Document/Exhibit Description Pages Size
1: 10-Q Quarterly Report 51 331K
2: EX-10.25 Material Contract 18 78K
3: EX-10.26 Material Contract 19 80K
4: EX-10.27 Material Contract 20 84K
5: EX-10.28 Material Contract 19 79K
6: EX-10.29 Material Contract 19 79K
7: EX-10.30 Material Contract 19 79K
8: EX-10.31 Material Contract 19 79K
9: EX-10.32 Material Contract 14 79K
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2001
Commission File Number: 1-15607
JOHN HANCOCK FINANCIAL SERVICES, INC.
Exact name of registrant as specified in charter
DELAWARE 04-3483032
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
John Hancock Place
Boston, Massachusetts 02117
(Address of principal executive offices)
(617) 572-6000
(Registrant's telephone number, including area code)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes |X| No |_|
Number of shares outstanding of our only class of common stock as of
November 9, 2001:
298,674,423
JOHN HANCOCK FINANCIAL SERVICES, INC.
PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS
[Enlarge/Download Table]
September 30,
2001 December 31,
(Unaudited) 2000
---------------------------------
(in millions)
Assets
Investments
Fixed maturities:
Held-to-maturity--at amortized cost
(fair value: September 30--$1,843.6; December 31--$11,651.2).. $ 1,855.8 $11,888.6
Available-for-sale--at fair value
(cost: September 30--$31,644.2; December 31--$15,829.7) ...... 32,562.7 16,061.9
Trading securities--at fair value
(cost: September 30--$16.5) .................................. 17.0 --
Equity securities:
Available-for-sale--at fair value
(cost: September 30--$849.5; December 31--$870.6) ............ 874.8 1,134.4
Trading securities--at fair value
(cost: September 30--$267.4; December 31--$193.4) ............ 249.0 231.6
Mortgage loans on real estate ................................... 8,846.9 8,969.4
Real estate ..................................................... 481.7 519.0
Policy loans .................................................... 446.3 428.6
Short-term investments .......................................... 147.5 151.9
Other invested assets ........................................... 1,251.3 1,353.0
---------------------------
Total Investments ............................................ 46,733.0 40,738.4
Cash and cash equivalents ....................................... 1,164.1 2,974.4
Accrued investment income ....................................... 678.7 586.9
Premiums and accounts receivable ................................ 202.9 210.8
Deferred policy acquisition costs ............................... 2,665.1 2,528.1
Reinsurance recoverable ......................................... 1,858.8 1,958.6
Other assets .................................................... 2,703.0 2,191.3
Closed block assets - Note 5 .................................... 10,103.3 9,710.0
Separate accounts assets ........................................ 21,890.5 26,454.8
---------------------------
Total Assets ................................................. $87,999.4 $87,353.3
============================
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
2
JOHN HANCOCK FINANCIAL SERVICES, INC.
CONSOLIDATED BALANCE SHEETS -- (CONTINUED)
[Enlarge/Download Table]
September 30,
2001 December 31,
(Unaudited) 2000
-------------------------------
(in millions)
Liabilities and Shareholders' Equity
Liabilities
Future policy benefits.......................................................... $24,468.3 $22,996.4
Policyholders' funds............................................................ 17,609.9 15,741.1
Unearned revenue................................................................ 726.4 671.3
Unpaid claims and claim expense reserves........................................ 234.5 253.7
Dividends payable to policyholders.............................................. 137.9 130.8
Short-term debt................................................................. 451.0 245.3
Long-term debt.................................................................. 715.8 534.0
Income taxes.................................................................... 794.6 431.3
Other liabilities............................................................... 2,482.3 1,986.0
Closed block liabilities - Note 5............................................... 12,273.2 12,035.9
Separate accounts liabilities................................................... 21,890.5 26,454.8
----------------------------
Total Liabilities............................................................ 81,784.4 81,480.6
Minority interest............................................................... 95.9 93.5
Commitments and contingencies - Note 4
Shareholders' Equity
Common stock, $.01 par value; 2.0 billion shares authorized; 315.8 and 315.0
million shares issued, 299.7 million and 312.0 million shares
outstanding, in 2001 and 2000, respectively.................................. 3.2 3.2
Additional paid in capital...................................................... 5,096.1 5,086.4
Retained earnings............................................................... 1,220.4 700.6
Accumulated other comprehensive income.......................................... 383.4 80.8
Treasury stock, at cost (16.1 million and 3.0 million
shares, in 2001 and 2000, respectively)..................................... (584.0) (91.8)
----------------------------
Total Shareholders' Equity................................................... 6,119.1 5,779.2
----------------------------
Total Liabilities and Shareholders' Equity................................... $87,999.4 $87,353.3
============================
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
3
JOHN HANCOCK FINANCIAL SERVICES, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF INCOME
[Enlarge/Download Table]
Three Months Ended Nine Months Ended
September 30, September 30,
2001 2000 2001 2000
------------------------- -----------------------
(in millions)
Revenues
Premiums.................................................................... $ 490.5 $ 482.7 $1,917.2 $1,743.9
Universal life and investment-type product charges.......................... 199.9 193.8 561.5 580.0
Net investment income....................................................... 825.3 796.0 2,469.7 2,421.2
Net realized investment and other gains (losses), net of related
amortization of deferred policy acquisition costs and amounts credited
to participating pension contractholders ($18.0 and $(4.6) for the three
months ended September 30, 2001 and 2000 and $13.3 and $7.9 for
the nine months ended September 30, 2001 and 2000, respectively).......... (60.8) (2.7) (95.6) 78.6
Investment management revenues, commissions and other fees.................. 143.7 180.7 450.2 596.3
Other revenue............................................................... 52.2 5.3 114.0 13.3
Contribution from the closed block - Note 5................................. 34.2 39.4 70.9 90.7
----------------------- ---------------------
Total revenues.............................................................. 1,685.0 1,695.2 5,487.9 5,524.0
Benefits and expenses
Benefits to policyholders, excluding amounts related to net realized
investment and other gains (losses) credited to participating
pension contractholders ($14.1 and $(4.0) for the three months ended
September 30, 2001 and 2000 and $15.0 and $(8.7) for the nine months
ended September 30, 2001 and 2000, respectively).......................... 1,019.0 976.4 3,396.6 3,148.8
Other operating costs and expenses.......................................... 349.8 377.5 1,103.4 1,209.8
Amortization of deferred policy acquisition costs, excluding
amounts related to net realized investment and other gains (losses) ($3.9
and $(0.6) for the three months ended September 30, 2001 and 2000 and
$(1.7) and $0.8 for the nine months ended September 30, 2001 and
2000, respectively)....................................................... 67.5 48.5 200.9 142.5
Dividends to policyholders.................................................. 18.1 26.8 72.0 120.5
----------------------- ---------------------
Total benefits and expenses................................................. 1,454.4 1,429.2 4,772.9 4,621.6
----------------------- ---------------------
Income before income taxes and cumulative
effect of accounting changes................................................ 230.6 266.0 715.0 902.4
Income taxes................................................................... 59.5 81.7 202.4 294.2
----------------------- ---------------------
Income before cumulative effect of accounting changes.......................... 171.1 184.3 512.6 608.2
Cumulative effect of accounting changes, net of tax - Note 1................... -- -- 7.2 --
Net income..................................................................... $ 171.1 $ 184.3 $ 519.8 $ 608.2
======================= =====================
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
4
JOHN HANCOCK FINANCIAL SERVICES, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF INCOME -- (CONTINUED)
[Enlarge/Download Table]
For the Period
Three Months Three Months Nine Months February 1
Ended Ended Ended Through
September 30, September 30, September 30, September 30,
2001 2000 2001 2000
---------------------------------------------------------------------------
(in millions, except per share data)
Basic earnings per common share:
Income before cumulative effect of accounting
changes ..................................... $0.57 $0.59 $1.67 $1.79
Cumulative effect of accounting changes ........ -- -- 0.02 --
--------------------------------------------------------------------
Net income ..................................... $0.57 $0.59 $1.69 $1.79
====================================================================
Diluted earnings per common share:
Income before cumulative effect of accounting
changes ..................................... $0.56 $0.58 $1.66 $1.78
Cumulative effect of accounting changes ........ -- -- 0.02 --
--------------------------------------------------------------------
Net income ..................................... $0.56 $0.58 $1.68 $1.78
====================================================================
Share data:
Weighted-average shares used in basic earnings
per common share calculations ............... 302.6 314.8 306.8 314.8
Dilutive securities:
Stock options .................................. 3.2 1.9 2.7 1.6
Non-vested stock ............................... 0.2 0.3 0.3 0.2
--------------------------------------------------------------------
Weighted-average shares used in diluted earnings
per common share calculations ............... 306.0 317.0 309.8 316.6
====================================================================
