<PAGE>
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------------
FORM 10-K
<TABLE>
<S> <C>
/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 1-13654
</TABLE>
LIBERTY FINANCIAL COMPANIES, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
------------------------------
<TABLE>
<S> <C>
MASSACHUSETTS 04-3260640
(STATE OF INCORPORATION) (I.R.S. EMPLOYER IDENTIFICATION NO.)
600 ATLANTIC AVENUE 02210-2214
BOSTON, MASSACHUSETTS (ZIP CODE)
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
</TABLE>
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (617) 722-6000
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
<TABLE>
<CAPTION>
NAME OF EACH EXCHANGE
TITLE OF EACH CLASS ON WHICH REGISTERED
------------------- -------------------
<S> <C>
Common Stock, Par Value $.01 per share New York Stock Exchange
Boston Stock Exchange
</TABLE>
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
None
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months, and (2) has been subject to such filing
requirements for the past 90 days. Yes /X/ No / /
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statement
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. / /
The aggregate market value of Common Stock held by non-affiliates of the
registrant as of March 17, 2000 (based on the closing sale price of the Common
Stock on the New York Stock Exchange on such date) was approximately
$278.6 million.
There were 47,726,803 shares of the registrant's Common Stock, $.01 par
value, and 324,759 shares of the registrant's Series A Convertible Preferred
Stock, $.01 par value, outstanding as of March 17, 2000.
------------------------------
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Company's 1999 Annual Report to Stockholders are incorporated
into Part II, Items 6, 7, 7A and 8, and Part IV, Item 14(a)1, of this
Form 10-K.
Portions of the Company's definitive Proxy Statement for the Annual Meeting of
Stockholders to be held on or about May 8, 2000 are incorporated into Part III,
Items 10, 11, 12, and 13, of this Form 10-K.
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
LIBERTY FINANCIAL COMPANIES, INC.
ANNUAL REPORT ON FORM 10-K FOR FISCAL YEAR ENDED DECEMBER 31, 1999
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PART I PAGE
- ------ --------
<S> <C> <C>
Item 1. Business 1
Executive Officers of the Registrant 19
Item 2. Properties 20
Item 3. Legal Proceedings 20
Item 4. Submission of Matters to a Vote of Security Holders 21
PART II
--------
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters 21
Item 6. Selected Financial Data 22
Item 7. Management's Discussion and Analysis of Financial Condition
and
Results of Operations 22
Item 7A. Quantitative and Qualitative Disclosures About Market Risk 22
Item 8. Financial Statements and Supplementary Data 22
Item 9. Changes in and Disagreements with Accountants on Accounting
and
Financial Disclosure 22
PART III
--------
Item 10. Directors and Executive Officers of the Registrant 22
Item 11. Executive Compensation 22
Item 12. Security Ownership of Certain Beneficial Owners and
Management 23
Item 13. Certain Relationships and Related Transactions 23
PART IV
--------
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form
8-K 23
</TABLE>
<PAGE>
PART I
ITEM 1. BUSINESS
OVERVIEW
Liberty Financial Companies, Inc. ("Liberty Financial" or the "Company") is
an asset accumulation and management company. The Company has two core product
lines--retirement-oriented insurance products and investment management
products. Retirement-oriented insurance products consist substantially of
annuities. Investment management products consist of mutual funds, private
capital management and institutional asset management. The Company sells its
products through multiple distribution channels, including brokerage firms,
banks and other depository institutions, financial planners and insurance
agents, as well as directly to investors. The Company's net operating income
(i.e., net income excluding net realized investment gains and losses and
extraordinary items, net of related income taxes) was $126.7 million in 1999,
$122.6 million in 1998 and $112.4 million in 1997. The following table sets
forth the Company's assets under management as of December 31, 1999, 1998 and
1997, respectively.
<TABLE>
<CAPTION>
ASSETS UNDER MANAGEMENT
--------------------------------------
AS OF DECEMBER 31,
--------------------------------------
1999 1998 1997
-------- -------- --------
(DOLLARS IN BILLIONS)
<S> <C> <C> <C>
Retirement-oriented insurance products...................... $13.7 $13.1 $12.8
Mutual funds................................................ 29.8 28.6 26.8
Private capital management.................................. 9.1 7.9 6.6
Institutional asset management.............................. 12.5 11.4 5.3
----- ----- -----
Total....................................................... $65.1 $61.0 $51.5
===== ===== =====
</TABLE>
At March 17, 2000, approximately 70.68% of the combined voting power of
Liberty Financial's voting stock was indirectly owned by Liberty Mutual
Insurance Company ("Liberty Mutual").
Liberty Financial's principal executive offices are located at 600 Atlantic
Avenue, Boston, Massachusetts 02210-2214. Its telephone number is
(617) 722-6000.
MULTIPLE ASSET ACCUMULATION PRODUCTS. The Company sells a full range of
retirement-oriented insurance products, grouped by whether they provide fixed,
indexed or variable returns to policyholders. Substantially all of these
products currently are annuities that are written by the Company's wholly-owned
subsidiary, Keyport Life Insurance Company ("Keyport"). Annuities are insurance
products which provide a tax-deferred means of accumulating savings for
retirement needs, as well as a tax-efficient source of income in the payout
period. The Company's principal fixed annuity products are individual single
premium deferred fixed annuities ("SPDAs"), which represented $7.6 billion of
policyholder liabilities as of December 31, 1999. In addition to SPDAs, the
Company also sells equity-indexed and variable annuities. Equity-indexed
annuities are an innovative product first introduced to the marketplace by the
Company when it began selling its KeyIndex-Registered Trademark- product in
1995. The Company's equity-indexed annuities credit interest to the policyholder
at a "participation rate" equal to a portion of the change in value of a
specified equity index (in the case of the Company's equity-indexed products,
the Standard & Poor's 500 Composite Stock Index ("S&P 500 Index")).(*) Under a
variable annuity, the policyholder has the opportunity to select separate
account investment options, consisting of underlying mutual funds, which pass
the investment risk directly to the policyholder in return for the potential of
higher returns. Variable annuities also include guaranteed fixed interest rate
options.
- ------------------------
* "S&P," "S&P 500" and "Standard & Poor's 500" are registered trademarks of The
McGraw-Hill Companies, Inc., and have been licensed for use by Keyport.
1
<PAGE>
The Company has seven operating units engaged in investment management:
Liberty Funds Group LLC ("LFG"), Colonial Management Associates, Inc.,
("Colonial"), Stein Roe & Farnham Incorporated ("Stein Roe"), Newport Pacific
Management, Inc. ("Newport"), Crabbe Huson Group, Inc. ("Crabbe Huson"),
Progress Investment Management Company ("Progress") and Liberty Asset Management
Company ("LAMCO"), each of which carries strong brand name recognition in the
markets it serves. As of December 31, 1999, the Company sponsored 85 open-end
mutual funds, as well as 10 closed-end funds. The open-end funds consist of 48
intermediary-distributed funds, 20 direct-marketed funds, and 17 other funds
included among the investment options available under the Company's variable
annuities. The closed-end funds consist of 8 fixed income funds and 2 equity
funds. 65 of the Company's 85 open-end mutual funds are long-term funds (defined
as open-end funds having at least a three-year performance record, excluding
funds that invest solely in money market securities). 41 of those 65 funds
(representing 74% of the total assets in those 65 funds as of December 31, 1999)
were ranked by Lipper Analytical Services, Inc. ("Lipper") in the top two
quartiles of their respective peer groups for the three-year period ended that
date.
MULTIPLE DISTRIBUTION CHANNELS. Liberty Financial sells its products
through multiple distribution channels. The Company distributes its products
through all the major third party intermediary channels, including national and
regional brokerage firms, banks and other depository institutions, financial
planners and insurance agents. To capitalize on the importance of banks and
other depository institutions as intermediaries for its products, the Company
also operates its own distribution unit, Independent Financial Marketing
Group, Inc. ("Independent") which sells annuities and mutual funds through such
entities. Certain of the Company's products also are sold directly to investors,
including its mutual funds sold without a sales load, private capital management
and institutional asset management products. The Company believes that it is one
of the few asset accumulators with a significant presence in both the
intermediary and direct channels. Total product sales for 1999 were
$13.4 billion (including $1.8 billion of reinvested dividends). During 1999, 56%
of sales were made through intermediary distributors, with the balance made
directly to the investor. Over 38,000 individual brokers and other
intermediaries sold Liberty Financial products in 1999.
BUSINESS STRATEGY. The Company's business strategy has four interrelated
elements:
- - DIVERSIFICATION. The Company believes that the diversification in its
products and distribution channels allows it to accumulate assets in
different market cycles, thereby providing more consistent growth potential
and reducing earnings volatility. Within its two core product lines, the
Company sells a range of products that serve individuals at different stages
of their life and earnings cycle. This mix also is designed to include
products that will be in demand under a variety of economic and market
conditions. Similarly, the Company reaches customers through a variety of
distribution channels. Diversification of distribution channels allows the
Company to reach many segments of the marketplace and lessens its dependence
on any one source of assets.
- - INTEGRATION. Liberty Financial actively promotes integration of its operating
units and believes that such efforts will enable it to accumulate additional
assets by leveraging distribution capabilities and to reduce expenses by
consolidating redundant back office functions. The Company has consolidated
under Liberty Funds Group its mutual fund administration and transfer agency
operations and has consolidated under Liberty Funds Distributor the
distribution of the Company's intermediary distributed mutual funds and
annuity insurance products, while retaining the distinctive styles and
processes of its investment management subsidiaries. Stein Roe manages the
majority of Keyport's general account assets and together with Colonial,
Newport and LAMCO manages certain of the funds underlying Keyport's variable
annuity products. Independent was the largest distributor of Keyport's
annuities and the largest distributor of the Company's mutual funds in 1999.
2
<PAGE>
- - ACQUISITIONS. Where appropriate, the Company seeks acquisitions that provide
additional assets, new or complementary investment management capabilities,
distribution capabilities or other integration or diversification
opportunities in its core product areas. Acquisitions are an integral part of
Liberty Financial's business strategy. Stein Roe (acquired in 1986), Keyport
(acquired in 1988), LFG (acquired in 1995), Newport (acquired in 1995),
Crabbe Huson (acquired in 1998), Progress (acquired in 1998) and major
components of the Company's bank distribution unit (including Independent,
acquired in 1996) all joined Liberty Financial by acquisition. The Company is
constantly evaluating acquisition opportunities. As of the date of this
Report, the Company has not entered into any definitive agreement for a
material acquisition.
- - INNOVATION. Liberty Financial believes that product and distribution
innovations are essential in order to grow its asset base and meet the ever
changing financial needs of its customers. The Company believes that it has
an impressive track record in such innovations. For example, the Stein Roe
Young Investor-TM- Fund was the first mutual fund to be coupled with an
educational program to teach young people about investing, while offering
parents an excellent device to save for educational and other family needs.
The Company also introduced the first equity-indexed annuity product to the
marketplace, was an early adopter of internet technology to support its
business, and recently began to sell annuities over the internet.
The Company's business strategy is based on its belief that its products
have attractive growth prospects due to important demographic and economic
trends. These trends include the need for the aging baby boom generation to both
increase savings and investment and plan for retirement income, lower public
confidence in the adequacy of government and employer-provided retirement
benefits, longer life expectancies, and rising health care costs. The Company
believes that its product mix and distribution strength are well suited to
exploit these demographic and economic trends and will help the Company maintain
and enhance its position as a leading asset accumulation and management company.
RETIREMENT-ORIENTED INSURANCE PRODUCTS
The Company sells a full range of retirement-oriented insurance products,
grouped by whether they provide fixed, indexed or variable returns to
policyholders. Annuities are insurance products designed to offer individuals
protection against the risk of outliving their financial assets during
retirement. Annuities offer a tax-deferred means of accumulating savings for
retirement needs and provide a tax-efficient source of income in the payout
period. The Company earns spread income from fixed and indexed annuities;
variable annuities primarily produce fee income for the Company. The Company's
primary financial objectives for its annuities business are to increase
policyholder balances through new sales and asset retention and to earn
acceptable investment spreads on its fixed and indexed return products.
PRODUCTS
The Company's principal retirement-oriented insurance products are
categorized as follows:
FIXED ANNUITIES. The Company's principal fixed annuity products are SPDAs.
A SPDA policyholder makes a single premium payment at the time of issuance. The
Company obligates itself to credit interest to the policyholder's account at a
rate that is guaranteed for an initial term (typically one year) and is reset
annually thereafter, subject to a guaranteed minimum rate. Interest crediting
continues until the policy is surrendered or the policyholder dies or turns age
90.
EQUITY-INDEXED ANNUITIES. Equity-indexed annuities are an innovative
product first introduced to the marketplace in 1995 by the Company when it began
selling its KeyIndex product. The Company's equity-indexed annuities credit
interest to the policyholder at a "participation rate" equal to a portion
(ranging for existing policies from 25% to 100%) of the change in value of a
specified equity index. KeyIndex is currently offered for one, five and
seven-year terms with interest earnings based on a
3
<PAGE>
percentage of the increase in the S&P 500 Index. With the five and seven-year
terms, the interest earnings are based on the highest policy anniversary date
value of the S&P 500 Index during the term. KeyIndex also provides a guarantee
of principal at the end of the term. Thus, unlike a direct equity investment,
even if the S&P 500 Index declines there is no market risk to the policyholder's
principal. In late 1996, the Company introduced a market value adjusted ("MVA")
annuity product, KeySelect, which offers a choice between an equity-indexed
account similar to KeyIndex and a fixed annuity-type interest account. KeySelect
offers terms for each equity-indexed account of one, three, five, six and seven
years, as well as a ten-year term for the fixed interest account. KeySelect
shifts some investment risk to the policyholder, since surrender of the policy
before the end of the policy term will result in increased or decreased account
values based on the change in rates of designated U.S. Treasury securities since
the beginning of the term. The Company is continuing to develop new versions of
its equity-indexed annuities, including versions registered under the Securities
Act of 1933 (the "Securities Act") which are designed to be sold through major
national brokerage firms.
VARIABLE ANNUITIES. Variable annuities offer a selection of underlying
investment alternatives which may satisfy a variety of policyholder risk/return
objectives. Under a variable annuity, the policyholder has the opportunity to
select separate account investment options (consisting of underlying mutual
funds) which pass the investment risk directly to the policyholder in return for
the potential of higher returns. Variable annuities also include guaranteed
fixed interest options. Keyport has several different variable annuity products
that currently offer from 18 to 24 separate account investment choices,
depending on the product, and four guaranteed fixed-interest options.
INSTITUTIONAL ANNUITIES. Institutional annuity products are principally
single premium deposits made by financial institutions that provide fixed or
variable returns over a specified period.
While the Company currently does not offer traditional life insurance
products, it manages a closed block of single premium whole life insurance
policies ("SPWLs"), a retirement-oriented tax-advantaged life insurance product.
The Company discontinued sales of SPWLs in response to certain tax law changes
in the 1980s. The Company had SPWL policyholder balances of $1.9 billion as of
December 31, 1999.
Under the Internal Revenue Code (the "Code"), returns credited on annuities
and life insurance policies during the accumulation period (the period during
which interest or other returns are credited) are not subject to federal income
tax. Proceeds payable on death from a life insurance policy are also free from
such taxes. At the maturity or payment date of an annuity policy, the
policyholder is entitled to receive the original deposit plus accumulated
returns. The policyholder may elect to take this amount in either a lump sum or
an annualized series of payments over time. The return component of such
payments is taxed at the time of receipt as ordinary income at the recipient's
then applicable tax rate. The demand for the Company's retirement-oriented
insurance products could be adversely affected by changes in the tax law.
4
<PAGE>
The following table sets forth certain information regarding Keyport's
retirement-oriented insurance products for the periods indicated.
<TABLE>
<CAPTION>
AS OF OR FOR THE YEAR ENDED
DECEMBER 31,
--------------------------------
1999 1998 1997
--------- --------- --------
(DOLLARS IN MILLIONS,
EXCEPT POLICY DATA)
<S> <C> <C> <C>
POLICY AND SEPARATE ACCOUNT LIABILITIES:
Fixed annuities............................................. $ 7,197 $ 7,834 $ 8,417
Equity Indexed annuities.................................... 2,503 2,125 1,527
Variable annuities.......................................... 2,666 1,744 1,277
Institutional annuities..................................... 950 412 --
Life insurance.............................................. 2,095 2,112 2,129
-------- -------- -------
Total....................................................... $ 15,411 $ 14,227 $13,350
======== ======== =======
NUMBER OF IN FORCE POLICIES:
Fixed annuities............................................. 182,858 205,508 222,903
Equity Indexed annuities.................................... 49,691 46,484 39,224
Variable annuities.......................................... 43,677 37,049 27,429
Institutional annuities..................................... 6 2 --
Life insurance.............................................. 21,640 23,097 24,921
-------- -------- -------
Total....................................................... 297,872 312,140 314,477
======== ======== =======
AVERAGE IN FORCE POLICY AMOUNT:
Fixed annuities............................................. $ 39,356 $ 38,122 $37,710
Equity Indexed annuities.................................... $ 50,372 $ 45,720 $38,943
Variable annuities.......................................... $ 61,048 $ 47,070 $46,542
Institutional annuities..................................... $158,342 $205,977 --
Life insurance.............................................. $ 96,789 $ 91,435 $83,709
</TABLE>
5
<PAGE>
<TABLE>
<CAPTION>
AS OF OR FOR THE YEAR ENDED
DECEMBER 31,
------------------------------
1999 1998 1997
-------- -------- --------
(DOLLARS IN MILLIONS, EXCEPT
POLICY DATA)
<S> <C> <C> <C>
PREMIUMS (STATUTORY BASIS):
Fixed annuities............................................. $ 462 $ 306 $ 426
Equity Indexed annuities.................................... 170 278 524
Variable annuities.......................................... 866 508 173
Institutional annuities..................................... 500 400 --
Life insurance (net of reinsurance)......................... (2) (1) (1)
------ ------ ------
Total....................................................... $1,996 $1,491 $1,122
====== ====== ======
NEW CONTRACTS AND POLICIES:
Fixed annuities............................................. 17,301 10,448 13,744
Equity Indexed annuities.................................... 6,395 9,249 16,076
Variable annuities.......................................... 14,886 12,238 4,333
Institutional annuities..................................... 4 2 --
------ ------ ------
Total....................................................... 38,586 31,937 34,153
====== ====== ======
AGGREGATE AMOUNT SUBJECT TO SURRENDER CHARGES:
Fixed annuities............................................. $5,708 $6,643 $6,982
Equity Indexed annuities.................................... $2,482 $2,125 $1,527
WITHDRAWALS AND TERMINATIONS (STATUTORY BASIS):
Fixed Annuities:
Death....................................................... $ 28 $ 29 $ 60
Maturity.................................................... $ 141 $ 118 $ 110
Surrender................................................... $1,220 $1,135 $ 947
Indexed Annuities:
Death....................................................... $ 11 $ 11 $ 4
Maturity.................................................... -- -- --
Surrender................................................... $ 28 $ 19 $ 10
Variable Annuities:
Death....................................................... $ 17 $ 7 $ 4
Maturity.................................................... $ 223 $ 87 $ 28
Surrender................................................... $ 199 $ 125 $ 97
Life Insurance:
Death....................................................... $ 76 $ 63 $ 66
Surrender................................................... $ 74 $ 77 $ 96
SURRENDER RATES:
Fixed annuities............................................. 15.39% 13.63% 11.11%
Equity Indexed annuities.................................... 1.22% 1.05% 0.86%
Variable annuities.......................................... 8.04% 8.26% 8.18%
Life insurance.............................................. 3.53% 3.65% 4.51%
</TABLE>
SALES AND ASSET RETENTION
Product sales are influenced primarily by overall market conditions
affecting the attractiveness of the Company's retirement-oriented insurance
products, and by product features including interest crediting and participation
rates, and innovations and services that distinguish the Company's products from
those of its competitors.
6
<PAGE>
The Company's mix of annuity products is designed to include products in
demand under a variety of economic and market conditions. Sales of SPDAs,
variable annuities and equity-indexed annuities tend to be sensitive to
prevailing interest rates. Sales of SPDAs can be expected to increase and
surrenders to decrease in interest rate environments when SPDA rates are higher
than rates offered by competing conservative fixed return investments, such as
bank certificates of deposit. SPDA sales can be expected to decline and
surrenders to increase in interest rate environments when this differential in
rates is not present. SPDA sales also can be adversely affected by low interest
rates. Conversely, sales of variable annuities can be expected to increase and
surrenders of such products to decrease in a rising equity market, low interest
rate environment. While sales of equity-indexed annuities can be expected to
increase and surrenders to decrease in a rising equity market and low interest
rate environment, sales of these products can be affected by the participation
rate credited by the Company which may be reduced in a rising but relatively
volatile equity market (as was the case during 1999 and at the date of filing of
this Report).
The Company's insurance products include important features designed to
promote both sales and asset retention, including crediting rates and surrender
charges. Initial interest crediting and participation rates on fixed and indexed
products significantly influence the sale of new policies. Resetting of rates on
SPDAs impacts retention of SPDA assets, particularly on policies where surrender
penalties have expired. At December 31, 1999, crediting rates on 91.0% of the
Company's in force SPDA policy liabilities were subject to reset during the
succeeding 12 months. In setting crediting and participation rates, the Company
takes into account yield characteristics on its investment portfolio, surrender
rate assumptions and competitive industry pricing. Interest crediting rates on
the Company's in force SPDAs ranged from 3.65% to 7.75% at December 31, 1999.
Such policies had guaranteed minimum rates ranging from 3.0% to 4.5% as of such
date. Initial interest crediting rates on new policies issued in 1999 ranged
from 4.0% to 7.3%. Guaranteed minimum rates on new policies issued during 1999
ranged from 3.0% to 4.5%.
Substantially all of the Company's annuity insurance products permit the
policyholder at anytime to withdraw all or any part of the accumulated policy
value. Premature termination of a policy results in the loss by the Company of
anticipated future earnings related to the premium deposit and the accelerated
recognition of the expenses related to policy acquisition (principally
commissions), which otherwise are deferred and amortized over the life of the
policy. Surrender charges provide a measure of protection against premature
withdrawal of policy values. Substantially all of the Company's insurance
products currently are issued with surrender charges or similar penalties. Such
surrender charges for all policies, except KeyIndex, typically start at 7% of
the policy premium and then decline to zero over a five- to seven-year period.
KeyIndex imposes a penalty on surrender of up to 10% of the premium deposit for
the life of the policy. At December 31, 1999, 76% of the Company's fixed annuity
policyholder balances remained in the surrender charge period. Surrender charges
generally do not apply to withdrawals by policyholders of, depending on the
policy, either up to 10% per year of the then accumulated value or the
accumulated returns. In addition, certain policies may provide for charge-free
withdrawals in certain circumstances and at certain times. All policies except
for certain variable annuities also are subject to "free look" risk (the legal
right of the policyholder to cancel the policy and receive back the initial
premium deposit, without interest, for a period ranging from ten days to one
year, depending upon the policy). To the extent a policyholder exercises the
"free look" option, the Company may realize a loss as a result of any investment
losses on the underlying assets during the free look period, as well as the
commissions paid on the sale of the policy. While SPWLs also permit withdrawal,
the withdrawal generally would produce significant adverse tax consequences to
the policyholder.
Keyport's financial ratings are important to its ability to accumulate and
retain assets. Keyport is rated "A" (excellent) by A.M. Best, "AA-" (strong) by
S&P, "A2" (good) by Moody's and AA- (very high claims paying ability) by Duff &
Phelps. Rating agencies periodically review the ratings they issue. S&P reduced
Keyport's rating from "AA" to "AA-" in December 1999. In January 1999, A.M. Best
reduced
7
<PAGE>
Keyport's rating from "A+" to "A". These ratings reflect the opinion of the
rating agency as to the relative financial strength of Keyport and Keyport's
ability to meet its contractual obligations to its policyholders. Such ratings
are not "market" ratings or recommendations to use or invest in Keyport or
Liberty Financial and should not be relied upon when making a decision to invest
in the Company. Many financial institutions and broker-dealers focus on the
claims-paying ability rating of an insurer in determining whether to market the
insurer's annuities. If any of Keyport's ratings were downgraded from their
current levels or if the ratings of Keyport's competitors improved and Keyport's
did not, sales of Keyport's products, the level of surrenders on existing
policies and the Company's relationships with distributors could be materially
adversely affected. No assurance can be given that Keyport will be able to
maintain its financial ratings.
Customer service also is essential to asset accumulation and retention. The
Company believes Keyport has a reputation for excellent service to its
distributors and its policyholders. Keyport has developed advanced technology
systems for immediate response to customer inquiries, and rapid processing of
policy issuances and commission payments (often at the point of sale). These
systems also play an important role in controlling costs. Keyport's annualized
operating expenses for 1999 were 0.40% of assets, which reflects Keyport's low
cost operations.
GENERAL ACCOUNT INVESTMENTS
Premium deposits on fixed and indexed annuities are credited to the
Company's general account investments (which at December 31, 1999 totaled
$13.1 billion) and to certain separate account investments (which at
December 31, 1999 totaled $0.6 billion). Total general account investments
include cash and cash equivalents. To maintain its investment spreads at
acceptable levels, the Company must earn returns on its general account
sufficiently in excess of the fixed or indexed returns credited to
policyholders. The key element of this investment process is asset/liability
management. Successful asset/liability management requires both a quantitative
assessment of overall policy liabilities (including maturities, surrenders and
crediting of interest) and prudent investment of general account assets. The two
most important tools in managing policy liabilities are setting crediting rates
and establishing surrender periods. The investment process requires portfolio
techniques that earn acceptable yields while effectively managing both interest
rate risk and credit risk. The Company emphasizes a conservative approach to
asset/liability management, which is oriented toward reducing downside risk in
adverse markets, as opposed to maximizing spread in favorable markets. The
approach is also designed to reduce earnings volatility. Various factors can
impact the Company's investment spread, including changes in interest rates and
other factors affecting the Company's general account investments.
The bulk of the Company's general account and certain separate account
investments are invested in fixed maturity securities (81.0% at December 31,
1999). The Company's principal strategy for managing interest rate risk is to
closely match the duration of its general account investment portfolio and its
policyholder balances. The Company also employs hedging strategies to manage
this risk, including interest rate swaps and caps. In the case of equity-indexed
products, the Company purchases S&P 500 Index call options, futures and certain
total return swaps to hedge its obligations to provide returns based upon this
index. Credit risk is managed by careful credit analysis and monitoring. A
portion of general account and certain separate account investments (8.9% at
December 31, 1999) is invested in below investment grade fixed maturity
securities to enhance overall portfolio yield. Below investment grade securities
pose greater risks than investment grade securities. The Company actively
manages its
8
<PAGE>
below investment grade portfolio in an effort to optimize its risk/return
profile. At December 31, 1999, the carrying value of fixed maturity investments
that were non-income producing was $22.6 million, which constituted 0.2% of the
Company's general account investments. For a more detailed description of the
management of the Company's general account investments see "Management's
Discussion and Analysis of Financial Condition and Results of
Operations--Quantitative and Qualitative Disclosures About Market Risk"
beginning at page 33 of the Company's 1999 Annual Report To Shareholders (the
"1999 Annual Report").
As of December 31, 1999, the Company owned approximately $3.4 billion of
mortgage-backed securities (24.8% of its general account and certain separate
account investments), 96.7% of which were investment grade. Mortgage-backed
securities are subject to prepayment and extension risks, since the underlying
mortgages may be repaid more or less rapidly than scheduled.
As of December 31, 1999, approximately $3.4 billion (24.8% of the Company's
general account and certain separate account investments) were invested in
securities which were sold without registration under the Securities Act and
were not freely tradeable under the Securities Act or which were otherwise
illiquid. These securities may be resold pursuant to an exemption from
registration under the Securities Act. If the Company sought to sell such
securities, it might be unable to do so at the then current carrying values and
might have to dispose of such securities over extended periods of time at
uncertain levels.
Stein Roe manages the majority ($6.9 billion at December 31, 1999) of the
Company's general account investments. In addition, several unaffiliated parties
manage portions of its general account investments in order to obtain
diversification of investment styles and asset classes.
