SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended Commission file number December 31, 1996 1-8052 TORCHMARK CORPORATION (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) Delaware 63-0780404 (STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER OF IDENTIFICATION NO.) INCORPORATION OR ORGANIZATION) 2001 Third Ave. South, 35233 Birmingham, AL (ZIP CODE) (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) Registrant's telephone number, including area code: (205) 325-4200 Securities registered pursuant to Section 12(b) of the Act: NAME OF EACH EXCHANGE TITLE OF EACH CLASS CUSIP NUMBER: ON WHICH REGISTERED: Common Stock, $1.00 Par 891027104 New York Stock Exchange Value The International Stock Exchange, London, England Securities registered pursuant to Section 12(g) of the Act: None Securities reported pursuant to Section 15(d) of the Act: TITLE OF EACH CUSIP NUMBER: CLASS: 8 5/8% Sinking Fund 891027 AB 0 Debentures due 2017 9 5/8% Senior Notes 891027 AD 6 due 1998 8 1/4% Senior 891027 AE 4 Debentures due 2009 7 7/8% Notes due 891027 AF 1 2023 7 3/8% Notes due 891027 AG 9 2013 INDICATE BY CHECK MARK WHETHER THE REGISTRANT (1) HAS FILED ALL REPORTS REQUIRED TO BE FILED BY SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 DURING THE PRECEDING 12 MONTHS (OR FOR SUCH SHORTER PERIOD THAT THE REGISTRANT WAS REQUIRED TO FILE SUCH) 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 ((S)229.405 OF THIS CHAPTER) IS NOT CONTAINED HEREIN, AND WILL NOT BE CONTAINED, TO THE BEST OF REGISTRANT'S KNOWLEDGE, IN DEFINITIVE PROXY OR INFORMATION STATEMENTS INCORPORATED BY REFERENCE IN PART III OF THIS FORM 10-K OR ANY AMENDMENT TO THIS FORM 10-K. [_] THE AGGREGATE MARKET VALUE OF THE VOTING STOCK HELD BY NON-AFFILIATES OF THE REGISTRANT: $4,181,248,001 THE NUMBER OF SHARES OUTSTANDING OF EACH OF THE REGISTRANT'S CLASSES OF COMMON STOCK, AS OF FEBRUARY 28, 1997: 69,832,952 DOCUMENTS INCORPORATED BY REFERENCE PROXY STATEMENT FOR ANNUAL MEETING OF STOCKHOLDERS TO BE HELD APRIL 24, 1997, PART III INDEX OF EXHIBITS (PAGES 67 THROUGH 69) TOTAL NUMBER OF PAGES INCLUDED ARE 76
PART 1 ITEM 1. BUSINESS Torchmark Corporation ("Torchmark"), an insurance and diversified financial services holding company, was incorporated in Delaware on November 19, 1979, as Liberty National Insurance Holding Company. Through a plan of reorganization effective December 30, 1980, it became the parent company for the businesses operated by Liberty National Life Insurance Company ("Liberty") and Globe Life And Accident Insurance Company ("Globe"). United American Insurance Company ("United American"), Waddell & Reed, Inc. ("W&R") and United Investors Life Insurance Company ("UILIC") along with their respective subsidiaries were acquired in 1981. The name Torchmark Corporation was adopted on July 1, 1982. Family Service Life Insurance Company ("Famlico") was purchased in July, 1990, and American Income Life Insurance Company ("American Income") was purchased in November, 1994. The following table presents Torchmark's business by primary distribution method: <TABLE> <CAPTION> PRIMARY DISTRIBUTION METHOD COMPANY PRODUCTS SALES FORCE - ----------------------------------------------------------------------------------------------------------------- <S> <C> <C> <C> DIRECT RESPONSE GLOBE LIFE AND Individual life and health in- Direct response, television, ACCIDENT surance including special senior magazine; nationwide. INSURANCE COMPANY life coverage, Medicare Oklahoma City, OK Supplement, long-term care. - ----------------------------------------------------------------------------------------------------------------- LIBERTY NATIONAL LIBERTY NATIONAL LIFE Individual life and 1,750 full-time sales repre- EXCLUSIVE AGENCY INSURANCE COMPANY health insurance. sentatives; 111 district offices Birmingham, Alabama in the Southeastern U.S. - ----------------------------------------------------------------------------------------------------------------- AMERICAN INCOME AMERICAN INCOME LIFE Individual life and health in- 1,450 agents. EXCLUSIVE AGENCY INSURANCE COMPANY surance to union and credit Waco, Texas union members and other associations. - ----------------------------------------------------------------------------------------------------------------- UNITED INVESTORS WADDELL & REED, INC. United and Waddell & Reed 2,170 Waddell & Reed EXCLUSIVE AGENCY Shawnee Mission, Groups of mutual funds, representatives; indepen- Kansas institutional investment dent agents; 172 offices UNITED INVESTORS LIFE management services includ- nationwide. INSURANCE COMPANY ing assets of Torchmark. Birmingham, Alabama Individual life insurance and annuities. - ----------------------------------------------------------------------------------------------------------------- MILITARY LIBERTY NATIONAL LIFE Individual life insurance Independent Agency through INSURANCE COMPANY career agents nationwide. Birmingham, Alabama GLOBE LIFE AND ACCIDENT INSURANCE COMPANY Oklahoma City, Oklahoma - ----------------------------------------------------------------------------------------------------------------- UNITED AMERICAN UNITED AMERICAN Senior life and health 46,000 independent agents INDEPENDENT AGENCY INSURANCE COMPANY insurance including in the U.S., Puerto Rico and AND EXCLUSIVE INDEPEN- McKinney, Texas Medicare Supplement Canada; 1,100 exclusive DENT AGENCY coverage and long-term care. agents in 73 branch offices. </TABLE> Additional information concerning industry segments may be found in Management's Discussion and Analysis and in Note 17--Industry Segments in the Notes to Consolidated Financial Statements. INSURANCE LIFE INSURANCE Torchmark writes a variety of nonparticipating ordinary life insurance products. These include traditional and interest sensitive whole-life insurance, term life insurance, and other life insurance. The following table presents selected information about Torchmark's life products: <TABLE> <CAPTION> (AMOUNTS IN THOUSANDS) ANNUALIZED ANNUALIZED PREMIUM ISSUED PREMIUM IN FORCE -------------------------- -------------------------- 1996 1995 1994 1996 1995 1994 -------- -------- -------- -------- -------- -------- <S> <C> <C> <C> <C> <C> <C> Whole life: Traditional.............. $112,817 $107,288 $ 63,108 $521,015 $469,581 $445,025 Interest-sensitive....... 16,638 29,287 34,633 167,912 174,675 171,264 Term...................... 82,331 79,849 48,392 243,210 212,213 167,973 Other..................... 2,955 1,564 3,700 14,388 12,897 12,693 -------- -------- -------- -------- -------- -------- $214,741 $217,988 $149,833 $946,525 $869,366 $796,955 ======== ======== ======== ======== ======== ======== </TABLE> 1
The distribution methods for life insurance products include sales efforts conducted by direct response, exclusive agents and independent agents. These methods are discussed in more depth under the heading "Marketing." The following table presents life annualized premium issued by marketing method: <TABLE> <CAPTION> (AMOUNTS IN THOUSANDS) ANNUALIZED ANNUALIZED PREMIUM ISSUED PREMIUM IN FORCE -------------------------- --------------------------- 1996 1995 1994 1996 1995 1994 -------- -------- -------- -------- -------- -------- <S> <C> <C> <C> <C> <C> <C> Direct response......... $ 62,029 $ 63,900 $ 48,267 $202,370 $180,530 $154,130 Exclusive Agents: Liberty National....... 45,394 48,549 51,461 297,581 297,418 291,813 American Income........ 54,382 51,190 7,393 188,039 169,599 147,008 United Investors....... 10,715 10,609 8,674 84,495 78,666 73,148 United American........ 15,874 19,080 18,175 59,760 60,470 59,459 Independent Agents: Military............... 8,165 8,268 7,292 74,150* 48,402 42,595 United American........ 18,182 16,392 8,571 40,130 34,281 28,802 -------- -------- -------- -------- -------- -------- $214,741 $217,988 $149,833 $946,525 $869,366 $796,955 ======== ======== ======== ======== ======== ======== </TABLE> - -------- * Annualized premium in force for 1996 includes $21 million acquired from another carrier originally produced by this agency. Permanent insurance products sold by Torchmark build cash values which are available to policyholders. Policyholders may borrow such funds using the policies as collateral. The aggregate value of policy loans outstanding at December 31, 1996 was $207 million and the average interest rate earned on these loans was 6.58% in 1996. Interest income earned on policy loans was $13.2 million in 1996, $12.1 million in 1995, and $10.0 million in 1994. Torchmark had 188 thousand and 182 thousand policy loans outstanding at year- end 1996 and 1995, respectively. The availability of cash values contributes to voluntary policy terminations by policyholders through surrenders. Torchmark's life insurance products may be terminated or surrendered at the election of the insured at any time, generally for the full cash value specified in the policy. Specific surrender procedures vary with the type of policy. For certain policies this cash value is based upon a fund less a surrender charge which decreases with the length of time the policy has been in force. This surrender charge is either based upon a percentage of the fund or a charge per $1,000 of face amount of insurance. The schedule of charges may vary by plan of insurance and, for some plans, by age of the insured at issue. Torchmark's ratio of aggregate face amount voluntary terminations to the mean amount of life insurance in force was 17.1% in 1996, 17.2% in 1995 and 14.7% in 1994. The following table presents an analysis of changes to Torchmark's life insurance business in force: <TABLE> <CAPTION> (AMOUNTS IN THOUSANDS) 1996 1995 1994 --------------------- --------------------- --------------------- NUMBER OF AMOUNT OF NUMBER OF AMOUNT OF NUMBER OF AMOUNT OF POLICIES INSURANCE POLICIES INSURANCE POLICIES INSURANCE --------- ----------- --------- ----------- --------- ----------- <S> <C> <C> <C> <C> <C> <C> In force at January 1,.. 9,196 $80,391,376 8,913 $74,858,214 8,110 $61,366,933 New issues.............. 1,320 18,718,479 1,413 19,359,923 1,147 14,958,141 Business acquired....... 38 2,573,996 -0- -0- 595 8,983,055 Other increases......... 1 104,490 1 64,128 1 10,961 Death benefits.......... (111) (289,687) (110) (271,451) (105) (228,354) Lapses.................. (880) (13,008,065) (856) (12,185,540) (688) (8,940,980) Surrenders.............. (140) (1,296,744) (135) (1,187,581) (106) (1,048,117) Other decreases......... (32) (245,694) (30) (246,317) (41) (243,425) ----- ----------- ----- ----------- ----- ----------- In force at December 31,.................... 9,392 $86,948,151 9,196 $80,391,376 8,913 $74,858,214 ===== =========== ===== =========== ===== =========== Average policy size (in dollar amounts): Direct response--Juve- nile.................. $ 6,776 $ 6,854 $ 6,933 Other.................. 10,246 9,491 9,039 </TABLE> 2
HEALTH INSURANCE Torchmark offers an assortment of supplemental health insurance products. These are generally classified as (1) Medicare Supplement, (2) cancer and (3) other health policies. Medicare Supplement policies are offered on both an individual and group basis through exclusive and independent agents, and direct response. These guaranteed renewable policies provide reimbursement for certain expenses not covered by the federal Medicare program. One popular feature available under Torchmark's Medicare Supplements is an automatic claim filing system for Medicare Part B benefits whereby policyholders do not have to file most claims because they are paid directly by Torchmark from Medicare records. Cancer policies are offered on an individual basis through exclusive and independent agents as well as direct response. These guaranteed renewable policies are designed to fill gaps in existing medical coverage. Benefits are triggered by a diagnosis of cancer or health related events or medical expenses related to the treatment of cancer. Benefits may be in the form of a lump sum payment, stated amounts per diem, per medical procedure, or reimbursement for certain medical expenses. Other health policies include accident, long term care and limited benefit hospital and surgical coverages. These policies are generally issued as guaranteed-renewable and are offered on an individual basis through exclusive and independent agents, and direct response. They are designed to supplement existing medical coverages. Benefits are triggered by certain health related events or incurred expenses. Benefit amounts are per diem, per health related event or defined expenses incurred up to a stated maximum. The following table presents supplemental health annualized premium for the three years ended December 31, 1996 by marketing method: <TABLE> <CAPTION> (AMOUNTS IN THOUSANDS) ANNUALIZED ANNUALIZED PREMIUM ISSUED PREMIUM IN FORCE -------------------------- -------------------------- 1996 1995 1994 1996 1995 1994 -------- -------- -------- -------- -------- -------- <S> <C> <C> <C> <C> <C> <C> Direct response........... 4,990 171 674 5,141 929 1,162 Exclusive agents: Liberty National......... 11,258 16,701 24,904 122,305 122,147 127,962 American Income.......... 10,645 9,585 1,232 42,140 39,693 36,215 United American.......... 31,565 32,596 33,765 131,250 127,599 130,738 Independent agents: United American.......... 42,523 44,438 62,088 447,317 468,691 516,294 -------- -------- -------- -------- -------- -------- $100,981 $103,491 $122,663 $748,153 $759,059 $812,371 ======== ======== ======== ======== ======== ======== </TABLE> The following table presents supplemental health annualized premium information for the three years ended December 31, 1996 by product category: <TABLE> <CAPTION> (AMOUNTS IN THOUSANDS) ANNUALIZED ANNUALIZED PREMIUM ISSUED PREMIUM IN FORCE -------------------------- -------------------------- 1996 1995 1994 1996 1995 1994 -------- -------- -------- -------- -------- -------- <S> <C> <C> <C> <C> <C> <C> Medicare Supplement...... $ 65,767 $ 64,638 $ 87,547 $523,902 $529,616 $572,221 Cancer................... 10,676 11,338 8,101 119,428 114,972 114,495 Other health related pol- icies................... 24,538 27,515 27,015 104,823 114,471 125,655 -------- -------- -------- -------- -------- -------- $100,981 $103,491 $122,663 $748,153 $759,059 $812,371 ======== ======== ======== ======== ======== ======== </TABLE> 3
ANNUITIES Annuity products offered by Torchmark include single-premium deferred annuities, flexible-premium deferred annuities, and variable annuities. Single-premium and flexible-premium products are fixed annuities where a portion of the interest credited is guaranteed. Additional interest may be credited on certain contracts. Variable annuity policyholders may select from a variety of mutual funds managed by W&R which offer different degrees of risk and return. The ultimate benefit on a variable annuity results from the account performance. The following table presents Torchmark subsidiaries' annuity collections and deposit balances by product type: <TABLE> <CAPTION> (AMOUNTS IN THOUSANDS) (AMOUNTS IN MILLIONS) COLLECTIONS DEPOSIT BALANCE FOR THE YEAR ENDED DECEMBER 31, AT DECEMBER 31, -------------------------------- -------------------------- 1996 1995 1994 1996 1995 1994 ---------- ---------- ---------- -------- -------- -------- <S> <C> <C> <C> <C> <C> <C> Fixed annuities......... $ 87,133 $ 133,461 $ 43,339 $ 974.6 $ 927.9 $ 801.2 Variable annuities...... 247,461 189,188 196,105 1,375.5 1,052.2 692.8 ---------- ---------- ---------- -------- -------- -------- $ 334,594 $322,649 $239,444 $2,350.1 $1,980.1 $1,494.0 ========== ========== ========== ======== ======== ======== </TABLE> INVESTMENTS The nature, quality, and percentage mix of insurance company investments are regulated by state laws that generally permit investments in qualified municipal, state, and federal government obligations, corporate bonds, preferred and common stock, real estate, and mortgages where the value of the underlying real estate exceeds the amount of the loan. Torchmark's investments consist predominantly of high-quality, investment-grade securities. Fixed maturities represented 90% of total investments at December 31, 1996. Approximately 25% of fixed maturity investments were securities guaranteed by the United States Government or its agencies or investments that were collateralized by U.S. government securities. More than 70% of these investments were in GNMA securities that are backed by the full faith and credit of the United States government. The remainder of these government investments were U.S. Treasuries, agency securities or collateralized mortgage obligations ("CMO's") that are fully backed by GNMA's. (See Note 3--Investment Operations in the Notes to Consolidated Financial Statements and Management's Discussion and Analysis.) The following table presents an analysis of Torchmark's fixed maturity investments at December 31, 1996. All of the securities are classified as available for sale and are, therefore, reported at fair market value. <TABLE> <CAPTION> AMOUNT (IN THOUSANDS) % -------------- ----- <S> <C> <C> Securities of U.S. Government...................... $ 179,178 3.4% GNMA and MBS backed by GNMA collateral............. 1,083,860 20.3 Other U.S. Government guaranteed................... 58,035 1.1 Other investment grade............................. 3,763,846 70.6 Non-investment grade corporates.................... 243,357 4.6 ---------- ----- $5,328,276 100.0% ========== ===== </TABLE> The following table presents Torchmark's fixed maturity investments at December 31, 1996 on the basis of ratings as determined primarily by Standard & Poor's Corporation. Moody's Investors Services' bond ratings are used when Standard & Poor's ratings are not available. Ratings of BBB and higher (or their equivalent) are considered investment grade by the rating services. <TABLE> <CAPTION> AMOUNT RATING (IN THOUSANDS) % ------ -------------- ----- <S> <C> <C> AAA................................................ $2,098,390 39.4% AA................................................. 787,542 14.8 A.................................................. 1,910,726 35.9 BBB................................................ 277,915 5.2 BB................................................. 170,522 3.2 B.................................................. 6,991 0.1 Less than B........................................ 88 0.0 Not rated.......................................... 76,102 1.4 ---------- ----- $5,328,276 100.0% ========== ===== </TABLE> 4
The following table presents the fixed maturity investments of Torchmark's insurance subsidiaries at December 31, 1996 on the basis of ratings as determined by the National Association of Insurance Commissioners ("NAIC"). Categories one and two are considered investment grade by the NAIC. <TABLE> <CAPTION> AMOUNT RATING (IN THOUSANDS) % -------------------- -------------- ----- <S> <C> <C> 1. Highest quality.. $4,788,405 90.2% 2. High quality..... 277,087 5.2 3. Medium quality... 211,316 4.0 4. Low quality...... 31,372 0.6 5. Lower quality.... 669 0.0 6. In or near de- fault.............. 0 0.0 ---------- ----- $5,308,849 100.0% ========== ===== </TABLE> Securities are assigned ratings when acquired. All ratings are reviewed and updated at least annually. Specific security ratings are updated as information becomes available during the year. PRICING Premium rates for life and health insurance products are established using assumptions as to future mortality, morbidity, persistency, and expenses, all of which are generally based on Torchmark's experience, and on projected investment earnings. Revenues for individual life and health insurance products are primarily derived from premium income, and, to a lesser extent, through policy charges to the policyholder account values on certain individual life products. Profitability is affected to the extent actual experience deviates from that which has been assumed in premium pricing and to the extent investment income exceeds that which is required for policy reserves. Collections for annuity products and certain life products are not recognized as revenues but are added to policyholder account values. Revenues from these products are derived from charges to the account balances for insurance risk and administrative costs. Profits are earned to the extent these revenues exceed actual costs. Profits are also earned from investment income on the deposits invested in excess of the amounts credited to policy accounts. UNDERWRITING The underwriting standards of Torchmark are established by management. Torchmark uses information from the application and, in some cases, inspection reports, doctors' statements and/or medical examinations to determine whether a policy should be issued in accordance with the application, with a different rating, with a rider, with reduced coverage or rejected. Torchmark requires medical information or examinations of applicants for life insurance in excess of certain prescribed amounts. These are graduated according to the age of the applicant and may vary with the kind of insurance. The maximum amount of insurance issued without medical information is $100,000 through age 40. Torchmark requests medical information of all applicants, regardless of age or amount, if information obtained from the application or other sources indicates that such information is warranted. In recent years, there has been considerable concern regarding the impact of the HIV virus associated with Acquired Immune Deficiency Syndrome ("AIDS"). Torchmark has implemented certain underwriting tests to detect the presence of the HIV virus and continues to assess the utility of other appropriate underwriting tests to detect AIDS in light of medical developments in this field. To date, AIDS claims have not had a material impact on claims experience. 5
REINSURANCE As is customary among insurance companies, Torchmark cedes insurance to other unaffiliated insurance companies on policies they issue in excess of retention limits. Reinsurance is an effective method for keeping insurance risk within acceptable limits. In the event insurance business is ceded, Torchmark remains contingently liable with respect to ceded insurance should any reinsurer be unable to meet the obligations it assumes (See Note 16-- Commitments and Contingencies in the Notes to Consolidated Financial Statements and Schedule IV--Reinsurance [Consolidated]). RESERVES The life insurance policy reserves reflected in Torchmark's financial statements as future policy benefits are calculated based on generally accepted accounting principles. These reserves, with the addition of premiums to be received and the interest thereon compounded annually at assumed rates, must be sufficient to cover policy and contract obligations as they mature. Generally, the mortality and persistency assumptions used in the calculations of reserves are based on company experience. Similar reserves are held on most of the health policies written by Torchmark's insurance subsidiaries, since these policies generally are issued on a guaranteed-renewable basis. A list of the assumptions used in the calculation of Torchmark's reserves are reported in the financial statements (See Note 8--Future Policy Benefit Reserves in the Notes to Consolidated Financial Statements). Reserves for annuity products consist of the policyholders' account values and are increased by policyholder deposits and interest credits and are decreased by policy charges and benefit payments. MARKETING Torchmark is licensed to sell insurance in all 50 states, the District of Columbia, Puerto Rico, the Virgin Islands, Guam, New Zealand and Canada. Distribution is through direct response, independent and exclusive agents. Direct Response. Torchmark offers life insurance products directly to consumers through direct mail, co-op mailings, national cable and local spot television, national newspaper supplements and national magazines. Torchmark operates a full service letterpress which enables the direct response operation to maintain high quality standards while producing materials much more efficiently than they could be purchased from outside vendors. Exclusive Agents. Torchmark sells and services life and health insurance through 1,750 Liberty National agents primarily in the seven state area of Alabama, Florida, Georgia, Tennessee, Mississippi, South Carolina, and North Carolina. These agents are employees of Liberty and are primarily compensated by commissions based on sales. During the past several years this operation has emphasized bank draft and direct bill collection of premium rather than agent collection, because of the resulting lower cost and improved persistency. Agent collected sales were discontinued in 1996. Through the American Income Agency, Torchmark sells individual life and fixed-benefit accident and health insurance through approximately 1,450 exclusive agents who target moderate income wage earners through the cooperation of labor unions, credit unions, and other associations. These agents are authorized to use the "union label" because this sales force is represented by organized labor. Torchmark sells life insurance as well as fixed and variable annuity products through the 2,170 W&R financial planners. (See Asset Management-- Mutual Funds for additional marketing information about the W&R sales force.) Torchmark offers life and health insurance targeted to various special markets through approximately 1,100 United American exclusive independent agents in 73 branch offices throughout the United States. Independent Agents. Torchmark offers a variety of life and health insurance policies through approximately 46 thousand independent agents, brokers, and licensed sales representatives. Torchmark is not committed or obligated in any way to accept a fixed portion of the business submitted by any independent agent. All policy applications, both new and renewal, are subject to approval and acceptance by Torchmark. Torchmark is not dependent on any single agent or any small group of independent agents, the loss of which would have a materially adverse effect on insurance sales. 6
Torchmark distributes life insurance through a nationwide independent agency whose sales force is comprised of former commissioned and non-commissioned military officers who sell exclusively to commissioned and non-commissioned military officers and their families. RATINGS The following list indicates the ratings currently held by Torchmark's five largest insurance companies as rated by A.M. Best Company: <TABLE> <CAPTION> A.M. BEST COMPANY --------------- <S> <C> <C> Liberty National Life Insurance Company A+ (Superior) Globe Life And Accident Insurance Company A+ (Superior) United Investors Life Insurance Company A+ (Superior) United American Insurance Company A+ (Superior) American Income Life Insurance Company A (Excellent) </TABLE> A.M. Best states that it assigns A+ (Superior) ratings to those companies which, in its opinion, have demonstrated superior overall performance when compared to the norms of the life/health insurance industry. A+ (Superior) companies have a very strong ability to meet their obligations to policyholders over a long period of time. A.M. Best states that it assigns A (Excellent) ratings to those companies which, in its opinion, have demonstrated excellent overall performance when compared to the norms of the life/health insurance industry. A (Excellent) companies have an excellent ability to meet their obligations to policyholders over a long period of time. United Investors Life Insurance Company also has a rating of AA by Standard & Poor's Corporation. This AA rating is assigned by Standard & Poor's Corporation to those companies who offer excellent financial security on an absolute and relative basis and whose capacity to meet policyholders obligations is overwhelming under a variety of economic and underwriting conditions. 7
ASSET MANAGEMENT Torchmark conducts its asset management and financial services businesses through Waddell & Reed Financial Services, Inc. and its subsidiaries. This segment's activity is mutual fund distribution, management, and servicing. MUTUAL FUNDS Torchmark's mutual fund operations are carried out by a subsidiary of United Management, W&R, which markets and manages the seventeen mutual funds in the United Group of Mutual Funds, the six mutual funds in the Waddell & Reed Fund, Inc. ("W&R Funds"), and the ten mutual funds in the TMK/United Fund, Inc. ("TMK/United Funds") which are used exclusively as the investment funds for variable annuities sold by UILIC. These funds were valued as follows at December 31, 1996 and 1995: <TABLE> <CAPTION> (AMOUNTS IN MILLIONS) 1996 1995 ------- ------- <S> <C> <C> United Funds $15,130 $13,569 W&R Funds 643 419 TMK/United Funds 1,434 1,099 ------- ------- Total mutual fund assets under management 17,207 15,087 Institutional and private accounts 1,651 3,201 ------- ------- Total assets under management $18,858 $18,288 ======= ======= </TABLE> W&R's revenues consist of the following: (1) fees for managing the assets, which are based on the value of the assets managed, (2) commissions for the sale of products, and (3) fees for accounting and administration, which are based primarily on an annual charge per account. In addition to its mutual fund management and distribution activities, W&R manages accounts for individual and institutional investors for which asset management fees are received. Asset management activities are conducted by an experienced and qualified staff. As of December 31, 1996, the average industry experience of the fund managers for W&R was 20 years, and average company experience was 13 years. The following table indicates W&R revenues by component for the three years ending December 31, 1996: <TABLE> <CAPTION> (AMOUNTS IN THOUSANDS) 1996 1995 1994 -------- -------- -------- <S> <C> <C> <C> Asset management fees........................ $103,127 $ 85,999 $ 70,651 Investment product commissions*.............. 71,991 56,927 59,450 Insurance product commissions*............... 13,897 13,531 12,773 Service fees................................. 28,419 23,528 22,297 -------- -------- -------- $217,434 $179,985 $165,171 ======== ======== ======== </TABLE> *Commissions received from affiliates for variable annuities and insurance product sales are eliminated in consolidation. W&R markets its mutual funds and other financial products, including life insurance, through a sales force of approximately 2,170 registered representatives in 50 states and the District of Columbia. These representatives concentrate on product sales of W&R and other Torchmark affiliates. W&R maintained 172 sales offices at December 31, 1996. W&R conducts money management seminars on a national scale to reach numerous potential clients every year. Individual financial plans are developed for clients through one-on-one consultations with the W&R sales representatives. Emphasis is placed on a long-term relationship with a client rather than a one-time sale. 8
