such
determination.
The "net income" of each Portfolio shall consist of (i) all income accrued, less
the amortization of any premium, on the assets of the Portfolio, less (ii) all
actual and accrued expenses of the Portfolio
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determined in accordance with generally accepted accounting principles. Interest
income includes discount earned (including both original issue and market
discount) on discount paper accrued ratably to the date of maturity and any net
realized gains or losses on the assets of a Portfolio. All the net income of
each Portfolio is allocated pro rata among the investors in the Portfolio (and
no other Portfolio).
Inquiries regarding Diversified Investors Portfolios may be directed to 4
Manhattanville Road, Purchase, New York 10577 (914-697-8000).
INDEPENDENT ACCOUNTANTS
The statutory basis financial statements of AUSA included in the Statement of
Additional Information have been audited by Ernst & Young LLP, independent
auditors, Des Moines, Iowa. PricewaterhouseCoopers LLP, New York, New York
serves as independent accountants to Diversified Investors Variable Funds,
Diversified Investors Strategic Variable Funds and Diversified Investors
Portfolios.
LEGAL PROCEEDINGS
There are no material legal proceedings to which AUSA, Diversified Investors
Variable Funds, Diversified Investors Strategic Variable Funds or Diversified is
a party.
STATUTORY BASIS FINANCIAL STATEMENTS
The statutory basis financial statements for AUSA, included in the Statement of
Additional Information, should be distinguished from the financial statements of
Diversified Investors Variable Funds and Diversified Investors Strategic
Variable Funds and should be considered only as bearing on the ability of AUSA
to meet its obligations under the Contracts. The statutory basis financial
statements of AUSA should not be considered as bearing on the investment
performance of the assets held in Diversified Investors Variable Funds or
Diversified Investors Strategic Variable Funds.
ADDITIONAL INFORMATION
This Prospectus does not contain all the information set forth in the
registration statement, certain portions of which have been omitted (including
statutory basis financial statements relating to AUSA) 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
Commission.
For further information with respect to AUSA and the Contracts offered by this
Prospectus, including the Statement of Additional Information (which includes
statutory basis financial statements relating to AUSA), contact AUSA at its
address or phone number set forth on the cover of this Prospectus.
For further information with respect to the Calvert Series, Calvert, Inc. or
Calvert Asset Management Company, Inc., including a Statement of Additional
Information, contact Calvert, Inc. at 4550 Montgomery Avenue, Suite 1000N,
Bethesda, Maryland 20814, or call (301) 951-4820.
MISCELLANEOUS
The Accounts are separate registered accounts of AUSA. There is a possibility
that one Account might become liable for a misstatement in this Prospectus about
the other Account. AUSA believes this possibility is remote.
<PAGE> 64
-56-
TABLE OF CONTENTS
OF
STATEMENT OF ADDITIONAL INFORMATION
<TABLE>
<CAPTION>
ITEM PAGE
- ---- ----------
<S> <C>
Independent Accountants..................................... 1
Sale of Contracts/Principal Underwriter..................... 1
Texas Optional Retirement Program........................... 1
Performance Data............................................ 1
Variable Funds Money Market Subaccount.................... 1
Diversified Investors Portfolios............................ 2
Investment Objectives, Policies and Restrictions Relating
to the Portfolios...................................... 2
Portfolio Transactions and Brokerage Commissions.......... 20
Investment Restrictions Relating to The Strategic Variable
Funds Subaccounts......................................... 22
Performance Information Relating to The Strategic Variable
Funds Subaccounts......................................... 23
Determination of Unit Value; Valuation of Securities........ 25
Management of Diversified Investors Portfolios.............. 28
Management of The Strategic Variable Funds Account.......... 33
Diversified Investors Portfolios: Description of Trust...... 36
Tax Information Relating to Diversified Investors
Portfolios................................................ 37
Statutory Basis Financial Statements of AUSA................ 38
Appendix A -- Description of Security Ratings.............. Appendix A
Financial Statements........................................ F-1
</TABLE>
<PAGE> 65
-57-
REQUEST FOR
DIVERSIFIED INVESTORS VARIABLE FUNDS/
DIVERSIFIED INVESTORS STRATEGIC VARIABLE FUNDS
STATEMENT OF ADDITIONAL INFORMATION
Detach and return in an envelope addressed to:
AUSA
4 Manhattanville Road
Purchase, New York 10577
Please make sure that your name and the address to which you wish AUSA to send
the current Statement of Additional Information appears below:
Name
Address
Employer
<PAGE> 66
(This page intentionally left blank.)
<PAGE> 67
-A-1-
APPENDIX A
STRATEGIC SUBACCOUNTS
Under normal circumstances, the Strategic Variable Funds Subaccounts are
allocated among the Variable Funds Money Market, Bond and Stock Subaccounts as
follows:
<TABLE>
<CAPTION>
-----------------------------------------------------------------------------
SHORT HORIZON INTERMEDIATE INTERMEDIATE/LONG
STRATEGIC HORIZON STRATEGIC HORIZON STRATEGIC
-----------------------------------------------------------------------------
TARGET TARGET TARGET
NORMAL WITHIN NORMAL WITHIN NORMAL WITHIN
RANGE RANGE RANGE RANGE RANGE RANGE
------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Money Market 0-20% 10% 0-10% 0% 0-10% 0%
------------------------------------------------------------------------------------------------------------------------
High Quality Bond 10-30% 20% 0-20% 10% 0-15% 5%
------------------------------------------------------------------------------------------------------------------------
Intermediate Government Bond 10-30% 20% 0-15% 5% 0-15% 5%
------------------------------------------------------------------------------------------------------------------------
Core Bond 20-40% 30% 15-35% 25% 0-20% 12%
------------------------------------------------------------------------------------------------------------------------
High-Yield Bond 0-20% 10% 0-20% 10% 0-15% 8%
------------------------------------------------------------------------------------------------------------------------
Value & Income 0-20% 10% 5-25% 15% 10-30% 21%
------------------------------------------------------------------------------------------------------------------------
Growth & Income N/A N/A 0-20% 8% 0-20% 11%
------------------------------------------------------------------------------------------------------------------------
Equity Growth N/A N/A 0-15% 7% 0-20% 10%
------------------------------------------------------------------------------------------------------------------------
Special Equity N/A N/A 0-20% 10% 0-20% 14%
------------------------------------------------------------------------------------------------------------------------
Aggressive Equity N/A N/A 0-10% 3% 0-10% 4%
------------------------------------------------------------------------------------------------------------------------
International Equity N/A N/A 0-15% 7% 0-20% 10%
------------------------------------------------------------------------------------------------------------------------
</TABLE>
<PAGE> 68
(This page intentionally left blank.)
<PAGE> 69
-B-1-
APPENDIX B
APPLICABLE PREMIUM TAX RATES
<TABLE>
<CAPTION>
PREMIUM TAX RATE PERCENT
---------------------------
NON-
QUALIFIED QUALIFIED
--------- ------------
<S> <C> <C>
California.......................... .50% 2.35%
District of Columbia................ -- --
Kentucky............................ 2.00% 2.00%
Maine............................... -- 2.00%
Nevada.............................. -- 3.50%
Puerto Rico......................... 1.00% 1.00%
South Dakota........................ -- 1.25%
West Virginia....................... 1.00% 1.00%
Wyoming............................. -- 1.00%
</TABLE>
<PAGE> 70
Information about contracts can also be reviewed and copied at the SEC's Public
Reference Room in Washington, DC. You can get information on the operation of
the Public Reference Room by calling the SEC at 1-800-SEC-0330. You can receive
copies of this information by sending your request and a duplicating fee to the
SEC's Public Reference Section, Washington, DC 20549-6009.
<PAGE> 71
AUSA LIFE INSURANCE COMPANY, INC.
4 Manhattanville Road, Purchase, New York 10577
(914) 697-8000
2892 (rev. 5/00)
<PAGE> 72
STATEMENT OF ADDITIONAL INFORMATION
DATED MAY 1, 2000
GROUP VARIABLE ANNUITY CONTRACTS
ISSUED BY
DIVERSIFIED INVESTORS VARIABLE FUNDS
DIVERSIFIED INVESTORS STRATEGIC VARIABLE FUNDS
AND
AUSA LIFE INSURANCE COMPANY, INC.
4 MANHATTANVILLE ROAD, PURCHASE, N.Y. 10577; (800) 926-0044
THIS STATEMENT OF ADDITIONAL INFORMATION IS NOT A PROSPECTUS, BUT IT RELATES TO,
AND SHOULD BE READ IN CONJUNCTION WITH, THE PROSPECTUS DATED MAY 1, 2000, AND
SUPPLEMENTED FROM TIME TO TIME (THE "PROSPECTUS"), FOR THE GROUP VARIABLE
ANNUITY CONTRACTS ISSUED BY AUSA LIFE INSURANCE COMPANY, INC. ("AUSA") WHICH
INVEST IN DIVERSIFIED INVESTORS VARIABLE FUNDS (THE "VARIABLE FUNDS ACCOUNT") OR
DIVERSIFIED INVESTORS STRATEGIC VARIABLE FUNDS (THE "STRATEGIC VARIABLE FUNDS
ACCOUNT", AND, TOGETHER WITH THE VARIABLE FUNDS ACCOUNT, THE "ACCOUNTS"). THE
PROSPECTUS IS AVAILABLE, AT NO CHARGE, BY WRITING AUSA AT 4 MANHATTANVILLE RD.,
PURCHASE, NEW YORK 10577 OR BY CALLING (800) 926-0044.
A separate Statement of Additional Information is available without charge for
Calvert Variable Series, Inc. ("Calvert, Inc.") of which the Calvert Social
Balanced Portfolio is part by writing to Calvert, Inc. at 4550 Montgomery
Avenue, Suite 1000N, Bethesda, Maryland 20814 or by telephoning (301) 951-4820.
TABLE OF CONTENTS
<TABLE>
<CAPTION>
ITEM PAGE
---- ----
<S> <C>
Independent Accountants..................................... 1
Sale of Contracts/Principal Underwriter..................... 1
Texas Optional Retirement Program........................... 1
Performance Data............................................ 1
Variable Funds Money Market Subaccount.................... 1
Diversified Investors Portfolios............................ 2
Investment Objectives, Policies and Restrictions Relating
to the Portfolios...................................... 2
Portfolio Transactions and Brokerage Commissions.......... 20
Investment Restrictions Relating to The Strategic Variable
Funds Subaccounts......................................... 22
Performance Information Relating to The Strategic Variable
Funds Subaccounts......................................... 23
Determination of Unit Value; Valuation of Securities........ 25
Management of Diversified Investors Portfolios.............. 28
Management of The Strategic Variable Funds Account.......... 33
Diversified Investors Portfolios: Description of Trust...... 36
Tax Information Relating to Diversified Investors
Portfolios................................................ 37
Statutory Basis Financial Statements of AUSA................ 38
Appendix A -- Description of Security Ratings............... A-1
Financial Statements........................................ F-1
</TABLE>
<PAGE> 73
INDEPENDENT ACCOUNTANTS
PricewaterhouseCoopers LLP, New York, New York serves as independent accountants
to the Accounts. The statutory basis financial statements of AUSA appearing on
the following pages have been audited by Ernst & Young L.L.P., independent
auditors, Des Moines, Iowa.
SALE OF CONTRACTS/PRINCIPAL UNDERWRITER
Diversified Investors Securities Corp. ("DISC") is the principal underwriter and
distributor of the Contracts which will be sold by registered representatives
who are also licensed insurance agents of AUSA. The Contracts may also be sold
through other broker-dealers authorized by DISC and applicable law and who may
be insurance agents licensed by an insurance company other than AUSA. DISC is
registered with the Securities and Exchange Commission as a broker-dealer under
the Securities Exchange Act of 1934 and is a member of the National Association
of Securities Dealers, Inc.
DISC will not receive underwriting commissions. Registration as a broker-dealer
does not mean that the SEC has passed upon the financial standing, fitness or
conduct of any broker or dealer, or upon the merits of any security offering or
upon any other matter relating to the business of any broker or dealer.
TEXAS OPTIONAL RETIREMENT PROGRAM
Participants in the Texas Optional Retirement Program (the "Program") are
subject to certain restrictions pertaining to redemptions. (See "Restrictions
Under The Texas Optional Retirement Program" in the Prospectus). Pursuant to
Rule 6c-7 of the Investment Company Act of 1940, as amended, (the "1940 Act"),
the Registrant hereby represents that Rule 6c-7 of the 1940 Act is being relied
upon and that the provisions of paragraphs (a) through (d) of each Rule have
been complied with.
PERFORMANCE DATA
VARIABLE FUNDS MONEY MARKET SUBACCOUNT
For the seven day period ended December 31, 1999, the yield for the Variable
Funds Money Market Subaccount (the "Money Market Subaccount") was 5.84% and the
effective yield was 6.01%.
The yield is calculated by dividing the result of subtracting the value of one
Unit at the end of the seven day period ("Seventh Day Value") from the value of
one Unit at the beginning of the seven day period ("First Day Value") by the
First Day Value (the resulting quotient being the "Base Period Return") and
multiplying the Base Period Return by 365 divided by 7 to obtain the annualized
yield.
The effective yield is calculated by compounding the Base Period Return
calculated in accordance with the preceding paragraph, adding 1 to Base Period
Return, raising that sum to a power equal to 365 divided by 7 and subtracting 1
from the result.
As the Money Market Subaccount invests only in the Money Market Portfolio (the
"Money Market Portfolio") of Diversified Investors Portfolios, the First Day
Value reflects the net asset value of the interest in the Money Market Portfolio
held in the Money Market Subaccount. The Seventh Day Value reflects increases or
decreases in the net asset value of the interest in the Money Market Portfolio
held in the Money Market Subaccount due to the declaration of dividends, net
investment income and the daily charges and deductions from the Subaccount for
mortality and expense risk. Net investment income reflects earnings on
investments less expenses of the Money Market Portfolio including the investment
management fee.
<PAGE> 74
-2-
DIVERSIFIED INVESTORS PORTFOLIOS
There are fourteen Subaccounts of Diversified Investors Variable Funds that are
presently available for investment under the Contracts (the "Variable Funds
Subaccounts"). There are three Subaccounts of Diversified Investors Strategic
Variable Funds (the "Strategic Variable Funds Subaccounts") which are presently
available for investment under the Contracts. Each Variable Funds Subaccount,
other than the Variable Funds Subaccount which invests in the Calvert Series,
invests in a corresponding series of Diversified Investors Portfolios. Those
series of Diversified Investors Portfolios (the "Portfolios") are described in
this Statement of Additional Information. Each Strategic Variable Funds
Subaccount invests in a combination of the Variable Funds Subaccounts (other
than the Variable Funds Subaccounts which invest in the Balanced Portfolio and
the Calvert Series), which, in turn, invest in the Portfolios.
This section of the Statement of Additional Information describes each
Portfolio, including the Money Market Portfolio, the High Quality Bond
Portfolio, the Intermediate Government Bond Portfolio, the Core Bond Portfolio,
the High-Yield Bond Portfolio, the Balanced Portfolio, the Value & Income
Portfolio, the Equity Value Portfolio, the Growth & Income Portfolio, the Equity
Growth Portfolio, the Special Equity Portfolio, the Aggressive Equity Portfolio
and the International Equity Portfolio.
INVESTMENT OBJECTIVES, POLICIES AND RESTRICTIONS RELATING TO THE PORTFOLIOS
INVESTMENT OBJECTIVES
The investment objective of each Portfolio is described in the Prospectus. There
can, of course, be no assurance that a Portfolio will achieve its investment
objective.
INVESTMENT POLICIES
The following supplements the discussion of the various investment strategies
and techniques employed by the Portfolios as set forth in the Prospectus.
BANK OBLIGATIONS
Bank obligations include certificates of deposit, time deposits (including
Eurodollar time deposits) and bankers' acceptances and other short-term debt
obligations issued by domestic banks, foreign subsidiaries or foreign branches
of domestic banks, domestic and foreign branches of foreign banks, domestic
savings and loan associations and other banking institutions. The Portfolios
have established certain minimum credit quality standards for bank obligations
in which they invest.
Domestic commercial banks organized under federal law are supervised and
examined by the Comptroller of the Currency and are required to be members of
the Federal Reserve System. Domestic banks organized under state law are
supervised and examined by state banking authorities but are members of the
Federal Reserve System only if they elect to join. In addition, state banks are
subject to federal examination and to a substantial body of federal law and
regulation. As a result of federal or state laws and regulations, domestic
banks, among other things, generally are required to maintain specified levels
of reserves, are limited in the amounts which they can loan to a single
borrower, and are subject to other regulations designed to promote financial
soundness. However, not all of such laws and regulations apply to the foreign
branches of domestic banks.
Obligations of foreign branches and subsidiaries of domestic banks and domestic
and foreign branches of foreign banks, such as certificates of deposit and time
deposits, may be general obligations of the parent banks in addition to the
issuing branch, or may be limited by the terms of a specific obligation and
governmental regulation. Such obligations are subject to risks that are
different from or are in addition to those of domestic banks. These risks
include foreign economic and political developments, foreign governmental
restrictions that may adversely affect payment of principal and interest on the
obligations, foreign exchange controls and foreign withholding and other taxes
on interest income. These foreign branches and subsidiaries are not necessarily
subject to the same or similar regulatory requirements that
<PAGE> 75
-3-
apply to domestic banks, such as mandatory reserve requirements, loan
limitations, and accounting, auditing and financial record keeping requirements.
In addition, less information may be publicly available about a foreign branch
of a domestic bank or about a foreign bank than about a domestic bank. A
domestic branch of a foreign bank with assets in excess of $1 billion may be
subject to reserve requirements imposed by the Federal Reserve System or by the
state in which the branch is located if the branch is licensed in that state.
In addition, branches licensed by the Comptroller of the Currency and branches
licensed by certain states may be required to: (a) pledge to the regulator, by
depositing assets with a designated bank within the state, a certain percentage
of their assets as fixed from time to time by the appropriate regulatory
authority; and (b) maintain assets within the state in an amount equal to a
specified percentage of the aggregate amount of liabilities of the foreign bank
payable at or through all of its agencies or branches within the state.
U.S. GOVERNMENT AND AGENCY SECURITIES
U.S. Treasury obligations include bills, notes and bonds issued by the U.S.
Treasury and separately traded interest and principal component parts of these
obligations that are transferable through the Federal book-entry system known as
Separately Traded Registered Interest and Principal Securities (STRIPS). STRIPS
are sold as zero coupon securities. These securities are usually structured with
two classes that receive different portions of the interest and principal
payments from the underlying obligation. The yield to maturity on the
interest-only class is extremely sensitive to the rate of principal payments on
the underlying obligation. The market value of the principal-only class
generally is unusually volatile in response to changes in interest rates. See
"Zero Coupon Securities" below for more information.
U.S. Treasury securities differ only in their interest rates, maturities and
times of issuance. Treasury Bills have initial maturities of one year or less;
Treasury Notes have initial maturities of one to ten years; and Treasury Bonds
generally have initial maturities of greater than ten years.
Certain Federal agencies such as the Government National Mortgage Association
(GNMA) have been established as instrumentalities of the U.S. government to
supervise and finance certain types of activities. Some obligations issued or
guaranteed by U.S. Government agencies and instrumentalities, for example, GNMA
pass-through certificates, are supported by the full faith and credit of the
U.S. Treasury; others, such as those of the Federal Home Loan Banks, by the
right of the issuer to borrow from the Treasury; others, such as those issued by
the Federal National Mortgage Association, by discretionary authority of the
U.S. Government to purchase certain obligations of the agency or
instrumentality; and others, such as those issued by the Student Loan Marketing
Association, only by the credit of the agency or instrumentality. While the U.S.
Government provides financial support to such U.S. Government-sponsored agencies
or instrumentalities, no assurance can be given that it will always do so, since
it is not so obligated by law.
COMMERCIAL PAPER
Commercial paper consists of short-term (usually from 1 to 270 days) unsecured
promissory notes issued by corporations in order to finance their current
operations. A variable amount master demand note (which is a type of commercial
paper) represents a direct borrowing arrangement involving periodically
fluctuating rates of interest under an agreement between a commercial paper
issuer and an institutional lender pursuant to which the lender may determine to
invest varying amounts.
The Portfolios may purchase three types of commercial paper, as classified by
exemption from registration under the Securities Act of 1933, as amended (the
"1933 Act"). The three types include open market, privately placed, and letter
of credit commercial paper. Trading of such commercial paper
<PAGE> 76
-4-
is conducted primarily by institutional investors through investment dealers or
directly through the issuers. Individual investor participation in the
commercial paper market is very limited.
OPEN MARKET. "Open market" commercial paper refers to the commercial paper
of any industrial, commercial, or financial institution which is openly
traded, including directly issued paper. "Open market" paper's 1933 Act
exemption is under Section 3(a)(3) which limits the use of proceeds to
current transactions, limits maturities to 270 days and requires that the
paper contain no provision for automatic rollovers.
PRIVATELY PLACED. "Privately placed" commercial paper relies on the
exemption from registration provided by Section 4(2), which exempts
transactions by an issuer not involving any public offering. The commercial
paper may only be offered to a limited number of accredited investors.
"Privately placed" commercial paper has no maturity restriction.
LETTER OF CREDIT. "Letter of credit" commercial paper is exempt from
registration under Section 3(a)(2) of the 1933 Act. It is backed by an
irrevocable or unconditional commitment by a bank to provide funds for
repayment of the notes. "Letter of credit" paper has no limitations on
purchasers.
VARIABLE RATE AND FLOATING RATE SECURITIES
The Portfolios may purchase floating and variable rate demand notes and bonds,
which are obligations ordinarily having stated maturities in excess of 397 days,
but which permit the holder to demand payment of principal at any time, or at
specified intervals not exceeding 397 days, in each case upon not more than 30
days' notice. Variable rate demand notes include master demand notes which are
obligations that permit a Portfolio to invest fluctuating amounts, which may
change daily without penalty, pursuant to direct arrangements between the
Portfolio, as lender, and the borrower. The interest rates on these notes
fluctuate from time to time. The issuer of such obligations normally has a
corresponding right, after a given period, to prepay in its discretion the
outstanding principal amount of the obligations plus accrued interest upon a
specified number of days' notice to the holders of such obligations. The
interest rate on a floating rate demand obligation is based on a known lending
rate, such as a bank's prime rate, and is adjusted automatically each time such
rate is adjusted. The interest rate on a variable rate demand obligation is
adjusted automatically at specified intervals. The interest rate on these
securities may be reset daily, weekly, quarterly, or some other reset period and
may have a floor or ceiling on interest rate charges. There is a risk that the
current interest rate on such obligations may not accurately reflect existing
market interest rates. Frequently, such obligations are backed by letters of
credit or other credit support arrangements provided by banks. Because these
obligations are direct lending arrangements between the lender and borrower, it
is not contemplated that such instruments generally will be traded, and there
generally is no established secondary market for these obligations, although
they are redeemable at face value. Accordingly, where these obligations are not
secured by letters of credit or other credit support arrangements, a Portfolio's
right to redeem is dependent on the ability of the borrower to pay principal and
interest on demand. Such obligations frequently are not rated by credit rating
agencies and a Portfolio may invest in obligations which are not so rated only
if the Portfolio's Subadviser determines that at the time of investment the
obligations are of comparable quality to the other obligations in which the
Portfolio may invest. The applicable Subadvisers, on behalf of a Portfolio, will
consider on an ongoing basis the creditworthiness of the issuers of the floating
and variable rate demand obligations held by the Portfolio. The Portfolios will
not invest more than 15% (10% in the case of the Money Market Portfolio) of the
value of their net assets in floating or variable rate demand obligations as to
which they cannot exercise the demand feature on not more than seven days'
notice if there is no secondary market available for these obligations, and in
other securities that are not readily marketable. See "Investment Restrictions"
below.