The Company's general account investments, all of which pertain to the
Company's annuity insurance operations, were comprised of the following as of
the dates indicated (in millions):
<TABLE>
<CAPTION>
DECEMBER 31,
---------------------------------
1999 1998 1997
--------- --------- ---------
<S> <C> <C> <C>
Fixed maturities.......................................... $10,516.1 $11,277.2 $11,246.5
Policy loans.............................................. 599.5 578.9 554.7
Other invested assets..................................... 894.5 717.6 501.5
Equity securities......................................... 37.9 24.6 40.8
--------- --------- ---------
Investments............................................. 12,048.0 12,598.3 12,343.5
Cash and cash equivalents................................. 1,075.9 719.6 1,162.4
--------- --------- ---------
General account investments............................... $13,123.9 $13,317.9 $13,505.9
========= ========= =========
</TABLE>
INVESTMENT MANAGEMENT
Liberty Financial has three types of investment management product lines:
mutual funds, private capital management, and institutional asset management.
The Company has seven separate operating units engaged in investment management:
LFG, Colonial, Stein Roe, Newport, Crabbe Huson, Progress and LAMCO. The
Company's primary financial objectives with respect to its investment management
businesses are to increase assets under management in each of its three core
product lines, and to improve operating margins through increasing scale and
cost savings produced by integration.
PRODUCTS AND SERVICES
MUTUAL FUNDS. As of December 31, 1999 the Company sponsored 85 open-end
mutual funds, as well as 10 closed-end funds. The open-end funds include 48
intermediary-distributed mutual funds, 20 direct-marketed funds, and 17 other
funds included among the investment options available under the Company's
variable annuities. The closed-end funds include 8 fixed income funds and 2
equity funds. At December 31, 1999, total mutual fund assets were
$29.8 billion. At December 31, 1999, 56.1% of these
9
<PAGE>
assets were invested in equity funds, 25.3% in taxable fixed income funds and
18.6% in tax-exempt fixed income funds. The Company seeks to increase equity
mutual fund assets, which generally carry higher fees than funds that invest in
fixed income securities.
PRIVATE CAPITAL MANAGEMENT. At December 31, 1999, the Company managed
$9.1 billion in investment portfolios for high net worth individuals and
families and smaller institutional investors, all of which are managed by Stein
Roe.
INSTITUTIONAL ASSET MANAGEMENT. At December 31, 1999, the Company managed
$12.5 billion of investment portfolios for institutional investors such as
insurance companies, public and private retirement funds, endowments,
foundations and other institutions. These assets are managed by Stein Roe, LFG,
Crabbe Huson, Newport and Progress. In addition, Stein Roe manages the majority
of Keyport's general account assets supporting Keyport's insurance products. See
"--Retirement-Oriented Insurance Products--General Account Investments."
The Company's investment management business focuses on managing the
investments of each client's portfolios in accordance with the client's
investment objectives and policies. The Company also provides related
administrative and support services to clients, such as portfolio pricing,
accounting and reporting. Investment management fees and related administrative
and support fees generally are charged as a percentage of assets under
management. Client accounts are managed pursuant to a written agreement which,
with limited exceptions, is terminable at any time upon relatively short notice
(typically 30-60 days).
In the case of mutual fund clients, all services provided by the Company are
subject to the supervision of the fund's Board of Trustees. Additional
administrative services provided to mutual funds include provision of office
space, other facilities and personnel, marketing and distribution services, and
transfer agency and other shareholder support services. Investment management
fees paid by a mutual fund must be approved annually by the fund's Board of
Trustees, including a majority of the independent Trustees. Any increases in
such fees also must be approved by fund shareholders. Most of the Company's
mutual fund assets are held in open-end funds. Shareholders of open-end funds
generally can redeem their shares on any business day.
The Company's direct-market mutual funds are sold without a sales load. The
Company's intermediary-distributed mutual funds generally offer investors a
choice of three pricing options: (1) a traditional front-end load option, in
which the investor pays a sales charge at the time of purchase; (2) a contingent
deferred sales charge, in which the investor pays no sales charge at the time of
purchase, but is subject to an asset-based sales charge paid by the fund
generally for eight years after purchase and a declining contingent deferred
sales charge paid by the investor if shares are redeemed generally within six
years after purchase; and (3) a level-load option, in which the investor pays a
small initial sales charge, and is subject to an on-going asset-based sales
charge paid by the fund and a small contingent deferred sales charge paid by the
investor if shares are redeemed within one year after purchase.
The following tables present certain information regarding the Company's
assets under management for each year in the three-year period ended
December 31, 1999. Such information includes Keyport's assets (including its
general account investments managed by Stein Roe, as well as loans to
10
<PAGE>
policyholders and Keyport's general account investments managed by unaffiliated
investment managers). In addition, certain information is provided separately
for mutual fund assets.
<TABLE>
<CAPTION>
AS OF DECEMBER 31,
------------------------------
TOTAL ASSETS UNDER MANAGEMENT 1999 1998 1997
- ------------------------------------------------------------ -------- -------- --------
(DOLLARS IN BILLIONS)
<S> <C> <C> <C>
Mutual funds:
Intermediary-distributed.................................. $18.3 $17.9 $16.1
Direct-marketed........................................... 6.7 6.8 7.2
Closed-end................................................ 2.7 2.4 2.2
Variable annuity.......................................... 2.1 1.5 1.3
----- ----- -----
Total mutual funds...................................... 29.8 28.6 26.8
Private capital management.................................. 9.1 7.9 6.6
Institutional asset management.............................. 12.5 11.4 5.3
Retirement-oriented insurance products...................... 13.7 13.1 12.8
----- ----- -----
Total............................................... $65.1 $61.0 $51.5
===== ===== =====
</TABLE>
<TABLE>
<CAPTION>
AS OF DECEMBER 31,
------------------------------
TOTAL ASSETS UNDER MANAGEMENT BY ASSET CLASS (1) 1999 1998 1997
- ------------------------------------------------------------ -------- -------- --------
(DOLLARS IN BILLIONS)
<S> <C> <C> <C>
Fee-based assets:
Equity.................................................... $29.1 $26.0 $18.2
Fixed-income.............................................. 22.3 21.9 20.5
----- ----- -----
Total fee-based assets.................................. 51.4 47.9 38.7
Retirement-oriented insurance products...................... 13.7 13.1 12.8
----- ----- -----
Total............................................... $65.1 $61.0 $51.5
===== ===== =====
</TABLE>
- ------------------------
(1) Balanced funds are classified as equity funds; all categories include cash
and other short-term investments in applicable portfolios.
<TABLE>
<CAPTION>
AS OF DECEMBER 31,
------------------------------
TOTAL MUTUAL FUND ASSETS UNDER MANAGEMENT BY ASSET CLASS (1) 1999 1998 1997
- ------------------------------------------------------------ -------- -------- --------
(DOLLARS IN BILLIONS)
<S> <C> <C> <C>
Equity funds................................................ $16.7 $15.0 $13.3
Fixed-income funds:
Taxable................................................... 7.5 7.3 7.0
Tax-exempt................................................ 5.6 6.3 6.5
----- ----- -----
Total............................................... $29.8 $28.6 $26.8
===== ===== =====
</TABLE>
- ------------------------
(1) Balanced funds are classified as equity funds; all categories include cash
and other short-term investments in applicable portfolios.
11
<PAGE>
<TABLE>
<CAPTION>
FOR THE YEAR ENDED
DECEMBER 31,
------------------------------
TOTAL ASSETS UNDER MANAGEMENT--ASSET FLOW SUMMARY 1999 1998 1997
- ------------------------------------------------------------ -------- -------- --------
(DOLLARS IN BILLIONS)
<S> <C> <C> <C>
Assets under management--beginning.......................... $61.0 $51.5 $48.0
Sales and reinvestments..................................... 13.4 9.6 7.5
Redemptions and withdrawals................................. (12.2) (8.2) (7.8)
Asset acquisitions.......................................... -- 5.4 --
Net insurance cash flows.................................... 0.5 0.6 0.7
Market appreciation......................................... 2.4 2.1 3.1
----- ----- -----
Assets under management--ending............................. $65.1 $61.0 $51.5
===== ===== =====
</TABLE>
SALES AND ASSET RETENTION
The Company believes that the most important factors in accumulating and
retaining investment management assets are investment performance, customer
service and brand name recognition. Strong investment performance is crucial to
asset accumulation and retention, regardless of the product or distribution
channel. Performance is particularly important for mutual funds, whether
intermediary-distributed or direct-marketed. Sixty-five of the Company's 85
open-end mutual funds were long-term funds as of December 31, 1999 (defined as
open-end funds having at least a three-year performance record, excluding funds
that invest solely in money market securities). Forty-one of those 65 funds
(representing 74% of the total assets in those 65 funds as of December 31, 1999)
were ranked by Lipper in the top two quartiles of their respective peer groups
for the three-year period ended that date. The Company believes that over time,
more sophisticated tools, such as those employed by consultants to institutional
investors, will become available to consumers for analyzing mutual fund
performance and risk. The Company's investment performance must remain
competitive for the Company to continue to grow investment management product
sales and assets.
The Company believes that, in light of the proliferation of mutual funds and
investment managers, strong brand name recognition in relevant distribution
channels is essential to asset accumulation and retention, particularly with
respect to mutual funds. The Company believes that the Colonial name carries
strong brand name recognition among brokers and other intermediaries selling
mutual funds, and that the Stein Roe name carries similar recognition in the
direct sales channel. Similarly, the Company believes that Stein Roe has a
franchise presence in the private capital management market and that Newport is
a recognized leader in investments in the Asian markets. The Company believes
that Crabbe Huson is a leader in its specialty area of contrarian value
investing and that Progress and LAMCO have strong reputations in the selection
and management of multiple investment managers.
Sales of mutual funds and other investment management products are subject
to market forces, such as changes in interest rates and stock market
performance. Changes in the financial markets, including significant increases
or decreases in interest rates or stock prices, can increase or decrease fund
sales and redemptions, as well as the values of assets in such portfolios, all
of which impact investment management fees. The competitiveness of the Company's
investment management products (both in terms of new sales and asset retention)
also is dependent on the relative attractiveness of their underlying investment
philosophies and methods.
DISTRIBUTION
Liberty Financial sells its products through multiple distribution channels.
Total product sales during 1999 were $13.4 billion (including $1.8 billion of
reinvested dividends and similar reinvested returns). During 1999, 56% of these
sales were made through intermediary distributors, with the balance made
12
<PAGE>
directly to the investor. Over 38,000 individual brokers and other
intermediaries sold Liberty Financial products in 1999.
DISTRIBUTION THROUGH INTERMEDIARIES
The Company sells both annuities and mutual funds through various
intermediaries, including national and regional brokerage firms, banks and other
depository institutions, financial planners and insurance agents. The Company's
annuities and mutual funds are most often sold to middle and upper-middle class
investors and savers. Many of these individuals seek the help of an investment
professional in selecting investment and retirement income and savings products.
In each of these intermediary channels, the Company provides products, as well
as promotional materials and other support services.
Reflecting its diversification strategy, the Company maintains distribution
relationships with several different types of intermediaries.
Intermediary-distributed mutual funds and annuities historically have been
distributed through brokerage firms and insurance agents. Banks and financial
planners also have become significant distributors of these products.
The Company employs wholesalers and other sales professionals to promote
sales of its intermediary-distributed products. These representatives meet with
intermediaries' sales forces to educate them on matters such as product
objectives, features, performance records and other key selling points. The
Company also produces marketing material designed to help intermediaries sell
the Company's products, and provides after-sale support to both the
intermediaries and their customers. The degree and mix of these services vary
with the requirements of the particular intermediary.
The Company was a pioneer in selling through banks, both in terms of helping
banks develop marketing programs and in establishing wholesaling relationships
with banks. Liberty Financial operates a sales unit, Independent, that sells
mutual funds and annuities through banks. The Company acquired Independent in
March, 1996. Since the acquisition, the Company has consolidated its prior bank
sales unit, the Liberty Financial Bank Group, with Independent. These businesses
design and implement programs that sell annuities and mutual funds through their
client banks, license and train sales personnel, and provide related financial
services and administrative support. Program structures and the degree of the
Company's involvement vary widely depending upon the particular needs of each
bank. Products sold include the Company's proprietary products, as well as
non-proprietary products (including in some cases the bank's proprietary mutual
funds). At December 31, 1999, Independent had 55 bank relationships involving
over 575 registered salespersons and over 2,100 licensed bank branch employees.
The proliferation of competing products and the market presence of certain
large competitors requires the Company to compete to establish and maintain
distribution relationships and to maintain "shelf space" with distributors. Many
of the larger distributors have begun to reduce the number of companies for whom
they distribute. Product features, relative performance, pricing and support
services to distributors and their customers are important factors in competing
for distribution relationships. Some distributors assess fee sharing payments or
similar charges as additional compensation for fund sales. The Company can be
confronted with the choice of absorbing these charges or limiting its access to
certain distributors. An interruption in the Company's continuing relationship
with certain of these distributors could materially adversely affect the
Company's ability to sell its products. There can be no assurance that the
Company would be able to find alternative sources of distribution in a timely
manner.
The sales practices and support needs of the Company's distributors are
constantly evolving. The Company must respond to these changes in order to
maintain and grow its intermediary distribution relationships. Pricing
structures in these channels, particularly with respect to mutual funds, have
expanded in recent years from one-time up-front sales loads to additional
options that shift investors' payments over time and move somewhat toward
fee-based pricing. The Company's intermediary-
13
<PAGE>
distributed mutual funds now are sold with alternate pricing structures.
Intermediaries also increasingly demand that product providers supply new
value-added services.
DIRECT DISTRIBUTION
The Company's direct-marketed mutual funds, as well as its private capital
management and institutional asset management services, are sold directly to
investors. The Company's direct-marketed mutual funds are purchased
predominantly by middle and upper-middle class investors and savers who choose
to select their own funds and who wish to avoid paying sales loads and similar
fees. Private capital management clients typically are high net worth
individuals and families. Institutional asset management clients typically are
larger institutional investors managed by in-house professional staffs that
select and oversee asset managers, often with the advice of third party
consultants.
In each of the direct sales markets served by the Company, investment
performance is essential to generating sales and retaining customers. Mutual
fund sales also require robust marketing campaigns using print, radio and
television advertising and direct mail that highlight performance and other
selling points. The Company believes that certain technology-based customer
service and support tools it is developing, including on-line account access and
interactive illustrative investment tools, can become important devices in
accumulating and retaining assets in the direct distribution channels. The
reputation of the Company's high quality asset managers is an important factor
in generating new private capital and institutional asset management clients.
Active management of the client relationship, including frequent personal
contacts, is necessary to retain these clients.
So-called "mutual fund supermarkets," such as Charles Schwab & Co., Inc.'s
OneSource-TM-, have become an important source of customers for direct-marketed
mutual funds. To access these marketplaces, the Company pays the supermarket
sponsor a fee based upon a percentage of mutual fund assets held by supermarket
customers in return for certain services provided by the supermarket sponsor,
such as omnibus shareholder accounting. Financial planners and similar
unaffiliated advisors sometimes serve as sources of referrals for private
capital management clients, in some cases in return for referral fees or other
compensation.
INDUSTRY SEGMENT INFORMATION
Liberty Financial conducts its business in two industry segments: annuity
insurance and asset management. Annuity insurance operations relate primarily to
the Company's fixed, indexed and variable annuities and its closed-block of
SPWLs. Asset management operations relate to its mutual funds, private capital
management and institutional asset management products. For information on these
reportable segments, see Note 12 of Notes to the Consolidated Financial
Statements of the Company contained in the 1999 Annual Report.
REGULATION
OVERVIEW
The Company's business activities are extensively regulated. The following
briefly summarizes the principal regulatory requirements and certain related
matters. The regulatory requirements applicable to the Company include, among
other things, (i) regulation of the form and in certain cases the content of the
Company's products, (ii) regulation of the manner in which those products are
sold and (iii) compliance oversight of the Company's business units, including
frequent reporting obligations to and inspections by regulators. Changes in or
the failure by the Company to comply with applicable law and regulations could
have a material adverse effect on the Company.
14
<PAGE>
ANNUITY INSURANCE
The Company's retirement-oriented insurance products generally are issued to
individuals. The policy is a contract between the issuing insurance company and
the policyholder. Policy forms, including all principal contract terms, are
regulated by state law. In most cases, the policy form must be approved by the
insurance department or similar agency of a state in order for the policy to be
sold in that state.
Keyport issues most of the Company's retirement-oriented insurance products.
Independence Life & Annuity Company ("Independence Life") and Keyport Benefit
Life Insurance Company ("Keyport Benefit"), Keyport subsidiaries, also issue
certain policies. Keyport and Independence Life are each chartered in the state
of Rhode Island, and the Rhode Island Insurance Department is their primary
oversight regulator. Keyport Benefit is chartered in the state of New York, and
the New York Department of Insurance is its primary oversight regulator. Keyport
Benefit, acquired by Keyport in January, 1998, operates exclusively in New York
and Rhode Island. Keyport and Independence Life also must be licensed by the
state insurance regulators in each other jurisdiction in which they conduct
business. They currently are licensed to conduct business in 49 states (the
exception being New York) and in the District of Columbia and the Virgin
Islands. State insurance laws generally provide regulators with broad powers
related to issuing licenses to transact business, regulating marketing and other
trade practices, operating guaranty associations, regulating certain premium
rates, regulating insurance holding company systems, establishing reserve
requirements, prescribing the form and content of required financial statements
and reports, performing financial and other examinations, determining the
reasonableness and adequacy of statutory capital and surplus, regulating the
type and amount of investments permitted, limiting the amount of dividends that
can be paid and the size of transactions that can be consummated without first
obtaining regulatory approval, and other related matters. The regulators also
make periodic examinations of individual companies and review annual and other
reports on the financial condition of all companies operating within their
respective jurisdictions. The Rhode Island Insurance Department has commenced a
periodic examination of Keyport for the period ended December 31, 1988. The
Rhode Island Insurance Department has not communicated the results of their
examination as of the date of this Report.
Keyport and Independence Life prepare their statutory-basis financial
statements in accordance with accounting practices prescribed or permitted by
the Rhode Island Insurance Department. Keyport Benefit prepares its
statutory-basis financial statements in accordance with accounting practices
prescribed or permitted by the New York Department of Insurance. Certain
statutory accounting practices are prescribed by state law. Permitted statutory
accounting practices encompass all accounting practices that are not proscribed;
such practices may differ between the states and companies within a state. The
National Association of Insurance Commissioners (the "NAIC") is currently in the
process of codifying statutory accounting practices, the result of which is
expected to constitute the only source of prescribed statutory accounting
practices. That project, which is expected to be completed in 2000, may result
in changes to the accounting practices that Keyport uses to prepare its
statutory-basis financial statements. The impact of any such changes on
Keyport's statutory surplus cannot be determined at this time. No assurance can
be given that such changes would not have a material adverse effect on the
Company.
15
<PAGE>
RISK-BASED CAPITAL REQUIREMENTS. In recent years, various states have
adopted new quantitative standards promulgated by the NAIC. These standards are
designed to reduce the risk of insurance company insolvencies in part by
providing an early warning of financial or other difficulties. These standards
include the NAIC's risk-based capital ("RBC") requirements. RBC requirements
attempt to measure statutory capital and surplus needs based on the risks in a
company's mix of products and investment portfolio. The requirements provide for
four different levels of regulatory attention which implement increasing levels
of regulatory control (ranging from development of an action plan to mandatory
receivership). As of December 31, 1999, Keyport's capital and surplus exceeded
the level at which the least severe of these regulatory attention levels would
be triggered.
GUARANTY FUND ASSESSMENTS. Under the insurance guaranty fund laws existing
in each state, insurers can be assessed for certain obligations of insolvent
insurance companies to policyholders and claimants. Because assessments
typically are not made for several years after an insurer fails, Keyport cannot
accurately determine the precise amount or timing of its exposure to known
insurance company insolvencies at this time. For certain information regarding
Keyport's historical and estimated future assessments in respect of insurance
guaranty funds, see Note 16 to the Notes to the Consolidated Financial
Statements contained in the 1999 Annual Report. The insolvency of large life
insurance companies in future years could result in material assessments to
Keyport by state guaranty funds. No assurance can be given that such assessments
would not have a material adverse effect on the Company.
INSURANCE HOLDING COMPANY REGULATION. Current Rhode Island insurance law
imposes prior approval requirements for certain transactions with affiliates and
generally regulates dividend payments by a Rhode Island-chartered insurance
subsidiary to its parent company. Keyport may not make distributions or dividend
payments to Liberty Financial which, together with distributions and dividends
paid during the preceding 12 months, exceed the lesser of (i) 10% of its
statutory surplus as of the preceding December 31 or (ii) its statutory net gain
from operations for the preceding fiscal year, without prior approval by the
Rhode Island Commissioner of Insurance. As of December 31, 1999, such
restriction would limit dividends without such approval to $57.8 million.
Keyport paid $30.0 million in dividends during 1999. In addition, no person or
group may acquire, directly or indirectly, 10% or more of the voting stock or
voting power of Liberty Financial unless such person has provided certain
required information to the Rhode Island Department of Business Regulation and
such acquisition is approved by the Department.
GENERAL REGULATION AT FEDERAL LEVEL AND CERTAIN RELATED MATTERS. Although
the federal government generally does not directly regulate the insurance
business, federal initiatives often have an impact on the business in a variety
of ways. Current and proposed federal measures that may significantly affect the
insurance business include limitations on antitrust immunity, minimum solvency
requirements and the removal of barriers restricting banks from engaging in the
insurance business. In particular, several proposals to repeal or modify the
Bank Holding Company Act of 1956 (which prohibits banks from being affiliated
with insurance companies) have been made by members of Congress and the Clinton
Administration. Moreover, the United States Supreme Court held in 1995 in
NATIONSBANK OF NORTH CAROLINA V. VARIABLE ANNUITY LIFE INSURANCE COMPANY that
annuities are not insurance for purposes of the National Bank Act. In addition,
the Supreme Court also held in 1995 in BARNETT BANK OF MARION CITY V. NELSON
that state laws prohibiting national banks from selling insurance in small town
locations are preempted by federal law. The Office of the Comptroller of the
Currency adopted a ruling in November 1996 that permits national banks, under
certain circumstances, to expand into other financial services, thereby
increasing competition for the Company. At present, the extent to which banks
can sell insurance and annuities without regulation by state insurance
departments is being litigated in various courts in the United States. Although
the effect of these recent developments on the Company and its competitors is
uncertain, there can be no assurance that such developments would not have a
material adverse effect on the Company.
16
<PAGE>
On November 12, 1999, the Gramm-Leach-Bliley Act of 1999 was signed into
law. The major provisions of this new law took effect on March 12, 2000. While
the Gramm-Leach-Bliley Act eliminates legal barriers to affiliates among banks,
insurance companies and other financial services companies and therefor
effectively repeals the Glass-Steagall Act of 1933 (which restricted banks from
engaging in securities-related businesses), the effect on the Company and its
competitors is uncertain.
DISTRIBUTION
Sales of the Company's annuities and mutual funds are also subject to
extensive regulation. Annuities must be sold through an entity registered as an
insurance agency in the particular state. The sales person must be properly
licensed under state insurance law. Variable annuities and certain indexed
annuities also require the sales person to be registered with the National
Association of Securities Dealers ("NASD") and the applicable state securities
commission. Mutual fund shares must be sold through an entity registered as a
broker-dealer under the Exchange Act and applicable state law. The sales person
must be registered with the NASD and the applicable state securities commission.
Various business units of the Company are registered as broker-dealers.
These include certain units which operate the Company's bank marketing business,
as well as other units through which mutual fund and certain annuities are sold.
Certain bank marketing units also are registered as insurance agencies in states
where they sell annuities. These laws regulate the licensing of sales personnel
and sales practices. They impose minimum net capital requirements. They also
impose reporting, records maintenance, and other requirements, and provide for
penalties in the event of non-compliance, similar in scope to the regulations
applicable to asset managers.
Certain securities sales through the Company's bank marketing units are
conducted in accordance with the provisions of a "no-action" letter issued by
the staff of the SEC requiring, among other things, that securities sales
activities be conducted by sales personnel who are registered representatives of
the Company and are subject to its supervision and control. The letter limits
the functions of non-registered bank personnel to ministerial duties. The letter
is not binding on the courts, however, and no assurance can be given that the
SEC will not change its position.
Banks are an important distribution channel for the Company's annuities and
mutual funds. The recent growth in sales of mutual funds, annuities and other
investment and insurance products through or at banks and similar institutions
has prompted increased scrutiny by federal bank regulators, the SEC and other
regulators. Regulations promulgated by federal banking authorities impose
additional restrictions and duties with respect to bank sales practices,
including obligations to disclose that the products are not subject to deposit
insurance.
ASSET MANAGEMENT PRODUCTS
The primary sources of regulation of the Company's asset management
operations are the federal securities laws. Asset management products are
subject to the Investment Advisers Act (the "Advisers Act"). The mutual funds
and closed-end funds sponsored by the Company also are subject to the Investment
Company Act of 1940 (the "Investment Company Act"). Mutual fund shares are
securities, and, as such, must be registered under the federal securities laws.
The foregoing laws impose various restrictions on the Company's asset management
products, including fee structures, the timing and content of advertising, and,
in the case of the funds, certain investment restrictions. Mutual funds also
must be managed to comply with certain other investment restrictions imposed by
the Internal Revenue Code. Accounts subject to the Employee Retirement Income
Security Act of 1974 ("ERISA") must comply with certain investment and other
restrictions imposed by ERISA.
The Company's subsidiaries directly engaged in asset management (including
LFG, Colonial, Stein Roe, Newport, Crabbe Huson, Progress and LAMCO) are
registered with the Securities and Exchange Commission (the "SEC") as investment
advisers under the Advisers Act. They also are subject to the
17
<PAGE>
Investment Company Act insofar as it relates to investment advisers to
registered investment companies. These securities laws and the related
regulations of the SEC require reporting, maintenance of books and records in
prescribed forms, mandatory custodial arrangements, approval of employees and
representatives and other compliance procedures. Possible sanctions in the event
of noncompliance include the suspension of individual employees, limitations on
the firm's engaging in business for specified periods of time, revocation of the
firm's registrations, censures and fines.
In the ordinary course of its investment management business, the Company
enters into investment advisory agreements with mutual funds and others. As
required by the Investment Company Act and the Advisers Act, Liberty Financial's
investment advisory agreements provide that the agreements terminate
automatically upon their "assignment." The Investment Company Act and the
Advisers Act define the term "assignment" to include any "direct or indirect
transfer" of a "controlling block of the voting securities" of the issuer's
outstanding voting securities. The Investment Company Act presumes that any
person holding more than 25% of the voting stock of any person "controls" such
person. Sales by Liberty Mutual or other stockholders or new issuances of
capital stock by Liberty Financial, among other things, may raise issues
relating to assignments of the Company's investment advisory agreements. The
Company's Restated Articles of Organization include provisions limiting the
voting power of shares of the Company's Voting Stock (as defined in the
Company's Restated Articles of Organization) held by holders of 20% or more of
such Voting Stock in certain circumstances. These provisions do not apply to
Liberty Mutual, subsidiaries or affiliates of Liberty Mutual, direct or indirect
subsidiaries of the Company and certain employee plans established or to be
established by the Company or certain of its subsidiaries. Liberty Financial's
Board of Directors may approve the exemption of other persons or groups from the
provisions described above. While this voting limitation is in place to reduce
the likelihood, under certain circumstances, of inadvertent terminations of
Liberty Financial's advisory agreements as a result of "assignments" thereof,
there can be no assurance that this limitation will prevent such a termination
from occurring. In addition, such limitation could be deemed to have an
anti-takeover effect and to make changes in management more difficult.
COMPETITION
The Company's businesses operate in extremely competitive markets. These
markets are highly fragmented, although in the case of annuities and mutual
funds, a few companies do have relatively substantial market shares. Certain of
the Company's competitors are significantly larger and have access to
significantly greater financial and other resources.
The Company's products compete with every other investment or savings
vehicle available to a prospective customer, including those offered by other
insurance companies, investment management firms and banks. The Company believes
that the most important competitive factor affecting the marketability of its
products is the degree to which they meet customer expectations, both in terms
of returns (after fees and expenses) and service. These competitive pressures
apply to competition for customers in general, as well as competition to access
and maintain distribution relationships in the case of products sold through
intermediaries. Product and service innovations also are important devices for
generating new sales and maintaining distribution relationships. Sales of
particular products may be affected by conditions in the financial markets, such
as increases or decreases in interest rates or stock prices.