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
5
JOHN HANCOCK FINANCIAL SERVICES, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
AND COMPREHENSIVE INCOME
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Additional Accumulated Other Total Outstanding
Common Paid In Retained Comprehensive Treasury Shareholders' Shares
Stock Capital Earnings Income (Loss) Stock Equity (in thousands)
------------------------------------------------------------------------------------------
(in millions)
Balance at July 1, 2000.................. $3.2 $5,076.4 $379.9 $(98.4) $ -- $5,361.1 315,077.5
Forfeitures of restricted stock ......... (41.7)
Additional paid in capital............... 10.6 10.6
Comprehensive income:
Net income............................ 184.3 184.3
Other comprehensive income, net of tax:
Net unrealized gains (losses)......... 55.6 55.6
Foreign currency translation
adjustment.......................... (11.6) (11.6)
Minimum pension liability............. (5.5) (5.5)
--------
Comprehensive income.................. 222.8
-------------------------------------------------------------------------------------
Balance at September 30, 2000............ $3.2 $5,087.0 $564.2 $(59.9) $ -- $5,594.5 315,035.8
=======================================================================================
Additional Accumulated Other Total Outstanding
Common Paid In Retained Comprehensive Treasury Shareholders' Shares
Stock Capital Earnings Income (Loss) Stock Equity (in thousands)
---------------------------------------------------------------------------------------
(in millions)
Balance at July 1, 2001.................. $3.2 $5,094.4 $1,049.3 $295.0 $(402.9) $6,039.0 304,265.4
Options exercised........................ 1.7 1.7 138.9
Restricted stock issued.................. 0.1
Forfeitures of restricted stock.......... (9.9)
Issuance of shares for board compensation 1.4
Treasury stock acquired.................. (181.1) (181.1) (4,724.9)
Comprehensive income:
Net income............................ 171.1 171.1
Other comprehensive income, net of tax:
Net unrealized gains (losses)......... 72.4 72.4
Net accumulated gains (losses)
on cash flow hedges................. 34.2 34.2
Foreign currency translation
adjustment.......................... (18.2) (18.2)
--------
Comprehensive income................. 259.5
---------------------------------------------------------------------------------------
Balance at September 30, 2001............ $3.2 $5,096.1 $1,220.4 $383.4 $(584.0) $6,119.1 299,671.0
=======================================================================================
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
6
JOHN HANCOCK FINANCIAL SERVICES, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
AND COMPREHENSIVE INCOME - (CONTINUED)
[Enlarge/Download Table]
Additional Accumulated Other Total Outstanding
Common Paid In Retained Comprehensive Treasury Shareholders' Shares
Stock Capital Earnings Income (Loss) Stock Equity (in thousands)
---------------------------------------------------------------------------------------
(in millions)
Balance at January 1, 2000............... $ -- $ -- $ 4,825.0 $(33.9) $ -- $ 4,791.1 --
Demutualization transaction.............. 2.2 3,373.3 (4,869.0) (1,493.5) 212,786.5
Initial public offering.................. 1.0 1,656.7 1,657.7 102,000.0
Additional paid in capital............... 57.0 57.0
Restricted stock issued.................. 291.0
Forfeitures of restricted stock.......... (41.7)
Comprehensive income:
Net income before demutualization..... 44.0 44.0
Net income after demutualization...... 564.2 564.2
--------- ---------
Net income for the period............. 608.2 608.2
Other comprehensive income, net of tax:
Net unrealized gains (losses)......... 9.4 9.4
Foreign currency translation
adjustment.......................... (18.9) (18.9)
Minimum pension liability............. (16.5) (16.5)
---------
Comprehensive income.................. 582.2
---------------------------------------------------------------------------------------
Balance at September 30, 2000............ $3.2 $5,087.0 $ 564.2 $(59.9) $ -- $ 5,594.5 315,035.8
=======================================================================================
Additional Accumulated Other Total Outstanding
Common Paid In Retained Comprehensive Treasury Shareholders' Shares
Stock Capital Earnings Income (Loss) Stock Equity (in thousands)
---------------------------------------------------------------------------------------
(in millions)
Balance at January 1, 2001............... $3.2 $5,086.4 $ 700.6 $ 80.8 $ (91.8) $5,779.2 311,988.9
Options exercised........................ 9.7 9.7 738.2
Restricted stock issued.................. 56.1
Forfeitures of restricted stock.......... (11.1)
Issuance of shares for board compensation 1.4
Treasury stock acquired.................. (492.2) (492.2) (13,102.5)
Comprehensive income:
Net income............................ 519.8 519.8
Other comprehensive income, net of tax:
Net unrealized gains (losses)......... 82.3 82.3
Net accumulated gains (losses)
on cash flow hedges................. 14.2 14.2
Foreign currency translation
adjustment.......................... (21.5) (21.5)
--------
Comprehensive income.................. 594.8
Change in accounting principles....... 227.6 227.6
---------------------------------------------------------------------------------------
Balance at September 30, 2001............ $3.2 $5,096.1 $1,220.4 $383.4 $(584.0) $6,119.1 299,671.0
=======================================================================================
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
7
JOHN HANCOCK FINANCIAL SERVICES, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
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Nine Months Ended
September 30,
2001 2000
----------------------------------
(in millions)
Cash flows from operating activities:
Net income....................................................................... $ 519.8 $ 608.2
Adjustments to reconcile net income to net cash provided by operating
activities:
Amortization of discount - fixed maturities................................... (119.7) (85.9)
Net realized investment and other (gains) losses, net........................ 95.6 (78.6)
Change in deferred policy acquisition costs................................... (212.4) (172.0)
Depreciation and amortization................................................. 60.4 80.3
Net cash flows from trading securities........................................ (34.4) (142.4)
Increase in accrued investment income......................................... (91.8) (98.8)
Decrease (increase) in premiums and accounts receivable....................... 7.9 (25.1)
Increase in other assets and other liabilities, net........................... (123.7) (608.5)
Increase in policy liabilities and accruals, net.............................. 1,257.0 1,291.3
Increase in income taxes...................................................... 265.8 296.6
Initial cash transferred to the closed block.................................. -- (158.6)
Contribution from the closed block............................................ (70.9) (90.7)
------------------------------
Net cash provided by operating activities................................... 1,553.6 815.8
Cash flows from investing activities:
Sales of:
Fixed maturities available-for-sale........................................... 14,207.0 4,325.0
Equity securities available-for-sale.......................................... 354.0 255.3
Real estate................................................................... 4.3 49.5
Short-term investments and other invested assets.............................. 118.6 24.5
Maturities, prepayments and scheduled redemptions of:
Fixed maturities held-to-maturity............................................. 161.1 1,216.9
Fixed maturities available-for-sale........................................... 1,988.0 1,149.9
Short-term investments and other invested assets.............................. 112.6 406.6
Mortgage loans on real estate................................................. 917.6 956.3
Purchases of:
Fixed maturities held-to-maturity............................................. (31.6) (1,292.9)
Fixed maturities available-for-sale........................................... (21,505.1) (6,232.5)
Equity securities available-for-sale.......................................... (241.4) (194.4)
Real estate................................................................... (5.5) (48.0)
Short-term investments and other invested assets.............................. (400.3) (568.8)
Mortgage loans on real estate issued.......................................... (1,001.3) (1,290.8)
Cash (paid) received related to acquisition of business....................... (41.0) 141.3
Cash received on sale of subsidiary........................................... 12.8 --
Other, net.................................................................... 38.0 31.6
------------------------------
Net cash used in investing activities....................................... (5,312.2) (1,070.5)
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
8
JOHN HANCOCK FINANCIAL SERVICES, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS -- (CONTINUED)
[Enlarge/Download Table]
Nine Months Ended
September 30,
2001 2000
----------------------------------
(in millions)
Cash flows from financing activities:
Issuance of common stock........................................................ $ -- $ 1,715.0
Payments to eligible policyholders under Plan of Reorganization................. -- (1,067.0)
Acquisition of treasury stock................................................... (492.2) --
Universal life and investment-type contract deposits............................ 8,256.9 5,250.3
Universal life and investment-type contract maturities and withdrawals.......... (6,142.6) (5,435.8)
Issuance of long-term debt...................................................... 145.2 20.0
Repayment of long-term debt..................................................... (14.0) (73.2)
Net decrease in commercial paper................................................ 195.0 64.6
-----------------------------
Net cash provided by financing activities................................... 1,948.3 473.9
-----------------------------
Net (decrease) increase in cash and cash equivalents........................ (1,810.3) 219.2
Cash and cash equivalents at beginning of period............................ 2,974.4 1,817.9
-----------------------------
Cash and cash equivalents at end of period.................................. $ 1,164.1 $ 2,037.1
=============================
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
9
JOHN HANCOCK FINANCIAL SERVICES, INC.