<PAGE> 77
-5-
PARTICIPATION INTERESTS
A Portfolio may purchase from financial institutions participation interests in
securities in which such Portfolio may invest. A participation interest gives a
Portfolio an undivided interest in the security in the proportion that the
Portfolio's participation interest bears to the total principal amount of the
security. These instruments may have fixed, floating or variable rates of
interest, with remaining maturities of 13 months or less. If the participation
interest is unrated, or has been given a rating below that which is permissible
for purchase by the Portfolio, the participation interest will be backed by an
irrevocable letter of credit or guarantee of a bank, or the payment obligation
otherwise will be collateralized by U.S. Government securities, or, in the case
of unrated participation interests, the Portfolio's Subadviser must have
determined that the instrument is of comparable quality to those instruments in
which a Portfolio may invest. For certain participation interests, a Portfolio
will have the right to demand payment, on not more than seven days' notice, for
all or any part of the Portfolio's participation interest in the security, plus
accrued interest. As to these instruments, a Portfolio intends to exercise its
right to demand payment only upon a default under the terms of the security, as
needed to provide liquidity to meet redemptions, or to maintain or improve the
quality of its investment portfolio. A Portfolio will not invest more than 15%
(10% in the case of the Money Market Portfolio) of its net assets in
participation interests that do not have this demand feature, and in other
securities that are not readily marketable. See "Investment Restrictions" below.
ILLIQUID SECURITIES
Each Portfolio may invest up to 15% (10% for the Money Market Portfolio) of its
net assets in illiquid securities, including restricted securities that are
illiquid.
Historically, illiquid securities have included securities subject to
contractual or legal restrictions on resale because they have not been
registered under the 1933 Act, securities which are otherwise not readily
marketable and repurchase agreements having a maturity of longer than seven
days. Securities which have not been registered under the 1933 Act are referred
to as private placements or restricted securities and are purchased directly
from the issuer or in the secondary market. Mutual funds do not typically hold a
significant amount of these restricted or other illiquid securities because of
the potential for delays on resale and uncertainty in valuation. The absence of
a trading market can make it difficult to ascertain a market value for these
investments. In addition, limitations on resale may have an adverse effect on
the marketability of portfolio securities and a mutual fund might be unable to
dispose of restricted or other illiquid securities promptly or at reasonable
prices and might thereby experience difficulty satisfying redemptions within
seven days. A mutual fund might also have to register such restricted securities
in order to dispose of them which, if possible at all, would result in
additional expense and delay. Adverse market conditions could impede such a
public offering of securities.
In recent years, however, a large institutional market has developed for certain
securities that are not registered under the 1933 Act, including repurchase
agreements, commercial paper, foreign securities, municipal securities and
corporate bonds and notes. Institutional investors depend on an efficient
institutional market in which the unregistered security can be readily resold or
on an issuer's ability to honor a demand for repayment. The fact that there are
contractual or legal restrictions on resale of such investments to the general
public or to certain institutions may not be indicative of their liquidity.
Rule 144A under the 1933 Act allows a broader institutional trading market for
securities otherwise subject to restriction on their resale to the general
public. Rule 144A establishes a "safe harbor" from the registration requirements
of the 1933 Act for resales of certain securities to qualified institutional
buyers.
The applicable Subadviser will monitor the liquidity of Rule 144A securities for
each Portfolio under the supervision of the Board of Trustees. In reaching
liquidity decisions, the Subadviser will consider, among other things, the
following factors: (a) the frequency of trades and quotes for the security, (b)
the number of dealers and other potential purchasers wishing to purchase or sell
the security, (c) dealer undertakings to make a market in the security and (d)
the nature of the security and of the marketplace
<PAGE> 78
-6-
trades (e.g., the time needed to dispose of the security, the method of
soliciting offers and the mechanics of the transfer).
The liquidity of Rule 144A securities could be impaired if trading in these
investments does not develop or if qualified institutional buyers become, for a
time, uninterested in purchasing Rule 144A securities.
UNSECURED PROMISSORY NOTES
A Portfolio also may purchase unsecured promissory notes ("Notes") which are not
readily marketable and have not been registered under the 1933 Act, provided
such investments are consistent with the Portfolio's investment objective. The
Notes purchased by the Portfolio will have remaining maturities of 13 months or
less. The Portfolio will invest no more than 15% (10% in the case of the Money
Market Portfolio) of its net assets in such Notes and in other securities that
are not readily marketable (which securities would include floating and variable
rate demand obligations as to which the Portfolio cannot exercise the demand
feature described above and as to which there is no secondary market). See
"Investment Restrictions" below.
REPURCHASE AGREEMENTS AND REVERSE REPURCHASE AGREEMENTS
Repurchase agreements are agreements by which a person purchases a security and
simultaneously commits to resell that security to the seller (which is usually a
member bank of the Federal Reserve System or a member firm of the New York Stock
Exchange (or a subsidiary thereof)) at an agreed-upon date within a number of
days (usually not more than seven) from the date of purchase. The resale price
reflects the purchase price plus an agreed-upon market rate of interest which is
unrelated to the coupon rate or maturity of the purchased security. A repurchase
agreement involves the obligation of the seller to pay the agreed-upon price,
which obligation is in effect secured by the value of the underlying security,
usually U.S. Government or government agency issues. Under the 1940 Act,
repurchase agreements may be considered to be loans by the buyer. A Portfolio's
risk is limited to the ability of the seller to pay the agreed upon amount on
the delivery date. If the seller defaults, the underlying security constitutes
collateral for the seller's obligation to pay although a Portfolio may incur
certain costs in liquidating this collateral and in certain cases may not be
permitted to liquidate this collateral. All repurchase agreements entered into
by the Portfolios are fully collateralized, with such collateral being marked to
market daily.
The Portfolios may borrow funds for temporary or emergency purposes, such as
meeting larger than anticipated redemption requests, and not for leverage. One
means of borrowing is by agreeing to sell portfolio securities to financial
institutions such as banks and broker-dealers and to repurchase them at a
mutually agreed date and price (a "reverse repurchase agreement"). At the time a
Portfolio enters into a reverse repurchase agreement it will place in a
segregated custodial account cash, U.S. Government securities or high-grade debt
obligations having a value equal to the repurchase price, including accrued
interest. The segregation of assets could impair the Portfolio's ability to meet
its current obligations or impede investment management if a large portion of
the Portfolio's assets are involved. Reverse repurchase agreements also involve
the risk that the market value of the securities sold by the Portfolio may
decline below the repurchase price of those securities.
The Portfolios may, together with other registered investment companies managed
by the Portfolios' Subadvisers or their affiliates, transfer uninvested cash
balances into a single joint account, the daily aggregate balance of which will
be invested in one or more repurchase agreements, including tri-party subcustody
repurchase arrangements.
FOREIGN SECURITIES -- ALL PORTFOLIOS
The Portfolios may invest their assets in securities of foreign issuers.
Investing in securities issued by companies whose principal business activities
are outside the United States may involve significant risks not present in
domestic investments. For example, there is generally less publicly available
information about foreign companies, particularly those not subject to the
disclosure and reporting requirements of
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the U.S. securities laws. Foreign issuers are generally not bound by uniform
accounting, auditing and financial reporting requirements comparable to those
applicable to domestic issuers. Investments in foreign securities also involve
the risk of possible adverse changes in investment or exchange control
regulations, expropriation or confiscatory taxation, brokerage or other
taxation, limitation on the removal of funds or other assets of a Portfolio,
political or financial instability or diplomatic and other developments which
would affect such investments. Further, economies of particular countries or
areas of the world may differ favorably or unfavorably from the economy of the
United States.
It is anticipated that in most cases the best available market for foreign
securities would be on exchanges or in over-the-counter markets located outside
the United States. Foreign stock markets, while growing in volume and
sophistication, are generally not as developed as those in the United States,
and securities of some foreign issuers (particularly those located in developing
countries) may be less liquid and more volatile than securities of comparable
United States companies. Foreign security trading practices, including those
involving securities settlement where a Portfolio's assets may be released prior
to receipt of payment, may expose a Portfolio to increased risk in the event of
a failed trade or the insolvency of a foreign broker-dealer. In addition,
foreign brokerage commissions are generally higher than commissions on
securities traded in the United States and may be non-negotiable. In general,
there is less overall governmental supervision and regulation of foreign
securities exchanges, brokers and listed companies than in the United States.
FOREIGN SECURITIES -- MONEY MARKET PORTFOLIO
The Money Market Portfolio may invest in the following foreign securities: (a)
U.S. dollar-denominated obligations of foreign branches and subsidiaries of
domestic banks and foreign banks (such as Eurodollar CDs, which are U.S.
dollar-denominated CDs issued by branches of foreign and domestic banks located
outside the United States; Eurodollar TDs ("ETDs"), which are U.S.
dollar-denominated deposits in a foreign branch of a foreign or domestic bank;
and Canadian TDs, which are essentially the same as ETDs except they are issued
by branches of major Canadian banks); (b) high quality, U.S. dollar-denominated
short-term bonds and notes (including variable amount master demand notes)
issued by foreign corporations (including Canadian commercial paper, which is
commercial paper issued by a Canadian corporation or a Canadian subsidiary of a
U.S. corporation, and Europaper, which is U.S. dollar-denominated commercial
paper of a foreign issuer); and (c) U.S. dollar-denominated obligations issued
or guaranteed by one or more foreign governments or any of their political
subdivisions, agencies or instrumentalities that are determined by the
Portfolio's Subadviser to be of comparable quality to the other obligations in
which the Money Market Portfolio may invest. Such securities also include debt
obligations of supranational entities. Supranational entities include
international organizations designated or supported by governmental entities to
promote economic reconstruction or development and international banking
institutions and related government agencies. Examples include the International
Bank for Reconstruction and Development (the World Bank), the European Coal and
Steel Community, the Asian Development Bank and the InterAmerican Development
Bank.
FOREIGN SECURITIES -- PORTFOLIOS OTHER THAN THE MONEY MARKET PORTFOLIO
Not more than 5% of a Portfolio's assets may be invested in closed-end
investment companies which primarily hold foreign securities. Investments in
such companies may entail the risk that the market value of such investments may
be substantially less than their net asset value and that there would be
duplication of investment management and other fees and expenses.
American Depository Receipts ("ADRs"), European Depositary Receipts ("EDRs"),
Global Depositary Receipts ("GDRs") and other forms of depositary receipts for
securities of foreign issuers provide an alternative method for a Portfolio to
make foreign investments. These securities are not denominated in the same
currency as the securities into which they may be converted and fluctuate in
value based on the underlying security. Generally, ADRs, in registered form, are
designed for use in U.S. securities markets and EDRs and GDRs, in bearer form,
are designed for use in European and global securities markets. ADRs are
receipts typically issued by a U.S. bank or trust company evidencing ownership
of the
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underlying securities. EDRs and GDRs are European and global receipts evidencing
a similar arrangement.
The Portfolios may invest in foreign securities that impose restrictions on
transfer within the United States or to United States persons. Although
securities subject to such transfer restrictions may be marketable abroad, they
may be less liquid than foreign securities of the same class that are not
subject to such restrictions.
FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS
Forward currency exchange contracts may be entered into for each Portfolio for
the purchase or sale of foreign currency to hedge against adverse rate changes
or otherwise to achieve the Portfolio's investment objectives. A currency
exchange contract allows a definite price in dollars to be fixed for securities
of foreign issuers that have been purchased or sold (but not settled) for the
Portfolio.
Because some Portfolios may buy and sell securities denominated in currencies
other than the U.S. dollar and receive interest, dividends and sale proceeds in
currencies other than the U.S. dollar, the Portfolios from time to time may
enter into foreign currency exchange transactions to convert to and from
different foreign currencies and to convert foreign currencies to and from the
U.S. dollar. The Portfolios either enter into these transactions on a spot
(i.e., cash) basis at the spot rate prevailing in the foreign currency exchange
market or use forward contracts to purchase or sell foreign currencies.
A forward foreign currency exchange contract is an obligation by a Portfolio to
purchase or sell a specific currency at a future date, which may be any fixed
number of days from the date of the contract. Forward foreign currency exchange
contracts establish an exchange rate at a future date. These contracts are
affected in the interbank market conducted directly between currency traders
(usually large commercial banks) and their customers. A forward foreign currency
exchange contract generally has no deposit requirement and is traded at a net
price without commission. A Portfolio maintains with its custodian a segregated
account of high grade liquid assets in an amount at least equal to its
obligations under each forward foreign currency exchange contract. Neither spot
transactions nor forward foreign currency exchange contracts eliminate
fluctuations in the prices of the Portfolio's securities or in foreign exchange
rates, or prevent loss if the prices of these securities should decline.
The Portfolios may enter into foreign currency hedging transactions in an
attempt to protect against changes in foreign currency exchange rates between
the trade and settlement dates of specific securities transactions or changes in
foreign currency exchange rates that would adversely affect a portfolio position
or an anticipated investment position.
Each Portfolio may also enter into proxy hedges and cross hedges. In a proxy
hedge, which generally is less costly than a direct hedge, a Portfolio, having
purchased a security, will sell a currency whose value is believed to be closely
linked to the currency in which the security is denominated. Interest rates
prevailing in the country whose currency was sold would be expected to be closer
to those in the U.S. and lower than those of securities denominated in the
currency of the original holding. This type of hedging entails greater risk than
a direct hedge because it is dependent on a stable relationship between the two
currencies paired as proxies and the relationships can be very unstable at
times. A Portfolio may enter into a cross hedge if a particular currency is
expected to decrease against another currency. The Portfolio would sell the
currency expected to decrease and purchase a currency which is expected to
increase against the currency sold in an amount equal to some or all of the
Portfolio's holdings denominated in the currency sold.
Entering into exchange contracts may result in the loss of all or a portion of
the benefits which otherwise could have been obtained from favorable movements
in exchange rates. In addition, entering into such contracts means incurring
certain transaction costs and bearing the risk of incurring losses if rates do
not move in the direction anticipated.
The Portfolios (other than the International Equity Portfolio) will not
routinely enter into foreign currency hedging transactions with respect to
security transactions; however, the Portfolios may do so
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when their Subadvisers determine that the transactions would be in a Portfolio's
best interest. Although these transactions tend to minimize the risk of loss due
to a decline in the value of the hedged currency, at the same time they tend to
limit any potential gain that might be realized should the value of the hedged
currency increase. The precise matching of the forward contract amounts and the
value of the securities involved will not generally be possible because the
future value of such securities in foreign currencies will change as a
consequence of market movements in the value of such securities between the date
the forward contract is entered into and the date it matures. The projection of
currency market movements is extremely difficult, and the successful execution
of a hedging strategy is highly uncertain.
While these contracts are not presently regulated by the Commodity Futures
Trading Commission ("CFTC"), the CFTC may in the future assert authority to
regulate forward contracts. In such event a Portfolio's ability to utilize
forward contracts in the manner set forth in the Prospectus for the Portfolio
may be restricted. Forward contracts may reduce the potential gain from a
positive change in the relationship between the U.S. dollar and foreign
currencies. Unanticipated changes in currency prices may result in poorer
overall performance for a Portfolio than if it had not entered into such
contracts. The use of foreign currency forward contracts may not eliminate
fluctuations in the underlying U.S. dollar equivalent value of the prices of or
rates of return on a Portfolio's foreign currency denominated portfolio
securities and the use of such techniques will subject the Portfolio to certain
risks.
Even if a hedge is generally successful, the matching of the increase in value
of a forward contract and the decline in the U.S. dollar equivalent value of the
foreign currency denominated asset that is the subject of the hedge generally
will not be precise. In addition, a Portfolio may not always be able to enter
into foreign currency forward contracts at attractive prices and this will limit
a Portfolio's ability to use such contract to hedge or cross-hedge its assets.
Also, with regard to a Portfolio's use of cross-hedges, there can be no
assurance that historical correlations between the movement of certain foreign
currencies relative to the U.S. dollar will continue. Thus, at any time poor
correlation may exist between movements in the exchange rates of the foreign
currencies underlying a Portfolio's cross-hedges and the movements in the
exchange rates of the foreign currencies in which the Portfolio's assets that
are the subject of such cross-hedges are denominated.
GUARANTEED INVESTMENT CONTRACTS
The Portfolios may invest in guaranteed investment contracts ("GICs") issued by
insurance companies. Pursuant to such contracts, a Portfolio makes cash
contributions to a deposit fund of the insurance company's general account. The
insurance company then credits to the Portfolio guaranteed interest. The GICs
provide that this guaranteed interest will not be less than a certain minimum
rate. The insurance company may assess periodic charges against a GIC for
expenses and service costs allocable to it, and the charges will be deducted
from the value of the deposit fund. Because a Portfolio may not receive the
principal amount of a GIC from the insurance company on seven days' notice or
less, the GIC is considered an illiquid investment and, together with other
instruments in a Portfolio which are not readily marketable, will not exceed 15%
(10% in the case of the Money Market Portfolio) of the Portfolio's net assets.
The term of a GIC will be 13 months or less. In determining average weighted
portfolio maturity, a GIC will be deemed to have a maturity equal to the longer
of the period of time remaining until the next readjustment of the guaranteed
interest rate or the period of time remaining until the principal amount can be
recovered from the issuer through demand.
WHEN-ISSUED SECURITIES
Forward commitments or purchases of securities on a when-issued basis are
transactions where the price of the securities is fixed at the time of
commitment and the delivery and payment ordinarily takes place beyond customary
settlement time. The interest rate realized on these securities is fixed as of
the purchase date and no interest accrues to the buyer before settlement. The
securities are subject to market fluctuation due to changes in market interest
rates; the securities are also subject to fluctuation in value pending
settlement based upon public perception of the creditworthiness of the issuer of
these securities.
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It is expected that, under normal circumstances, the Portfolios would take
delivery of such securities. When a Portfolio commits to purchase a security on
a "when-issued" or on a "forward delivery" basis, the Portfolio establishes
procedures consistent with the relevant policies of the SEC. Since those
policies currently require that an amount of a Portfolio's assets equal to the
amount of the purchase be held aside or segregated to be used to pay for the
commitment, the Portfolios expect always to have cash, cash equivalents, or high
quality debt securities sufficient to cover any commitments or to limit any
potential risk. However, although the Portfolios do not intend to make such
purchases for speculative purposes and intends to adhere to the provisions of
SEC policies, purchases of securities on such bases may involve more risk than
other types of purchases. For example, a Portfolio may have to sell assets which
have been set aside in order to meet redemptions. Also, if a Portfolio
determines it is advisable as a matter of investment strategy to sell the
"when-issued" or "forward delivery" securities, the Portfolio would be required
to meet its obligations from the then available cash flow or the sale of
securities, or, although it would not normally expect to do so, from the sale of
the "when-issued" or "forward delivery" securities themselves (which may have a
value greater or less than the Portfolio's payment obligation).
ZERO COUPON OBLIGATIONS
A zero coupon security pays no interest or principal to its holder during its
life. A zero coupon security is sold at a discount, frequently substantial, and
redeemed at face value at its maturity date. The market prices of zero coupon
securities are generally more volatile than the market prices of securities of
similar maturity that pay interest periodically, and zero coupon securities are
likely to react more to interest rate changes than non-zero coupon securities
with similar maturity and credit qualities.
A Portfolio may acquire zero coupon obligations when consistent with its
investment objective and policies. Since interest income is accrued throughout
the term of the zero coupon obligation but is not actually received until
maturity, a Portfolio may have to sell other securities to pay dividends based
on such accrued income prior to maturity of the zero coupon obligation.
FUTURES CONTRACTS AND OPTIONS ON FUTURES CONTRACTS AND FOREIGN
CURRENCIES -- PORTFOLIOS OTHER THAN THE MONEY MARKET PORTFOLIO
Futures Contracts. A Portfolio may enter into contracts for the purchase or sale
for future delivery of fixed-income securities or foreign currencies, or
contracts based on financial indices including any index of U.S. or foreign
stocks, U.S. Government securities, foreign government securities or corporate
debt securities. U.S. futures contracts have been designed by exchanges which
have been designated "contracts markets" by the CFTC, and must be executed
through a futures commission merchant, or brokerage firm, which is a member of
the relevant contract market. Futures contracts trade on a number of exchange
markets, and, through their clearing corporations, the exchanges guarantee
performance of the contracts as between the clearing members of the exchange. A
Portfolio may enter into futures contracts which are based on debt securities
that are backed by the full faith and credit of the U.S. Government, such as
long-term U.S. Treasury Bonds, Treasury Notes, Government National Mortgage
Association modified pass-through mortgage-backed securities and three-month
U.S. Treasury Bills. A Portfolio may also enter into futures contracts which are
based on bonds issued by entities other than the U.S. Government.
Purchases or sales of stock index futures contracts may be used to attempt to
protect the Portfolio's current or intended stock investments from broad
fluctuations in stock prices. For example, the Portfolio may sell stock index
futures contracts in anticipation of or during a decline in the market value of
the Portfolio's securities. If such decline occurs, the loss in value of
portfolio securities may be offset, in whole or part, by gains on the futures
position. When a Portfolio is not fully invested in the securities market and
anticipates a significant market advance, it may purchase stock index futures
contracts in order to gain rapid market exposure that may, in part or entirely,
offset increases in the cost of securities that the Portfolio intends to
purchase. As such purchases are made, the corresponding positions in stock index
futures contracts will be closed out. In a substantial majority of these
transactions, the Portfolio
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will purchase such securities upon termination of the futures position, but
under unusual market conditions, a long futures position may be terminated
without a related purchase of securities.
At the same time a futures contract is purchased or sold, the Portfolio must
allocate cash or securities as a deposit payment ("initial deposit"). It is
expected that the initial deposit would be approximately 1/2% to 5% of a
contract's face value. Daily thereafter, the futures contract is valued and the
payment of "variation margin" may be required, since each day the Portfolio
would provide or receive cash that reflects any decline or increase in the
contract's value.
At the time of delivery of securities pursuant to such a contract, adjustments
are made to recognize differences in value arising from the delivery of
securities with a different interest rate from that specified in the contract.
In some (but not many) cases, securities called for by a futures contract may
not have been issued when the contract was written.
Although futures contracts by their terms may call for the actual delivery or
acquisition of securities, in most cases the contractual obligation is fulfilled
before the date of the contract without having to make or take delivery of the
securities. The offsetting of a contractual obligation is accomplished by buying
(or selling, as the case may be) on a commodities exchange an identical futures
contract calling for delivery in the same month. Such a transaction, which is
effected through a member of an exchange, cancels the obligation to make or take
delivery of the securities. Since all transactions in the futures market are
made, offset or fulfilled through a clearinghouse associated with the exchange
on which the contracts are traded, a Portfolio will incur brokerage fees when it
purchases or sells futures contracts.
The purpose of the acquisition or sale of a futures contract, in the case of a
Portfolio which holds or intends to acquire fixed-income securities, is to
attempt to protect the Portfolio from fluctuations in interest or foreign
exchange rates without actually buying or selling fixed-income securities or
foreign currencies. For example, if interest rates were expected to increase, a
Portfolio might enter into futures contracts for the sale of debt securities.
Such a sale would have much the same effect as selling an equivalent value of
the debt securities owned by the Portfolio. If interest rates did increase, the
value of the debt security in a Portfolio would decline, but the value of the
futures contracts to the Portfolio would increase at approximately the same
rate, thereby keeping the net asset value of the Portfolio from declining as
much as it otherwise would have. The Portfolio could accomplish similar results
by selling debt securities and investing in bonds with short maturities when
interest rates are expected to increase. However, since the futures market is
generally more liquid than the cash market, the use of futures contracts as an
investment technique allows a Portfolio to maintain a defensive position without
having to sell its portfolio securities.
Similarly, when it is expected that interest rates may decline, futures
contracts may be purchased to attempt to hedge against anticipated purchases of
debt securities at higher prices. Since the fluctuations in the value of futures
contracts should be similar to those of debt securities, a Portfolio could take
advantage of the anticipated rise in the value of debt securities without
actually buying them until the market had stabilized. At that time, the futures
contracts could be liquidated and the Portfolio could then buy debt securities
on the cash market.
When a Portfolio enters into futures contracts, the Portfolio will establish a
segregated account to cover the Portfolio's obligations with respect to such
futures contracts. The assets in the account will consist of cash, cash
equivalents or high quality liquid debt securities from its portfolio in an
amount equal to the difference between the fluctuating market value of such
futures contracts and the aggregate value of the initial and variation margin
payments made by the Portfolio with respect to such futures contracts.