Product features of particular relevance to annuities include interest
crediting and participation rates, surrender charges and innovation in product
design. Maintenance of Keyport's financial ratings at a high level also is
important. The Company believes that the most important factors affecting
competition for investment management clients are investment performance,
customer service and brand name recognition. Pricing policies and product
innovations also are important competitive factors. The Company's ability to
increase and retain clients' assets could be materially adversely affected if
client accounts underperform the market or competing products or if key
investment managers leave the
18
<PAGE>
Company. The ability of the Company's asset management subsidiaries to compete
with other asset management products also is dependent, in part, on the relative
attractiveness of their underlying investment philosophies and methods under
prevailing market conditions.
EMPLOYEES
As of December 31, 1999, the Company had 2,038 full-time employees
summarized by activity as follows: 420 in annuity insurance operations; 1,197 in
asset management activities; 371 in marketing and distribution operations; and
50 in general corporate. The Company provides its employees with a broad range
of employee benefit programs. The Company believes that its relations with its
employees are excellent.
EXECUTIVE OFFICERS OF THE REGISTRANT
Set forth below are the names, ages at March 31, 2000, and principal
occupations for the last five years of each executive officer of the Company.
All such persons have been elected to serve until the next annual election of
officers and their successors are elected or until their earlier resignation or
removal.
Executive Officers of the Registrant
<TABLE>
<CAPTION>
NAME AGE POSITION
---- -------- --------
<S> <C> <C>
Gary L. Countryman 60 Chairman, President and Chief Executive
Officer
John V. Carberry 52 Senior Vice President
Lindsay Cook 48 Executive Vice President
Frank A. Faggiano 60 Senior Vice President, Human Resources
Stephen E. Gibson 46 President, Liberty Funds Group
J. Andrew Hilbert 41 Senior Vice President, Chief Financial Officer
and Treasurer
C. Allen Merritt, Jr. 59 Chief Operating Officer
Porter P. Morgan 59 Senior Vice President, Marketing
Philip Polkinghorn 42 President, Keyport Life Insurance Company
</TABLE>
Mr. Countryman has been Chairman (since 1991) and Chief Executive Officer
(from 1986 until April 1998) of Liberty Mutual and Liberty Mutual Fire Insurance
Company (an affiliate of Liberty Mutual). He currently serves as a director of
the Company, Liberty Mutual and certain of its affiliates, FleetBoston Financial
Corporation, NSTAR and Harcourt General, Inc. Mr. Countryman became President
and Chief Executive Officer of the Company on January 13, 2000.
Mr. Carberry joined Liberty Financial as Senior Vice President in February,
1998. Prior to that time he was a Managing Director of Salomon Brothers Inc.
Mr. Cook became Executive Vice President of Liberty Financial in February,
1997. He became a Senior Vice President of Liberty Financial in February, 1994,
having been a Vice President prior to that time.
Mr. Faggiano became Senior Vice President, Human Resources in August, 1997.
Prior to that time he was Vice President, Human Resources.
Mr. Gibson became President of Liberty Funds Group, a subsidiary of Liberty
Financial, in January, 1997. He was Executive Vice President of Liberty Funds
Group from July, 1996 to January, 1997. Prior to that, he was Managing Director
of Marketing at Putnam Investments from 1995 to July, 1996, and prior thereto
was Executive Vice President of Putnam Mutual Funds.
19
<PAGE>
Mr. Hilbert joined the Company as Senior Vice President and Chief Financial
Officer in March, 1997. He became Treasurer in March, 1998. From October 1995
until that time, he was Senior Vice President and Chief Financial Officer of
Paul Revere Corporation. Prior to joining Paul Revere, Mr. Hilbert was a partner
at Price Waterhouse.
Mr. Merritt became Chief Operating Officer of Liberty Financial in March,
1998. From February, 1997 to March, 1998 he was Executive Vice President. He was
Senior Vice President of Liberty Financial prior to that time.
Mr. Morgan has been Senior Vice President, Marketing of Liberty Financial
since 1991.
Mr. Polkinghorn became President of Keyport Life Insurance Company in May,
1999. From December, 1996 to April, 1999 he was Senior Vice President and Chief
Marketing Officer of American General Life Insurance Company. From March to
December, 1996 he was Vice President Products of First Colony Life Insurance
Company, and prior to that time he was Chief Marketing Officer of Allmerica
Insurance Company.
Mr. John A. Benning, age 65, retired as Senior Vice President and General
Counsel of the Company on December 31, 1999, having served in that role since
October, 1989. Mr. Benning is currently employed by Liberty Mutual, and is
serving as Acting General Counsel of the Company.
ITEM 2. PROPERTIES
As of December 31, 1999, the Company leased its various office facilities.
The Company's principal leasing arrangements can be summarized as follows: The
Company's principal executive offices occupy approximately 30,300 square feet in
a single facility in downtown Boston under a lease which expires in 2002.
Keyport leases approximately 96,500 square feet in two buildings in downtown
Boston under leases which expire in 2008, approximately 19,800 square feet in a
single facility in Lincoln, Rhode Island under a lease which expires in 2007,
and 13,300 square feet in a single facility in Lake Mary, Florida under a lease
which expires in 2004. LFG leases approximately 219,000 square feet in two
buildings in downtown Boston under leases which expire in 2006 and approximately
31,200 square feet in Aurora, Colorado under a lease which expires in 2000.
Stein Roe leases 141,300 square feet in downtown Chicago under a lease which
expires in 2009. Newport leases approximately 10,400 square feet in downtown San
Francisco under a lease which expires in 2004. Crabbe Huson leases approximately
17,700 square feet in downtown Portland, Oregon under a lease which expires in
2003. Progress leases approximately 9,000 square feet in downtown San Francisco
under a lease which expires in 2005. Independent leases approximately 29,500
square feet in Purchase, New York under a lease which expires in 2007.
ITEM 3. LEGAL PROCEEDINGS
The Company is from time to time involved in litigation incidental to its
businesses. In the opinion of Liberty Financial's management, the resolution of
such litigation is not expected to have a material adverse effect on the
Company's financial condition or results of operations.
20
<PAGE>
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's Common Stock is listed on the New York Stock Exchange ("NYSE")
under the symbol "L". The Company's Common Stock is also listed on the Boston
Stock Exchange. On December 31, 1999, the closing price of the Company's Common
Stock on the NYSE was $22 15/16 per share. As of March 17, 2000 there were
approximately 225 shareholders of record. In addition, the Company estimates
that there are approximately 4,000 beneficial shareholders whose shares are held
in street name. The high and low sales prices for each quarter during 1999 and
1998, as traded on the NYSE Composite Tape, were as follows:
<TABLE>
<CAPTION>
1999
QUARTER HIGH LOW
<S> <C> <C>
- --------------------------------------------------------------------
January-March $28 $21 3/16
April-June 29 11/16 20 1/8
July-September 29 20 15/16
October-December 26 11/16 20 7/16
</TABLE>
<TABLE>
<CAPTION>
1998
QUARTER HIGH LOW
<S> <C> <C>
- --------------------------------------------------------------------
January-March $39 3/4 $33
April-June 40 5/8 32 3/4
July-September 38 9/16 25 3/4
October-December 30 5/8 20 1/8
</TABLE>
The Company currently has a policy of paying quarterly cash dividends of
$0.10 per share and has paid such quarterly dividends regularly since becoming a
public company in 1995. The declaration and payment of any dividends on the
Common Stock are dependent upon the Company's results of operations, financial
condition, cash requirements, capital requirements, regulatory considerations
and other relevant factors, and in all events are subject to the discretion of
the Board of Directors and to any preferential dividend rights of the
outstanding Series A Convertible Preferred Stock ("Preferred Stock") of Liberty
Financial. The holders of the issued and outstanding shares of Preferred Stock
are entitled to receive cumulative cash dividends at the rate of $2.875 per
annum per share, payable in equal quarterly installments. The terms of the
Preferred Stock preclude the payment of any dividends on the Common Stock unless
cumulative dividends on the outstanding Preferred Stock have been paid or
declared and set aside in full. Accordingly, there is no requirement, and no
assurances can be given, that dividends will be paid on the Common Stock.
The Company's Board of Directors established an optional dividend
reinvestment plan ("DRIP") for holders of Common Stock and Preferred Stock.
Liberty Mutual has participated in the DRIP since its inception. Such
participation may be terminated at any time.
For a further discussion of the Company's ability to pay dividends in cash
on its Common Stock, see "Management's Discussion and Analysis of Financial
Condition and Results of Operations--Liquidity" in the 1999 Annual Report.
21
<PAGE>
SALES OF UNREGISTERED SECURITIES
Liberty Financial issued shares of its Common Stock since the beginning of
1999 without registration under the Securities Act of 1933 (the "Securities
Act") in the transaction described below:
On January 30, 2000, the Company reserved 66,051 shares of Common Stock for
issuance to the former shareholders of IFMG, pursuant to the February 1996
Merger Agreement pursuant to which the Company acquired the business of IFMG.
The IFMG shareholders made customary investment representations to the Company,
and the issuance of these shares will be exempt from registration pursuant to
Section 4(2) of the Securities Act.
ITEM 6. SELECTED FINANCIAL DATA
Selected Consolidated Financial Data, which appears on page 27 in the 1999
Annual Report, are incorporated herein by reference.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Management's Discussion and Analysis of Financial Condition and Results of
Operations, which appears beginning on page 28 in the 1999 Annual Report, is
incorporated herein by reference.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
Quantitative and Qualitative Disclosure About Market Risk is included in
Management's Discussion and Analysis of Financial Condition and Results of
Operations beginning at page 33 of the 1999 Annual Report, and is incorporated
herein by reference.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Company's Consolidated Financial Statements which appear beginning on
page 40 in the 1999 Annual Report, and the report thereon of Ernst & Young LLP
as of and for the year ended December 31, 1999, which appears on page 63 in the
1999 Annual Report, are incorporated herein by reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information relating to the executive officers of the Company appears under
the caption "Executive Officers of the Registrant" in Part I of this Form 10-K
on page 19.
Information relating to the directors of the Company is incorporated herein
by reference from Liberty Financial's definitive Proxy Statement for the Annual
Meeting of Stockholders to be held on or about May 8, 2000 (the "Proxy
Statement") under the caption "Election of Directors."
In addition, the information appearing in the Proxy Statement under the
caption "Security Ownership of Management and Certain Beneficial
Owners--Section 16(a) Beneficial Ownership Reporting Compliance" is incorporated
herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
Information relating to executive compensation is incorporated herein by
reference from the Proxy Statement under the following captions: "Compensation
of Executive Officers" (excluding, however, the
22
<PAGE>
portions thereof under the subcaptions "Compensation Committee Report on
Executive Compensation" and "Stockholder Return Comparisons") and "Election of
Directors--1999 Meetings and Standard Fee Arrangements."
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information relating to security ownership of certain beneficial owners and
management is incorporated herein by reference from the Proxy Statement under
the caption "Security Ownership of Management and Certain Beneficial Owners"
(excluding the material under the sub-caption "Section 16(a) Beneficial
Ownership Reporting Compliance").
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information relating to Certain Relationships and Related Transactions is
incorporated herein by reference from the Proxy Statement under the captions
"Certain Relationships and Related Transactions."
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) 1. FINANCIAL STATEMENTS
The following Consolidated Financial Statements of the Company, which appear
beginning on page 40 of the 1999 Annual Report, are incorporated herein by
reference:
<TABLE>
<S> <C>
Consolidated Balance Sheets as of December 31, 1999 and 1998
Consolidated Income Statements for the Years Ended
December 31, 1999, 1998 and 1997
Consolidated Statements of Stockholders' Equity for the
Years Ended December 31, 1999, 1998 and 1997
Consolidated Statements of Cash Flows for the Years Ended
December 31, 1999, 1998 and 1997
Notes to Consolidated Financial Statements
</TABLE>
2. FINANCIAL STATEMENT SCHEDULES
The following financial statement schedules are included as part of this
Report:
I Summary of Investments
II Condensed Financial Information of Registrant
III Supplementary Insurance Information
All other schedules are omitted because they are not applicable or are not
required, or because the required information is included in the Consolidated
Financial Statements or notes thereto.
3. EXHIBITS
The exhibits filed as part of this Report are listed on the Exhibit Index
immediately following the financial statement schedules included in this Report.
The following exhibits are management contracts or compensatory plans or
arrangements: 10.4 through 10.14.2, 10.22, 10.28, 10.29, and 10.32.
(b) REPORTS ON FORM 8-K
No reports on Form 8-K were filed by the Registrant during the fourth
quarter of 1999.
23
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 of the Securities Exchange Act of
1934, the Registrant has duly caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized, in the City of Boston and the
Commonwealth of Massachusetts on March 30, 2000.
<TABLE>
<S> <C> <C>
LIBERTY FINANCIAL COMPANIES, INC.
By: /s/ GARY L. COUNTRYMAN
-----------------------------------------
Gary L. Countryman
Chief Executive Officer, President and
Chairman
</TABLE>
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and as of the dates stated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<C> <S> <C>
/s/ GARY L. COUNTRYMAN Chief Executive Officer,
------------------------------------------- President and Chairman March 30, 2000
Gary L. Countryman
Senior Vice President, Chief
/s/ J. ANDREW HILBERT Financial Officer and
------------------------------------------- Treasurer (Principal Financial March 30, 2000
J. Andrew Hilbert and Accounting Officer)
/s/ GERALD E. ANDERSON Director
------------------------------------------- March 30, 2000
Gerald E. Anderson
/s/ MICHAEL J. BABCOCK Director
------------------------------------------- March 30, 2000
Michael J. Babcock
/s/ CHARLES I. CLOUGH Director
------------------------------------------- March 30, 2000
Charles I. Clough
/s/ WILLIAM F. CONNELL Director
------------------------------------------- March 30, 2000
William F. Connell
/s/ PAUL J. DARLING, II Director
------------------------------------------- March 30, 2000
Paul J. Darling, II
/s/ JOHN P. HAMILL Director
------------------------------------------- March 30, 2000
John P. Hamill
/s/ MARIAN L. HEARD Director
------------------------------------------- March 30, 2000
Marian L. Heard
</TABLE>
24
<PAGE>
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<C> <S> <C>
/s/ EDMUND F. KELLY Director
------------------------------------------- March 30, 2000
Edmund F. Kelly
/s/ SABINO MARINELLA Director
------------------------------------------- March 30, 2000
Sabino Marinella
/s/ THOMAS J. MAY Director
------------------------------------------- March 30, 2000
Thomas J. May
/s/ RAY B. MUNDT Director
------------------------------------------- March 30, 2000
Ray B. Mundt
/s/ KENNETH L. ROSE Director
------------------------------------------- March 30, 2000
Kenneth L. Rose
/s/ GLENN P. STREHLE Director
------------------------------------------- March 30, 2000
Glenn P. Strehle
</TABLE>
25
<PAGE>
SCHEDULE I
LIBERTY FINANCIAL COMPANIES, INC.
SUMMARY OF INVESTMENTS
(IN MILLIONS)
<TABLE>
<CAPTION>
DECEMBER 31, 1999
----------------------------------
BALANCE
AMORTIZED SHEET
TYPE OF INVESTMENT COST FAIR VALUE AMOUNT
- ------------------ --------- ---------- ---------
<S> <C> <C> <C>
Fixed maturity securities:
U.S. Treasury securities and obligations of U.S.
government corporations and agencies.................. $ 1,236.5 $ 1,221.8 $ 1,221.8
Foreign governments..................................... 169.4 178.2 178.2
Corporate and other securities.......................... 7,114.8 6,863.4 6,863.4
Mortgage backed securities.............................. 2,325.7 2,252.7 2,252.7
--------- --------- ---------
Total fixed maturity securities..................... 10,846.4 10,516.1 10,516.1
Equity securities:
Common stocks:
Industrial, miscellaneous and all other............... 31.0 37.9 37.9
Policy loans.............................................. 599.5 599.5 599.5
Other long term investments............................... 1,041.6 1,145.1 1,041.6
--------- --------- ---------
Total investments................................... $12,518.5 $12,298.6 $12,195.1
========= ========= =========
</TABLE>
26
<PAGE>
SCHEDULE II
LIBERTY FINANCIAL COMPANIES, INC.
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
(IN MILLIONS, EXCEPT PER SHARE DATA)
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31
-------------------
1999 1998
-------- --------
<S> <C> <C>
ASSETS:
Investments............................................... $ 147.1 $ --
Cash and cash equivalents................................. 81.0 180.4
Investments in subsidiaries............................... 1,368.6 1,357.4
Notes receivable--subsidiaries............................ 31.5 152.1
Accounts receivable--subsidiaries......................... 17.0 16.3
Other assets.............................................. 63.0 50.9
-------- --------
$1,708.2 $1,757.1
======== ========
LIABILITIES:
Note payable.............................................. $ 447.0 $ 446.9
Accounts payable and accrued expenses..................... 59.3 23.6
-------- --------
506.3 470.5
-------- --------
Redeemable convertible preferred stock...................... 16.0 15.3
-------- --------
STOCKHOLDERS' EQUITY:
Common stock.............................................. 0.5 0.5
Additional paid-in capital................................ 923.0 901.5
Retained earnings......................................... 425.2 346.4
Accumulated other comprehensive income.................... (158.1) 27.2
Unearned compensation..................................... (4.7) (4.3)
-------- --------
Total stockholders' equity............................ 1,185.9 1,271.3
-------- --------
$1,708.2 $1,757.1
======== ========
</TABLE>
INCOME STATEMENTS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
------------------------------
1999 1998 1997
-------- -------- --------
<S> <C> <C> <C>
Interest expense, net....................................... $(16.7) $ (2.6) $ (1.8)
Realized investment gains (losses).......................... (0.7) 0.3 (0.6)
Operating expenses.......................................... (0.6) (0.6) (0.8)
------ ------ ------
Loss before income taxes.................................... (18.0) (2.9) (3.2)
Benefit for income taxes.................................... 5.1 7.5 19.2
Equity in net income of subsidiaries........................ 112.2 119.9 113.5
------ ------ ------
Income before extraordinary item............................ 99.3 124.5 129.5
Extraordinary loss on extinguishment of debt, net of tax.... -- (9.7) --
------ ------ ------
Net Income.................................................. $ 99.3 $114.8 $129.5
====== ====== ======
Net income per share--basic:
Income before extraordinary item.......................... $ 2.11 $ 2.72 $ 2.94
====== ====== ======
Net income................................................ $ 2.11 $ 2.51 $ 2.94
====== ====== ======
Net income per share--assuming dilution:
Income before extraordinary item.......................... $ 2.07 $ 2.63 $ 2.77
====== ====== ======
Net income................................................ $ 2.07 $ 2.42 $ 2.77
====== ====== ======
</TABLE>
See Notes to Consolidated Financial Statements contained in the 1999 Annual
Report incorporated herein by reference.
27
<PAGE>
SCHEDULE II (CONTINUED)
LIBERTY FINANCIAL COMPANIES, INC.
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
(IN MILLIONS)
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
------------------------------
1999 1998 1997
-------- -------- --------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income................................................ $ 99.3 $ 114.8 $ 129.5
Adjustments to reconcile net income to net cash provided
by operating activities:
Extraordinary loss on extinguishment of debt, net of
tax................................................. -- 9.7 --
Equity in net income of subsidiaries.................. (112.2) (119.9) (113.5)
Net change in accounts receivable--subsidiaries, other
assets and accounts payable......................... 33.0 13.7 (9.2)
------ ------- -------
Net cash provided by operating activities................. 20.1 18.3 6.8
------ ------- -------
Cash flows from investing activities:
Investments purchased available for sale.................. (157.7) -- --
Acquisitions, net of cash acquired........................ (94.7) --
----
Capital contributions to subsidiaries..................... (131.6) (29.1) (25.0)
------ ------- -------
Net cash used in investing activities..................... (289.3) (123.8) (25.0)
------ ------- -------
Cash flows from financing activities:
Change in notes payable to affiliates..................... -- (244.0) --
Change in notes receivable from subsidiaries.............. 120.6 (13.0) (0.7)
Change in notes payable................................... 0.1 446.9 --
Exercise of stock options................................. 5.5 7.4 7.6
Dividends, net............................................ 43.6 69.2 23.3
------ ------- -------
Net cash provided by financing activities................. 169.8 266.5 30.2
------ ------- -------
Increase (decrease) in cash and cash equivalents............ (99.4) 161.0 12.0
Cash and cash equivalents at beginning of year.............. 180.4 19.4 7.4
------ ------- -------
Cash and cash equivalents at end of year.................... $ 81.0 $ 180.4 $ 19.4
====== ======= =======
</TABLE>
See Notes to Consolidated Financial Statements contained in the 1999 Annual
Report incorporated herein by reference.
28
<PAGE>
SCHEDULE III
LIBERTY FINANCIAL COMPANIES, INC.
SUPPLEMENTARY INSURANCE INFORMATION
(IN MILLIONS)
<TABLE>
<CAPTION>
THREE YEARS ENDED DECEMBER 31, 1999
- ------------------------------------------------------------------------------------------------------------------------
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F COLUMN G COLUMN H
- -------- ---------- ------------- ---------- ------------- --------- ---------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
DEFERRED POLICYHOLDER UNEARNED POLICY INSURANCE NET INTEREST
POLICY ACCOUNT PREMIUMS CONTRACT REVENUES INVESTMENT CREDITED TO
ACQUISITION BALANCES AND CLAIMS AND INCOME POLICYHOLDERS
COSTS FUTURE POLICY OTHER AND POLICY
BENEFITS POLICYHOLDERS' BENEFITS AND
FUNDS CLAIMS
DECEMBER 31, 1999
Interest sensitive
products........... $739.2 $12,040.0 NA $69.6 $51.2 $810.3 $530.2
====== ========= == ===== ===== ====== ======
DECEMBER 31, 1998
Interest sensitive
products........... $407.6 $12,446.0 NA $58.1 $38.1 $820.9 $565.1
====== ========= == ===== ===== ====== ======
DECEMBER 31, 1997
Interest sensitive
products........... $285.3 $12,031.8 NA $54.3 $33.1 $853.1 $598.0
====== ========= == ===== ===== ====== ======
<CAPTION>
THREE YEARS ENDED DECEMBER 31, 1999
- --------------------- --------------------------------------
COLUMN A COLUMN I COLUMN J COLUMN K
- -------- ------------ ---------- ----------
<S> <C> <C> <C>
AMORTIZATION OTHER PREMIUMS
OF DEFERRED OPERATING WRITTEN
POLICY EXPENSES
ACQUISITION
COSTS
DECEMBER 31, 1999
Interest sensitive
products........... $97.4 $55.7 NA
===== ===== ==
DECEMBER 31, 1998
Interest sensitive
products........... $77.4 $54.8 NA
===== ===== ==
DECEMBER 31, 1997
Interest sensitive
products........... $86.4 $51.1 NA
===== ===== ==
</TABLE>
29
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- --------------------- ------------------------------------------------------------
<S> <C>
3.1 (1) Form of Restated Articles of Organization of the Company
3.2 (1) Form of Certificate of Designation of Series A Convertible
Preferred Stock of the Company
3.3 (2) Restated By-laws of the Company, as amended
4.1 (1) Form of Certificate for Common Stock of the Company
4.2 (1) Form of Certificate for Series A Convertible Preferred Stock
of the Company
4.3 (3) Form of Indenture between the Company and State Street Bank
and Trust Company as Trustee
4.4 (3) Form of Senior Note
10.1 (1) Form of Intercompany Agreement between Liberty Mutual and
the Company
10.2 (4) Form of Registration Rights Agreement between Liberty Mutual
and the Company
10.3 (4) Form of Tax Sharing Agreement between Liberty Mutual and the
Company
10.4 (1) Form of 1990 Stock Option Plan of the Company, together with
amendments 1 and 2 thereto
10.5 (10) Form of Restated Savings and Investment Plan of the Company
10.6 (1) Form of Amended and Restated Supplemental Savings Plan of
the Company
10.7 (1) Form of Stein Roe Profit Sharing Plan and amendments thereto
10.8 (10) Form of Amended and Restated Pension Plan of the Company
10.9 (1) Form of Amended and Restated Supplemental Pension Plan of
the Company
10.10 (5) Form of Amended and Restated 1995 Stock Incentive Plan of
the Company
10.11 (4) Form of 1995 Employee Stock Purchase Plan of the Company
10.12 (1) Form of Deferred Compensation Plan of the Company
10.12.1 (1) Letters from the Company, setting forth additional
retirement benefits for John A. Benning and Sabino
Marinella
10.13 (1) Form of Keyport Deferred Compensation Plan
10.14 (1) Form of Stein Roe Deferred Compensation Plan
10.14.1 (1) Form of Stein Roe Non-Qualified Supplemental Retirement Plan
10.14.2 (1) Form of Stein Roe Long Term Incentive Plan
10.16 (1) Lease Agreement with respect to 600 Atlantic Avenue, Boston,
Massachusetts
10.17 (1) Lease Agreement with respect to 125 High Street, Boston,
Massachusetts, as amended
10.17.1 (10) Third and Fourth Amendments to 125 High Street Lease
10.18 (1) Lease Agreement with respect to One South Wacker Drive,
Chicago, Illinois, as amended
10.19 (1) Unconditional Guarantee Agreement dated November 7, 1991
executed by Liberty Mutual and related Mortgage Maintenance
Agreement by and among LRE Properties, Inc., Atlantic Real
Estate Limited Partnership and Keyport Life Insurance
Company
10.20 (1) Administrative Services Agreement dated as of June 9, 1993
between Liberty Life Assurance Company of Boston and Keyport
Life Insurance Company
10.21 (6) Lease Agreement with respect to One Financial Center,
Boston, Massachusetts
10.22 (10) Agreement between the Company and Stephen E. Gibson,
President and Chief Executive Officer of Colonial
10.23 (7) Revolving Credit Agreement dated as of April 12, 1999 among
Liberty Funds Group LLC, Corporate Receivables Corporation,
Citibank, N.A. and Citicorp North America, Inc.
</TABLE>
30
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- --------------------- ------------------------------------------------------------
<S> <C>
10.23.1 (7) Undertaking Agreement dated as of April 12, 1999 among the
Company, Colonial Management Associates, Inc., Newport Fund
Management, Inc., Crabbe Huson Group, Inc., Stein Roe &
Farnham Incorporated and Citicorp North America, Inc.
10.23.2 (7) Pledge and Security Agreement dated as of April 12, 1999
between Liberty Funds Distributor, Inc. and Citicorp North
America, Inc.
10.23.3 Agreement of Amendment dated as of January 31, 2000 amending
the Pledge and Security Agreement dated as of April 12,
1999.
10.28 (8) Colonial Profit Sharing Plan (and Amendment Nos. 1-3
thereto)
10.29 (8) Colonial Split-Dollar Insurance Coverage description
10.30 (9) Coinsurance Agreement between Fidelity and Guaranty Life
Insurance Company and Keyport Life Insurance Company, and
first and second amendments thereto
10.31 (9) Dividend Reinvestment Plan of the Company
10.32 Settlement Agreement and General Release between the Company
and Kenneth R. Leibler
12 Statement re computation of ratios
13 Portions of Annual Report to Stockholders incorporated by
reference into this Report
21 Subsidiaries of the Company
23 Consent of Ernst & Young LLP
27 Financial Data Schedule
99.3 (1) Form of Stockholders' Agreement among the Company, Liberty
Mutual Insurance Company and certain holders of the
Company's Series A Convertible Preferred Stock
</TABLE>
- ------------------------
(1) Incorporated by reference to the same Exhibit Number in the Company's
Registration Statement on Form S-4 (filed under the name NEW LFC, INC.)
(Registration No. 33-88824).
(2) Incorporated by reference to the same Exhibit Number in the Company's 1997
Annual Report on Form 10-K filed March 31, 1998.
(3) Incorporated by reference to the same Exhibit number in the Company's
Registration Statement on Form S-3 (Registration No. 333-63349).
(4) Incorporated by reference to the same Exhibit Number in the Company's 1994
Annual Report on Form 10-K filed March 30, 1995.