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
Note 1 -- Summary of Significant Accounting Policies
Basis of Presentation
The accompanying unaudited consolidated financial statements of John Hancock
Financial Services, Inc. (the Company) have been prepared in accordance with
accounting principles generally accepted in the United States for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by accounting principles generally accepted in the United
States for complete financial statements. In the opinion of management, these
unaudited consolidated financial statements contain all adjustments, consisting
of only normal and recurring adjustments, necessary for a fair presentation of
the financial position and results of operations. Operating results for the
three and nine month periods ended September 30, 2001 are not necessarily
indicative of the results that may be expected for the year ending December 31,
2001. These unaudited consolidated financial statements should be read in
conjunction with the Company's annual audited financial statements as of
December 31, 2000 included in the Company's Form 10-K for the year ended
December 31, 2000 filed with the United States Securities and Exchange
Commission (hereafter referred to as the Company's 2000 Form 10-K).
The balance sheet at December 31, 2000 has been derived from the audited
financial statements at that date but does not include all of the information
and footnotes required by accounting principles generally accepted in the United
States for complete financial statements.
Reorganization and Initial Public Offering
In connection with John Hancock Mutual Life Insurance Company's (the Mutual
Company) Plan of Reorganization (the Plan), effective February 1, 2000, the
Mutual Company converted from a mutual life insurance company to a stock life
insurance company (i.e. demutualized) and became a wholly-owned subsidiary of
John Hancock Financial Services, Inc., which is a holding company. All
policyholder membership interests in the Mutual Company were extinguished on
that date and eligible policyholders of the Mutual Company received, in the
aggregate, 212.8 million shares of common stock, $1,438.7 million of cash and
$43.7 million of policy credits as compensation. In addition, the Company
established a closed block, to fund the guaranteed benefits and dividends of
certain participating insurance policies. In connection with the Plan, the
Mutual Company changed its name to John Hancock Life Insurance Company (the Life
Company).
In addition, on February 1, 2000, the Company completed its initial public
offering (IPO) in which 102.0 million shares of common stock were issued at a
price of $17.00 per share. Net proceeds from the IPO were $1,657.7 million, of
which $105.7 million was retained by the Company and $1,552.0 million was
contributed to the Life Company.
Cumulative Effect of Accounting Changes
During the first quarter of 2001, the Company changed the method of accounting
for the recognition of deferred gains and losses considered in the calculation
of the annual expense for its employee pension plan under Statement of Financial
Accounting Standards (SFAS) No. 87, "Employers' Accounting for Pensions," and
for its postretirement health and welfare plans under SFAS No. 106, "Employers'
Accounting for Postretirement Benefits Other Than Pensions." The Company changed
the method of recognizing gains and losses from deferral within a 10% corridor
and amortization of gains outside this corridor over the future working careers
of the participants to deferral within a 5% corridor and amortization of gains
and losses outside this corridor over the future working careers of the
participants. The new method is preferable because in the Company's situation,
it produces results that more closely match current economic realities of the
Company's retirement and welfare plans through the use of the current fair
values of assets while still mitigating the impact of extreme gains and losses.
As a result, on January 1, 2001, the Company recorded a credit of $18.6 million
(net of tax of $9.9 million), related to its employee benefit pension plans, and
a credit of $4.7 million (net of tax of $2.6 million), related to its
postretirement health and welfare plans. The total credit recorded as a
cumulative effect of an accounting change was $23.3 million (net of tax of $12.5
million), or $0.07 diluted earnings per share for the nine months ended
September 30, 2001. This change in accounting increased net income for the three
and nine month periods ended September 30, 2001 by $1.1 million and $3.3
million, respectively. The pro forma results, assuming this change in accounting
had taken place as of the beginning of 2000, would not be materially different
from the reported results.
10
JOHN HANCOCK FINANCIAL SERVICES, INC.
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 1 -- Summary of Significant Accounting Policies - (Continued)
In June 1998, the Financial Accounting Standards Board (FASB) issued SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities." In June
1999, the FASB issued SFAS No. 137, "Accounting for Derivative Instruments and
Hedging Activities - Deferral of the Effective Date of FASB Statement 133." This
Statement amends SFAS No. 133 to defer its effective date for one year, to
fiscal years beginning after June 15, 2000. In June 2000, the FASB issued SFAS
No. 138, "Accounting for Certain Derivative Instruments and Certain Hedging
Activities." This Statement makes certain changes in the hedging provisions of
SFAS No. 133, and is effective concurrent with SFAS No. 133. As amended, SFAS
No. 133 requires all derivatives to be recognized on the balance sheet at fair
value, and establishes special accounting for the following three types of
hedges: fair value hedges, cash flow hedges, and hedges of foreign currency
exposures of net investments in foreign operations. Special accounting for
qualifying hedges provides for matching the timing of gain or loss recognition
on the hedging instrument with the recognition of the corresponding change in
value of the hedged item. If the derivative is accounted for as a hedge,
depending on the nature of the hedge, the change in the fair value of
derivatives is either offset against the change in the fair value of the hedged
asset, liability or firm commitment through earnings or recognized in other
comprehensive income until the change in value of the hedged item is recognized
in earnings. The ineffective portion of a derivative's change in fair value is
recognized immediately in earnings and is included in net realized and other
investment gains. As a result, such amounts are not included in the
determination of the Company's segment after-tax operating income. In addition,
SFAS No. 133, as amended, precludes the designation of held-to-maturity fixed
maturity investment securities as hedged items in hedging relationships where
the hedged risk is interest rate risk.
On January 1, 2001, the Company adopted SFAS No. 133, as amended. The Company's
risk management philosophy has not changed as a result of adoption of the
Statement. The adoption of SFAS No. 133, as amended, resulted in a charge to
operations accounted for as a cumulative effect of accounting change of $16.1
million (net of tax of $8.3 million) as of January 1, 2001. In addition, as of
January 1, 2001, a $227.6 million (net of tax of $122.6 million) cumulative
effect of accounting change was recorded in other comprehensive income for (1)
the transition adjustment in the adoption of SFAS 133, as amended, an increase
of $40.5 million (net of tax of $21.8 million), and (2) the reclassification of
certain securities from the held-to-maturity category to the available-for-sale
category, an increase of $187.1 million (net of tax of $100.8 million).
New Accounting Pronouncements
In July 2001, the FASB issued SFAS No. 141, "Business Combinations." SFAS No.
141 requires that all business combinations be accounted for under a single
method - the purchase method. Use of the pooling-of-interests method is no
longer permitted. SFAS No. 141 also clarifies the criteria to recognize
intangible assets separately from goodwill. SFAS No. 141 is effective for
business combinations initiated after June 30, 2001.
In July 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible
Assets." SFAS No. 142 requires that goodwill and other intangible assets deemed
to have indefinite lives no longer be amortized to earnings, but instead be
reviewed at least annually for impairment. Intangible assets with definite lives
will continue to be amortized over their useful lives. SFAS No. 142 will be
effective January 1, 2002. The Company estimates that adoption of SFAS No. 142
will result in an increase in net income of approximately $10-15 million for the
year ended December 31, 2002. During 2002, the Company will perform the first of
the required impairment tests of goodwill as of January 1, 2002 based on the
guidance in SFAS No. 142. The Company does not expect the impact of these
impairment tests on its earnings and financial position to be material.
In September 2001, the FASB's Emerging Issues Task Force reached a consensus on
Issue 01-10 - "Accounting for the Impact of the Terrorist Attacks of September
11, 2001." Issue 01-10 presents guidance relative to accounting for and
financial reporting of the events of September 11, 2001 (the Events), including
both how and when to measure, record and report losses and any resulting
liabilities which are directly attributable to the Events. Based on a
comprehensive review of the Company's operations, the Company believes that the
Events had no material financial impact on the earnings and financial position
of the Company.
In December 2000, the American Institute of Certified Public Accountants (AICPA)
issued Statement of Position (SOP) 00-3, "Accounting by Insurance Enterprises
for Demutualizations and Formations of Mutual Insurance Holding Companies and
Certain Long-Duration Participating Contracts." SOP 00-3, which was adopted with
respect to accounting for demutualization expenses by the Company effective
December 15, 2000, requires that demutualization related expenses be
11
JOHN HANCOCK FINANCIAL SERVICES, INC.