COMPETITION The insurance industry is highly competitive. Torchmark competes with other insurance carriers through policyholder service, price, product design, and sales effort. In addition to competition with other insurance companies, Torchmark also faces increasing competition from other financial services organizations. While there are a number of larger insurance companies competing with Torchmark that have greater resources and have considerable marketing forces, there is no individual company dominating any of Torchmark's life or health markets. Torchmark's health insurance products compete with, in addition to the products of other health insurance carriers, health maintenance organizations, preferred provider organizations, and other health care related institutions which provide medical benefits based on contractual agreements. Generally, Torchmark companies operate at lower administrative expense levels than its peer companies, allowing Torchmark to have competitive rates while maintaining margins, or, in the case of Medicare Supplement business, to remain in the business while some companies have ceased new writings. Torchmark's years of experience in direct response business are a valuable asset in designing direct response products. On the other hand, Torchmark's insurance subsidiaries do not have the same degree of national name recognition as some other companies with which they compete. W&R competes with hundreds of other registered institutional investment advisers and mutual fund management and distribution companies which distribute their fund shares through a variety of methods including affiliated and unaffiliated sales forces, broker-dealers, and direct sales to the public. Although no one company or group of companies dominates the mutual fund industry, some are larger than W&R and have greater resources. Competition is based on the methods of distribution of fund shares, tailoring investment products to meet certain segments of the market, the changing needs of investors, the ability to achieve superior investment management performance, the type and quality of shareholder services, and the success of sales promotion efforts. REGULATION INSURANCE. Insurance companies are subject to regulation and supervision in the states in which they do business. The laws of the various states establish agencies with broad administrative and supervisory powers which include, among other things, granting and revoking licenses to transact business, regulating trade practices, licensing agents, approving policy forms, approving certain premium rates, setting minimum reserve and loss ratio requirements, determining the form and content of required financial statements, and prescribing the type and amount of investments permitted. Insurance companies can also be required under the solvency or guaranty laws of most states in which they do business to pay assessments up to prescribed limits to fund policyholder losses or liabilities of insolvent insurance companies. They are also required to file detailed annual reports with supervisory agencies, and records of their business are subject to examination at any time. Under the rules of the NAIC, insurance companies are examined periodically by one or more of the supervisory agencies. The most recent examinations of Torchmark's insurance subsidiaries were: Famlico, as of December 31, 1995; American Income as of December 31, 1990; Globe, as of December 31, 1994; Liberty, as of December 31, 1991; United American, as of December 31, 1993; and UILIC, as of December 31, 1993. NAIC Ratios. The NAIC developed the Insurance Regulatory Information System ("IRIS"), which is intended to assist state insurance regulators in monitoring the financial condition of insurance companies. IRIS identifies twelve insurance industry ratios from the statutory financial statements of insurance companies, which are based on regulatory accounting principles and are not based on generally accepted accounting principles ("GAAP"). IRIS specifies a standard or "usual value" range for each ratio, and a company's variation from this range may be either favorable or unfavorable. The following table 9
presents the IRIS ratios as determined by the NAIC for Torchmark's five largest insurance subsidiaries, which varied unfavorably from the "usual value" range for the years 1995 and 1994. <TABLE> <CAPTION> USUAL REPORTED COMPANY RATIO NAME RANGE VALUE - --------- ------------------------------------------------- --------- -------- <S> <C> <C> <C> 1995: - ----- Liberty Investment in Affiliate to Capital and Surplus 0 to 100 238 Globe Change in Capital and Surplus 50 to -10 -18 United American Change in Capital and Surplus 50 to -10 -11 Liberty Change in Reserving Ratio 20 to -20 24 American Income Non-admitted to Admitted Assets 10 11 1994: - ----- Liberty Investment in Affiliate to Capital and Surplus 0 to 100 202 Liberty Change in Capital and Surplus 50 to -10 -29 Globe Change in Capital and Surplus 50 to -10 -12 </TABLE> Explanation of Ratios: Investment in Affiliate to Capital and Surplus--This ratio is determined by measuring total investment in affiliates against the capital and surplus of the company. The NAIC considers a ratio of more than 100% to be high, and to possibly impact a company's liquidity, yield, and overall investment risk. The large ratio in Liberty in 1995 and 1994 is brought about by its ownership of other large Torchmark insurance companies and the ownership of 81% of the stock of United Management. Profitability and growth in these subsidiaries have caused this ratio to gradually rise. All intercompany investment is eliminated in consolidation, and the internal organizational structure has no bearing on consolidated results. Change in Capital and Surplus--These ratios, calculated on both a gross and net basis, are a measure of improvement or deterioration in the company's financial position during the year. The NAIC considers ratios less than minus 10% and greater than 50% to be unusual. Liberty's ratio of minus 29% in 1994 was due to the payment of a large dividend by United Management, an 81% owned subsidiary, directly to Torchmark. Because Liberty waived its interest in this dividend, it reduced Liberty's capital and surplus. United American's ratio of minus 11% in 1995 and Globe's ratios of minus 18% in 1995 and minus 12% in 1994 were caused by the payment of dividends to Torchmark in excess of their statutory net income. These transactions did not affect the consolidated equity of Torchmark at December 31, 1995 and 1994. Change in Reserving Ratio--The change in reserving ratio represents the number of percentage points of difference between the reserving ratio for current and prior years. Liberty's ratio was slightly over the usual range because it assumed a block of business in late 1995. The assumption of this business caused an increase in year-end reserves. No allowance is made for special transactions such as this in the calculation. Non-admitted Assets to Admitted Assets--This ratio measures the degree to which a company has acquired assets which cannot be carried on its statutory balance sheet. American Income's ratio of 11% in 1995 was due to a large amount of agent balances that arose from comissions that are advanced to agents when a policy is submitted. Due to the growth of American Income's business, these advances have grown and caused a variance in this particular ratio. Risk Based Capital. In December 1992, the NAIC adopted a model act that requires a risk based capital formula be applied to all life and health insurers. The requirement began in 1994 for information based on the 1993 annual statements. The risk based capital formula is a threshold formula rather than a target capital formula. It is designed only to identify companies that require regulatory attention and is not to be used to rate or rank companies that are adequately capitalized. All of the insurance subsidiaries of Torchmark are adequately capitalized under the risk based capital formula. 10
Guaranty Assessments. State solvency or guaranty laws provide for assessments from insurance companies into a fund which is used, in the event of failure or insolvency of an insurance company, to fulfill the obligations of that company to its policyholders. The amount which a company is assessed for these state funds is determined according to the extent of these unsatisfied obligations in each state. These assessments are recoverable to a great extent as offsets against state premium taxes. HOLDING COMPANY. States have enacted legislation requiring registration and periodic reporting by insurance companies domiciled within their respective jurisdictions that control or are controlled by other corporations so as to constitute a holding company system. Torchmark and its subsidiaries have registered as a holding company system pursuant to such legislation in Alabama, Delaware, Missouri, New York, Texas, and Indiana. Insurance holding company system statutes and regulations impose various limitations on investments in subsidiaries, and may require prior regulatory approval for the payment of certain dividends and other distributions in excess of statutory net gain from operations on an annual noncumulative basis by the registered insurer to the holding company or its affiliates. MUTUAL FUNDS. Torchmark's mutual fund management and distribution activities, as well as its investment advisory services, are subject to state and federal regulation and oversight by the National Association of Securities Dealers, Inc. Each of the funds in the United Group of Mutual Funds, the W&R Funds, and the TMK/United Funds is or was a registered investment company under the Investment Company Act of 1940. W&R and Waddell & Reed Asset Management Company ("WRAM") are registered pursuant to the Investment Advisers Act of 1940. Additionally, W&R is regulated as a broker-dealer under the Securities Exchange Act of 1934. PERSONNEL At the end of 1996, Torchmark had 2,312 employees and 2,516 licensed employees under sales contracts. Additionally, approximately 54,000 independent and exclusive agents and brokers, who were not employees of Torchmark, were associated with Torchmark's marketing efforts. ITEM 2. REAL ESTATE Torchmark, through its subsidiaries, owns or leases buildings that are used in the normal course of business. Liberty owns a 487,000 square foot building at 2001 Third Avenue South, Birmingham, Alabama which currently serves as Liberty's, UILIC's, and Torchmark's home office. Liberty leases approximately 160,000 square feet of this building to unrelated tenants. Liberty also operates from 61 company-owned district office buildings used for agency sales personnel. Globe owns a 300,000 square foot office building at 204 North Robinson, Oklahoma City, Oklahoma, of which it occupies 56,138 square feet as its home office and the balance is available for lease. Globe also owns a 330,000 square foot office building complex at 14000 Quail Springs Parkway Plaza Boulevard, Oklahoma City, Oklahoma, and an 80,000 square foot office building at 120 Robert S. Kerr Avenue, Oklahoma City, which are available for lease to other tenants. In 1996, United American relocated to a new home office building. United American owns and is the sole occupant of this 140,000 square foot facility, located in the Stonebridge Ranch development in McKinney, Texas (a North Dallas suburb). The former home office building on Buckner Boulevard in Dallas, Texas is under contract to be sold. American Income owns and is the sole occupant of an office building located at 1200 Wooded Acres Drive, Waco, Texas. The building is a two story structure containing approximately 72,000 square feet of usable floor space. In addition, American Income leases office space in various cities throughout the United States. W&R owns and occupies a 116,000 square foot office building utilized as its corporate headquarters located in United Investors Park, a commercial development at 6300 Lamar Avenue, Shawnee Mission, Kansas. In addition, W&R owns three other office buildings in this development, each containing approximately 48,000 square feet, which are leased or are available for lease. 11
Liberty, Globe and W&R also lease district office space for their agency sales personnel. All of the other Torchmark companies lease their office space in various cities in the U.S. A Torchmark subsidiary, Torchmark Development Corporation ("TDC"), has completed three buildings consisting of 185,000 square feet, 90,000 square feet and 25,000 square feet of office space within a 100 acre commercial development known as Liberty Park along Interstate 459 in Birmingham, Alabama. Approximately 275,000 square feet of this total office area is currently leased. A 110,000 square foot office building is currently under construction in this development and is scheduled for completion in the Spring of 1997. TDC also owns and manages a 70,000 square foot office and retail complex adjacent to Liberty Park of which approximately 60% is leased by an affiliated party. As a part of a joint venture with unaffiliated entities, TDC is also developing 2,800 contiguous acres as a planned community development. DATA PROCESSING EQUIPMENT Torchmark and its primary subsidiaries have significant automated information processing capabilities, supported by centralized computer systems. Torchmark also uses personal computers to support the user-specific information processing needs of its professional and administrative staffs. All centralized computer software support, information processing schedules and computer-readable data management requirements are supported by company- specific policies and procedures which ensure that required information processing results are produced and distributed in a timely manner. These policies and procedures provide for the copying, off-site physical storage and retention of significant company computer programs and business data files for backup purposes. ITEM 3. LEGAL PROCEEDINGS Torchmark and its subsidiaries continue to be named as parties to pending or threatened legal proceedings. These lawsuits involve tax matters, alleged breaches of contract, torts, including bad faith and fraud claims based on alleged wrongful or fraudulent acts of agents of Torchmark's subsidiaries, employment discrimination, and miscellaneous other causes of action. Many of these lawsuits involve claims for punitive damages in state courts of Alabama, a jurisdiction particularly recognized for its large punitive damage verdicts. A number of such actions involving Liberty also name Torchmark as a defendant. As a practical matter, a jury's discretion regarding the amount of a punitive damage award is not limited by any clear, objective criteria under Alabama law. Accordingly, the likelihood or extent of a punitive damage award in any given case is virtually impossible to predict. As of December 31, 1996, Liberty was a party to approximately 282 active lawsuits (including 25 employment related cases and excluding interpleaders and stayed cases), more than 250 of which were Alabama proceedings in which punitive damages were sought. Liberty faces trial settings in these cases on an on-going basis. Torchmark has previously reported the entry of an Order and Final Judgment by the Circuit Court of Barbour County, Alabama in Robertson v. Liberty National Life Insurance Company (Case No. CV-92-021) approving a cancer policy class action settlement involving legal and equitable relief valued at a total of $55 million. In July 1994, certain intervenors in the Robertson litigation filed a notice of appeal of the Order and Final Judgment with the Supreme Court of Alabama. On December 22, 1995, the Alabama Supreme Court unanimously affirmed the Robertson class action settlement and on February 16, 1996, issued a notice overruling the petition for a rehearing in Robertson filed by certain intervenors. A petition for writ of certiorari to the Supreme Court of the United States was then filed by intervenors. The U.S. Supreme Court granted certiorari in Robertson on October 1, 1996. Oral arguments on the intervenors' petition, which alleged that class members had not received due process in the class certification procedure and should be allowed to opt out of the class action settlement to pursue separate litigation, were heard by the U.S. Supreme Court on January 14, 1997. On March 3, 1997, the U.S. Supreme Court dismissed, as improvidently granted, the writ of certiorari previously granted in Robertson. The ruling effectively ends direct appeals from the Robertson class action settlement and Liberty will proceed with administration of benefits under the class settlement. As previously reported, Liberty is subject to 76 individual cancer policy lawsuits pending in Alabama and Mississippi, which were stayed or otherwise held in abeyance pending final resolution of the Robertson case. Liberty will file motions to dismiss these lawsuits based upon the U.S. Supreme Court opinion in Robertson. If these cases are dismissed, no collateral attacks on the cancer class action settlement will remain at this time. As previously reported, Dismukes v. Torchmark Corporation (Case No. CV-94- 1006-P-M), which was filed on December 30, 1994 and is presently pending in the U.S. District Court for the Northern District of 12
Alabama, is the only remaining purported class action litigation brought by Torchmark shareholders alleging untimely and inadequate disclosure of material contingent liabilities arising out of insurance policy litigation involving Liberty. The U.S. District Court entered an order granting partial summary judgment on behalf of the defendants on April 16, 1996. Claims for damages based on Section 10b-5 of the Securities Exchange Act, on state securities laws and for common law fraud remain pending in the case. As previously reported, Torchmark, its insurance subsidiaries Globe and United American, and certain Torchmark officers were named as defendants in litigation filed April 22, 1994, as a purported class action in the District Court of Oklahoma County, Oklahoma (Moore v. Torchmark Corporation, Case No. CJ-94-2784-65). The suit claims damages on behalf of individual health policyholders who are alleged to have been induced to terminate such policies and to purchase Medicare Supplement and/or other insurance coverages. The complaint seeks actual and punitive damages for each class member in excess of $10,000. Subsequent to the filing of this case, one of the plaintiffs was dismissed and the named plaintiff died. The complaint was amended to include new plaintiffs purporting to represent the class and restyled Tabor v. Torchmark Corporation. No class has been certified. A motion to dismiss filed by the defendants was denied and limited discovery as permitted by the Oklahoma Supreme Court is proceeding. Prior filings have reported that in July 1994, a purported class action alleging fraudulent and deceitful practices in premium billing and lapses of coverage on a payroll deduction insurance plan was filed in the Superior Court for Gordon County, Georgia against Liberty (Bryant v. Liberty National Life Insurance Company, Civil Action No. 28979). The complaint alleged actual damages in excess of $10 million and punitive damages of not less than $50 million as well as premium reimbursements. Liberty removed this case to federal court, but the case was subsequently remanded to the state court. The Bryant case was settled on an individual basis by the parties on December 23, 1996. No class was ever certified. Litigation was filed on April 26, 1995, in the Circuit Court of Houston County, Alabama against Liberty involving the sale of health insurance coverage alleged to be in conflict with provisions of the Omnibus Budget Reconciliation Act of 1990 (Stewart v. Liberty National Life Insurance Company, Case No. CV-95-345L; Tolar v. Liberty National Life Insurance Company, Case No. CV-95-346J; Ingram v. Liberty National Life Insurance Company, Case No. CV-95-348L; Burkett v. Liberty National Life Insurance Company, Case No. CV-95-347H). The Stewart case has been dismissed with prejudice and the other cases remain pending. A purported class action was filed on August 8, 1995, against Liberty in the Circuit Court of Jefferson County, Alabama on behalf of Liberty cancer policyholders eligible for Medicare who submitted claims during an approximately two month period in 1993 (Adkins v. Liberty National Life Insurance Company, Case No. CV-95-5634). Beginning in September 1993, in reliance on federal law concerning the amount health care providers could collect from Medicare eligible individuals, Liberty limited the payment of benefits to such individuals to the amounts collectible by the providers under federal law. In November, 1993 Liberty discontinued this practice and recalculated and repaid all claims in full as it had prior to September 1993 together with interest. Nearly two years after this refund, the Adkins case was filed. The claims made in Adkins are identical to the individual claims in Allen v. Liberty National Life Insurance Company (Case No. CV-94-3634), an individual case reversed and remanded by the Alabama Supreme Court on March 7, 1997 after an appeal regarding the remitted verdict of $2.7 million. A class certification order, which does not address the merits of the litigation, was entered by the Court in Adkins on July 26, 1996. Liberty filed a petition for writ of mandamus or prohibition with the Alabama Supreme Court in August 1996 asserting abuse of discretion by the trial court in certifying the Adkins class. The Alabama Supreme Court has stayed further proceedings as to the class issues in Adkins pending its ruling on the propriety of class certification. On August 25, 1995, a purported class action was filed against Torchmark, Globe, United American and certain officers of these companies in the United States District Court for the Western District of Missouri on behalf of all former agents of Globe (Smith v. Torchmark Corporation, Case No.: 95-3304-CV- S-4). This action alleges that the defendants breached independent agent contracts with the plaintiffs by treating them as captive agents and engaged in a pattern of racketeering activity wrongfully denying income and renewal commissions to the agents, restricting insurance sales, mandating the purchase of worthless leads, terminating agents without cause and inducing the execution of independent contracts based on misrepresentations of fact. Monetary damages in an unspecified amount are sought. A plaintiff class was certified by the District Court on February 26, 1996, although the certification does not go to 13
the merit of the allegations in the complaint. On December 31, 1996, the plaintiffs filed an amended complaint in Smith to allege violations of various provisions of the Employment Retirement Income Security Act of 1974. Discovery is presently proceeding in this case. It has been previously reported that Liberty is a party to individual lawsuits and a purported class action (Carlton v. Liberty National Life Insurance Company, Case No. CV-96-22) in the Circuit Court of Chambers County, Alabama, in which allegations are made that an interest sensitive life insurance policy would become paid-up or self-sustaining after a specified number of years. Currently, Liberty is a party to more than 100 individual interest sensitive cases, 53 of which were filed by a single lawyer in Chambers County, Alabama. Additionally, Torchmark has previously reported the case of Lawson v. Liberty National Life Insurance Company, filed in the Circuit Court of Jefferson County, Alabama (Civil Action No.: CV-96-01119), where the plaintiffs were seeking class certification on behalf of such policyholders including those who were allegedly induced to exchange life insurance policies or the existing policy's cash value was allegedly depleted. On May 14, 1996, the Circuit Court of Jefferson County, Alabama entered an order conditionally certifying a plaintiffs claim in Lawson in order to preserve the Court's jurisdiction over the class action question, subject to a full evidentiary hearing on class certification at a future date yet to be determined. In 1978, the United States District Court for the Northern District of Alabama entered a final judgment in Battle v. Liberty National Life Insurance Company, et al. (CV-70-H-752-S), class action litigation involving Liberty, a class composed of all owners of funeral homes in Alabama and a class composed of all insureds (Alabama residents only) under burial or vault policies issued, assumed or reinsured by Liberty. The final judgment fixed the rights and obligations of Liberty and the funeral directors authorized to handle Liberty burial and vault policies as well as reforming the benefits available to the policyholders under the policies. Although class actions are inherently subject to subsequent collateral attack by absent class members, the Battle decree remains in effect to date. A motion filed in February 1990 to challenge the final judgment under Federal Rule of Civil Procedure 60(b) was rejected by both the District Court in 1991 and the Eleventh Circuit Court of Appeals in 1992 and a Writ of Certiorari was denied by the U.S. Supreme Court in 1993. In November 1993, an attorney (purporting to represent the funeral director class) filed a petition in the District Court seeking "alternative relief" under the final judgment. This petition was voluntarily withdrawn on November 8, 1995, by petitioners. On February 23, 1996, Liberty filed a petition with the District Court requesting that it order certain contract funeral directors to comply with their obligations under the Final Judgment in Battle and their funeral service contracts. A petition was filed on April 8, 1996 on behalf of a group of funeral directors seeking to modify the 1978 decree in Battle in light of changed economic circumstances. Liberty is actively opposing this petition. Purported class action litigation was filed on January 2, 1996 against Torchmark, Torch Energy Advisors Incorporated ("Torch Energy"), and certain Torch Energy subsidiaries and affiliated limited partnerships in the Circuit Court of Pickens County, Alabama (Pearson v. Torchmark Corporation, Case No. CV-95-140). Plaintiff alleges improper payment of royalties and overriding royalties on coalbed methane gas produced and sold from wells in Robinson's Bend Coal Degasification Field, seeks certification of a class and claims unspecified compensatory and punitive damages on behalf of such class. On April 11, 1996, Torchmark's motion to change venue was granted and the case has been transferred to the Circuit Court of Tuscaloosa County, Alabama. The Company's motion to dismiss remains pending while discovery is proceeding. It has been previously reported that the Company, its subsidiaries United American and Globe and certain individual corporate officers are parties to purported class action litigation filed April 5, 1996 in the U.S. District Court for the Northern District of Georgia (Crichlow v. Torchmark Corporation, Case No.: 4:96-CV 0086-HLM). The complaint alleged RICCO violations, fraud, breach of contract, conspiracy, violations of the Oklahoma Consumer Protection Act and breach of the duty of good faith and fair dealing on behalf of all persons who purchased, at any time between 1987 and the present, certain hospitalization and surgical insurance policies issued by Globe and United American. The plaintiffs asserted that they purchased these policies and subsequently incurred improper claim denials, wrongful recision and "rate-ups" and post-claim underwriting. On December 4, 1996, the U.S. District Court dismissed the RICCO counts, the Oklahoma Consumer Protection Act and contract counts as to certain defendants and ordered plaintiffs to file an amended complaint. On December 23, 1996, the plaintiffs filed 14
the amended complaint as ordered, alleging breach of contract, fraud, conspiracy and breach of the duty of good faith and fair dealing on behalf of a purported class of persons who purchased Globe, but not United American, policies from 1987 to the present. Defendants have filed motions to dismiss and for partial summary judgment. On April 19, 1996, a $5 million punitive judgment was entered against LIberty by a jury in Mobile, Alabama in Strickland v. Liberty National Life Insurance Company (CV-95-1399). In the Strickland case, the plaintiff, who was in his sixties, cancelled several small life insurance policies and purchased a substantial amount of new coverage. The plaintiff contended that certain supplemental benefits which were present in the smaller policies were not included in the new coverage (i.e. accidental death and premium waiver). The trial judge held that Strickland was not entitled to recover compensatory damages. Nevertheless the jury awarded $100 in nominal damages in addition to the punitive award. Liberty has filed various motions for the post-trial relief with the Circuit Court, which held a post-trial hearing on the propriety of the punitive damage award on February 12, 1997. On March 11, 1997, the Circuit Court judge reduced the Strickland judgment to $37,500. A jury in Chambers County, Alabama Circuit Court returned a verdict of $333,000 compensatory damages and $17.2 million in punitive damages against Liberty on June 11, 1996, in McQuiston v. Liberty National Life Insurance Company (CV-94-234). The case arose out of a claim which had been denied due to an alleged misrepresentation in the application. There was a recorded telephone interview with the applicant in which a statement was given which Liberty alleges was a misrepresentation of the health of the proposed insured. After the litigation was filed, it was learned that one signature on the application was not that of the insured. Upon notice of this fact, Liberty paid the $20,000 claim proceeds into court. Liberty has filed motions for post-trial relief with the Court, subject to completion of post trial discovery. A post-trial hearing on the propriety of the punitive damage award is scheduled for March 28, 1997. Based upon information presently available, and in light of legal and other factual defenses available to Torchmark and its subsidiaries, contingent liabilities arising from threatened and pending litigation are not presently considered by management to be material. It should be noted, however, that the frequency of large punitive damage awards bearing little or no relation to actual damages awarded by juries in jurisdictions in which Torchmark has substantial business, particularly in Alabama, continues to increase universally, creating the potential for unpredictable material adverse judgments in any given punitive damage suit. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matter was submitted to a vote of shareholders, through the solicitation of proxies or otherwise, during the fourth quarter of 1996. 15
PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS The principal market in which Torchmark's common stock is traded is the New York Stock Exchange. There were 7,262 shareholders of record on December 31, 1996, excluding shareholder accounts held in nominee form. Information concerning restrictions on the ability of Torchmark's subsidiaries to transfer funds to Torchmark in the form of cash dividends is set forth in Note 14-- Shareholders' Equity in the Notes to the Consolidated Financial Statements. The market price and cash dividends paid by calendar quarter for the past two years are as follows: <TABLE> <CAPTION> 1996 MARKET PRICE ------------ DIVIDENDS QUARTER HIGH LOW PER SHARE ------- ------- ------- --------- <S> <C> <C> <C> 1 $49.875 $42.500 $ .29 2 45.250 41.000 .29 3 46.250 40.250 .29 4 52.125 45.500 .29 </TABLE> Year-end closing price..................$50.500 <TABLE> <CAPTION> 1995 MARKET PRICE ------------ DIVIDENDS QUARTER HIGH LOW PER SHARE ------- ------- ------- --------- <S> <C> <C> <C> 1 $42.875 $34.250 $ .28 2 42.000 37.375 .28 3 42.250 36.750 .28 4 45.250 40.875 .29 </TABLE> Year-end closing price..................$45.250 16