(5) Incorporated by reference to the same Exhibit Number in the Company's
Registration Statement on Form S-3 (Registration Number 333-29315).
(6) Incorporated by reference to the same Exhibit Number in the Company's 1996
Annual Report on Form 10-K filed March 28, 1997.
(7) Incorporated by reference to Exhibits 10.1, 10.2 and 10.3, in the Company's
Quarterly Report on Form 10-Q filed May 14, 1999.
(8) Incorporated by reference to the same Exhibit Number in the Company's 1995
Annual Report on Form 10-K filed March 29, 1996.
(9) Incorporated by reference to Prospectus contained in the Company's
Registration Statement on Form S-3 (Registration Number 333-20067).
(10) Incorporated by reference to the same Exhibit Number in the Company's 1998
Annual Report on Form 10-K filed March 30, 1999.
31
<PAGE>
AGREEMENT OF AMENDMENT
Dated as of January 31, 2000
Reference is made to (i) that certain Revolving Credit
Agreement dated as of April 12, 1999 (the "Credit Agreement"), between Liberty
Funds Group LLC (the "Borrower"), Corporate Receivables Corporation, Citibank,
N.A. and Citicorp North America, Inc. as agent (the "Agent"), and (ii) that
certain Pledge and Security Agreement dated as of April 12, 1999 (the "Security
Agreement") between Liberty Funds Distributor, Inc. (the "Distributor") and the
Agent. Unless otherwise defined herein, capitalized terms used herein shall have
the meanings set forth in Appendix A to the Credit Agreement.
The parties hereto agree that, effective as of the date
hereof, Schedule II to the Security Agreement is hereby replaced in its entirety
with Annex A to this Agreement of Amendment.
The parties hereto agree that, effective as of the date
hereof, Schedule III to the Security Agreement is hereby replaced in its
entirety with Annex B to this Agreement of Amendment.
The Borrower represents and warrants to each of the Secured
Parties that immediately after giving effect to this Agreement of Amendment, (i)
it is in full compliance with the Borrowing Base Test, and (ii) each of its
representations and warranties set forth in the Credit Agreement are true and
correct as if made on such date.
This Agreement of Amendment may be executed in any number of
counterparts and by different parties hereto on separate counterparts, each of
which counterparts, when so executed and delivered, shall be deemed to be an
original and all of which counterparts taken together shall constitute but one
and the same agreement.
THIS AGREEMENT OF AMENDMENT SHALL BE GOVERNED BY AND CONSTRUED
IN ACCORDANCE WITH THE LAWS OF THE STATE OF NEW YORK.
<PAGE>
IN WITNESS WHEREOF, the parties hereto have caused this
Amendment to be executed as of the date first above written.
LIBERTY FUNDS DISTRIBUTOR, INC.,
as Distributor
By: /s/ NANCY L. CONLIN
-----------------------------
Name: Nancy L. Conlin
Title: Clerk
LIBERTY FUNDS GROUP LLC,
as Borrower
By: /s/ NANCY L. CONLIN
-----------------------------
Name: Nancy L. Conlin
Title: Secretary
CITICORP NORTH AMERICA, INC.,
as Agent
By: /s/ FRANK FORESTER III
-----------------------------
Name: Frank Forester III
Title: Vice President
CORPORATE RECEIVABLES
CORPORATION,
as Agent
By: /s/ FRANK FORESTER III
-----------------------------
Name: Frank Forester III
Title: Vice President
CITIBANK, N.A.,
as Agent
By: /s/ FRANK FORESTER III
-----------------------------
Name: Frank Forester III
Title: Vice President
2
<PAGE>
ANNEX A
SCHEDULE II
CDSC PAYMENT CHART
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------
TYPE OF FEE
STRUCTURE:
B1 B2 B3 B4 B5 B6 B7 B8
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
REDEMPTION
FEE:
- ----------------------------------------------------------------------------------------------------------------
Year 1 5% 5% 5% 5% 4% 3% 2% 4%
- ----------------------------------------------------------------------------------------------------------------
Year 2 4% 4% 4% 4% 3% 2% 2% 3%
- ----------------------------------------------------------------------------------------------------------------
Year 3 3% 4% 3% 3% 2% 1% 1% 2%
- ----------------------------------------------------------------------------------------------------------------
Year 4 3% 3% 3% 3% 2% 0% 1%
- ----------------------------------------------------------------------------------------------------------------
Year 5 2% 2% 2% 2% 1% 0%
- ----------------------------------------------------------------------------------------------------------------
Year 6 1% 1% 1% 1% 0% 0%
- ----------------------------------------------------------------------------------------------------------------
Year 7 0% 0% 0% 0% 0%
- ----------------------------------------------------------------------------------------------------------------
Year 8 0% 0% 0% 0% 0%
- ----------------------------------------------------------------------------------------------------------------
</TABLE>
Companies currently using B1 Structure: Colonial Trust I; Colonial Trust II;
Colonial Trust III, Colonial Trust IV; Colonial Trust V.
Companies currently using B2 Structure: Colonial Trust I; Colonial Trust II;
Colonial Trust III; Colonial Trust IV; Colonial Trust VI; Colonial Trust VII.
Companies currently using B3 Structure: Colonial Trust I.
Companies currently using B8 Structure: Colonial Trust II; Colonial Trust IV.
3
<PAGE>
With respect to each of the following Funds (each a "Discount Program Fund" and
collectively, the "Discount Program Funds"):
<TABLE>
- ----------------------------------------------------------------------------------------------------------------------
<S> <C>
COLONIAL HIGH YIELD SECURITIES FUND COLONIAL TAX-EXEMPT FUND*
COLONIAL INCOME FUND* COLONIAL TAX-EXEMPT INSURED FUND*
COLONIAL STRATEGIC INCOME FUND COLONIAL INTERMEDIATE TAX-EXEMPT FUND(1)
STEIN ROE ADVISOR TAX-MANAGED GROWTH FUND COLONIAL MUNICIPAL MONEY MARKET FUND*
STEIN ROE ADVISOR TAX-MANAGED VALUE FUND COLONIAL UTILITIES FUND
COLONIAL MONEY MARKET FUND* COLONIAL CALIFORNIA TAX-EXEMPT FUND*
NEWPORT JAPAN OPPORTUNITIES FUND COLONIAL CONNECTICUT TAX-EXEMPT FUND*
NEWPORT TIGER CUB FUND COLONIAL FLORIDA TAX-EXEMPT FUND*
NEWPORT GREATER CHINA FUND COLONIAL MASSACHUSETTS TAX-EXEMPT FUND*
COLONIAL SHORT DURATION U.S. GOVERNMENT FUND(1) COLONIAL MICHIGAN TAX-EXEMPT FUND*
COLONIAL INTERMEDIATE U.S. GOVERNMENT FUND* COLONIAL MINNESOTA TAX-EXEMPT FUND*
COLONIAL FEDERAL SECURITIES FUND* COLONIAL NEW YORK TAX-EXEMPT FUND*
CRABBE HUSON CONTRARIAN FUND COLONIAL NORTH CAROLINA TAX-EXEMPT FUND*
CRABBE HUSON REAL ESTATE FUND COLONIAL OHIO TAX-EXEMPT FUND*
CRABBE HUSON EQUITY FUND COLONIAL SMALL CAP VALUE FUND
CRABBE HUSON MANAGED INCOME & EQUITY FUND COLONIAL U.S. GROWTH & INCOME FUND
CRABBE HUSON OREGON TAX-FREE FUND* COLONIAL VALUE FUND
COLONIAL GLOBAL EQUITY FUND NEWPORT ASIA PACIFIC FUND
COLONIAL INTERNATIONAL HORIZONS FUND NEWPORT EUROPE FUND
COLONIAL GLOBAL UTILITIES FUND NEWPORT TIGER FUND
COLONIAL SELECT VALUE FUND COLONIAL COUNSELOR SELECT INCOME PORTFOLIO*
COLONIAL STRATEGIC BALANCED FUND COLONIAL COUNSELOR SELECT BALANCED PORTFOLIO
THE COLONIAL FUND COLONIAL COUNSELOR SELECT GROWTH PORTFOLIO
COLONIAL HIGH YIELD MUNICIPAL FUND* LIBERTY ALL-STAR GROWTH AND INCOME FUND
- ----------------------------------------------------------------------------------------------------------------------
</TABLE>
The following information supplements the information in the CDSC
Payment Chart with respect to each Discount Program Fund:
The CDSCs for larger purchases of Class B shares of the Discount
Program Funds through participating financial advisor firms are being reduced,
effective February 1, 2000, as follows:
- The reductions apply only to Class B shares purchased on or after
February 1, 2000.
- The reductions apply only to customers of financial advisor firms
that have elected to participate in these reductions. (Some
financial advisors firms are not able to participate, because
their record keeping or transaction processing systems are not
designed to accommodate these reductions.)
With respect to Class B shares of Discount Program Funds purchased
through a participating financial advisor firm, the CDSCs will be as follows:
4
<PAGE>
PURCHASES OF LESS THAN $250,000
<TABLE>
- ------------------------------------------------------------------------------------------------------------
<S> <C>
HOLDING PERIOD AFTER PURCHASE CDSC AS % DEDUCTED WHEN SHARES SOLD
- ------------------------------------------------------------------------------------------------------------
Through first year 5.00
- ------------------------------------------------------------------------------------------------------------
Through second year 4.00
- ------------------------------------------------------------------------------------------------------------
Through third year 3.00
- ------------------------------------------------------------------------------------------------------------
Through fourth year 3.00
- ------------------------------------------------------------------------------------------------------------
Through fifth year 2.00
- ------------------------------------------------------------------------------------------------------------
Through sixth year 1.00
- ------------------------------------------------------------------------------------------------------------
Longer than six years 0.00
- ------------------------------------------------------------------------------------------------------------
</TABLE>
PURCHASES OF $250,000 TO LESS THAN $500,000
<TABLE>
- ------------------------------------------------------------------------------------------------------------
<S> <C>
HOLDING PERIOD AFTER PURCHASE CDSC AS % DEDUCTED WHEN SHARES SOLD
- ------------------------------------------------------------------------------------------------------------
Through first year 3.00
- ------------------------------------------------------------------------------------------------------------
Through second year 2.00
- ------------------------------------------------------------------------------------------------------------
Through third year 1.00
- ------------------------------------------------------------------------------------------------------------
Longer than four years 0.00
- ------------------------------------------------------------------------------------------------------------
</TABLE>
PURCHASES OF $500,000 TO LESS THAN $1 MILLION
<TABLE>
- ------------------------------------------------------------------------------------------------------------
<S> <C>
HOLDING PERIOD AFTER PURCHASE CDSC AS % DEDUCTED WHEN SHARES SOLD
- ------------------------------------------------------------------------------------------------------------
Through first year 3.00
- ------------------------------------------------------------------------------------------------------------
Through second year 2.00
- ------------------------------------------------------------------------------------------------------------
Through third year 1.00
- ------------------------------------------------------------------------------------------------------------
Longer than four years 0.00
- ------------------------------------------------------------------------------------------------------------
</TABLE>
For purchases through financial advisor firms that do not participate
in the Class B discount program, the CDSC, conversion period and commission to
the financial advisor will continue to be as described in the CDSC Payment
Chart.
For shares purchased through a financial advisor firm which
participates in the discount program, purchases of over $1 million can only be
made Class A or Class C shares. For shares purchased through a financial advisor
firm which does not participate in the Class B discount program, purchases of
more than $250,000 but less than $1 million can only be made in Class A or Class
C shares.
If a shareholder exchanges shares from any Fund which is not a Discount
Program Fund into shares of a Discount Program Fund, or transfers any Fund
account from a financial advisor firm that does not participate in the Class B
discount program to a financial advisor firm that does participate, the
exchanged or transferred shares will retain their pre-existing CDSC and
conversion schedule, but additional purchases of shares which cause the
exchanged or transferred Fund account to exceed the applicable discount level
will receive the lower CDSC and reduced holding period for amounts exceeding the
discount level and the financial advisor firm will receive the lower commission.
If a shareholder exchanges shares from a Discount Program Fund into a Fund which
is not a Discount Program Fund or
5
<PAGE>
transfers any Fund account from a financial advisor that participates in the
Class B discount program to a financial advisor that does not participate, the
exchanged or transferred shares will retain the pre-existing CDSC but all
additional purchases of Class B shares will be in accordance with the higher
CDSC and longer holding period of the non-participating fund or financial
advisor.
An additional way shareholders can pay a lower CDSC and be subject to
the applicable reduced holding period when purchasing Class B shares through
participating financial advisor firms is through RIGHTS OF ACCUMULATION. If the
combined value of the Fund accounts maintained by a shareholder, the
shareholder's spouse and minor children reaches a discount level, any additional
shares purchased in any of the accounts will be subject to the applicable lower
CDSC and reduced holding period.
*****************
(1) THE COLONIAL SHORT DURATION U.S. GOVERNMENT FUND and COLONIAL INTERMEDIATE
TAX-EXEMPT FUND will be affected by only some of the above changes. The Funds'
policies regarding the purchase of Class B shares through participating
financial advisor firms of less than $250,000 will not change from what appears
in each Fund's current Prospectus. For purchases of $250,000 to less than
$500,000 and of $500,000 to less than $1 million, the applicable charts above
will apply.
6
<PAGE>
ANNEX B
SCHEDULE III
Permitted Conversion Features
Commission Shares of each Fund will automatically convert to Class A shares no
earlier than the date which is eight (8) years after the date on which such
shares were purchased.
With respect to each of the following Funds (the "Discount Program Funds"):
<TABLE>
- ----------------------------------------------------------------------------------------------------------------------
<S> <C>
COLONIAL HIGH YIELD SECURITIES FUND COLONIAL TAX-EXEMPT FUND
COLONIAL INCOME FUND COLONIAL TAX-EXEMPT INSURED FUND
COLONIAL STRATEGIC INCOME FUND COLONIAL INTERMEDIATE TAX-EXEMPT FUND
STEIN ROE ADVISOR TAX-MANAGED GROWTH FUND COLONIAL MUNICIPAL MONEY MARKET FUND
STEIN ROE ADVISOR TAX-MANAGED VALUE FUND COLONIAL UTILITIES FUND
COLONIAL MONEY MARKET FUND COLONIAL CALIFORNIA TAX-EXEMPT FUND
NEWPORT JAPAN OPPORTUNITIES FUND COLONIAL CONNECTICUT TAX-EXEMPT FUND
NEWPORT TIGER CUB FUND COLONIAL FLORIDA TAX-EXEMPT FUND
NEWPORT GREATER CHINA FUND COLONIAL MASSACHUSETTS TAX-EXEMPT FUND
COLONIAL SHORT DURATION U.S. GOVERNMENT FUND COLONIAL MICHIGAN TAX-EXEMPT FUND
COLONIAL INTERMEDIATE U.S. GOVERNMENT FUND COLONIAL MINNESOTA TAX-EXEMPT FUND
COLONIAL FEDERAL SECURITIES FUND COLONIAL NEW YORK TAX-EXEMPT FUND
CRABBE HUSON CONTRARIAN FUND COLONIAL NORTH CAROLINA TAX-EXEMPT FUND
CRABBE HUSON REAL ESTATE FUND COLONIAL OHIO TAX-EXEMPT FUND
CRABBE HUSON EQUITY FUND COLONIAL SMALL CAP VALUE FUND
CRABBE HUSON MANAGED INCOME & EQUITY FUND COLONIAL U.S. GROWTH & INCOME FUND
CRABBE HUSON OREGON TAX-FREE FUND COLONIAL VALUE FUND
COLONIAL GLOBAL EQUITY FUND NEWPORT ASIA PACIFIC FUND
COLONIAL INTERNATIONAL HORIZONS FUND NEWPORT EUROPE FUND
COLONIAL GLOBAL UTILITIES FUND NEWPORT TIGER FUND
COLONIAL SELECT VALUE FUND COLONIAL COUNSELOR SELECT INCOME PORTFOLIO
COLONIAL STRATEGIC BALANCED FUND COLONIAL COUNSELOR SELECT BALANCED PORTFOLIO
THE COLONIAL FUND COLONIAL COUNSELOR SELECT GROWTH PORTFOLIO
COLONIAL HIGH YIELD MUNICIPAL FUND LIBERTY ALL-STAR GROWTH AND INCOME FUND
- ----------------------------------------------------------------------------------------------------------------------
</TABLE>
With respect to Class B shares of Discount Program Funds purchased on or after
February 1, 2000 through a participating financial advisor firm, the shares will
automatically convert to Class A shares as follows:
- For purchases of $250,000 to less than $500,000, Class B shares
will automatically convert to Class A shares on the date which is
four (4) years after the date on which such shares were purchased.
7
<PAGE>
- For purchases of $500,000 to less than $1,000,000, Class B shares
will automatically convert to Class A shares on the date which is
three (3) years after the date on which such shares were
purchased.
If a shareholder exchanges shares from any Fund which is not a Discount Program
Fund into shares of a Discount Program Fund, or transfers any Fund account from
a financial advisor firm that does not participate in the Class B discount
program to a financial advisor firm that does participate, the exchanged or
transferred shares will retain their pre-existing conversion schedule, but
additional purchases of shares which cause the exchanged or transferred Fund
account to exceed the applicable discount level will receive the lower
conversion period for amounts exceeding the discount level. If a shareholder
exchanges shares from a Discount Program Fund into a Fund which is not a
Discount Program Fund or transfers any Fund account from a financial advisor
that participates in the Class B discount program to a financial advisor that
does not participate, the exchanged or transferred shares will retain the
pre-existing conversion schedule but all additional purchases of Class B shares
will be in accordance with the longer conversion period of the non-participating
fund or financial advisor.
An additional way shareholders can fall within the reduced holding period when
purchasing Class B shares through participating financial advisor firms is
through RIGHTS OF ACCUMULATION. If the combined value of the Fund accounts
maintained by a shareholder, the shareholder's spouse and minor children reaches
a discount level, any additional shares purchased in any of the accounts will be
subject to the reduced automatic conversion period.
8
<PAGE>
SETTLEMENT AGREEMENT AND GENERAL RELEASE
This Settlement Agreement and General Release (hereinafter referred to
as the "Agreement") is made as of February 7, 2000 by and between Kenneth R.
Leibler and Liberty Financial Companies, Inc.
In this Agreement, "Leibler" refers to Kenneth R. Leibler; "Company"
refers to Liberty Financial Companies, Inc., its subsidiaries and affiliates, as
well as their current and former officers, directors, agents and employees in
such capacities. For purposes of Paragraphs 8 through 22, inclusive, of this
Agreement, the term Company shall also include Liberty Mutual Insurance Company
and Liberty Mutual Fire Insurance Company, their subsidiaries and affiliates, as
well as their current and former officers, directors, agents and employees in
such capacities.
WHEREAS, Leibler served as an employee-at-will of the Company in the
position of President and Chief Executive Officer and also served as a Director
until his resignation, which was effective on January 13, 2000; and
WHEREAS, the parties have mutually agreed to resolve any and all
disagreements arising out of such employment relationship and the termination of
Leibler's employment and his resignation as Director;
NOW, THEREFORE, in consideration of the mutual covenants to be
performed by each of the parties hereto, and set forth in their entirety herein,
the parties to this Agreement agree as follows:
1.The Company shall pay Leibler salary and benefits accrued through
January 13, 2000, including payment for any accrued but unused vacation,
personal or other flexible time off program. The Company shall also reimburse
Leibler for expenses incurred by him in the ordinary course of his employment
prior to January 13, 2000.
2.Leibler is no longer an employee of the Company and therefore not
eligible to receive any payment of any bonus, salary or benefit of whatever
nature or amount, other than as provided in Paragraph 1 or elsewhere in this
Agreement. The Company agrees to pay Leibler separation payments in the
aggregate amount of $3,480,000, less all applicable withholdings for state and
federal income taxes and payroll taxes, which shall be paid as follows: (a)
$1,200,000 after expiration of the time periods described in Paragraphs 18 and
19, but in no event later than March 1, 2000; (b) $1,140,000 over a period of 18
months in accordance with the Company's regular payroll schedule of two payments
per month, commencing February 15, 2000, resulting in 36 payments in the gross
amount of $31,666.67, and (c) $1,140,000 on August 15, 2001. The Company shall
not be obligated to fund benefits of any nature or in any amount for Leibler
during this period such as 401(k) matches, health plans, or retirement plans
after January 13, 2000, except as expressly provided herein.
3.The Company shall make all payments to health plans, dental plans and
vision plans pursuant to the COBRA benefit selected by Leibler for a period of
eighteen months from January 13, 2000. The Company will pay for the current
plans and coverage selection elected by Leibler. The Company shall also continue
to pay for Leibler's financial planning and tax preparation service from AYCO
for calendar year 2000, including preparation of Leibler's 1999 and 2000 income
tax filings. Payments for the foregoing benefits shall be made on the same
<PAGE>
basis as during Leibler's tenure as an employee of the Company, and the Company
accordingly shall (a) gross up the payments for the AYCO benefit to eliminate
any after tax cost to Leibler, and (b) deduct Leibler's contribution to the
benefits described in the first sentence of this paragraph (calculated as if he
had remained an employee) from the payments described in Paragraph 2(b) above.
The Company shall also continue to pay the premium on Leibler's two $1 million
term life insurance policies until the earlier of one year from the date of this
Agreement or the commencement by Leibler of full-time employment (other than
self-employment). Leibler shall be obligated to inform the Company promptly of
his commencement of full- time employment (other than self-employment).
4.Leibler may exercise, through April 12, 2000, any vested stock
options pursuant to the Company's 1990 Stock Option Plan and 1995 Stock
Incentive Plan in accordance with the provisions of the award grants and the
underlying plans. Leibler shall only be entitled to exercise such options or
other rights as are vested as of January 13, 2000 pursuant to the terms of the
plans and grants. Notwithstanding the foregoing, the Company and Leibler agree
that the vested stock options granted to Leibler in 1995 and 1996 are hereby
cancelled. Any unvested options and restricted stock or other grants as of
January 13, 2000 shall be forfeited.
5.The Company shall provide Leibler, at the Company's expense, with
senior executive outplacement assistance by a firm of his choice, subject to the
reasonable approval of the Company, such service to run until the date Leibler
commences full-time employment or permanent full-time self-employment. Leibler
shall be obligated to inform the Company promptly of his commencement of
full-time employment or permanent full-time self-employment.
6.Leibler shall be entitled to payment, distribution, or other
appropriate treatment of Leibler's vested or accrued benefits as of January 13,
2000 under all of the Company's benefit plans in which Leibler participated
prior to January 13, 2000 (including, without limitation, as applicable, the
Company's Savings and Investment Plan, Pension Plan, Supplemental Savings Plan
and Supplemental Pension Plan) in accordance with the applicable terms and
conditions of such benefit plans.
7.Leibler acknowledges and agrees that the aforesaid payments and
agreements are made by the Company in consideration for the promises made by
Leibler in this Agreement. Leibler further acknowledges and agrees that he is
not otherwise entitled to receive said monies under any Company benefit plan,
policy or procedure, or otherwise. The Company's payment of these amounts shall
not restore Leibler's employment status or any of his Company employment
benefits.
8.Leibler states that he has not previously filed or joined in any
complaints, charges or lawsuits against the Company before any governmental
agency or court of law. Leibler further represents that he has not given or sold
any portion of any claim discussed in this Agreement to anyone else.
9.Leibler agrees to release, and hereby releases, the Company from all
claims or demands of whatever nature which Leibler currently may have based on
his employment with the Company, his service as Director, or his separation from
that employment or resignation as Director, whether known or unknown, and
whether asserted or not. This includes a release of any rights or claims Leibler
may have under the Age Discrimination in Employment Act and the Older Worker
Benefit Protection Act, which prohibit age discrimination in employment; Title
VII of the Civil Rights Act of 1964 and the Civil Rights Act of 1991, which
prohibit discrimination in employment based on race, sex, color, national
origin, or religion; the Americans With Disabilities Act, which prohibits
discrimination against persons with disabilities; the Equal Pay Act, which
prohibits paying men and women unequal pay for equal work; any claims under the
Employee Retirement Income Security Act, which regulates the
2
<PAGE>
administration of retirement and other employee benefit plans; any state law
relating to employment benefits; the Massachusetts Law Against Discrimination,
codified at Section 151B et seq. of Massachusetts General Laws; any Company
management incentive plan, stock option plan, phantom or restricted stock plan
or other equity or benefit plan, Short-Term Disability or Long-Term Disability
Plans, except as provided elsewhere in this Agreement; and any other federal,
state or local statutory or common law claims affecting or relating to the
claims or rights of employees. This release also includes a release by Leibler
of any claims for wrongful discharge, breach of implied or express contract or
claims that the Company has dealt with Leibler unfairly or in bad faith.
This does not include a release of (a) any claims Leibler may have in
the future for breach by the Company of its obligations under this Agreement, or
(b) any rights Leibler may have to indemnification or under any directors and
officers liability insurance policy for claims arising from his service as a
director or officer of the Company or as fiduciary of any Company benefit plan
under applicable law and/or the charter documents of the Company or other
applicable documents.
10. The Company agrees to release, and hereby releases, Leibler and his
executors, administrators, successors and assigns, from all claims or demands of
whatever nature which the Company currently may have based on Leibler's
employment with the Company or his service as a Director, whether known or
unknown, and whether asserted or not. This release does not include a release of
any claims the Company may have in the future for breach by Leibler of his
obligations under this Agreement.
11. Leibler promises never to file, join or participate in any capacity
in a complaint, charge or lawsuit asserting any claims that are released in
Paragraph 9, provided, however, that the foregoing shall not apply to class
actions if Leibler opts out at the first opportunity provided. Leibler further
agrees not to voluntarily encourage or voluntarily offer any information to any
individual or entity or otherwise participate in the pursuit of any potential or
actual complaints, charges or lawsuits against the Company, including but not
limited to any and all complaints or lawsuits alleging employment discrimination
or wrongful discharge, arising or based upon facts or circumstances during
Leibler's active tenure at the Company. However, this provision shall not
interfere with Leibler's ability to communicate with public agencies if required
to do so under applicable law or legal process. If Leibler is so required under
applicable law or legal process, he shall provide prompt written notice to the
Company prior to compliance with such request, such written notice to include a
copy of any court or administrative order or other notice or document received
by Leibler together with all enclosures or attachments thereto.
12. The Company makes this Agreement to avoid the cost of defending
against any possible legal and/or administrative action of any nature
whatsoever. By making this Agreement, the Company does not admit that it has
violated any federal, state, or local law, rule or regulation or that any action
taken with respect to Leibler was wrongful or unlawful or that the Company
breached any of its policies or procedures. The parties agree that this
Agreement may not be used as evidence in any subsequent proceeding of any kind
except one in which either of the parties or Company alleges a breach of this
Agreement or one in which any of the parties or Company elects to use the
Agreement as a defense to any claim.
13. Except to comply with legal process, Leibler agrees to keep the
terms, amount and fact of this Agreement completely confidential and that he
will not disclose any information concerning this Agreement to anyone other than
his immediate family, attorney and financial and tax advisors, and shall be
responsible for any breach by them of this non-disclosure provision. The Company
likewise agrees to keep the terms, amount and fact of this Agreement completely
confidential and, except as required by law, will not disclose any information
concerning this Agreement other than to its employees on a need-to-know basis,
and to its legal,
3
<PAGE>
accounting and tax advisors, and shall be responsible for any breach by them of
this non-disclosure provision. The agreements of the parties in this paragraph
shall be of no further force and effect if and when this Agreement is disclosed
publicly by the Company pursuant to the disclosure requirements of the federal
securities laws.
14. Leibler acknowledges that he had access to proprietary and/or
confidential information regarding the Company's customers, employees, and
business during his employment with the Company. Leibler acknowledges and agrees
that all such proprietary and/or confidential information, including but not
limited to documents, computer software, electronic information or copies
thereof, is and shall remain the property of the Company. Leibler warrants and
represents that he has returned to the Company any originals and/or copies of
all such proprietary and/or confidential information whether in written or
electronic form. Furthermore, Leibler acknowledges and reaffirms his continuing
obligation to preserve as confidential all such information obtained by him
during, or by reason of, his employment with the Company and agrees that it will
not be disclosed by him to any person, firm or corporation or otherwise utilized
by him, except as may be required by law or legal process. If Leibler is so
required under applicable law or legal process, he shall provide prompt written
notice to the Company prior to the compliance with such request, such written
notice to include a copy of any court or administrative order or other notice or
document received by Leibler together with all enclosures or attachments
thereto.