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Note 1 -- Summary of Significant Accounting Policies - (Continued)
classified as a single line item within income from continuing operations and
should not be classified as an extraordinary item. The adoption of SOP 00-3
resulted in the reclassification of demutualization expenses previously recorded
as an extraordinary item in the nine month period ended September 30, 2000 of
$10.2 million (net of tax of $0.4 million). There were no demutualization
expenses for the three months ended September 30, 2000. The remaining provisions
of this SOP, which will require (1) the inclusion of all closed block activity
together with all other assets, liabilities, revenues and expenses and (2)
recognition of a policyholder dividend obligation that represents cumulative
actual closed block earnings in excess of expected periodic amounts calculated
at the date of the demutualization, are effective no later than December 31,
2001. See Note 5 for a summary description of the closed block assets,
liabilities, revenues and expenses, which do not include the policyholder
dividend obligation that will be required in 2001. The Company currently is
evaluating the effect that establishing the policyholder dividend obligation
will have on its results of operations and financial position. That impact is
not known at this time.
Reclassifications
During the third quarter of 2001, the Company began classifying investment
returns related to equity indexed universal life insurance policies sold through
The Maritime Life Assurance Company (Maritime), a majority-owned subsidiary of
the Company, with benefits to policyholders and reclassified prior period
balances from net investment income to benefits to policyholders. See Note 6 to
the unaudited consolidated financial statements, Derivative and Hedging
Instruments in the section entitled Derivatives Not Designated as Hedging
Instruments.
Codification
In March 1998, the National Association of Insurance Commissioners (NAIC)
adopted codified statutory accounting principles (Codification) effective
January 1, 2001. Codification changes prescribed statutory accounting practices
and results in changes to the accounting practices that the Company's domestic
life insurance subsidiaries use to prepare their statutory-basis financial
statements. The states of domicile of these subsidiaries adopted Codification as
the prescribed basis of accounting on which domestic insurers must report their
statutory-basis results effective January 1, 2001. The cumulative effect of
changes in accounting principles adopted to conform to the requirements of
Codification is reported as an adjustment to surplus in the statutory-basis
financial statements as of January 1, 2001. Although the implementation of
Codification reduced the Company's domestic life insurance subsidiaries'
statutory-basis capital and surplus, these subsidiaries remain in compliance
with all regulatory and contractual obligations.
Recent Acquisitions
On October 1, 2001, Maritime completed its purchase of the shares of Royal & Sun
Alliance Life Insurance Company of Canada (RSAF) for an amount of approximately
$149.9 million (USD), financed primarily by a public debt offering in Canada.
RSAF's business includes life insurance, guaranteed interest savings and
retirement products and segregated funds. The Company believes that this
purchase will strengthen its competitive position in the Canadian market. The
proforma results for the periods ending September 30, 2001 and 2000, assuming
the acquisitions of RSAF had taken place as of the beginning of 2001 and 2000,
respectively, would not be materially different from the reported results.
On April 2, 2001, a subsidiary of the Company, Signature Fruit Company, LLC
(Signature Fruit), acquired certain assets and assumed certain liabilities out
of bankruptcy proceedings of Tri Valley Growers, Inc., a cooperative
association. The transaction was accounted for as a purchase and the results of
operations are included in the accompanying financial statements since the date
of acquisition. The fair values of assets acquired and liabilities assumed were
$252.1 million and $199.1 million, respectively. The net losses related to the
acquired operations included in the Company's results for the three and nine
month periods ended September 30, 2001 were $2.7 million and $4.0 million,
respectively. The pro forma results for the three and nine month periods ended
September 30, 2001 and 2000, respectively, assuming the acquisition had taken
place at the beginning of the periods presented, would not be materially
different from the reported results.
On March 1, 2000, the Company acquired the individual long-term care insurance
business of Fortis, Inc. (Fortis). The pro forma results for the three and nine
month periods ended September 30, 2000, assuming the acquisition of Fortis had
taken place as of the beginning of 2000, would not be materially different from
the reported results.
12
JOHN HANCOCK FINANCIAL SERVICES INC.
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Note 2 -- Segment Information
The Company operates in the following five business segments: two segments
primarily serve retail customers, two segments serve institutional customers and
our fifth segment is the Corporate and Other Segment, which includes our
international operations. Our retail segments are the Protection Segment and the
Asset Gathering Segment. Our institutional segments are the Guaranteed and
Structured Financial Products Segment (G&SFP) and the Investment Management
Segment. For additional information about the Company's business segments, refer
to the Company's 2000 Form 10-K.
The following tables summarize selected financial information by segment for the
three and nine month periods ended or as of September 30, 2001 and 2000 and
reconciles segment revenues and segment after-tax operating income to amounts
reported in the unaudited consolidated statements of income (in millions).
Included in the Protection Segment for 2001 and 2000 are the closed block assets
and liabilities, as well as the contribution from the closed block, which is
reflected in "Revenues" in the table below (see Note 5).
[Enlarge/Download Table]
Retail Institutional
Retail Asset Institutional Investment Corporate
Protection Gathering G&SFP Management and Other Consolidated
-------------------------------------------------------------------------------------
As of or for the three months ended
September 30, 2001
Revenues:
Segment revenues.................. $ 475.2 $ 296.2 $ 493.9 $ 33.2 $ 442.3 $ 1,740.8
Net realized investment and other
gains (losses), net............... (0.8) 9.7 (57.8) -- (6.9) (55.8)
-------------------------------------------------------------------------------
Revenues.......................... $ 474.4 $ 305.9 $ 436.1 $ 33.2 $ 435.4 $1,685.0
===============================================================================
Net investment income............. $ 152.4 $ 130.9 $ 455.5 $ 8.9 $ 77.6 $ 825.3
Net Income:
Segment after-tax operating
income.......................... 72.7 41.0 61.9 7.0 22.3 204.9
Net realized investment and other
gains (losses), net............. (0.3) 6.6 (36.9) -- (4.0) (34.6)
Surplus tax....................... 1.5 -- 2.1 -- 0.2 3.8
Restructuring charges............. (1.0) (0.3) -- (0.2) (1.5) (3.0)
-------------------------------------------------------------------------------
Net income........................ $ 72.9 $ 47.3 $ 27.1 $ 6.8 $ 17.0 $ 171.1
===============================================================================
Supplemental Information:
Inter-segment revenues............ -- -- -- $ 6.5 $ (6.5) --
Equity in net income of investees
accounted for by the equity
method.......................... $ 5.1 $ 2.2 $ 7.9 $ 3.4 $ (7.3) $ 11.3
Amortization of deferred policy
acquisition costs, excluding
amounts related to net realized
investment and other gains
(losses)........................ 34.9 22.5 0.4 -- 9.7 67.5
Segment assets.................... $27,256.2 $13,835.4 $31,741.7 $2,792.9 $12,373.2 $87,999.4
13
JOHN HANCOCK FINANCIAL SERVICES INC.
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Note 2 -- Segment Information - (Continued)
[Enlarge/Download Table]
Retail Institutional
Retail Asset Institutional Investment Corporate
Protection Gathering G&SFP Management and Other Consolidated
-------------------------------------------------------------------------------------
As of or for the three months ended
September 30, 2000
Revenues:
Segment revenues.................. $ 437.2 $ 297.2 $ 492.1 $ 45.4 $ 424.5 $ 1,696.4
Net realized investment and other
gains (losses), net............... (3.0) 4.2 (17.9) 1.1 14.4 (1.2)
--------------------------------------------------------------------------------
Revenues.......................... $ 434.2 $ 301.4 $ 474.2 $ 46.5 $ 438.9 $ 1,695.2
================================================================================
Net investment income............. $ 142.2 $ 111.5 $ 438.6 $ 7.0 $ 96.7 $ 796.0
Net Income:
Segment after-tax operating
income.......................... 63.8 38.4 48.2 7.8 23.9 182.1
Net realized investment and other
gains (losses), net............. (2.0) 2.6 (11.3) 0.7 7.3 (2.7)
Restructuring charges............. (1.8) (0.4) (0.1) -- (0.1) (2.4)
Surplus tax....................... 5.5 0.4 4.0 -- (2.6) 7.3
--------------------------------------------------------------------------------
Net income........................ $ 65.5 $ 41.0 $ 40.8 $ 8.5 $ 28.5 $ 184.3
================================================================================
Supplemental Information:
Inter-segment revenues............ -- -- -- $ 9.7 $ (9.7) --
Equity in net income of investees
accounted for by the equity
method.......................... $ (2.8) $ (1.5) $ (0.4) $ (2.5) $ 13.1 $ 5.9
Amortization of deferred policy
acquisition costs, excluding
amounts related to net realized
investment gains................ 19.4 17.5 0.8 -- 10.8 48.5
Segment assets.................... $26,879.3 $14,439.1 $30,801.0 $2,149.6 $12,436.0 $86,705.0
14
JOHN HANCOCK FINANCIAL SERVICES INC.