The ordinary spreads between prices in the cash and futures market, due to
differences in the nature of those markets, are subject to distortions. First,
all participants in the futures market are subject to initial deposit and
variation margin requirements. Rather than meeting additional variation margin
requirements, investors may close futures contracts through offsetting
transactions which could distort the normal relationship between the cash and
futures markets. Second, the liquidity of the futures market depends on
participants entering into offsetting transactions rather than making or taking
delivery. To
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the extent participants decide to make or take delivery, liquidity in the
futures market could be reduced, thus producing distortion. Third, from the
point of view of speculators, the margin deposit requirements in the futures
market are less onerous than margin requirements in the securities market.
Therefore, increased participation by speculators in the futures market may
cause temporary price distortions. Due to the possibility of distortion, a
correct forecast of general interest rate or other trends by the applicable
Subadviser may still not result in a successful transaction.
In addition, futures contracts entail risks. Although the Subadvisers believe
that use of such contracts will benefit the Portfolios, if the Subadvisers'
investment judgment about the general direction of interest rates is incorrect,
a Portfolio's overall performance would be poorer than if it had not entered
into any such contract. For example, if a Portfolio has hedged against the
possibility of an increase in interest rates which would adversely affect the
price of debt securities held by it and interest rates decrease instead, the
Portfolio will lose part or all of the benefit of the increased value of its
debt securities which it has hedged because it will have offsetting losses in
its futures positions. In addition, in such situations, if a Portfolio has
insufficient cash, it may have to sell debt securities to meet daily variation
margin requirements. Such sales of bonds may be, but will not necessarily be, at
increased prices which reflect the rising market. A Portfolio may have to sell
securities at a time when it may be disadvantageous to do so.
Options on Futures Contracts. The Portfolios may purchase and write options on
futures contracts for hedging purposes. The purchase of a call option on a
futures contract is similar in some respects to the purchase of a call option on
an individual security. Depending on the pricing of the option compared to
either the price of the futures contract upon which it is based or the price of
the underlying securities, it may or may not be less risky than ownership of the
futures contract or underlying securities. As with the purchase of futures
contracts, when a Portfolio is not fully invested it may purchase a call option
on a futures contract to hedge against a market advance due to declining
interest rates.
The purchase of a put option on a futures contract is similar in some respects
to the purchase of protective put options on portfolio securities. For example,
a Portfolio may purchase a put option on a futures contract to hedge its
portfolio against the risk of rising interest rates.
The amount of risk a Portfolio assumes when it purchases an option on a futures
contract is the premium paid for the option plus related transaction costs. In
addition to the correlation risks discussed above, the purchase of an option
also entails the risk that changes in the value of the underlying futures
contract will not be fully reflected in the value of the option purchased.
The writing of a call option on a futures contract constitutes a partial hedge
against declining prices of the security or currency which is deliverable upon
exercise of the futures contract. If the futures price at expiration of the
option is below the exercise price, a Portfolio will retain the full amount of
the option premium which provides a partial hedge against any decline that may
have occurred in the Portfolio's portfolio holdings. The writing of a put option
on a futures contract constitutes a partial hedge against increasing prices of
the security or foreign currency which is deliverable upon exercise of the
futures contract. If the futures price at expiration of the option is higher
than the exercise price, the Portfolio will retain the full amount of the option
premium which provides a partial hedge against any increase in the price of
securities which the Portfolio intends to purchase. If a put or call option the
Portfolio has written is exercised, the Portfolio will incur a loss which will
be reduced by the amount of the premium it receives. In the case of a call
option written by the Portfolio, the loss is potentially unlimited. Depending on
the degree of correlation between changes in the value of its portfolio
securities and changes in the value of its futures positions, the Portfolio's
losses from options on futures may to some extent be reduced or increased by
changes in the value of portfolio securities.
The Board of Trustees of Diversified Investors Portfolios have adopted the
requirement that futures contracts and options on futures contracts be used
either (a) as a hedge without regard to any quantitative limitation, or (b) for
other purposes to the extent that immediately thereafter the aggregate amount of
margin deposits on all (non-hedge) futures contracts of a Portfolio and premiums
paid on outstanding (non-hedge) options on futures contracts owned by the
Portfolio does not exceed 5% of the
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market value of the total assets of the Portfolio. In addition, the aggregate
market value of the outstanding futures contracts purchased by the Portfolio may
not exceed 50% of the market value of the total assets of the Portfolio. Neither
of these restrictions will be changed by Diversified Investors Portfolios' Board
of Trustees without considering the policies and concerns of the various
applicable federal and state regulatory agencies.
Options on Foreign Currencies. A Portfolio may purchase and write options on
foreign currencies for hedging purposes in a manner similar to that in which
futures contracts on foreign currencies, or forward contracts, may be utilized.
For example, a decline in the dollar value of a foreign currency in which
portfolio securities are denominated will reduce the dollar value of such
securities, even if their value in the foreign currency remains constant. In
order to protect against such diminutions in the value of portfolio securities,
the Portfolio may purchase put options on the foreign currency. If the value of
the currency does decline, a Portfolio will have the right to sell such currency
for a fixed amount in dollars and will thereby offset, in whole or in part, the
adverse effect on its portfolio which otherwise would have resulted.
Conversely, where a rise in the dollar value of a currency in which securities
to be acquired are denominated is projected, thereby increasing the cost of such
securities, the Portfolio may purchase call options thereon. The purchase of
such options could offset, at least partially, the effects of the adverse
movements in exchange rates. As in the case of other types of options, however,
the benefit to the Portfolio deriving from purchases of foreign currency options
will be reduced by the amount of the premium and related transaction costs. In
addition, where currency exchange rates do not move in the direction or to the
extent anticipated, the Portfolio could sustain losses on transactions in
foreign currency options which would require it to forego a portion or all of
the benefits of advantageous changes in such rates.
A Portfolio may write options on foreign currencies for the same types of
hedging purposes. For example, where a Portfolio anticipates a decline in the
dollar value of foreign currency denominated securities due to adverse
fluctuations in exchange rates it could, instead of purchasing a put option,
write a call option on the relevant currency. If the expected decline occurs,
the options will most likely not be exercised, and the diminution in value of
portfolio securities will be offset by the amount of the premium received.
Similarly, instead of purchasing a call option to hedge against an anticipated
increase in the dollar cost of securities to be acquired, the Portfolio could
write a put option on the relevant currency which, if rates move in the manner
projected, will expire unexercised and allow the Portfolio to hedge such
increased cost up to the amount of the premium. As in the case of other types of
options, however, the writing of a foreign currency option will constitute only
a partial hedge up to the amount of the premium, and only if rates move in the
expected direction. If this does not occur, the option may be exercised and the
Portfolio would be required to purchase or sell the underlying currency at a
loss which may not be offset by the amount of the premium. Through the writing
of options on foreign currencies, the Portfolio also may be required to forego
all or a portion of the benefits which might otherwise have been obtained from
favorable movements in exchange rates.
Losses from the writing of call options are potentially unlimited. Accordingly,
the Portfolios intend that any call options on foreign currencies that they
write (other than for cross-hedging purposes as described below) will be
covered. A call option written on a foreign currency by a Portfolio is "covered"
if the Portfolio owns the underlying foreign currency covered by the call or has
an absolute and immediate right to acquire that foreign currency without
additional cash consideration (or for additional cash consideration held in a
segregated account by its custodian) upon conversion or exchange of another
foreign currency held in its portfolio. A call option is also covered if the
Portfolio has a call on the same foreign currency and in the same principal
amount as the call written where the exercise price of the call held (a) is
equal to or less than the exercise price of the call written or (b) is greater
than the exercise price of the call written if the difference is maintained by
the Portfolio in cash, U.S.
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Government securities and other high quality liquid debt securities in a
segregated account with its custodian.
The Portfolios may also write call options on foreign currencies that are not
covered for cross-hedging purposes. A call option on a foreign currency is for
cross-hedging purposes if it is not covered, but is designed to provide a hedge
against a decline in the U.S. dollar value of a security which the Portfolio
owns or has the right to acquire and which is denominated in the currency
underlying the option due to an adverse change in the exchange rate. In such
circumstances, the Portfolio collateralizes the option by maintaining in a
segregated account with its custodian, cash or U.S. Government securities or
other high quality liquid debt securities in an amount not less than the value
of the underlying foreign currency in U.S. dollars marked to market daily.
Additional Risks of Options on Futures Contracts, Forward Contracts and Options
on Foreign Currencies. Unlike transactions entered into by a Portfolio in
futures contracts, forward contracts and options on foreign currencies are not
traded on contract markets regulated by the CFTC or (with the exception of
certain foreign currency options) by the SEC. To the contrary, such instruments
are traded through financial institutions acting as market-makers, although
foreign currency options are also traded on certain national securities
exchanges, such as the Philadelphia Stock Exchange and the Chicago Board Options
Exchange, subject to SEC regulation. Similarly, options on currencies may be
traded over-the-counter. In an over-the-counter trading environment, many of the
protections afforded to exchange participants will not be available. For
example, there are no daily price fluctuation limits, and adverse market
movements could therefore continue to an unlimited extent over a period of time.
Moreover, the option writer and a trader of forward contracts could lose amounts
substantially in excess of their initial investments, due to the margin and
collateral requirements associated with such positions.
Options on foreign currencies traded on national securities exchanges are within
the jurisdiction of the SEC, as are other securities traded on such exchanges.
As a result, many of the protections provided to traders on organized exchanges
will be available with respect to such transactions. In particular, all foreign
currency option positions entered into on a national securities exchange are
cleared and guaranteed by the Options Clearing Corporation ("OCC"), thereby
reducing the risk of counterparty default. Further, a liquid secondary market in
options traded on a national securities exchange may be more readily available
than in the over-the-counter market, potentially permitting a Portfolio to
liquidate open positions at a profit prior to exercise or expiration, or to
limit losses in the event of adverse market movements.
The purchase and sale of exchange-traded foreign currency options, however, is
subject to the risks of the availability of a liquid secondary market described
above, as well as the risks regarding adverse market movements, margining of
options written, the nature of the foreign currency market, possible
intervention by governmental authorities and the effects of other political and
economic events. In addition, exchange-traded options on foreign currencies
involve certain risks not presented by the over-the-counter market. For example,
exercise and settlement of such options must be made exclusively through the
OCC, which has established banking relationships in applicable foreign countries
for this purpose. As a result, the OCC may, if it determines that foreign
governmental restrictions or taxes would prevent the orderly settlement of
foreign currency option exercises, or would result in undue burdens on the OCC
or its clearing member, impose special procedures on exercise and settlement,
such as technical changes in the mechanics of delivery of currency, the fixing
of dollar settlement prices or prohibitions on exercise.
As in the case of forward contracts, certain options on foreign currencies are
traded over-the-counter and involve liquidity and credit risks which may not be
present in the case of exchange-traded currency options. A Portfolio's ability
to terminate over-the-counter options will be more limited than with
exchange-traded options. It is also possible that broker-dealers participating
in over-the-counter options transactions will not fulfill their obligations.
Until such time as the staff of the SEC changes its position, each Portfolio
will treat purchased over-the-counter options and assets used to cover written
over-the-counter options as illiquid securities. With respect to options written
with primary dealers in U.S.
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Government securities pursuant to an agreement requiring a closing purchase
transaction at a formula price, the amount of illiquid securities may be
calculated with reference to the repurchase formula.
In addition, futures contracts, options on futures contracts, forward contracts
and options on foreign currencies may be traded on foreign exchanges. Such
transactions are subject to the risk of governmental actions affecting trading
in or the prices of foreign currencies or securities. The value of such
positions also could be adversely affected by (a) other complex foreign
political and economic factors, (b) lesser availability than in the United
States of data on which to make trading decisions, (c) delays in the Portfolio's
ability to act upon economic events occurring in foreign markets during
non-business hours in the United States, (d) the imposition of different
exercise and settlement terms and procedures and margin requirements than in the
United States, and (e) lesser trading volume.
The successful use of futures contracts, options on futures contracts and
options on foreign currencies draws upon the applicable Subadviser's skill and
experience with respect to such instruments. Should stock prices, interest or
exchange rates move in an unexpected manner, a Portfolio may not achieve the
anticipated benefits of futures contracts or options on futures contracts or
foreign currencies or may realize losses and thus will be in a worse position
than if such strategies had not been used. In addition, the correlation between
movements in the price of futures contracts or options on futures contracts or
foreign currencies and movements in the price of the securities and currencies
hedged or used for cover will not be perfect and could produce unanticipated
losses.
OPTIONS ON SECURITIES -- PORTFOLIOS OTHER THAN THE MONEY MARKET PORTFOLIO
The Portfolios may write (sell) covered call and put options to a limited extent
on their portfolio securities ("covered options"). However, a Portfolio may
forego the benefits of appreciation on securities sold or may pay more than the
market price on securities acquired pursuant to call and put options written by
the Portfolio.
When a Portfolio writes a covered call option, it gives the purchaser of the
option the right to buy the underlying security at the price specified in the
option (the "exercise price") by exercising the option at any time during the
option period. If the option expires unexercised, the Portfolio will realize
income in an amount equal to the premium received for writing the option. If the
option is exercised, a decision over which a Portfolio has no control, the
Portfolio must sell the underlying security to the option holder at the exercise
price. By writing a covered call option, a Portfolio forgoes, in exchange for
the premium less the commission ("net premium"), the opportunity to profit
during the option period from an increase in the market value of the underlying
security above the exercise price.
When a Portfolio writes a covered put option, it gives the purchaser of the
option the right to sell the underlying security to the Portfolio at the
specified exercise price at any time during the option period. If the option
expires unexercised, the Portfolio will realize income in the amount of the
premium received for writing the option. If the put option is exercised, a
decision over which a Portfolio has no control, the Portfolio must purchase the
underlying security from the option holder at the exercise price. By writing a
covered put option, a Portfolio, in exchange for the net premium received,
accepts the risk of a decline in the market value of the underlying security
below the exercise price. A Portfolio will only write put options involving
securities for which a determination is made at the time the option is written
that the Portfolio wishes to acquire the securities at the exercise price.
A Portfolio may terminate its obligation as the writer of a call or put option
by purchasing an option with the same exercise price and expiration date as the
option previously written. This transaction is called a "closing purchase
transaction." Where a Portfolio cannot effect a closing purchase transaction, it
may be forced to incur brokerage commissions or dealer spreads in selling
securities it receives or it may be forced to hold underlying securities until
an option is exercised or expires.
When a Portfolio writes an option, an amount equal to the net premium received
by the Portfolio is included in the liability section of the Portfolio's
Statement of Assets and Liabilities as a deferred credit. The amount of the
deferred credit will be subsequently marked to market to reflect the current
market
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value of the option written. The current market value of a traded option is the
last sale price or, in the absence of a sale, the mean between the closing bid
and asked price. If an option expires on its stipulated expiration date or if
the Portfolio enters into a closing purchase transaction, the Portfolio will
realize a gain (or loss if the cost of a closing purchase transaction exceeds
the premium received when the option was sold), and the deferred credit related
to such option will be eliminated. If a call option is exercised, the Portfolio
will realize a gain or loss from the sale of the underlying security and the
proceeds of the sale will be increased by the premium originally received.
Securities against which call options are written will be segregated on the
books of the custodian for the Portfolio.
A Portfolio may purchase call and put options on any securities in which it may
invest. A Portfolio would normally purchase a call option in anticipation of an
increase in the market value of such securities. The purchase of a call option
would entitle the Portfolio, in exchange for the premium paid, to purchase a
security at a specified price during the option period. A Portfolio would
ordinarily have a gain if the value of the securities increased above the
exercise price sufficiently to cover the premium and would have a loss if the
value of the securities remained at or below the exercise price during the
option period.
A Portfolio would normally purchase put options in anticipation of a decline in
the market value of securities in its portfolio ("protective puts") or
securities of the type in which it is permitted to invest. The purchase of a put
option would entitle a Portfolio, in exchange for the premium paid, to sell a
security, which may or may not be held in the Portfolio's portfolio, at a
specified price during the option period. The purchase of protective puts is
designed merely to offset or hedge against a decline in the market value of the
Portfolio's portfolio securities. Put options also may be purchased by a
Portfolio for the purpose of affirmatively benefiting from a decline in the
price of securities which the Portfolio does not own. A Portfolio would
ordinarily recognize a gain if the value of the securities decreased below the
exercise price sufficiently to cover the premium and would recognize a loss if
the value of the securities remained at or above the exercise price. Gains and
losses on the purchase of protective put options would tend to be offset by
countervailing changes in the value of underlying portfolio securities.
The hours of trading for options on securities may not conform to the hours
during which the underlying securities are traded. To the extent that the option
markets close before the markets for the underlying securities, significant
price and rate movements can take place in the underlying securities markets
that cannot be reflected in the option markets. It is impossible to predict the
volume of trading that may exist in such options, and there can be no assurance
that viable exchange markets will develop or continue.
The Portfolios may engage in over-the-counter options transactions with
broker-dealers who make markets in these options. The ability to terminate
over-the-counter option positions is more limited than with exchange-traded
option positions because the predominant market is the issuing broker rather
than an exchange, and may involve the risk that broker-dealers participating in
such transactions will not fulfill their obligations. To reduce this risk, the
Portfolios will purchase such options only from broker-dealers who are primary
government securities dealers recognized by the Federal Reserve Bank of New York
and who agree to (and are expected to be capable of) entering into closing
transactions, although there can be no guarantee that any such option will be
liquidated at a favorable price prior to expiration. The applicable Subadviser
will monitor the creditworthiness of dealers with whom a Portfolio enters into
such options transactions under the general supervision of the Adviser and the
applicable Board of Trustees.
OPTIONS ON SECURITIES INDICES -- PORTFOLIOS OTHER THAN THE MONEY MARKET
PORTFOLIO
In addition to options on securities, the Portfolios may also purchase and write
(sell) call and put options on securities indices. Such options give the holder
the right to receive a cash settlement during the term of the option based upon
the difference between the exercise price and the value of the index. Such
options will be used for the purposes described above under "Options on
Securities."
<PAGE> 89
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Options on securities indices entail risks in addition to the risks of options
on securities. The absence of a liquid secondary market to close out options
positions on securities indices is more likely to occur, although the Portfolios
generally will only purchase or write such an option if the applicable
Subadviser believes the option can be closed out.
Use of options on securities indices also entails the risk that trading in such
options may be interrupted if trading in certain securities included in the
index is interrupted. A Portfolio will not purchase such options unless the
applicable Subadviser believes the market is sufficiently developed such that
the risk of trading in such options is no greater than the risk of trading in
options on securities.
Price movements in the Portfolios' securities may not correlate precisely with
movements in the level of an index and, therefore, the use of options on indices
cannot serve as a complete hedge. Because options on securities indices require
settlement in cash, a Portfolio may be forced to liquidate portfolio securities
to meet settlement obligations.
SHORT SALES "AGAINST THE BOX" -- PORTFOLIOS OTHER THAN THE MONEY MARKET
PORTFOLIO
In a short sale, a Portfolio sells a borrowed security and has a corresponding
obligation to the lender to return the identical security. A Portfolio may
engage in short sales only if at the time of the short sale it owns or has the
right to obtain, at no additional cost, an equal amount of the security being
sold short. This investment technique is known as a short sale "against the
box".
In a short sale, the seller does not immediately deliver the securities sold and
is said to have a short position in those securities until delivery occurs. If a
Portfolio engages in a short sale, the collateral for the short position will be
maintained by its custodian or qualified sub-custodian. While the short sale is
open, a Portfolio maintains in a segregated account an amount of securities
equal in kind and amount to the securities sold short or securities convertible
into or exchangeable for such equivalent securities. These securities constitute
the Portfolio's long position.
The Portfolios will not engage in short sales against the box for investment
purposes. A Portfolio may, however, make a short sale as a hedge, when it
believes that the price of a security may decline, causing a decline in the
value of a security (or a security convertible or exchangeable for such
security). In such case, any future losses in a Portfolio's long position should
be reduced by a gain in the short position. Conversely, any gain in the long
position should be reduced by a loss in the short position. The extent to which
such gains or losses are reduced depends upon the amount of the security sold
short relative to the amount a Portfolio owns. There are certain additional
transaction costs associated with short sales against the box, but the
Portfolios endeavor to offset these costs with the income from the investment of
the cash proceeds of short sales.
As a nonfundamental operating policy, it is not expected that more than 40% of a
Portfolio's total assets would be involved in short sales against the box. The
Portfolios do not currently intend to engage in such sales.
REAL ESTATE INVESTMENT TRUSTS
Real Estate Investment Trusts ("REITs") pool investors' funds for investment
primarily in income producing real estate or real estate related loans or
interests. A REIT is not taxed on income distributed to its shareholders or
unitholders if it complies with regulatory requirements relating to its
organization, ownership, assets and income and a regulatory requirement that it
distribute to its shareholders or unitholders as least 95% of its taxable income
for each taxable year. Generally, REITs can be classified as Equity REITs,
Mortgage REITs and hybrid REITs. Equity REITs invest the majority of their
assets directly in real property and derive their income primarily through rents
and capital gains from appreciation realized through property sales. Equity
REITs may be affected by changes in the value of the underlying property owned
by the REITs. Mortgage REITs invest the majority of their assets in real estate
mortgages and derive their income primarily from interest payments. Mortgage
REITs are sensitive to the credit quality of the underlying borrowers. Hybrid
REITs combine the characteristics of both
<PAGE> 90
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Equity and Mortgage REITs. The value of REITs may be affected by management
skill, cash flow and tax and regulatory requirements. REITs are also subject to
risks generally associated with investments in real estate. A Portfolio will
indirectly bear its proportionate share of any expenses, including management
fees, paid by a REIT in which it invests.
LOANS OF PORTFOLIO SECURITIES
Each Portfolio may lend securities from its portfolio to brokers, dealers and
financial institutions (but not individuals) if cash, U.S. Government securities
or other high quality debt obligations equal to at least 100% of the current
market value of the securities loaned (including accrued interest thereon) plus
the interest payable to the Portfolio with respect to the loan is maintained
with the Portfolio. In determining whether or not to lend a security to a
particular broker, dealer or financial institution, the Portfolio's Subadviser
considers all relevant facts and circumstances, including the size,
creditworthiness and reputation of the broker, dealer or financial institution.
Any loans of portfolio securities are fully collateralized based on values that
are marked to market daily. No Portfolio enters into any portfolio security
lending arrangements having a duration longer than one year. Any securities that
a Portfolio receives as collateral do not become part of its portfolio at the
time of the loan and, in the event of a default by the borrower, the Portfolio
will, if permitted by law, dispose of such collateral except for such part
thereof that is a security in which the Portfolio is permitted to invest. During
the time securities are on loan, the borrower will pay the Portfolio any accrued
income on those securities, and the Portfolio may invest the cash collateral and
earned income or receive an agreed-upon fee from a borrower that has delivered
cash-equivalent collateral. In the event of the bankruptcy of the other party to
a securities loan, the Portfolio could experience delays in recovering either
the securities lent or cash. To the extent that, in the meantime, the value of
the securities lent has increased or the value of the securities purchased has
decreased, a Portfolio could experience a loss. No Portfolio will lend
securities having a value that exceeds one-third of the current value of its
total assets. Loans of securities by a Portfolio are subject to termination at
the Portfolio's or the borrower's option. A Portfolio may pay reasonable
administrative and custodial fees in connection with a securities loan and may
pay a negotiated portion of the interest or fee earned with respect to the
collateral to the borrower or the placing broker.
INVESTMENTS IN WARRANTS
The Stock Index Fund may invest up to 5% of net assets at the time of purchase
in warrants (other than those that have been acquired in units or attached to
other securities), including not more than 2% of each of their net assets in
warrants which are not listed on the New York or American Stock Exchange. A
warrant is an instrument issued by a corporation which gives the holder the
right to subscribe to a specified amount of the corporation's capital stock at a
set price for a specified period of time. The prices of warrants do not
necessarily correlate with the prices of the underlying securities. The Stock
Index fund may only purchase warrants on securities in which the Fund may invest
directly.
TEMPORARY DEFENSIVE POSITIONS
Each Portfolio may, from time to time, take temporary defensive positions that
are inconsistent with the Portfolio's principal investment strategies in
attempting to respond to adverse market, political or other conditions. When
doing so, the Portfolio may invest without limit in high quality money market
and other short-term instruments, and may not be pursuing its investment goal.