15. Leibler covenants that he will not, with any reasonable expectation
of public disclosure, intentionally make any disparaging comment, statement or
communication of any kind, whether written or oral, about the Company or any
affiliated companies or any officer, director, agent, successor or assign in
such capacity, and that he shall refrain from making any harassing or
disparaging statement concerning the Company or the above entities or persons in
any public forum including, but not limited to, any interview, lecture, news
conference or other public audience or any form of media including, but not
limited to, radio, television, newspapers, magazines, the internet, or any
private forum where a fee or gratuity of any kind is being paid or make any
disclosure that is reasonably intended to become a public communication.
For purposes of this Paragraph 15 and the following Paragraph
16, disparaging and/or harassing conduct, comment, statement or communications
includes, but is not limited to, any conduct, comment, statement or
communication that discredits, belittles, defames or is untrue or misleading and
is made to negatively influence, tends to negatively influence or negatively
influences or prejudices the reputation, business or image of the other party or
any affiliated companies or any current or former officer, director, agent,
successor or assign.
16. The Company covenants that it will not, with any reasonable
expectation of public disclosure, intentionally make any disparaging comment,
statement or communication of any kind, whether written or oral, about Leibler
or any successor or assign in such capacity, and that it shall refrain from
making any harassing or disparaging statement concerning Leibler or the above
persons in any public forum including, but not limited to, any interview,
lecture, news conference or other public audience or any form of media
including, but not limited to, radio, television, newspapers, magazines, the
internet, or any private forum where a fee or gratuity of any kind is being paid
or make any disclosure that is reasonably intended to become a public
communication.
17. The prevailing party in any lawsuit or other action or proceeding
for breach of this Agreement shall be entitled to be paid by the other party, in
addition to any costs and disbursements provided by law, reasonable attorneys
fees and other expenses of litigation if deemed appropriate by the court or
other forum of such action or proceeding.
4
<PAGE>
The parties further agree that, if they file or join in a
complaint, charge, or lawsuit based on claims which it is finally determined
that such party has released (other than a class action from which a party opts
out at the first opportunity provided), such party will pay for all costs
incurred by the other party, any related companies or the directors or employees
of any of them, including reasonable attorneys fees, incurred in defending
against such a released claim.
18. Leibler was first provided with this Agreement on January 26, 2000.
Leibler will be afforded at least 21 days from that date to consider the meaning
and effect of this Agreement. Leibler acknowledges that he has had the
opportunity to consult with an attorney. Leibler agrees that any modification,
material or otherwise, to this Agreement does not restart or affect in any
manner the original 21 day consideration period for this separation proposal
made to Leibler.
19. Leibler may revoke this Agreement for a period of seven (7) days
following the day Leibler executes this Agreement. Any revocation within this
period must be submitted in writing, to Frank Faggiano, Senior Vice President,
Human Resources of the Company and state, "I hereby revoke my acceptance of the
Settlement Agreement and General Release dated February 7, 2000." The revocation
must be personally delivered to Mr. Faggiano, or his designee, or mailed to
Frank Faggiano, Senior Vice President, Human Resources, Liberty Financial
Companies, Inc., Federal Reserve Plaza, 600 Atlantic Avenue, Boston, MA
02210-2214, and postmarked within seven (7) days of execution of this Agreement.
This Agreement shall not become effective or enforceable until the revocation
period has expired. If the last day of the revocation period is a Saturday,
Sunday, or legal holiday in Massachusetts, then the revocation period shall not
expire until the next following day which is not a Saturday, Sunday, or legal
holiday.
20. Leibler acknowledges that he has had the opportunity to consult
with an attorney before signing this Agreement and that he understood that it
was his decision whether or not to do so. Leibler agrees that the Company shall
not be required to pay any of his attorneys' fees in this or any related matter
or lawsuit, now or later, except as provided in Paragraph 17, and that the
payments provided for this Agreement are in complete settlement of all matters
between Leibler and the Company, including but not limited to attorneys fees and
costs. This Agreement shall be interpreted in accordance with the laws of the
Commonwealth of Massachusetts.
21. All notices or other communications required or permitted hereunder
shall be made in writing and shall be deemed to have been duly given when
actually received. Notices for the Company shall be sent to:
Liberty Financial Companies, Inc.
600 Atlantic Avenue
Boston, Massachusetts 02210-2214
Attention: Robert A. Licht, General Counsel
Fax: 617-742-7338
Notices to Leibler shall be sent to:
Kenneth R. Leibler
386 Commonwealth Ave
Newton, MA 02467
Fax: 617-558-0397
The Company and Leibler shall be obligated to notify the other party of any
change in address, which shall be effective when made in accordance with this
Paragraph.
5
<PAGE>
22. This is the whole Agreement between Leibler and the Company. Other
than as stated herein, the parties acknowledge that no promise or inducement has
been offered for this Agreement and that this Agreement is executed without
reliance on any statement of the parties or their representatives. If any
portion of this Agreement is found to be unenforceable, then both Leibler and
the Company desire that all other portions that can be separated from it or
appropriately limited in scope shall remain fully valid and enforceable.
Executed this 7th day of February, 2000.
/s/Kenneth R. Leibler
------------------------------------
Kenneth R. Leibler
Subscribed and sworn to by the above-named individual before the undersigned
notary this 7th day of February, 2000.
SEAL: /s/Cindy M. Leal
------------------------------------
Notary Public
My Commission Expires: October 21, 2005
Executed this 7th day of February, 2000.
Liberty Financial Companies, Inc.
By /s/Gary L. Countryman
--------------------------------------
Gary L. Countryman, President and
Chief Executive Officer
6
<PAGE>
LIBERTY FINANCIAL COMPANIES, INC.
EXHIBIT 12 - STATEMENT RE COMPUTATION OF RATIOS
($ IN MILLIONS)
<TABLE>
<CAPTION>
Years Ended December 31
-------------------------------------------------
1999 1998 1997
--------------- --------------- --------------
<S> <C> <C> <C>
Earnings:
Pretax income $ 154.4 $ 178.9 $ 192.1
Add fixed charges:
Interest on indebtedness 36.6 24.1 21.4
Portion of rent representing the interest factor 4.9 4.1 3.7
Accretion to face value of redeemable convertible preferred stock 0.8 0.8 0.8
--------------- --------------- --------------
Sub-total of income as adjusted 196.7 207.9 218.0
Interest on fixed annuities and financial products 526.6 562.2 594.1
=============== =============== ==============
Total income as adjusted $723.3 $ 770.1 $ 812.1
--------------- --------------- --------------
Fixed charges:
Interest on indebtedness $ 36.6 $ 24.1 $ 21.4
Portion of rent representing the interest factor 4.9 4.1 3.7
Accretion to face value of redeemable convertible preferred stock 0.8 0.8 0.8
--------------- --------------- --------------
Sub-total of fixed charges 42.3 29.0 25.9
Interest on fixed annuities and financial products 526.6 562.2 594.1
--------------- --------------- --------------
Sub-total of fixed charges 568.9 591.2 620.0
Preferred stock dividends 1.4 1.4 1.4
--------------- --------------- --------------
Total fixed charges $570.3 $592.6 $621.4
=============== =============== ==============
Ratio of earnings to fixed charges:
Excluding interest on fixed annuities and financial products 4.65 x 7.17 x 8.42 x
=============== =============== ==============
Including interest on fixed annuities and financial products 1.27 x 1.30 x 1.31 x
=============== =============== ==============
Ratio of earnings to combined fixed charges and preferred stock dividends:
Excluding interest on fixed annuities and financial products 4.50 x 6.84 x 7.99 x
=============== =============== ==============
Including interest on fixed annuities and financial products 1.27 x 1.30 x 1.31 x
=============== =============== ==============
</TABLE>
<PAGE>
[GRAPHIC]
FINANCIAL REVIEW
Selected Financial Data 27
Management's Discussion 28-39
Consolidated Financial Statements 40-43
Notes to Consolidated Financial Statements 44-62
Report of Independent Auditors 63
<PAGE>
- --------------------------------------------------------------------------------
SELECTED FINANCIAL DATA
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Selected Consolidated Financial Data(1)
(in millions, except per share data)
As of or for the Year Ended December 31 1999 1998 1997 1996 1995
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Income Statement Data
Investment income $ 810.3 $ 820.9 $ 853.1 $ 796.4 $ 761.8
Interest credited to policyholders (526.6) (562.2) (594.1) (572.7) (555.8)
- -----------------------------------------------------------------------------------------------------------------------------------
Investment spread 283.7 258.7 259.0 223.7 206.0
- -----------------------------------------------------------------------------------------------------------------------------------
Net realized investment gains (losses) (42.2) 2.4 25.9 8.0 (4.0)
- -----------------------------------------------------------------------------------------------------------------------------------
Fee income:
Investment advisory and administrative fees 268.5 237.7 217.9 196.4 155.8
Distribution and service fees 60.4 52.7 49.2 44.9 28.9
Transfer agency fees 51.7 49.0 47.7 43.9 30.8
Surrender charges and net commissions 36.5 33.7 36.1 34.7 23.4
Separate account fees 33.5 20.6 17.1 16.0 13.2
- -----------------------------------------------------------------------------------------------------------------------------------
Total fee income 450.6 393.7 368.0 335.9 252.1
- -----------------------------------------------------------------------------------------------------------------------------------
Expenses:
Operating expenses (360.4) (328.2) (309.7) (277.9) (225.1)
Amortization of deferred policy acquisition costs (97.4) (77.4) (86.4) (70.4) (68.0)
Amortization of deferred distribution costs (40.3) (40.1) (34.2) (33.9) (18.8)
Amortization of intangible assets (20.3) (15.3) (13.5) (15.4) (12.2)
Interest expense, net (19.3) (14.9) (17.0) (19.7) (16.2)
- -----------------------------------------------------------------------------------------------------------------------------------
Total expenses (537.7) (475.9) (460.8) (417.3) (340.3)
- -----------------------------------------------------------------------------------------------------------------------------------
Pretax income 154.4 178.9 192.1 150.3 113.8
Income tax expense (55.1) (54.4) (62.6) (49.6) (39.9)
- -----------------------------------------------------------------------------------------------------------------------------------
Income before extraordinary item 99.3 124.5 129.5 100.7 73.9
Extraordinary loss on extinguishment
of debt, net of tax -- (9.7) -- -- --
- -----------------------------------------------------------------------------------------------------------------------------------
Net income $ 99.3 $ 114.8 $ 129.5 $ 100.7 $ 73.9
===================================================================================================================================
Per Share Data(2)
Net income per share - basic $ 2.11 $ 2.51 $ 2.94 $ 2.36 $ 1.85
Net income per share - assuming dilution 2.07 2.42 2.77 2.24 1.76
Dividends on common stock(3) 0.40 0.40 0.40 0.40 0.30
Dividends on convertible preferred stock 2.88 2.88 2.88 2.88 2.21
Book value 24.99 27.41 26.82 24.42 23.03
Other Operating Data
Net operating income(4) $ 126.7 $ 122.6 $ 112.4 $ 94.8 $ 76.5
Extraordinary loss on extinguishment
of debt, net of tax -- (9.7) -- -- --
Net realized investment gains (losses),
net of taxes (27.4) 1.9 17.1 5.9 (2.6)
- -----------------------------------------------------------------------------------------------------------------------------------
Net income $ 99.3 $ 114.8 $ 129.5 $ 100.7 $ 73.9
===================================================================================================================================
Balance Sheet Data
Total investments $12,195.1 $12,598.3 $12,343.5 $11,537.9 $10,144.7
Intangible assets 282.0 292.8 199.0 205.4 192.3
Total assets 18,372.5 16,519.1 15,851.6 14,427.7 12,749.4
Notes payable to affiliates -- -- 229.0 229.0 229.0
Notes payable 552.0 486.4 26.5 52.5 61.0
Series A redeemable convertible preferred stock 16.0 15.3 14.6 13.8 13.0
Stockholders' equity 1,185.9 1,271.3 1,198.9 1,051.4 956.4
Shares of common stock outstanding(2) 47.5 46.4 44.7 43.1 41.5
</TABLE>
1 Includes data for acquired entities from and after the applicable
acquisition date (the most significant being Colonial, which was acquired on
March 24, 1995). The data presented should be read in conjunction with the
Consolidated Financial Statements and the Notes thereto and other financial
information included herein and "MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS."
2 Share and per share amounts have been adjusted for a three-for-two common
stock split effected in the form of a 50 percent stock dividend distributed
on December 10, 1997.
3 The amount for 1995 does not include a non-cash dividend of $30.0 million to
an affiliate of Liberty Mutual.
4 Net operating income is defined as net income, excluding extraordinary items
and net realized investment gains and losses, net of related income taxes.
27
<PAGE>
- --------------------------------------------------------------------------------
MANAGEMENT'S DISCUSSION
- --------------------------------------------------------------------------------
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Results of Operations
Net Income was $99.3 million or $2.07 per share in 1999 compared to $114.8
million or $2.42 per share in 1998 and $129.5 million or $2.77 per share in
1997. The decrease in 1999 compared to 1998 resulted primarily from net realized
investment losses in 1999 compared to net realized investment gains in 1998.
Operating expenses, amortization expense and interest expense, net also
increased, largely offset by higher fee and investment spread income. Although
pretax income decreased in 1999 compared to 1998, income tax expense increased
as the effective tax rate was significantly higher in 1999 compared to 1998. In
addition, net income for 1998 included an extraordinary loss on extinguishment
of debt, net of tax, of $9.7 million. The decrease in 1998 compared to 1997
resulted primarily from lower net realized investment gains and higher operating
expenses. Partially offsetting these items were increased fee income and
decreased amortization expense, interest expense, net and income tax expense.
Pretax Income was $154.4 million in 1999 compared to $178.9 million in 1998
and $192.1 million in 1997. The lower pretax income in 1999 compared to 1998
resulted primarily from net realized investment losses in 1999 compared to net
realized investment gains in 1998. Operating expenses, amortization expense and
interest expense, net also increased, largely offset by higher fee and
investment spread income. The lower pretax income in 1998 compared to 1997
resulted primarily from lower net realized investment gains and higher operating
expenses. Partially offsetting these items were increased fee income and
decreased amortization expense and interest expense, net.
Investment Spread is the amount by which investment income earned on the
Company's investments exceeds interest credited on policyholder balances.
Investment spread was $283.7 million in 1999 compared to $258.7 million in 1998
and $259.0 million in 1997. The amount by which the average yield on investments
exceeds the average interest credited rate on policyholder balances is the
investment spread percentage. The investment spread percentage in 1999 was 2.01%
compared to 1.83% for 1998 and 1.96% for 1997.
Investment income was $810.3 million in 1999 compared to $820.9 million in
1998 and $853.1 million in 1997. The decrease of $10.6 million in 1999 compared
to 1998 primarily relates to a $15.0 million decrease as a result of a lower
average investment yield, partially offset by a $4.4 million increase resulting
from a higher level of average invested assets. The 1999 investment income was
net of $77.2 million of S&P 500 Index call option amortization expense related
to the Company's equity-indexed annuities compared to $70.8 million in 1998. The
average investment yield was 6.29% in 1999 compared to 6.41% in 1998. The
decrease of $32.2 million in 1998 compared to 1997 primarily relates to a $66.0
million decrease as a result of a lower average investment yield, partially
offset by a $33.8 million increase resulting from a higher level of average
invested assets. The 1997 investment income was net of $47.6 million of S&P 500
Index call option amortization expense. The average investment yield was 6.95%
in 1997.
Interest credited to policyholders totaled $526.6 million in 1999 compared
to $562.2 million in 1998 and $594.1 million in 1997. The decrease of $35.6
million in 1999 compared to 1998 primarily relates to a $36.9 million decrease
resulting from a lower average interest credited rate. Policyholder balances
averaged $12.3 billion (including $10.1 billion of fixed products, consisting of
fixed annuities and a closed block of single premium whole life insurance, and
$2.2 billion of equity-indexed annuities) in 1999 compared to $12.3 billion
(including $10.5 billion of fixed products and $1.8 billion of equity-indexed
annuities) in 1998. The average interest credited rate was 4.28% (5.00% on fixed
products, consisting of fixed annuities and a closed block of single premium
whole life insurance, and 0.85% on
28 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
equity-indexed annuities) in 1999 compared to 4.58% (5.23% on fixed products and
0.85% on equity-indexed annuities) in 1998. Keyport's equity-indexed annuities
credit interest to the policyholder at a "participation rate" equal to a portion
(ranging for existing policies from 25% to 100%) of the change in value of the
S&P 500 Index. Keyport's equity-indexed annuities also provide a full guarantee
of principal if held to term, plus interest at 0.85% annually. For each of the
periods presented, the interest credited to equity-indexed policyholders related
to the participation rate was offset by investment income recognized on the S&P
500 Index call options and futures, resulting in a 0.85% net credited rate. The
decrease of $31.9 million in 1998 compared to 1997 primarily relates to a $48.6
million decrease resulting from a lower average interest credited rate,
partially offset by a $16.7 million increase as a result of a higher level of
average policyholder balances. Policyholder balances in 1997 averaged $11.9
billion (including $10.8 billion of fixed products and $1.1 billion of
equity-indexed annuities). The average interest credited rate in 1997 was 4.99%
(5.45% on fixed products and 0.85% on equity-indexed annuities).
Average investments in the Company's general account (computed without
giving effect to Statement of Financial Accounting Standards No. 115), including
cash and cash equivalents in the Company's annuity operations, were $12.9
billion in 1999 compared to $12.8 billion in 1998 and $12.3 billion in 1997. The
increase of $0.1 billion in 1999 compared to 1998 was primarily due to the
reinvestment of portfolio earnings, partially offset by net redemptions and
transfers to separate accounts. The increase of $0.5 billion in 1998 compared to
1997 was primarily due to the reinvestment of portfolio earnings.
Net Realized Investment Gains (Losses) were $(42.2) million in 1999
compared to $2.4 million in 1998 and $25.9 million in 1997. The net realized
investment losses in 1999 and net realized investment gains in 1998 included
losses of $18.3 million and $28.3 million, respectively, for certain fixed
maturity investments where the decline in value was determined to be other than
temporary.
Investment Advisory and Administrative Fees are based on the market value
of assets managed for mutual funds, private capital management and institutional
investors. Investment advisory and administrative fees were $268.5 million in
1999 compared to $237.7 million in 1998 and $217.9 million in 1997. These
increases primarily reflect a higher level of average fee-based assets under
management.
Average fee-based assets under management were $48.4 billion in 1999
compared to $41.9 billion in 1998 and $37.2 billion in 1997. The increase during
1999 compared to 1998 resulted from market appreciation and net sales for the
year ended December 31, 1999 and the full year impact of 1998 acquisitions. The
increase during 1998 compared to 1997 resulted from acquisitions, market
appreciation and net sales for the year ended December 31, 1998. Investment
advisory and administrative fees were 0.55% of average fee-based assets under
management in 1999, 0.57% in 1998 and 0.59% in 1997.
The amount of fee-based assets under management are affected by product
sales and redemptions, acquisitions, and changes in the market values of such
assets under management. Fee-based assets under management and changes in such
assets are set forth in the tables below (in billions).
29
<PAGE>
Fee-Based Assets Under Management
As of December 31
---------------------------
Mutual Funds: 1999 1998 1997
---------------------------
Intermediary-distributed $18.3 $17.9 $16.1
Direct-marketed 6.7 6.8 7.2
Closed-end 2.7 2.4 2.2
Variable annuity 2.1 1.5 1.3
- --------------------------------------------------------------------------------
29.8 28.6 26.8
Private Capital Management 9.1 7.9 6.6
Institutional 12.5 11.4 5.3
- --------------------------------------------------------------------------------
Total fee-based assets under management* $51.4 $47.9 $38.7
================================================================================
* As of December 31, 1999, 1998 and 1997, Keyport's insurance assets of $13.7
billion, $13.1 billion and $12.8 billion, respectively, bring total assets
under management to $65.1 billion, $61.0 billion and $51.5 billion,
respectively.
Changes in Fee-Based Assets Under Management
Year Ended December 31
---------------------------
1999 1998 1997
---------------------------
Fee-based assets under management - beginning $47.9 $38.7 $35.9
Sales and reinvestments 11.9 8.5 6.6
Redemptions and withdrawals (10.6) (6.8) (6.6)
Acquisitions -- 5.4 --
Market appreciation 2.2 2.1 2.8
- -------------------------------------------------------------------------------
Fee-based assets under management - ending $51.4 $47.9 $38.7
===============================================================================
Distribution and Service Fees are based on the market value of the
Company's intermediary-distributed mutual funds. Distribution fees of 0.75% are
generally earned on the average assets attributable to such funds sold with
12b-1 distribution fees and contingent deferred sales charges and service fees
of 0.25% (net of amounts passed on to selling brokers) are generally earned on
the total of such average mutual fund assets. These fees totaled $60.4 million
in 1999 compared to $52.7 million in 1998 and $49.2 million in 1997. These
increases in 1999 and 1998 were primarily attributable to the higher asset
levels of mutual funds with 12b-1 distribution fees and contingent deferred
sales charges. As a percentage of intermediary-distributed average mutual fund
assets, distribution and service fees were approximately 0.35% in 1999, 0.32% in
1998 and 0.31% in 1997.
Transfer Agency Fees are based on the market value of the assets managed in
the Company's intermediary-distributed, direct-marketed and variable annuity
mutual funds. Such fees were $51.7 million on average assets of $26.1 billion in
1999, $49.0 million on average assets of $24.9 billion in 1998 and $47.7 million
on average assets of $24.1 billion in 1997. As a percentage of total average
assets under management, transfer agency fees were approximately 0.20% in each
of 1999, 1998 and 1997.
Surrender Charges and Net Commissions are revenues earned on: a) the early
withdrawal of annuity policyholder balances and redemptions of the
intermediary-distributed mutual funds which were sold with 12b-1 distribution
fees and contingent deferred sales charges; b) the distribution of the Company's
intermediary-distributed mutual funds (net of the substantial portion of
commissions that is passed on to the selling brokers); and c) the sales of
non-proprietary
30 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
products in the Company's bank marketing businesses (net of commissions that are
paid to the Company's client banks and brokers). Total surrender charges and net
commissions were $36.5 million in 1999 compared to $33.7 million in 1998 and
$36.1 million in 1997.
Surrender charges on fixed and variable annuity withdrawals generally are
assessed at declining rates applied to policyholder withdrawals during the first
five to seven years of the contract; contingent deferred sales charges on mutual
fund redemptions are assessed at declining rates on amounts redeemed generally
during the first six years. Such charges totaled $24.5 million, $21.9 million
and $21.4 million in 1999, 1998 and 1997, respectively. Total annuity
withdrawals represented 14.7%, 13.2% and 11.6% of the total average annuity
policyholder and separate account balances in 1999, 1998 and 1997, respectively.
Net commissions were $12.0 million in 1999, $11.8 million in 1998 and $14.7
million in 1997.
Separate Account Fees include mortality and expense charges earned on
variable annuity and variable life policyholder balances. In addition, for
certain separate institutional accounts, the difference between investment
income and interest credited on these institutional accounts is included in
separate account fees. These fees, which are primarily based on the market
values of the assets in separate accounts supporting the contracts, were $33.5
million in 1999 compared to $20.6 million in 1998 and $17.1 million in 1997.
Such fees represented 1.32%, 1.44% and 1.54% of average variable annuity,
variable life and institutional separate account balances in 1999, 1998 and
1997, respectively.
Operating Expenses primarily represent compensation, marketing and other
general and administrative expenses. These expenses were $360.4 million in 1999
compared to $328.2 million in 1998 and $309.7 million in 1997. These increases
were primarily due to the acquisitions of Crabbe Huson and Progress in the
second half of 1998 and to increases in compensation and marketing expenses.
Operating expenses expressed as a percent of average total assets under
management were 0.59%, 0.60% and 0.63% in 1999, 1998 and 1997, respectively.
Amortization of Deferred Policy Acquisition Costs relates to the costs of
acquiring new business which vary with, and are primarily related to, the
production of new annuity business. Such costs include commissions, costs of
policy issuance and underwriting and selling expenses. Amortization was $97.4
million in 1999 compared to $77.4 million in 1998 and $86.4 million in 1997. The
increase in amortization in 1999 compared to 1998 was primarily related to the
increase in investment spread from the growth of business in force associated
with fixed and indexed products and the increased sales of variable annuity
products in 1999. The decrease in amortization in 1998 compared to 1997 was
primarily related to revisions in investment spread assumptions, partially
offset by increased amortization from the growth of business in force associated
with increased sales of variable annuity products during 1998. Amortization
expense represented 30.7%, 27.7% and 31.3% of investment spread and separate
account fees in 1999, 1998 and 1997, respectively.
Amortization of Deferred Distribution Costs relates to the distribution of
mutual fund shares sold with 12b-1 distribution fees and contingent deferred
sales charges. Amortization was $40.3 million in 1999 compared to $40.1 million
in 1998 and $34.2 million in 1997.
Amortization of Intangible Assets relates to goodwill and certain
identifiable intangible assets arising from business combinations accounted for
as purchases. Amortization was $20.3 million in 1999 compared to $15.3 million
in 1998 and $13.5 million in 1997. These increases in amortization in 1999 and
1998 were primarily attributable to acquisitions during 1998.
Interest Expense, Net was $19.3 million in 1999 compared to $14.9 million
in 1998 and $17.0 million in 1997. Interest expense primarily consists of
interest on notes payable and interest on the Liberty Funds Group revolving
credit facility which is utilized to finance sales commissions paid in
connection with the distribution of mutual fund shares
31
<PAGE>
sold with 12b-1 distribution fees and contingent deferred sales charges.
Interest expense was net of interest income of $17.3 million, $8.4 million and
$4.6 million in 1999, 1998 and 1997, respectively.
Income Tax Expense was $55.1 million or 35.7% of pretax income in 1999
compared to $54.4 million or 30.4% of pretax income in 1998 and $62.6 million or
32.6% of pretax income in 1997. The significantly lower effective tax rates on
pretax income in 1998 and 1997 were primarily attributable to reductions in the
deferred tax asset valuation allowance on federal net operating loss
carryforwards.
Financial Condition
Stockholders' Equity as of December 31, 1999 was $1.19 billion compared to
$1.27 billion as of December 31, 1998. Net income in 1999 was $99.3 million and
cash dividends on the Company's preferred and common stock totaled $6.3 million.
Common stock totaling $7.3 million was issued in connection with the exercise of
stock options and awards of nonvested stock. A decrease in accumulated other
comprehensive income which consists of net unrealized investment losses, net of
adjustments to deferred policy acquisition costs and income taxes, during the
period decreased stockholders' equity by $185.3 million.
Book Value Per Share amounted to $24.99 at December 31, 1999 compared to
$27.41 at December 31, 1998. Excluding net unrealized gains (losses) on
investments (computed pursuant to Statement of Financial Accounting Standards
No. 115), book value per share amounted to $28.32 at December 31, 1999 and
$26.82 at December 31, 1998. As of December 31, 1999, there were 47.5 million
common shares outstanding compared to 46.4 million common shares outstanding as
of December 31, 1998.
Investments not including cash and cash equivalents, totaled $12.2 billion
at December 31, 1999 compared to $12.6 billion at December 31, 1998.
The Company manages the majority of its invested assets internally. The
Company's general investment policy is to hold fixed maturity securities for
long-term investment and, accordingly, the Company does not have a trading
portfolio. To provide for maximum portfolio flexibility and appropriate tax
planning, the Company classifies its entire portfolio of fixed maturity
securities as "available for sale" and accordingly carries such investments at
fair value. The Company's total investments at December 31, 1999 and 1998
reflected net unrealized (losses) gains of $(318.6) million and $105.3 million,
respectively.
Approximately $11.1 billion or 81.0% of the Company's general account
investments at December 31, 1999 were rated by Standard & Poor's Corporation,
Moody's Investors Service or under comparable statutory rating guidelines
established by the National Association of Insurance Commissioners ("NAIC"). At
December 31, 1999, the carrying value of investments in below investment grade
securities totaled $1.2 billion or 8.9% of general account investments,
including cash and cash equivalents in the Company's annuity operations, and
certain separate account investments of $13.7 billion. Below investment grade
securities generally provide higher yields and involve greater risks than
investment grade securities because their issuers typically are more highly
leveraged and more vulnerable to adverse economic conditions than investment
grade issuers. In addition, the trading market for these securities may be more
limited than for investment grade securities.