ITEM 6. SELECTED FINANCIAL DATA The following information should be read in conjunction with Torchmark's Consolidated Financial Statements and related notes reported elsewhere in this Form 10-K: (AMOUNTS IN THOUSANDS EXCEPT PER SHARE AND PERCENTAGE DATA) <TABLE> <CAPTION> 1996 1995 1994 1993 1992 YEAR ENDED DECEMBER 31, ---------- ---------- ---------- ---------- ----------- <S> <C> <C> <C> <C> <C> Premium Revenue: Life................... $ 854,897 $ 772,257 $ 601,633 $ 555,859 $ 544,745 Health................. 732,618 754,983 773,375 804,605 802,536 Other ................. 22,404 19,043 13,866 132,446 106,681 Total................. 1,609,919 1,546,283 1,388,874 1,492,910 1,453,962 Net investment income... 404,608 381,865 347,637 368,494 370,617 Financial services revenue................ 184,295 152,482 139,276 137,422 133,462 Realized investment gains (losses)......... 5,829 (14,323) (2,551) 8,009 (948) Total revenue........... 2,205,810 2,067,482 1,875,337 2,066,846 1,959,668 Net income from continuing operations.. 318,509 271,945 263,814 242,298 247,647 Net income.............. 311,372 143,235 268,946 297,979 265,477 Net income available to common shareholders........... 311,372 143,235 268,142 294,690 262,024 Annualized premium issued: Life................... 214,741 217,988 149,833 128,433 131,726 Health................. 100,981 103,491 122,663 177,701 227,134 Total................. 315,722 321,479 272,496 306,134 358,860 Mutual fund collections. 1,497,259 1,182,594 1,180,477 1,237,747 1,141,928 Per common share: Net income............. 4.37 2.00 3.72 4.01 3.58 Net operating income(1)............. 4.43 3.93 3.74 3.50 3.34 Net income from continuing operations. 4.47 3.80 3.65 3.25 3.33 Cash dividends paid.... 1.16 1.13 1.12 1.08 1.07 Return on average common equity excluding effect of SFAS 115 and discontinued operations............. 20.5% 18.5% 19.7% 21.3% 24.6% Average shares outstanding............ 71,230 71,594 72,096 73,502 73,237 - ------------------------------------------------------------------------------- <CAPTION> 1996 1995 1994 1993 1992 AS OF DECEMBER 31, ---------- ---------- ---------- ---------- ----------- <S> <C> <C> <C> <C> <C> Cash and invested assets (2).................... $6,049,629 $5,874,037 $5,036,211 $5,200,588 $ 4,675,577 Total assets............ 9,800,800 9,364,104 8,165,244 7,441,185 6,544,617 Short-term debt......... 40,910 189,372 250,116 107,108 195,102 Long-term debt.......... 791,880 791,988 791,518 791,090 496,622 Shareholders' equity.... 1,629,343 1,588,952 1,242,603 1,417,255 1,115,660 Per common share (3)... 23.38 22.17 17.37 18.80 14.54 Per common share excluding effect of SFAS 115.............. 22.84 20.33 19.31 17.29 14.54 Annualized premium in force: Life.................. 946,525 869,366 796,955(4) 612,656 588,084 Health................ 748,153 759,059 812,371(4) 828,332 837,628 Total................. 1,694,678 1,628,425 1,609,326 1,440,988 1,425,712 Assets under management at W&R................. 18,858,000 18,288,000 14,502,000 14,470,000 12,144,000 </TABLE> - ------------------------------------------------------------------------------- (1) Excludes realized investment gains (losses) and the related adjustment to deferred acquisition costs. (2) Includes accrued investment income. (3) Computed after deduction of preferred shareholders' equity. (4) Annualized life premium in force includes $144 million, and annualized health premium in force includes $37 million, representing the business acquired in the acquisition of American Income Life Insurance Company in 1994. 17
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following should be read in conjunction with the Selected Financial Data and Torchmark's Consolidated Financial Statements and Notes thereto appearing elsewhere in this report. RESULTS OF OPERATIONS Torchmark's net operating income from continuing operations excludes realized investment gains and losses and the related adjustment to deferred acquisition costs. Net operating income was $4.43 per share in 1996, rising 13% over $3.93 per share in 1995. This increase in net operating income for 1995 was 5% from 1994 per share net operating income of $3.74. Realized investment losses for 1995 included a $15 million after-tax, or $.21 per share, writedown of an investment in Southwestern Life Corporation, which filed for Chapter 11 bankruptcy protection in the third quarter of 1995. Torchmark's net income, including discontinued operations, was $311 million in 1996 compared with $143 million in 1995 and $269 million in 1994. On a per- share basis, net income was $4.37, $2.00, and $3.72 in 1996, 1995, and 1994, respectively. Net income in 1995 was negatively affected by Torchmark's decision to dispose of its energy segment and to exit the energy industry. Accordingly, in 1995, Torchmark modified the presentation in its financial statements to set forth separately the net assets and results attributable to the discontinued energy segment as discontinued operations. Also in the fourth quarter of 1995, as a part of the decision to dispose of the energy segment, Torchmark wrote down its investment in a coalbed methane gas development in the Black Warrior Basin of Alabama to the investment's estimated realizable value. Torchmark had experienced disappointments in methane gas production through increased difficulties in obtaining significant gas production from lower coal seams, resulting in downward revisions to engineering estimates of reserves. In view of these production difficulties, Torchmark's desire to sell its energy segment, and the adoption of FASB Statement 121, an accounting rule regarding impairments, it was determined that a writedown of the investment was appropriate. The writedown amounted to an after-tax charge of $130 million, or $1.82 per share in 1995. The disposition of the energy segment was completed on September 30, 1996 and resulted in an after-tax loss of $7 million or $.10 per share. For more details on this transaction, see "Disposal of Energy Segment" on page 30 of this report. In a comparison of 1996 and 1995 results with those of 1994, attention should be given to the acquisition of American Income on November 3, 1994 for total consideration of $552 million. American Income's results were consolidated with Torchmark's after the acquisition date, being included for a full year in 1995 for the first time. American Income added approximately $17 million and $22 million to Torchmark's 1995 and 1996 net income, respectively, after taking into account goodwill amortization and financing costs. Torchmark's 1996 revenues gained 7% over the prior year to $2.21 billion. Revenues increased 10% in 1995 to $2.07 billion from $1.88 billion in 1994, an increase of $192 million. The American Income acquisition accounted for the 1995 increase after adjusting for lost investment income from the purchase. American Income added $225 million to total revenues in 1995, compared with $31 million in 1994. Premium income increased 4% in 1996 over the prior year to $1.61 billion. Premium in 1995 rose 11% to $1.55 billion from $1.39 billion. The $157 million gain in premium in 1995 was caused by the inclusion of American Income premium for a full year, which increased $168 million over 1994. The components of Torchmark's revenues and operations are described in more detail in the discussion of segments and investment operations found on pages 19 through 27 of this report. Operating expenses, as a percentage of total revenues, were stable at 7% in both 1996 and 1995. This expense ratio increased from 6.3% in 1994. The higher expense ratios in 1995 and 1996 are related to increased legal and litigation costs at Liberty. In 1995, the increases in goodwill amortization, interest expense, and the MIPS dividend were the result of financing the American Income acquisition in late 1994. Please refer to the following sections of this report for a more complete discussion of this purchase 18
and the related financing costs: "Acquisition of American Income" on page 30, and "Capital Resources" on page 28. Interest expense declined 9% in 1996 due to debt paydowns. For a more complete discussion of Torchmark's debt, please see the "Capital Resources" discussion. The following is a discussion of Torchmark's operations by segment. INSURANCE Life insurance. Life insurance premium increased 11% in 1996 to $855 million. Life premium grew 28% to $772 million for the year 1995. The 1995 versus 1994 comparison is distorted somewhat because of the American Income acquisition in late 1994. American Income life premium was $154 million in 1995, compared with $21 million in 1994, accounting for $133 million of the $171 million increase in life premium for 1995. Sales of life insurance in terms of annualized premium were $215 million in 1996 and $218 million in 1995. This represents a 1% decline in 1996 when compared with 1995, a record year for Torchmark, but the 1995 increase was 45% over 1994 sales of $150 million. American Income accounted for $51 million of 1995 sales, or 64% of the 1995 increase. Life insurance premium is Torchmark's largest component of revenue, representing 39% of total revenue and 53% of total premium. In 1995, Torchmark's life annualized premium in force at year end exceeded its health premium for the first time since 1982. In 1996, the gap between life and health premium increased, as annualized life premium in force grew to 56% of total as opposed to health premium's 44%. Torchmark has emphasized increases in sales of life insurance product lines relative to health and other insurance products because profit margins for life insurance are superior. Additionally, assets backing the higher reserves required for life products provide the potential for Torchmark to increase investment income. Profit margins for life insurance operations, as measured by insurance operating income as a percentage of premium, have approximated 29% in each of the three years presented. By contrast, health margins have not exceeded 16% during the same three years. Annualized life premium in force climbed 9% in 1996 to $947 million at December 31. Annualized life premium in force also grew 9% during 1995, rising to $869 million. Annualized premium in force data includes amounts collected on certain interest-sensitive life products which are not recorded as premium income but exclude single premium income and policy account charges. Torchmark markets its life insurance products through a variety of different distribution channels. The following table presents life insurance premium income during each of the three years ended December 31, 1996 by distribution method. LIFE INSURANCE Premium by Distribution Method (Dollar amounts in thousands) <TABLE> <CAPTION> 1996 1995 1994 -------------- -------------- -------------- % OF % OF % OF AMOUNT TOTAL AMOUNT TOTAL AMOUNT TOTAL -------- ----- -------- ----- -------- ----- <S> <C> <C> <C> <C> <C> <C> United American Independent Agency........................ $ 33,404 3.9% $ 28,305 3.7% $ 25,971 4.3% United American Exclusive Agency........................ 15,767 1.8 10,713 1.4 7,988 1.3 Direct Response................ 171,983 20.1 149,141 19.3 127,661 21.2 Liberty National Exclusive Agency........................ 279,637 32.7 275,089 35.6 268,460 44.6 American Income Exclusive Agency........................ 173,700 20.3 153,914 19.9 21,055 3.5 Military....................... 71,223 8.3 45,512 5.9 39,802 6.6 United Investors Exclusive Agency........................ 73,836 8.6 69,498 9.0 64,940 10.8 Other.......................... 35,347 4.3 40,085 5.2 45,756 7.7 -------- ----- -------- ----- -------- ----- $854,897 100.0% $772,257 100.0% $601,633 100.0% ======== ===== ======== ===== ======== ===== </TABLE> The direct response operation has experienced premium growth, with premium revenue rising 15% in 1996 to $172 million, after having risen 17% in 1995. Annualized life premium in force was $202 million at December 31, 1996. Direct response marketing is conducted through direct mail, co-op mailings, 19
television and consumer magazine advertising, as well as direct mail solicitations endorsed by groups, unions and associations. The direct response operation accounted for 20% of Torchmark's life insurance premium in 1996. The Liberty National Agency distribution system accounted for the most life insurance premium income in each of the three years presented, with 1996 premium representing 33% of Torchmark's total life premium. Annualized life premium in force grew from $297 million at year-end 1995 to $299 million at the end of 1996. Life premium sales, in terms of annualized premium issued, declined 6% during 1996 to $45 million. During the past two years, this agency has completed the transition from a debit-style renewal premium collection system to a direct bill or bank-draft collection system. At the beginning of 1996, debit or home collection sales were discontinued. Under the new system, agents spend more time developing new customers. As expected, a number of agents did not make the transition. During the two year period, the agency force declined 31% to 1,750 agents. However, life insurance production only declined 12%, which is evidence of the strength of the existing sales force. In the fourth quarter of 1996, emphasis was placed on hiring and training new agents under the new system. The agency expects a growth in the number of productive agents, and in turn, growth in sales and in force. Another Torchmark distribution system which experienced growth in life insurance operations was the American Income Agency. This agency targets members of labor unions, credit unions, and other associations for its life insurance sales. Life premium rose 13% in 1996 to $174 million. Annualized premium in force grew 11% to $188 million at December 31, 1996. Annualized premium in force was $170 million at year-end 1995, rising 15% over year-end 1994. Sales of annualized premium increased 6% to $54 million in 1996. American Income was acquired by Torchmark in late 1994. Torchmark distributes life insurance through a nationwide independent agency whose sales force is comprised of former commissioned and non-commissioned military officers who sell exclusively to commissioned and non-commissioned military officers and their families. The quality of the business, which is comprised of whole life products with term insurance riders, produced by this agency is outstanding. Life premium income from this distribution system was $71 million in 1996, up $26 million from 1995. This increase resulted primarily from the acquisition from another carrier of a block of business with $21 million of annualized premium in force produced by the military agency. In the past, this agency has produced business through Liberty National, but beginning late in the first quarter of 1997, additional sales will be produced through Globe Life. Torchmark's other three distribution channels each experienced premium growth in 1996. The United Investors Exclusive Agency, made up of W&R sales representatives, recorded premium income of $74 million, increasing 6% over 1995. Premium for the United American Exclusive Agency rose 47% to $16 million. Annualized premium sold was $11 million in 1996, gaining 17%. The United American Independent Agency had life premium income growth of 19% to $33 million, and sales growth of 11% to $18 million. The United Investors Agency represents 9% of Torchmark's life premium, while the two United American Agencies represent 6%. 20
LIFE INSURANCE Summary of Results (Dollar amounts in thousands) <TABLE> <CAPTION> 1996 1995 1994 ----------------- ----------------- ----------------- % OF % OF % OF AMOUNT PREMIUM AMOUNT PREMIUM AMOUNT PREMIUM -------- ------- -------- ------- -------- ------- <S> <C> <C> <C> <C> <C> <C> Premium and policy charges................. $854,897 100.0% $772,257 100.0% $601,633 100.0% Policy obligations....... 558,436 65.3 507,444 65.7 412,799 68.6 Required reserve interest................ (209,126) (24.4) (194,733) (25.2) (163,637) (27.2) -------- ----- -------- ----- -------- ----- Net policy obligations.. 349,310 40.9 312,711 40.5 249,162 41.4 Amortization of acquisition costs....... 146,164 17.1 126,695 16.4 90,573 15.1 Commissions and premium taxes................... 54,182 6.3 50,994 6.6 39,845 6.6 Other expenses........... 61,865 7.2 60,767 7.9 46,814 7.8 -------- ----- -------- ----- -------- ----- Total expense........... 611,521 71.5 551,167 71.4 426,394 70.9 -------- ----- -------- ----- -------- ----- Insurance operating income.................. $243,376 28.5% $221,090 28.6% $175,239 29.1% ======== ===== ======== ===== ======== ===== </TABLE> Torchmark's life insurance margins have remained stable, with insurance operating income at approximately 29%, throughout the three-year period presented. As a percentage of premium, operating expenses resumed their decline in 1996, dropping to 7.2%. This expense ratio was 8.6% five years ago and 11% ten years ago. One major factor in maintaining stable operating income margins in the life insurance business is improved persistency. Persistency is beneficial to margins because it lowers the rate of amortization of acquisition costs, and increases profits because the premium life is extended. Persistency improvements have resulted, at least in part, from previously-mentioned changes in the Liberty National Agency marketing system, including revisions in agents' compensation formulas to encourage lower lapses and changing the premium collection method from agent-collected to bank draft and direct bill methods which are characterized by higher persistency. Another contributing factor to improved persistency in life business is a higher proportion of premium from the military distribution system, which has an extremely low lapse rate. Even though improvements in persistency have occurred in Torchmark's major life insurance lines, acquisition cost ratios rose in each of the years reported. In a comparison of 1996 and 1995 ratios with 1994, the American income purchase must be taken into account. While American Income's life business is very profitable and has a total insurance operating income margin similar to other Torchmark products, it is characterized by lower policy obligations and higher amortization of acquisition costs. The higher acquisition cost ratio is a result of the higher amortization of the value of insurance purchased relative to deferred acquisition costs. Torchmark's discontinuance of active marketing of pre-need funeral insurance has caused the amortization of acquisition cost on this business to increase relative to premium, although the impact on total margins are more than offset by a reduction in policy benefits ratios. The above presentation of life insurance results excludes a $22.8 million benefit in 1994 from the review of reserving assumptions on a block of burial reserves. An evaluation of assumptions regarding mortality, interest, and inflation pressures on burial costs indicated that sufficient experience existed to support a change in the level of reserves held on this block. Torchmark will continue to monitor its reserving assumptions for this block on an annual basis to ensure that reserves are adequate to meet contractual liabilities. Had this item been included, the 1994 ratio of policy obligations to premium would have been reduced and overall margin would have been increased 3.8%. Health insurance. Health products sold by Torchmark include Medicare Supplement insurance, cancer insurance, long-term care, and other under-age 65 limited benefit supplemental medical and hospitalization products. As a percentage of annualized health premium in force at December 31, 1996, Medicare Supplement accounted for 70%, cancer 16%, and other products 14%. These products are marketed by exclusive and independent agents, by direct response, and through associations. The table below presents health insurance premium income during each of the three years ended December 31, 1996 by distribution method. 21
HEALTH INSURANCE Premium by Distribution Method (Dollar amounts in thousands) <TABLE> <CAPTION> 1996 1995 1994 -------------- -------------- -------------- % OF % OF % OF AMOUNT TOTAL AMOUNT TOTAL AMOUNT TOTAL -------- ----- -------- ----- -------- ----- <S> <C> <C> <C> <C> <C> <C> United American Independent Agency........................ $440,862 60.2% $466,751 61.8% $509,972 65.9% United American Exclusive Agency........................ 124,037 16.9 123,264 16.3 128,538 16.6 Direct Response................ 3,519 0.5 956 0.1 1,106 0.2 Liberty National Exclusive Agency........................ 120,028 16.4 122,722 16.3 127,672 16.5 American Income Exclusive Agency........................ 44,172 6.0 41,290 5.5 6,087 0.8 -------- ----- -------- ----- -------- ----- $732,618 100.0% $754,983 100.0% $773,375 100.0% ======== ===== ======== ===== ======== ===== </TABLE> The following chart contains health insurance premium data from 1994 through 1996: <TABLE> <CAPTION> ($ MILLIONS) % % % HEALTH PREMIUM 1996 CHANGE 1995 CHANGE 1994 CHANGE - -------------- ---- ------ ---- ------ ---- ------ <S> <C> <C> <C> <C> <C> <C> Revenue..................................... $733 (3)% $755 (2)% $773 (4)% Annualized Premium Sales.................... $101 (2)% $103 (16)% $123 (31)% </TABLE> A major factor leading to the smaller decline in health sales over the three year period was the smaller decline in Medicare Supplement sales over the same period. In 1996, sales of Medicare Supplement insurance, the major component of Torchmark's health insurance, increased over the prior year sales for the first time since 1992. The following chart demonstrates the smaller declines over the past three years for Medicare Supplement annualized premium sales and in force: <TABLE> <CAPTION> ($ MILLIONS) % % % MEDICARE SUPPLEMENT 1996 CHANGE 1995 CHANGE 1994 CHANGE - ------------------- ---- ------ ---- ------ ---- ------ <S> <C> <C> <C> <C> <C> <C> Sales....................................... $ 66 2% $ 65 (26)% $ 88 (36)% In Force.................................... $524 (1)% $530 (7)% $572 (5)% </TABLE> The leveling of Medicare Supplement sales as compared to the prior year is due in part to $4 million annualized premium sold through Direct response, a distribution system not previously marketing this product. In addition to higher sales than the previous year, 1996 Medicare Supplement in force benefited from premium rate increases implemented during the year, the first increase in three years. In recent years, declines in Medicare Supplement premium issued and premium in force were the result of 1990 regulatory requirements that reduced allowable agents commissions on new sales, as well as uncertainties regarding health care reform by the Clinton Administration and Congress. Further, regulatory standardization of policy benefits to 10 standardized plans increased competition because consumers now see these products as a "commodity", differentiated only by price. Increased competition by Health Maintenance Organizations that substitute for traditional Medicare also have dampened sales. Torchmark is using several strategies to maintain sales of new policies and the persistency of existing in force Medicare Supplement policies. Torchmark's premium rate increases year to year have been less than certain competitors, making Torchmark's rates more price competitive. In addition, new markets such as employer and association groups, and distribution methods such as Direct response are being tested. Sales of cancer products declined 6% to $10.7 million in 1996 after rising 40% in 1995 to $11.3 million. In spite of the lower sales, annualized premium in force for cancer increased to $119 million at year-end 1996 from $115 million at December 31, 1995, due primarily to the implementation of rate increases for the first time in two years. Annualized premium in force for other health products experienced an 8% drop in 1996, from $114 million to $105 million at December 31, 1996. Sales also 22
declined 11% in 1996 to $25 million. Torchmark introduced a new series of long-term care products in late 1996, and intends to aggressively market this product line. HEALTH INSURANCE Summary of Results (Dollar amounts in thousands) <TABLE> <CAPTION> 1996 1995 1994 ----------------- ----------------- ----------------- % OF % OF % OF AMOUNT PREMIUM AMOUNT PREMIUM AMOUNT PREMIUM -------- ------- -------- ------- -------- ------- <S> <C> <C> <C> <C> <C> <C> Premium.................. $732,618 100.0% $754,983 100.0% $773,375 100.0% Other income............. 2,994 0.4 3,001 0.4 3,349 0.4 -------- ----- -------- ----- -------- ----- Total revenues.......... 735,612 100.4 757,984 100.4 776,724 100.4 Policy obligations....... 448,346 61.2 454,107 60.2 459,163 59.4 Required reserve interest................ (26,137) (3.6) (26,139) (3.5) (25,710) (3.4) -------- ----- -------- ----- -------- ----- Net policy obligations.. 422,209 57.6 427,968 56.7 433,453 56.0 Amortization of acquisition costs....... 63,150 8.6 69,698 9.2 76,170 9.8 Commissions and premium taxes................... 87,688 12.0 94,624 12.5 102,603 13.3 Other expense............ 45,812 6.3 47,510 6.3 43,007 5.6 -------- ----- -------- ----- -------- ----- Total expense........... 618,859 84.5 639,800 84.7 655,233 84.7 -------- ----- -------- ----- -------- ----- Insurance operating income.................. $116,753 15.9% $118,184 15.7% $121,491 15.7% ======== ===== ======== ===== ======== ===== </TABLE> As a percentage of premium, insurance operating income for Torchmark's health insurance was stable, approximating 16% in each of the three years considered. While policy obligations as a percentage of premium have risen each year, these increases have been more than offset by the declines in amortization of acquisition costs and commissions. The decline in the amortization of acquisition costs ratio has been caused by improvements in persistency in Torchmark's health business. Excluded from the above presentation of health results in 1994 is a $30 million charge for cancer policy benefits resulting from a reclassification of non-operating expense to health benefits, since actual payments will be made in the form of health benefits. Annuities. Torchmark's annuity products serve a wide range of markets, such as providing retirement income, funding prearranged funerals, and offering long-term tax-deferred growth opportunities. Annuities are sold on both a fixed and variable basis. Fixed annuity deposits are held and invested by Torchmark and are obligations of the company. Variable annuity deposits are invested at the policyholder's direction into his choice among ten W&R managed mutual funds which vary in degree of investment risk and return. A fixed annuity investment account is also available as a variable annuity investment option. These investments pertaining to variable annuity deposits are reported as "Separate Account Assets" and the corresponding deposit balances for variable annuities are reported as "Separate Account Liabilities." Annuity premium is accounted for as a deposit and is not reflected in income. Revenues on both fixed and variable annuities are derived from charges to the annuity account balances for insurance risk, administration, and surrender, depending on the structure of the contract. Variable accounts are also charged an investment fee and a sales charge. Torchmark benefits to the extent these policy charges exceed actual costs and to the extent actual investment income exceeds the investment income which is credited to policyholders on fixed annuities. 23
The following table presents the annuity account balance at each year end and the annuity collections for each year for both fixed and variable annuities. <TABLE> <CAPTION> ANNUITY DEPOSIT BALANCES ANNUITY COLLECTIONS -------------------------- -------------------------- (DOLLAR AMOUNTS IN (DOLLAR AMOUNTS IN MILLIONS) THOUSANDS) 1996 1995 1994 1996 1995 1994 -------- -------- -------- -------- -------- -------- <S> <C> <C> <C> <C> <C> <C> Fixed..................... $ 974.6 $ 927.9 $ 801.2 $ 87,133 $133,461 $ 43,339 Variable.................. 1,375.5 1,052.2 692.8 247,461 189,188 196,105 -------- -------- -------- -------- -------- -------- Total.................... $2,350.1 $1,980.1 $1,494.0 $334,594 $322,649 $239,444 ======== ======== ======== ======== ======== ======== </TABLE> Annuity premium collections increased 4% in 1996 to $335 million over the prior year. Annuity collections rose 35% to $323 million in 1995. Fixed annuity premium collections declined 35% in 1996 to $87 million from $133 million in 1995, after having risen over three times 1994 collections of $43 million. The 1995 increase was caused by the entry of a United American general agency in the fourth quarter of 1994 that markets to bank customers. These sales generated $76 million in 1995 collections. In 1996, however, these sales declined to $55 million. Additionally, Torchmark's preneed annuity collections declined $19 million in 1996, contributing to the decline in 1996 fixed annuity collections. More than offsetting the decline in 1996 of fixed collections was an increase in 1996 of variable annuity collections of 31%. These collections were $247 million in 1996 as compared with $189 million in 1995. Strong financial markets in 1996 have contributed greatly to the growth in variable collections. Torchmark's variable annuities are issued by UILIC and sold by W&R sales representatives. The variable annuity account balance also gained 31% over the 1995 period, standing at $1.4 billion at December 31, 1996. The deposit account balance is positively affected by additional deposits resulting from heightened investor interest and by the accounts being valued based on the higher market values of the underlying investments. ANNUITIES Summary of Results (Dollar amounts in thousands) <TABLE> <CAPTION> 1996 1995 1994 ---------------- ---------------- ---------------- % OF % OF % OF MEAN MEAN MEAN AMOUNT RESERVE AMOUNT RESERVE AMOUNT RESERVE ------- ------- ------- ------- ------- ------- <S> <C> <C> <C> <C> <C> <C> Policy charges.............. $22,404 1.0% $19,049 1.1% $13,888 1.0% Allocated investment income..................... 12,957 0.6 10,206 0.6 8,576 0.6 ------- ---- ------- ---- ------- ---- Total revenue.............. 35,361 1.6 29,255 1.7 22,464 1.6 Policy obligations.......... 51,320 2.3 48,012 2.8 42,275 3.0 Required reserve interest... (50,188) (2.3) (48,541) (2.8) (42,765) (3.0) ------- ---- ------- ---- ------- ---- Net policy obligations..... 1,132 0.0 (529) 0.0 (490) 0.0 Amortization of acquisition costs...................... 10,606 0.5 9,125 0.5 5,772 0.4 Commissions and premium taxes...................... 610 0.0 699 0.0 605 0.0 Other expense............... 2,352 0.1 2,573 0.2 2,345 0.2 ------- ---- ------- ---- ------- ---- Total expense.............. 14,700 0.6 11,868 0.7 8,232 0.6 ------- ---- ------- ---- ------- ---- Insurance operating income.. $20,661 1.0% $17,387 1.0% $14,232 1.0% ======= ==== ======= ==== ======= ==== </TABLE> Insurance operating margins for annuities as measured by the mean reserve have remained fairly stable throughout the three years examined. Annuity policy charges have increased in each period. Policy charges increased 18% to $22 million in 1996. These charges were $19 million in 1995, gaining 37% over 1994 charges of $14 million. Growth in these policy charges resulted from the increase in size of the annuity account balance over each of the prior years, the increase in the number of annuity contracts in force, and the cumulative effect of growth in sales over the past few years on which the sales charge is based. The allocated investment income, or the investment income earned in excess of policy 24