These investments may result in a lower yield than would be available from
investments with a lower quality or longer term.
CERTAIN OTHER OBLIGATIONS
Each Portfolio may invest in obligations other than those listed previously,
provided such investments are consistent with the Portfolio's investment
objective, policies and restrictions.
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RATING SERVICES
The ratings of rating services represent their opinions as to the quality of the
securities that they undertake to rate. It should be emphasized, however, that
ratings are relative and subjective and are not absolute standards of quality.
Although these ratings are an initial criterion for selection of portfolio
investments, the Subadvisers also make their own evaluations of these
securities. After purchase by a Portfolio, an obligation may cease to be rated
or its rating may be reduced below the minimum required for purchase by the
Portfolio. Neither event would require a Portfolio to dispose of the obligation,
but the applicable Subadviser will consider such an event in its determination
of whether the Portfolio should continue to hold the obligation. A description
of the ratings used herein and in the Prospectus is set forth in Appendix A.
Except as stated otherwise, all investment policies and restrictions described
herein are nonfundamental, and may be changed without prior shareholder
approval.
INVESTMENT RESTRICTIONS OF THE PORTFOLIOS
The "fundamental policies" of each Portfolio may not be changed with respect to
the Portfolio without the approval of a "majority of the outstanding voting
securities" of the Portfolio. "Majority of the outstanding voting securities"
under the 1940 Act and as used in this Statement of Additional Information and
the Prospectus means, with respect to a Portfolio, the lesser of (i) 67% or more
of the total beneficial interests of the Portfolio present at a meeting, if the
holders of more than 50% of the total beneficial interests of the Portfolio are
present or represented by proxy, or (ii) more than 50% of the total beneficial
interests of the Portfolio.
If a percentage or a rating restriction on investment or utilization of assets
is adhered to at the time an investment is made or assets are so utilized, a
later change in such percentage resulting from changes in a Portfolio's total
assets or the value of a Portfolio's securities, or a later change in the rating
of a portfolio security, will not be considered a violation of the relevant
policy.
Fundamental Policies. As a matter of fundamental policy, no Portfolio may:
(1) borrow money or mortgage or hypothecate assets of the Portfolio, except
that in an amount not to exceed 1/3 of the current value of the Portfolio's
assets (including such borrowing) less liabilities (not including such
borrowing), it may borrow money and enter into reverse repurchase
agreements, and except that it may pledge, mortgage or hypothecate not more
than 1/3 of such assets to secure such borrowings or reverse repurchase
agreements, provided that collateral arrangements with respect to options
and futures, including deposits of initial deposit and variation margin,
are not considered a pledge of assets for purposes of this restriction and
except that assets may be pledged to secure letters of credit solely for
the purpose of participating in a captive insurance company sponsored by
the Investment Company Institute;
(2) underwrite securities issued by other persons except insofar as
Diversified Investors Portfolios or a Portfolio may technically be deemed
an underwriter under the 1933 Act in selling a portfolio security;
(3) make loans to other persons except (a) through the lending of the
Portfolio's portfolio securities and provided that any such loans not
exceed 30% of the Portfolio's total assets (taken at market value), (b)
through the use of repurchase agreements or the purchase of short-term
obligations or (c) by purchasing debt securities of types distributed
publicly or privately;
(4) purchase or sell real estate (including limited partnership interests
but excluding securities secured by real estate or interests therein),
interests in oil, gas or mineral leases, commodities or commodity contracts
(except futures and option contracts) in the ordinary course of business
(Diversified Investors Portfolios may hold and sell, for the Portfolio's
portfolio, real estate acquired as a result of the Portfolio's ownership of
securities);
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(5) concentrate its investments in any particular industry (excluding U.S.
Government securities), but if it is deemed appropriate for the achievement
of the Portfolio's investment objective(s), up to 25% of its total assets
may be invested in any one industry (except that the Money Market Portfolio
reserves the freedom of action to concentrate 25% or more of its assets in
obligations of domestic branches of domestic banks); or
(6) issue any senior security (as that term is defined in the 1940 Act) if
such issuance is specifically prohibited by the 1940 Act or the rules and
regulations promulgated thereunder, provided that collateral arrangements
with respect to options and futures, including deposits of initial deposit
and variation margin, are not considered to be the issuance of a senior
security for purposes of this restriction.
For purposes of restriction (1) above, arrangements with respect to securities
lending are not treated as borrowing.
Non-Fundamental Policies.
Each Portfolio will not, as a matter of operating policy, acquire any securities
of registered open-end investment companies or registered unit investment trusts
in reliance on Section 12(d)(1)(F) or 12(d)(1)(G) of the 1940 Act. This policy
does not prevent a Portfolio from investing in securities of registered open-end
investment companies or registered unit investment trusts in reliance on any
other provision of applicable law or regulation.
These policies may be changed by the Board of Trustees of Diversified Investors
Portfolios.
PORTFOLIO TRANSACTIONS AND BROKERAGE COMMISSIONS
Except as may be required to ensure satisfaction of certain tests applicable to
regulated investment companies under the Internal Revenue Code, portfolio
changes are made without regard to the length of time a security has been held,
or whether a sale would result in the recognition of a profit or loss.
Therefore, the rate of portfolio turnover is not a limiting factor when changes
are appropriate. Portfolio trading is engaged in for a Portfolio if the
applicable Subadviser believes that a transaction net of costs (including
custodian charges) will help achieve the Portfolio's investment objective.
A Portfolio's purchases and sales of securities may be principal transactions,
that is, securities may be purchased directly from the issuer or from an
underwriter or market maker for the securities. There usually are no brokerage
commissions paid for such purchases and, therefore, the Portfolios do not
anticipate paying brokerage commissions in such transactions.
BROKERAGE TRANSACTIONS. Each Portfolio's Subadvisers may use brokers or dealers
for Portfolio transactions who also provide brokerage and research services to
the Portfolio or other accounts over which the advisers exercise investment
discretion. A Portfolio may "pay up" for brokerage services, meaning that it is
authorized to pay a broker or dealer who provides these brokerage and research
services a commission for executing a portfolio transaction which is higher than
the commission another broker or dealer would have charged. However, a Portfolio
will "pay up" only if the applicable adviser determines in good faith that the
higher commission is reasonable in relation to the brokerage and research
services provided, viewed in terms of either the particular transaction or all
of the accounts over which the adviser exercises investment discretion.
Investment decisions for a Portfolio will be made independently from those for
any other account or investment company that is or may in the future become
managed by the Portfolio's Subadviser or its affiliates. If, however, the
Portfolio and other investment companies or accounts managed by the Subadviser
are contemporaneously engaged in the purchase or sale of the same security, the
transactions may be averaged as to price and allocated equitably to each
account. In some cases, this policy might adversely affect the price paid or
received by the Portfolio or the size of the position obtainable for the
Portfolio. In addition, when purchases or sales of the same security for the
Portfolio and for other investment companies managed by the Subadviser occur
contemporaneously, the purchase or sale orders
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may be aggregated in order to obtain any price advantages available to large
denomination purchases or sales.
The following Portfolios paid the approximate brokerage commissions indicated
for the fiscal years noted below:
BALANCED PORTFOLIO
Fiscal year ended December 31, 1997: $324,465
Fiscal year ended December 31, 1998: $488,301
Fiscal year ended December 31, 1999: $826,394
VALUE & INCOME PORTFOLIO
Fiscal year ended December 31, 1997: $ 659,256
Fiscal year ended December 31, 1998: $ 855,733
Fiscal year ended December 31, 1999: $1,129,249
EQUITY VALUE PORTFOLIO
Fiscal year ended December 31, 1997: $548,229
Fiscal year ended December 31, 1998: $890,565
Fiscal year ended December 31, 1999: $742,561
GROWTH & INCOME PORTFOLIO
Fiscal year ended December 31, 1997: $ 390,268
Fiscal year ended December 31, 1998: $ 728,627
Fiscal year ended December 31, 1999: $1,093,564
EQUITY GROWTH PORTFOLIO
Fiscal year ended December 31, 1997: $483,139
Fiscal year ended December 31, 1998: $853,305
Fiscal year ended December 31, 1999: $749,655
SPECIAL EQUITY PORTFOLIO
Fiscal year ended December 31, 1997: $1,017,376
Fiscal year ended December 31, 1998: $1,495,526
Fiscal year ended December 31, 1999: $1,349,955
AGGRESSIVE EQUITY PORTFOLIO
Fiscal year ended December 31, 1997: $ 48,943
Fiscal year ended December 31, 1998: $114,263
Fiscal year ended December 31, 1999: $235,606
INTERNATIONAL EQUITY PORTFOLIO
Fiscal year ended December 31, 1997: $295,967
Fiscal year ended December 31, 1998: $414,060
Fiscal year ended December 31, 1999: $494,520
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INVESTMENT RESTRICTIONS RELATING TO THE STRATEGIC VARIABLE FUNDS SUBACCOUNTS
Fundamental policies of the Strategic Variable Funds Subaccounts may not be
changed without the approval of the lesser of (1) 67% of the beneficial holders
of units present at a meeting if the holders of more than 50% are present in
person or by proxy or (2) more than 50% of the beneficial holders of units.
Other restrictions, in the form of operating policies, are subject to change by
the Managing Board of the Strategic Variable Funds Account without unitholder
approval. Any investment restriction which involves a maximum percentage of
securities or assets shall not be considered to be violated unless an excess
over the percentage occurs immediately after, and is caused by, an acquisition
of securities or assets of, or borrowings by, a Strategic Variable Funds
Subaccount.
As a matter of fundamental policy, each Strategic Variable Funds Subaccount may
not:
(1) Borrowing. Borrow money, except each Strategic Variable Funds
Subaccount may borrow as a temporary measure for extraordinary or emergency
purposes, and then only in amounts not exceeding 30% of its total assets
valued at market. Each Strategic Variable Funds Subaccount will not borrow
in order to increase income (leveraging), but only to facilitate redemption
requests which might otherwise require untimely investment liquidations;
(2) Loans. Make loans, although the Portfolios through which the Strategic
Variable Funds Subaccounts invest may purchase money market securities and
enter into repurchase agreements;
(3) Margin. Purchase securities on margin;
(4) Mortgaging. Mortgage, pledge, hypothecate or, in any manner, transfer
any security owned by the Strategic Variable Funds Subaccounts as security
for indebtedness except as may be necessary in connection with permissible
borrowings, in which event such mortgaging, pledging, or hypothecating may
not exceed 30% of each Subaccount's total assets, valued at market;
(5) Real Estate. Purchase or sell real estate;
(6) Senior Securities. Issue senior securities (except permitted
borrowings);
(7) Short Sales. Effect short sales of securities; or
(8) Underwriting. Underwrite securities issued by other persons, except to
the extent that the Strategic Variable Funds Account or Subaccounts may be
deemed to be underwriters within the meaning of the Securities Act of 1933
in connection with the purchase and sale of their portfolio securities in
the ordinary course of pursuing their investment programs.
In addition, as a matter of fundamental policy, each Strategic Variable Funds
Subaccount may engage in futures and options transactions through investments in
the Portfolios.
As a matter of operating policy, each Strategic Variable Funds Subaccount may
not:
(1) Control of Portfolio Companies. Invest in companies for the purpose of
exercising management or control;
(2) Illiquid Securities. Purchase a security if, as a result of such
purchase, more than 15% of the value of each Strategic Variable Funds
Subaccount's net assets would be invested in illiquid securities or other
securities that are not readily marketable;
(3) Oil and Gas Programs. Purchase participations or other direct interests
or enter into leases with respect to, oil, gas, other mineral exploration
or development programs;
(4) Options. Invest in options;
(5) Ownership of Portfolio Securities by Officers and Directors. Purchase
or retain the securities of any issuer if, to the knowledge of the Managing
Board of the Strategic Variable Funds Account,
<PAGE> 95
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those officers and directors of AUSA and Diversified, who each owns
beneficially more than .5% of the outstanding securities of such issuer,
together own beneficially more than 5% of such securities;
(6) Unseasoned Issuers. Purchase the securities of any issuer (other than
obligations issued or guaranteed by the U.S. Government or any foreign
government, their agencies or instrumentalities) if, as a result, more than
5% of the value of each Subaccount's total assets would be invested in the
securities of issuers which at the time of purchase had been in operation
for less than three years, including predecessors and unconditional
guarantors; or
(7) Warrants. Invest in warrants.
Each Strategic Variable Funds Subaccount may invest more than 5% of its assets
in any one Variable Funds Subaccount, and each Strategic Variable Funds
Subaccount may invest substantially all of its assets, collectively, in Variable
Funds Subaccounts.
Because of their investment objectives and policies, the Strategic Variable
Funds Subaccounts will each concentrate more than 25% of their assets in the
investment company industry. In accordance with the Strategic Variable Funds
Subaccounts' investment programs set forth in the Prospectus, each of the
Strategic Variable Funds Subaccounts may invest more than 25% of its assets in
certain of the Variable Funds Subaccounts. However, each of the Portfolios in
which each Variable Funds Subaccount will invest will not concentrate more than
25% of its total assets in any one industry (except that the Money Market
Portfolio reserves the right to concentrate 25% or more of its assets in
obligations of domestic branches of domestic banks).
PERFORMANCE INFORMATION RELATING TO THE STRATEGIC VARIABLE FUNDS SUBACCOUNTS
STANDARD PERFORMANCE INFORMATION
From time to time, quotations of a Strategic Variable Funds Subaccount's
performance may be included in advertisements, sales literature or shareholder
reports. These performance figures are calculated in the following manner for
each Strategic Variable Funds Subaccount:
TOTAL RETURN
The Strategic Variable Funds Subaccount's total return will be calculated for
certain periods by determining the average annual compounded rates of return
over those periods that would cause an investment of $1,000 to reach the value
of that investment at the end of the periods. The Strategic Variable Funds
Subaccount may also calculate total rates of return which represent aggregate
performance over a period of year-by-year performance.
YIELD
The Strategic Variable Funds Subaccount's yield quotation will be based on the
annualized net investment income per unit of the Strategic Variable Funds
Subaccount over a 30-day period. The current yield for the Strategic Variable
Funds Subaccount is calculated by dividing the net investment income per unit of
the Strategic Variable Funds Subaccount earned during the period by the net
asset value per unit of the Strategic Variable Funds Subaccount on the last day
of that period. The resulting figure is then annualized. Net investment income
per unit is determined by dividing (i) the dividends and interest earned during
the period, minus accrued expenses for the period, by (ii) the average number of
units entitled to receive dividends during the period.
COMPARISON OF STRATEGIC VARIABLE FUNDS SUBACCOUNT PERFORMANCE
Comparison of the quoted non-standardized performance of various investments is
valid only if performance is calculated in the same manner. Since there are
different methods of calculating performance, investors should consider the
effect of the methods used to calculate performance when
<PAGE> 96
-24-
comparing performance of a Strategic Variable Funds Subaccount with performance
quoted with respect to other investment companies or types of investments.
In connection with communicating its performance to current or prospective
investors, a Strategic Variable Funds Subaccount also may compare these figures
to the performance of other funds tracked by fund rating services or to
unmanaged indices which may assume reinvestment of dividends but generally do
not reflect deductions for administrative and management costs. An underlying
Portfolio may invest in some instruments not eligible for inclusion in such an
index, and may be prohibited from investing in some instruments included in this
index. Evaluations of a Strategic Variable Funds Subaccount's performance made
by independent sources may also be used in advertisements concerning a Strategic
Variable Funds Subaccount. Sources for a Strategic Variable Funds Subaccount's
performance information may include, but are not limited to, the following:
Asian Wall Street Journal, a weekly Asian newspaper that often reviews U.S.
mutual funds investing internationally.
Barron's, a Dow Jones and Company, Inc. business and financial weekly that
periodically reviews mutual fund performance data.
Business Week, a national business weekly that periodically reports the
performance rankings and ratings of a variety of mutual funds investing
abroad.
Changing Times, The Kiplinger Magazine, a monthly investment advisory
publication that periodically features the performance of a variety of
securities.
Consumer Digest, a monthly business/financial magazine that includes a
"Money Watch" section featuring financial news.
Financial Times, Europe's business newspaper, which features from time to
time articles on international or country specific funds.
Financial World, a general business/financial magazine that includes a
"Market Watch" department reporting on activities in the mutual fund
industry.
Forbes, a national business publication that from time to time reports the
performance of specific investment companies in the mutual fund industry.
Fortune, a national business publication that periodically rates the
performance of a variety of mutual funds.
Investor's Daily, a daily newspaper that features financial, economic and
business news.
Lipper Analytical Services, Inc.'s Mutual Fund Performance Analysis, a
weekly publication of industry-wide mutual fund averages by type of fund.
Money, a monthly magazine that from time to time features both specific
funds and the mutual fund industry as a whole.
New York Times, a nationally distributed newspaper which regularly covers
financial news.
Personal Investing News, a monthly news publication that often reports on
investment opportunities and market conditions.
Personal Investor, a monthly investment advisory publication that includes
a "Mutual Funds Outlook" section reporting on mutual fund performance
measures, yields, indices and portfolio holdings.
Success, a monthly magazine targeted to the world of entrepreneurs and
growing business, often featuring mutual fund performance data.
U.S. News and World Report, a national business weekly that periodically
reports mutual fund performance data.
<PAGE> 97
-25-
Wall Street Journal, a Dow Jones and Company, Inc. newspaper which
regularly covers financial news.
Weisenberger Investment Companies Services, an annual compendium of
information about mutual funds and other investment companies, including
comparative data on funds' backgrounds, management policies, salient
features, management results, income and dividend records, and price
ranges.
Working Women, a monthly publication that features a "Financial Workshop"
section reporting on the mutual fund/financial industry.
World Investor, a European publication that periodically reviews the
performance of U.S. mutual funds investing internationally.
The performance of the Strategic Variable Funds Accounts may also be compared to
benchmarks consisting of a combination of unmanaged indices, such as the Lehman
Aggregate Bond Index, the Russell 1000 Value Index, the Russell 2000 Small Cap
Index, the Salomon 90-Day Treasury Index, and the EAFE GDP Equity Index. When a
Strategic Funds Account's performance is compared to such a combined benchmark,
the percentage of each unmanaged index included in the benchmark will be
disclosed.
DETERMINATION OF UNIT VALUE; VALUATION OF SECURITIES
AUSA determines the unit value of each Subaccount each day on which the New York
Stock Exchange is open for trading. (As a result, a Subaccount will normally
determine its net asset value every weekday except for the following holidays or
the days on which they are observed: New Year's Day, Martin Luther King, Jr.
Day, Presidents' Day, Good Friday, Memorial Day, Independence Day, Labor Day,
Thanksgiving Day and Christmas.) This daily determination of unit value is made
as of the close of regular trading on the New York Stock Exchange, currently
4:00 p.m., New York time unless the Exchange closes earlier, by dividing the
total assets of a Subaccount less all of its liabilities, by the total number of
units outstanding at the time the determination is made. Purchases and
redemptions will be effected at the time of determination of unit value next
following the receipt of any purchase or redemption order deemed to be in good
order.
Units of each Variable Funds Subaccount are valued based upon the valuation of
the securities held by the corresponding underlying Portfolio in which the
assets of the particular Variable Funds Subaccount are invested. Units of each
Strategic Variable Funds Subaccount are valued based upon the valuation of the
units of each Variable Funds Subaccount in which the assets of the particular
Strategic Variable Funds Subaccount are invested. Therefore, the valuation of
units in both the Variable Funds Subaccounts and the Strategic Variable Funds
Subaccounts depends on the valuation policies of the underlying Portfolios. The
following discussion describes the valuation policies of the Portfolios.
Beneficial interests in each Portfolio are issued solely in private placement
transactions that do not involve any "public offering" within the meaning of
Section 4(2) of the 1933 Act.
Trading in securities on most non-U.S. exchanges and over-the-counter markets is
normally completed before the close of regular trading on the New York Stock
Exchange and may also take place on days on which the New York Stock Exchange is
closed. If events materially affecting the value of non-U.S. securities occur
between the time when the exchange on which they are traded closes and the time
when a Portfolio's net asset value is calculated, such securities may be valued
at fair value in accordance with procedures established by and under the general
supervision of the Board of Trustees of Diversified Investors Portfolios.
Equity securities are valued at the last sale price on the exchange on which
they are primarily traded or at the ask price on the NASDAQ system for unlisted
national market issues, or at the last quoted bid price for securities in which
there were no sales during the day or for unlisted securities not reported on
the NASDAQ system. Bonds and other fixed income securities (other than
short-term obligations, but
<PAGE> 98
-26-
including listed issues) are valued on the basis of valuations furnished by a
pricing service, the use of which has been approved by the Board of Trustees of
Diversified Investors Portfolios. In making such valuations, the pricing service
utilizes both dealer-supplied valuations and electronic data processing
techniques that take into account appropriate factors such as institutional-size
trading in similar groups of securities, yield, quality, coupon rate, maturity,
type of issue, trading characteristics and other market data, without exclusive
reliance upon quoted prices or exchange or over-the-counter prices, since such
valuations are believed to reflect more accurately the fair value of such
securities. Short-term obligations which mature in 60 days or less are valued at
amortized cost, which approximates fair value as determined by the Board of
Trustees of Diversified Investors Portfolios. Futures and option contracts that
are traded on commodities or securities exchanges are normally valued at the
settlement price on the exchange on which they are traded. Portfolio securities
(other than short-term obligations) for which there are no such quotations or
valuations are valued at fair value as determined in good faith by or at the
direction of the Board of Trustees of Diversified Investors Portfolios.
Interest income on long-term obligations is determined on the basis of interest
accrued plus amortization of discount (generally, the difference between issue
price and stated redemption price at maturity) and premiums (generally, the
excess of purchase price over stated redemption price at maturity). Interest
income on short-term obligations is determined on the basis of interest and
discount accrued less amortization of premium.
Any assets or liabilities initially denominated in terms of foreign currencies
are translated into U.S. dollars at the official exchange rate or,
alternatively, at the mean of the current bid and asked prices of such
currencies against the U.S. dollar last quoted by a major bank that is a regular
participant in the foreign exchange market or on the basis of a pricing service
that takes into account the quotes provided by a number of such major banks. If
neither of these alternatives is available or both are deemed not to provide a
suitable methodology for converting a foreign currency into U.S. dollars, the
Adviser, under the supervision of the Board of Trustees of Diversified Investors
Portfolios, in good faith, will establish a conversion rate for such currency.
A determination of fair value used in calculating net asset value must be made
in good faith utilizing procedures approved by the Board of Trustees of
Diversified Investors Portfolios. While no single standard for determining fair
value exists, as a general rule, the current fair value of a security would
appear to be the amount which a Portfolio could expect to receive upon its
current sale. Some, but not necessarily all, of the general factors which may be
considered in determining fair value include: (a) the fundamental analytical
data relating to the investment; (b) the nature and duration of restrictions on
disposition of the securities; and (c) an evaluation of the forces which
influence the market in which these securities are purchased and sold. Without
limiting or including all of the specific factors which may be considered in
determining fair value, some of the specific factors include: type of security,
financial statements of the issuer, cost at date of purchase, size of holding,
discount from market value, value of unrestricted securities of the same class
at the time of purchase, special reports prepared by analysts, information as to
any transactions or offers with respect to the security, existence of merger
proposals or tender offers affecting the securities, price and extent of public
trading in similar securities of the issuer or comparable companies, and other
relevant matters.
Each investor in each Portfolio, including the Variable Funds Subaccounts, may
add to or reduce its investment in the Portfolio on each day that the New York
Stock Exchange is open for trading. As of 4:00 p.m. (New York time) (or any
earlier close of regular trading on the Exchange) on each such day, the value of
each investor's interest in a Portfolio will be determined by multiplying the
net asset value of the Portfolio by the percentage representing that investor's
share of the aggregate beneficial interests in the Portfolio. Any additions or
reductions which are to be effected on that day will then be effected. The
investor's percentage of the aggregate beneficial interests in the Portfolio
will then be recomputed as the percentage equal to the fraction (a) the
numerator of which is the value of such investor's investment in the Portfolio
as of 4:00 p.m. (or the earlier close of regular trading on the Exchange) on
such day plus or minus, as the case may be, the amount of net additions to or
reductions in the investor's investment in the Portfolio effected on such day,
and (b) the denominator of which is the
<PAGE> 99
-27-
aggregate net asset value of the Portfolio as of 4:00 p.m. (or the earlier close
of regular trading on the Exchange) on such day plus or minus, as the case may
be, the amount of the net additions to or reductions in the aggregate
investments in the Portfolio by all investors in the Portfolio. The percentage
so determined will then be applied to determine the value of the investor's
interest in a Portfolio as of 4:00 p.m. (or the earlier close of regular trading
on the Exchange) on the following day the New York Stock Exchange is open for
trading.