The Company routinely reviews its portfolio of investment securities. The
Company identifies monthly any investments that require additional monitoring,
and carefully reviews the carrying value of such investments at least quarterly
to determine whether specific investments should be placed on a nonaccrual basis
and to determine declines in value that may be other than temporary. In making
these reviews, the Company principally considers the adequacy of collateral (if
any), compliance with contractual covenants, the borrower's recent financial
performance, news reports, and other
32 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
externally generated information concerning the borrower's affairs. In the case
of publicly traded fixed maturity securities, management also considers market
value quotations if available. As of December 31, 1999 and 1998, the carrying
value of fixed maturity securities that were non-income producing was $22.6
million and $30.0 million, respectively, which constituted 0.2% of investments
in each year.
Quantitative and Qualitative Disclosures About Market Risk
MARKET-SENSITIVE INSTRUMENTS AND RISK MANAGEMENT
Market risk is the risk that the Company will incur losses due to adverse
changes in market rates and prices. The Company's primary market risk exposures
are to changes in interest rates and to changes in equity prices.
The active management of market risk is integral to the Company's
operations. The Company may use the following approaches to manage its exposure
to market risk within defined tolerance ranges: rebalance its existing asset and
liability portfolios, change the character of future investment purchases, or
use derivative instruments to modify the market risk characteristics of existing
assets and liabilities or assets expected to be purchased.
CORPORATE OVERSIGHT
The Company generates substantial investable funds from its annuity
operations. The Company believes that its fixed and indexed policyholder
balances should be backed by investments, principally comprised of fixed
maturities, which generate predictable rates of return. The Company does not
have a specific target rate of return. Instead, its rates of return vary over
time depending on the current interest rates, the slope of the yield curve and
the excess at which fixed maturities are priced over the yield curve. The
Company's portfolio strategy is designed to achieve acceptable risk-adjusted
returns by effectively managing portfolio liquidity and credit quality.
The Company administers and oversees the investment risk management
processes primarily through its Investment Committee and its Board of Directors.
The Investment Committee and Board of Directors provide executive oversight of
investment activities. The Investment Committee is a committee consisting of the
Chief Executive Officer and other members of senior management of the Company.
The Investment Committee meets monthly to provide detailed oversight of
investment risk, including market risk.
The Company has investment guidelines that define the overall framework for
managing market and other investment risks, including the accountability and
control over these activities. In addition, the Company has specific investment
policies that delineate the investment limits and strategies that are
appropriate given the Company's liquidity, product and regulatory requirements.
The Company monitors and manages its exposure to market risk through asset
allocation limits, duration limits, and stress tests. Asset allocation limits
place restrictions on the aggregate fair value which may be invested within an
asset class. Duration limits on the aggregate investment portfolio, and, as
appropriate, on individual components of the portfolio, place restrictions on
the amount of interest rate risk that may be taken. Stress tests measure
downside risk to fair value and earnings over longer time intervals and for
adverse market scenarios.
The day-to-day management of market risk within defined tolerance ranges
occurs as portfolio managers buy and sell within their respective markets based
upon the acceptable boundaries established by asset allocation, duration and
other limits, including but not limited to credit and liquidity.
INTEREST RATE RISK
Interest rate risk is the risk that the Company will incur economic losses
due to adverse changes in interest rates. This risk arises from the Company's
primary activities, as the Company invests substantial funds in
interest-sensitive
33
<PAGE>
assets and also has interest-sensitive liabilities. The Company's
asset/liability management emphasizes a conservative approach, which is oriented
toward reducing downside risk in adverse markets, as opposed to maximizing
spread in favorable markets.
The Company manages the interest rate risk inherent in its assets relative
to the interest rate risk inherent in its liabilities. One of the measures the
Company uses to quantify this exposure is effective duration. Effective duration
is a common measure for the price sensitivity of assets and liabilities to
changes in interest rates. It measures the approximate percentage change in the
market value of assets and liabilities when interest rates change by 100 basis
points. This measure includes the impact of estimated changes in portfolio cash
flows from features such as prepayments and bond calls. The effective duration
of assets and related liabilities are produced using standard financial
valuation techniques. At December 31, 1999 and 1998, the estimated difference
between the Company's asset and liability duration was approximately 1.85 and
1.24, respectively. This positive duration gap indicates that the fair value of
the Company's assets is somewhat more sensitive to interest rate movements than
the fair value of its liabilities.
The Company seeks to invest premiums and deposits to create future cash
flows that will fund future benefits, claims, and expenses, and earn stable
margins across a wide variety of interest rate and economic scenarios. In order
to achieve this objective and limit its exposure to interest rate risk, the
Company adheres to a philosophy of managing the effective duration of assets and
related liabilities. The Company uses interest rate and total return swaps,
futures and caps to reduce the interest rate risk resulting from effective
duration mismatches between assets and liabilities. To the extent that actual
results differ from the assumptions utilized, the Company's effective duration
could be significantly impacted. Important assumptions include the timing of
cash flows on mortgage-related assets and liabilities subject to policyholder
surrenders. Additionally, the Company's calculation assumes that the current
relationship between short-term and long-term interest rates (the term structure
of interest rates) will remain constant over time. As a result, these
calculations may not fully capture the impact of non-parallel changes in the
term structure of interest rates and/or large changes in interest rates.
The Company's potential exposure due to a 10% increase in prevailing
interest rates from their December 31, 1999 and 1998 levels was a loss of $146.3
million and $87.0 million, respectively, in fair value of its fixed-rate assets
that were not offset by a decrease in the fair value of its fixed-rate
liabilities. The increase in potential exposure is primarily due to higher
prevailing market interest rates and the increase in the positive duration gap.
The Company expects that its exposure to loss as interest rate changes occur
will be minimized and that actual losses will be less than the estimated
potential loss due to the combination of asset/liability management strategies
and flexibility in adjusting crediting rate levels.
EQUITY PRICE RISK
Equity price risk is the risk that the Company will incur economic losses
due to adverse changes in a particular stock or stock index. At December 31,
1999 and 1998, the Company had approximately $37.9 million and $24.6 million,
respectively, in common stocks and $701.1 million and $535.1 million,
respectively, in other equity investments (primarily equity options and equity
futures).
At December 31, 1999 and 1998, the Company had $2.4 billion and $2.0
billion, respectively, in equity-indexed annuity liabilities which provide
customers with contractually guaranteed participation in price appreciation of
the Standard & Poor's 500 Composite Price Index ("S&P 500 Index"). The Company
purchases equity-indexed options and futures to hedge the risk associated with
the price appreciation component of equity-indexed annuity liabilities.
34 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
The Company manages the equity risk inherent in its assets relative to the
equity risk inherent in its liabilities by conducting detailed computer
simulations that model its S&P 500 Index derivatives and its equity-indexed
annuity liabilities under stress-test scenarios in which both the index level
and the index option implied volatility are varied through a wide range. Implied
volatility is a value derived from standard option valuation models representing
an implicit forecast of the standard deviation of the returns on the underlying
asset over the life of the option or future. The fair values of S&P 500 Index
linked securities, derivatives, and annuities are produced using standard
derivative valuation techniques. The derivatives portfolio is constructed to
maintain acceptable interest margins under a variety of possible future S&P 500
Index levels and option and futures cost environments. In order to achieve this
objective and limit its exposure to equity price risk, the Company measures and
manages these exposures using methods based on the fair value of assets and the
price appreciation component of related liabilities. The Company uses
derivatives, including futures, options and total return swaps to modify its net
exposure to fluctuations in the S&P 500 Index.
Based upon the information and assumptions the Company uses in its
stress-test scenarios at December 31, 1999, management estimates that if the S&P
500 Index decreases by 10%, the net fair value of its assets and liabilities
described above would decrease by approximately $0.2 million. Based upon the
information and assumptions the Company used in its stress-test scenarios at
December 31, 1998, management estimated that if the S&P 500 Index increased by
10%, the net fair value of its assets and liabilities described above would have
decreased by approximately $2.0 million. If option implied volatilities were to
increase by 100 basis points, management estimates that the net fair value of
its assets and liabilities would have decreased by approximately $5.2 million
and $6.0 million as of December 31, 1999 and 1998, respectively.
The simulations do not consider the effects of other changes in market
conditions that could accompany changes in the equity option and futures markets
including the effects of changes in implied dividend yields, interest rates, and
equity-indexed annuity policy surrenders.
Derivatives
As a component of its investment strategy and to reduce its exposure to interest
rate risk, the Company utilizes interest rate and total return swap agreements
and interest rate cap agreements to match assets more closely to liabilities.
Interest rate swap agreements are agreements to exchange with a counterparty
interest rate payments of differing character (e.g., fixed-rate payments
exchanged for variable-rate payments) based on an underlying principal balance
(notional principal) to hedge against interest rate changes. The Company
currently utilizes interest rate swap agreements to reduce asset duration and to
better match interest earned on longer-term fixed-rate assets with interest
credited to policyholders. A total return swap agreement is an agreement to
exchange payments based upon an underlying notional balance and changes in
variable rate and total return indices. The Company utilizes total return swap
agreements to hedge its obligations related to certain separate account
liabilities. The Company had 67 and 42 outstanding swap agreements with an
aggregate notional principal amount of $3.4 billion and $2.4 billion as of
December 31, 1999 and 1998, respectively.
Interest rate cap agreements are agreements with a counterparty which
require the payment of a premium for the right to receive payments for the
difference between the cap interest rate and a market interest rate on specified
future dates based on an underlying principal balance (notional principal) to
hedge against rising interest rates. The Company had interest rate cap
agreements with an aggregate notional amount of $50.0 million and $250.0 million
as of December 31, 1999 and 1998, respectively.
With respect to the Company's equity-indexed annuities and certain separate
account liabilities, the Company buys call options, futures and certain total
return swap agreements on the S&P 500 Index to hedge its obligations to provide
35
<PAGE>
returns based upon this index. The Company had call options with a carrying
value of $701.1 million and $535.7 million as of December 31, 1999 and 1998,
respectively. The Company had futures with a carrying value of $(0.6) million as
of December 31, 1998. The Company had total return swap agreements with a
carrying value of $37.8 million as of December 31, 1999.
There are risks associated with some of the techniques the Company uses to
match its assets and liabilities. The primary risk associated with swap, cap and
call option agreements is counterparty non-performance. The Company believes
that the counterparties to its swap, cap and call option agreements are
financially responsible and that the counterparty risk associated with these
transactions is minimal. Futures contracts trade on organized exchanges and
therefore have minimal credit risk. In addition, swap and cap agreements have
interest rate risk and call options, futures and certain total return swap
agreements have stock market risk. These swap and cap agreements hedge
fixed-rate assets and the Company expects that any interest rate movements that
adversely affect the market value of swap and cap agreements would be offset by
changes in the market values of such fixed rate assets. However, there can be no
assurance that these hedges will be effective in offsetting the potential
adverse effects of changes in interest rates. Similarly, the call options,
futures and certain total return swap agreements hedge the Company's obligations
to provide returns on equity-indexed annuities and certain separate account
liabilities based upon the S&P 500 Index, and the Company believes that any
stock market movements that adversely affect the market value of S&P 500 Index
call options, futures and certain total return swap agreements would be
substantially offset by a reduction in policyholder and certain separate account
liabilities. However, there can be no assurance that these hedges will be
effective in offsetting the potentially adverse effects of changes in S&P 500
Index levels. The Company's profitability could be adversely affected if the
value of its swap and cap agreements increase less than (or decrease more than)
the change in the market value of its fixed rate assets and/or if the value of
its S&P 500 Index call options, futures and certain total return swap agreements
increase less than (or decrease more than) the value of the guarantees made to
equity-indexed and certain separate account policyholders.
In June 1998, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 133 "Accounting for
Derivative Instruments and Hedging Activities." This statement standardizes the
accounting for derivative instruments and the derivative portion of certain
other contracts that have similar characteristics by requiring that an entity
recognize those instruments on the balance sheet at fair value. This statement
also requires a new method of accounting for hedging transactions, prescribes
the type of items and transactions that may be hedged, and specifies detailed
criteria to be met to qualify for hedge accounting. In June 1999, the FASB
issued SFAS No. 137 "Accounting for Derivative Instruments and Hedging
Activities - Deferral of the Effective Date of FASB Statement No. 133." SFAS No.
137 defers the effective date of SFAS No. 133 until fiscal years beginning after
June 15, 2000. Upon adoption, the Company will be required to record a
cumulative effect adjustment to reflect this accounting change. At this time,
the Company has not completed its analysis and evaluation of the requirements
and impact of this statement.
Liquidity
The Company is a holding company whose liquidity needs include the following:
(i) operating expenses; (ii) debt service; (iii) dividends on preferred stock
and common stock; (iv) acquisitions; and (v) working capital where needed by its
operating subsidiaries. The Company's principal sources of cash are dividends
from its operating subsidiaries, and, in the case of funding for acquisitions
and certain long-term capital needs of its subsidiaries, long-term borrowings
and offerings of preferred and common stock. In connection with the Crabbe Huson
acquisition, the Company entered into a $100.0 million revolving credit facility
with a commercial bank (the "Bridge Facility"). The Bridge Facility matured on
March
36 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
30, 1999 and bore interest at a per annum rate equal to LIBOR plus
twenty-five basis points. The Company borrowed $90.0 million under the Bridge
Facility to finance the acquisition of Crabbe Huson. In November 1998, the
Company issued $450.0 million of senior debt securities. The offering
consisted of $300.0 million of 6 3/4% 10-year notes due November 15, 2008 and
$150.0 million of 7 5/8% 30-year debentures due November 15, 2028. The
proceeds were utilized to repay the $90.0 million borrowed under the Bridge
Facility, to repay notes payable to affiliates of $229.0 million and for
general corporate purposes.
The Company also has a $150.0 million revolving credit facility (the
"Facility") which is utilized to finance sales commissions paid in connection
with the distribution of mutual fund shares sold with 12b-1 distribution fees
and contingent deferred sales charges. The Facility was established in April
1999 and replaced a $60.0 million revolving credit facility which was used for
the same purpose. This five year Facility is secured by such 12b-1 distribution
fees and contingent deferred sales charges. Interest accrues on the outstanding
borrowings under the Facility at a rate determined by sales of highly rated
commercial paper backed in part by the security interest in such fees and
charges. At December 31, 1999, the interest paid on borrowings under the
Facility was at the rate of 6.13% per annum.
Current Rhode Island insurance law applicable to Keyport permits the
payment of dividends or distributions, which, together with dividends and
distributions paid during the preceding 12 months, do not exceed the lesser of
(i) 10% of Keyport's statutory surplus as of the preceding December 31 or (ii)
Keyport's statutory net gain from operations for the preceding fiscal year. Any
proposed dividend in excess of this amount is called an "extraordinary dividend"
and may not be paid until it is approved by the Commissioner of Insurance of the
State of Rhode Island. As of December 31, 1999, the amount of dividends that
Keyport could pay without such approval was $57.8 million. Keyport paid
dividends totaling $30.0 million during 1999. Future regulatory changes and
credit agreements may create additional limitations on the ability of the
Company's subsidiaries to pay dividends.
Based upon the historical cash flow of the Company, the Company's current
financial condition and the Company's expectation that there will not be a
material adverse change in the results of operations of the Company and its
subsidiaries during the next twelve months, the Company believes that cash flow
provided by operating activities over this period will provide sufficient
liquidity for the Company to meet its working capital, capital investment and
other operational cash needs, its debt service obligations, its obligations to
pay dividends on the preferred stock and its intentions to pay dividends on the
common stock. The Company may require external sources of liquidity in order to
finance material acquisitions where the purchase price is not paid in equity.
Each of the Company's business segments has its own liquidity needs and
financial resources. In the Company's annuity insurance operations, liquidity
needs and financial resources pertain to the management of the general account
assets and policyholder balances. In the Company's asset management business,
liquidity needs and financial resources pertain to the investment management and
distribution of mutual funds, private capital management and institutional
accounts. The Company expects that, based upon their historical cash flow and
current prospects, these operating subsidiaries will be able to meet their
liquidity needs from internal sources and, in the case of LFG, from its credit
facility used to finance sales of mutual fund shares sold with 12b-1
distribution fees and contingent deferred sales charges.
Keyport uses cash for the payment of annuity and life insurance benefits,
operating expenses and policy acquisition costs, and the purchase of
investments. Keyport generates cash from annuity premiums and deposits, net
investment income, and from the sales and maturities of fixed investments.
Annuity premiums, maturing investments and net investment income have
historically been sufficient to meet Keyport's cash requirements. Keyport
monitors cash and cash
37
<PAGE>
equivalents in an effort to maintain sufficient liquidity and has strategies in
place to maintain sufficient liquidity in changing interest rate environments.
Consistent with the nature of its obligations, Keyport has invested a
substantial amount of its general account assets in readily marketable
securities. As of December 31, 1999, $10.3 billion, or 75.6%, of Keyport's
general account investments are considered readily marketable.
To the extent that unanticipated surrenders cause Keyport to sell for
liquidity purposes a material amount of securities prior to their maturity, such
surrenders could have a material adverse effect on the Company. Although no
assurances can be given, Keyport believes that liquidity to fund anticipated
withdrawals would be available through incoming cash flow and the sale of
short-term or floating-rate instruments, thereby precluding the sale of fixed
maturity investments in a potentially unfavorable market. In addition, the
Company's fixed-rate products incorporate surrender charges to encourage
persistency and to make the cost of its policyholder balances more predictable.
Approximately 76.0% of the Company's fixed annuity policyholder balances were
subject to surrender charges or restrictions as of December 31, 1999.
Year 2000
The Year 2000 issue relates to computer programs that use two digits to identify
a year in the date field and therefore may not be able to correctly process
dates after December 31, 1999. As the Company relies significantly on computer
systems and applications in its operations, it completed a remediation plan that
included repairing or replacing programs that were identified as not being Year
2000 compliant. As a result, the Company did not experience any significant Year
2000 problems with respect to computer systems, application programs, and
non-information technology systems. In addition, the Company did not experience
any significant disruptions related to interactions with third parties. The
Company is continuing to closely monitor critical systems and applications to
ensure that no unexpected Year 2000 issues develop. There can be no assurance
that there will be no such issues.
During 1999, the external cost of the Year 2000 project was approximately
$1.9 million, which was primarily related to consultants and replacement
hardware and software. Such external costs for 1998 were approximately $2.5
million. The Company has not segregated payroll or other internal costs
specifically devoted to its efforts to address Year 2000 issues. The costs of
the Year 2000 project have been funded through operating cash flows and have
been expensed as incurred. In the opinion of management, any additional costs of
addressing the Year 2000 issue are not expected to have a material adverse
effect on the Company's financial condition or its results of operations.
Effects of Inflation
Inflation has not had a material effect on the Company's consolidated results of
operations to date. The Company manages its investment portfolio in part to
reduce its exposure to interest rate fluctuations. In general, the market value
of the Company's fixed maturity portfolio increases or decreases in inverse
relationship with fluctuations in interest rates, and the Company's net
investment income increases or decreases in direct relationship with interest
rate changes. For example, if interest rates decline, the Company's fixed
maturity investments generally will increase in market value, while net
investment income will decrease as fixed maturity investments mature or are sold
and the proceeds are reinvested at reduced rates. Inflation may result in
increased operating expenses that may not be readily recoverable in the prices
of the services charged by the Company.
Forward-Looking Statements
The Company desires to take advantage of the "safe harbor" provisions of the
Private Securities Litigation Reform Act of 1995 (the "Reform Act"). Investors
are cautioned that all statements, trend analyses and other information
contained
38 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
in this report or in any of the Company's filings under Section 13 or 15 (d) of
the Securities Exchange Act of 1934 (the "Exchange Act"), relative to the
markets for the Company's products and trends in the Company's operations or
financial results, as well as other statements including words such as
"anticipate", "believe", "plan", "estimate", "expect", "intend" and other
similar expressions, constitute forward-looking statements under the Reform Act.
These forward-looking statements are subject to known and unknown risks,
uncertainties and other factors, many of which are beyond the Company's control,
that may cause actual results to be materially different from those contemplated
by the forward-looking statements. Such factors include, among other things: (1)
general economic conditions and market factors, such as prevailing interest rate
levels, stock market performance and fluctuations in the market for
retirement-oriented savings products and investment management products, which
may adversely affect the ability of the Company to sell its products and
services and the market value of the Company's investments and assets under
management and, therefore, the portion of its revenues that are based on a
percentage of assets under management; (2) the Company's ability to manage
effectively its investment spread (i.e. the amount by which investment income
exceeds interest credited to annuity and life insurance policyholders) as a
result of changes in interest rates and crediting rates to policyholders, market
conditions and other factors (the Company's results of operations and financial
condition are significantly dependent on the Company's ability to manage
effectively its investment spread); (3) levels of surrenders, withdrawals and
net redemptions of the Company's retirement-oriented insurance products and
investment management products; (4) relationships with investment management
clients, including levels of assets under management; (5) the ability of the
Company to manage effectively certain risks with respect to its investment
portfolio, including risks relating to holding below investment grade securities
and the ability to dispose of illiquid and/or restricted securities at desired
times and prices, and the ability to manage and hedge against interest rate
changes through asset/liability management techniques; (6) competition in the
sale of the Company's products and services, including the Company's ability to
establish and maintain relationships with distributors of its products; (7)
changes in financial ratings of Keyport or those of its competitors; (8) the
Company's ability to attract and retain key employees, including senior
officers, portfolio managers and sales executives; (9) the impact of and
compliance by the Company with existing and future regulation, including
restrictions on the ability of certain subsidiaries to pay dividends and any
obligations of the Company under any guaranty fund assessment laws; (10) changes
in applicable tax laws which may affect the relative tax advantages and
attractiveness of some of the Company's products; (11) the result of any
litigation or legal proceedings involving the Company; (12) changes in generally
accepted accounting principles and the impact of accounting principles and
pronouncements on the Company's financial condition and results of operations;
(13) changes in the Company's senior debt ratings; and (14) the other risk
factors or uncertainties contained from time to time in any document
incorporated by reference in this report or otherwise filed by the Company under
the Exchange Act. Given these uncertainties, prospective investors are cautioned
not to place undue reliance on such forward-looking statements and no assurances
can be given that the estimates and expectations reflected in such statements
will be achieved.
39
<PAGE>
- --------------------------------------------------------------------------------
CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Consolidated Balance Sheets
($ in millions)
<TABLE>
<CAPTION>
December 31 1999 1998
- ---------------------------------------------------------------------------------------------------
<S> <C> <C>
Assets
Assets:
Investments $12,195.1 $12,598.3
Cash and cash equivalents 1,232.6 984.1
Accrued investment income 162.0 161.0
Deferred policy acquisition costs 739.2 407.6
Deferred distribution costs 153.7 130.2
Intangible assets 282.0 292.8
Other assets 244.8 179.6
Separate account assets 3,363.1 1,765.5
- ---------------------------------------------------------------------------------------------------
$18,372.5 $16,519.1
===================================================================================================
Liabilities and Stockholders' Equity
Liabilities:
Policyholder balances $12,109.6 $12,504.1
Notes payable 552.0 486.4
Payable for investments purchased and loaned 754.9 240.4
Other liabilities 453.1 278.4
Separate account liabilities 3,301.0 1,723.2
- ---------------------------------------------------------------------------------------------------
Total liabilities 17,170.6 15,232.5
- ---------------------------------------------------------------------------------------------------
Series A redeemable convertible preferred stock, par value $.01;
authorized, issued and outstanding 324,759 shares in 1999 and 1998 16.0 15.3
- ---------------------------------------------------------------------------------------------------
Stockholders' Equity:
Common stock, $.01 par value, authorized 100,000,000
shares; issued and outstanding 47,462,995 shares
in 1999 and 46,384,015 shares in 1998 0.5 0.5
Additional paid-in capital 923.0 901.5
Retained earnings 425.2 346.4
Accumulated other comprehensive income (loss) (158.1) 27.2
Unearned compensation (4.7) (4.3)
- ---------------------------------------------------------------------------------------------------
Total stockholders' equity 1,185.9 1,271.3
- ---------------------------------------------------------------------------------------------------
$18,372.5 $16,519.1
===================================================================================================
</TABLE>
See accompanying notes to consolidated financial statements.
40 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
Consolidated Income Statements
(in millions, except per share data)
<TABLE>
<CAPTION>
Year Ended December 31 1999 1998 1997
- ---------------------------------------------------------------------------------
<S> <C> <C> <C>
Investment income $ 810.3 $ 820.9 $ 853.1
Interest credited to policyholders (526.6) (562.2) (594.1)
- ---------------------------------------------------------------------------------
Investment spread 283.7 258.7 259.0
- ---------------------------------------------------------------------------------
Net realized investment gains (losses) (42.2) 2.4 25.9
- ---------------------------------------------------------------------------------
Fee income:
Investment advisory and administrative fees 268.5 237.7 217.9
Distribution and service fees 60.4 52.7 49.2
Transfer agency fees 51.7 49.0 47.7
Surrender charges and net commissions 36.5 33.7 36.1
Separate account fees 33.5 20.6 17.1
- ---------------------------------------------------------------------------------
Total fee income 450.6 393.7 368.0
- ---------------------------------------------------------------------------------
Expenses:
Operating expenses (360.4) (328.2) (309.7)
Amortization of deferred policy acquisition costs (97.4) (77.4) (86.4)
Amortization of deferred distribution costs (40.3) (40.1) (34.2)
Amortization of intangible assets (20.3) (15.3) (13.5)
Interest expense, net (19.3) (14.9) (17.0)
- ---------------------------------------------------------------------------------
Total expenses (537.7) (475.9) (460.8)
- ---------------------------------------------------------------------------------
Pretax income 154.4 178.9 192.1
Income tax expense (55.1) (54.4) (62.6)
- ---------------------------------------------------------------------------------
Income before extraordinary item 99.3 124.5 129.5
Extraordinary loss on extinguishment of debt -- (9.7) --
- ---------------------------------------------------------------------------------
Net income $ 99.3 $ 114.8 $ 129.5
=================================================================================
Net income per share - basic:
Income before extraordinary item $ 2.11 $ 2.72 $ 2.94
=================================================================================
Net income $ 2.11 $ 2.51 $ 2.94
=================================================================================
Net income per share - assuming dilution:
Income before extraordinary item $ 2.07 $ 2.63 $ 2.77
=================================================================================
Net income $ 2.07 $ 2.42 $ 2.77
=================================================================================
</TABLE>
See accompanying notes to consolidated financial statements.
41
<PAGE>
Consolidated Statements of Stockholders' Equity
(in millions)
<TABLE>
<CAPTION>
Accumulated
Additional Other Total
Common Paid-In Retained Comprehensive Unearned Stockholders'
Stock Capital Earnings Income (Loss) Compensation Equity
- -------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1996 $ 0.3 $ 835.3 $ 141.4 $ 74.4 $ -- $ 1,051.4
---------
Comprehensive income:
Net income 129.5 129.5
Other comprehensive income, net
of taxes:
Net unrealized gains on securities 8.6 8.6
---------
Total comprehensive income 138.1
---------
3 for 2 common stock split effected in the
form of a 50 percent stock dividend 0.1 (0.1) --
Common stock issued for acquisition 2.5 2.5
Effect of stock-based compensation plans 14.8 (2.2) 12.6
Accretion to face value of preferred stock (0.8) (0.8)
Common stock dividends 13.6 (17.6) (4.0)
Preferred stock dividends (0.9) (0.9)
- -------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1997 0.4 866.2 251.5 83.0 (2.2) 1,198.9
---------
Comprehensive income:
Net income 114.8 114.8
Other comprehensive income, net of taxes:
Net unrealized losses on securities (55.8) (55.8)
---------
Total comprehensive income 59.0
---------
Common stock issued for acquisition 8.9 8.9
Effect of stock-based compensation plans 0.1 13.2 (2.1) 11.2
Accretion to face value of preferred stock (0.8) (0.8)
Common stock dividends 13.2 (18.2) (5.0)
Preferred stock dividends (0.9) (0.9)
- -------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1998 0.5 901.5 346.4 27.2 (4.3) 1271.3
Comprehensive loss:
Net income 99.3 99.3
Other comprehensive loss, net of taxes:
Net unrealized losses on securities (185.3) (185.3)
---------
Total comprehensive loss (86.0)
---------
Effect of stock-based compensation plans 8.1 (0.4) 7.7
Accretion to face value of preferred stock (0.8) (0.8)
Common stock dividends 13.4 (18.8) (5.4)
Preferred stock dividends (0.9) (0.9)
- -------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1999 $ 0.5 $ 923.0 $ 425.2 $ (158.1) $ (4.7) $1,185.9
===============================================================================================================================
</TABLE>
See accompanying notes to consolidated financial statements.