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Note 2 -- Segment Information - (Continued)
[Enlarge/Download Table]
Retail Institutional
Retail Asset Institutional Investment Corporate
Protection Gathering G&SFP Management and Other Consolidated
-------------------------------------------------------------------------------------
As of or for the nine months ended
September 30, 2001
Revenues:
Segment revenues.................. $ 1,386.0 $ 880.0 $ 1,870.1 $ 99.7 $ 1,354.4 $ 5,590.2
Net realized investment and other
gains (losses), net.......... (38.8) (1.5) (81.3) (0.1) 19.4 (102.3)
-------------------------------------------------------------------------------
Revenues.......................... $ 1,347.2 $ 878.5 $ 1,788.8 $ 99.6 $ 1,373.8 $ 5,487.9
===============================================================================
Net investment income............. $ 444.8 $ 373.5 $ 1,387.3 $ 18.1 $ 246.0 $ 2,469.7
Net Income:
Segment after-tax operating
income.......................... 224.8 109.9 180.5 17.0 62.6 594.8
Net realized investment and other
gains (losses), net............. (24.0) -- (51.3) (0.1) 11.7 (63.7)
Surplus tax....................... 1.5 -- 2.1 -- 0.2 3.8
Restructuring charges............. (3.8) (15.4) (0.7) (0.7) (1.7) (22.3)
Cumulative effect of accounting
changes, net of tax............ 11.7 (0.5) (1.2) (0.2) (2.6) 7.2
-------------------------------------------------------------------------------
Net income........................ $ 210.2 $ 94.0 $ 129.4 $ 16.0 $ 70.2 $ 519.8
===============================================================================
Supplemental Information:
Inter-segment revenues............ -- -- -- $ 21.2 $ (21.2) --
Equity in net income of investees
accounted for by the equity
method.......................... $ 9.9 $ 6.1 $ 16.0 $ 3.8 $ 21.0 $ 56.8
Amortization of deferred policy
acquisition costs, excluding
amounts related to net realized
investment gains................ 90.8 59.5 1.9 -- 48.7 200.9
Segment assets.................... $27,256.2 $13,835.4 $31,741.7 $2,792.9 $12,373.2 $87,999.4
15
JOHN HANCOCK FINANCIAL SERVICES INC.
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Note 2 -- Segment Information - (Continued)
[Enlarge/Download Table]
Retail Institutional
Retail Asset Institutional Investment Corporate
Protection Gathering G&SFP Management and Other Consolidated
-------------------------------------------------------------------------------------
As of or for the nine months ended
September 30, 2000
Revenues:
Segment revenues.................. $ 1,370.0 $ 894.1 $ 1,699.2 $ 173.3 $ 1,309.4 $ 5,446.0
Net realized investment and other
gains (losses), net............ 11.5 10.1 (38.9) 1.7 93.6 78.0
-------------------------------------------------------------------------------
Revenues.......................... $ 1,381.5 $ 904.2 $ 1,660.3 $ 175.0 $ 1,403.0 $ 5,524.0
===============================================================================
Net investment income............. $ 463.3 $ 327.4 $ 1,288.0 $ 17.3 $ 325.2 $ 2,421.2
Net Income:
Segment after-tax operating
income......................... 193.4 104.0 160.3 40.2 73.3 571.2
Net realized investment and other
gains (losses), net............ 7.0 6.3 (24.4) 1.0 57.4 47.3
Restructuring charges............. (5.4) (1.4) (2.3) -- (1.0) (10.1)
Surplus tax....................... 8.4 0.5 5.5 -- 0.1 14.5
Demutualization expenses.......... (0.2) (0.1) (0.2) -- (9.7) (10.2)
Other demutualization related
costs.......................... (6.7) (1.4) (1.7) -- (0.4) (10.2)
Group pension dividend transfer... -- -- 5.7 -- -- 5.7
-------------------------------------------------------------------------------
Net income........................ $ 196.5 $ 107.9 $ 142.9 $ 41.2 $ 119.7 $ 608.2
===============================================================================
Supplemental Information:
Inter-segment revenues............ -- -- -- $ 31.2 $ (31.2) --
Equity in net income of investees
accounted for by the equity
method......................... $ 2.9 $ 1.7 $ 5.9 $ 5.5 $ 71.6 $ 87.6
Amortization of deferred policy
acquisition costs, excluding
amounts related to net realized
investment gains............... 45.6 53.6 2.2 -- 41.1 142.5
Segment assets.................... $26,879.3 $14,439.1 $30,801.0 $2,149.6 $12,436.0 $86,705.0
Note 3 -- Severance
As part of the Company's on-going Competitive Position Project, the Company has
initiated a restructuring plan to reduce costs and increase future operating
efficiency by consolidating portions of its operations. The plan consists
primarily of reducing staff in the home office and terminating certain
operations outside the home office.
In connection with the restructuring plan, approximately 798 employees have been
or will be terminated. As of September 30, 2001 and December 31, 2000, the
liability for employee termination costs, included in other liabilities was
$19.3 million and $20.6 million, respectively. Employee termination costs,
included in other operating costs and expenses, were $4.4 million and $3.6
million for the three months ended September 30, 2001 and 2000 and $35.0 million
and $16.6 million for the nine months ended September 30, 2001 and 2000,
respectively. Of the total number of employees affected, approximately 794
employees were terminated as of September 30, 2001, having received benefit
payments of approximately $62.1 million.
16
JOHN HANCOCK FINANCIAL SERVICES INC.
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Note 4 -- Contingencies
In the normal course of its business operations, the Company is involved with
litigation from time to time with claimants, beneficiaries and others, and a
number of litigation matters were pending as of September 30, 2001. It is the
opinion of management, after consultation with counsel, that the ultimate
liability with respect to these claims, if any, will not materially affect the
financial position or results of operations of the Company.
During 1997, the Company entered into a court-approved settlement relating to a
class action lawsuit involving certain individual life insurance policies sold
from 1979 through 1996. In entering into the settlement, the Company
specifically denied any wrongdoing. The total reserves held in connection with
the settlement to provide for relief to class members and for legal and
administrative costs associated with the settlement amounted to $43.1 million
and $224.0 million at September 30, 2001 and December 31, 2000, respectively.
There were no additional reserves recorded related to the settlement for the
three and nine month periods ended September 30, 2001 and 2000. The estimated
reserve is based on a number of factors, including the estimated cost per claim
and the estimated costs to administer the claims.
During 1996, management determined that it was probable that a settlement would
occur and that a minimum loss amount could be reasonably estimated. Accordingly,
the Company recorded its best estimate based on the information available at the
time. The terms of the settlement agreement were negotiated throughout 1997 and
approved by the court on December 31, 1997. In accordance with the terms of the
settlement agreement, the Company contacted class members during 1998 to
determine the actual type of relief to be sought by class members. The majority
of the responses from class members were received by the fourth quarter of 1998.
The type of relief sought by class members differed from the Company's previous
estimates, primarily due to additional outreach activities by regulatory
authorities during 1998 encouraging class members to consider alternative
dispute resolution relief. In 1999, the Company updated its estimate of the cost
of claims subject to alternative dispute resolution relief and revised its
reserve estimate accordingly.
Given the uncertainties associated with estimating the reserve, it is reasonably
possible that the final cost of the settlement could differ materially from the
amounts presently provided for by the Company. The Company will continue to
update its estimate of the final cost of the settlement as the claims are
processed and more specific information is developed, particularly as the actual
cost of the claims subject to alternative dispute resolution becomes available.
However, based on information available at the time, and the uncertainties
associated with the final claim processing and alternative dispute resolution,
the range of any additional cost related to the settlement cannot be estimated
with precision.
On February 28, 1997, the Company sold a major portion of its group insurance
business to UNICARE Life & Health Insurance Company (UNICARE), a wholly owned
subsidiary of WellPoint Health Networks, Inc. The business sold included the
Company's group accident and health business and related group life business and
Cost Care, Inc., Hancock Association Services Group and Tri-State, Inc., all of
which were indirect wholly owned subsidiaries of the Company. The Company
retained its group long-term care insurance operations. The insurance business
sold was transferred to UNICARE through a 100% coinsurance agreement. The
Company secured a $397.0 million letter of credit facility with a group of
banks. The banks have agreed to issue a letter of credit to the Company pursuant
to which the Company may draw up to $397.0 million for any claims not satisfied
by UNICARE under the coinsurance agreement after the Company has incurred the
first $113.0 million of losses from such claims. The amount available pursuant
to the letter of credit agreement and any letter of credit issued thereunder
automatically will be reduced on a scheduled basis consistent with the
anticipated run-off of liabilities related to the business reinsured under the
coinsurance agreement. The letter of credit facility was reduced to $127.0
million on March 1, 2001. The letter of credit and any letter of credit issued
thereunder are scheduled to expire on March 1, 2002. The Company remains liable
to its policyholders to the extent that UNICARE does not meet its contractual
obligations under the coinsurance agreement.