requirements, also grew in each of the periods 1994 through 1996. These increases resulted from the growth in the fixed annuity deposit balances. ASSET MANAGEMENT Financial Services. Torchmark's financial services operations consist of the marketing of 23 mutual funds, including the United Group and the W & R Group of funds through exclusive financial planners. These representatives also market a variety of insurance products of Torchmark subsidiaries. Financial services operations also involve the management of mutual fund portfolios, the management of institutional portfolios, and the servicing of customer accounts. Revenues are derived from commissions from the sale of investment and insurance products, fees for management of investment asset portfolios, and fees for servicing the accounts. Financial services revenues rose 21% to $221 million in 1996 compared with 1995 revenues of $183 million. These revenues grew 9% in 1995 from 1994 revenues of $167 million. Financial services revenues presented in Torchmark's consolidated financial statements will not correspond to total revenues for the financial services segment presented below in the Summary of Results table because certain revenues are eliminated in consolidation. Asset management fees of $103 million in 1996 were the largest component of financial services revenues, representing 47% of 1996 segment revenues. Asset management fees grew 20% in 1996, after having gained 22% to $86 million in 1995. Increases in these fees have occurred due to the daily growth in mutual fund assets and institutional assets under management, on which asset management fees are based. Average assets under management rose 17% in 1996 and 14% in 1995. Growth in average assets under management in 1995 and 1996 resulted from two factors. First, strength in the financial markets caused increases in the values of fund securities. Secondly, new net investment product sales and reinvested dividends in each period contributed to asset growth. Total assets under management were $18.9 billion at December 31, 1996, an increase over the prior year end of 3%. Total assets under management were $18.3 billion at December 31, 1995 and $14.5 billion at December 31, 1994, rising 26% in 1995. Mutual fund assets under management rose 14% in 1996 to $17.2 billion at year-end 1996. Asset management fees grew at a higher rate than assets under management in 1996 primarily because of a change in the type of assets under management. The total increase in assets under management for the period of $.6 billion was the result of a $2.1 billion increase in mutual fund assets partially offset by a $1.5 billion decrease in institutional assets. The mutual fund assets that were added have a higher management fee rate than the institutional assets that were lost. Commission revenues are derived from the sales of both investment and insurance products, with investment product commissions representing 84% of total commission revenues in 1996. The commissions from insurance products and variable annuities are primarily received from Torchmark insurance subsidiaries, and are eliminated in consolidation. Investment product commissions rose 26% to $72 million in 1996, after having declined 4% to $57 million in 1995. Investment product sales climbed 27% in 1996 to $1.5 billion. Investment product sales in 1995 were level with the 1994 sales of $1.2 billion. In 1996, sales of the United Funds, a front-load product, increased 22% or $187 million while sales of the W&R Funds, a deferred-load product, grew 44% or $70 million. Insurance product commissions have grown steadily, with 1996 commissions of $13.9 million, as compared with $13.5 million in 1995 and $12.8 million in 1994. Services fees grew 21% in 1996, after rising 6% in 1995. Service fees are charged based on the number of accounts serviced. The number of accounts serviced was 1.31 million at December 31, 1996, an increase of 7%. Accounts serviced were 1.22 million at year-end 1995 and 1.15 million at year-end 1994. The 1996 fees grew at a rate greater than the number of accounts because of an increase in fees. 25
FINANCIAL SERVICES Summary of Results (Dollar amounts in thousands) <TABLE> <CAPTION> 1996 1995 1994 ---------------- ---------------- --------------- % OF % OF % OF AMOUNT REVENUE AMOUNT REVENUE AMOUNT REVENUE -------- ------- -------- ------- ------- ------- <S> <C> <C> <C> <C> <C> <C> Commission revenue........... $ 85,888 38.9% $ 70,458 38.5% $72,223 43.1% Asset management fees........ 103,127 46.6 85,999 47.0 70,651 42.2 Service fees................. 28,419 12.9 23,528 12.9 22,297 13.3 -------- ----- -------- ----- ------- ----- Financial services revenue*................... 217,434 98.4 179,985 98.4 165,171 98.6 Investment and other income.. 3,642 1.6 2,947 1.6 2,264 1.4 -------- ----- -------- ----- ------- ----- Total revenue............... 221,076 100.0 182,932 100.0 167,435 100.0 Commissions and selling expenses.................... 78,797 35.6 63,882 34.9 62,285 37.2 Other expenses............... 28,959 13.1 24,708 13.5 21,252 12.7 -------- ----- -------- ----- ------- ----- Total expenses.............. 107,756 48.7 88,590 48.4 83,537 49.9 -------- ----- -------- ----- ------- ----- Pretax income................ $113,320 51.3% $ 94,342 51.6% $83,898 50.1% ======== ===== ======== ===== ======= ===== </TABLE> - -------- * Financial services revenue includes $33.1 million in 1996, $27.5 million in 1995 and $25.9 million in 1994 representing revenues from other Torchmark segments which are eliminated in consolidation. Pretax income for Torchmark's financial services operations has grown very rapidly, rising 20% to $113 million in 1996. This growth follows a 12% increase in 1995 to $94 million and a 15% increase in 1994 to $84 million. As a percentage of total financial services revenues, pretax income rose above 51% in 1995 and remained comparable in 1996. The 1995 margin improvement resulted from a greater percentage of financial services revenues coming from asset management fees. Asset management fees have a significantly greater profit margin than commissions and service fees. The proportion of asset management fees to total revenues remained constant in 1996, contributing to the flat margin ratios. While other expenses as a percentage of revenues declined, asset management fees were up about 17% over 1995. Commissions and selling expenses are the direct expenses associated with producing commission revenue. They consist of the commissions, bonuses, and other compensation paid to the sales force as well as other marketing and promotional costs. Because of the 1996 increase in sales volume, which causes an increase in sales incentive compensation, direct expenses as a percentage of commission revenue rose slightly, from 91% in 1995 to 92%. W&R also increased promotional efforts in 1995 and to an even greater extent in 1996. The 1996 increase in commission revenues resulted, at least in part, from these measures. INVESTMENTS Torchmark's net investment income increased 6% to $405 million during the year, following an increase of 10% in 1995 and a decrease of 6% in 1994. When adjusted for the American Income acquisition in late 1994, however, the 1995 increase was 3%. The 1996 increase in investment income is principally due to the continued accumulation of invested assets, which rose to $5.9 billion by year end. When adjusted for disposition of Torchmark's energy operations, mean invested assets rose 6% in 1996, as compared with a similar 6% increase in 1995. The overall level of interest rates rose sharply during the first half of 1996, then retracted approximately one-half of the advance by year end. In this environment, Torchmark's investment program continued to emphasize investment grade, call-protected corporate securities. New investment acquisitions of fixed income securities totaled $1.08 billion, compared with 1995 acquisitions of $1.87 billion. Acquisitions in 1995, however, were inflated by several sales programs implemented to reduce exposure to prepayments on mortgage-backed securities. During 1996, acquisitions were made at an average yield of 7.12% and an average life of 7.8 years compared with 7.28% and 13.4 years, respectively, for 1995. While there were no significant sales of GNMA holdings as in the past several 26
years, mortgage-backed securities declined because of repayments and the increase in other types of invested assets. Mortgage-backed securities were 25% of fixed income securities and 23% of invested assets at December 31, 1996. They were 27% of invested assets at year-end 1995 and 43% of invested assets at year-end 1994. Torchmark's fixed maturity portfolio is subject to market risk caused by changes in interest rates in financial markets. Because this portfolio is classified as available for sale, it is valued at market. While the portfolio is sensitive to market fluctuations, these temporary changes in market value have no bearing on the ultimate proceeds at maturity. Torchmark limits its market risk by maintaining a high quality portfolio with a relatively short average life. The moderate increase in rates in 1996 caused the unrealized gain of the fixed income portfolio to decline. At December 31, 1996, the market value of fixed income investments exceeded book value by $63 million, compared with an unrealized gain of $226 million at the end of 1995 and an unrealized loss of $242 million at year-end 1994. Despite the fluctuation in market values, the portfolio yield remained relatively stable at 7.55%, compared with 7.66% at year-end 1995 and 7.73% at year-end 1994. With shorter maturity acquisitions, the average life of the bond portfolio decreased from 8.8 years at year-end 1995 to 7.8 years currently. At year end, an estimated 38% of the fixed income portfolio will maturity within five years, and 80% will mature within 10 years. This compares with estimates of 38% and 76%, respectively, at year-end 1995. Presented below is a schedule of Torchmark's fixed-income portfolio by maturity. <TABLE> <CAPTION> 1996 1995 ----- ----- <S> <C> <C> Short terms and under 1 year...................................... 8.7% 8.6% 2-5 years......................................................... 29.0 28.9 6-10 years........................................................ 42.0 38.3 11-15 years....................................................... 10.0 10.8 16-20 years....................................................... 3.1 2.5 Over 20 years..................................................... 7.2 10.9 ----- ----- 100.0% 100.0% ===== ===== </TABLE> Torchmark's emphasis on fixed maturity bonds, which represented 90% of invested assets at 1996 year end, caused percentage holdings of other type investments to vary widely with latest industry averages prepared by the American Council of Life Insurance. <TABLE> <CAPTION> TORCHMARK ---------------- INDUSTRY % AMOUNT % (1) ---------- ----- ---------- <S> <C> <C> <C> Investment grade and short-term bonds.......... $5,162,841 86.9% 68.3% Noninvestment grade bonds...................... 243,357 4.1 3.7 Preferred and common stocks.................... 16,035 0.3 5.4 Mortgage loans................................. 64,353 1.1 12.8 Real estate.................................... 150,490 2.5 2.5 Policy loans................................... 206,959 3.5 5.8 Other invested assets.......................... 95,485 1.6 1.5 ---------- ----- ----- $5,939,520 100.0% 100.0% ========== ===== ===== </TABLE> - -------- (1) Latest data available from the American Council of Life Insurance. The quality of fixed income holdings remains very high, with 95% rated investment grade by Standard & Poor's and the NAIC. 27
FINANCIAL CONDITION Liquidity. Liquidity pertains to Torchmark's ability to meet on demand the cash commitments required by its business operations and financial obligations. Torchmark's liquidity is obtained from three sources: its positive cash flow from operations, its portfolio of short-term investments, and its line of credit facility. Torchmark's insurance and asset management operations generate positive cash flows in excess of its immediate needs. Cash flows provided from operations, including deposit-product operations, were $517 million in 1996, compared with $478 million in 1995, an increase of 8%. Operating cash flows grew 42% in 1995 over 1994 cash flows of $337 million. The 1995 increase was primarily caused by increased deposit-product sales in 1995 and a one-time $48 million tax settlement paid in 1994 related to prior periods. In addition to operating cash flows, Torchmark received $347 million of investment maturities and repayments in 1996, further enhancing total positive cash flow. Such repayments were $351 million in 1995 and $796 million in 1994. Cash flows in excess of immediate requirements are used to build an investment base to fund future requirements. Torchmark's cash and short-term investments were $103 million at December 31, 1996, compared with $86 million at year-end 1995. These liquid assets represented approximately 1% of total assets at December 31, 1996, the same as at the end of the previous year. In addition to Torchmark's liquid assets, Torchmark has a portfolio of marketable fixed and equity securities which are available for sale should the need arise. These securities had a value of $5.3 billion at December 31, 1996. Torchmark has in place a line of credit facility with a group of lenders which allows unsecured borrowings up to a specified maximum amount. The maximum amount was increased during 1996 to $600 million at December 31, 1996. Interest is charged at variable rates for borrowings. This line of credit is further designated as a backup credit line for a commercial paper program not to exceed $600 million, whereby Torchmark may borrow from either the credit line or issue commercial paper at any time but may not borrow in excess of a total of $600 million on the combined facilities. At December 31, 1996, $41 million in commercial paper was outstanding and there were no borrowings on the line of credit. A facility fee is charged on the entire $600 million balance. In accordance with the agreements, Torchmark is subject to certain covenants regarding capitalization and earnings. At December 31, 1996, Torchmark was in full compliance with these covenants. Liquidity of the parent company is affected by the ability of the subsidiaries to pay dividends. Dividends are paid by subsidiaries to the parent in order to meet its dividend payments on common and preferred stock, interest and principal repayment requirements on parent company debt, and operating expenses of the parent company. Dividends from insurance subsidiaries of Torchmark are limited to the greater of statutory net gain from operations on an annual noncumulative basis or 10% of surplus, in the absence of special approval, and distributions are not permitted in excess of statutory net worth. Subsidiaries are also subject to certain minimum capital requirements. Although these restrictions exist, dividend availability from subsidiaries has been and is expected to be more than adequate for parent company operations. During 1997, a maximum amount of $275 million will be available to Torchmark from insurance subsidiaries without regulatory approval. Capital Resources. The carrying amount of Torchmark's long-term debt was $792 million at both year-ends 1996 and 1995. Major debt issues outstanding at December 31, 1996 were as follows: <TABLE> <CAPTION> PRINCIPAL AMOUNT INSTRUMENT DUE RATE ($ THOUSANDS) ---------- ---- ----- ------------- <S> <C> <C> <C> Sinking Fund Debentures............................... 2017 8 5/8% $200,000 Senior Notes.......................................... 1998 9 5/8 200,000 Senior Debentures..................................... 2009 8 1/4 99,450 Notes................................................. 2023 7 7/8 200,000 Notes................................................. 2013 7 3/8 100,000 -------- $799,450 ======== </TABLE> 28
Torchmark repaid $550 thousand of principal on the Senior Debentures in 1996 under the terms of a put provision. In connection with the American Income purchase in November, 1994, Torchmark issued eight million shares or $200 million face amount Cumulative Monthly Income Preferred Securities, Series A ("MIPS") in October, 1994. The MIPS were issued at an annual dividend rate of 9.18%. They are subject to a mandatory redemption in full at September 30, 2024, although Torchmark may elect to extend the MIPS for up to an additional 20 years if certain conditions are met. They are redeemable at Torchmark's option at any time after September 30, 1999. While Torchmark is obligated to pay dividends at a fixed rate of 9.18%, Torchmark subsequently entered into a ten-year interest-rate swap agreement with an unaffiliated party to reduce financing costs. The swap agreement calls for Torchmark to pay a variable rate on the $200 million face amount in exchange for payment of the fixed dividend. Torchmark is at risk on this instrument for higher financing costs to the extent interest rates rise during the remaining term. This risk is limited, however, by a five-year interest- rate cap which Torchmark acquired in conjunction with the swap agreement that insures the variable rate cannot exceed 10.39%. At December 31, 1996, the variable rate was 6.95%. During 1996, Torchmark's after-tax dividend cost for the MIPS was $9.7 million, compared with $11.9 million that would have been incurred without the swap and cap transactions. Torchmark's after-tax cost in 1995 was $10.3 million, saving $1.6 million. Short-term debt was $41 million at year-end 1996, compared with $189 million at the end of the previous year. Torchmark repaid $148 million principal amount on this debt in 1996, with funds from internal cash flow. Torchmark paid down a net of $61 million on the credit facility during 1995. During 1996, the Torchmark Board of Directors and its financial advisor, Morgan Stanley, reviewed a number of restructuring options to possibly enhance shareholder value, including splitting the operations into separate publicly traded entities and selling all or portions thereof. However, none of the reasonably achievable restructuring options provided sufficient likelihood of creating more long term shareholder value than the current structure. Accordingly, the following actions were agreed to and accomplished to the extent described in the following sections. (1) Beginning in August 1996, Torchmark renewed its share repurchase program, and acquired 2.3 million shares of its common stock at a cost of $107 million by year end 1996. Torchmark also intends to use excess cash flow to make additional open market purchases, as market conditions warrant, provided that its debt-to-capital ratio does not exceed 40% and that no opportunities for acquisition offering superior returns are available. (2) Monetization of Vesta stock (see discussion below under Other items). (3) Complete the sale of the energy related discontinued operations (see discussion below under Other Items). Shareholders' equity rose to $1.63 billion at December 31, 1996, an increase of 3% from December 31, 1995 shareholders' equity of $1.59 billion. Book value per share was $23.38 at 1996 year end, compared with $22.17 and $17.37 at year-ends 1995 and 1994, respectively. After adjusting for the impact of interest-rate fluctuations on shareholders' equity required by accounting rules, book value per share was $22.84 at year-end 1996, an increase of 12% over $20.33 at year-end 1995. Comparative book value per share was $19.31 at year-end 1994. Return from continuing operations on common shareholders' equity was 20.5% in 1996, compared with 18.5% in 1995, even though average shareholders' equity increased. The return on equity ratios excludes the mark up or down of shareholders' equity for changes in market interest rates required by accounting rules. Total debt as a percentage of total capitalization continues to decline, and was 32% at December 31, 1996. In the computation of this ratio, the MIPS are counted as equity and the effect of the above-mentioned accounting rule is excluded. This debt-to-capitalization ratio was 37% at year-end 1995 and 40% at year-end 1994. Torchmark's ratio of earnings before interest, taxes and discontinued operations to interest requirements was 7.7 for 1996, compared with 6.3 in 1995 and 6.2 in 1994. 29
OTHER ITEMS Acquisition of American Income. On November 3, 1994, Torchmark acquired American Income for a total cash purchase price of approximately $552 million. American Income sells life insurance to union, credit union, and other association members through exclusive agents. The results of operations of American Income were consolidated with those of Torchmark after the purchase date. Funds for the purchase were provided through a $200 million preferred security offering which is discussed in more detail in the capital resources section above, a $175 million bridge loan from a group of banks, the sale of investments available for sale, and internal cash flow. Disposal of Energy Segment. On September 30, 1996, Torchmark completed the sale of its energy business segment including its energy asset management subsidiary, Torch Energy Advisors Incorporated ("TEAI"), and its Black Warrior coalbed methane investment. These operations, which were reclassified as discontinued operations in Torchmark's financial statements at December 31, 1995, were sold to a TEAI management group. After the sale, Torchmark had no controlling ownership interest in any energy asset management organization. In addition to previously transferred securities, warrants, and Section 29 energy-related tax credits, which approximated $112 million at closing, Torchmark received subordinated debt and notes totalling $32.5 million along with $15.5 million in cash. After closing costs and retained liabilities, Torchmark recorded a pre-tax loss of $23 million and an after-tax loss of $7 million from the sale, or $.10 per share. Monetization of Vesta Stock. Torchmark filed a registration statement with the Securities and Exchange Commission during the third quarter of 1996. The purpose of this statement was to monetize a substantial portion of Torchmark's holdings of Vesta Insurance Group, Inc. ("Vesta") common stock, by issuing a security mandatorily exchangeable for Vesta stock at the option of Torchmark. Torchmark currently holds approximately five million shares of Vesta stock. On November 7, 1996, Torchmark withdrew this registration statement because market conditions were not favorable for the monetization of Vesta stock at that time. Depending upon future market conditions, Torchmark may refile the registration statement or otherwise provide for the monetization of a portion of all of the Vesta stock, but currently has no plans to monetize this stock. Litigation. Torchmark and its subsidiaries continue to be named as parties to pending or threatened litigation, most of which involve punitive damage claims based upon allegations of agent misconduct at Liberty in Alabama. Such punitive damage claims are tried in Alabama state courts where any punitive damage litigation has the potential for significant adverse results. It is impossible to predict the extent of punitive damages that may be awarded if liability is found in any given case, since the amount of punitive damages in Alabama is left largely to the discretion of the jury in each case. It is thus difficult to predict with certainty the liability of Torchmark or its subsidiaries in any given case because of the unpredictable nature of this type of litigation. Also, the cancer policy class action litigation in Alabama continued in 1996. In February 1996, the Alabama Supreme Court issued a notice overruling a petition for rehearing of its decision affirming the trial court's final approval of the May 1994 settlement of this litigation. Certain intervenors then filed a petition for writ of certiorari to the U.S. Supreme Court, which granted certiorari in October 1996. Oral arguments were heard on the intervenors' petition in January 1997. On March 3, 1997, the U.S. Supreme Court dismissed, as improvidently granted, the writ of certiorari it had previously granted, effectively ending direct appeals of the cancer policy class action settlement. NEW ACCOUNTING RULES Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities (FASB Statement No. 125) is effective for transactions occurring after December 31, 1996, applied prospectively. Earlier or retrospective application is not permitted. This statement provides accounting and reporting standards for transfers and servicing of financial assets and extinguishments of liabilities, based on the concept of control. The adoption of this standard will have no material impact on Torchmark's financial condition or results. 30
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA <TABLE> <CAPTION> PAGE ---- <S> <C> Independent Auditors' Report.............................................. 32 Consolidated Financial Statements: Consolidated Balance Sheet at December 31, 1996 and 1995................. 33 Consolidated Statement of Operations for each of the years in the three- year period ended December 31, 1996................................................. 34 Consolidated Statement of Shareholders' Equity for each of the years in the three-year period ended December 31, 1996.......................................... 35 Consolidated Statement of Cash Flow for each of the years in the three- year period ended December 31, 1996................................................. 36 Notes to Consolidated Financial Statements............................... 37 </TABLE> 31
INDEPENDENT AUDITORS' REPORT The Board of Directors and Shareholders Torchmark Corporation Birmingham, Alabama We have audited the consolidated financial statements of Torchmark Corporation and subsidiaries as listed in Item 8 and the supporting schedules as listed in Item 14(a). These financial statements and financial statement schedules are the responsibility of Torchmark's management. Our responsibility is to express an opinion on these financial statements and financial statement schedules based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements and financial statement schedules are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Torchmark Corporation and subsidiaries at December 31, 1996 and 1995, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1996, in conformity with generally accepted accounting principles. Also, in our opinion, the related financial statement schedules, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly, in all material respects, the information set forth therein. As discussed in Note 1 to the consolidated financial statements, Torchmark adopted the provisions of the Financial Accounting Standards Board's Statement of Financial Accounting Standards No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, in 1995. KPMG PEAT MARWICK LLP Birmingham, Alabama January 31, 1997, except for Note 16, which is as of March 11, 1997 32
TORCHMARK CORPORATION CONSOLIDATED BALANCE SHEET (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) <TABLE> <CAPTION> DECEMBER 31, ---------------------- 1996 1995 ---------- ---------- <S> <C> <C> Assets: Investments: Fixed maturities--available for sale, at fair value (cost: 1996--$5,265,499; 1995--$4,984,223).......... $5,328,276 $5,210,224 Equity securities, at fair value (cost: 1996--$3,799; 1995--$4,758)....................................... 8,858 10,551 Mortgage loans on real estate, at cost (estimated fair value: 1996--$61,970; 1995--$50,686)........... 64,353 52,274 Investment real estate, at cost (less allowance for depreciation: 1996--$40,370; 1995--$32,463)......... 150,490 143,356 Policy loans......................................... 206,959 193,877 Other long-term investments.......................... 95,485 95,744 Short-term investments............................... 85,099 72,847 ---------- ---------- Total investments................................... 5,939,520 5,778,873 Cash (includes restricted cash: 1996--$15,028; 1995-- $11,838)............................................. 18,272 13,158 Investment in unconsolidated subsidiaries............. 88,051 76,101 Accrued investment income............................. 91,837 82,006 Other receivables..................................... 112,291 122,108 Deferred acquisition costs............................ 1,253,727 1,121,325 Value of insurance purchased.......................... 244,368 277,297 Property and equipment................................ 50,323 47,185 Goodwill.............................................. 540,540 555,517 Other assets.......................................... 41,846 30,304 Discontinued operations assets........................ -0- 174,386 Separate account assets............................... 1,420,025 1,085,844 ---------- ---------- Total assets........................................ $9,800,800 $9,364,104 ========== ========== Liabilities: Future policy benefits................................ $4,797,738 $4,566,850 Unearned and advance premiums......................... 83,670 83,473 Policy claims and other benefits payable.............. 220,121 209,773 Other policyholders' funds............................ 80,812 77,039 ---------- ---------- Total policy liabilities............................ 5,182,341 4,937,135 Accrued income taxes.................................. 340,287 362,005 Other liabilities..................................... 202,869 215,712 Short-term debt....................................... 40,910 189,372 Long-term debt (estimated fair value: 1996--$814,082; 1995--$860,258)...................................... 791,880 791,988 Separate account liabilities.......................... 1,420,025 1,085,844 ---------- ---------- Total liabilities................................... 7,978,312 7,582,056 Commitments and contingencies Monthly income preferred securities (estimated fair value: 1996--$210,000; 1995-- $217,040)............................................. 193,145 193,096 Shareholders' equity: Preferred stock, par value $1 per share--Authorized 5,000,000 shares; outstanding: -0- in 1996 and in 1995.............................. -0- -0- Common stock, par value $1 per share--Authorized 160,000,000 shares; outstanding: 73,784,228 issued in 1996 and in 1995, less 4,088,253 and 2,117,091 shares held in treasury in 1996 and 1995, respectively...... 73,784 73,784 Additional paid-in capital............................ 141,701 139,754 Unrealized gains, net of applicable taxes............. 46,581 140,338 Retained earnings..................................... 1,549,391 1,325,534 Treasury stock........................................ (182,114) (90,458) ---------- ---------- Total shareholders' equity.......................... 1,629,343 1,588,952 ---------- ---------- Total liabilities and shareholders' equity.......... $9,800,800 $9,364,104 ========== ========== </TABLE> See accompanying Notes to Consolidated Financial Statements. 33