42 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
Consolidated Statements of Cash Flows
(in millions)
<TABLE>
<CAPTION>
Year Ended December 31 1999 1998 1997
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income $ 99.3 $ 114.8 $ 129.5
Adjustments to reconcile net income to net cash provided by operating activities:
Extraordinary loss on extinguishment of debt, net of tax -- 9.7 --
Depreciation and amortization 77.4 81.6 74.4
Interest credited to policyholders 526.6 562.2 594.1
Net realized investment (gains) losses 42.2 (2.4) (25.9)
Net amortization on investments 79.5 75.4 29.9
Change in deferred policy acquisition costs (17.4) (24.2) 1.4
Change in current and deferred income taxes 62.9 (3.8) 71.9
Net change in other assets and liabilities (114.9) (124.6) (19.9)
- -----------------------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 755.6 688.7 855.4
- -----------------------------------------------------------------------------------------------------------------------------------
Cash flows from investing activities:
Investments purchased available for sale (4,993.3) (6,789.0) (4,548.4)
Investments sold available for sale 4,322.7 5,406.0 2,563.5
Investments matured available for sale 823.2 1,273.5 1,531.6
Increase in policy loans, net (20.7) (24.1) (21.9)
Decrease in mortgage loans, net 43.0 5.5 6.4
Acquisitions, net of cash acquired -- (98.7) --
Other (37.3) (9.7) (73.9)
- -----------------------------------------------------------------------------------------------------------------------------------
Net cash provided by (used in) investing activities 137.6 (236.5) (542.7)
- -----------------------------------------------------------------------------------------------------------------------------------
Cash flows from financing activities:
Withdrawals from policyholder accounts (2,108.9) (1,690.0) (1,320.8)
Deposits to policyholder accounts 894.4 1,225.0 950.5
Securities lending 505.0 (510.6) 495.2
Repayment of notes payable to affiliates -- (244.0) --
Change in notes payable 65.6 459.9 (26.0)
Exercise of stock options 5.5 7.4 7.6
Dividends paid (6.3) (5.9) (4.9)
- -----------------------------------------------------------------------------------------------------------------------------------
Net cash (used in) provided by financing activities (644.7) (758.2) 101.6
- -----------------------------------------------------------------------------------------------------------------------------------
Increase (decrease) in cash and cash equivalents 248.5 (306.0) 414.3
Cash and cash equivalents at beginning of year 984.1 1,290.1 875.8
- -----------------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at end of year $1,232.6 $ 984.1 $1,290.1
===================================================================================================================================
</TABLE>
Noncash Financing Activities: Noncash financing activities relate to dividends
paid in common stock, primarily to an affiliate of Liberty Mutual, in the amount
of $13.4 million, $13.2 million and $13.6 million in 1999, 1998 and 1997,
respectively, pursuant to the Company's dividend reinvestment plan.
See accompanying notes to consolidated financial statements.
43
<PAGE>
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
1. Accounting Policies
Organization
Liberty Financial Companies, Inc. (the "Company") is an asset accumulation and
management company providing investment management products and
retirement-oriented insurance products through multiple distribution channels.
The Company is a majority owned indirect subsidiary of Liberty Mutual
Insurance Company ("Liberty Mutual").
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and
its subsidiaries, including Colonial Management Associates, Inc. ("Colonial"),
Independent Holdings, Inc. ("Independent"), Keyport Life Insurance Company
("Keyport"), Liberty Asset Management Company ("LAMCO"), Liberty Funds Group LLC
("LFG"), Newport Pacific Management, Inc. ("Newport"), Stein Roe & Farnham
Incorporated ("Stein Roe"), and, from the date of acquisition: Crabbe Huson
Group, Inc. ("Crabbe Huson") and Progress Investment Management Company
("Progress"). All significant intercompany balances and transactions have been
eliminated. Certain prior year amounts have been reclassified to conform to the
current year's presentation.
Use of Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the financial statements and accompanying notes.
Actual results could differ from those estimates.
Investments
Investments in debt and equity securities classified as available for sale are
carried at fair value, and unrealized gains and losses (net of adjustments to
deferred policy acquisition costs and income taxes) are reported as a separate
component of stockholders' equity. The cost basis of securities is adjusted for
declines in value that are determined to be other than temporary. Realized
investment gains and losses are calculated on a first-in, first-out basis, net
of adjustment for amortization of deferred policy acquisition costs.
For the mortgage-backed bond portion of the fixed maturity investment
portfolio, the Company recognizes income using a constant effective yield based
on anticipated prepayments over the estimated economic life of the security.
When actual prepayments differ significantly from anticipated prepayments, the
effective yield is recalculated to reflect actual payments to date and
anticipated future payments; and any resulting adjustment is included in
investment income.
Mortgage loans are carried at amortized cost. Policy loans are carried at
the unpaid principal balances plus accrued interest. Partnerships are generally
accounted for by using the equity method of accounting. Partnership investments
totaled $180.7 million and $126.8 million at December 31, 1999 and 1998,
respectively.
Derivatives
The Company uses interest rate swap and cap agreements to manage its interest
rate risk and call options and futures on the Standard & Poor's 500 Composite
Stock Price Index ("S&P 500 Index") to hedge its obligations to provide returns
based upon this index.
The Company utilizes interest rate swap agreements ("swap agreements") and
interest rate cap agreements ("cap agreements") to match assets more closely to
liabilities. Swap agreements are agreements to exchange with a counterparty
interest rate payments of differing character (e.g., fixed-rate payments
exchanged for variable-rate payments) based on an
44 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
underlying principal balance (notional principal) to hedge against interest rate
changes. The Company currently utilizes swap agreements to reduce asset duration
and to better match interest rates earned on longer-term fixed rate assets with
interest rates credited to policyholders. The Company also utilizes total return
swap agreements to hedge its obligations related to certain separate account
liabilities. A total return swap agreement is an agreement to exchange payments
based upon an underlying notional balance and changes in variable rate and total
return indices.
Cap agreements are agreements with a counterparty which require the payment
of a premium for the right to receive payments for the difference between the
cap interest rate and a market interest rate on specified future dates based on
an underlying principal balance (notional principal) to hedge against rising
interest rates.
Hedge accounting is applied after the Company determines that the items to
be hedged expose it to interest rate or price risk, designates the instruments
as hedges and assesses whether the instruments reduce the indicated risks
through the measurement of changes in the value of the instruments and the items
being hedged at both inception and throughout the hedge period. From time to
time, interest rate swap agreements, cap agreements, call options and futures
are terminated. If the terminated position was accounted for as a hedge,
realized gains or losses are deferred and amortized over the remaining lives of
the hedged assets or liabilities. Conversely, if the terminated position was not
accounted for as a hedge, or the assets and liabilities that were hedged no
longer exist, the position is "marked to market" and realized gains or losses
are immediately recognized in income.
The net differential to be paid or received on interest rate swap
agreements is recognized as a component of net investment income. The net
differential to be paid or received on total return swap agreements is
recognized as a component of separate account fees. Premiums paid for interest
rate cap agreements are deferred and amortized to net investment income on a
straight-line basis over the terms of the agreements. The unamortized premium is
included in other invested assets. Amounts earned on interest rate cap
agreements are recorded as an adjustment to net investment income. Interest rate
swap agreements and cap agreements hedging investments designated as available
for sale are adjusted to fair value with the resulting unrealized gains and
losses included in stockholders' equity. Total return swap agreements hedging
certain separate account liabilities are adjusted to fair value with the
resulting unrealized gains and losses included in stockholders' equity.
Premiums paid on call options are amortized to net investment income over
the terms of the contracts. The call options are included in other invested
assets and are carried at amortized cost plus intrinsic value, if any, of the
call options as of the valuation date. Changes in intrinsic value of the call
options are recorded as an adjustment to interest credited to policyholders.
Futures are carried at fair value and require daily cash settlement. Changes in
the fair value of futures that qualify as hedges are deferred and recognized as
an adjustment to the hedged asset or liability. Call options and futures that do
not qualify as hedges are carried at fair value; changes in value are
immediately recognized in income.
In June 1998, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 133 "Accounting for
Derivative Instruments and Hedging Activities." This statement standardizes the
accounting for derivative instruments and the derivative portion of certain
other contracts that have similar characteristics by requiring that an entity
recognize those instruments on the balance sheet at fair value. This statement
also requires a new method of accounting for hedging transactions, prescribes
the type of items and transactions that may be hedged, and specifies detailed
criteria to be met to qualify for hedge accounting. In June 1999, the FASB
issued SFAS No. 137 "Accounting for Derivative Instruments and Hedging
Activities - Deferral of the Effective Date of FASB Statement No. 133." SFAS No.
137 defers the effective date of SFAS No. 133 until fiscal years beginning after
June 15, 2000. Upon adoption, the Company will be required to record a
cumulative effect adjustment to reflect this
45
<PAGE>
accounting change. At this time, the Company has not completed its analysis and
evaluation of the requirements and impact of this statement.
Fee Income
Fees from asset management and investment advisory services and from transfer
agent, bookkeeping, 12b-1 distribution and service fees are recognized as
revenues when services are provided. Revenues from fixed and variable annuities
and single premium whole life policies include mortality charges, surrender
charges, policy fees and contract fees and are recognized when earned under the
respective contracts. Net commission revenue is recognized on the trade date.
Deferred Policy Acquisition Costs
Policy acquisition costs are the costs of acquiring new business which vary
with, and are primarily related to, the production of new annuity business. Such
costs include commissions, costs of policy issuance and underwriting and selling
expenses. These costs are deferred and amortized in relation to the present
value of estimated gross profits from mortality, investment spread and expense
margins. Deferred policy acquisition costs are adjusted for amounts relating to
unrealized gains and losses on fixed maturity securities the Company has
designated as available for sale. This adjustment, net of tax, is included with
the change in net unrealized investment gains or losses that is credited or
charged directly to stockholders' equity. Deferred policy acquisition costs were
increased by $235.7 million at December 31, 1999 and decreased by $66.3 million
at December 31, 1998, relating to this adjustment.
Deferred Distribution Costs
Sales commissions and other direct distribution costs related to the sale of
Company-sponsored intermediary-distributed mutual funds which charge 12b-1
distribution fees and contingent deferred sales commissions are recorded as
deferred distribution costs. Amortization is provided on a straight-line basis
over periods up to six years to match the estimated period in which the
associated fees will be earned. Contingent deferred sales charges (back-end
loads) received are applied to deferred distribution costs to the extent of the
estimated unamortized portion of such costs, with the remainder recognized as
additional distribution fee income.
Intangible Assets
Intangible assets consist of goodwill and certain identifiable intangible assets
arising from business combinations accounted for as a purchase. Amortization is
provided on a straight-line basis over estimated lives of the acquired
intangibles which range from 5 to 30 years. The Company evaluates the carrying
value of goodwill and other intangible assets when events or changes in
circumstances indicate that the carrying amount of the assets might not be
recoverable. Any impairments would be recognized when the expected future cash
flows derived from such goodwill and other intangible assets are less than their
carrying value.
Separate Account Assets and Liabilities
The assets and liabilities resulting from variable annuities, variable life
policies and certain separate institutional accounts are segregated in separate
accounts. Separate account assets consist principally of investments in mutual
funds and fixed maturities and are carried at fair value. Investment income and
changes in mutual fund asset values are allocated to the policyholders, and
therefore, do not affect the operating results of the Company. The Company earns
separate account fees for providing administrative services and bearing the
mortality risk related to these contracts. The difference between investment
income and interest credited on the institutional accounts is reported as
separate account fee income. Keyport
46 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
also classified as separate account assets investments in Company-sponsored
mutual funds and other investments of $62.2 million and $42.3 million at
December 31, 1999 and 1998, respectively.
Policyholder Balances
Policyholder balances consist of deposits received plus interest credited, less
accumulated policyholder charges, assessments, and withdrawals related to
deferred annuities and single premium whole life policies. Policy benefits that
are charged to expense include benefit claims incurred in the period in excess
of related policy account balances.
Stock Options
The Company has elected to follow Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" ("APB 25") and related
interpretations in accounting for its employee stock options. Under APB 25,
because the exercise price of the Company's employee stock options equals the
market price of the underlying stock on the date of grant, no compensation
expense is recognized.
Income Taxes
Effective July 18, 1997, the Company and its non-life insurance subsidiaries
file a consolidated federal income tax return and the Company's life insurance
subsidiaries file separate life company returns. Prior to July 18, 1997, the
Company was included in the consolidated federal income tax return filed by
Liberty Mutual. Income taxes have been provided using the liability method in
accordance with Statement of Financial Accounting Standards No. 109, "Accounting
for Income Taxes," and, for periods prior to July 18, 1997, were calculated as
if the Company filed its own consolidated income tax return.
Earnings Per Share
Basic earnings per share is calculated using income available to common
shareholders divided by the weighted average of common shares outstanding during
the year. Diluted earnings per share is similar to basic earnings per share
except that the weighted average of common shares outstanding is increased to
include the number of additional common shares that would have been outstanding
if the dilutive potential common shares had been issued.
Cash Equivalents
Short-term investments having an original maturity of three months or less are
classified as cash equivalents.
2. ACQUISITIONS
On August 31, 1998, the Company acquired certain assets and assumed certain
liabilities of Progress Investment Management Company, a registered investment
adviser to institutional accounts with approximately $2.1 billion in assets
under management as of that date. On September 30, 1998, the Company acquired
certain assets and assumed certain liabilities of The Crabbe Huson Group, Inc.,
a registered investment adviser with approximately $3.3 billion in assets under
management as of that date. The combined purchase price for these transactions
totaled approximately $104.0 million, $95.1 million in cash and $8.9 million in
the Company's common stock. In addition, the Company has agreed to pay
additional cash and common stock over four years, contingent upon the attainment
of certain earnings objectives. In 1999, the Company paid $4.0 million of such
contingent payments. An additional $67.5 million can be paid as contingent
payments if earnings objectives are attained. These transactions were accounted
for as purchases and resulted in the recording of goodwill and other intangible
assets of approximately $105.6 million.
47
<PAGE>
3. INVESTMENTS
Investments, which largely pertain to the Company's annuity insurance
operations, were comprised of the following (in millions):
December 31 1999 1998
- --------------------------------------------------------------------------------
Fixed maturities $10,516.1 $11,277.2
Equity securities 37.9 24.6
Policy loans 599.5 578.9
Other invested assets 1,041.6 717.6
- --------------------------------------------------------------------------------
$12,195.1 $12,598.3
================================================================================
As of December 31, 1999, the Company did not have a material concentration
of financial instruments in a single investee, industry or geographic location
and no investment in any person or its affiliates (other than bonds issued by
agencies of the United States government) exceeded ten percent of stockholders'
equity.
As of December 31, 1999, $1.2 billion of fixed maturities were below
investment grade. These securities represented 8.9% of general account
investments, including cash and cash equivalents in the Company's annuity
operations, and certain separate account assets.
Fixed Maturities
The amortized cost, gross unrealized gains and losses and fair value of fixed
maturity securities are as follows (in millions):
<TABLE>
<CAPTION>
Gross Gross
Amortized Unrealized Unrealized Fair
December 31, 1999 Cost Gains Losses Value
- -----------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
U.S. Treasury securities $ 70.0 $ 4.2 $ (5.0) $ 69.2
Mortgage backed securities of U.S. government
corporations and agencies 1,166.5 15.6 (29.5) 1,152.6
Debt securities issued by foreign governments 169.4 17.8 (9.0) 178.2
Corporate securities 5,274.4 96.9 (283.3) 5,088.0
Other mortgage backed securities 2,325.7 21.8 (94.8) 2,252.7
Asset backed securities 1,794.8 5.9 (67.9) 1,732.8
Senior secured loans 45.6 -- (3.0) 42.6
- -----------------------------------------------------------------------------------------------
Total fixed maturities $10,846.4 $162.2 $(492.5) $10,516.1
===============================================================================================
<CAPTION>
Gross Gross
Amortized Unrealized Unrealized Fair
December 31, 1998 Cost Gains Losses Value
- -----------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
U.S. Treasury securities $ 90.8 $ 3.1 $ (0.2) $ 93.7
Mortgage backed securities of U.S. government
corporations and agencies 940.1 28.4 (2.9) 965.6
Debt securities issued by foreign governments 251.1 9.4 (16.2) 244.3
Corporate securities 5,396.3 185.1 (156.3) 5,425.1
Other mortgage backed securities 2,286.6 65.1 (19.5) 2,332.2
Asset backed securities 1,942.0 25.9 (16.5) 1,951.4
Senior secured loans 267.8 1.2 (4.1) 264.9
- -----------------------------------------------------------------------------------------------
Total fixed maturities $11,174.7 $318.2 $(215.7) $11,277.2
===============================================================================================
</TABLE>
48 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
At December 31, 1999 and 1998, gross unrealized gains on equity securities,
interest rate cap agreements, investments in separate accounts and other
invested assets aggregated $32.4 million and $7.8 million, and gross unrealized
losses aggregated $11.1 million and $3.6 million, respectively.
Deferred tax liabilities for the Company's unrealized investment gains and
losses included in stockholders' equity, net of adjustments to deferred policy
acquisition costs, were $84.8 million and $14.1 million at December 31, 1999 and
1998, respectively.
The change in net unrealized gains (losses) on securities included in other
comprehensive income in 1999, 1998 and 1997 include: gross unrealized gains
(losses) on securities of $(470.2) million, $(182.1) million and $73.7 million,
respectively; reclassification adjustments for realized (gains) losses in net
income of $53.5 million, $3.6 million and $(31.3) million, respectively; and
adjustments to deferred policy acquisition costs of $302.2 million, $92.5
million and $(29.1) million, respectively. The above amounts are shown before
income tax expense (benefit) of $70.7 million, $(30.2) million and $4.7 million,
respectively. The 1999 income tax expense of $70.7 million includes a valuation
allowance of $109.9 million related to the Company's unrealized capital losses
on available for sale securities.
Contractual Maturities
The amortized cost and estimated fair value of fixed maturities by contractual
maturity as of December 31, 1999 are as follows (in millions):
Amortized Fair
December 31, 1999 Cost Value
- --------------------------------------------------------------------------------
Due in one year or less $ 164.9 $ 162.6
Due after one year through five years 1,836.7 1,823.2
Due after five years through ten years 2,164.2 2,094.6
Due after ten years 1,393.6 1,297.6
- --------------------------------------------------------------------------------
5,559.4 5,378.0
Mortgage and asset backed securities 5,287.0 5,138.1
- --------------------------------------------------------------------------------
$10,846.4 $10,516.1
================================================================================
Actual maturities may differ from those shown above because borrowers may have
the right to call or prepay obligations.
Net Investment Income
Net investment income is summarized as follows (in millions):
Year Ended December 31 1999 1998 1997
- -------------------------------------------------------------------------------
Fixed maturities $ 814.7 $ 810.5 $ 811.7
Equity securities 1.5 4.4 5.4
Policy loans 36.3 33.2 32.2
Other invested assets 28.4 18.2 27.8
Cash and cash equivalents 20.8 38.3 34.5
- -------------------------------------------------------------------------------
Gross investment income 901.7 904.6 911.6
Investment expenses (14.2) (11.6) (9.2)
Amortization of call options and interest rate caps (77.2) (72.1) (49.3)
- -------------------------------------------------------------------------------
Net investment income $ 810.3 $ 820.9 $ 853.1
===============================================================================
49
<PAGE>
As of December 31, 1999 and 1998, the carrying value of fixed maturity
investments that were non-income producing was $22.6 million and $30.0 million,
respectively.
Net Realized Investment Gains (Losses)
Net realized investment gains (losses) primarily relate to the Company's fixed
maturity investments. Gross realized gains were $48.1 million, $88.5 million and
$51.6 million for 1999, 1998 and 1997, respectively. Gross realized losses were
$102.3 million, $90.4 million and $19.2 million for 1999, 1998 and 1997,
respectively. Gross realized losses in 1999 and gross realized gains in 1998
included $18.3 million and $28.3 million, respectively, for certain fixed
maturity investments where the decline in value was determined to be other than
temporary. Net realized investment gains (losses) are net of adjustments to the
amortization of deferred policy acquisition costs.
4. DERIVATIVES
Outstanding derivatives are as follows (in millions):
<TABLE>
<CAPTION>
Assets (Liabilities)
--------------------------------------
1999 1998
--------------------------------------
Notional Amounts
------------------ Carrying Fair Carrying Fair
December 31 1999 1998 Value Value Value Value
- ------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Interest rate swap agreements $2,917.3 $2,369.0 $ 41.4 $ 41.4 $(71.2) $(71.2)
Total return swap agreements 500.0 -- 37.8 36.3 -- --
Interest rate cap agreements 50.0 250.0 -- -- -- --
S&P 500 Index call options -- -- 701.1 803.1 535.7 607.0
S&P 500 Index futures -- -- -- -- (0.6) (0.6)
================================================================================================
</TABLE>
The interest rate and total return swap agreements expire in 2000 through 2029.
The interest rate cap agreement expires in 2000. The S&P 500 call options and
futures maturities range from 2000 to 2006.
The Company currently utilizes interest rate swap agreements to reduce
asset duration and to better match interest rates earned on longer-term fixed
rate assets with interest credited to policyholders. The Company utilizes total
return swap agreements to hedge its obligations related to certain separate
account liabilities. Cap agreements are used to hedge against rising interest
rates. With respect to the Company's equity-indexed annuities and certain
separate account liabilities, the Company buys call options, futures and certain
total return swap agreements on the S&P 500 Index to hedge its obligations to
provide returns based upon this index. At December 31, 1999 and 1998, the
Company had approximately $128.7 million and $156.4 million, respectively, of
unamortized premium in call option contracts.
Fair values for swap and cap agreements are based on current settlement
values. The current settlement values are based on quoted market prices and
brokerage quotes, which utilize pricing models or formulas using current
assumptions. Fair values for call options and futures are based upon quoted
market prices.
There are risks associated with some of the techniques the Company uses to
match its assets and liabilities. The primary risk associated with swap, cap and
call option agreements is the risk associated with counterparty nonperformance.
The Company believes that the counterparties to its swap, cap and call option
agreements are financially responsible and that the counterparty risk associated
with these transactions is minimal. Futures trade on organized exchanges and,
therefore, have minimal credit risk.
50 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
5. NOTES PAYABLE
Notes payable include the following (in millions):
<TABLE>
<CAPTION>
December 31 1999 1998
- --------------------------------------------------------------------------------------------------------
<S> <C> <C>
6 3/4% notes due 2008, net of unamortized discount of $2.2 million and $2.3 million in
1999 and 1998, respectively, effective rate 6.86% $ 297.8 $ 297.7
7 5/8% debentures due 2028, net of unamortized discount of $0.8 million in 1999 and
1998, effective rate 7.67% 149.2 149.2
Revolving credit facility 105.0 39.5
- --------------------------------------------------------------------------------------------------------
$ 552.0 $ 486.4
========================================================================================================
</TABLE>
In connection with the Crabbe Huson acquisition, the Company entered into a
$100.0 million revolving credit facility with a commercial bank (the "Bridge
Facility"). The Bridge Facility matured on March 30, 1999 and bore interest at a
per annum rate equal to LIBOR plus twenty-five basis points. The Company
borrowed $90.0 million under the Bridge Facility to finance the acquisition of
Crabbe Huson. In November 1998, the Company issued $450.0 million of senior debt
securities. The offering consisted of $300.0 million of 6 3/4% 10-year notes due
November 15, 2008 and $150.0 million of 7 5/8% 30-year debentures due November
15, 2028. The proceeds were utilized to repay the $90.0 million borrowed under
the Bridge Facility and to discharge the Company's existing $229.0 million notes
payable to affiliates. The early extinguishment of the notes payable to
affiliates resulted in an extraordinary charge of $9.7 million, net of a tax
benefit of $5.3 million. The indenture under which the senior notes and
debentures were issued contains covenants which prohibit the Company from
granting a lien on or disposing of the stock of any subsidiary which accounts
for more than 10% of the consolidated revenues or assets of the Company.
The Company also has a $150.0 million revolving credit facility (the
"Facility") which is utilized to finance sales commissions paid in connection
with the distribution of mutual fund shares sold with 12b-1 distribution fees
and contingent deferred sales charges. The Facility was established in April
1999 and replaced a $60.0 million revolving credit facility which was used for
the same purpose. This five year Facility is secured by such 12b-1 distribution
fees and contingent deferred sales charges. Interest accrues on the outstanding
borrowings under the Facility at a rate determined by sales of highly rated
commercial paper backed in part by the security interest in such fees and
charges. At December 31, 1999, the interest paid on borrowings under the
Facility was at the rate of 6.13% per annum.
Interest paid was $36.6 million, $25.5 million and $21.7 million in 1999,
1998 and 1997, respectively.
6. INCOME TAXES
Income tax expense is summarized as follows (in millions):
Year Ended December 31 1999 1998 1997
- -------------------------------------------------------------------------------
Current $ (9.9) $ 10.1 $ (42.0)
Deferred 65.0 44.3 104.6
- -------------------------------------------------------------------------------
$ 55.1 $ 54.4 $ 62.6
===============================================================================
51
<PAGE>
A reconciliation of income tax expense with expected federal income tax expense
computed at the applicable federal income tax rate of 35% is as follows (in
millions):
Year Ended December 31 1999 1998 1997
- -------------------------------------------------------------------------------
Expected income tax expense $ 54.3 $ 62.6 $ 67.3
Increase (decrease) in income taxes resulting from:
Nontaxable investment income (2.2) (2.1) (1.4)
Reduction in deferred tax asset valuation allowance (2.3) (10.6) (10.0)
Amortization of goodwill and other intangible assets 4.2 3.8 3.1
State taxes, net of federal tax benefit 0.4 0.7 1.2
Other, net 0.7 -- 2.4
- -------------------------------------------------------------------------------
Income tax expense $ 55.1 $ 54.4 $ 62.6
===============================================================================
The components of deferred federal income taxes are as follows (in
millions):
December 31 1999 1998
- -------------------------------------------------------------------------------
Deferred tax assets:
Policyholder balances $ 85.2 $ 107.4
Guaranty fund expense 2.1 2.1
Deferred compensation and other benefit plans 18.8 16.2
Net operating loss carryforwards 24.1 25.3
Distribution fees 25.9 18.4
Net unrealized capital losses 111.2 --
Other 7.9 7.4
- -------------------------------------------------------------------------------
Total deferred tax assets 275.2 176.8
Less: valuation allowance (109.9) (2.3)
- -------------------------------------------------------------------------------
Net deferred tax assets 165.3 174.5
- -------------------------------------------------------------------------------
Deferred tax liabilities:
Deferred policy acquisition costs (231.3) (115.8)
Excess of book over tax basis of investments (120.0) (141.0)
Deferred revenue (33.7) (24.0)
Separate account assets (5.8) (0.5)
Amortization of deferred distribution costs (49.0) (35.8)
Other (9.6) (8.6)
- -------------------------------------------------------------------------------
Total deferred tax liabilities (449.4) (325.7)
- -------------------------------------------------------------------------------
Net deferred tax liability $(284.1) $(151.2)
===============================================================================
As of December 31, 1999, the Company had Federal net operating loss
carryforwards related to certain of the Company's non-insurance operations of
$65.3 million. Of this amount, $10.1 million, which expires through 2003, is
limited to use against future profits in a component of the Company's
non-insurance operations. The remaining Federal non-insurance loss carryforwards
of $55.2 million expire through 2019. As of December 31, 1999, the Company also
had $3.2 million of purchased Federal net operating loss carryforwards, which
expire through 2006, relating to an acquisition in its insurance operations.