Through the Company's group health insurance operations, the Company entered
into a number of reinsurance arrangements in respect of personal accident
insurance and the occupational accident component of workers compensation
insurance, a portion of which was originated through a pool managed by Unicover
Managers, Inc. Under these arrangements, the Company both assumed risks as a
reinsurer and also passed 95% of these risks on to other companies. This
business had originally been reinsured by a number of different companies and
has become the subject of widespread disputes. The disputes concern the
placement of the business with reinsurers and recovery of the reinsurance. The
Company is engaged in disputes, including a number of legal proceedings, in
respect of this business. The risk to the Company is that other companies that
reinsured the business from the Company may seek to avoid their reinsurance
obligations. However, the
17
JOHN HANCOCK FINANCIAL SERVICES INC.
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Note 4 -- Contingencies - (Continued)
Company believes that it has a reasonable legal position in this matter. During
the fourth quarter of 1999 and early 2000, the Company received additional
information about its exposure to losses under the various reinsurance programs.
As a result of this additional information and in connection with global
settlement discussions initiated in late 1999 with other parties involved in the
reinsurance programs, during the fourth quarter of 1999 the Company recognized a
charge for uncollectable reinsurance of $133.7 million, after tax, as its best
estimate of its remaining loss exposure. The Company believes that any exposure
to loss from this issue, in addition to amounts already provided for as of
September 30, 2001, would not be material.
Reinsurance ceded contracts do not relieve the Company from its obligations to
policyholders. The Company remains liable to its policyholders for the portion
reinsured to the extent that any reinsurer does not meet its obligations for
reinsurance ceded to it under the reinsurance agreements. Failure of the
reinsurers to honor their obligations could result in losses to the Company;
consequently, estimates are established for amounts deemed or estimated to be
uncollectable. To minimize its exposure to significant losses from reinsurance
insolvencies, the Company evaluates the financial condition of its reinsurers
and monitors concentration of credit risk arising from similar characteristics
of the reinsurers.
Note 5 -- Closed Block
Under the Plan, the Company created a closed block for the benefit of policies
included therein. The following table sets forth certain summarized financial
information relating to the closed block as of the dates indicated:
[Enlarge/Download Table]
September 30, December 31,
2001 2000
------------------------------------
(in millions)
Assets
Investments
Fixed maturities:
Held-to-maturity--at amortized cost
(fair value: September 30--$106.1; December 31--$2,327.4)...................... $ 108.1 $ 2,269.9
Available-for-sale--at fair value
(cost: September 30--$5,101.6; December 31--$2,378.7).......................... 5,298.5 2,353.0
Equity securities:
Available-for-sale--at fair value
(cost: September 30--$10.3; December 31--$5.3)................................. 11.5 6.3
Mortgage loans on real estate........................................................ 1,831.4 1,930.6
Policy loans......................................................................... 1,548.6 1,540.6
Short-term investments............................................................... 11.7 62.1
Other invested assets................................................................ 64.5 40.7
---------------------------
Total Investments................................................................. 8,874.3 8,203.2
Cash and cash equivalents............................................................ 174.8 305.6
Accrued investment income............................................................ 164.9 149.3
Premiums and accounts receivable..................................................... 22.6 27.1
Deferred policy acquisition costs.................................................... 778.7 947.3
Other assets......................................................................... 88.0 77.5
---------------------------
Total Closed Block Assets......................................................... $10,103.3 $ 9,710.0
===========================
Liabilities
Future policy benefits............................................................... $10,105.1 $ 9,910.5
Policyholders' funds................................................................. 1,492.1 1,459.5
Other liabilities.................................................................... 676.0 665.9
---------------------------
Total Closed Block Liabilities.................................................... $12,273.2 $12,035.9
===========================
18
JOHN HANCOCK FINANCIAL SERVICES INC.
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Note 5 -- Closed Block - (Continued)
The following table sets forth certain summarized financial information relating
to the closed block for the periods indicated:
[Enlarge/Download Table]
For the Period
Three Months Three Months Nine Months February 1
Ended Ended Ended Through
September 30, September 30, September 30, September 30,
2001 2000 2001 2000
----------------------------------------------------------------------
(in millions)
Revenues
Premiums ........................................ $226.8 $ 217.2 $ 672.0 $ 619.0
Net investment income ........................... 167.5 155.8 500.0 423.1
Net realized investment and other
gains (losses), net ......................... 5.9 1.4 (3.2) 1.3
Other closed block revenue (expense) ............ -- (0.2) 0.4 (0.4)
--------------------------------------------------------------
Total closed block revenues ................... 400.2 374.2 1,169.2 1,043.0
Benefits and Expenses
Benefits to policyholders ....................... 248.5 203.1 717.3 613.4
Other operating costs and expenses .............. (2.7) (3.4) (6.6) (9.1)
Amortization of deferred policy acquisition costs 12.1 27.1 51.4 55.5
Dividends to policyholders ...................... 108.1 108.0 336.2 292.5
--------------------------------------------------------------
Total closed block benefits and expenses ...... 366.0 334.8 1,098.3 952.3
--------------------------------------------------------------
Contribution from the closed block ............ $ 34.2 $ 39.4 $ 70.9 $ 90.7
==============================================================
Note 6 -- Derivatives and Hedging Instruments
The Company uses various derivative instruments to hedge and manage its exposure
to changes in interest rate levels, foreign exchange rates, and equity market
prices, and to manage the duration of assets and liabilities.
The fair value of derivative instruments classified as assets at September 30,
2001 was $180.1 million, and appears on the consolidated balance sheet in other
assets. The fair value of derivative instruments classified as liabilities at
September 30, 2001 was $717.6 million, and appears on the consolidated balance
sheet in other liabilities.
In certain of these cases, the Company uses hedge accounting as allowed by SFAS
No. 133, as amended, by designating derivative instruments as either fair value
or cash flow hedges. For derivative instruments that are designated and qualify
as fair value hedges, the change in fair value of the derivative instrument as
well as the offsetting change in fair value of the hedged item are recorded in
net realized investment and other gains and losses. For derivative instruments
that are designated and qualify as cash flow hedges, the effective portion of
the change in fair value of the derivative instrument is recorded in other
comprehensive income, and then reclassified into income when the hedged item
affects income. Hedge effectiveness is assessed quarterly by a variety of
techniques including regression analysis and cumulative dollar offset. In
certain cases, there is no hedge ineffectiveness because the derivative
instrument was constructed such that all the terms of the derivative exactly
match the hedged risk in the hedged item.
In cases where the Company receives or pays a premium as consideration for
entering into a derivative instrument (i.e., interest rate caps and floors,
swaptions, and equity collars), the premium is amortized into investment income
over the useful life of the derivative instrument. The fair value of such
premiums (i.e., the inherent ineffectiveness of the derivative) is excluded from
the assessment of hedge effectiveness and is included in net realized investment
and other gains and losses.
19
JOHN HANCOCK FINANCIAL SERVICES INC.
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Note 6-- Derivatives and Hedging Instruments - (Continued)
Fair Value Hedges
The Company uses interest rate futures contracts and interest rate swap
agreements as part of its overall strategies of managing the duration of assets
and liabilities or the average life of certain asset portfolios to specified
targets. Interest rate swap agreements are contracts with a counterparty to
exchange interest rate payments of a differing character (e.g., fixed-rate
payments exchanged for variable-rate payments) based on an underlying principal
balance (notional principal). The net differential to be paid or received on
interest rate swap agreements and currency rate swap agreements is accrued and
recognized as a component of net investment income.
The Company also manages interest rate exposure by using interest rate swap
agreements to modify certain liabilities, such as fixed rate debt and Constant
Maturity Treasuries (CMT) indexed liabilities, by converting them to a
LIBOR-based floating rate.
The Company enters into interest rate cap agreements, cancelable interest rates
swap agreements, and written swaptions to manage the interest rate exposure of
options that are embedded in certain assets and liabilities. A written swaption
obligates the Company to enter into an interest rate agreement on the expiration
date, contingent on future interest rates. Interest rate cap and floor
agreements are contracts with a counterparty which require the payment of a
premium for the right to receive payments for the difference between the cap or
floor interest rate and a market interest rate on specified future dates based
on an underlying principal balance (notional principal). Amounts earned on
interest rate cap and floor agreements and swaptions are recorded as an
adjustment to net investment income.
The Company uses equity collar agreements to reduce its equity market exposure
with respect to certain common stock investments that the Company holds. A
collar consists of a written call option that limits the Company's potential for
gain from appreciation in the stock price as well as a purchased put option that
limits the Company's potential for loss from a decline in the stock price.