<PAGE> 100
-28-
MANAGEMENT OF DIVERSIFIED INVESTORS PORTFOLIOS
The Trustees and officers of Diversified Investors Portfolios and their
principal occupations during the past five years are set forth below. Their
titles may have varied during that period. Asterisks indicate those Trustees who
are "interested persons" (as defined in the 1940 Act) of Diversified Investors
Portfolios. Unless otherwise indicated, the address of each Trustee and officer
of Diversified Investors Portfolios is 4 Manhattanville Road, Purchase, New York
10577.
TRUSTEES AND OFFICERS
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------
AGE
(AS OF PRINCIPAL OCCUPATION(S)
NAME AND ADDRESS 11/15/99) DURING PAST 5 YEARS
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Tom A. Schlossberg* 50 12/93 to present -- President and Chief Executive
(Trustee) Officer, Diversified Investment Advisors, Inc.;
1/1993 - 12/1993 -- Executive Vice President and Head of
Pension Operations, The MONY Group, Inc. (The Mutual Life
Insurance Company of New York).
- ------------------------------------------------------------------------------------------------------------
Neal M. Jewell 65 1/1995 to present -- Consultant; 1995 to present --
(Trustee) Independent Trustee, EAI Select (a registered Investment
355 Thornridge Drive Company); 11/1991 to 1/1995 -- Executive Vice President,
Stamford, CT 06903 American International Group Asset Management.
- ------------------------------------------------------------------------------------------------------------
Eugene M. Mannella 46 8/1993 to present -- Executive Vice President, Investment
(Trustee) Management Services Inc.; 5/1996 to present -- President,
2 Orchard Neck Road Brooks Asset Management LLC; President, Arapahs Partners,
Center Moriches, New York 19934 LLC.
- ------------------------------------------------------------------------------------------------------------
Mark Mullin* 36 4/95 to present -- Vice President, Diversified Investment
(Trustee) Advisors, Inc.; 4/93 to 3/95 -- Portfolio Manager, AEGON
Netherlands.
- ------------------------------------------------------------------------------------------------------------
Patricia L. Sawyer 49 1990 to present -- President and Executive Search
(Trustee) Consultant, Smith & Sawyer LLC.
P.O. Box 8063
Vero Beach, Florida 32963
- ------------------------------------------------------------------------------------------------------------
Robert F. Colby 44 11/1993 to present -- Vice President and General Counsel,
Diversified Investment Advisors, Inc.; 3/1995 to
present -- Vice President and Assistant Secretary, AUSA
Life Insurance Company, Inc.; 11/1993 to present -- Vice
President and Secretary, Diversified Investors Securities
Corp.; 4/1993 to 12/1993 -- Assistant Secretary, Vice
President and Chief Corporate Counsel, The MONY Group,
Inc. (formerly The Mutual Life Insurance Company of New
York).
- ------------------------------------------------------------------------------------------------------------
Alfred C. Sylvain 48 11/1993 to present -- Vice President, Treasurer and
Assistant Secretary, Diversified Investment Advisors,
Inc.; 1/1994 to present -- Treasurer, Diversified
Investors Securities Corp.; 2/1995 to 6/1999 -- Director,
Diversified Investors Securities Corp.
- ------------------------------------------------------------------------------------------------------------
John F. Hughes 58 11/1993 to present -- Assistant Secretary, Vice President
and Senior Counsel, Diversified Investment Advisors,
Inc.; 11/1993 to present -- Vice President, AUSA Life
Insurance Company, Inc.; 11/1993 to present -- Assistant
Secretary, Diversified Investors Securities Corp.
- ------------------------------------------------------------------------------------------------------------
</TABLE>
<PAGE> 101
-29-
The Declaration of Trust of Diversified Investors Portfolios provides that
Diversified Investors Portfolios will indemnify its Trustees and officers as
described below under "Diversified Investors Portfolios -- Description of the
Trust".
For the fiscal year ended December 31, 1999, the Diversified Investors
Portfolios provided the following compensation to its trustees.
<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------------------------------
PENSION OR TOTAL
AGGREGATE RETIREMENT COMPENSATION
COMPENSATION BENEFITS FROM THE TRUSTS
FROM ACCRUED AS PART ESTIMATED AND
DIVERSIFIED OF ANNUAL FUND COMPLEX
INVESTORS PORTFOLIO BENEFITS UPON PAID
NAME OF PERSON, POSITION PORTFOLIOS EXPENSES RETIREMENT TO TRUSTEES
------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Tom A. Schlossberg
Trustee None None None None
------------------------------------------------------------------------------------------------------------------------
Neal M. Jewell
Trustee $9,750 None $4,500 $14,250
------------------------------------------------------------------------------------------------------------------------
Eugene M. Manella
Trustee $9,750 None $4,500 $14,250
------------------------------------------------------------------------------------------------------------------------
Mark Mullin
Trustee None None $3,250 $ 3,250
------------------------------------------------------------------------------------------------------------------------
Patricia L. Sawyer
Trustee $9,750 None None $ 9,750
------------------------------------------------------------------------------------------------------------------------
</TABLE>
CODE OF ETHICS
The Trustees of The Diversified Investors Funds Group, The Diversified Investors
Funds Group II, Diversified Investment Advisors, Inc. and Diversified Securities
Corp., the investment adviser and broker-dealer, respectively have adopted a
Code of Ethics (the "Code"). This Code prohibits specific types of personal
securities transactions which would create a conflict of interest. It also
establishes reporting requirements and preventive procedures pursuant to the
provisions of Rule 17j-1(b)(1) under the 1940 Act.
INVESTMENT ADVISORY SERVICES
Diversified Investment Advisers, Inc. (the "Adviser") manages the assets of each
Portfolio pursuant to an Investment Advisory Agreement (the "Advisory
Agreement") with Diversified Investors Portfolios with respect to that
Portfolio, and subject to the investment policies described herein and in the
Prospectus for the Portfolios. Subject to such further policies as the Board of
Trustees of Diversified Investors Portfolios may determine, the Adviser provides
general investment advice to each Portfolio.
For each Portfolio, the Adviser has entered into an Investment Subadvisory
Agreement (each a "Subadvisory Agreement") with one or more Subadvisers.
Each Advisory Agreement and Subadvisory Agreement provides that the Adviser or a
Subadviser, as the case may be, may render services to others. Each agreement is
terminable without penalty on not more than 60 days' nor less than 30 days'
written notice by the Portfolio when authorized either by majority vote of the
investors in the Portfolio (with the vote of each being in proportion to its
interests) or by a vote of a majority of the Board of Trustees of Diversified
Investors Portfolios, or by the Adviser on not more than 60 days' nor less than
30 days' written notice, or by the applicable Subadviser on not less than 90
days' written notice, and will automatically terminate in the event of its
assignment. Each agreement provides that neither the Adviser nor Subadviser nor
their personnel shall be liable for any error of judgment or mistake of law or
for any loss arising out of any investment or for any act or omission in the
execution of security transactions for the Portfolio, except for willful
misfeasance, bad faith, gross
<PAGE> 102
-30-
negligence or reckless disregard of its or their obligations and duties under
the Advisory Agreement and the Subadvisory Agreement, as the case may be.
The Adviser's and Subadviser's fees with respect to each Portfolio are described
in the Prospectus.
Diversified is an investment firm dedicated to meeting the complete needs of
retirement plan sponsors and participants from pre- through post-retirement.
Diversified provides flexible, high-quality services coupled with the employment
of independent investment managers in an innovative investment structure.
Diversified provides services with respect to $26 billion in retirement plan
assets and has offices in Boston, Charlotte, Chicago, Cincinnati, Dallas,
Houston, New Orleans, New York, Philadelphia, Portland and San Francisco. It
maintains recordkeeping for more than 500,000 participants and has 750 employees
dedicated to retirement plan investment and administration. Its employees
average more than seven years of retirement plan experience.
As experts in customizing retirement solutions, Diversified offers comprehensive
programs of high-quality investments and administrative services to defined
benefit, defined contribution and not-for-profit pension plan sponsors.
Diversified forms a partnership with its clients to provide exceptional plan
design, participant communication programs, recordkeeping services and technical
guidance. Diversified's investment structure provides access to an array of
complementary investment alternatives representing the major asset classes along
the risk/reward spectrum.
Subadvisers are selected from more than 4,000 independent firms. Through a
rigorous portfolio manager selection process which includes researching each
potential subadviser's asset class, track record, organizational structure,
management team, consistency of performance and assets under management, five to
ten potential subadvisers are chosen. Out of that group, Diversified then
carefully chooses the three most qualified potential subadvisers based on
performance evaluation, ownership structure, personnel and philosophy to return
for an on-site visit and a quantitative and qualitative analysis by the
investment committee. Out of those three potential subadvisers, Diversified then
hires the most qualified, independent subadviser for each Portfolio, subject to
approval by the Board of Trustees of Diversified Investors Portfolios, including
a majority of the Trustees who are not "interested persons" of Diversified
Investors Portfolios.
Each Subadviser's performance on behalf of a Portfolio is carefully monitored by
Diversified taking into consideration investment objectives and policies and
level of risk. Diversified brings comprehensive monitoring and control to the
investment management process. It seeks superior portfolio management and moves
purposefully in replacing managers when warranted. From a plan sponsor's
perspective, replacing a manager, and not the investment fund, is a key
advantage in avoiding the expense and difficulty of re-enrolling participants or
disrupting established plan administration.
Each of the Diversified Investors Portfolios has obtained an exemptive order
from the Securities and Exchange Commission which permits the Portfolios to
obtain the services of one or more subadvisers without investor or shareholder
approval. The exemptive order also permits the terms of sub-advisory agreements
to be changed and the employment of subadvisers to be continued after events
that would otherwise cause an automatic termination of a sub-advisory agreement,
in each case without shareholder approval if those changes or continuation are
approved by the Portfolio's Board of Trustees. If a subadviser were added or
changed without shareholder approval, the Prospectus would be revised and
shareholders notified. Before each individual Portfolio relies on the exemptive
order, the Portfolio's investors must approve it. To date, the investors of the
Core Bond, Balanced, Equity Growth and Special Equity Portfolios have each
approved operation under the exemptive order.
Highly disciplined manager evaluation on both a quantitative and qualitative
basis is an ongoing process. Diversified's Manager Monitoring Group gathers and
analyzes performance data and Diversified's Investment Committee reviews it.
Performance attribution, risk/return ratios and purchase/sale assessments are
prepared monthly and, each quarter, a more comprehensive review is completed
which consists of manager visits, fundamental analysis and statistical analysis.
Extensive quarterly analysis is conducted to ensure that the investment fund is
being managed in line with the stated objectives.
<PAGE> 103
-31-
Semiannually, the Investment Committee reviews the back-up manager selection,
regression analysis and universe comparisons.
A number of "red flags" signal a more extensive and frequent manager review.
These flags consist of a return inconsistent with the investment objective,
changes in subadviser leadership, ownership or portfolio managers, large changes
in assets under management and changes in philosophy or discipline. The
immediate response to any red flag is to assess the potential impact on the
manager's ability to meet investment objectives. Diversified monitors "back-up"
additional independent managers for each investment class so that, should a
manager change be warranted, the transition can be effected on a timely basis.
For the fiscal year ended December 31, 1997, Diversified earned and voluntarily
waived advisory fees as indicated with respect to the following Portfolios:
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------
PORTFOLIO EARNED WAIVED
- ----------------------------------------------------------------------------------------
<S> <C> <C> <C>
Money Market $ 553,205 $ --
- ----------------------------------------------------------------------------------------
High Quality Bond 707,143 --
- ----------------------------------------------------------------------------------------
Intermediate Government Bond 340,670 15,525
- ----------------------------------------------------------------------------------------
Core Bond 1,174,374 --
- ----------------------------------------------------------------------------------------
High-Yield Bond 182,367 46,946
- ----------------------------------------------------------------------------------------
Balanced 1,547,690 --
- ----------------------------------------------------------------------------------------
Value & Income 4,950,239 --
- ----------------------------------------------------------------------------------------
Equity Value 882,508 56,044
- ----------------------------------------------------------------------------------------
Growth & Income 1,679,535 --
- ----------------------------------------------------------------------------------------
Equity Growth 2,405,212 --
- ----------------------------------------------------------------------------------------
Special Equity 4,986,640 --
- ----------------------------------------------------------------------------------------
Aggressive Equity 182,991 61,577
- ----------------------------------------------------------------------------------------
International Equity 1,434,770 16,399
- ----------------------------------------------------------------------------------------
</TABLE>
<PAGE> 104
-32-
For the fiscal year ended December 31, 1998, Diversified earned and voluntarily
waived advisory fees as indicated with respect to the following Portfolios:
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------
PORTFOLIO EARNED WAIVED
- ----------------------------------------------------------------------------------------
<S> <C> <C> <C>
Money Market $ 654,703 $ --
- ----------------------------------------------------------------------------------------
High Quality Bond 753,726 --
- ----------------------------------------------------------------------------------------
Intermediate Government Bond 491,360 2,380
- ----------------------------------------------------------------------------------------
Intermediate Bond 12,711 12,711
- ----------------------------------------------------------------------------------------
Core Bond 1,606,383 --
- ----------------------------------------------------------------------------------------
Balanced 2,065,391 --
- ----------------------------------------------------------------------------------------
Value & Income 5,830,442 --
- ----------------------------------------------------------------------------------------
Equity Value 2,104,570 42,746
- ----------------------------------------------------------------------------------------
Growth & Income 3,258,008 --
- ----------------------------------------------------------------------------------------
Equity Growth 3,276,416 11,336
- ----------------------------------------------------------------------------------------
Special Equity 6,306,553 5,925
- ----------------------------------------------------------------------------------------
Select Equity -- --
- ----------------------------------------------------------------------------------------
Aggressive Equity 470,377 51,355
- ----------------------------------------------------------------------------------------
High-Yield Bond 423,436 27,930
- ----------------------------------------------------------------------------------------
International Equity 2,029,625 30,764
- ----------------------------------------------------------------------------------------
</TABLE>
For the fiscal year ended December 31, 1999, Diversified earned and voluntarily
waived advisory fees as indicated with respect to the following Portfolios:
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------
PORTFOLIO EARNED WAIVED
- ----------------------------------------------------------------------------------------
<S> <C> <C> <C>
Money Market $ 925,652 $ --
- ----------------------------------------------------------------------------------------
High Quality Bond 794,958 --
- ----------------------------------------------------------------------------------------
Intermediate Government Bond 605,483 490
- ----------------------------------------------------------------------------------------
Intermediate Bond 24,745 24,745
- ----------------------------------------------------------------------------------------
Core Bond 1,995,476 --
- ----------------------------------------------------------------------------------------
Balanced 2,284,131 92,527
- ----------------------------------------------------------------------------------------
Value & Income 6,502,830 --
- ----------------------------------------------------------------------------------------
Equity Value 2,378,610 109
- ----------------------------------------------------------------------------------------
Growth & Income 5,981,522 1,170
- ----------------------------------------------------------------------------------------
Equity Growth 5,900,858 33
- ----------------------------------------------------------------------------------------
Special Equity 7,623,496 13,406
- ----------------------------------------------------------------------------------------
Select Equity 3 3
- ----------------------------------------------------------------------------------------
Aggressive Equity 1,394,114 13,847
- ----------------------------------------------------------------------------------------
High-Yield Bond 617,744 12,888
- ----------------------------------------------------------------------------------------
International Equity 3,213,534 500
- ----------------------------------------------------------------------------------------
Short Horizon Strategic Allocation 30,431 --
- ----------------------------------------------------------------------------------------
Short/Intermediate Horizon Strategic Allocation 13,858 --
- ----------------------------------------------------------------------------------------
Intermediate Horizon Strategic Allocation 148,680 --
- ----------------------------------------------------------------------------------------
Intermediate/Long Horizon Strategic Allocation 202,726 --
- ----------------------------------------------------------------------------------------
Long Horizon Strategic Allocation 44,913 --
- ----------------------------------------------------------------------------------------
</TABLE>
<PAGE> 105
-33-
ADMINISTRATOR
The Administrative Services Agreement between Diversified, as Administrator, and
Diversified Investors Portfolios is described in the Prospectus. The agreement
provides that Diversified may render services to others as administrator. In
addition, the agreement terminates automatically if it is assigned and may be
terminated without penalty by majority vote of the investors in Diversified
Investors Portfolios (with the vote of each being in proportion to its
interest). The Administrative Services Agreement also provides that neither
Diversified nor its personnel shall be liable for any error of judgment or
mistake of law or for any act or omission in connection with any Portfolio,
except for willful misfeasance, bad faith or gross negligence in the performance
of its or their duties or by reason of reckless disregard of its or their duties
or obligations under said agreements.
CUSTODIAN
Pursuant to a Custodian Contract, Investors Bank & Trust Company acts as the
custodian of each Portfolio's assets (the "Custodian"). The Custodian's business
address is 89 South Street, Boston, Massachusetts 02205-1537. The Custodian's
responsibilities include safeguarding and controlling cash and securities,
handling the receipt and delivery of securities, determining income and
collecting interest on the Portfolios' investments, maintaining books of
original entry for portfolio accounting and other required books and accounts,
and calculating the daily net asset value of beneficial interests in each
Portfolio. Securities held by a Portfolio may be deposited into the Federal
Reserve-Treasury Department Book Entry System or the Depository Trust Company
and may be held by a subcustodian bank if such arrangements are reviewed and
approved by the Board of Trustees of Diversified Investors Portfolios. The
Custodian does not determine the investment policies of any Portfolio or decide
which securities any Portfolio will buy or sell. A Portfolio may, however,
invest in securities of the Custodian and may deal with the Custodian as
principal in securities and foreign exchange transactions. For its services, the
Custodian will receive such compensation as may from time to time be agreed upon
by it and Diversified Investors Portfolios.
INDEPENDENT ACCOUNTANTS
PricewaterhouseCoopers LLP, serves as the independent accountants for
Diversified Investors Portfolios providing audit and accounting services
including (i) audit of the annual financial statements, (ii) assistance and
consultation with respect to the preparation of filings with the Securities and
Exchange Commission and (iii) preparation of annual income tax returns.
MANAGEMENT OF THE STRATEGIC VARIABLE FUNDS ACCOUNT
The members of the Managing Board of Diversified Investors Strategic Variable
Funds and officers of AUSA directly involved in activities related to
Diversified Investors Strategic Variable Funds, and their principal occupations
during the past five years are set forth below. Their titles may have varied
during that period. Asterisks indicate those members of the Managing Board who
are "interested persons" (as defined in the 1940 Act) of Diversified Investors
Strategic Variable Funds. Unless otherwise indicated, the address of each member
and officer of AUSA is Four Manhattanville Road, Purchase, New York 10577.
<PAGE> 106
-34-
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------------------
AGE
(AS OF PRINCIPAL OCCUPATION(S)
NAME AND ADDRESS 11/15/99) DURING PAST 5 YEARS
- --------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Tom A. Schlossberg 50 12/93 to present -- President and Chief Executive Officer
(Managing Board Member) Diversified Investment Advisors, Inc.; 1/1993 - 12/1993 --
Executive Vice President and Head of Pension Operations,
The MONY Group, Inc. (The Mutual Life Insurance Company of
New York).
- --------------------------------------------------------------------------------------------------------------
Neal M. Jewell 65 1/1995 to present -- Consultant; 1995 to present -
(Managing Board Member) Independent Trustee, EAI Select (a registered investment
355 Thornridge Drive company); 11/1991 to 1/1995 -- Executive Vice President,
Stamford, CT 06903 American International Group Asset Management.
- --------------------------------------------------------------------------------------------------------------
Eugene M. Mannella 46 8/1993 to present -- Vice President, Investment Management
(Managing Board Member) Services Inc.; 5/1996 to present -- President, Brooks Asset
2 Orchard Neck Road Management
Center Moriches, New York 19934
- --------------------------------------------------------------------------------------------------------------
Mark Mullin 36 4/95 to present -- Vice President, Diversified Investment
(Managing Board Member) Advisors, Inc.; 4/93 to 3/95 -- Portfolio Manager, AEGON
Netherlands.
- --------------------------------------------------------------------------------------------------------------
Patricia L. Sawyer 49 1990 to present -- President and Executive Search
(Managing Board Member) Consultant,
P.O. Box 8063 Smith & Sawyer LLC
Vero Beach, Florida 32963
- --------------------------------------------------------------------------------------------------------------
Robert F. Colby 44 11/1993 to present -- Vice President and General Counsel,
Diversified Investment Advisors, Inc.; 3/1995 to
present -- Vice President and Assistant Secretary, AUSA
Life Insurance Company, Inc.; 11/1993 to present -- Vice
President, Diversified Investors Securities Corp.; 4/1993
to 12/1993 -- Assistant Secretary, Vice President and Chief
Corporate Counsel, The MONY Group, Inc. (formerly The
Mutual Life Insurance Company of New York).
- --------------------------------------------------------------------------------------------------------------
Alfred C. Sylvain 48 11/1993 to present -- Vice President, Treasurer and
Assistant Secretary, Diversified Investment Advisors, Inc.;
1/1994 to present -- Treasurer, Diversified Investors
Securities Corp.; 2/1995 to 6/1999 -- Director, Diversified
Investors Securities Corp.
- --------------------------------------------------------------------------------------------------------------
John F. Hughes 58 11/1993 to present -- Assistant Secretary, Vice President
and Senior Counsel, Diversified Investment Advisors, Inc.;
11/1993 to present -- Vice President, AUSA Life Insurance
Company, Inc.; 11/1993 to present -- Assistant Secretary,
Diversified Investors Securities Corp.
- --------------------------------------------------------------------------------------------------------------
</TABLE>
<PAGE> 107
-35-
COMPENSATION
For the fiscal year ended December 31, 1999, Diversified Investors Strategic
Variable Funds provided the following compensation to members of the Managing
Board.
<TABLE>
<CAPTION>
--------------------------------------------------------------------------------------------------------------------------
TOTAL
PENSION OR COMPENSATION
RETIREMENT FROM THE
AGGREGATE BENEFITS ESTIMATED REGISTRANT AND
COMPENSATION ACCRUED AS PART ANNUAL FUND COMPLEX
FROM OF BENEFITS UPON PAID TO
NAME OF PERSON, POSITION REGISTRANT FUND EXPENSES RETIREMENT MEMBERS
--------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Tom A. Schlossberg
Managing Board Member None None None None
--------------------------------------------------------------------------------------------------------------------------
Neal M. Jewell
Managing Board Member $3,250 None None $3,250
--------------------------------------------------------------------------------------------------------------------------
Eugene M. Manella
Managing Board Member $3,250 None None $3,250
--------------------------------------------------------------------------------------------------------------------------
Mark Mullin
Managing Board Member None None None None
--------------------------------------------------------------------------------------------------------------------------
Patricia L. Sawyer
Managing Board Member $3,250 None None $3,250
--------------------------------------------------------------------------------------------------------------------------
</TABLE>
INVESTMENT ADVISORY SERVICES
Diversified manages the assets of each Strategic Variable Funds Subaccount
pursuant to an Investment Advisory Agreement with AUSA with respect to such
Strategic Variable Funds Subaccount and the investment policies described herein
and in the Prospectus. AUSA will bear any expenses of the Strategic Variable
Funds Subaccounts other than the 0.20% advisory fee. Of course, the Strategic
Variable Funds Subaccounts will still indirectly bear their proportionate share
of the cost of operating the underlying Variable Funds Subaccounts in which the
Strategic Variable Funds Subaccounts invest because the Strategic Variable Funds
Subaccounts, as shareholders of the underlying Variable Funds Subaccounts, will
bear their proportionate share of any fees and expenses paid by the underlying
Variable Funds Subaccounts.