Utilization of these loss carryforwards is limited to use against future profits
in a
52 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
component of the Company's insurance operations. The Company believes that it is
more likely than not that it will realize the benefit of the deferred tax asset
related to its Federal net operating loss carryforwards. Additionally, as of
December 31, 1999, the Company had state net operating loss carryforwards
related to certain of the Company's non-insurance operations of $5.5 million.
Utilization of these loss carryforwards, which expire through 2008, is limited
to use against future profits of a component of the Company's non-insurance
operations. As a result of certain events occurring in 1999, the Company now
believes that it is more likely than not that it will realize the tax benefit of
the deferred tax asset related to these state net operating loss carryforwards.
As of December 31, 1999, the Company had $313.8 million of unrealized
capital losses related to its insurance operations in its available for sale
portfolio. Under the tax law, utilization of these capital losses, when
realized, is limited to use against future capital gains. The Company believes
that it is not more likely than not that it will realize the benefit of the
deferred tax asset related to these losses and has established a valuation
allowance against the full amount of the tax benefit ($109.9 million) in
stockholders' equity.
Income taxes paid (refunded) were $(6.2) million, $27.6 million and ($4.2)
million in 1999, 1998 and 1997, respectively.
7. REDEEMABLE CONVERTIBLE PREFERRED STOCK
The Series A Redeemable Convertible Preferred Stock, which has a $50 face value,
has an annual cumulative cash dividend rate of $2.875 per share and is
convertible into shares of Company common stock at a rate of 1.58385 for each
share of such preferred stock. The preferred stock is redeemable at the option
of the Company anytime after March 24, 2000 at a declining premium over face
value through March 24, 2005, when the Company must redeem the preferred stock.
The preferred stock may also be put to the Company by the holders of such
preferred stock after March 24, 2000, for a period of sixty days, at face value
plus cumulative unpaid dividends. Each share of preferred stock is entitled to
that number of votes equal to the number of common shares into which it is
convertible. The difference between the face value of the preferred stock and
its fair value at the time of its issuance is added to the carrying value of the
preferred stock ratably over a five year period by a direct charge to retained
earnings.
8. RETIREMENT PLANS
The Company maintains a noncontributory defined benefit pension plan (the
"Plan") covering its employees (except employees of LFG and Stein Roe, who
participate in separate profit sharing plans, and except employees of Crabbe
Huson, Independent, and Progress). It is the Company's practice to fund amounts
for the Plan sufficient to meet the minimum requirements of the Employee
Retirement Income Security Act of 1974. Additional amounts are contributed from
time to time when deemed appropriate by the Company. Under the Plan, all
employees are vested after five years of service. Benefits are based on years of
service, the employee's average pay for the highest five consecutive years
during the last ten years of employment and the employee's estimated social
security retirement benefit. The Company also has an unfunded nonqualified
Supplemental Pension Plan (collectively with the Plan, the "Plans") to replace
benefits lost due to limits imposed on Plan benefits under the Internal Revenue
Code. Plan assets consist of investments in certain Company-sponsored mutual
funds.
53
<PAGE>
The following table sets forth the Plans' funded status (in millions) as of
December 31, 1999 and 1998.
<TABLE>
<CAPTION>
December 31 1999 1998
- -----------------------------------------------------------------------------------
<S> <C> <C>
Change in benefit obligation
Benefit obligation at beginning of year $ 32.8 $ 27.1
Service cost 2.1 1.8
Interest cost 2.4 2.1
Actuarial (gain) loss (4.9) 2.4
Benefits paid (0.9) (0.6)
- -----------------------------------------------------------------------------------
Benefit obligation at end of year $ 31.5 $ 32.8
===================================================================================
Change in plan assets
Fair value of plan assets at beginning of year $ 16.1 $ 14.7
Actual return on plan assets 2.7 1.1
Employer contribution 1.3 0.9
Benefits paid (0.9) (0.6)
- -----------------------------------------------------------------------------------
Fair value of plan assets at end of year $ 19.2 $ 16.1
===================================================================================
Projected benefit obligation in excess of the plans' assets $ 12.3 $ 16.7
Unrecognized net actuarial gain (loss) 2.1 (4.4)
Prior service cost not yet recognized in net periodic pension cost (1.4) (1.8)
- -----------------------------------------------------------------------------------
Accrued pension cost $ 13.0 $ 10.5
===================================================================================
</TABLE>
Pension cost includes the following components (in millions):
Year Ended December 31 1999 1998 1997
- ------------------------------------------------------------------------------
Service cost benefits earned during the period $ 2.1 $ 1.8 $ 1.6
Interest cost on projected benefit obligation 2.4 2.1 1.8
Expected return on plan assets (1.4) (1.2) (1.7)
Net amortization and deferred amounts 0.7 0.4 1.2
- ------------------------------------------------------------------------------
Total net periodic pension cost $ 3.8 $ 3.1 $ 2.9
==============================================================================
The assumptions used to develop the actuarial present value of the projected
benefit obligation, and the expected long-term rate of return on plan assets are
as follows:
Year Ended December 31 1999 1998 1997
- --------------------------------------------------------------------------------
Discount rate 7.75% 6.75% 7.25%
Rate of increase in compensation level 4.50% 4.75% 5.00%
Expected long-term rate of return on assets 9.00% 9.00% 8.50%
The Company provides various other funded and unfunded defined contribution
plans, which include savings and investment plans and supplemental savings
plans. Expenses related to these defined contribution plans totaled $9.3
million, $9.5 million and $8.5 million in 1999, 1998 and 1997, respectively.
54 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
9. STOCKHOLDERS' EQUITY
The Company has two stock-based compensation plans, the 1990 Stock Option Plan
(the "1990 Plan") and the 1995 Stock Incentive Plan (the "1995 Plan"). The 1990
Plan provided for grants of incentive and nonqualified stock options, which were
issued from 1990 through 1994. The 1995 Plan provides for grants of incentive
and nonqualified stock options, stock appreciation rights, nonvested stock,
unrestricted stock and performance shares, as well as cash and other awards. To
date, only stock options and nonvested stock have been granted under the 1995
Plan. For any year, the Company may issue awards under the 1995 Plan providing
for the issuance of not more than two percent of the total number of shares
outstanding as of December 31 of the preceding year, subject to certain
adjustments and to certain carryovers for expired and forfeited awards. This
amount does not include 124,500 nonqualified options at prices ranging from
$5.92 to $21.00 that were assumed by the Company in connection with the LFG
acquisition.
All options granted under the 1990 Plan were granted at a price not less
than the fair market value of the Company's Common Stock (determined by the
valuation provisions of the 1990 Plan). All options granted under the 1995 Plan
have been granted at the market price of the Company's Common Stock on the grant
date. All granted options provide for vesting in four equal annual installments,
beginning one year after the date of grant, and expire 10 years after the grant
date.
In April 1997, the Company began to award nonvested stock under the 1995
Plan. The nonvested shares issued to employees vest generally after the end of
six years. Such vesting date may accelerate if the Company achieves certain
performance targets. Upon termination of employment, any nonvested shares would
generally be forfeited. The Company recorded $1.4 million, $1.0 million and $0.4
million in compensation expense related to nonvested stock in 1999, 1998 and
1997 respectively.
Pro forma information regarding net income and earnings per share is
required by SFAS 123, which also requires that the information be determined as
if the Company accounted for its employee stock options granted subsequent to
December 31, 1994 under the fair value method of that Statement. As provided for
under SFAS 123, the fair value for these options was estimated using a
Black-Scholes option pricing model with the following assumptions: risk free
interest rate: 6.46% for 1999, 4.68% for 1998 and 5.73% for 1997; dividend
yield: 1.64% for 1999, 1.22% for 1998 and 1.25% for 1997; expected volatility of
the market price of the Company's Common Stock: 26.0% for 1999, 23.2% for 1998
and 19.1% for 1997; and the weighted average life of the options: 6 years for
all three periods.
For pro forma disclosure purposes, the estimated fair value of the options
is amortized to expense over the options' vesting period. Pro forma information
follows (in millions, except for earnings per share information):
55
<PAGE>
Year Ended December 31 1999 1998 1997
- --------------------------------------------------------------------------------
Income before extraordinary item $96.0 $120.6 $127.1
Extraordinary loss on extinguishment of debt, net of tax -- (9.7) --
- --------------------------------------------------------------------------------
Net income $96.0 $110.9 $127.1
================================================================================
Net income per share - basic:
Income before extraordinary item $2.04 $ 2.64 $ 2.88
Extraordinary loss on extinguishment of debt, net of tax -- (0.21) --
- --------------------------------------------------------------------------------
Net income $2.04 $ 2.43 $ 2.88
================================================================================
Net income per share - assuming dilution:
Income before extraordinary item $2.00 $ 2.55 $ 2.73
Extraordinary loss on extinguishment of debt, net of tax -- (0.21) --
- --------------------------------------------------------------------------------
Net income $2.00 $ 2.34 $ 2.73
================================================================================
Because SFAS 123 is applicable only to options granted subsequent to December
31, 1994, its pro forma effect was not fully reflected until 1998.
A summary of the stock option activity, and related information for the years
ended December 31 follows (in thousands, except price data):
<TABLE>
<CAPTION>
1999 1998 1997
- ---------------------------------------------------------------------------------------------------------------
Weighted Weighted Weighted
Average Exercise Average Exercise Average Exercise
Options Price Options Price Options Price
- ---------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding - beginning of year 3,729 $21.72 4,038 $16.31 4,484 $12.49
Granted 788 24.52 627 36.92 699 28.67
Exercised (459) 12.65 (936) 8.58 (1,027) 7.56
Forfeited (332) 27.34 -- -- (118) 20.74
- ---------------------------------------------------------------------------------------------------------------
Outstanding - end of year 3,726 $22.93 3,729 $21.72 4,038 $16.31
===============================================================================================================
Exercisable - end of year 2,132 $19.09 2,051 $15.72 2,346 $11.11
===============================================================================================================
Weighted-average fair value of
options granted during year $ 8.12 $10.62 $ 8.15
===============================================================================================================
</TABLE>
Exercise prices for options outstanding as of December 31, 1999 ranged from
$5.92 to $38.94. The weighted-average remaining contractual life of these
options is 6.73 years.
56 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
10. NET INCOME PER SHARE
The following table sets forth the computation of net income per share -- basic
and net income per share -- assuming dilution:
<TABLE>
<CAPTION>
Year Ended December 31 1999 1998 1997
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Numerator (in millions)
Income before extraordinary item $ 99.3 $ 124.5 $ 129.5
Less: preferred stock dividends (0.9) (0.9) (0.9)
- ----------------------------------------------------------------------------------------------------------------
Numerator for income per share - basic - income before
extraordinary item available to common stockholders 98.4 123.6 128.6
Extraordinary loss on extinguishment of debt, net of tax -- (9.7) --
- ----------------------------------------------------------------------------------------------------------------
Numerator for net income per share - basic - net income
available to common stockholders $ 98.4 $ 113.9 $ 128.6
================================================================================================================
Income available to common stockholders $ 98.4 $ 123.6 $ 128.6
Plus: income impact of assumed conversions
Preferred stock dividends 0.9 0.9 0.9
- ----------------------------------------------------------------------------------------------------------------
Numerator for income per share - assuming dilution - income before
extraordinary item available to common stockholders
after assumed conversions 99.3 124.5 129.5
Extraordinary loss on extinguishment of debt, net of tax -- (9.7) --
- ----------------------------------------------------------------------------------------------------------------
Numerator for net income per share - assuming dilution - net income
available to common stockholders after assumed conversions $ 99.3 $ 114.8 $ 129.5
================================================================================================================
Denominator
Denominator for basic - weighted average shares 46,719,223 45,330,561 43,808,904
- ----------------------------------------------------------------------------------------------------------------
Effect of dilutive securities:
Employee stock options 679,210 1,521,333 2,403,729
Convertible preferred stock 514,370 515,657 518,081
- ----------------------------------------------------------------------------------------------------------------
Dilutive potential common shares 1,193,580 2,036,990 2,921,810
- ----------------------------------------------------------------------------------------------------------------
Denominator for assuming dilution 47,912,803 47,367,551 46,730,714
- ----------------------------------------------------------------------------------------------------------------
Net income per share - basic:
Income before extraordinary item $ 2.11 $ 2.72 $ 2.94
Extraordinary loss on extinguishment of debt, net of tax -- (0.21) --
- ----------------------------------------------------------------------------------------------------------------
Net income $ 2.11 $ 2.51 $ 2.94
================================================================================================================
Net income per share - assuming dilution:
Income before extraordinary item $ 2.07 $ 2.63 $ 2.77
Extraordinary loss on extinguishment of debt, net of tax -- (0.21) --
- ----------------------------------------------------------------------------------------------------------------
Net income $ 2.07 $ 2.42 $ 2.77
================================================================================================================
</TABLE>
57
<PAGE>
11. FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used by the Company in determining
fair values of financial instruments:
Fixed maturities and equity securities: Fair values for fixed maturity
securities are based on quoted market prices, where available. For fixed
maturities not actively traded, the fair values are determined using values from
independent pricing services, or, in the case of private placements, are
determined by discounting expected future cash flows using a current market rate
applicable to the yield, credit quality, and maturity of the securities. The
fair values for equity securities are based on quoted market prices.
Policy loans: The carrying value of policy loans approximates fair value.
Other invested assets: The fair values for other invested assets are generally
based on quoted market prices.
Cash and cash equivalents: The carrying value of cash and cash equivalents
approximates fair value.
Policyholder balances: Deferred annuity contracts are assigned fair value equal
to current net surrender value. Annuitized contracts are valued based on the
present value of the future cash flows at current pricing rates.
Notes payable: The fair value of the Company's notes payable is estimated based
on quoted market prices.
The fair values and carrying values of the Company's financial instruments
are as follows (in millions):
1999 1998
---------------------------------------------
Carrying Fair Carrying Fair
December 31 Value Value Value Value
- --------------------------------------------------------------------------------
Assets:
Fixed maturity securities $10,516.1 $10,516.1 $11,277.2 $11,277.2
Equity securities 37.9 37.9 24.6 24.6
Policy loans 599.5 599.5 578.9 578.9
Other invested assets 1,041.6 1,145.1 717.6 787.0
Cash and cash equivalents 1,232.6 1,232.6 984.1 984.1
Liabilities:
Policyholder balances 10,015.1 9,306.8 10,392.2 9,617.1
Notes payable 552.0 531.7 486.4 511.7
58 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
12. SEGMENT INFORMATION
The Company has two reportable segments: annuity and asset management. Annuity
operations relate principally to the issuance of fixed, indexed and variable
annuity products and a closed block of investment-oriented life insurance
products. Asset management includes mutual funds, private capital management and
institutional asset management. The Company evaluates performance based on
earnings before income taxes, not including net realized gains and losses. The
Company's reportable segments offer different products and are each managed
separately. Information by reported segment for 1999, 1998 and 1997 is shown
below (in millions):
<TABLE>
<CAPTION>
Year Ended December 31 1999 1998 1997
- ----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Statement of Operations Data
Revenues (excluding net realized investment gains and losses):
Annuity:
Unaffiliated $ 877.0 $ 870.1 $ 897.7
Intersegment (14.0) (10.5) (9.3)
- ----------------------------------------------------------------------------------------------------------
Total annuity 863.0 859.6 888.4
- ----------------------------------------------------------------------------------------------------------
Asset management:
Unaffiliated 383.9 344.5 323.4
Intersegment 14.0 10.5 9.3
- ----------------------------------------------------------------------------------------------------------
Total asset management 397.9 355.0 332.7
- ----------------------------------------------------------------------------------------------------------
Total revenues (excluding net realized investment gains and losses) $1,260.9 $1,214.6 $1,221.1
==========================================================================================================
Income before income taxes and extraordinary item:
Annuity:
Income before amortization of intangible assets $ 179.0 $ 155.2 $ 143.1
Amortization of intangible assets (1.2) (1.3) (1.1)
- ----------------------------------------------------------------------------------------------------------
Subtotal annuity 177.8 153.9 142.0
- ----------------------------------------------------------------------------------------------------------
Asset management:
Income before amortization of intangible assets 85.8 77.0 79.9
Amortization of intangible assets (18.9) (13.8) (12.1)
- ----------------------------------------------------------------------------------------------------------
Subtotal asset management 66.9 63.2 67.8
- ----------------------------------------------------------------------------------------------------------
Other:
Loss before amortization of intangible assets (47.9) (40.4) (43.3)
Amortization of intangible assets (0.2) (0.2) (0.3)
- ----------------------------------------------------------------------------------------------------------
Subtotal other (48.1) (40.6) (43.6)
- ----------------------------------------------------------------------------------------------------------
Income before net realized investment gains (losses), income taxes and
extraordinary item 196.6 176.5 166.2
Net realized investment gains (losses) (42.2) 2.4 25.9
- ----------------------------------------------------------------------------------------------------------
Total income before income taxes and extraordinary item $ 154.4 $ 178.9 $ 192.1
==========================================================================================================
</TABLE>
59
<PAGE>
December 31 1999 1998
- --------------------------------------------------------------------------------
Balance Sheet Data
Identifiable Assets:
Annuity $17,460.6 $15,742.9
Asset management 643.4 575.3
Other 268.5 200.9
- --------------------------------------------------------------------------------
Total consolidated assets $18,372.5 $16,519.1
================================================================================
All revenues are attributed to the United States. All long-lived assets are
located in the United States.
13. QUARTERLY FINANCIAL DATA, IN MILLIONS, EXCEPT PER SHARE AMOUNTS (UNAUDITED)
<TABLE>
<CAPTION>
Quarter Ended 1999 March 31 June 30 September 30 December 31
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Investment income $ 206.2 $ 197.1 $ 197.9 $ 209.1
Interest credited to policyholders (134.8) (129.4) (131.3) (131.1)
- ------------------------------------------------------------------------------------------------------------
Investment spread 71.4 67.7 66.6 78.0
Net realized investment losses (3.1) (11.6) (12.7) (14.8)
Fee income 108.8 113.0 114.9 113.9
Pretax income 44.0 36.0 37.1 37.3
Net income 27.4 23.3 24.6 24.0
Net income per share - basic 0.59 0.49 0.52 0.51
Net income per share - assuming dilution 0.58 0.49 0.51 0.50
<CAPTION>
Quarter Ended 1998 March 31 June 30 September 30 December 31
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Investment income $ 207.4 $ 202.3 $ 202.7 $ 208.5
Interest credited to policyholders (142.1) (140.2) (143.3) (136.6)
- ------------------------------------------------------------------------------------------------------------
Investment spread 65.3 62.1 59.4 71.9
Net realized investment gains (losses) 2.2 (2.4) 4.2 (1.6)
Fee income 94.7 100.0 97.1 101.9
Pretax income 45.4 43.5 49.4 40.6
Income before extraordinary item 31.5 29.7 33.5 29.8
Extraordinary loss on extinguishment of debt, net of tax -- -- -- (9.7)
Net income 31.5 29.7 33.5 20.1
Net income per share - basic:
Income before extraordinary item $ 0.70 $ 0.65 $ 0.73 $ 0.64
Extraordinary loss on extinguishment of debt, net of tax -- -- -- (0.21)
- ------------------------------------------------------------------------------------------------------------
Net income per share - basic $ 0.70 $ 0.65 $ 0.73 $ 0.43
============================================================================================================
Net income per share - assuming dilution:
Income before extraordinary item $ 0.67 $ 0.63 $ 0.71 $ 0.63
Extraordinary loss on extinguishment of debt, net of tax -- -- -- (0.21)
- ------------------------------------------------------------------------------------------------------------
Net income per share - assuming dilution $ 0.67 $ 0.63 $ 0.71 $ 0.42
============================================================================================================
</TABLE>
60 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
14. STATUTORY INFORMATION
Keyport is domiciled in Rhode Island and prepares its statutory financial
statements in accordance with accounting principles and practices prescribed or
permitted by the State of Rhode Island Insurance Department. Statutory surplus
and statutory net income differ from shareholder's equity and net income
reported in accordance with GAAP primarily because policy acquisition costs are
expensed when incurred, policy liabilities are based on different assumptions,
and income tax expense reflects only taxes paid or currently payable. Keyport's
statutory surplus and net income are as follows (in millions):
Year Ended December 31 1999 1998 1997
- --------------------------------------------------------------------------------
Statutory surplus $ 877.8 $ 790.9 $ 702.6
Statutory net income 116.3 98.9 107.1
15. TRANSACTIONS WITH AFFILIATED COMPANIES
Liberty Mutual from time to time provides management, legal, audit and financial
services to the Company. Reimbursements to Liberty Mutual for these services
totaled $0.6 million, $0.6 million and $0.7 million in 1999, 1998 and 1997,
respectively. These reimbursements are based on direct and indirect costs
incurred by Liberty Mutual and are allocated to the Company primarily based upon
the amount of time spent by Liberty Mutual's employees on the Company's behalf.
The Company believes that this allocation methodology is reasonable.
Regulatory authorities permit dividend payments from Keyport to the Company
up to the lesser of (i) 10% of statutory surplus as of the preceding December 31
or (ii) the net gain from operations for the preceding fiscal year. As of
December 31, 1999, Keyport could pay dividends of up to $57.8 million without
the approval of the Commissioner of Insurance of the State of Rhode Island.
Keyport paid dividends of $30.0 million during 1999.
16. COMMITMENTS AND CONTINGENCIES
Leases: The Company leases data processing equipment, furniture and certain
office facilities from others under operating leases expiring in various years
through 2009. Rental expense amounted to $19.7 million, $16.5 million and $15.0
million for the years ended December 31, 1999, 1998 and 1997, respectively. For
each of the next five years, and in the aggregate, as of December 31, 1999, the
following are the minimum future rental payments under noncancelable operating
leases having remaining terms in excess of one year (in millions):
Year Payments
- --------------------------------------------------------------------------------
2000 $19.9
2001 19.3
2002 18.8
2003 18.3
2004 17.5
Thereafter 42.2
61
<PAGE>
Legal Matters: The Company is involved at various times in litigation
common to its business. In the opinion of management, the resolution of any such
litigation is not expected to have a material adverse effect on the Company's
financial condition, results of operations or cash flows.
Regulatory Matters: Under existing guaranty fund laws in all states,
insurers licensed to do business in those states can be assessed for certain
obligations of insolvent insurance companies to policyholders and claimants. The
actual amount of such assessments will depend upon the final outcome of
rehabilitation proceedings and will be paid over several years. In 1999, 1998
and 1997, Keyport was assessed $0.1 million, $3.2 million and $5.9 million,
respectively. During 1999, Keyport did not record any provisions for guaranty
fund association expenses and recorded $1.2 million and $1.0 million for the
years ended December 31, 1998 and 1997, respectively. At December 31, 1999 and
1998, the reserve for such assessments was $5.9 million and $6.0 million,
respectively.
62 LIBERTY FINANCIAL COMPANIES, INC. 1999 Annual Report
<PAGE>
- --------------------------------------------------------------------------------
REPORT OF INDEPENDENT AUDITORS
- --------------------------------------------------------------------------------
[LOGO:ERNST & YOUNG LLP]
Shareholders and Board of Directors
Liberty Financial Companies, Inc.
We have audited the accompanying consolidated balance sheets of Liberty
Financial Companies, Inc. as of December 31, 1999 and 1998, and the related
consolidated statements of income, stockholders' equity, and cash flows 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 conducted our audits in accordance with auditing standards generally accepted
in the United States. 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 the significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Liberty
Financial Companies, Inc. at December 31, 1999 and 1998, and the consolidated
results of its operations and its cash flows for each of the three years in the
period ended December 31, 1999, in conformity with accounting principles
generally accepted in the United States.
/s/ Ernst & Young LLP
Boston, Massachusetts
January 27, 2000
63
<PAGE>
LIBERTY FINANCIAL COMPANIES, INC.
SUBSIDIARIES OF THE COMPANY
<TABLE>
<CAPTION>
Jurisdiction of
Immediate Incorporation or
Subsidiary Parent Organization
- ---------- ------ ------------
<S> <C> <C>
AlphaTrade, Inc. CMA Massachusetts
Colonial Advisory Services, Inc. LFG Massachusetts
Colonial Management Associates, Inc. ("CMA") LFG Massachusetts
Copley Venture Capital, Inc. LFS Massachusetts
Crabbe Huson Group, Inc. The Company Massachusetts
Financial Centre Insurance Agency, Inc. LIS Massachusetts
IFS Agencies, Inc. IFMG New York
IFS Agencies of Alabama, Inc. IFMG Alabama
IFS Agencies of New Mexico, Inc. IFMG New Mexico
Independence Life & Annuity Company Keyport Rhode Island
Independent Holdings, Inc. ("IHI") The Company Massachusetts
Independent Financial Marketing Group, Inc. ("IFMG") IHI Delaware
Keyport Benefit Life Insurance Company Keyport New York
Keyport Financial Services Corp. LASC dfcx Massachusetts
Keyport Life Insurance Company ("Keyport") SSI Rhode Island
Liberty Advisory Services Corp. Keyport Massachusetts
Liberty Asset Management Company LFS Delaware
Liberty Financial Asset Management, Ltd. NPMI Japan
Liberty Financial Services, Inc. ("LFS") The Company Massachusetts
Liberty Funds Distributor, Inc. CMA Massachusetts
Liberty Funds Group LLC ("LFG") LFS Delaware
Liberty Funds Services, Inc. LFG Massachusetts
Liberty Investment Services, Inc. LFS Massachusetts
Liberty Newport Holdings, Limited ("LNHL") The Company Delaware
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Jurisdiction of
Immediate Incorporation or
SUBSIDIARY PARENT ORGANIZATION
- ---------- ------ ------------
<S> <C> <C>
Liberty New World China
Enterprises Investments L.P. ("LNWC") NPEA California
Liberty Securities Corporation LIS Delaware
LREG, Inc. The Company Delaware
LSC Insurance Agency of Arizona, Inc. LIS Arizona
LSC Insurance Agency of Nevada, Inc. LIS Nevada
Newport Fund Management, Inc. NPMI (75.1%) Virginia
LFC (24.9%)
Newport Pacific Management, Inc. ("NPMI") LNHL California
Newport Private Equity Asia, Inc. ("NPEA") NPMI California
New World Liberty China Ventures Fund, Ltd. LNWC (50%) British V.I.
Progress Investment Management Company The Company California
SteinRoe Futures, Inc. Stein Roe Illinois
Stein Roe Management Associates, LLC Stein Roe Delaware
SteinRoe Services, Inc. ("SSI") The Company Massachusetts
Stein Roe & Farnham Incorporated ("Stein Roe") SSI Delaware
</TABLE>
<PAGE>
Exhibit 23
Consent of Independent Auditors
We consent to the incorporation by reference in this Annual Report (Form 10-K)
of Liberty Financial Companies, Inc. of our report dated January 27, 2000,
included in the 1999 Annual Report to Shareholders of Liberty Financial
Companies, Inc.
Our audits also included the financial statement schedules of Liberty Financial
Companies, Inc. listed in Item 14(a). These schedules are the responsibility of
the Company's management. Our responsibility is to express an opinion based on
our audits. In our opinion, the financial statement schedules referred to above,
when considered in relation to the basic financial statements taken as a whole,
present fairly in all material respects the information set forth therein.
We also consent to the incorporation by reference in the Registration Statement
(Form S-8 No. 333-61511) pertaining to the Liberty Financial Companies, Inc.
Savings and Investment Plan, in the Registration Statements (Form S-8 No.
333-61509 and Form S-8 No. 333-28073) pertaining to the Liberty Financial
Companies Inc. 1995 Stock Incentive Plan, in the Registration Statement (Form
S-8 No. 33-90626) pertaining to the Liberty Financial Companies, Inc. 1990 Stock
Option Plan, 1995 Stock Incentive Plan and 1995 Employee Stock Purchase Plan,
and in the Registration Statement (Form S-3 No. 333-20067) pertaining to the
Liberty Financial Companies Inc. Dividend Reinvestment Plan of our report dated
January 27, 2000, with respect to the consolidated financial statements
incorporated herein by reference, and our report included in the preceding
paragraph with respect to the financial statement schedules included in this
Annual Report (Form 10-K) of Liberty Financial Companies, Inc.
/s/ ERNST & YOUNG LLP
Boston, Massachusetts
March 27, 2000
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<PAGE>
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