Currency rate swap agreements are used to manage the Company's exposure to
foreign exchange rate fluctuations. Currency rate swap agreements are contracts
to exchange the currencies of two different countries at the same rate of
exchange at specified future dates.
For the three and nine month periods ended September 30, 2001, the Company
recognized a net loss of $40.7 million and $39.8 million, respectively, related
to the ineffective portion of its fair value hedges, and a net loss of $6.1
million and $7.2 million, respectively, related to the portion of the hedging
instruments that were excluded from the assessment of hedge effectiveness. For
the three and nine month periods ended September 30, 2001, all of the Company's
hedged firm commitments qualified as fair value hedges.
Cash Flow Hedges
The Company uses forward starting interest rate swap agreements to hedge the
variable cash flows associated with future asset acquisitions, which will
support the Company's long-term care insurance businesses. These agreements will
reduce the impact of future interest rate changes on the cost of acquiring
adequate assets to support the investment income assumptions used in pricing
these products.
The Company used interest rate futures contracts to hedge the variable cash
flows associated with variable benefit payments that it will make on certain
annuity contracts.
The Company used interest rate floor agreements to hedge the interest rate risk
associated with minimum interest rate guarantees in certain of its life
insurance and annuity businesses.
For the three and nine month periods ended September 30, 2001, the Company
recognized a net gain of $1.2 million and $0.7 million, respectively, related to
the ineffective portion of its cash flow hedges, and a net gain of $46.9 million
and $24.3 million, respectively, related to the portion of the hedging
instruments that was excluded from the assessment of hedge effectiveness. For
the three and nine month periods ended September 30, 2001, all of the Company's
hedged forecast transactions qualified as cash flow hedges.
20
JOHN HANCOCK FINANCIAL SERVICES INC.
NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Note 6 -- Derivatives and Hedging Instruments - (Continued)
For both the three and nine month periods ended September 30, 2001, a net loss
of $0.5 million was reclassified from other accumulated comprehensive income to
earnings. It is anticipated that approximately $0.4 million will be reclassified
from other accumulated comprehensive income to earnings within the next twelve
months. The maximum length for which variable cash flows are hedged is 24 years.
For the three and nine month periods ended September 30, 2001, none of the
Company's cash flow hedges have been discontinued because it was probable that
the original forecasted transactions would not occur by the end of the
originally specified time period documented at inception of the hedging
relationship.
The transition adjustment for the adoption of SFAS No. 133, as amended, resulted
in an increase in other comprehensive income of $23.0 million (net of tax of
$12.3 million) representing the accumulation in other comprehensive income of
the effective portion of the Company's cash flow hedges as of January 1, 2001.
For the three and nine month periods ended September 30, 2001, $34.2 million and
$14.2 million of gains (net of tax of $18.4 million and $7.6 million)
representing the effective portion of the change in fair value of derivative
instruments designated as cash flow hedges was added to accumulated other
comprehensive income, resulting in a balance of $37.0 million (net of tax of
$19.9 million).
Derivatives Not Designated as Hedging Instruments
The Company enters into interest rate swap agreements, cancelable interest rate
swap agreements, interest rate futures contracts, and interest rate cap and
floor agreements to manage exposure to interest rates as described above under
Fair Value Hedges without designating the derivatives as hedging instruments.
The Company enters into equity indexed futures contracts and equity indexed
option contracts and equity swaps to generate investment return related to
equity indexed universal life insurance policies. For the three month periods
ended September 30, 2001 and 2000, $(11.4) million and $0.1 million,
respectively, and for the nine month periods ended September 30, 2001 and 2000,
$19.1 million and $(35.3) million, respectively, of gains and losses on these
derivatives are included in benefits to policyholders and are offset by
crediting similar amounts to policyholders' accounts.
Note 7 -- Related Party Transactions
Certain directors of the Company are members or directors of other entities that
periodically perform services for or have other transactions with the Company.
Such transactions are either subject to bidding procedures or are otherwise
entered into on terms comparable to those that would be available to unrelated
third parties and are not material to the Company's results of operations or
financial condition.
Note 8 -- Subsequent Events
On November 5, 2001 the Company announced that its Board of Directors has
declared an annual dividend to shareholders of $0.31 per common share payable on
December 13, 2001 to shareholders of record on November 16, 2001.
21
JOHN HANCOCK FINANCIAL SERVICES, INC.
ITEM 2. MANAGEMENT'S DISCUSSION and ANALYSIS of FINANCIAL CONDITION and RESULTS
of OPERATIONS
Management's Discussion and Analysis of Financial Condition and Results of
Operations (MD&A) addresses the financial condition of John Hancock Financial
Services, Inc. (John Hancock or the Company) as of September 30, 2001, compared
with December 31, 2000, and its consolidated results of operations for the three
and nine month periods ended September 30, 2001 and September 30, 2000, and,
where appropriate, factors that may affect future financial performance. The
discussion of the Company's consolidated financial results of operations
includes the results of the closed block for the nine months ended September 30,
2001 and the period February 1, 2000 (the date the closed block became
effective) through September 30, 2000 combined on a line by line basis with the
results of operations outside the closed block for such period, as further
discussed below. This discussion should be read in conjunction with the
Company's MD&A and annual audited financial statements as of December 31, 2000
included in the Company's Form 10-K for the year ended December 31, 2000 filed
with the United States Securities and Exchange Commission (hereafter referred to
as the Company's 2000 Form 10-K) and unaudited consolidated financial statements
and related notes included elsewhere in this Form 10-Q.
Statements, analyses, and other information contained in this report relating to
trends in the Company's operations and financial results, the markets for the
Company's products, the future development of the Company's business, and the
contingencies and uncertainties to which the Company may be subject, as well as
other statements including words such as "anticipate," "believe," "plan,"
"estimate," "intend," "will," "should," "may," and other similar expressions,
are "forward-looking statements" under the Private Securities Litigation Reform
Act of 1995. Such statements are made based upon management's current
expectations and beliefs concerning future events and their effects on the
Company, which may not be those anticipated by management. The Company's actual
results may differ materially from the results anticipated in these
forward-looking statements. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations--Important Factors that May Affect
Future Results" included herein for a discussion of factors that could cause or
contribute to such material differences.
The Reorganization and Initial Public Offering
The Board of Directors of John Hancock Mutual Life Insurance Company (the Mutual
Company) unanimously adopted the Plan of Reorganization (the Plan) on August 31,
1999. Under the terms of the Plan, effective February 1, 2000, the Mutual
Company converted from a mutual life insurance company to a stock life insurance
company (i.e. demutualized) and became a wholly-owned subsidiary of John Hancock
Financial Services, Inc., which is a holding company. All policyholder
membership interests in the Mutual Company were extinguished on that date and
eligible policyholders of the Mutual Company received, in aggregate, 212.8
million shares of common stock, $1,438.7 million of cash and $43.7 million of
policy credits as compensation. In connection with the reorganization, the
Mutual Company changed its name to John Hancock Life Insurance Company (the Life
Company).
In addition, on February 1, 2000, the Company completed its initial public
offering (IPO) in which 102.0 million shares of common stock were issued at a
price of $17.00 per share. Net proceeds from the IPO were $1,657.7 million, of
which $105.7 million was retained by the Company and $1,552.0 million was
contributed to the Life Company.
Under the Plan, as of February 1, 2000, the Life Company created a closed block
for the benefit of policies included therein. The purpose of the closed block is
to protect the policy dividend expectations of the policies included in the
closed block after demutualization. Unless the Commissioner of Insurance of the
Commonwealth of Massachusetts and, in certain circumstances the New York
Superintendent of Insurance, consent to an earlier termination, the closed block
will continue in effect until the date none of such policies are in-force. As of
February 1, 2000, the Company segregated closed block assets of $9,343.0
million, an amount that is expected to produce cash flows which, together with
anticipated revenues from policies included in the closed block, is expected to
be sufficient to provide for payment of policy benefits, taxes and direct asset
acquisition and disposal costs, and for continuation of policy dividend scales
payable in 1999, so long as the experience underlying such dividend scales
continues. The assets allocated to the closed block and any cash flows provided
by these assets will solely benefit the holders of policies included in the
closed block. As of February 1, 2000, when the closed block was established,
total closed block liabilities were $12,118.3 million.
If the assets allocated to the closed block, the cash flows therefrom and the
revenues from the closed block business prove to be insufficient to pay the
benefits guaranteed under the policies included in the closed block, the Life
Company will be required to make payments from its general funds in an amount
equal to the shortfall. We funded
22
JOHN HANCOCK FINANCIAL SERVICES, INC.
the closed block to provide for payment of guaranteed benefits on such policies
and for continuation of dividends paid under 1999 policy dividends scales,
assuming the experience underlying such dividend scales continues. Therefore, we
do not believe it will be necessary to use general funds to pay guaranteed
benefits on closed block business unless the closed block business experiences
substantial adverse deviations in investment, mortality, persistency or other
experience factors.