TORCHMARK CORPORATION CONSOLIDATED STATEMENT OF OPERATIONS (AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) <TABLE> <CAPTION> YEAR ENDED DECEMBER 31, --------------------------------- 1996 1995 1994 --------- ---------- ---------- <S> <C> <C> <C> Revenue: Life premium............................... $ 854,897 $ 772,257 $ 601,633 Health premium............................. 732,618 754,983 773,375 Other premium.............................. 22,404 19,043 13,866 --------- ---------- ---------- Total premium............................ 1,609,919 1,546,283 1,388,874 Net investment income...................... 404,608 381,865 347,637 Financial services revenue................. 184,295 152,482 139,276 Realized investment gains (losses)......... 5,829 (14,323) (2,551) Other income............................... 1,159 1,175 2,101 --------- ---------- ---------- Total revenue............................ 2,205,810 2,067,482 1,875,337 Benefits and expenses: Life policyholder benefits................. 558,436 507,444 389,976 Health policyholder benefits............... 448,346 454,107 489,163 Other policyholder benefits................ 51,302 47,785 42,138 --------- ---------- ---------- Total policyholder benefits.............. 1,058,084 1,009,336 921,277 Amortization of deferred acquisition costs. 218,826 204,067 178,107 Commissions and premium taxes.............. 140,515 144,333 141,158 Financial services selling expense......... 50,515 40,080 39,962 Other operating expense.................... 154,150 145,520 118,353 Amortization of goodwill................... 14,977 14,977 6,584 Interest expense........................... 73,611 80,994 75,922 --------- ---------- ---------- Total benefits and expenses.............. 1,710,678 1,639,307 1,481,363 Income from continuing operations before income taxes and equity in earnings of unconsolidated subsidiaries................ 495,132 428,175 393,974 Income taxes................................ (180,622) (157,539) (135,994) Equity in earnings of unconsolidated subsidiaries............................... 13,654 11,626 7,971 Monthly income preferred securities dividend................................... (9,655) (10,317) (2,137) --------- ---------- ---------- Net income from continuing operations.... 318,509 271,945 263,814 Discontinued operations of energy segment: Income (loss) from operations (less applicable income taxes of: 1995--$86,050, 1994--$11,677)............................ -0- (128,710) 5,132 Loss on disposal (less applicable income tax benefit of: 1996--$15,813)............................ (7,137) -0- -0- --------- ---------- ---------- Net income............................... 311,372 143,235 268,946 Dividends to preferred shareholders......... -0- -0- (804) --------- ---------- ---------- Net income available to common shareholders............................ $ 311,372 $ 143,235 $ 268,142 ========= ========== ========== Net income per share: Continuing operations...................... $ 4.47 $ 3.80 $ 3.65 Discontinued operations of energy segment: Income (loss) from operations............. 0.00 (1.80) 0.07 Loss on disposal.......................... (0.10) 0.00 0.00 --------- ---------- ---------- Net income per share..................... $ 4.37 $ 2.00 $ 3.72 ========= ========== ========== </TABLE> See accompanying Notes to Consolidated Financial Statements. 34
TORCHMARK CORPORATION CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY (AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) <TABLE> <CAPTION> ADDITIONAL UNREALIZED TOTAL PREFERRED COMMON PAID-IN GAINS RETAINED TREASURY SHAREHOLDERS' STOCK STOCK CAPITAL (LOSSES) EARNINGS STOCK EQUITY --------- ------- ---------- ---------- ---------- --------- ------------- <S> <C> <C> <C> <C> <C> <C> <C> Year Ended December 31, 1994 - ----------------------- Balance at January 1, 1994................... $1,000 $73,784 $232,432 $120,138 $1,082,031 $ (92,130) $1,417,255 Net income.............. 268,946 268,946 Common dividends declared ($1.12 a share)................. (80,602) (80,602) Preferred dividends declared and accrued... (804) (804) Acquisition of treasury stock--preferred....... (46,982) (46,982) Acquisition of treasury stock--common.......... (59,072) (59,072) Retirement of treasury stock--preferred....... (1,000) (93,736) 94,736 -0- Exercise of stock options................ 349 (2,026) 6,433 4,756 Net change in unrealized gains (losses)......... (260,894) (260,894) ------ ------- -------- -------- ---------- --------- ---------- Balance at December 31, 1994.................. -0- 73,784 139,045 (140,756) 1,267,545 (97,015) 1,242,603 Year Ended December 31, 1995 - ----------------------- Net income.............. 143,235 143,235 Common dividends declared ($1.14 a share)................. (81,643) (81,643) Exercise of stock options................ 709 (3,603) 6,557 3,663 Net change in unrealized gains (losses)......... 281,094 281,094 ------ ------- -------- -------- ---------- --------- ---------- Balance at December 31, 1995.................. -0- 73,784 139,754 140,338 1,325,534 (90,458) 1,588,952 Year Ended December 31, 1996 - ----------------------- Net income.............. 311,372 311,372 Common dividends declared ($1.16 a share)................. (82,320) (82,320) Acquisition of treasury stock-- common................. (106,996) (106,996) Exercise of stock options................ 1,947 (5,195) 15,340 12,092 Net change in unrealized gains (losses)......... (93,757) (93,757) ------ ------- -------- -------- ---------- --------- ---------- Balance at December 31, 1996.................. $ -0- $73,784 $141,701 $ 46,581 $1,549,391 $(182,114) $1,629,343 ====== ======= ======== ======== ========== ========= ========== </TABLE> See accompanying Notes to Consolidated Financial Statements. 35
TORCHMARK CORPORATION CONSOLIDATED STATEMENT OF CASH FLOW (AMOUNTS IN THOUSANDS) <TABLE> <CAPTION> YEAR ENDED DECEMBER 31, ---------------------------------- 1996 1995 1994 ---------- ---------- ---------- <S> <C> <C> <C> Net income................................ $ 311,372 $ 143,235 $ 268,946 Adjustments to reconcile net income to cash provided from operations: Increase in future policy benefits...... 136,375 178,850 81,062 Increase in other policy benefits....... 14,319 4,877 23,990 Deferral of policy acquisition costs.... (300,461) (362,837) (225,409) Amortization of deferred policy acquisition costs...................... 218,826 204,067 178,107 Change in accrued income taxes.......... 61,519 42,337 (39,942) Depreciation............................ 9,056 9,603 11,271 Realized (gains) losses on sale of investments, subsidiaries, and properties........... (5,829) 14,323 2,551 Change in accounts payable and other liabilities............................ 9,091 (6,623) (45,093) Change in receivables................... (15,501) (31,670) (2,237) Change in payables and receivables of unconsolidated affiliates.............. (3,350) (2,348) (1,251) Other accruals and adjustments.......... (20,158) (2,951) 2,483 Discontinued operations of energy segment................................ 7,137 128,710 (5,132) ---------- ---------- ---------- Cash provided from operations............. 422,396 319,573 249,346 Cash used for investment activities: Investments sold or matured: Fixed maturities available for sale-- sold................................... 487,070 1,177,874 582,611 Fixed maturities available for sale-- matured, called, and repaid............ 347,116 351,246 796,064 Equity securities....................... 2,872 16,587 23,179 Mortgage loans.......................... 7,113 1,856 1,128 Real estate............................. 5,780 2,566 1,292 Other long-term investments............. 21,099 21,666 16,552 ---------- ---------- ---------- Total investments sold or matured...... 871,050 1,571,795 1,420,826 Acquisition of investments: Fixed maturities--available for sale.... (1,080,793) (1,870,445) (1,264,056) Equity securities....................... -0- (394) (23,739) Mortgage loans.......................... (18,360) -0- -0- Real estate............................. (9,690) (17,708) (20,587) Net increase in policy loans............ (13,082) (11,889) (8,305) Other long-term investments............. (15,891) (67,241) (15,333) ---------- ---------- ---------- Total investments acquired............. (1,137,816) (1,967,677) (1,332,020) Net (increase) decrease in short-term investments............................. (12,252) 35,514 76,457 Purchase of American Income.............. -0- -0- (551,501) Proceeds from sale of discontinued operations.............................. 15,500 -0- -0- Proceeds from sale of Nuevo Energy Company stock........................... 93,160 -0- -0- Loans made to unconsolidated affiliates.. -0- -0- (20,186) Loans repaid by unconsolidated affiliates.............................. -0- 28,000 -0- Dispositions of properties............... 2,093 1,198 1,332 Additions to properties.................. (15,412) (6,510) (5,632) Dividends from unconsolidated affiliates. 770 684 513 ---------- ---------- ---------- Cash used for investment activities....... (182,907) (336,996) (410,211) Cash provided from (used for) financing activities: Issuance of common stock................. 10,145 2,953 4,408 Issuance of monthly income preferred securities.............................. -0- -0- 193,046 Additions to debt........................ -0- -0- 143,000 Cash dividends paid to shareholders...... (82,893) (80,887) (82,336) Repayments on debt....................... (149,144) (60,867) (70,108) Acquisition of treasury stock............ (106,996) -0- (106,054) Net receipts from deposit product operations.............................. 94,513 158,084 87,701 ---------- ---------- ---------- Cash provided from (used for) financing activities............................... (234,375) 19,283 169,657 ---------- ---------- ---------- Increase in cash......................... 5,114 1,860 8,792 Cash at beginning of year................ 13,158 11,298 2,506 ---------- ---------- ---------- Cash at end of year...................... $ 18,272 $ 13,158 $ 11,298 ========== ========== ========== </TABLE> See accompanying Notes to Consolidated Financial Statements. 36
TORCHMARK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (DOLLARS AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 1--SIGNIFICANT ACCOUNTING POLICIES Basis of Presentation: The accompanying financial statements have been prepared in conformity with generally accepted accounting principles ("GAAP"). The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Principles of Consolidation: The financial statements include the results of Torchmark Corporation ("Torchmark") and its wholly-owned subsidiaries. Subsidiaries which are not majority-owned are reported on the equity method. All significant intercompany accounts and transactions have been eliminated in consolidation. Investments. Torchmark classifies all of its fixed maturity investments, which include bonds and redeemable preferred stocks, as available for sale. Investments classified as available for sale are carried at fair value with unrealized gains and losses, net of deferred taxes, reflected directly in shareholders' equity. Investments in equity securities, which include common and nonredeemable preferred stocks, are reported at fair value with unrealized gains and losses, net of deferred taxes, reflected directly in shareholders' equity. Policy loans are carried at unpaid principal balances. Mortgage loans are carried at amortized cost. Investments in real estate are reported at cost less allowances for depreciation, which are calculated on the straight line method. Short-term investments include investments in certificates of deposit and other interest-bearing time deposits with original maturities within three months. Other long-term investments consist of investments in mutual funds managed by a Torchmark subsidiary. They are carried at fair value. Other long- term investments also include passive energy limited-partnership investments which are valued at partnership equity. If an investment becomes permanently impaired, such impairment is treated as a realized loss and the investment is adjusted to net realizable value. Gains and losses realized on the disposition of investments are recognized as revenues and are determined on a specific identification basis. Realized investment gains and losses and investment income attributable to separate accounts are credited to the separate accounts and have no effect on Torchmark's net income. Investment income attributable to other policyholders is included in Torchmark's net investment income. Net investment income for the years ended December 31, 1996, 1995 and 1994 included $298.4 million, $279.6 million, and $240.7 million, respectively, which was allocable to policyholder reserves or accounts. Realized investment gains and losses are not allocable to policyholders. Determination of Fair Values of Financial Instruments: Fair value for cash, short-term investments, short-term debt, receivables and payables approximates carrying value. Fair values for investment securities are based on quoted market prices, where available. Otherwise, fair values are based on quoted market prices of comparable instruments. Mortgages are valued using discounted cash flows. Substantially all of Torchmark's long-term debt, including the monthly income preferred securities, is valued based on quoted market prices. Cash: Cash consists of balances on hand and on deposit in banks and financial institutions. Overdrafts arising from the overnight investment of funds offset cash balances on hand and on deposit. Recognition of Premium Revenue and Related Expenses: Premiums for insurance contracts which are not defined as universal life-type according to SFAS 97 are recognized as revenue over the premium-paying period of the policy. Profits for limited-payment life insurance contracts as defined by SFAS 97 are recognized over the contract period. Premiums for universal life-type and annuity contracts are added to the policy account value, and revenues for such products are recognized as charges to the policy account value for mortality, administration, and surrenders (retrospective deposit method). Variable annuity products are also assessed an investment management fee and a sales charge. Life premium includes policy charges of $72.8 million, $72.7 million, and $74.2 million for the years ended December 31, 1996, 1995 and 1994, respectively. Other premium includes annuity policy charges for the 37
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 1--SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) years ended December 31, 1996, 1995, and 1994 of $22.4 million, $19.0 million, and $13.9 million, respectively. Profits are also earned to the extent that investment income exceeds policy requirements. The related benefits and expenses are matched with revenues by means of the provision of future policy benefits and the amortization of deferred acquisition costs in a manner which recognizes profits as they are earned over the same period. Future Policy Benefits: The liability for future policy benefits for universal life-type products according to SFAS 97 is represented by policy account value. The liability for future policy benefits for all other life and health products is provided on the net level premium method based on estimated investment yields, mortality, morbidity, persistency and other assumptions which were appropriate at the time the policies were issued. Assumptions used are based on Torchmark's experience as adjusted to provide for possible adverse deviation. These estimates are periodically reviewed and compared with actual experience. If it is determined future experience will probably differ significantly from that previously assumed, the estimates are revised. Deferred Acquisition Costs and Value of Insurance Purchased: The costs of acquiring new insurance business are deferred. Such costs consist of sales commissions, underwriting expenses, and certain other selling expenses. The costs of acquiring new business through the purchase of other companies and blocks of insurance business are also deferred. Deferred acquisition costs, including the value of life insurance purchased, for policies other than universal life-type policies according to SFAS 97 are amortized with interest over an estimate of the premium-paying period of the policies in a manner which charges each year's operations in proportion to the receipt of premium income. For universal life-type policies, acquisition costs are amortized with interest in proportion to estimated gross profits. The assumptions used as to interest, persistency, morbidity and mortality are consistent with those used in computing the liability for future policy benefits and expenses. If it is determined that future experience will probably differ significantly from that previously assumed, the estimates are revised. Deferred acquisition costs are adjusted to reflect the amounts associated with unrealized investment gains and losses pertaining to universal life-type products. Income Taxes: Income taxes are accounted for under the asset and liability method in accordance with SFAS 109. Under the asset and liability method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement book values and tax bases of assets and liabilities. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Property and Equipment: Property and equipment is reported at cost less allowances for depreciation. Depreciation is recorded primarily on the straight line method over the estimated useful lives of these assets which range from two to twenty years for equipment and two to forty years for buildings and improvements. Ordinary maintenance and repairs are charged to income as incurred. Impairments: Torchmark adopted the provisions of SFAS 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, effective at the issuance of the standard in March, 1995. This standard requires that certain long-lived assets used in Torchmark's business as well as certain intangible assets be reviewed for impairment when circumstances indicate that these assets may not be recoverable, and further provides how such impairment shall be determined and measured. It also requires that long- lived assets and intangibles to be disposed of be reported at the lower of carrying amount or fair value less cost to sell. Except for the writedown of the energy investment described in Note 7, the adoption of this statement had no material impact on Torchmark's operations or financial position for the years ended December 31, 1996 and 1995. 38
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 1--SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Goodwill: The excess cost of businesses acquired over the fair value of their net assets is reported as goodwill and is amortized on a straight-line basis over a period not exceeding 40 years. Torchmark's unamortized goodwill is periodically reviewed to ensure that conditions are present to indicate the recorded amount of goodwill is recoverable from the estimated future profitability of the related business. If events or changes in circumstances indicate that future profits will not be sufficient to support the carrying amount of goodwill, goodwill is written down to the recoverable amount and is amortized over the original remaining period or a reduced period if appropriate. Treasury Stock: Torchmark accounts for purchases of treasury stock on the cost method. Reclassification: Certain amounts in the financial statements presented have been reclassified from amounts previously reported in order to be comparable between years. These reclassifications have no effect on previously reported shareholders' equity or net income during the periods involved. Litigation: Torchmark and its subsidiaries continue to be named as parties to legal proceedings. Because much of Torchmark's litigation is brought in Alabama, a jurisdiction known for excessive punitive damage verdicts bearing little or no relationship to actual damages, the ultimate outcome of any particular action cannot be predicted. It is reasonably possible that changes in the expected outcome of these matters could occur in the near term, but such changes should not be material to Torchmark's reported results or financial condition. Earnings Per Share: Earnings available to holders of common stock are computed after deducting dividends on the Preferred Stock in 1994. Primary earnings per share are then calculated by dividing the earnings available to holders of common stock by the weighted average number of common shares outstanding during the period. The weighted average numbers of common shares outstanding for each period are as follows: 1996--71,229,892, 1995-- 71,593,774, 1994--72,095,657. 39
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 2--STATUTORY ACCOUNTING Insurance subsidiaries of Torchmark are required to file statutory financial statements with state insurance regulatory authorities. Accounting principles used to prepare these statutory financial statements differ from GAAP. Consolidated net income and shareholders' equity on a statutory basis for the insurance subsidiaries were as follows: <TABLE> <CAPTION> NET INCOME SHAREHOLDERS' EQUITY YEAR ENDED DECEMBER 31, AT DECEMBER 31, -------------------------- --------------------- 1996 1995 1994 1996 1995 -------- -------- -------- ---------- ---------- <S> <C> <C> <C> <C> <C> Life insurance subsidiar- ies...................... $283,881 $245,552 $228,754 $622,326 $ 618,557 </TABLE> The excess, if any, of shareholders' equity of the insurance subsidiaries on a GAAP basis over that determined on a statutory basis is not available for distribution to Torchmark without regulatory approval. A reconciliation of Torchmark's insurance subsidiaries' statutory net income to Torchmark's consolidated GAAP net income is as follows: <TABLE> <CAPTION> YEAR ENDED DECEMBER 31, -------------------------------- 1996 1995 1994 ---------- ---------- -------- <S> <C> <C> <C> Statutory net income................... $ 283,881 $ 245,552 $228,754 Deferral of acquisition costs.......... 300,461 328,598 225,409 Amortization of acquisition costs...... (218,826) (204,067) (178,107) Differences in insurance policy liabil- ities................................. 48,396 1,407 30,271 Deferred income taxes.................. (20,496) (40,380) (2,052) Inter-affiliate dividends.............. (137,200) (684) -0- Income of noninsurance affiliates...... 28,943 (207,164) 11,372 Other.................................. 26,213 19,973 (18,229) Pre-acquisition adjustments............ -0- -0- (28,472) ---------- ---------- -------- GAAP net income........................ $ 311,372 $ 143,235 $268,946 ========== ========== ======== A reconciliation of Torchmark's insurance subsidiaries' statutory shareholders' equity to Torchmark's consolidated GAAP shareholders' equity is as follows: <CAPTION> YEAR ENDED DECEMBER 31, ---------------------- 1996 1995 ---------- ---------- <S> <C> <C> Statutory shareholders' equity......... $ 622,326 $ 618,557 Differences in insurance policy liabil- ities................................. 440,204 371,599 Deferred acquisition costs............. 1,253,727 1,121,325 Value of insurance purchased........... 244,368 277,297 Deferred income taxes.................. (329,609) (407,267) Debt of parent company................. (832,367) (980,814) Monthly income preferred securities.... (193,145) (193,096) Asset valuation reserves............... 133,118 161,573 Nonadmitted assets..................... 137,270 85,240 Net assets of noninsurance affiliates . 69,776 351,355 Other.................................. 83,675 183,183 ---------- ---------- GAAP shareholders' equity.............. $1,629,343 $1,588,952 ========== ========== </TABLE> 40
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 3--INVESTMENT OPERATIONS <TABLE> <CAPTION> YEAR ENDED DECEMBER 31, ------------------------------- 1996 1995 1994 --------- --------- --------- <S> <C> <C> <C> Investment income is summarized as fol- lows: Fixed maturities..................... $ 373,110 $ 350,931 $ 329,626 Equity securities.................... 373 818 1,323 Mortgage loans on real estate........ 6,525 4,343 631 Investment real estate............... 14,629 8,277 7,778 Policy loans......................... 13,192 12,137 10,003 Other long-term investments.......... 5,319 10,410 4,958 Short-term investments............... 6,397 8,890 7,046 --------- --------- --------- 419,545 395,806 361,365 Less investment expense.............. (14,937) (13,941) (13,728) --------- --------- --------- Net investment income................ $ 404,608 $ 381,865 $ 347,637 ========= ========= ========= An analysis of gains (losses) from investments is as follows: Realized investment gains (losses): Fixed maturities.................... $ 3,760 $ 1,285 $ (5,049) Equity securities................... 1,913 (15,033) 1,610 Other............................... 156 (575) 888 --------- --------- --------- $ 5,829 $ (14,323) $ (2,551) ========= ========= ========= An analysis of the net change in unrealized investment gains (losses) is as follows: Equity securities before tax......... $ (734) $ 10,125 $ (15,064) Fixed maturities available for sale before tax.......................... (163,224) 468,336 (434,340) Other long-term investments and foreign exchange translation adjustments......................... 1,907 5,514 (4,088) Adjustment to deferred acquisition costs............................... 17,837 (51,739) 52,334 Applicable tax....................... 50,457 (151,142) 140,264 --------- --------- --------- Net change in unrealized gains (losses)............................ $ (93,757) $ 281,094 $(260,894) ========= ========= ========= </TABLE> 41
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 3--INVESTMENT OPERATIONS (CONTINUED) A summary of fixed maturities available for sale and equity securities by amortized cost and estimated market value at December 31, 1996 and 1995 is as follows: <TABLE> <CAPTION> GROSS GROSS AMOUNT PER AMORTIZED UNREALIZED UNREALIZED MARKET THE BALANCE COST GAINS LOSSES VALUE SHEET ---------- ---------- ---------- ---------- ----------- 1996: - ----- <S> <C> <C> <C> <C> <C> Fixed maturities avail- able for sale: Bonds: U.S. Government direct obligations and agencies............. $ 231,151 $ 2,260 $ (3,628) $ 229,783 $ 229,783 GNMAs................. 882,036 49,647 (5,170) 926,513 926,513 Mortgage-backed securities, GNMA collateral........... 154,816 2,665 (134) 157,347 157,347 Other mortgage-backed securities........... 266,776 6,931 (1,667) 272,040 272,040 State, municipalities and political subdivisions......... 709,980 14,721 (4,211) 720,490 720,490 Foreign governments... 76,298 3,789 (94) 79,993 79,993 Public utilities...... 265,248 5,036 (3,888) 266,396 266,396 Industrial and miscellaneous........ 2,672,613 35,720 (39,796) 2,668,537 2,668,537 Redeemable preferred stocks................ 6,581 596 0 7,177 7,177 ---------- -------- -------- ---------- ---------- Total fixed maturities 5,265,499 121,365 (58,588) 5,328,276 5,328,276 Equity securities: Common stocks: Banks and insurance companies............ 2,014 4,658 (3) 6,669 6,669 Industrial and all others............... 287 62 (23) 326 326 Non-redeemable preferred stocks...... 1,498 365 0 1,863 1,863 ---------- -------- -------- ---------- ---------- Total equity securities........... 3,799 5,085 (26) 8,858 8,858 ---------- -------- -------- ---------- ---------- Total fixed maturities and equity securities........... $5,269,298 $126,450 $(58,614) $5,337,134 $5,337,134 ========== ======== ======== ========== ========== </TABLE> <TABLE> <CAPTION> 1995: - ----- <S> <C> <C> <C> <C> <C> Fixed maturities available for sale: Bonds: U.S. Government direct obligations and agencies................ $ 152,210 $ 4,645 $ (22) $ 156,833 $ 156,833 GNMAs.................... 1,050,034 68,053 (1,221) 1,116,866 1,116,866 Mortgage-backed securities, GNMA collateral.............. 214,186 8,136 (62) 222,260 222,260 Other mortgage-backed securities.............. 230,981 11,527 (2,960) 239,548 239,548 State, municipalities and political subdivisions.. 762,943 21,383 (3,677) 780,649 780,649 Foreign governments...... 71,489 5,303 (3) 76,789 76,789 Public utilities......... 258,840 13,276 (308) 271,808 271,808 Industrial and miscellaneous........... 2,235,811 103,443 (2,400) 2,336,854 2,336,854 Redeemable preferred stocks................... 7,729 888 0 8,617 8,617 ---------- -------- -------- ---------- ---------- Total fixed maturities... 4,984,223 236,654 (10,653) 5,210,224 5,210,224 Equity securities: Common stocks: Banks and insurance companies............... 2,945 5,304 (10) 8,239 8,239 Industrial and all others.................. 264 151 (7) 408 408 Non-redeemable preferred stocks................... 1,549 355 0 1,904 1,904 ---------- -------- -------- ---------- ---------- Total equity securities.. 4,758 5,810 (17) 10,551 10,551 ---------- -------- -------- ---------- ---------- Total fixed maturities and equity securities... $4,988,981 $242,464 $(10,670) $5,220,775 $5,220,775 ========== ======== ======== ========== ========== </TABLE> 42
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 3--INVESTMENT OPERATIONS (CONTINUED) A schedule of fixed maturities by contractual maturity at December 31, 1996 is shown below on an amortized cost basis and on a market value basis. Actual maturities could differ from contractual maturities due to call or prepayment provisions. <TABLE> <CAPTION> AMORTIZED MARKET COST VALUE ---------- ---------- <S> <C> <C> Fixed maturities available for sale: Due in one year or less... $ 98,491 $ 99,442 Due from one to five years.................... 913,734 929,238 Due from five to ten years.................... 1,878,153 1,881,091 Due after ten years....... 1,010,817 1,001,220 ---------- ---------- 3,901,195 3,910,991 Redeemable preferred stocks................... 6,581 7,177 Mortgage-backed and asset- backed securities........ 1,357,723 1,410,108 ---------- ---------- $5,265,499 $5,328,276 ========== ========== </TABLE> Proceeds from sales of fixed maturities available for sale were $487 million in 1996, $1.18 billion in 1995, and $583 million in 1994. Gross gains realized on those sales were $8.7 million in 1996, $13.4 million in 1995, and $14.6 million in 1994. Gross losses were $5.3 million in 1996, $13.5 million in 1995, and $20.8 million in 1994. Torchmark had $39.2 million and $25.7 million in investment real estate at December 31, 1996 and 1995, respectively, which was nonincome producing during the previous twelve months. These properties included primarily construction in process and land. Fixed maturity investments, mortgage loans, and other long-term investments which were nonincome producing during the previous twelve months were $0.3 million at December 31, 1995. There were no such investments at December 31, 1996. Derivative investments were immaterial to Torchmark at December 31, 1996. These investments consist of interest-only and principal-only collateralized mortgage obligations and a foreign currency trading account. Torchmark's total carrying value of these investments was $26.3 million and $23.9 million at December 31, 1996 and 1995, respectively. Torchmark has no off-balance sheet exposure in connection with these investments. NOTE 4--PROPERTY AND EQUIPMENT A summary of property and equipment used in the business is as follows: <TABLE> <CAPTION> DECEMBER 31, 1996 DECEMBER 31, 1995 --------------------- --------------------- ACCUMULATED ACCUMULATED COST DEPRECIATION COST DEPRECIATION -------- ------------ -------- ------------ <S> <C> <C> <C> <C> Company occupied real estate........ $ 68,925 $27,960 $ 67,528 $31,040 Data processing equipment........... 23,179 20,942 24,507 22,198 Transportation equipment............ 11,396 7,492 12,802 8,005 Furniture and office equipment...... 38,047 34,830 36,979 33,388 -------- ------- -------- ------- $141,547 $91,224 $141,816 $94,631 ======== ======= ======== ======= </TABLE> Depreciation expense on property used in the business was $5.4 million, $5.7 million, and $7.6 million in each of the years 1996, 1995, and 1994, respectively. 43