Under the Investment Advisory Agreement with each Strategic Variable Funds
Subaccount, Diversified provides each Strategic Variable Funds Subaccount with
discretionary investment services. Specifically, Diversified is responsible for
supervising and directing the investments of each Strategic Variable Funds
Subaccount in accordance with each Strategic Variable Funds Subaccount's
investment objectives, program, and restrictions as provided in the Prospectus
and this Statement of Additional Information. Diversified is also responsible
for effecting all security transactions on behalf of each Strategic Variable
Funds Subaccount. The Strategic Variable Funds Subaccounts will invest their
assets in units of the underlying Variable Funds Subaccounts and such
investments will be made without the payment of any commission or other sales
charges. In addition to these services, Diversified provides each Strategic
Variable Funds Subaccount with certain administrative services, including:
maintaining records, and registering and qualifying each Strategic Variable
Funds Subaccount's units under federal and state laws; monitoring the financial,
accounting, and administrative functions of each Strategic Variable Funds
Subaccount; maintaining liaison with the agents employed by each Strategic
Variable Funds Subaccount such as the custodian; assisting each Strategic
Variable Funds Subaccount in the coordination of such agents' activities; and
permitting Diversified's employees to serve as officers, managing board members,
and committee members of the Strategic Variable Funds Account without cost to
the Strategic Variable Funds Account.
<PAGE> 108
-36-
Each Strategic Variable Funds Subaccount's Investment Advisory Agreement also
provides that Diversified, its directors, officers, employees, and certain other
persons performing specific functions for the Strategic Variable Funds
Subaccount will only be liable to the Strategic Variable Funds Subaccount for
losses resulting from willful misfeasance, bad faith, gross negligence, or
reckless disregard of duty.
For general information regarding Diversified, see the discussion in "Management
of Diversified Investors Portfolios -- Investment Advisory Services" on page 29
above.
CUSTODIAN
Pursuant to a Custodian Agreement, Investors Bank & Trust Company (the
"Custodian") acts as the custodian of each Strategic Variable Funds Subaccount's
assets, i.e., each Strategic Variable Funds Subaccount's interest in the
underlying Variable Funds Subaccounts. For its services, the Custodian will
receive such compensation as may from time to time be agreed upon by it and
AUSA. AUSA has agreed to pay all such fees.
DIVERSIFIED INVESTORS PORTFOLIOS: DESCRIPTION OF TRUST
Diversified Investors Portfolios is organized as a trust under the law of the
State of New York. Under Diversified Investors Portfolios' Declaration of Trust,
the Trustees are authorized to issue beneficial interests in one or more series.
Currently there are fifteen active series of Diversified Investors Portfolios.
Investors in a Portfolio will be held personally liable for the obligations and
liabilities of that Portfolio (and of no other Portfolio), subject, however, to
indemnification by Diversified Investors Portfolios in the event that there is
imposed upon an investor a greater portion of the liabilities and obligations of
the Portfolio than its proportionate beneficial interest in the Portfolio. The
Declaration of Trust also provides that Diversified Investors Portfolios shall
maintain appropriate insurance (for example, a fidelity bond and errors and
omissions insurance) for the protection of Diversified Investors Portfolios, its
investors, Trustees of Diversified Investors Portfolios, officers, employees and
agents, and covering possible tort and other liabilities. Thus, the risk of an
investor incurring financial loss on account of investor liability is limited to
circumstances in which both inadequate insurance existed and Diversified
Investors Portfolios itself was unable to meet its obligations.
Investors in a Portfolio are entitled to participate pro rata in distributions
of taxable income, loss, gain and credit of their respective Portfolio only.
Upon liquidation or dissolution of a Portfolio, investors are entitled to share
pro rata in that Portfolio's (and no other Portfolio) net assets available for
distribution to its investors. Diversified Investor Portfolios reserves the
right to create and issue additional series of beneficial interest, in which
case the beneficial interests in each new Portfolio would participate equally in
the earnings, dividends and assets of that particular Portfolio only (and no
other Portfolio). Any property of Diversified Investors Portfolios is allocated
and belongs to a specific Portfolio to the exclusion of all other Portfolios.
All consideration received by Diversified Investors Portfolios for the issuance
and sale of beneficial interests in a particular Portfolio, together with all
assets in which such consideration is invested or reinvested, all income,
earnings and proceeds thereof, and any funds or payments derived from any
reinvestment of such proceeds, is held by the Trustees of Diversified Investors
Portfolios in a separate subtrust (a Portfolio) for the benefit of investors in
that Portfolio and irrevocably belongs to that Portfolio for all purposes.
Neither a Portfolio nor investors in that Portfolio possess any right to or
interest in the assets belonging to any other Portfolio.
Investments in a Portfolio have no preference, preemptive, conversion or similar
rights and are fully paid and nonassessable, except as set forth below.
Investments in a Portfolio may not be transferred.
Each investor is entitled to a vote in proportion to the amount of its
investment in each Portfolio. Investors in a Portfolio do not have cumulative
voting rights, and investors holding more than 50% of the aggregate beneficial
interests in all outstanding Portfolios may elect all of the Trustees if they
choose to do so and in such event other investors would not be able to elect any
Trustees. Investors in each Portfolio will vote as a separate class except as to
voting for the election of Trustees, as otherwise
<PAGE> 109
-37-
required by the 1940 Act, or if determined by the Trustees to be a matter which
affects all Portfolios. As to any matter which does not affect the interest of a
particular Portfolio, only investors in the one or more affected Portfolios are
entitled to vote. Diversified Investors Portfolios is not required and has no
current intention of holding annual meetings of investors, but will hold special
meetings of investors when in the judgment of Trustees it is necessary or
desirable to submit matters for an investor vote. The Declaration of Trust may
be amended without the vote of investors, except that investors have the right
to approve by affirmative majority vote any amendment which would affect their
voting rights, alter the procedures to amend the Declaration of Trust, or as
required by law or by Diversified Investors Portfolios' registration statement,
or as submitted to them by the Trustees. Any amendment submitted to investors
which the Trustees determine would affect the investors of any Portfolio shall
be authorized by vote of the investors of such Portfolio and no vote will be
required of investors in a Portfolio not affected.
Diversified Investors Portfolios or any Portfolio may enter into a merger or
consolidation, or sell all or substantially all of its assets, if approved (a)
at a meeting of investors by investors representing the lesser of (i) 67% or
more of the beneficial interest in the affected Portfolio present or represented
at such meeting, if investors in more that 50% of all such beneficial interests
are present or represented by proxy, or (ii) more than 50% of all such
beneficial interests, or (b) by an instrument in writing without a meeting,
consented to by investors representing not less than a majority of the
beneficial interest in the affected Portfolio. Diversified Investors Portfolios
or any Portfolio may also be terminated (i) upon liquidation and distribution of
its assets if approved by the vote of two thirds of its investors (with the vote
of each being in proportion to the amount of its investment), (ii) by the
Trustees by written notice to its investors, or (iii) upon the bankruptcy or
expulsion of an investor in the affected Portfolio, unless the investors in such
Portfolio, by majority vote, agree to continue the Portfolio. Diversified
Investors Portfolios will be dissolved upon the dissolution of the last
remaining Portfolio.
The Declaration of Trust provides that obligations of Diversified Investors
Portfolios are not binding upon the Trustees individually but only upon the
property of Diversified Investors Portfolios and that the Trustees will not be
liable for any action or failure to act, but nothing in the Declaration of Trust
protects a Trustee against any liability to which he would otherwise be subject
by reason of willful misfeasance, bad faith, gross negligence, or reckless
disregard of the duties involved in the conduct of his or her office.
The Declaration of Trust further provides that it will indemnify its Trustees
and officers against liabilities and expenses incurred in connection with
litigation in which they may be involved because of their offices with
Diversified Investors Portfolios, unless, as to liability to Diversified
Investors Portfolios or its investors, it is finally adjudicated that they
engaged in willful misfeasance, bad faith, gross negligence or reckless
disregard of the duties involved in their offices, or unless with respect to any
other matter it is finally adjudicated that they did not act in good faith in
the reasonable belief that their actions were in the best interests of
Diversified Investors Portfolios. In the case of settlement, such
indemnification will not be provided unless it has been determined by a court or
other body approving the settlement or other disposition, or by a reasonable
determination, based upon a review of readily available facts, by vote of a
majority of disinterested Trustees or in a written opinion of independent
counsel, that such officers or Trustees have not engaged in willful misfeasance,
bad faith, gross negligence or reckless disregard of their duties.
TAX INFORMATION RELATING TO DIVERSIFIED INVESTORS PORTFOLIOS
Diversified Investors Portfolios is organized as a New York trust. The Trust and
each Portfolio are not subject to any income or franchise tax in the State of
New York. However, each investor in a Portfolio will be taxable on its share (as
determined in accordance with the governing instruments of the Trust) of the
Portfolio's ordinary income and capital gain in determining its income tax
liability. The determination of such share will be made in accordance with the
Internal Revenue Code and regulations promulgated thereunder.
<PAGE> 110
-38-
Each Portfolio, since it is taxed as a partnership, is not subject to federal
income taxation. Instead, an investor must take into account, in computing its
federal income tax liability, its share of the Portfolio's income, gains,
losses, deductions, credits and tax preference items, without regard to whether
it has received any cash distributions from the Portfolio.
Withdrawals by investors from each Portfolio generally will not result in their
recognizing any gain or loss for federal income tax purposes, except that (1)
gain will be recognized to the extent that any cash distributed exceeds the
basis of the investor's interest in the Portfolio prior to the distribution, (2)
income or gain will be realized if the withdrawal is in liquidation of the
investor's entire interest in the Portfolio and includes a disproportionate
share of any unrealized receivables held by the Portfolio, and (3) loss will be
recognized if the distribution is in liquidation of that entire interest and
consists solely of cash and/or unrealized receivables. The basis of an
investor's interest in a Portfolio generally equals the amount of cash and the
basis of any property that the investor invests in the Portfolio, increased by
the investor's share of income from the Portfolio and decreased by the amount of
any cash distributions and the basis of any property distributed from the
Portfolio.
Each Portfolio's taxable year-end will be December 31. Although, as described
above, the Portfolios will not be subject to federal income tax, each will file
appropriate income tax returns.
It is intended that each Portfolio's assets, income and distributions will be
managed in such a way that an investor in each Portfolio investing solely in
such Portfolio will be able to satisfy the requirements of Subchapter M of the
Code.
There are certain tax issues that will be relevant to only certain of the
investors, specifically investors that are segregated asset accounts and
investors who contribute assets rather than cash to a Portfolio. It is intended
that such segregated asset accounts will be able to satisfy diversification
requirements applicable to them and that such contributions of assets will not
be taxable provided certain requirements are met. Such investors are advised to
consult their own tax advisors as to the tax consequences of an investment in a
Portfolio.
OTHER TAXATION
The investment by an investor in a Portfolio does not cause the investor to be
liable for any income or franchise tax in the State of New York. Investors are
advised to consult their own tax advisers with respect to the particular tax
consequences to them of an investment in a Portfolio.
STATUTORY BASIS FINANCIAL STATEMENTS OF AUSA
The statutory basis financial statements of AUSA that are included in this
Statement of Additional Information are different from the financial statements
of Diversified Investors Variable Funds and Diversified Investors Strategic
Variable Funds. The statutory basis financial statements of AUSA should be
considered only as bearing upon the ability of AUSA to meet its obligations
under the Contracts and should not be considered as bearing on the investment
performance of the assets held in Diversified Investors Variable Funds or
Diversified Investors Strategic Variable Funds.
<PAGE> 111
A-1
APPENDIX A
DESCRIPTION OF SECURITY RATINGS
STANDARD & POOR'S
CORPORATE AND MUNICIPAL BONDS
AAA -- An obligation rated AAA has the highest rating assigned by Standard &
Poor's. The obligor's capacity to meet its financial commitment on the
obligation is extremely strong.
AA -- An obligation rated AA differs from the highest rated obligations only in
a small degree. The obligor's capacity to meet its financial commitment on the
obligation is very strong.
A -- An obligation rated A is somewhat more susceptible to the adverse effects
of changes in circumstances and economic conditions than obligations in higher
rated categories. However, the obligor's capacity to meet its financial
commitment on the obligation is still strong.
BBB -- An obligation rated BBB exhibits adequate protection parameters. However,
adverse economic conditions or changing circumstances are more likely to lead to
a weakened capacity of the obligor to meet its financial commitment on the
obligation.
BB -- An obligation rated BB is less vulnerable to nonpayment than other
speculative issues. However, it faces major ongoing uncertainties or exposure to
adverse business, financial or economic conditions which could lead to the
obligor's inadequate capacity to meet its financial commitment on the
obligation.
PLUS (+) OR MINUS (-) -- The ratings from AA to BB may be modified by the
addition of a plus or minus sign to show relative standing within the major
ratings categories.
COMMERCIAL PAPER, INCLUDING TAX EXEMPT
A-1 -- This designation indicates that the degree of safety regarding timely
payment is strong. Those issues determined to possess extremely strong safety
characteristics are denoted with a plus sign (+) designation.
A-2 -- Capacity for timely payment on issues with this designation is
satisfactory. However, the relative degree of safety is not as high as for
issues designated "A-1".
A-3 -- Issues carrying this designation have an adequate capacity for timely
payment. They are, however, more vulnerable to the adverse effects of changes in
circumstances than obligations carrying the higher designations.
MOODY'S
CORPORATE AND MUNICIPAL BONDS
Aaa -- Bonds which are rated Aaa are judged to be of the best quality. They
carry the smallest degree of investment risk and are generally referred to as
"gilt edged". Interest payments are protected by a large or by an exceptionally
stable margin and principal is secure. While the various protective elements are
likely to change, such changes as can be visualized are most unlikely to impair
the fundamentally strong position of such issues.
Aa -- Bonds which are rated Aa are judged to be of high quality by all
standards. Together with the Aaa group they comprise what are generally known as
high-grade bonds. They are rated lower than the best bonds because margins of
protection may not be as large as in Aaa securities or fluctuation of protective
elements may be of greater amplitude or there may be other elements present
which make the long-term risk appear somewhat larger than the Aaa securities.
A -- Bonds which are rated A possess many favorable investment attributes and
are to be considered as upper-medium-grade obligations. Factors giving security
to principal and interest are considered
<PAGE> 112
A-2
adequate, but elements may be present which suggest a susceptibility to
impairment some time in the future.
Baa -- Bonds which are rated Baa are considered as medium-grade obligations
(i.e., they are neither highly protected nor poorly secured). Interest payments
and principal security appear adequate for the present but certain protective
elements may be lacking or may be characteristically unreliable over any great
length of time. Such bonds lack outstanding investment characteristics and in
fact have speculative characteristics as well.
Ba -- Bonds which are rated Ba are judged to have speculative elements; their
future cannot be considered as well-assured. Often the protection of interest
and principal payments may be very moderate, and thereby not well safeguarded
during both good and bad times over the future. Uncertainty of position
characterizes bonds in this class.
COMMERCIAL PAPER
PRIME-1 -- Issuers rated Prime-1 (or supporting institutions) have a superior
ability for repayment of senior short-term debt obligations. Prime-1 repayment
ability will often be evidenced by many of the following characteristics:
- - Leading market positions in well established industries.
- - High rates of return on funds employed.
- - Conservative capitalization structure with moderate reliance on debt and
ample asset protection.
- - Broad margins in earnings coverage of fixed financial charges and high
internal cash generation.
- - Well-established access to a range of financial markets and assureds sources
of alternate liquidity.
<PAGE> 113
REPORT OF INDEPENDENT AUDITORS
The Board of Directors
AUSA Life Insurance Company, Inc.
We have audited the accompanying statutory-basis balance sheets of AUSA Life
Insurance Company, Inc., an indirect wholly-owned subsidiary of AEGON N.V., as
of December 31, 1999 and 1998 and the related statutory-basis statements of
operations, changes in capital and surplus, and cash flow for each of the three
years in the period ended December 31, 1999. 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 did not audit the
"Separate Account Assets" and "Separate Account Liabilities" in the
statutory-basis balance sheets of the Company. The Separate Account financial
statements were audited by other auditors whose reports have been furnished to
us, and our opinion, insofar as it relates to the data included for the Separate
Accounts, is based solely upon the reports of the other auditors.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits and the reports of other auditors provide a
reasonable basis for our opinion.
As described in Note 1 to the financial statements, the Company presents its
financial statements in conformity with accounting practices prescribed or
permitted by the Department of Insurance of the State of New York, which
practices differ from generally accepted accounting principles. The variances
between such practices and generally accepted accounting principles also are
described in Note 1. The effects on the financial statements of these variances
are not reasonably determinable but are presumed to be material.
In our opinion, because of the effects of the matter described in the preceding
paragraph, the financial statements referred to above do not present fairly, in
conformity with generally accepted accounting principles, the financial position
of AUSA Life Insurance Company, Inc. at December 31, 1999 and 1998, or the
results of its operations or its cash flows for each of the three years in the
period ended December 31, 1999.
However, in our opinion, based on our audits and the reports of other auditors,
the financial statements referred to above present fairly, in all material
respects, the financial position of AUSA Life Insurance Company, Inc. at
December 31, 1999 and 1998, and the results of its operations and its cash flow
for each of the three years in the period ended December 31, 1999, in conformity
with accounting practices prescribed or permitted by the Department of Insurance
of the State of New York.
[ERNST & YOUNG LLP]
Des Moines, Iowa
February 18, 2000
F- 1
<PAGE> 114
AUSA LIFE INSURANCE COMPANY, INC.
BALANCE SHEETS -- STATUTORY BASIS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
DECEMBER 31
-------------------------
1999 1998
----------- -----------
<S> <C> <C>
ADMITTED ASSETS
Cash and invested assets:
Bonds..................................................... $ 3,864,509 $ 4,151,780
Stocks:
Preferred............................................... 6,789 2,582
Common, at market (cost: $14 in 1999 and 1998).......... 2 2
Mortgage loans on real estate............................. 449,603 413,107
Real estate acquired in satisfaction of debt, at cost less
accumulated depreciation ($1,239 in 1999 and $2,474 in
1998)................................................... 16,865 33,986
Policy loans.............................................. 3,276 3,181
Cash and short-term investments........................... 81,390 61,065
Other invested assets..................................... 62,759 30,795
Short-term notes receivable from affiliates............... 136,300 10,400
----------- -----------
Total cash and invested assets.............................. 4,621,493 4,706,898
Receivable from affiliates.................................. 17,851 14,731
Premiums deferred and uncollected........................... 6,572 6,408
Accrued investment income................................... 58,103 64,859
Federal income taxes recoverable............................ -- 527
Other assets................................................ 14,901 12,567
Separate account assets..................................... 6,881,195 6,517,152
----------- -----------
Total admitted assets....................................... $11,600,115 $11,323,142
=========== ===========
LIABILITIES AND CAPITAL AND SURPLUS
Liabilities:
Aggregate reserves for policies and contracts:
Life.................................................... $ 138,147 $ 109,132
Annuity................................................. 796,401 868,294
Accident and health..................................... 16,432 16,416
Policy and contract claim reserves:
Life.................................................... 5,004 4,927
Accident and health..................................... 8,190 10,302
Other policyholders' funds................................ 3,145,632 3,267,417
Remittances and items not allocated....................... 44,643 58,724
Asset valuation reserve................................... 82,997 84,077
Interest maintenance reserve.............................. 27,244 37,253
Deferred interest on assets purchased..................... 733 5,230
Payable under assumption reinsurance agreement............ 39,118 52,837
Other liabilities......................................... 23,566 7,422
Federal income taxes payable.............................. 4,507 --
Separate account liabilities.............................. 6,874,006 6,497,865
----------- -----------
Total liabilities........................................... 11,206,620 11,019,896
Commitments and contingencies (Note 10)
Capital and surplus:
Common stock, $125 par value, 20,000 shares authorized,
issued and outstanding.................................. 2,500 2,500
Paid-in surplus........................................... 319,180 319,180
Special surplus funds..................................... 2,017 1,827
Unassigned surplus (deficit).............................. 69,798 (20,261)
----------- -----------
Total capital and surplus................................... 393,495 303,246
----------- -----------
Total liabilities and capital and surplus................... $11,600,115 $11,323,142
=========== ===========
</TABLE>
See accompanying notes.
F- 2
<PAGE> 115
AUSA LIFE INSURANCE COMPANY, INC.
STATEMENTS OF OPERATIONS -- STATUTORY BASIS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
------------------------------------
1999 1998 1997
---------- ---------- ----------
<S> <C> <C> <C>
Revenue:
Premiums and other considerations, net of reinsurance:
Life................................................... $ 48,276 $ 22,664 $ 71,899
Annuity................................................ 1,475,991 1,132,120 1,199,470
Accident and health.................................... 29,748 32,869 39,999
Net investment income..................................... 325,049 345,660 341,540
Amortization of interest maintenance reserve.............. 4,078 6,116 3,392
Commissions and expense allowances on reinsurance ceded... 424 302 374
Separate account fee income............................... 51,872 43,525 --
Other income.............................................. 5,531 -- 17,240
---------- ---------- ----------
1,940,969 1,583,256 1,673,914
Benefits and expenses:
Benefits paid or provided for:
Life and accident and health benefits.................. 32,871 32,464 39,045
Surrender benefits..................................... 1,937,450 1,117,653 1,175,051
Other benefits......................................... 21,747 20,886 14,316
Increase (decrease) in aggregate reserves for policies
and contracts:
Life................................................. 29,016 5,762 52,500
Annuity.............................................. (71,893) (42,781) 65,982
Accident and health.................................. 16 (131) (1,357)
Other................................................ 778 (67) 580
Increase (decrease) in liability for premium and other
deposit type funds................................... (122,644) 85,461 92,280
---------- ---------- ----------
1,827,341 1,219,247 1,438,397
Insurance expenses:
Commissions............................................ 50,265 69,009 79,099
General insurance expenses............................. 58,034 95,169 92,613
Taxes, licenses and fees............................... 1,836 1,466 3,717
Net transfers to (from) separate accounts.............. (79,470) 174,435 42,490
Other.................................................. (16) 978 181
---------- ---------- ----------
30,649 341,057 218,100
---------- ---------- ----------
1,857,990 1,560,304 1,656,497
---------- ---------- ----------
Gain from operations before federal income tax expense and
net realized capital gains on investments................. 82,979 22,952 17,417
Federal income tax expense.................................. 7,976 4,021 5,247
---------- ---------- ----------
Gain from operations before net realized capital gains on
investments............................................... 75,003 18,931 12,170
Net realized capital gains on investments (net of related
federal income taxes and amounts transferred to interest
maintenance reserve)...................................... 11,471 3,770 831
---------- ---------- ----------
Net income.................................................. $ 86,474 $ 22,701 $ 13,001
========== ========== ==========
</TABLE>
F- 3
See accompanying notes.
F- 4
<PAGE> 116
AUSA LIFE INSURANCE COMPANY, INC.
STATEMENTS OF CHANGES IN CAPITAL AND SURPLUS -- STATUTORY BASIS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
SPECIAL UNASSIGNED TOTAL
COMMON PAID-IN SURPLUS SURPLUS CAPITAL AND
STOCK SURPLUS FUNDS (DEFICIT) SURPLUS
------ -------- ------- ---------- -----------
<S> <C> <C> <C> <C> <C>
Balance at January 1, 1997............................. $2,500 $319,180 $1,473 $ (4,246) $ 318,907
Net income........................................... -- -- 134 12,867 13,001
Change in net unrealized capital gains (losses)...... -- -- -- (2,710) (2,710)
Change in non-admitted assets........................ -- -- -- (8,483) (8,483)
Change in liability for reinsurance in unauthorized
companies.......................................... -- -- -- 29 29
Change in asset valuation reserve.................... -- -- -- (20,446) (20,446)
Net change in separate account surplus............... -- -- -- (49) (49)
Prior year federal income tax adjustment............. -- -- -- 59 59
------ -------- ------ --------- ---------
Balance at December 31, 1997........................... 2,500 319,180 1,607 (22,979) 300,308
Net income........................................... -- -- 220 22,481 22,701
Change in net unrealized capital gains (losses)...... -- -- -- 4,439 4,439
Change in non-admitted assets........................ -- -- -- (291) (291)
Change in liability for reinsurance in unauthorized
companies.......................................... -- -- -- 18 18
Change in asset valuation reserve.................... -- -- -- (16,753) (16,753)
Net change in separate account surplus............... -- -- -- 824 824
Dividend to stockholder.............................. -- -- -- (8,000) (8,000)
------ -------- ------ --------- ---------
Balance at December 31, 1998........................... 2,500 319,180 1,827 (20,261) 303,246
Net income........................................... -- -- 190 86,284 86,474
Change in net unrealized capital gains (losses)...... -- -- -- (2,666) (2,666)
Change in non-admitted assets........................ -- -- -- 8,957 8,957
Change in liability for reinsurance in unauthorized
companies.......................................... -- -- -- (394) (394)
Change in asset valuation reserve.................... -- -- -- 1,080 1,080
Net change in separate account surplus............... -- -- -- (3,202) (3,202)
------ -------- ------ --------- ---------
Balance at December 31, 1999........................... $2,500 $319,180 $2,017 $ 69,798 $ 393,495
====== ======== ====== ========= =========
</TABLE>
See accompanying notes.
F- 5
<PAGE> 117
AUSA LIFE INSURANCE COMPANY, INC.
STATEMENTS OF CASH FLOW -- STATUTORY BASIS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
---------------------------------------
1999 1998 1997
----------- ----------- -----------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Premiums and other considerations, net of reinsurance....... $ 1,569,443 $ 1,191,035 $ 1,340,757
Net investment income....................................... 343,327 353,054 340,150
Life and accident and health claims......................... (34,919) (33,979) (40,151)
Surrender benefits and other fund withdrawals............... (1,937,450) (1,117,653) (1,175,051)
Other benefits to policyholders............................. (21,733) (20,876) (14,290)
Commissions, other expenses and other taxes................. (125,507) (169,784) (184,457)
Net transfers (to) from separate account.................... 131,083 (130,976) (43,309)
Federal income taxes paid................................... (2,942) (5,558) (4,704)
Other, net.................................................. (26,319) (3,806) (3,744)
----------- ----------- -----------
Net cash provided by (used in) operating activities......... (105,017) 61,457 215,201
INVESTING ACTIVITIES
Proceeds from investments sold, matured or repaid:
Bonds and preferred stocks................................ 1,843,152 1,381,784 968,184
Common stocks............................................. 55,050 164 --
Mortgage loans on real estate............................. 144,620 138,723 179,810
Real estate............................................... 46,449 22,067 25,104
Policy loans.............................................. -- -- 16
Other..................................................... 3,847 (21) --
----------- ----------- -----------
2,093,118 1,542,717 1,173,114
Cost of investments acquired:
Bonds and preferred stocks................................ (1,588,268) (1,554,838) (1,260,122)
Common stocks............................................. (55,050) -- (103)
Mortgage loans on real estate............................. (178,473) (51,862) (60,722)
Real estate............................................... (27,721) (561) --
Policy loans.............................................. (95) (135) (146)
Other..................................................... 7,731 5,756 (17,805)
----------- ----------- -----------
(1,841,876) (1,601,640) (1,338,898)
----------- ----------- -----------
Net cash provided by (used in) investing activities......... 251,242 (58,923) (165,784)
FINANCING ACTIVITIES
Issuance of intercompany notes, net......................... (125,900) (1,600) (9,400)
Dividends to stockholders................................... -- (8,000) --
----------- ----------- -----------
Net cash used in financing activities....................... (125,900) (9,600) (9,400)
----------- ----------- -----------
Increase (decrease) in cash and short-term investments...... 20,325 (7,066) 40,017
Cash and short-term investments at beginning of year........ 61,065 68,131 28,114
----------- ----------- -----------
Cash and short-term investments at end of year.............. $ 81,390 $ 61,065 $ 68,131
=========== =========== ===========
</TABLE>
See accompanying notes.
F- 6
<PAGE> 118
AUSA LIFE INSURANCE COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS -- STATUTORY BASIS
(DOLLARS IN THOUSANDS)
DECEMBER 31, 1999
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION
AUSA Life Insurance Company, Inc. ("the Company") is a stock life insurance
company and is 82 percent owned by First AUSA Life Insurance Company ("First
AUSA"), a wholly-owned subsidiary of AEGON USA, Inc. ("AEGON"), and 18 percent
owned by Veterans Life Insurance Company, an indirect wholly-owned subsidiary of
AEGON. AEGON is a wholly-owned subsidiary of AEGON N.V., a holding company
organized under the laws of The Netherlands. Effective September 24, 1993, First
AUSA purchased from The Dreyfus Corporation ("Dreyfus"), its entire interest in
Dreyfus Life Insurance Company and subsequently changed the name to AUSA Life
Insurance Company, Inc. On December 31, 1993, the Company entered into an
assumption reinsurance agreement with Mutual of New York ("MONY") to transfer
certain group pension business of MONY to the Company.
On October 1, 1998, the Company completed a merger with First Providian Life and
Health Insurance Company ("FPLH"), an indirect wholly-owned subsidiary of
Commonwealth General Corporation which, in turn, is an indirect wholly-owned
subsidiary of AEGON, whereby FPLH was merged directly into the Company. The
accompanying financial statements give retroactive effect as if the merger had
occurred on January 1, 1997 in conformity with the practices of the National
Association of Insurance Commissioners (NAIC) and accounting practices
prescribed or permitted by the Department of Insurance of the State of New York.
This merger was accounted for as a statutory merger, which is similar to the
pooling of interests method of accounting and, accordingly, the historical book
values carried over from the separate companies to the Company.
NATURE OF BUSINESS
The Company primarily sells group fixed and variable annuities and group life
coverages. The Company is licensed in 49 states and the District of Columbia and
is in the process of becoming licensed in New Jersey. Sales of the Company's
products are primarily through brokers.
BASIS OF PRESENTATION
The preparation of financial statements of insurance companies requires
management to make estimates and assumptions that affect amounts reported in the
financial statements and accompanying notes. Actual results could differ from
those estimates.
Significant estimates and assumptions are utilized in the calculation of
aggregate policy reserves, policy and contract reserves, guarantee fund
assessment accruals and valuation allowances on investments. It is reasonably
possible that actual experience could differ from the estimates and assumptions
utilized which could have a material impact on the financial statements.
The accompanying financial statements have been prepared on the basis of
accounting practices prescribed or permitted by the Department of Insurance of
the State of New York ("Insurance Department"), which practices differ in some
respects from generally accepted accounting principles. The more significant of
these differences are as follows: (a) bonds are generally reported at amortized
cost rather than segregating the portfolio into held-to-maturity (reported at
amortized cost), available-for-sale (reported at fair value), and trading
(reported at fair value) classifications; (b) acquisition costs of acquiring new
business are charged to current operations as incurred rather than deferred and
amortized over the life of the policies; (c) certain separate accounts provide
policyholders with a guaranteed return; these separate accounts are included in
the general account assets and
F- 7
<PAGE> 119
AUSA LIFE INSURANCE COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS -- STATUTORY BASIS (CONTINUED)
(DOLLARS IN THOUSANDS)
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
liabilities for GAAP purposes due to the nature of the guaranteed return, (d)
policy reserves on traditional life products are based on statutory mortality
rates and interest which may differ from reserves based on reasonable
assumptions of expected mortality, interest, and withdrawals which include a
provision for possible unfavorable deviation from such assumptions; (e) policy
reserves on certain investment products use discounting methodologies utilizing
statutory interest rates rather than full account values; (f) reinsurance
amounts are netted against the corresponding asset or liability rather than
shown as gross amounts on the balance sheet; (g) deferred income taxes are not
provided for the difference between the financial statement and income tax bases
of assets and liabilities; (h) net realized gains or losses attributed to
changes in the level of interest rates in the market are deferred and amortized
over the remaining life of the bond or mortgage loan, rather than recognized as
gains or losses in the statement of operations when the sale is completed; (i)
declines in the estimated realizable value of investments are provided for
through the establishment of a formula-determined statutory investment reserve
(reported as a liability), changes to which are charged directly to surplus,
rather than through recognition in the statement of operations for declines in
value, when such declines are judged to be other than temporary; (j) certain
assets designated as "non-admitted assets" have been charged to surplus rather
than being reported as assets; (k) revenues for universal life and investment
products consist of premiums received rather than policy charges for the cost of
insurance, policy administration charges, amortization of policy initiation fees
and surrender charges assessed; (l) pension expense is recorded as amounts are
paid; (m) stock options settled in cash are recorded as an expense of the
Company's indirect parent rather than charged to current operations; (n)
adjustments to federal income taxes of prior years are charged or credited
directly to unassigned surplus, rather than reported as a component of expense
in the statement of operations; and (o) gains or losses on dispositions of
business are charged or credited directly to unassigned surplus rather than
being reported in the statement of operations. The effects of these variances
have not been determined by the Company, but are presumed to be material.
In 1998, the NAIC adopted codified statutory accounting principles
("Codification"), effective January 1, 2001. Codification will likely change, to
some extent, prescribed statutory accounting practices and may result in changes
to the accounting practices that the Company uses to prepare its statutory-basis
financial statements. Codification will require adoption by the various states
before it becomes the prescribed statutory basis of accounting for insurance
companies domesticated within those states. Accordingly, before Codification
becomes effective for the Company, the State of New York must adopt Codification
as the prescribed basis of accounting on which domestic insurers must report
their statutory-basis results to the Insurance Department. At this time, it is
unclear whether the State of New York will adopt Codification. However, based on
current guidance, management believes that the impact of Codification will not
be material to the Company's statutory-basis financial statements.
CASH AND SHORT-TERM INVESTMENTS
For purposes of the statements of cash flow, the Company considers all highly
liquid investments with remaining maturity of one year or less when purchased to
be short-term investments.
INVESTMENTS
Investments in bonds (except those to which the Securities Valuation Office of
the NAIC has ascribed a value), mortgage loans on real estate and short-term
investments are reported at cost adjusted for amortization of premiums and
accrual of discounts. Amortized costs for bonds and mortgage loans on real
estate that were acquired through the reinsurance agreement described earlier
were initially
F- 8
<PAGE> 120
AUSA LIFE INSURANCE COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS -- STATUTORY BASIS (CONTINUED)
(DOLLARS IN THOUSANDS)
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
recorded at market value, consistent with the aforementioned agreement and as
prescribed by the Department of Insurance of the State of New York. Amortization
is computed using methods which result in a level yield over the expected life
of the security. The Company reviews its prepayment assumptions on mortgage and
other asset-backed securities at regular intervals and adjusts amortization
rates retrospectively when such assumptions are changed due to experience and/or
expected future patterns. Investments in preferred stocks in good standing are
reported at cost. Investments in preferred stocks not in good standing are
reported at the lower of cost or market. Common stocks are carried at market.
Real estate is reported at cost less allowances for depreciation. Depreciation
is computed principally by the straight-line method. Policy loans are reported
at unpaid principal. Other invested assets consist principally of investments in
various joint ventures and are recorded at equity in underlying net assets.
Other "admitted assets" are valued, principally at cost, as required or
permitted by New York Insurance Laws.
Realized capital gains and losses are determined on the basis of specific
identification and are recorded net of related federal income taxes. The Asset
Valuation Reserve (AVR) is established by the Company to provide for potential
losses in the event of default by issuers of certain invested assets. These
amounts are determined using a formula prescribed by the NAIC and are reported
as a liability. The formula for the AVR provides for a corresponding adjustment
for realized gains and losses. Under a formula prescribed by the NAIC, the
Company defers, in the Interest Maintenance Reserve (IMR), the portion of
realized gains and losses on sales of fixed income investments, principally
bonds and mortgage loans, attributable to changes in the general level of
interest rates and amortizes those deferrals over the remaining period to
maturity of the security.
Interest income is recognized on an accrual basis. The Company does not accrue
income on bonds in default, mortgage loans on real estate in default and/or
foreclosure or which are delinquent more than twelve months, or real estate
where rent is in arrears for more than three months. Further, income is not
accrued when collection is uncertain. During 1999, 1998 and 1997, the Company
excluded investment income due and accrued of $261, $216 and $473, respectively,
with respect to such practices.
The Company uses interest rate swaps as part of its overall interest rate risk
management strategy for certain life insurance and annuity products. The net
interest effect of such swap transactions is reported as an adjustment of
interest income from the hedged items as incurred.
Deferred income for unrealized gains and losses on the securities valued at
market at the time of the assumption reinsurance agreement (described in Note 4)
are returned to MONY at the time of realization pursuant to the agreement.
AGGREGATE POLICY RESERVES
Life, annuity and accident and health benefit reserves are developed by
actuarial methods and are determined based on published tables using statutorily
specified interest rates and valuation methods that will provide, in the
aggregate, reserves that are greater than or equal to the minimum required by
law.
The aggregate policy reserves for life insurance policies are based principally
upon the 1941, 1958 and 1980 Commissioners' Standard Ordinary Mortality Tables.
The reserves are calculated using interest rates ranging from 2.50 to 6.50
percent and are computed principally on the Net Level Premium Valuation and the
Commissioners' Reserve Valuation Method. Reserves for universal life policies
are based on account balances adjusted for the Commissioners' Reserve Valuation
Method.
F- 9
<PAGE> 121
AUSA LIFE INSURANCE COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS -- STATUTORY BASIS (CONTINUED)
(DOLLARS IN THOUSANDS)
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Deferred annuity reserves are calculated according to the Commissioners' Annuity
Reserve Valuation Method including excess interest reserves to cover situations
where the future interest guarantees plus the decrease in surrender charges are
in excess of the maximum valuation rates of interest. Reserves for immediate
annuities and supplementary contracts with life contingencies are equal to the
present value of future payments assuming interest rates ranging from 3.00 to
8.50 percent and mortality rates, where appropriate, from a variety of tables.
Accident and health policy reserves are equal to the greater of the gross
unearned premiums or any required midterminal reserves plus net unearned
premiums and the present value of amounts not yet due on both reported and
unreported claims.
POLICY AND CONTRACT CLAIM RESERVES
Claim reserves represent the estimated accrued liability for claims reported to
the Company and claims incurred but not yet reported through the statement date.
These reserves are estimated using either individual case-basis valuations or
statistical analysis techniques. These estimates are subject to the effects of
trends in claim severity and frequency. The estimates are continually reviewed
and adjusted as necessary as experience develops or new information becomes
available.
SEPARATE ACCOUNTS
Assets held in trust for purchases of separate account contracts and the
Company's corresponding obligation to the contract owners are shown separately
in the balance sheets. Income and gains and losses with respect to these assets
accrue to the benefit of the contract owners and, accordingly, the operations of
the separate accounts are not included in the accompanying financial statements.
Certain separate account assets and liabilities reported in the accompanying
financial statements contain contractual guarantees. Guaranteed separate
accounts represent funds invested by the Company for the benefit of individual
contract holders who are guaranteed certain returns as specified in the
contracts. Separate account asset performance different than guaranteed
requirements is either transferred to or received from the general account and
reported in the statements of operations. Guaranteed separate account assets and
liabilities are reported at estimated fair value except for certain government
and fixed-rate separate accounts, which are carried at amortized cost. The
assets and liabilities of the nonguaranteed separate accounts are carried at
estimated fair value.
STOCK OPTION PLAN
AEGON N.V. sponsors a stock option plan for eligible employees of the Company.
Under this plan, certain employees have indicated a preference to immediately
sell shares received as a result of their exercise of the stock options; in
these situations, AEGON N.V. has settled such options in cash rather than
issuing stock to these employees. These cash settlements are paid by the
Company, and AEGON N.V. subsequently reimburses the Company for such payments.
Under statutory accounting principles, the Company does not record any expense
related to this plan, as the expense is recognized by AEGON N.V. However, the
Company is allowed to record a deduction in the consolidated tax return filed by
the Company and certain affiliates.
RECLASSIFICATIONS
Certain reclassifications have been made to the 1999 financial statements to
conform to the 1998 and 1997 presentation.
F- 10
<PAGE> 122
AUSA LIFE INSURANCE COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS -- STATUTORY BASIS (CONTINUED)
(DOLLARS IN THOUSANDS)
2. FAIR VALUES OF FINANCIAL INSTRUMENTS
Statement of Financial Accounting Standards (SFAS) No. 107, Disclosures about
Fair Value of Financial Instruments, requires disclosure of fair value
information about financial instruments, whether or not recognized in the
statutory-basis balance sheet, for which it is practicable to estimate that
value. SFAS No. 119, Disclosures About Derivative Financial Instruments and Fair
Value of Financial Instruments, requires additional disclosures about
derivatives. In cases where quoted market prices are not available, fair values
are based on estimates using present value or other valuation techniques. Those
techniques are significantly affected by the assumptions used, including the
discount rate and estimates of future cash flows. In that regard, the derived
fair value estimates cannot be substantiated by comparisons to independent
markets and, in many cases, could not be realized in immediate settlement of the
instrument. SFAS No. 107 and No. 119 exclude certain financial instruments and
all nonfinancial instruments from their disclosure requirements and allow
companies to forego the disclosures when those estimates can only be made at
excessive cost. Accordingly, the aggregate fair value amounts presented do not
represent the underlying value of the Company.
The following methods and assumptions were used by the Company in estimating its
fair value disclosures for financial instruments:
Cash and short-term investments: The carrying amounts reported in the
statutory-basis balance sheet for these instruments approximate their fair
values.
Investment securities: Fair values for fixed maturity securities (including
redeemable preferred stocks) are based on quoted market prices, where
available. For fixed maturity securities not actively traded, fair values
are estimated using values obtained from independent pricing services or, in
the case of private placements, are estimated by discounting expected future
cash flows using a current market rate applicable to the yield, credit
quality, and maturity of the investments. The fair values for equity
securities are based on quoted market prices.
Mortgage loans and policy loans: The fair values for mortgage loans are
estimated utilizing discounted cash flow analyses, using interest rates
reflective of current market conditions and the risk characteristics of the
loans. The fair value of policy loans is assumed to equal its carrying
amount.
Short-term notes receivable from affiliates: The fair values for short-term
notes receivable from affiliates are assumed to equal their carrying value.
Investment contracts: Fair values for the Company's liabilities under
investment-type insurance contracts are estimated using discounted cash flow
calculations, based on interest rates currently being offered for similar
contracts with maturities consistent with those remaining for the contracts
being valued.
Interest rate swaps: Estimated fair value of interest rate swaps are based
upon the pricing differential for similar swap agreements.
Fair values for the Company's insurance contracts other than investment
contracts are not required to be disclosed. However, the fair values of
liabilities under all insurance contracts are taken into consideration in the
Company's overall management of interest rate risk, which minimizes exposure to
changing interest rates through the matching of investment maturities with
amounts due under insurance contracts.
F- 11
<PAGE> 123
AUSA LIFE INSURANCE COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS -- STATUTORY BASIS (CONTINUED)
(DOLLARS IN THOUSANDS)
2. FAIR VALUES OF FINANCIAL INSTRUMENTS (CONTINUED)
The following sets forth a comparison of the fair values and carrying amounts of
the Company's financial instruments subject to the provisions of SFAS No. 107
and No. 119:
<TABLE>
<CAPTION>
DECEMBER 31
-------------------------------------------------
1999 1998
----------------------- -----------------------
CARRYING CARRYING
AMOUNT FAIR VALUE AMOUNT FAIR VALUE
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
ADMITTED ASSETS
Cash and short-term investments............ $ 81,390 $ 81,390 $ 61,065 $ 61,065
Bonds...................................... 3,864,509 3,767,465 4,151,780 4,246,901
Preferred stock............................ 6,789 6,579 2,582 2,529
Common stock............................... 2 2 2 2
Mortgage loans on real estate.............. 449,603 439,799 413,107 429,716
Interest rate swap......................... -- (174) -- --
Policy loans............................... 3,276 3,276 3,181 3,181
Short-term notes receivable from
affiliates............................... 136,000 136,300 10,400 10,400
Separate account assets.................... 6,881,195 6,866,675 6,517,152 6,527,180
LIABILITIES
Investment contract liabilities............ 3,940,657 3,841,080 4,134,507 4,057,004
Separate account annuities................. 6,798,987 6,753,227 6,408,436 6,387,445
</TABLE>
3. INVESTMENTS
The carrying amounts and estimated fair values of investments in debt securities
were as follows:
<TABLE>
<CAPTION>
GROSS GROSS ESTIMATED
CARRYING UNREALIZED UNREALIZED FAIR
AMOUNT GAINS LOSSES VALUE
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
DECEMBER 31, 1999
Bonds:
United States Government and agencies...... $ 59,439 $ 85 $ 2,589 $ 56,935
State, municipal and other government...... 74,897 454 1,410 73,941
Public utilities........................... 281,024 693 9,538 272,179
Industrial and miscellaneous............... 2,190,297 10,886 69,634 2,131,549
Mortgage-backed and asset-backed
securities.............................. 1,258,852 4,816 30,807 1,232,861
---------- ------- -------- ----------
3,864,509 16,934 113,978 3,767,465
Preferred stocks............................. 6,789 8 218 6,579
---------- ------- -------- ----------
$3,871,298 $16,942 $114,196 $3,774,044
========== ======= ======== ==========
</TABLE>
F- 12
<PAGE> 124
AUSA LIFE INSURANCE COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS -- STATUTORY BASIS (CONTINUED)
(DOLLARS IN THOUSANDS)
3. INVESTMENTS (CONTINUED)
<TABLE>
<CAPTION>
GROSS GROSS ESTIMATED
CARRYING UNREALIZED UNREALIZED FAIR
AMOUNT GAINS LOSSES VALUE
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
DECEMBER 31, 1998
Bonds:
United States Government and agencies...... $ 99,834 $ 1,776 $ 285 $ 101,325
State, municipal and other government...... 38,387 1,427 1,625 38,189
Public utilities........................... 355,719 10,239 825 365,133
Industrial and miscellaneous............... 2,398,132 88,051 25,538 2,460,645
Mortgage-backed and asset-backed
securities.............................. 1,259,708 27,387 5,486 1,281,609
---------- -------- ------- ----------
4,151,780 128,880 33,759 4,246,901
Preferred stocks............................. 2,582 -- 53 2,529
---------- -------- ------- ----------
$4,154,362 $128,880 $33,812 $4,249,430
========== ======== ======= ==========
</TABLE>
The carrying amounts and estimated fair values of bonds at December 31, 1999, by
contractual maturity, are shown below. Expected maturities may differ from
contractual maturities because borrowers may have the right to call or prepay
obligations with or without call or prepayment penalties.
<TABLE>
<CAPTION>
CARRYING ESTIMATED
AMOUNT FAIR VALUE
---------- ----------
<S> <C> <C>
Due in one year or less..................................... $ 182,460 $ 182,521
Due after one year through five years....................... 1,643,466 1,601,064
Due after five years through ten years...................... 592,008 574,987
Due after ten years......................................... 187,723 176,032
---------- ----------
2,605,657 2,534,604
Mortgage-backed and asset-backed securities................. 1,258,852 1,232,861
---------- ----------
$3,864,509 $3,767,465
========== ==========
</TABLE>
A detail of net investment income is presented below:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
------------------------------
1999 1998 1997
-------- -------- --------
<S> <C> <C> <C>
Interest on bonds and notes................................ $290,534 $290,967 $285,730
Mortgage loans............................................. 34,863 46,027 57,659
Real estate................................................ 7,176 12,741 13,976
Dividends on equity investments............................ -- 254 223
Interest on policy loans................................... 49 317 168
Derivative instruments..................................... (2,600) (3,265) 100
Other investment income.................................... 9,139 9,568 1,543
-------- -------- --------
Gross investment income.................................... 339,161 356,609 359,399
Less investment expenses................................... 14,112 10,949 17,859
-------- -------- --------
Net investment income...................................... $325,049 $345,660 $341,540
======== ======== ========
</TABLE>
F- 13
<PAGE> 125
AUSA LIFE INSURANCE COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS -- STATUTORY BASIS (CONTINUED)
(DOLLARS IN THOUSANDS)
3. INVESTMENTS (CONTINUED)
Proceeds from sales and maturities of debt securities and related gross realized
gains and losses were as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
----------------------------------
1999 1998 1997
---------- ---------- --------
<S> <C> <C> <C>
Proceeds................................................ $1,843,152 $1,381,784 $968,184
========== ========== ========
Gross realized gains.................................... $ 11,207 $ 19,871 $ 19,165
Gross realized losses................................... (22,545) (5,974) (11,997)
---------- ---------- --------
Net realized gains (losses)............................. $ (11,338) $ 13,897 $ 7,168
========== ========== ========
</TABLE>
At December 31, 1999, investments with an aggregate carrying amount of $2,853
were on deposit with regulatory authorities or were restrictively held in bank
custodial accounts for the benefit of such regulatory authorities as required by
statute.