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 5--DEFERRED ACQUISITION COSTS AND VALUE OF INSURANCE PURCHASED An analysis of deferred acquisition costs and the value of insurance purchased is as follows: <TABLE> <CAPTION> 1996 1995 1994 ---------------------- ---------------------- ---------------------- DEFERRED VALUE OF DEFERRED VALUE OF DEFERRED VALUE OF ACQUISITION INSURANCE ACQUISITION INSURANCE ACQUISITION INSURANCE COSTS PURCHASED COSTS PURCHASED COSTS PURCHASED ----------- --------- ----------- --------- ----------- --------- <S> <C> <C> <C> <C> <C> <C> Balance at beginning of year................... $1,121,325 $277,297 $1,017,467 $274,124 $ 901,565 $131,602 Additions: Deferred during peri- od: Commissions........... 185,197 -0- 192,427 -0- 134,032 -0- Other expenses........ 115,264 -0- 136,170 -0- 91,377 -0- ---------- -------- ---------- -------- ---------- -------- Total deferred....... 300,461 -0- 328,597 -0- 225,409 -0- Value of Insurance purchased -0- -0- -0- 34,240 -0- 158,788 Adjustment attributable to unrealized investment losses(1)............ 17,838 -0- -0- -0- 52,334 -0- ---------- -------- ---------- -------- ---------- -------- Total additions...... 318,299 -0- 328,597 34,240 277,743 158,788 ---------- -------- ---------- -------- ---------- -------- Deductions: Amortized during peri- od................... (185,148) (32,929) (172,764) (31,067) (154,697) (16,266) Adjustment attributable to unrealized investment gains(1)............. -0- -0- (51,739) -0- -0- -0- Adjustment attribut- able to realized in- vestment gains(1).... (749) -0- (236) -0- (7,144) -0- ---------- -------- ---------- -------- ---------- -------- Total deductions..... (185,897) (32,929) (224,739) (31,067) (161,841) (16,266) ---------- -------- ---------- -------- ---------- -------- Balance at end of year.. $1,253,727 $244,368 $1,121,325 $277,297 $1,017,467 $274,124 ========== ======== ========== ======== ========== ======== </TABLE> - -------- (1)Represents amounts pertaining to investments relating to universal life- type products. The amount of interest accrued on the unamortized balance of value of insurance purchased was $18.9 million, $20.0 million, and $11.7 million, for the years ended December 31, 1996, 1995 and 1994, respectively. The average interest accrual rates used for the years ended December 31, 1996, 1995 and 1994 were 7.26%, 7.26% and 7.72%, respectively. The estimated amount of the unamortized balance at December 31, 1996 to be amortized during each of the next five years is: 1997, $27.8 million; 1998, $24.5 million; 1999, $21.6 million; 2000, $18.9 million; and 2001, $16.7 million. In the event of lapses or early withdrawals in excess of those assumed, deferred acquisition costs and the value of insurance purchased may not be recoverable. 44
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 6--ACQUISITIONS On November 3, 1994, Torchmark acquired all of the outstanding common stock of American Income Holding, Inc., whose primary operating subsidiary is American Income Life Insurance Company ("American Income") for $35 per share or a total purchase price of $552 million, including expenses. American Income is a life insurance company which sells individual supplemental life and fixed-benefit accident and health insurance through labor union locals, credit unions, and other employment related associations. The purchase was financed with a combination of internal funds, sales of securities, bank borrowings, and the issuance by a finance subsidiary of 9.18% Cumulative Monthly Income Preferred Securities, Series A ("MIPS"). The transaction resulted in goodwill of approximately $403 million which will be amortized on a straight line basis over 40 years. The acquisition was accounted for as a purchase, and the results of operations since the acquisition date have been consolidated. A summary of the net assets acquired is as follows: <TABLE> <S> <C> Assets acquired: Investments.................................................. $ 434,677 Cash......................................................... 0 Value of insurance purchased................................. 158,788 Goodwill..................................................... 402,791 Other assets................................................. 62,808 --------- Total....................................................... 1,059,064 Liabilities assumed: Policy liabilities........................................... 397,184 Other liabilities............................................ 110,379 --------- Total....................................................... 507,563 --------- Total purchase price.......................................... $ 551,501 ========= </TABLE> The table below presents supplemental pro forma information for 1994 as if the American Income acquisition were made at January 1, 1993 at the same purchase price, based on estimates and assumptions considered appropriate: <TABLE> <CAPTION> YEAR ENDED DECEMBER 31, 1994 ------------ <S> <C> Revenues................................................. $2,086,987 Net income before extraordinary items.................... 278,533 Net income............................................... 277,014 Net income per common share before extraordinary items... 3.86 Net income per common share.............................. 3.84 </TABLE> 45
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 7--DISPOSAL OF ENERGY SEGMENT On September 30, 1996, Torchmark completed the sale of its energy business segment including its energy asset management subsidiary, Torch Energy Advisors Incorporated ("TEAI"), and its Black Warrior coalbed methane investment. These operations, which were reclassified as discontinued operations in Torchmark's financial statements at December 31, 1995, were sold to a TEAI management group. After the sale, Torchmark had no controlling ownership interest in any energy asset management organization. In addition to previously transferred securities, warrants, and Section 29 energy-related tax credits, which approximated $112 million at closing, Torchmark received subordinated debt and notes totaling $32.5 million along with $15.5 million in cash. After closing costs and retained liabilities, Torchmark recorded a pretax loss of $23 million and an after-tax loss of $7 million from the sale, or $.10 per share. In the first quarter of 1996, TEAI sold 1.5 million of its shares in Nuevo Energy Company ("Nuevo") common stock for proceeds of $35.6 million. These proceeds were transferred to Torchmark in the form of a dividend prior to the sale of TEAI. Additionally, included in the above mentioned transferred marketable securities were 1.3 million shares of Nuevo common stock which were sold in the fourth quarter of 1996 for proceeds of $57.6 million. At December 31, 1995, discontinued operations assets consisted of: <TABLE> <S> <C> Trade and other receivables.................................. $118,266 Energy properties and investments............................ 158,238 Other assets................................................. 74,639 -------- Total assets................................................ 351,143 Trade and other payables..................................... (157,827) Other liabilities............................................ (18,930) -------- Total liabilities........................................... (176,757) -------- Net discontinued assets................................... $174,386 ======== </TABLE> 46
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 8--FUTURE POLICY BENEFIT RESERVES A summary of the assumptions used in determining the liability for future policy benefits at December 31, 1996 is as follows: INDIVIDUAL LIFE INSURANCE INTEREST ASSUMPTIONS: <TABLE> <CAPTION> PERCENT OF YEARS OF ISSUE INTEREST RATES LIABILITY -------------- --------------------- ---------- <S> <C> <C> 1917-1996 3.00% 3% 1947-1954 3.25% 1 1927-1989 3.50% 1 1955-1961 3.75% 1 1925-1995 4.00% 13 1962-1969 4.50% graded to 4.00% 3 1970-1980 5.50% graded to 4.00% 5 1970-1996 5.50% 1 1929-1996 6.00% 9 1986-1994 7.00% graded to 6.00% 11 1954-1996 8.00% graded to 6.00% 10 1951-1985 8.50% graded to 6.00% 10 1980-1987 8.50% graded to 7.00% 1 1975-1991 9.50% graded to 8.00% 6 1984-1996 Interest Sensitive 25 --- 100% === </TABLE> MORTALITY ASSUMPTIONS: For individual life, the mortality tables used are various statutory mortality tables and modifications of: 1950-54 Select and Ultimate Table 1954-58 Industrial Experience Table 1955-60 Ordinary Experience Table 1965-70 Select and Ultimate Table 1955-60 Inter-Company Table 1970 United States Life Table 1979-81 United States Life Table 1975-80 Select and Ultimate Table X-18 Ultimate Table WITHDRAWAL ASSUMPTIONS: Withdrawal assumptions are based on Torchmark's experience. 47
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 8--FUTURE POLICY BENEFIT RESERVES (CONTINUED) INDIVIDUAL HEALTH INSURANCE INTEREST ASSUMPTIONS: <TABLE> <CAPTION> PERCENT OF YEARS OF ISSUE INTEREST RATES LIABILITY -------------- --------------------- ---------- <S> <C> <C> 1962-1996 3.00% 2% 1969-1980 5.50% graded to 4.00% 4 1982-1996 4.50% 1 1993-1996 6.00% 16 1986-1992 7.00% graded to 6.00% 54 1955-1996 8.00% graded to 6.00% 9 1951-1986 8.50% graded to 6.00% 14 --- 100% === </TABLE> MORBIDITY ASSUMPTIONS: For individual health, the morbidity assumptions are based on either Torchmark's experience or the assumptions used in calculating statutory reserves. TERMINATION ASSUMPTIONS: Termination assumptions are based on Torchmark's experience. OVERALL INTEREST ASSUMPTIONS The overall average interest assumption for determining the liability for future life and health insurance benefits in 1996 was 6.3%. NOTE 9--LIABILITY FOR UNPAID HEALTH CLAIMS Activity in the liability for unpaid health claims is summarized as follows: <TABLE> <CAPTION> YEAR ENDED DECEMBER 31, --------------------------- 1996 1995 1994 -------- -------- -------- <S> <C> <C> <C> Balance at beginning of year: $170,566 $166,731 $131,161 Addition due to acquisition of American Income...................................... -0- -0- 9,185 Incurred related to: Current year................................ 495,642 502,018 514,814 Prior year.................................. 179 (8,295) (14,985) -------- -------- -------- Total incurred............................... 495,821 493,723 499,829 -------- -------- -------- Paid related to: Current year................................ 340,310 342,905 332,273 Prior year.................................. 151,859 146,983 141,171 -------- -------- -------- Total paid................................... 492,169 489,888 473,444 -------- -------- -------- Balance at end of year....................... $174,218 $170,566 $166,731 ======== ======== ======== </TABLE> The liability for unpaid health claims is included with "Policy claims and other benefits payable" on the Balance Sheet. Health benefits for 1994 include a $30 million charge resulting from a reclassification of nonoperating expense to health benefits, since actual payments will be made in the form of health benefits. 48
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 10--INCOME TAXES Torchmark and most of its subsidiaries file a life-nonlife consolidated federal income tax return. Sentinel files its own federal income tax return and will not be eligible to join Torchmark's consolidated return group until 1997. American Income files its own consolidated federal income tax return and will not be eligible to join Torchmark's consolidated return group until 2000. Total income taxes were allocated as follows: <TABLE> <CAPTION> YEAR ENDED DECEMBER 31, ---------------------------- 1996 1995 1994 -------- -------- -------- <S> <C> <C> <C> Income from continuing operations............. $180,622 $157,539 $135,994 Discontinued operations....................... (15,813) (86,050) (11,677) Monthly income preferred securities dividend.. (5,199) (5,555) (1,148) Shareholders' equity: Unrealized gains (losses).................... (50,457) 157,200 (147,520) Tax basis compensation expense (from the exercise of stock options) in excess of amounts recognized for financial reporting purposes.................................... (1,947) (709) (349) Other......................................... (898) (6,169) 9,424 -------- -------- -------- $106,308 $216,256 $(15,276) ======== ======== ======== </TABLE> Income tax expense attributable to income from continuing operations consists of: <TABLE> <CAPTION> YEAR ENDED DECEMBER 31, -------------------------- 1996 1995 1994 -------- -------- -------- <S> <C> <C> <C> Current income tax expense....................... $130,624 $110,652 $113,215 Deferred income tax expense...................... 49,998 46,887 22,779 -------- -------- -------- $180,622 $157,539 $135,994 ======== ======== ======== </TABLE> In 1996, 1995, and 1994, deferred income tax expense was incurred because of the difference between net operating income before income taxes as reported on the consolidated statement of operations and taxable income as reported on Torchmark's income tax returns. As explained in Note 1, this difference caused the financial statement book values of some assets and liabilities to be different from their respective tax bases. The effective income tax rate differed from the expected 35% rate as shown below: <TABLE> <CAPTION> YEAR ENDED DECEMBER 31, ------------------------------------------- 1996 % 1995 % 1994 % -------- --- -------- --- -------- --- <S> <C> <C> <C> <C> <C> <C> Expected income taxes............ $173,296 35% $149,861 35% $137,891 35% Increase (reduction) in income taxes resulting from: Tax-exempt investment income.... (7,014) (1) (7,965) (2) (10,625) (2) Other........................... 14,340 3 15,643 4 8,728 2 -------- --- -------- --- -------- --- Income taxes..................... $180,622 37% $157,539 37% $135,994 35% ======== === ======== === ======== === </TABLE> 49
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 10--INCOME TAXES (CONTINUED) The tax effects of temporary differences that gave rise to significant portions of the deferred tax assets and deferred tax liabilities are presented below: <TABLE> <CAPTION> DECEMBER 31, ------------------ 1996 1995 -------- -------- <S> <C> <C> Deferred tax assets: Investments, principally due to (in the acquisition of a subsidiary) the use of market value in recording the cost of fixed maturities for financial reporting purposes but not for tax purposes..................................... $ 2,996 $ 6,897 Future policy benefits, unearned and advance premiums, and policy claims............................................ 9,264 27,432 Present value of future policy surrender charges.......... 9,636 4,083 Other assets and other liabilities, principally due to the current nondeductibility of certain accrued expenses for tax purposes............................................. 30,025 18,344 -------- -------- Total gross deferred tax assets........................... 51,921 56,756 Less valuation allowance.................................. (2,111) (2,111) -------- -------- Net deferred tax assets................................... 49,810 54,645 -------- -------- Deferred tax liabilities: Unconsolidated affiliates, principally due to the use of equity method accounting for financial reporting purposes but not for tax purposes................................. 24,368 11,305 Deferred acquisition costs................................ 333,640 322,900 Unrealized investment gains............................... 23,952 74,408 Other..................................................... 12,625 12,404 -------- -------- Total gross deferred tax liabilities...................... 394,585 421,017 -------- -------- Net deferred tax liability................................. $344,775 $366,372 ======== ======== </TABLE> The valuation allowance for deferred tax assets as of December 31, 1996 and 1995 was $2.1 million. Subsequently recognized tax benefits of $2.1 million relating to the December 31, 1996 valuation allowance will be allocated to goodwill. Torchmark has not recognized a deferred tax liability for the undistributed earnings of its wholly-owned subsidiaries because such earnings are remitted to Torchmark on a tax-free basis. A deferred tax liability will be recognized in the future if the remittance of such earnings becomes taxable to Torchmark. In addition, Torchmark has not recognized a deferred tax liability of approximately $60 million that arose prior to 1984 on temporary differences related to the policyholders' surplus accounts in the life insurance subsidiaries. A current tax expense will be recognized in the future if and when these amounts are distributed. 50
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 11--POSTRETIREMENT BENEFITS Pension Plans: Torchmark has retirement benefit plans and savings plans which cover substantially all employees. There is also a nonqualified excess benefit plan which covers certain employees. The total cost of these retirement plans charged to operations was as follows: <TABLE> <CAPTION> DEFINED EXCESS DEFINED BENEFIT BENEFIT YEAR ENDED CONTRIBUTION PENSION PENSION DECEMBER 31, PLANS PLANS PLAN ------------ ------------ ------- ------- <S> <C> <C> <C> 1996.................... $2,595 $4,804 $ 467 1995.................... 3,208 6,820 524 1994.................... 3,201 6,922 1,800 </TABLE> Cost for the defined benefit pension plans has been calculated on the projected unit credit actuarial cost method. Contributions are made to the pension plans subject to minimums required by regulation and maximums allowed for tax purposes. Accrued pension expense in excess of amounts contributed has been recorded as a liability in the financial statements and was $6.2 million and $9.5 million at December 31, 1996 and 1995, respectively. The plans covering the majority of employees are organized as trust funds whose assets consist primarily of investments in marketable long-term fixed maturities and equity securities which are valued at market. The excess benefit pension plan provides the benefits that an employee would have otherwise received from a defined benefit pension plan in the absence of the Internal Revenue Code's limitation on benefits payable under a qualified plan. Although this plan is unfunded, pension cost is determined in a similar manner as for the funded plans. Liability for the excess benefit plan was $4.8 million and $5.5 million as of December 31, 1996 and 1995, respectively. Net periodic pension cost for the defined benefit plans by expense component was as follows: <TABLE> <CAPTION> YEAR ENDED DECEMBER 31, ---------------------------- 1996 1995 1994 -------- --------- -------- <S> <C> <C> <C> Service cost--benefits earned during the period.................................. $ 6,581 $ 7,190 $ 8,323 Interest cost on projected benefit obli- gation.................................. 9,097 8,867 8,242 Actual return on assets.................. (17,798) (17,927) (2,302) Net amortization and deferral............ 7,391 9,214 (5,541) -------- --------- -------- Net periodic pension cost................ $ 5,271 $ 7,344 $ 8,722 ======== ========= ======== </TABLE> A reconciliation of the funded status of the defined benefit plans with Torchmark's pension liability was as follows: <TABLE> <CAPTION> AT DECEMBER 31, ------------------ 1996 1995 -------- -------- <S> <C> <C> Fair market value of assets available for benefits. $123,288 $113,193 Projected benefit obligation: Vested............................................ 90,189 89,170 Nonvested......................................... 3,453 5,441 -------- -------- Accumulated benefit obligation................... 93,642 94,611 Effect of projected future salary increases 25,710 27,003 -------- -------- Total projected benefit obligation............... 119,352 121,614 -------- -------- Funded status...................................... 3,936 (8,421) Unamortized prior service costs.................... 1,433 147 Unamortized transition asset....................... (725) (1,220) Unrecognized (gain) or loss........................ (15,669) (5,462) -------- -------- Accrued pension costs included in liabilities.... $(11,025) $(14,956) ======== ======== </TABLE> 51
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 11--POSTRETIREMENT BENEFITS (CONTINUED) The weighted average assumed discount rates used in determining the actuarial benefit obligations were 7.5% in 1996 and 7.25% in 1995. The rate of assumed compensation increase was 4.5% in 1996 and 4.25% in 1995 and the expected long-term rate of return on plan assets was 9.25% in 1996 and 8.0% in 1995. Torchmark accrues expense for the defined contribution plans based on a percentage of the employees' contributions. The plans are funded by the employee contributions and a Torchmark contribution equal to the amount of accrued expense. Postretirement Benefit Plans Other Than Pensions: Torchmark provides postretirement life insurance benefits for most retired employees, and also provides additional postretirement life insurance benefits for certain key employees. The majority of the life insurance benefits are accrued over the working lives of active employees. For retired employees over age sixty-five, Torchmark does not provide postretirement benefits other than pensions. Torchmark does provide a portion of the cost for health insurance benefits for employees who retired before February 1, 1993 and before age sixty-five, covering them until they reach age sixty-five. Eligibility for this benefit was generally achieved at age fifty- five with at least fifteen years of service. This subsidy is minimal to employees who did not retire before February 1, 1993. This plan is unfunded. Net periodic postretirement benefit cost included the following components: <TABLE> <CAPTION> YEAR ENDED DECEMBER 31, ------------------- 1996 1995 1994 ---- ----- ------ <S> <C> <C> <C> Service cost....................................... $297 $ 284 $ 444 Interest cost on accumulated postretirement benefit obligation........................................ 617 678 831 Actual return on plan assets....................... -0- -0- -0- Net amortization and deferral...................... (252) (559) (237) ---- ----- ------ Net periodic postretirement benefit cost........... $662 $ 403 $1,038 ==== ===== ====== </TABLE> The following table sets forth the plans' combined benefit obligation with the amount shown in Torchmark's balance sheet: <TABLE> <CAPTION> AT DECEMBER 31, --------------- 1996 1995 ------- ------- <S> <C> <C> Accumulated postretirement benefit obligation: Retirees............................................... $ 3,622 $ 4,880 Fully eligible active plan participants................ 1,613 1,231 Other active plan participants......................... 2,395 3,145 ------- ------- Total accumulated postretirement benefit obligation... 7,630 9,256 Plan assets at fair value............................... -0- -0- ------- ------- Accumulated postretirement benefit obligation in excess of plan assets......................................... 7,630 9,256 Unrecognized net gain from past experience different from that assumed and from changes in assumptions...... 1,717 1,423 Prior service cost not yet recognized in net periodic post retirement benefit cost........................... 993 262 ------- ------- Accrued postretirement benefit cost included in liabilities.......................................... $10,340 $10,941 ======= ======= </TABLE> 52
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 11--POSTRETIREMENT BENEFITS (CONTINUED) For measurement purposes, a 7.5% to 10.0% annual rate of increase in a per capita cost of covered healthcare benefits was assumed for 1996. These rates were assumed to decrease gradually to ranges of 4.5% to 6.5% by the year 2005. The health care cost trend rate assumption has a significant effect on the amounts reported. To illustrate, increasing the health care cost trend by one percentage point in each year would increase the accumulated postretirement benefit obligation as of December 31, 1996 by $1.3 million and would increase the net periodic postretirement cost for the year ended December 31, 1996 by approximately $425 thousand. The weighted average discount rate used in determining the accumulated postretirement benefit obligation was 7.5% in 1996 and 7.0% to 8.0% in 1995. NOTE 12--NOTES PAYABLE An analysis of notes payable is as follows: <TABLE> <CAPTION> DECEMBER 31, ----------------------------------------- 1996 1995 -------------------- -------------------- SHORT-TERM LONG-TERM SHORT-TERM LONG-TERM DEBT DEBT DEBT DEBT ---------- --------- ---------- --------- <S> <C> <C> <C> <C> Sinking Fund Debentures........... $198,134 $198,033 Senior Notes, due 1998............ 199,607 199,343 Senior Debentures, due 2009....... 99,450 99,881 Notes, due 2023................... 195,921 195,877 Notes, due 2013................... 98,477 98,432 Commercial paper.................. $40,778 $189,248 Other notes and mortgages payable at various interest rates; collateralized by buildings ..... 132 291 124 422 ------- -------- -------- -------- $40,910 $791,880 $189,372 $791,988 ======= ======== ======== ======== </TABLE> The amount of debt that becomes due during each of the next five years is: 1997, $40.9 million; 1998, $200.1 million; 1999, $150 thousand; 2000, $-0-; and 2001, $-0-. The Sinking Fund Debentures, due March 1, 2017, are carried at $200 million principal amount less unamortized issue expenses and bear interest at 8 5/8%, payable on March 1 and September 1. A sinking fund provides for mandatory repayment at par of not less than $8 million principal amount per year from March 1, 1998 through March 1, 2016. At Torchmark's option, an additional $12 million principal amount per year may be redeemed at par according to the same schedule. The option to make such additional repayments is not cumulative and if not availed of in any year will terminate. Furthermore, Torchmark may, at its option, redeem the entire issue at prices ranging from 104.59% to 100.0% of par, subject to certain restrictions. The Sinking Fund Debentures have equal priority with other Torchmark unsecured indebtedness. The Senior Notes, due May 1, 1998, are not redeemable prior to maturity. They were issued in the principal amount of $200 million. Interest is payable on May 1 and November 1 of each year at a rate of 9 5/8%. These notes have equal priority with other Torchmark unsecured indebtedness. The Senior Debentures, principal amount of $100 million, are due August 15, 2009. They bear interest at a rate of 8 1/4%, with interest payable on February 15 and August 15 of each year. The Senior Debentures, which are not redeemable at the option of Torchmark prior to maturity, provided the holder with an option to require Torchmark to repurchase the debentures on August 15, 1996 at principal amount plus accrued interest. Pursuant to this option, $550 thousand debentures were repurchased in 1996. The Senior Debentures have equal priority with other Torchmark unsecured indebtedness. 53
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 12--NOTES PAYABLE (CONTINUED) The Notes, due May 15, 2023, were issued in May, 1993 in the principal amount of $200 million. Proceeds of the issue, net of issue costs, were $196 million. Interest is payable on May 15 and November 15 of each year at a rate of 7 7/8%. These notes are not redeemable prior to maturity and have equal priority with other Torchmark unsecured indebtedness. The Notes, due August 1, 2013, were issued in July, 1993 in the principal amount of $100 million for net proceeds of $98 million. Interest is payable on February 1 and August 1 of each year at a rate of 7 3/8%. These notes are not redeemable prior to maturity and have equal priority with other Torchmark unsecured indebtedness. Torchmark has entered into revolving credit agreements with a group of lenders under which it may borrow on an unsecured basis up to $600 million. One-third of the commitment matures October 23, 1997 and the balance matures October 24, 2001. Borrowings, pro rata under each facility, are at interest rates selected by Torchmark based on either the corporate base rate or the Eurodollar rate at the time of borrowings. At December 31, 1996 and December 31, 1995 there were no borrowings under the revolving credit agreements. The revolving credit agreements are designed to back up a commercial paper program which began in 1995. The short-term borrowings under the revolving credit agreements and in the commercial paper market averaged $103 million during 1996, and were made at an average yield of 5.42%. At December 31, 1996, commercial paper was outstanding in the face amount of $41.0 million. Torchmark is subject to certain covenants for the revolving credit agreements regarding capitalization and earnings, for which it was in compliance at December 31, 1996, and pays a facility fee based on size of the lines. Interest in the amount of $1.4 million, $1.6 million and $1.8 million was capitalized during 1996, 1995, 1994, respectively. NOTE 13--MONTHLY INCOME PREFERRED SECURITIES In October, 1994, Torchmark, through its wholly-owned finance subsidiary, Torchmark Capital L.L.C., completed a public offering of eight million shares of 9.18% MIPS at a face amount of $200 million. The securities are subject to a mandatory redemption in full at September 30, 2024, although Torchmark may elect to extend the MIPS for up to an additional 20 years if certain conditions are met. They are redeemable at Torchmark's option after September 30, 1999. Torchmark subsequently entered into a ten-year swap agreement with an unaffiliated party whereby Torchmark agreed to pay a variable rate on the $200 million face amount in exchange for payment of the fixed dividend. In a related transaction, Torchmark purchased a five-year cap on the swap agreement that insures that the variable rate cannot exceed 10.39% through September 30, 1999. The interest rate was 6.95% at December 31, 1996 and 7.25% at December 31, 1995. Torchmark pays a yearly fee of $860 thousand for the cap agreement. The market value of the swap agreement was a benefit of $14.7 million at December 31, 1996 and a benefit of $26.5 million at December 31, 1995. The market value of the cap agreement, net of the present value of future annual payments, was an obligation of $1.3 million at December 31, 1996 and an obligation of $2.1 million at December 31, 1995. Except as otherwise described in "Note 3--Investments" on page 43 of this report, Torchmark is a party to no other derivative instruments as defined by SFAS 119. Net proceeds from the MIPS offering of approximately $193 million were loaned from Torchmark Capital to Torchmark to provide part of the financing of the acquisition of American Income Holding, Inc. The carrying value of the MIPS at December 31, 1996 and 1995 was $193 million. 54
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 14--SHAREHOLDERS' EQUITY Share Data: A summary of preferred and common share activity is as follows: <TABLE> <CAPTION> PREFERRED STOCK COMMON STOCK --------------------- --------------------- TREASURY TREASURY ISSUED STOCK ISSUED STOCK ---------- --------- ---------- ---------- <S> <C> <C> <C> <C> 1994: Balance at January 1, 1994....... 1,000,000 (530,180) 73,784,228 (889,134) Issuance of common stock due to exercise of stock options...... 130,641 Other treasury stock acquired... (469,820) (1,491,700) Retirement of preferred treasury stock.......................... (1,000,000) 1,000,000 ---------- --------- ---------- ---------- Balance at December 31, 1994.... -0- -0- 73,784,228 (2,250,193) 1995: Issuance of common stock due to exercise of stock options...... 133,102 ---------- --------- ---------- ---------- Balance at December 31, 1995.... -0- -0- 73,784,228 (2,117,091) 1996: Issuance of common stock due to exercise of stock options...... 338,188 Other treasury stock acquired... (2,309,350) ---------- --------- ---------- ---------- Balance at December 31, 1996.... -0- -0- 73,784,228 (4,088,253) ========== ========= ========== ========== </TABLE> <TABLE> <CAPTION> AT DECEMBER 31, 1996 AT DECEMBER 31, 1995 --------------------- --------------------- PREFERRED COMMON PREFERRED COMMON STOCK STOCK STOCK STOCK --------- ----------- --------- ----------- <S> <C> <C> <C> <C> Par value per share................ $1.00 $1.00 $1.00 $1.00 Authorized shares.................. 5,000,000 160,000,000 5,000,000 160,000,000 </TABLE> Preferred Stock: One million shares of adjustable rate preferred stock were issued in 1983 at an issue price of $100 per share. Prior to 1993, Torchmark acquired 530 thousand shares which were reported as treasury stock and had a total cost basis of $47.8 million and a total redemption value of $52.9 million. During 1994, Torchmark acquired the remaining 470 thousand shares at a cost of $100 per share plus accrued dividends. The acquisition was completed at an aggregate price of $47 million. The preferred treasury stock was immediately retired. Acquisition of Common Shares: Torchmark shares are acquired from time to time for the following reasons: (1) open market purchases under the Torchmark stock repurchase program, in which share purchases in the amount of $107 million for 2.3 million shares, and $59 million for 1.5 million shares were made in 1996 and 1994, respectively, (2) for future employee stock option exercises, and (3) for payment of the option price and taxes upon exercise of stock options by employees. Grant of Restricted Stock: A grant of 60,000 Torchmark shares was made on May 1, 1991 to a Torchmark senior officer. The shares are restricted as to resale, vesting 6,000 shares per year for 10 years on the anniversary date of the grant. The market value of Torchmark stock was $34.92 per share on the grant date. Restrictions: Restrictions exist on the flow of funds to Torchmark from its insurance subsidiaries. Statutory regulations require life insurance subsidiaries to maintain certain minimum amounts of capital and surplus. These restrictions generally limit the payment of dividends by insurance subsidiaries to statutory net gain on an annual noncumulative basis in the absence of special approval. Additionally, insurance companies are not permitted to distribute the excess of shareholders' equity as determined on a GAAP basis over that determined on a statutory basis. In 1997, $275 million will be available to Torchmark for dividends from insurance subsidiaries in compliance with statutory regulations without prior regulatory approval. 55