Realized investment gains (losses) for investments are summarized below:
<TABLE>
<CAPTION>
REALIZED
------------------------------
YEAR ENDED DECEMBER 31
------------------------------
1999 1998 1997
-------- -------- --------
<S> <C> <C> <C>
Debt securities............................................ $(11,338) $ 13,897 $ 7,168
Common stock............................................... -- 60 --
Preferred stock............................................ -- 170 (7)
Short-term investments..................................... 373 (41) (6)
Mortgage loans on real estate.............................. 1,161 325 287
Real estate................................................ 2,463 3,967 4,059
Other invested assets...................................... 9,407 2,859 5,035
-------- -------- --------
2,066 21,237 16,536
Federal income tax effect.................................. 3,474 20 (747)
Transfer (to) from interest maintenance reserve............ 5,931 (17,487) (14,958)
-------- -------- --------
Total realized gains....................................... $ 11,471 $ 3,770 $ 831
======== ======== ========
</TABLE>
During 1999, the Company issued mortgage loans with interest rates ranging from
6.77% to 8.49%. The maximum percentage of any one loan to the value of the
underlying real estate at origination was 95%. No mortgage loans were non-income
producing for the previous twelve months and, accordingly, no accrued interest
related to these mortgage loans was excluded from investment income. The Company
requires all mortgage loans to carry fire insurance equal to the value of the
underlying property.
During 1999, 1998 and 1997, there were $17,959, $2,796 and $4,427, respectively,
in foreclosed mortgage loans that were transferred to real estate. At December
31, 1999 and 1998, the Company held a mortgage
F- 14
<PAGE> 126
AUSA LIFE INSURANCE COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS -- STATUTORY BASIS (CONTINUED)
(DOLLARS IN THOUSANDS)
3. INVESTMENTS (CONTINUED)
loan loss reserve in the asset valuation reserve of $36,273 and $34,083,
respectively. The mortgage loan portfolio is diversified by geographic region
and specific collateral property type as follows:
<TABLE>
<CAPTION>
GEOGRAPHIC DISTRIBUTION PROPERTY TYPE DISTRIBUTION
- ------------------------------------------------- -------------------------------------------------
DECEMBER 31 DECEMBER 31
----------- -----------
1999 1998 1999 1998
---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
South Atlantic..................... 26% 22% Office............................. 37% 37%
E. North Central................... 15 20 Retail............................. 23 24
Mountain........................... 14 20 Industrial......................... 20 29
Mid-Atlantic....................... 13 9 Apartment.......................... 6 4
W. South Central................... 12 9 Agricultural....................... 8 2
Pacific............................ 10 8 Other.............................. 6 4
New England........................ 4 7
W. North Central................... 4 3
E. South Central................... 2 2
</TABLE>
At December 31, 1999, the Company had no investments, excluding U.S. Government
guaranteed or insured issues, which individually represented more than ten
percent of capital and surplus and the asset valuation reserve.
The Company utilizes interest rate swap agreements as part of its efforts to
hedge and manage fluctuations in the market value of its investment portfolio
attributable to changes in general interest rate levels and to manage duration
mismatch of assets and liabilities. The contract or notional amounts of those
instruments reflect the extent of involvement in the various types of financial
instruments.
The Company's exposure to credit risk is the risk of loss from a counterparty
failing to perform according to the terms of the contract. That exposure
includes settlement risk (i.e., the risk that the counterparty defaults after
the Company has delivered funds or securities under terms of the contract) that
would result in an accounting loss and replacement cost risk (i.e., the cost to
replace the contract at current market rates should the counterparty default
prior to settlement date). Credit loss exposure resulting from nonperformance by
a counterparty for commitments to extend credit is represented by the
contractual amounts of the instruments.
At December 31, 1999 and 1998, the Company's outstanding financial instruments
with on and off-balance sheet risks, shown in notional amounts, are summarized
as follows:
<TABLE>
<CAPTION>
NOTIONAL AMOUNT
------------------
1999 1998
-------- -------
<S> <C> <C>
Derivative securities:
Interest rate swaps:
Receive fixed -- pay floating.......................... $103,700 $74,588
Receive floating -- pay fixed.......................... 10,000 --
</TABLE>
4. REINSURANCE
The Company reinsures portions of risk on certain insurance policies which
exceed its established limits, thereby providing a greater diversification of
risk and minimizing exposure on larger risks. The Company remains contingently
liable with respect to any insurance ceded, and this would become an actual
F- 15
<PAGE> 127
AUSA LIFE INSURANCE COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS -- STATUTORY BASIS (CONTINUED)
(DOLLARS IN THOUSANDS)
4. REINSURANCE (CONTINUED)
liability in the event that the assuming insurance company became unable to meet
its obligation under the reinsurance treaty.
Premiums earned reflect the following reinsurance assumed and ceded amounts for
the year ended December 31:
<TABLE>
<CAPTION>
1999 1998 1997
---------- ---------- ----------
<S> <C> <C> <C>
Direct premiums....................................... $1,548,392 $1,183,777 $1,309,731
Reinsurance assumed................................... 8,301 6,415 6,905
Reinsurance ceded..................................... (2,678) (2,539) (5,268)
---------- ---------- ----------
Net premiums earned................................... $1,554,015 $1,187,653 $1,311,368
========== ========== ==========
</TABLE>
The Company received reinsurance recoveries in the amounts of $2,983, $2,493 and
$1,992 during 1999, 1998 and 1997, respectively.
The aggregate reserves for policies and contracts were reduced for reserve
credits for reinsurance ceded at December 31, 1999 and 1998 of $118,070 and
$143,819, respectively.
On December 31, 1993, the Company and MONY entered into an assumption
reinsurance agreement whereby all of the general account liabilities were
novated to the Company from MONY as state approvals were received. In accordance
with the agreement, MONY will receive payments relating to the performance of
the assets and liabilities that existed at the date of closing for a period of
nine years. These payments will be reduced for certain administrative expenses
as defined in the agreement. The Company will recognize operating gains and
losses on renewal premiums received after December 31, 1993 of the business
in-force at December 31, 1993, and on all new business written after that date.
At the end of nine years from the date of closing, the Company will purchase
from MONY the remaining transferred business inforce based upon a formula
described in the agreement. At December 31, 1999 and 1998, the Company owed MONY
$39,118 and $52,837, respectively, which represents the amount earned by MONY
under the gain sharing calculation and certain fees for investment management
services for the respective years. In connection with the transaction, MONY
purchased $150,000 and $50,000 in Series A and Series B notes, respectively, of
AEGON. The proceeds were used to enhance the surplus of the Company. Both the
Series A and Series B notes bear a market rate of interest and mature in nine
years from the date of closing.
AEGON provides general and administrative services for the transferred business
under a related agreement with MONY. The agreement specifies prescribed rates
for expenses to administer the business up to certain levels. In addition, AEGON
also provides investment management services on the assets underlying the new
business written by the Company while MONY continues to provide investment
management services for assets supporting the remaining policy liabilities which
were transferred at December 31, 1993.
5. INCOME TAXES
For federal income tax purposes, the Company joins in a consolidated income tax
return filing with certain affiliated companies. Under the terms of a
tax-sharing agreement between the Company and its affiliates, the Company
computes federal income tax expense as if it were filing a separate income tax
return, except that tax credits and net operating loss carryforwards are
determined on the basis of the consolidated group. Additionally, the alternative
minimum tax is computed for the consolidated group
F- 16
<PAGE> 128
AUSA LIFE INSURANCE COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS -- STATUTORY BASIS (CONTINUED)
(DOLLARS IN THOUSANDS)
5. INCOME TAXES (CONTINUED)
and the resulting tax, if any, is allocated back to the separate companies on
the basis of the separate companies' alternative minimum taxable income.
Federal income tax expense differs from the amount computed by applying the
statutory federal income tax rate to gain from operations before federal income
tax expense and net realized capital gains (losses) on investments primarily due
to differences in the statutory and tax treatment of certain investments,
deferred policy acquisition costs, stock options exercised, dividends received
deduction, carryforward (utilization) of net operating loss, IMR amortization,
and certain adjustments related to the agreement between MONY and the Company.
These adjustments caused the Company to calculate federal income tax expense
using alternative minimum tax requirements in 1998.
Federal income tax expense differs from the amount computed by applying the
statutory federal income tax rate to net realized capital gains (losses) on
investments due to the agreement between MONY and the Company, as discussed in
Note 4 to the financial statements. In accordance with this agreement, these
gains and losses are included in the net payments MONY will receive relating to
the performance of the assets that existed at the date of closing. Accordingly,
income taxes relating to gains and losses on such assets are not provided for on
the income tax return filed by the Company.
Prior to 1984, as provided for under the Life Insurance Company Tax Act of 1959,
a portion of statutory income was not subject to current taxation but was
accumulated for income tax purposes in a memorandum account referred to as the
policyholders' surplus account. No federal income taxes have been provided for
in the financial statements on income deferred in the policyholders' surplus
account ($2,427 at December 31, 1999). To the extent dividends are paid from the
amount accumulated in the policyholders' surplus account, net earnings would be
reduced by the amount of tax required to be paid. Should the entire amount in
the policyholders' surplus account become taxable, the tax thereon computed at
current rates would amount to approximately $849.
The Company expects to utilize a net operating loss carryforward of $32,539 in
the 1999 consolidated tax return.
In 1998, the Company reached a final settlement with the Internal Revenue
Service for years 1993 through 1995 resulting in no tax due or refunded. An
examination of 1996 and 1997 is currently in process.
F- 17
<PAGE> 129
AUSA LIFE INSURANCE COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS -- STATUTORY BASIS (CONTINUED)
(DOLLARS IN THOUSANDS)
6. POLICY AND CONTRACT ATTRIBUTES
A portion of the Company's policy reserves and other policyholders' funds relate
to liabilities established on a variety of the Company's products that are not
subject to significant mortality or morbidity risk; however, there may be
certain restrictions placed upon the amount of funds that can be withdrawn
without penalty. The amount of reserves on these products, by withdrawal
characteristics, are summarized as follows:
<TABLE>
<CAPTION>
DECEMBER 31
---------------------------------------------------
1999 1998
------------------------ ------------------------
PERCENT OF PERCENT OF
AMOUNT TOTAL AMOUNT TOTAL
----------- ---------- ----------- ----------
<S> <C> <C> <C> <C>
Subject to discretionary withdrawal with
market value adjustment................... $ 924,075 8% $ 912,692 9%
Subject to discretionary withdrawal at book
value less surrender charge............... 998,443 9 1,013,495 10
Subject to discretionary withdrawal at
market value.............................. 4,418,345 41 3,678,649 34
Subject to discretionary withdrawal at book
value (minimal or no charges or
adjustments).............................. 2,395,732 22 2,666,670 25
Not subject to discretionary withdrawal..... 2,121,526 20 2,416,602 22
----------- --- ----------- ---
10,858,121 100% 10,688,108 100%
=== ===
Less reinsurance ceded...................... 117,178 143,475
----------- -----------
Total policy reserves on annuities and
deposit fund liabilities.................. $10,740,943 $10,544,633
=========== ===========
</TABLE>
F- 18
<PAGE> 130
AUSA LIFE INSURANCE COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS -- STATUTORY BASIS (CONTINUED)
(DOLLARS IN THOUSANDS)
6. POLICY AND CONTRACT ATTRIBUTES (CONTINUED)
Separate account assets held by the Company represent contracts where the
benefit is determined by the performance of the investments held in the separate
account. Information regarding the separate accounts of the Company as of and
for the years ended December 31, 1999, 1998 and 1997 is as follows:
<TABLE>
<CAPTION>
GUARANTEED NON-GUARANTEED
SEPARATE SEPARATE
ACCOUNT ACCOUNT TOTAL
---------- -------------- ----------
<S> <C> <C> <C>
Premiums, deposits and other considerations for the
year ended December 31, 1999...................... $ 205,834 $1,002,770 $1,208,604
========== ========== ==========
Reserves for separate accounts with assets at:
Fair value........................................ $1,925,973 $4,310,332 $6,236,305
Amortized cost.................................... 562,682 -- 562,682
---------- ---------- ----------
Total............................................... $2,488,655 $4,310,332 $6,798,987
========== ========== ==========
Premiums, deposits and other considerations for the
year ended December 31, 1998...................... $ 84,150 $ 767,676 $ 851,826
========== ========== ==========
Reserves for separate accounts with assets at:
Fair value........................................ $2,350,983 $3,461,715 $5,812,698
Amortized cost.................................... 595,738 -- 595,738
---------- ---------- ----------
Total............................................... $2,946,721 $3,461,715 $6,408,436
========== ========== ==========
Premiums, deposits and other considerations for the
year ended December 31, 1997...................... $ 147,638 $ 648,056 $ 795,694
========== ========== ==========
Reserves for separate accounts with assets at:
Fair value........................................ $2,204,931 $2,767,245 $4,972,176
Amortized cost.................................... 622,703 -- 622,703
---------- ---------- ----------
Total............................................... $2,827,634 $2,767,245 $5,594,879
========== ========== ==========
</TABLE>
F- 19
<PAGE> 131
AUSA LIFE INSURANCE COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS -- STATUTORY BASIS (CONTINUED)
(DOLLARS IN THOUSANDS)
6. POLICY AND CONTRACT ATTRIBUTES (CONTINUED)
There may be certain restrictions placed upon the amount of funds that can be
withdrawn without penalty. The amount of separate account liabilities on these
products, by withdrawal characteristics, is summarized as follows:
<TABLE>
<CAPTION>
GUARANTEED NON-GUARANTEED
SEPARATE SEPARATE
ACCOUNT ACCOUNT TOTAL
---------- -------------- ----------
<S> <C> <C> <C>
DECEMBER 31, 1999
Subject to discretionary withdrawal with market
value adjustment.................................. $ 335,351 $ -- $ 335,351
Subject to discretionary withdrawal at book value
less surrender charge............................. 227,331 -- 227,331
Subject to discretionary withdrawal at market
value............................................. 108,013 4,310,332 4,418,345
Not subject to discretionary withdrawal............. 1,817,960 -- 1,817,960
---------- ---------- ----------
$2,488,655 $4,310,332 $6,798,987
========== ========== ==========
DECEMBER 31, 1998
Subject to discretionary withdrawal with market
value adjustment.................................. $ 345,379 $ -- $ 345,379
Subject to discretionary withdrawal at book value
less surrender charge............................. 250,359 -- 250,359
Subject to discretionary withdrawal at market
value............................................. 216,935 3,461,715 3,678,650
Not subject to discretionary withdrawal............. 2,134,048 -- 2,134,048
---------- ---------- ----------
$2,946,721 $3,461,715 $6,408,436
========== ========== ==========
</TABLE>
A reconciliation of the amounts transferred to and from the separate accounts is
presented below:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
-----------------------------------
1999 1998 1997
----------- --------- ---------
<S> <C> <C> <C>
Transfers as reported in the summary of operations of
the separate accounts annual statement:
Transfers to separate accounts...................... $ 1,207,636 $ 851,826 $ 795,663
Transfers from separate accounts.................... (1,290,346) (679,796) (767,049)
----------- --------- ---------
Net transfers to (from) separate accounts............. (82,710) 172,030 28,614
Reconciling adjustments -- HUB level fees not paid to
AUSA general account................................ 3,240 1,317 13,756
Fees paid to external fund manager.................. -- -- 120
Assumption of liabilities via merger of FPLH........ -- 1,088 --
----------- --------- ---------
Net adjustments....................................... 3,240 2,405 13,876
----------- --------- ---------
Net transfers as reported in the summary of operations
of the life, accident and health annual statement... $ (79,470) $ 174,435 $ 42,490
=========== ========= =========
</TABLE>
Reserves on the Company's traditional life products are computed using mean
reserving methodologies. These methodologies result in the establishment of
assets for the amount of the net valuation premiums that are anticipated to be
received between the policy's paid-through date to the policy's next
F- 20
<PAGE> 132
AUSA LIFE INSURANCE COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS -- STATUTORY BASIS (CONTINUED)
(DOLLARS IN THOUSANDS)
6. POLICY AND CONTRACT ATTRIBUTES (CONTINUED)
anniversary date. At December 31, 1999 and 1998, these assets (which are
reported as premiums deferred and uncollected) and the amounts of the related
gross premiums and loadings, are as follows:
<TABLE>
<CAPTION>
GROSS LOADING NET
------ ------- ------
<S> <C> <C> <C>
DECEMBER 31, 1999
Life and annuity:
Ordinary direct first year business....................... $ 400 $ 276 $ 124
Ordinary direct renewal business.......................... 6,454 1,080 5,374
Group life direct business................................ 1,030 427 603
Credit life............................................... 42 -- 42
Reinsurance ceded......................................... (15) -- (15)
------ ------ ------
7,911 1,783 6,128
Accident and health:
Direct.................................................... 484 -- 484
Reinsurance ceded......................................... (40) -- (40)
------ ------ ------
Total accident and health................................... 444 -- 444
------ ------ ------
$8,355 $1,783 $6,572
====== ====== ======
DECEMBER 31, 1998
Life and annuity:
Ordinary direct first year business....................... $ 351 $ 339 $ 12
Ordinary direct renewal business.......................... 6,760 1,087 5,673
Group life direct business................................ 851 482 369
Credit life............................................... 37 -- 37
Reinsurance ceded......................................... (6) -- (6)
------ ------ ------
7,993 1,908 6,085
Accident and health:
Direct.................................................... 363 -- 363
Reinsurance ceded......................................... (40) -- (40)
------ ------ ------
Total accident and health................................... 323 -- 323
------ ------ ------
$8,316 $1,908 $6,408
====== ====== ======
</TABLE>
At December 31, 1999 and 1998, the Company had insurance in force aggregating
$425,151 and $474,471, respectively, in which the gross premiums are less than
the net premiums required by the valuation standards established by the
Department of Insurance of the State of New York. The Company established policy
reserves of $1,250 and $1,348 to cover these deficiencies at December 31, 1999
and 1998, respectively.
7. DIVIDEND RESTRICTIONS
The Company is subject to certain limitations relative to statutory surplus,
imposed by the State of New York, on the payment of dividends to its parent
company.
The Company paid dividends to its parent of $8,000 in 1998. The Company is not
entitled to pay out any dividends in 1999 without prior approval.
F- 21
<PAGE> 133
AUSA LIFE INSURANCE COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS -- STATUTORY BASIS (CONTINUED)
(DOLLARS IN THOUSANDS)
8. RETIREMENT AND COMPENSATION PLANS
The Company's employees participate in a qualified benefit pension plan
sponsored by AEGON. The Company has no legal obligation for the plan. The
Company recognizes pension expense equal to its allocation from AEGON. The
pension expense is allocated among the participating companies based on the SFAS
87 expense as a percent of salaries. The benefits are based on years of service
and the employee's compensation during the highest five consecutive years of
employment. The Company's allocation of pension expense for each of the years
ended December 31, 1999, 1998 and 1997 was negligible. The plan is subject to
the reporting and disclosure requirements of the Employee Retirement Income
Security Act of 1974.
The Company's employees also participate in a contributory defined contribution
plan sponsored by AEGON which is qualified under Section 401(k) of the Internal
Revenue Service Code. Employees of the Company who customarily work at least
1,000 hours during each calendar year and meet the other eligibility
requirements are participants of the plan. Participants may elect to contribute
up to fifteen percent of their salary to the plan. The Company will match an
amount up to three percent of the participant's salary. Participants may direct
all of their contributions and plan balances to be invested in a variety of
investment options. The plan is subject to the reporting and disclosure
requirements of the Employee Retirement Income Security Act of 1974. The Company
was allocated $10, $9 and $12 of expense for the years ended December 31, 1999,
1998 and 1997, respectively.
In addition to pension benefits, the Company participates in plans sponsored by
AEGON that provide postretirement medical, dental and life insurance benefits to
employees meeting certain eligibility requirements. Portions of the medical and
dental plans are contributory. The expenses of the postretirement plans
calculated on the pay-as-you-go basis are charged to affiliates in accordance
with an intercompany cost sharing arrangement. The Company's allocation of
postretirement expenses was negligible for each of the years ended December 31,
1999, 1998 and 1997.
9. RELATED PARTY TRANSACTIONS
In accordance with an agreement between AEGON and the Company, AEGON will ensure
the maintenance of certain minimum tangible net worth, operating leverage and
liquidity levels of the Company, as defined in the agreement, through the
contribution of additional capital by the Company's parent as needed.
The Company shares certain officers, employees and general expenses with
affiliated companies.
The Company receives data processing, investment advisory and management,
marketing and administration services from certain affiliates. During 1999, 1998
and 1997, the Company paid $6,940, $5,650 and $7,330, respectively, for these
services, which approximates their costs to the affiliates.
Payable to affiliates and intercompany borrowings bear interest at the
thirty-day commercial paper rate of 5.7% at December 31, 1999. During 1999, 1998
and 1997, the Company paid net interest of $485, $232 and $142, respectively, to
affiliates.
10. COMMITMENTS AND CONTINGENCIES
The Company has issued Trust (synthetic) GIC contracts to plan sponsors totaling
$186,478 and $153,146 at December 31, 1999 and 1998, respectively, pursuant to
terms under which the plan sponsor retains ownership of the assets related to
these contracts. The Company guarantees benefit responsiveness in the event that
plan benefit requests and other contractual commitments exceed plan cash flows.
The plan sponsor agrees to reimburse the Company for such benefit payments with
interest, either at a fixed or
F- 21
<PAGE> 134
AUSA LIFE INSURANCE COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS -- STATUTORY BASIS (CONTINUED)
(DOLLARS IN THOUSANDS)
10. COMMITMENTS AND CONTINGENCIES (CONTINUED)
floating rate, from future plan and asset cash flows. In return for this
guarantee, the Company receives a premium which varies based on such elements as
benefit responsive exposure and contract size. The Company underwrites the plans
for the possibility of having to make benefit payments and also must agree to
the investment guidelines to ensure appropriate credit quality and cash flow
matching. Funding requirements to date have been minimal and management does not
anticipate any future material funding requirements that would have a material
effect on reported financial results. The assets relating to such contracts are
not recognized in the Company's statutory-basis financial statements.
The Company is a party to legal proceedings incidental to its business. Although
such litigation sometimes includes substantial demands for compensatory and
punitive damages, in addition to contract liability, it is management's opinion,
after consultation with counsel and a review of available facts, that damages
arising from such demands will not be material to the Company's financial
position.
The Company is subject to insurance guaranty laws in the states in which it
writes business. These laws provide for assessments against insurance companies
for the benefit of policyholders and claimants in the event of insolvency of
other insurance companies. In accordance with the purchase agreement,
assessments related to periods prior to the purchase of the Company will be paid
by Dreyfus and assessments attributable to business reinsured from MONY for
premiums received prior to the date of the transaction will be paid by MONY (see
Note 1). The Company will be responsible for assessments, if any, attributable
to premium income after the date of purchase. Assessments are charged to
operations when received by the Company except where right of offset against
other taxes paid is allowed by law; amounts available for future offsets are
recorded as an asset on the Company's balance sheet. Potential future
obligations for unknown insolvencies are not determinable by the Company. The
future obligation has been based on the most recent information available from
the National Organization of Life and Health Insurance Guaranty Associations.
The guaranty fund expense was $46, $126 and $586 for the years ended December
31, 1999, 1998 and 1997, respectively.
F- 22
<PAGE> 135
AUSA LIFE INSURANCE COMPANY, INC.
4 MANHATTANVILLE ROAD, PURCHASE, NEW YORK 10577
(914) 697-8000
2538 (REV. 5/00)