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 15--EMPLOYEE STOCK OPTIONS Certain employees and directors have been granted options to buy shares of Torchmark stock generally at the market value of the stock on the date of grant under the provisions of the Torchmark Corporation 1987 Stock Incentive Plan ("1987 Option Plan"). The options are exercisable during the period commencing from three months to three years after grant until expiring ten years or ten years and two days after grant. Employee stock options granted under the 1987 Option Plan generally vest one-half in two years and one-half in three years. Director grants generally vest in six months. At December 31, 1996, approximately 11.4 million shares were authorized for grants of options under this plan. In October, 1993, Torchmark implemented a policy to issue shares for the exercise of stock options out of treasury stock. In October, 1995, the Financial Accounting Standards Board ("FASB") issued Statement No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"), effective for Torchmark beginning January 1, 1996. SFAS 123 defines a "fair value method" of accounting for employee stock options. It also allows accounting for such options under the "intrinsic value method" in accordance with Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25") and related interpretations. If a company elects to use the intrinsic value method, then pro forma disclosures of earnings and earnings per share are required as if the fair value method of accounting was applied. The effects of applying SFAS 123 in the pro forma disclosures are not necessarily indicative of future amounts because the pro forma disclosures do not take into account the amortization of the fair value of awards prior to 1995. Additionally, Torchmark is expected to grant additional awards in future years. Torchmark has elected to account for its stock options under the intrinsic value method as outlined in APB 25. The fair value method requires use of the Black-Scholes option valuation model to value employee stock options, upon which a compensation expense is based. The Black-Scholes option valuation model was not developed for use in valuing employee stock options. Instead, this model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because Torchmark's employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, it is management's opinion that the existing models do not provide a reliable measure of the fair value of its employee stock options. Under the intrinsic value method, compensation expense is only recognized if the exercise price of the employee stock option is less than the market price of the underlying stock on the date of grant. In accordance with SFAS 123, the fair value for Torchmark's employee stock options was estimated at the date of grant using a Black-Scholes option pricing model with the following weighted average assumptions for 1996 and 1995. <TABLE> <CAPTION> 1996 1995 -------- -------- <S> <C> <C> Risk-free interest rate.................................... 6.4% 5.4% Dividend yield............................................. 3.7% 3.7% Volatility factor.......................................... 22.8 22.8 Weighted average expected life (in years).................. 4.17 4.17 </TABLE> For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the options' vesting period. Torchmark's pro forma information follows (in thousands except for earnings per share information): <TABLE> <CAPTION> 1996 1995 -------- -------- <S> <C> <C> Pro forma net income...................................... $309,657 $143,148 Pro forma net income per share............................ 4.35 2.00 </TABLE> 56
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 15--EMPLOYEE STOCK OPTIONS (CONTINUED) A summary of Torchmark's stock option activity, and related information for the years ended December 31, 1996 and 1995 follows: <TABLE> <CAPTION> 1996 1995 1994 --------------------------- --------------------------- --------- WEIGHTED AVERAGE WEIGHTED AVERAGE OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE OPTIONS --------- ---------------- --------- ---------------- --------- <S> <C> <C> <C> <C> <C> Outstanding-beginning of year................... 4,435,850 34.61 3,820,707 $32.50 3,660,391 Granted................. 724,100 49.09 761,100 43.14 316,600 Exercised............... (338,188) 30.00 (133,102) 22.18 (130,641) Expired................. (146,751) 39.26 (12,855) 40.24 (25,643) --------- --------- --------- Outstanding-end of year. 4,675,011 37.04 4,435,850 34.61 3,820,707 ========= ========= ========= Exercisable at end of year................... 3,094,311 32.93 3,243,647 32.66 2,936,867 </TABLE> The weighted average fair value of options granted during the years ended December 31, 1996 and 1995 were $49.61 and $43.14, respectively. The following table summarizes information about stock options outstanding at December 31, 1996: <TABLE> <CAPTION> CONTRACT EXERCISE NUMBER NUMBER TERMINATION PRICE GRANT DATE OUTSTANDING EXERCISABLE DATE -------- ----------------- ----------- ----------- ----------------- <C> <S> <C> <C> <C> 11.300 October 1, 1993 13,906 13,906 October 3, 2003 13.110 October 1, 1993 13,828 13,828 October 3, 2003 16.000 December 16, 1987 7,500 7,500 December 18, 1997 19.875 February 25, 1988 5,217 5,217 February 27, 1998 20.375 January 3, 1989 30,003 30,003 January 5, 1999 22.600 October 1, 1993 31,041 31,041 October 3, 2003 24.410 October 1, 1993 2,766 2,766 October 3, 2003 25.625 October 11, 1990 692,155 692,155 October 13, 2000 28.480 October 1, 1993 42,670 42,670 October 3, 2003 31.125 January 15, 1991 445,930 445,930 January 17, 2001 32.500 January 2, 1991 63,000 63,000 January 4, 2001 33.125 January 25, 1990 63,000 63,000 January 27, 2000 34.000 December 16, 1994 265,600 146,300 December 18, 2004 34.000 December 7, 1992 123,863 96,863 December 9, 2002 34.000 December 14, 1993 258,522 258,522 December 16, 2003 34.000 October 1, 1993 47,497 47,497 October 3, 2003 34.350 October 1, 1993 26,539 26,539 October 3, 2003 34.375 December 12, 1991 606,757 606,757 December 14, 2001 34.875 January 3, 1995 21,000 21,000 January 5, 2005 36.610 October 1, 1993 27,997 27,997 October 3, 2003 37.220* December 18, 1996 30,000 0 December 20, 2006 38.375 January 2, 1992 63,000 63,000 January 4, 2002 43.375 December 20, 1995 731,300 0 December 22, 2005 43.500 December 14, 1993 189,824 189,824 December 16, 2003 45.000 January 3, 1994 24,000 24,000 January 5, 2004 45.000 January 2, 1996 21,000 21,000 January 4, 2006 46.560 October 1, 1993 12,745 12,745 October 3, 2003 49.750 December 16, 1996 673,100 0 December 18, 2006 52.000 December 7, 1992 117,251 117,251 December 9, 2002 57.750 January 3, 1993 24,000 24,000 January 5, 2003 --------- --------- 4,675,011 3,094,311 ========= ========= </TABLE> - -------- * Issued when the market price was $49.625. 57
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 16--COMMITMENTS AND CONTINGENCIES Reinsurance: Insurance affiliates of Torchmark reinsure that portion of insurance risk which is in excess of their retention limits. Retention limits for ordinary life insurance range up to $2.5 million per life. Life insurance ceded represents less than 1.0% of total life insurance in force at December 31, 1996. Insurance ceded on life and accident and health products represents 1.0% of premium income for 1996. Torchmark would be liable for the reinsured risks ceded to other companies to the extent that such reinsuring companies are unable to meet their obligations. Insurance affiliates also assume insurance risks of other companies. Life reinsurance assumed represents 3.1% of life insurance in force at December 31, 1996 and reinsurance assumed on life and accident and health products represents 1.8% of premium income for 1996. Leases: Torchmark leases office space and office equipment under a variety of operating lease arrangements. These leases contain various renewal options, purchase options, and escalation clauses. Rental expense for operating leases was $7.0 million, $6.3 million, and $7.9 million for 1996, 1995, and 1994, respectively. Future minimum rental commitments required under operating leases having remaining noncancelable lease terms in excess of one year at December 31, 1996 are as follows: 1997, $3.9 million; 1998, $2.4 million; 1999, $1.5 million; 2000, $726 thousand; 2001, $157 thousand; and in the aggregate, $8.7 million. Restrictions on cash: A portion of the cash held in financial service subsidiaries that function as broker-dealers has been segregated for the benefit of customers in compliance with security regulations. This amount was $15.0 million at December 31, 1996 and $11.8 million at December 31, 1995. Concentrations of Credit Risk: Torchmark maintains a highly-diversified investment portfolio with limited concentration in any given region, industry, or economic characteristic. At December 31, 1996, the investment portfolio consisted of securities of the U.S. government or U.S. government-backed securities (22%); non government-guaranteed mortgage-backed securities (5%); short-term investments, which generally mature within one month (1%); securities of state and municipal governments (12%); securities of foreign governments (1%); and investment-grade corporate bonds (46%). The remainder of the portfolio was in oil and gas investments (1%) and real estate (3%), which are not considered financial instruments according to GAAP; policy loans (4%), which are secured by the underlying insurance policy values; and equity securities, mortgages, noninvestment grade corporate securities and other long-term investments (5%). Investments in municipal governments and corporations are made throughout the U.S. with no concentration in any given state. Most of the investments in foreign government securities are in Canadian government obligations. Corporate equity and debt investments are made in a wide range of industries. At December 31, 1996, 1% or more of the portfolio was invested in the following industries: Financial services (18%); regulated utilities (5%); chemicals and allied products (5%); food and kindred products (4%); transportation (4%); technology (3%); media (2%); paper and allied products (2%); petroleum (2%); and retailing (1%). Otherwise, no individual industry represented 1% or more of Torchmark's investments. At year-end 1996, 5% of the carrying value of fixed maturities was rated below investment grade (Ba or lower as rated by Moody's service or the equivalent NAIC designation). Par value of these investments was $237.7 million, amortized cost was $239.8 million, and market value was $243.4 million. While these investments could be subject to additional credit risk, such risk should generally be reflected in market value. Collateral Requirements: Torchmark requires collateral for investments in instruments where collateral is available and is typically required because of the nature of the investment. Since the majority of Torchmark's investments are in government, government-secured, or corporate securities, the requirement for collateral is rare. Torchmark's mortgages are secured by collateral. Litigation: Torchmark and its subsidiaries continue to be named as parties to pending or threatened legal proceedings. These lawsuits involve tax matters, alleged breaches of contract, torts, including bad faith and fraud claims based on alleged wrongful or fraudulent acts of agents of Torchmark's subsidiaries, employment discrimination, and miscellaneous other causes of action. Many of these lawsuits involve claims for punitive damages in state courts of Alabama, a jurisdiction particularly recognized for its large punitive damage verdicts. A number of such actions involving Liberty also name Torchmark as a 58
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 16--COMMITMENTS AND CONTINGENCIES (CONTINUED) defendant. As a practical matter, a jury's discretion regarding the amount of a punitive damage award is not limited by any clear, objective criteria under Alabama law. Accordingly, the likelihood or extent of a punitive damage award in any given case is virtually impossible to predict. As of December 31, 1996, Liberty was a party to approximately 282 active lawsuits (including 25 employment related cases and excluding interpleaders and stayed cases), more than 250 of which were Alabama proceedings in which punitive damages were sought. Liberty faces trial settings in these cases on an on-going basis. Torchmark has previously reported the entry of an Order and Final Judgment by the Circuit Court of Barbour County, Alabama in Robertson v. Liberty National Life Insurance Company (Case No. CV-92-021) approving a cancer policy class action settlement involving legal and equitable relief valued at a total of $55 million. In July 1994, certain intervenors in the Robertson litigation filed a notice of appeal of the Order and Final Judgment with the Supreme Court of Alabama. On December 22, 1995, the Alabama Supreme Court unanimously affirmed the Robertson class action settlement and on February 16, 1996, issued a notice overruling the petition for a rehearing in Robertson filed by certain intervenors. A petition for writ of certiorari to the Supreme Court of the United States was then filed by intervenors. The U.S. Supreme Court granted certiorari in Robertson on October 1, 1996. Oral arguments on the intervenors' petition, which alleged that class members had not received due process in the class certification procedure and should be allowed to opt out of the class action settlement to pursue separate litigation, were heard by the U.S. Supreme Court on January 14, 1997. On March 3, 1997, the U.S. Supreme Court dismissed, as improvidently granted, the writ of certiorari previously granted in Robertson. The ruling effectively ends direct appeals from the Robertson class action settlement and Liberty will proceed with administration of benefits under the class settlement. As previously reported, Liberty is subject to 76 individual cancer policy lawsuits pending in Alabama and Mississippi, which were stayed or otherwise held in abeyance pending final resolution of the Robertson case. Liberty will file motions to dismiss these lawsuits based upon the U.S. Supreme Court opinion in Robertson. If these cases are dismissed, no collateral attacks on the cancer class action settlement will remain at this time. As previously reported, Dismukes v. Torchmark Corporation (Case No. CV-94- 1006-P-M), which was filed on December 30, 1994 and is presently pending in the U.S. District Court for the Northern District of Alabama, is the only remaining purported class action litigation brought by Torchmark shareholders alleging untimely and inadequate disclosure of material contingent liabilities arising out of insurance policy litigation involving Liberty. The U.S. District Court entered an order granting partial summary judgment on behalf of the defendants on April 16, 1996. Claims for damages based on Section 10b-5 of the Securities Exchange Act, on state securities laws and for common law fraud remain pending in the case. As previously reported, Torchmark, its insurance subsidiaries Globe and United American, and certain Torchmark officers were named as defendants in litigation filed April 22, 1994, as a purported class action in the District Court of Oklahoma County, Oklahoma (Moore v. Torchmark Corporation, Case No. CJ-94-2784-65). The suit claims damages on behalf of individual health policyholders who are alleged to have been induced to terminate such policies and to purchase Medicare Supplement and/or other insurance coverages. The complaint seeks actual and punitive damages for each class member in excess of $10,000. Subsequent to the filing of this case, one of the plaintiffs was dismissed and the named plaintiff died. The complaint was amended to include new plaintiffs purporting to represent the class and restyled Tabor v. Torchmark Corporation. No class has been certified. A motion to dismiss filed by the defendants was denied and limited discovery as permitted by the Oklahoma Supreme Court is proceeding. Prior filings have reported that in July 1994, a purported class action alleging fraudulent and deceitful practices in premium billing and lapses of coverage on a payroll deduction insurance plan was filed in the Superior Court for Gordon County, Georgia against Liberty (Bryant v. Liberty National Life Insurance Company, Civil Action No. 28979). The complaint alleged actual damages in excess of $10 million and punitive damages of not less than $50 million as well as premium reimbursements. Liberty removed this 59
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 16--COMMITMENTS AND CONTINGENCIES (CONTINUED) case to federal court, but the case was subsequently remanded to the state court. The Bryant case was settled on an individual basis by the parties on December 23, 1996. No class was ever certified. Litigation was filed on April 26, 1995, in the Circuit Court of Houston County, Alabama against Liberty involving the sale of health insurance coverage alleged to be in conflict with provisions of the Omnibus Budget Reconciliation Act of 1990 (Stewart v. Liberty National Life Insurance Company, Case No. CV-95-345L; Tolar v. Liberty National Life Insurance Company, Case No. CV-95-346J; Ingram v. Liberty National Life Insurance Company, Case No. CV-95-348L; Burkett v. Liberty National Life Insurance Company, Case No. CV-95-347H). The Stewart case has been dismissed with prejudice and the other cases remain pending. A purported class action was filed on August 8, 1995, against Liberty in the Circuit Court of Jefferson County, Alabama on behalf of Liberty cancer policyholders eligible for Medicare who submitted claims during an approximately two month period in 1993 (Adkins v. Liberty National Life Insurance Company, Case No. CV-95-5634). Beginning in September 1993, in reliance on federal law concerning the amount health care providers could collect from Medicare eligible individuals, Liberty limited the payment of benefits to such individuals to the amounts collectible by the providers under federal law. In November, 1993 Liberty discontinued this practice and recalculated and repaid all claims in full as it had prior to September 1993 together with interest. Nearly two years after this refund, the Adkins case was filed. The claims made in Adkins are identical to the individual claims in Allen v. Liberty National Life Insurance Company (Case No. CV-94-3634), an individual case reversed and remanded by the Alabama Supreme Court on March 7, 1997 after an appeal regarding the remitted verdict of $2.7 million. A class certification order, which does not address the merits of the litigation, was entered by the Court in Adkins on July 26, 1996. Liberty filed a petition for writ of mandamus or prohibition with the Alabama Supreme Court in August 1996 asserting abuse of discretion by the trial court in certifying the Adkins class. The Alabama Supreme Court has stayed further proceedings as to the class issues in Adkins pending its ruling on the propriety of class certification. On August 25, 1995, a purported class action was filed against Torchmark, Globe, United American and certain officers of these companies in the United States District Court for the Western District of Missouri on behalf of all former agents of Globe (Smith v. Torchmark Corporation, Case No.: 95-3304-CV- S-4). This action alleges that the defendants breached independent agent contracts with the plaintiffs by treating them as captive agents and engaged in a pattern of racketeering activity wrongfully denying income and renewal commissions to the agents, restricting insurance sales, mandating the purchase of worthless leads, terminating agents without cause and inducing the execution of independent contracts based on misrepresentations of fact. Monetary damages in an unspecified amount are sought. A plaintiff class was certified by the District Court on February 26, 1996, although the certification does not go to the merit of the allegations in the complaint. On December 31, 1996, the plaintiffs filed an amended complaint in Smith to allege violations of various provisions of the Employment Retirement Income Security Act of 1974. Discovery is presently proceeding in this case. It has been previously reported that Liberty is a party to individual lawsuits and a purported class action (Carlton v. Liberty National Life Insurance Company, Case No. CV-96-22) in the Circuit Court of Chambers County, Alabama, in which allegations are made that an interest sensitive life insurance policy would become paid-up or self-sustaining after a specified number of years. Currently, Liberty is a party to more than 100 individual interest sensitive cases, 53 of which were filed by a single lawyer in Chambers County, Alabama. Additionally, Torchmark has previously reported the case of Lawson v. Liberty National Life Insurance Company, filed in the Circuit Court of Jefferson County, Alabama (Civil Action No.: CV-96-01119), where the plaintiffs were seeking class certification on behalf of such policyholders including those who were allegedly induced to exchange life insurance policies or the existing policy's cash value was allegedly depleted. On May 14, 1996, the Circuit Court of Jefferson County, Alabama entered an order conditionally certifying a plaintiffs claim in Lawson in order to preserve the Court's jurisdiction over the class action question, subject to a full evidentiary hearing on class certification at a future date yet to be determined. 60
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 16--COMMITMENTS AND CONTINGENCIES (CONTINUED) In 1978, the United States District Court for the Northern District of Alabama entered a final judgment in Battle v. Liberty National Life Insurance Company, et al. (CV-70-H-752-S), class action litigation involving Liberty, a class composed of all owners of funeral homes in Alabama and a class composed of all insureds (Alabama residents only) under burial or vault policies issued, assumed or reinsured by Liberty. The final judgment fixed the rights and obligations of Liberty and the funeral directors authorized to handle Liberty burial and vault policies as well as reforming the benefits available to the policyholders under the policies. Although class actions are inherently subject to subsequent collateral attack by absent class members, the Battle decree remains in effect to date. A motion filed in February 1990 to challenge the final judgment under Federal Rule of Civil Procedure 60(b) was rejected by both the District Court in 1991 and the Eleventh Circuit Court of Appeals in 1992 and a Writ of Certiorari was denied by the U.S. Supreme Court in 1993. In November 1993, an attorney (purporting to represent the funeral director class) filed a petition in the District Court seeking "alternative relief" under the final judgment. This petition was voluntarily withdrawn on November 8, 1995, by petitioners. On February 23, 1996, Liberty filed a petition with the District Court requesting that it order certain contract funeral directors to comply with their obligations under the Final Judgment in Battle and their funeral service contracts. A petition was filed on April 8, 1996 on behalf of a group of funeral directors seeking to modify the 1978 decree in Battle in light of changed economic circumstances. Liberty is actively opposing this petition. Purported class action litigation was filed on January 2, 1996 against Torchmark, Torch Energy Advisors Incorporated ("Torch Energy"), and certain Torch Energy subsidiaries and affiliated limited partnerships in the Circuit Court of Pickens County, Alabama (Pearson v. Torchmark Corporation, Case No. CV-95-140). Plaintiff alleges improper payment of royalties and overriding royalties on coalbed methane gas produced and sold from wells in Robinson's Bend Coal Degasification Field, seeks certification of a class and claims unspecified compensatory and punitive damages on behalf of such class. On April 11, 1996, Torchmark's motion to change venue was granted and the case has been transferred to the Circuit Court of Tuscaloosa County, Alabama. The Company's motion to dismiss remains pending while discovery is proceeding. It has been previously reported that the Company, its subsidiaries United American and Globe and certain individual corporate officers are parties to purported class action litigation filed April 5, 1996 in the U.S. District Court for the Northern District of Georgia (Crichlow v. Torchmark Corporation, Case No.: 4:96-CV 0086-HLM). The complaint alleged RICCO violations, fraud, breach of contract, conspiracy, violations of the Oklahoma Consumer Protection Act and breach of the duty of good faith and fair dealing on behalf of all persons who purchased, at any time between 1987 and the present, certain hospitalization and surgical insurance policies issued by Globe and United American. The plaintiffs asserted that they purchased these policies and subsequently incurred improper claim denials, wrongful recision and "rate-ups" and post-claim underwriting. On December 4, 1996, the U.S. District Court dismissed the RICCO counts, the Oklahoma Consumer Protection Act and contract counts as to certain defendants and ordered plaintiffs to file an amended complaint. On December 23, 1996, the plaintiffs filed the amended complaint as ordered, alleging breach of contract, fraud, conspiracy and breach of the duty of good faith and fair dealing on behalf of a purported class of persons who purchased Globe, but not United American, policies from 1987 to the present. Defendants have filed motions to dismiss and for partial summary judgment. On April 19, 1996, a $5 million punitive judgment was entered against LIberty by a jury in Mobile, Alabama in Strickland v. Liberty National Life Insurance Company (CV-95-1399). In the Strickland case, the plaintiff, who was in his sixties, cancelled several small life insurance policies and purchased a substantial amount of new coverage. The plaintiff contended that certain supplemental benefits which were present in the smaller policies were not included in the new coverage (i.e. accidental death and premium waiver). The trial judge held that Strickland was not entitled to recover compensatory damages. Nevertheless the jury awarded $100 in nominal damages in addition to the punitive award. Liberty has filed various motions for the post-trial relief with the Circuit Court, which held a post trial hearing on the propriety of the punitive damage award on February 12, 1997. On March 11, 1997, the Circuit Court judge reduced the Strickland judgment to $37,500. 61
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 16--COMMITMENTS AND CONTINGENCIES (CONTINUED) A jury in Chambers County, Alabama Circuit Court returned a verdict of $333,000 compensatory damages and $17.2 million in punitive damages against Liberty on June 11, 1996, in McQuiston v. Liberty National Life Insurance Company (CV-94-234). The case arose out of a claim which had been denied due to an alleged misrepresentation in the application. There was a recorded telephone interview with the applicant in which a statement was given which Liberty alleges was a misrepresentation of the health of the proposed insured. After the litigation was filed, it was learned that one signature on the application was not that of the insured. Upon notice of this fact, Liberty paid the $20,000 claim proceeds into court. Liberty has filed motions for post-trial relief with the Court, subject to completion of post-trial discovery. A post-trial hearing on the propriety of the punitive damage award is scheduled for March 28, 1997. Based upon information presently available, and in light of legal and other factual defenses available to Torchmark and its subsidiaries, contingent liabilities arising from threatened and pending litigation are not presently considered by management to be material. It should be noted, however, that the frequency of large punitive damage awards bearing little or no relation to actual damages awarded by juries in jurisdictions in which Torchmark has substantial business, particularly in Alabama, continues to increase universally, creating the potential for unpredictable material adverse judgments in any given punitive damage suit. NOTE 17--INDUSTRY SEGMENTS Torchmark operates primarily in two industry segments, insurance and asset management. Operations in the insurance industry involve the sale and administration of life insurance, health insurance and annuities. It also includes investment operations related to insurance segment investments. Operations in the asset management industry include the management, distribution, and servicing of various mutual funds. Torchmark markets its products in all fifty states. Certain insurance company investments are managed by the asset management segment. Additionally, the asset management segment markets certain insurance products for the insurance segment and manages the mutual funds for the insurance segment's variable products. Total revenues by segment include revenues from other segments in addition to unaffiliated parties. Intersegment revenues include commission revenue and investment income which eliminate in consolidation. Pre-tax income for operating segments is total revenue less operating costs and expenses for the segment. Corporate pre-tax income includes transactions which are nonoperating in nature and are not related to the activities of a segment. Such items include parent company interest expense, goodwill amortization, and similar items. 62
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 17--INDUSTRY SEGMENTS (CONTINUED) A summary of segment data is as follows: <TABLE> <CAPTION> ADJUSTMENTS ASSET AND CONSOLIDATED INSURANCE MANAGEMENT CORPORATE ELIMINATIONS TOTAL ---------- ---------- --------- ------------ ------------ <S> <C> <C> <C> <C> <C> 1996: Revenues--unaffiliated.. $2,008,594 $192,414 $ 4,802 $ -0- $2,205,810 Intersegment revenues... 7,561 33,139 (2,310) (38,390) -0- ---------- -------- --------- -------- ---------- Total revenues.......... $2,016,155 $225,553 $ 2,492 $(38,390) $2,205,810 ========== ======== ========= ======== ========== Pretax income........... $ 485,646 $118,082 $(101,521) $ (7,075) $ 495,132 Depreciation............ 5,468 3,451 137 9,056 Capital expenditures.... 15,236 9,671 62 24,969 Identifiable assets at year end............... 9,649,488 396,061 357,792 (602,541) 9,800,800 1995: Revenues--unaffiliated.. $1,926,516 $156,519 $ (15,553) $ -0- $2,067,482 Intersegment revenues... 7,497 27,503 (2,174) (32,826) -0- ---------- -------- --------- -------- ---------- Total revenues.......... $1,934,013 $184,022 $ (17,727) $(32,826) $2,067,482 ========== ======== ========= ======== ========== Pretax income........... $ 462,001 $ 96,371 $(124,380) $ (5,817) $ 428,175 Depreciation............ 6,135 3,327 141 9,603 Capital expenditures.... 7,094 15,227 193 22,514 Identifiable assets at year end............... 8,933,970 244,003 379,856 (193,725) 9,364,104 1994: Revenues--unaffiliated.. $1,721,650 $141,807 $ 11,880 $ -0- $1,875,337 Intersegment revenues... 2,724 25,895 (6,302) (22,317) -0- ---------- -------- --------- -------- ---------- Total revenues.......... $1,724,374 $167,702 $ 5,578 $(22,317) $1,875,337 ========== ======== ========= ======== ========== Pretax income........... $ 402,562 $ 84,975 $ (89,582) $ (3,981) $ 393,974 Depreciation............ 8,260 2,869 142 11,271 Capital expenditures.... 5,117 20,952 160 26,229 Identifiable assets at year end............... 7,697,456 180,881 442,639 (155,732) 8,165,244 </TABLE> NOTE 18--RELATED PARTY TRANSACTIONS Investment in Related Parties: Other long-term investments include investment by Torchmark subsidiaries in the United Group of Mutual Funds and certain other funds for which Waddell & Reed, Inc. is sole advisor. These investments were $30.3 million and $26.2 million at December 31, 1996 and 1995, respectively. Investment income derived from these investments is included in net investment income. Rental Income: Torchmark leases office space to Vesta Insurance Group, Inc. ("Vesta"), a 27% owned subsidiary. Total rental income received from Vesta was $508 thousand, $494 thousand, and $461 thousand, for the years ended December 31, 1996, 1995 and 1994, respectively. NOTE 19--SUPPLEMENTAL DISCLOSURES FOR CASH FLOW STATEMENT The following table summarizes Torchmark's noncash transactions, which are not reflected on the Statement of Cash Flow as required by GAAP: <TABLE> <CAPTION> YEAR ENDED DECEMBER 31, ----------------- 1996 1995 1994 ------- ---- ---- <S> <C> <C> <C> Paid-in capital from tax benefit for stock option exercises.............................................. $ 1,947 $709 $349 Non-cash assets received from sale of energy operations. 79,289 -0- -0- Non-cash liabilities assumed from sale of energy operations............................................. 48,942 -0- -0- </TABLE> The following table summarizes certain amounts paid during the period: <TABLE> <CAPTION> YEAR ENDED DECEMBER 31, ------------------------- 1996 1995 1994 -------- ------- -------- <S> <C> <C> <C> Interest paid..................................... $ 74,433 $82,642 $ 77,114 Income taxes paid................................. $108,496 $99,298 $182,052 </TABLE> 63
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) (DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) NOTE 20--SELECTED QUARTERLY DATA (UNAUDITED) The following is a summary of quarterly results for the two years ended December 31, 1996. The information is unaudited but includes all adjustments (consisting of normal accruals) which management considers necessary for a fair presentation of the results of operations for these periods. <TABLE> <CAPTION> THREE MONTHS ENDED ---------------------------------------------- MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31, --------- -------- ------------- ------------ <S> <C> <C> <C> <C> 1996: - ----- Premium and policy charges....... $402,188 $403,534 $402,585 $401,612 Financial services revenue....... 44,337 47,157 45,529 47,272 Net investment income............ 99,417 100,700 101,576 102,915 Realized investment gains........ 4,713 379 498 239 Total revenues................... 550,823 551,983 550,597 552,407 Policy benefits.................. 264,302 265,971 263,612 264,199 Amortization of acquisition expenses........................ 55,457 54,277 54,788 54,304 Pretax income from continuing operations...................... 119,296 123,200 125,094 127,542 Loss from discontinued operations...................... -0- -0- (7,137) -0- Net income....................... 76,274 79,039 73,693 82,366 Net income per common share from continuing operations........... 1.06 1.10 1.13 1.17 Net income per common share from discontinued operations: Loss on disposal............... 0.00 0.00 (0.10) 0.00 Net income per common share...... 1.06 1.10 1.03 1.17 Net income per common share excluding realized gains, the related DPAC adjustment, and discontinued operations......... 1.03 1.10 1.13 1.17 1995: - ----- Premium and policy charges....... $390,834 $384,759 $383,962 $386,728 Financial services revenue....... 34,774 37,223 39,108 41,377 Net investment income............ 92,808 92,883 93,762 102,412 Realized investment gains (losses)........................ (920) 304 (15,700) 1,993 Total revenues................... 517,688 515,597 501,383 532,814 Policy benefits.................. 253,369 252,640 252,547 250,780 Amortization of acquisition expenses........................ 50,185 49,936 51,150 52,796 Pretax income from continuing operations...................... 107,362 108,530 94,457 117,826 Income (loss) from discontinued operations...................... 288 569 2,017 (131,584) Net income (loss)................ 68,621 70,023 60,974 (56,383) Net income per common share from continuing operations........... 0.96 0.97 0.82 1.05 Net income per common share from discontinued operations: Income (loss) from operations.. 0.00 0.01 0.03 (1.84) Net income (loss) per common share........................... 0.96 0.98 0.85 (0.79) Net income per common share excluding realized gains, the related DPAC adjustment, and discontinued operations......... 0.96 0.97 0.97 1.03 </TABLE> 64
ITEM 9. DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE No disagreements with accountants on any matter of accounting principles or practices or financial statement disclosure have been reported on a Form 8-K within the twenty-four months prior to the date of the most recent financial statements. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF REGISTRANT Information required by this item is incorporated by reference from the sections entitled "Election of Directors," "Profiles of Directors and Nominees," "Executive Officers" and Section 16(a) "Beneficial Ownership Reporting Compliance" of the Securities Exchange Act in the Proxy Statement for the Annual Meeting of Stockholders to be held April 24, 1997 (the "Proxy Statement"), which is to be filed with the Securities and Exchange Commission. ITEM 11. EXECUTIVE COMPENSATION Information required by this item is incorporated by reference from the section entitled "Compensation and Other Transactions with Executive Officers and Directors" in the Proxy Statement. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS OF MANAGEMENT (a)Security ownership of certain beneficial owners: Information required by this item is incorporated by reference from the section entitled "Principal Stockholders" in the Proxy Statement. (b)Security ownership of management: Information required by this item is incorporated by reference from the section entitled "Stock Ownership" in the Proxy Statement. (c)Changes in control: Torchmark knows of no arrangements, including any pledges by any person of its securities, the operation of which may at a subsequent date result in a change of control. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Information required by this item is incorporated by reference from the section entitled "Compensation and Other Transactions with Executive Officers and Directors" in the Proxy Statement. 65
PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENTS SCHEDULES, AND REPORTS ON FORM 8-K (a)Index of documents filed as a part of this report: <TABLE> <CAPTION> PAGE OF THIS REPORT ----------- <S> <C> Financial Statements: Torchmark Corporation and Subsidiaries: Independent Auditors' Report.................................... 32 Consolidated Balance Sheet at December 31, 1996 and 1995........ 33 Consolidated Statement of Operations for each of the years in the three-year period ended December 31, 1996.................. 34 Consolidated Statement of Shareholders' Equity for each of the years in the three-year period ended December 31, 1996......... 35 Consolidated Statement of Cash Flow for each of the years in the three-year period ended December 31, 1996...................... 36 Notes to Consolidated Financial Statements...................... 37 Schedules Supporting Financial Statements for each of the years in the three-year period ended December 31, 1996................ II.Condensed Financial Information of Registrant (Parent Compa- ny)............................................................. 71 III.Supplementary Insurance Information (Consolidated).......... 74 IV.Reinsurance (Consolidated)................................... 75 </TABLE> Schedules not referred to have been omitted as inapplicable or not required by Regulation S-X. 66
EXHIBITS <TABLE> <CAPTION> Page of this Report ------- <C> <S> <C> (3)(i) Restated Certificate of Incorporation of Torchmark Corpora- tion, as amended (incorporated by reference from Exhibit 3(i) to Form 10-K for the fiscal year ended December 31, 1995) (ii) By-Laws of Torchmark Corporation, as amended (incorporated by reference from Exhibit 3(b) to Form 10-K for the fiscal year ended December 31, 1989) (4)(a) Specimen Common Stock Certificate (incorporated by reference from Exhibit 4(a) to Form 10-K for the fiscal year ended De- cember 31, 1989) (b) Trust Indenture dated as of February 1, 1987 between Torchmark Corporation and Morgan Guaranty Trust Company of New York, as Trustee (incorporated by reference from Exhibit 4(b) to Form S-3 for $300,000,000 of Torchmark Corporation Debt Securities and Warrants (Registration No. 33-11816)) (10)(a) Torchmark Corporation and Affiliates Retired Lives Reserve Agreement, as amended, and Trust (incorporated by reference from Exhibit 10(b) to Form 10-K for the fiscal year ended December 31, 1991) (b) Capital Accumulation and Bonus Plan of Torchmark Corpora- tion, as amended, (incorporated by reference from Exhibit 10(c) to Form 10-K for the fiscal year ended December 31, 1988) (c) Torchmark Corporation Supplementary Retirement Plan (incor- porated by reference from Exhibit 10(c) to Form 10-K for the fiscal year ended December 31, 1992) (d) Certified Copies of Resolutions Establishing Retirement Pol- icy for Officers and Directors of Torchmark Corporation, Providing for Advisory Directors, and Providing Retirement Benefits for Directors (incorporated by reference from Ex- hibit 10(e) to Form 10-K for the fiscal year ended December 31, 1989) (e) Torchmark Corporation Restated Deferred Compensation Plan for Directors, Advisory Directors, Directors Emeritus and Officers, as amended (incorporated by reference from Exhibit 10(e) to Form 10-K for the fiscal year ended December 31, 1992) (f) The Torchmark Corporation 1987 Stock Incentive Plan (g) The 1984 Torchmark Corporation Stock Option Plan (incorpo- rated by reference from Form S-8 for The 1984 Torchmark Cor- poration Stock Option Plan (Registration No. 2-93760)) (h) General Agency Contract between Liberty National Life Insur- ance Company and Independent Research Agency For Life Insur- ance, Inc. (incorporated by reference from Exhibit 10(i) to Form 10-K for the fiscal year ended December 31, 1990) (i) Form of Marketing and Administrative Services Agreement be- tween Liberty National Fire Insurance Company, Liberty Na- tional Insurance Corporation and Liberty National Life In- surance Company (incorporated by reference from Exhibit 10.2 to Form S-1 Registration Statement No. 33-68114) (j) Form of Deferred Compensation Agreement Between Torchmark Corporation or Subsidiary and Officer at the Level of Vice President or Above Eligible to Participate in the Torchmark Corporation and Affiliates Retired Lives Reserve Agreement and to Retire Prior to December 31, 1986 (incorporated by reference from Exhibit 10(k) to Form 10-K for the fiscal year ended December 31, 1991) </TABLE> 67
<TABLE> <CAPTION> Page of this Report ------- <C> <S> <C> (k) Form of Deferred Compensation Agreement between Torchmark Corporation or Subsidiary and Officer at the Level of Vice President or Above Eligible to Participate in the Torchmark Corporation and Affiliates Retired Lives Reserve Agreement and Not Eligible to Retire Prior to December 31, 1986 (in- corporated by reference from Exhibit 10(l) to Form 10-K for the fiscal year ended December 31, 1991) (l) Torchmark Corporation Supplemental Savings and Investment Plan (incorporated by reference from Exhibit 10(m) to Form 10-K for the fiscal year ended December 31, 1992) (m) Service Agreement, dated as of January 1, 1991, between Torchmark Corporation and Liberty National Life Insurance Company (prototype for agreements between Torchmark Corpora- tion and other principal operating subsidiaries) (incorpo- rated by reference from Exhibit 10(n) to Form 10-K for the fiscal year ended December 31, 1992) (n) The Torchmark Corporation Pension Plan (incorporated by ref- erence from Exhibit 10(o) to Form 10-K for the fiscal year ended December 31, 1992) (o) United Investors Management Company Retirement Income Plan (incorporated by reference from Exhibit 10(p) to Form 10-K for the fiscal year ended December 31, 1992) (p) Waddell & Reed, Inc. Career Field Retirement Plan (incorpo- rated by reference from Exhibit 10(q) to Form 10-K for the fiscal year ended December 31, 1992) (q) United Investors Management Company 1986 Employee Stock In- centive Plan (incorporated by reference from Exhibit 10(r) to Form 10-K for the fiscal year ended December 31, 1993) (r) The Torchmark Corporation Savings and Investment Plan (in- corporated by reference from Exhibit 10(s) to Form 10-K for the fiscal year ended December 31, 1992) (s) United Investors Management Company Savings and Investment Plan (incorporated by reference from Exhibit 10(t) to Form 10-K for the fiscal year ended December 31, 1992) (t) Credit Agreements dated as of October 24, 1996 among Torchmark Corporation, the Lenders and The First National Bank of Chicago, as Agent (364 Day and Five Year) (u) Coinsurance and Servicing Agreement between Security Benefit Life Insurance Company and Liberty National Life Insurance Company, effective as of December 31, 1995 (incorporated by reference from Exhibit 10(u) to Form 10-K for the fiscal year ended December 31, 1995) (v) Form of Deferred Compensation Agreement Between Torchmark Corporation or Subsidiary and Officer at the Level of Vice President or Above Not Eligible to Participate in Torchmark Corporation and Affiliates Retired Lives Reserve Agreement (incorporated by reference from Exhibit 10(j) to Form 10-K for the fiscal year ended December 31, 1991) (w) Torchmark Corporation 1996 Non-Employee Directors Stock Op- tion Plan (x) Torchmark Corporation 1996 Executive Deferred Compensation Stock Option Plan (11) Statement re computation of per share earnings 70 (20) Proxy Statement for Annual Meeting of Stockholders to be held April 24, 1997 (21) Subsidiaries of the registrant 70 (23)(a) Consent of KPMG Peat Marwick LLP to incorporation by refer- ence of their audit report dated January 31, 1997, except for Note 16, which is as of March 11, 1997, into Form S-8 of The Torchmark Corporation Savings and Investment Plan (Reg- istration No. 2-76378) (b) Consent of KPMG Peat Marwick LLP to incorporation by refer- ence of their audit report dated January 31, 1997, except for Note 16, which is as of March 11, 1997, into Form S-8 of The United Investors Management Company Savings and Invest- ment Plan (Registration No. 2-76912) </TABLE> 68
<TABLE> <CAPTION> Page of this Report ------- <C> <S> <C> (c) Consent of KPMG Peat Marwick LLP to incorporation by refer- ence of their audit report dated January 31, 1997, except for Note 16, which is as of March 11, 1997, into Form S-8 and the accompanying Form S-3 Prospectus of The 1984 Torchmark Corpo- ration Stock Option Plan (Registration No. 2-93760) (d) Consent of KPMG Peat Marwick LLP to incorporation by refer- ence of their audit report dated January 31, 1997, except for Note 16, which is as of March 11, 1997, into Form S-8 and the accompanying Form S-3 Prospectus of the Torchmark Corporation 1987 Stock Incentive Plan (Registration No. 33-23580) (e) Consent of KPMG Peat Marwick LLP to incorporation by reference of their audit report dated January 31, 1997, except for Note 16, which is as of March 11, 1997, into Form S-8 and the accompanying Form S-3 Prospectus of The Capital Accumulation and Bonus Plan of Torchmark Corporation (Registration No. 33-1032) (f) Consent of KPMG Peat Marwick LLP to incorporation by refer- ence of their audit report dated January 31, 1997, except for Note 16, which is as of March 11, 1997, into Form S-8 of the Liberty National Life Insurance Company 401(k) Plan (Regis- tration No. 33-65507) (24) Powers of attorney (27) Financial Data Schedule </TABLE> 69
(b) Reports on Form 8-K. A Form 8-K dated October 2, 1996 was filed to report the United States Supreme Court's grant of intervenors' petition for writ of certiorari in Robertson v. Liberty National Life Insurance Company. No exhibits were required to be filed. (c) Exhibits Exhibit 11. Statement re computation of per share earnings TORCHMARK CORPORATION COMPUTATION OF EARNINGS PER SHARE <TABLE> <CAPTION> 1996 1995 1994 ------------ ------------- ------------ <S> <C> <C> <C> Net income from continuing opera- tions.............................. $318,508,976 $ 271,945,720 $263,814,601 Discontinued operations of energy segment: Income (loss) from operations...... -0- (128,710,390) 5,131,667 Loss on disposal................... (7,137,124) -0- -0- ------------ ------------- ------------ Net income.......................... 311,371,852 143,235,330 268,946,268 Preferred dividends................. -0- 0 (804,130) ------------ ------------- ------------ Adjusted net income................. $311,371,852 $ 143,235,330 $268,142,138 ============ ============= ============ Weighted average shares outstanding. 71,229,892 71,593,774 72,095,657 ============ ============= ============ Primary earnings per share: From continuing operations......... $ 4.47 $ 3.80 $ 3.65 From discontinued operations of en- ergy segment: Income (loss) from operations..... -0- (1.80) 0.07 Loss on disposal.................. (0.10) -0- -0- ------------ ------------- ------------ Net income........................ $ 4.37 $ 2.00 $ 3.72 ============ ============= ============ </TABLE> There were no common stock equivalents included in weighted average shares outstanding. Exhibit 21. Subsidiaries of the Registrant The following table lists subsidiaries of the registrant which meet the definition of "significant subsidiary" according to Regulation S-X: <TABLE> <CAPTION> STATE OF NAME UNDER WHICH COMPANY INCORPORATION COMPANY DOES BUSINESS ----------------------- ------------- --------------------- <S> <C> <C> American Income Life American Income Life Insurance Company Indiana Insurance Company Family Service Life Family Service Life Insurance Company Texas Insurance Company Globe Life And Accident Globe Life And Accident Insurance Company Delaware Insurance Company Liberty National Life Liberty National Life Insurance Company Alabama Insurance Company United American United American Insurance Company Delaware Insurance Company United Investors Life United Investors Life Insurance Company Missouri Insurance Company Waddell & Reed Waddell & Reed Investors Management Investors Management Company, Inc. Delaware Company, Inc. Waddell & Reed Waddell & Reed Services Company, Inc. Delaware Services Company, Inc. </TABLE> All other exhibits required by Regulation S-K are listed as to location in the "Index of documents filed as a part of this report" on pages 67 through 69 of this report. Exhibits not referred to have been omitted as inapplicable or not required. 70
TORCHMARK CORPORATION (PARENT COMPANY) SCHEDULE II. CONDENSED FINANCIAL INFORMATION OF REGISTRANT CONDENSED BALANCE SHEET (AMOUNTS IN THOUSANDS) <TABLE> <CAPTION> DECEMBER 31, ---------------------- 1996 1995 ---------- ---------- <S> <C> <C> Assets: Investments: Long-term investments--available for sale........ $ 11,182 $ 9,655 Short-term investments........................... 5,940 994 ---------- ---------- Total investments................................. 17,122 10,649 Cash.............................................. 156 -0- Investment in affiliates.......................... 2,949,625 2,820,323 Due from affiliates............................... 104,146 105,887 Accrued investment income......................... 84 94 Other assets...................................... 5,154 3,636 Discontinued operations assets.................... -0- 61,109 ---------- ---------- Total assets..................................... $3,076,287 $3,001,698 ========== ========== Liabilities and shareholders' equity: Liabilities: Short-term debt.................................. $ 40,778 $ 189,248 Long-term debt................................... 791,589 791,566 Due to affiliates................................ 330,527 195,193 Other liabilities................................ 90,904 43,643 ---------- ---------- Total liabilities................................ 1,253,798 1,219,650 Monthly income preferred securities............... 193,146 193,096 Shareholders' equity: Preferred stock.................................. -0- -0- Common stock..................................... 73,784 73,784 Additional paid-in capital....................... 141,701 139,754 Unrealized investment gains ..................... 46,581 140,338 Retained earnings................................ 1,549,391 1,325,534 Treasury stock................................... (182,114) (90,458) ---------- ---------- Total shareholders' equity....................... 1,629,343 1,588,952 ---------- ---------- Total liabilities and shareholders' equity....... $3,076,287 $3,001,698 ========== ========== </TABLE> See accompanying Independent Auditors' Report 71
TORCHMARK CORPORATION (PARENT COMPANY) SCHEDULE II. CONDENSED FINANCIAL INFORMATION OF REGISTRANT (continued) CONDENSED STATEMENT OF OPERATIONS (AMOUNTS IN THOUSANDS) <TABLE> <CAPTION> YEAR ENDED DECEMBER 31, ---------------------------- 1996 1995 1994 -------- -------- -------- <S> <C> <C> <C> Net investment income............................ $ 931 $ 1,261 $ 5,183 Realized investment losses....................... (5,738) (23,516) (4,422) Other income..................................... 1 11 11 -------- -------- -------- Total revenue.................................. (4,806) (22,244) 772 General operating expenses....................... 13,958 7,823 14,442 Non-operating expenses--related to affiliates.... -0- -0- (71,417) Reimbursements from affiliates................... (13,332) (13,260) (15,218) Interest expense................................. 88,916 91,825 79,762 -------- -------- -------- Total expenses................................. 89,542 86,388 7,569 -------- -------- -------- Operating loss before income taxes and equity in earnings of affiliates.......................... (94,348) (108,632) (6,797) Income taxes .................................... 23,102 37,363 2,022 -------- -------- -------- Net operating loss before equity in earnings of affiliates...................................... (71,246) (71,269) (4,775) Equity in earnings of affiliates................. 420,900 326,822 271,992 Monthly income preferred securities dividend..... (9,655) (10,317) (2,137) -------- -------- -------- Net income from continuing operations.......... 339,999 245,236 265,080 Discontinued operations of energy segment: Income (loss) from operations................... -0- (102,001) 3,866 Loss on disposal................................ (28,627) -0- -0- -------- -------- -------- Net income..................................... $311,372 $143,235 $268,946 ======== ======== ======== </TABLE> See accompanying Independent Auditors' Report. 72
TORCHMARK CORPORATION (PARENT COMPANY) SCHEDULE II. CONDENSED FINANCIAL INFORMATION OF REGISTRANT--(continued) CONDENSED STATEMENT OF CASH FLOW (AMOUNTS IN THOUSANDS) <TABLE> <CAPTION> YEAR ENDED DECEMBER 31, ------------------------------ 1996 1995 1994 -------- --------- --------- <S> <C> <C> <C> Cash provided from operations before dividends from subsidiaries............................. $(77,291) $ (86,764) $ (48,378) Cash dividends from subsidiaries.............. 265,688 185,500 270,500 -------- --------- --------- Cash provided from operations.................. 188,397 98,736 222,122 Cash provided from (used for) investing activi- ties: Disposition of investments.................... -0- 116 225,573 Acquisition of investments.................... (1,667) (1,556) (202,579) Investment in subsidiaries.................... -0- (83,211) (70,000) Purchase of American Income................... -0- -0- (476,501) Loans to subsidiaries......................... (12,508) (49,043) (28,916) Net decrease (increase) in temporary invest- ments........................................ (4,946) (188) 1,529 Additions to properties....................... (49) (146) (113) -------- --------- --------- Cash used for investing activities............. (19,170) (134,028) (551,007) Cash provided from (used for) financing activi- ties: Issuance of debt.............................. -0- -0- 143,000 Issuance of monthly income preferred securi- ties......................................... -0- -0- 193,046 Repayments of debt............................ (149,020) (60,752) -0- Issuance of stock to subsidiaries............. -0- 77,766 -0- Issuance of stock............................. 10,145 2,808 4,408 Acquisitions of treasury stock................ (106,996) -0- (106,054) Borrowed from subsidiaries.................... 153,959 101,857 176,821* Repayment on borrowings from subsidiaries..... 8,500 (5,500) -0- Payment of dividends.......................... (85,659) (80,887) (82,336) -------- --------- --------- Cash provided from (used for) financing activi- ties.......................................... (169,071) 35,292 328,885 Net increase in cash........................... 156 -0- -0- Cash balance at beginning of period............ -0- -0- -0- -------- --------- --------- Cash balance at end of period.................. $ 156 $ -0- $ -0- ======== ========= ========= </TABLE> * Includes an $80.3 million note payable to subsidiary which was forgiven in 1994 in the form of a dividend from the subsidiary. TORCHMARK CORPORATION (PARENT COMPANY) NOTES TO CONDENSED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS) NOTE A--DIVIDENDS FROM SUBSIDIARIES Cash dividends paid to Torchmark from the consolidated subsidiaries were as follows: <TABLE> <CAPTION> 1996 1995 1994 -------- -------- -------- <S> <C> <C> <C> Consolidated subsidiaries..................... $265,688 $185,500 $270,500 ======== ======== ======== </TABLE> See accompanying Independent Auditors' Report. 73
TORCHMARK CORPORATION SCHEDULE III. SUPPLEMENTARY INSURANCE INFORMATION (CONSOLIDATED) (AMOUNTS IN THOUSANDS) <TABLE> <CAPTION> AMORTIZATION OF DEFERRED PREMIUM NET POLICY OTHER AND POLICY INVESTMENT OTHER BENEFITS ACQUISITION OPERATING CHARGES INCOME INCOME AND CLAIMS COSTS EXPENSES ---------- ---------- -------- ---------- ------------ --------- <S> <C> <C> <C> <C> <C> <C> FOR THE YEAR ENDED DE- CEMBER 31, 1996: - ---------------------- Insurance.............. $1,609,919 $403,300 $ 2,936 $1,058,084 $219,917 $252,508 Asset management....... 8,077 217,476 107,471 Corporate.............. (3,550) 6,042 104,013 Eliminations and ad- justments............. (3,219) (35,171) (1,091) (30,224) ---------- -------- -------- ---------- -------- -------- Total................. $1,609,919 $404,608 $191,283 $1,058,084 $218,826 $433,768 ========== ======== ======== ========== ======== ======== FOR THE YEAR ENDED DE- CEMBER 31, 1995: - ---------------------- Insurance.............. $1,546,283 $384,619 $ 3,111 $1,009,336 $205,509 $257,167 Asset management....... 4,021 180,001 87,651 Corporate.............. (3,418) (14,309) 106,653 Eliminations and ad- justments............. (3,357) (29,469) (1,442) (25,567) ---------- -------- -------- ---------- -------- -------- Total................. $1,546,283 $381,865 $139,334 $1,009,336 $204,067 $425,904 ========== ======== ======== ========== ======== ======== FOR THE YEAR ENDED DE- CEMBER 31, 1994: - ---------------------- Insurance.............. $1,388,874 $331,679 $ 3,821 $ 921,277 $172,493 $228,042 Asset management....... 2,443 165,259 82,727 Corporate.............. 8,103 (2,525) 95,160 Eliminations and ad- justments............. 5,412 (27,729) 5,614 (23,950) ---------- -------- -------- ---------- -------- -------- Total................. $1,388,874 $347,637 $138,826 $ 921,277 $178,107 $381,979 ========== ======== ======== ========== ======== ======== </TABLE> See accompanying Independent Auditors' Report. 74
TORCHMARK CORPORATION SCHEDULE IV. REINSURANCE (CONSOLIDATED) (AMOUNTS IN THOUSANDS) <TABLE> <CAPTION> PERCENTAGE CEDED ASSUMED OF AMOUNT GROSS TO OTHER FROM OTHER NET ASSUMED AMOUNT COMPANIES COMPANIES AMOUNT TO NET ----------- --------- ---------- ----------- ---------- <S> <C> <C> <C> <C> <C> FOR THE YEAR ENDED DE- CEMBER 31, 1996: - ---------------------- Life insurance in force. $84,360,821 $655,574 $2,587,330 $86,292,577 3.0% =========== ======== ========== =========== ==== Premiums:* Life insurance......... 759,321 3,472 26,511 782,360 3.4% Health insurance....... 742,319 9,835 135 732,619 0.0% ----------- -------- ---------- ----------- Total premiums........ $ 1,501,640 $ 13,307 $ 26,646 $ 1,514,979 1.8% =========== ======== ========== =========== ==== FOR THE YEAR ENDED DE- CEMBER 31, 1995: - ---------------------- Life insurance in force. $80,377,021 $636,961 $ 14,355 $79,754,415 0.0% =========== ======== ========== =========== ==== Premiums:* Life insurance......... $ 702,993 $ 3,305 $ 4,283 $ 703,971 0.6% Health insurance....... 761,573 10,985 -0- 750,588 0.0% ----------- -------- ---------- ----------- Total premiums........ $ 1,464,566 $ 14,290 $ 4,283 $ 1,454,559 0.3% =========== ======== ========== =========== ==== FOR THE YEAR ENDED DE- CEMBER 31, 1994: - ---------------------- Life insurance in force. $74,834,644 $633,485 $ 23,570 $74,224,729 0.0% =========== ======== ========== =========== ==== Premiums:* Life insurance......... $ 535,141 $ 4,386 $ 1,316 $ 532,071 0.2% Health insurance....... 781,207 12,493 -0- 768,714 0.0% ----------- -------- ---------- ----------- Total premiums........ $ 1,316,348 $ 16,879 $ 1,316 $ 1,300,785 0.1% =========== ======== ========== =========== ==== </TABLE> - -------- * Excludes policy charges See accompanying Independent Auditors' Report. 75
SIGNATURES Pursuant to the requirements of Section 12 or 15(d) of the Securities Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Torchmark Corporation By: ________________________________ R.K. RICHEY, CHAIRMAN, CHIEF EXECUTIVE OFFICER AND DIRECTOR By: ________________________________ KEITH A. TUCKER, VICE CHAIRMAN AND DIRECTOR (PRINCIPAL FINANCIAL OFFICER) By: ________________________________ GARY L. COLEMAN, VICE PRESIDENT AND CHIEF ACCOUNTING OFFICER (PRINCIPAL ACCOUNTING OFFICER) Date: March 20, 1997 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 on the dates indicated. By: ________________________________ By: ________________________________ DAVID L. BOREN DIRECTOR HAROLD T. MCCORMICK DIRECTOR By: ________________________________ By: ________________________________ JOSEPH M. FARLEY DIRECTOR GEORGE J. RECORDS DIRECTOR By: ________________________________ By: ________________________________ LOUIS T. HAGOPIAN DIRECTOR YETTA G. SAMFORD, JR. DIRECTOR By: ________________________________ C.B. HUDSON DIRECTOR By: ________________________________ JOSEPH L. LANIER, JR. DIRECTOR Date: March 20, 1997 *By: _______________________________ GARY L. COLEMAN ATTORNEY-IN-FACT 76