For additional information on the closed block see Note 5 to the unaudited
consolidated financial statements and the Company's 2000 Form 10-K.
The costs relating to the demutualization, excluding costs relating to the
offering, were approximately $129.1 million (net of income taxes of $20.4
million), of which $20.4 million (net of tax of $5.9 million) was recognized in
the nine month period ending September 30, 2000. No demutualization costs were
incurred in 2001. Demutualization expenses include printing and mailing costs
and our aggregate cost of engaging independent accounting, actuarial, financial,
investment banking, legal and other consultants to advise us. In addition, our
costs include the costs of the staff and advisors of the Massachusetts Division
of Insurance and the New York Insurance Department as to the demutualization
process and related matters.
Results of Operations
The table below presents the consolidated results of operations for the three
and nine month periods ended September 30, 2001 and 2000, respectively. For
comparability with prior periods, the table below includes the results of
operations of the closed block for the three and nine month periods ended
September 30, 2001, the three month period ended September 30, 2000 and the
eight month period February 1, 2000 through September 30, 2000 within the nine
month period ended September 30, 2000 combined on a line by line basis with the
results of operations outside the closed block.
[Enlarge/Download Table]
Three Months Ended Nine Months Ended
September 30, September 30,
2001 2000 2001 2000
------------------------------------------------------------
(in millions)
Revenues (1) $2,051.0 $2,030.0 $6,586.2 $6,476.3
Benefits and expenses (1) 1,820.4 1,764.0 5,871.2 5,573.9
----------------------------------------------------
Income before income taxes and
cumulative effect of accounting
changes 230.6 266.0 715.0 902.4
Income taxes 59.5 81.7 202.4 294.2
----------------------------------------------------
Income before cumulative effect of
accounting changes 171.1 184.3 512.6 608.2
Cumulative effect of
accounting
changes, net of tax -- -- 7.2 --
----------------------------------------------------
Net income $ 171.1 $ 184.3 $ 519.8 $ 608.2
====================================================
(1) Revenues and benefits and expenses above differ from the Unaudited
Consolidated Statements of Income due to closed block expenses for the
three and nine month periods ended September 30, 2001 and the three month
period ended September 30, 2000 and the period February 1, 2000 through
September 30, 2000 of $366.0 million, $1,098.3 million, $334.8 million and
$952.3 million, respectively. These expenses are included in revenues
through the contribution from the closed block on the unaudited
consolidated statements of income for the three and nine month periods
ended September 30, 2001 and 2000, respectively.
23
JOHN HANCOCK FINANCIAL SERVICES, INC.
Three Months Ended September 30, 2001 Compared to Three Months Ended September
30, 2000
Consolidated income before income taxes and cumulative effect of accounting
changes of $230.6 million for the three months ended September 30, 2001
decreased by $35.4 million, or 13.3%, from that reported in the comparable prior
year period, primarily due to a decrease in net realized investment and other
gains of $53.6 million. The Company generated $54.9 million in net realized
investment and other losses in the three months ended September 30, 2001,
compared to $1.3 million in net realized investment and other losses for the
three months ended September 30, 2000. Net realized investment and other gains
generated in 2000 were the result of the initiative to divest the Company of
real estate investments, while net realized investment and other losses
generated in 2001 were primarily the result of deteriorating economic conditions
offset by gains from the sale of equity investments. The Corporate and Other
Segment drove the Company's decrease in income before income taxes and
cumulative effect of accounting changes. Income before income taxes and
cumulative effect of accounting changes in the Corporate and Other Segment
decreased $35.8 million primarily due to corporate operations businesses in
which investment income and net realized investment and other gains decreased
from the comparable prior year period. Income before income taxes and cumulative
effect of accounting changes in the Guaranteed and Structured Financial Products
Segment (G&SFP) decreased $19.6 million primarily driven by $57.8 million net
realized investment and other losses incurred during the period, an increase of
$39.9 million. The Investment Management Segment decreased $3.6 million
primarily due to lower advisory fees on lower average assets under management in
the current period. Partially offsetting these decreases in income before income
taxes and cumulative effect of accounting changes was an increase in the
Protection Segment of $19.9 million driven by an increase in net investment
income and net realized investment and other gains. In addition, income before
income taxes and cumulative effect of accounting changes increased $3.7 million
in the Asset Gathering Segment primarily due to a an increase in net investment
income and net realized investment and other gains partially offset by a
decrease in investment-type product fees.
Revenues of $2,051.0 million for the three months ended September 30, 2001
increased $21.0 million, or 1.0%, compared to the three months ended September
30, 2000, primarily due to an increase of $71.4 million, or 9.3%, in the
Protection Segment. Protection Segment revenues increased primarily due to
growth in premiums of $39.7 million and net investment income of $21.9 million
from the comparable prior year period. Revenues in the Asset Gathering Segment
increased $4.5 million, or 1.5%, primarily due to an increase in net investment
income of $19.4 million and net realized investment and other gains of $5.5
million partially offset by a decrease in advisory fees of $20.3 million. These
increases in revenues were partially offset by a decrease of $38.1 million in
the G&SFP Segment. This decrease was primarily due to a $39.9 million increase
in net realized investment and other losses and a $13.3 million decrease in
premiums partially offset by a $16.9 million increase net investment income.
Revenue decreased $13.3 million, or 28.6%, in the Investment Management Segment,
primarily due to a $16.0 million decrease in advisory fees on lower average
assets under management in the current period and $8.2 million of one-time
performance fees received by the mezzanine fund manager in 2000 partially offset
by $1.2 million in higher mortgage origination and servicing fees. In addition,
revenue in the Corporate and Other Segment decreased $3.5 million, or 0.8%,
primarily due to net realized investment and other losses and a decrease in net
investment income. Corporate and Other Segment incurred $6.9 million in net
realized investment and other losses in the three months ended September 30,
2001 compared to $14.4 million in net realized investment and other gains in the
comparable prior year period, a decrease of $21.3 million. Segment net
investment income decreased $19.1 million, or 19.8%, to $77.6 million primarily
due to the utilization of capital for the stock buy back program, dividends paid
to shareholders and capital supplied for the growth of the retail and
institutional businesses. Partially offsetting these decreases in revenues in
Corporate and Other was an increase in other revenue of $45.2 million primarily
due to an acquisition by Signature Fruit, LLC (Signature Fruit), a subsidiary
that acquired certain assets and assumed certain liabilities out of bankruptcy
proceedings of Tri Valley Growers, Inc.
Benefits and expenses of $1,820.4 million for the three months ended September
30, 2001 increased $56.4 million, or 3.2%, compared to the three months ended
September 30, 2000. The increase is driven by the Protection Segment increase of
$51.5 million, or 7.6%, primarily due to an increase in the policy reserves in
both the traditional and non-traditional products, partially offset by a
decrease in operating expenses. Benefits and expenses in the Corporate and Other
Segment increased $32.1 million, or 8.1%, primarily due to an increase in
operating expenses on the impact of an acquisition by Signature Fruit. Benefits
and expenses in the Asset Gathering Segment increased $0.8 million, or 0.4%
primarily due to increases in benefit to policyholders and amortization of
deferred acquisition costs partially offset by decreases in operating expenses.
The G&SFP Segment decreased $18.3 million, or 4.4%, primarily due to a decrease
in reserves reflecting lower sales of single premium annuities in the third
quarter of 2001. Investment Management Segment benefits and expenses decreased
$9.7 million, or 30.4%, primarily due to a $4.9 million of one-time performance
fees paid to the management of the mezzanine fund in 2000, lower in operating
expenses on a
24
JOHN HANCOCK FINANCIAL SERVICES, INC.
decline in incentive compensation payments based on lower investment advisory
fees in the current year period.
Nine Months Ended September 30, 2001 Compared to Nine Months Ended September 30,
2000
Consolidated income before income taxes and cumulative effect of accounting
changes of $715.0 million for the nine months ended September 30, 2001 decreased
by $187.4 million, or 20.8%, from that reported in the comparable prior year
period, primarily due to a decrease in net realized investment and other gains
(losses) of $178.7 million. The Company generated $98.8 million in net realized
investment and other losses in the nine months ended September 30, 2001,
compared to $79.9 million in net realized investment and other gains for the
nine months ended September 30, 2000. Net realized investment and other gains
generated in 2000 were the result of the initiative to divest the Company of
real estate investments, while losses generated in 2001 were primarily the
result of deteriorating economic conditions. Income before taxes and cumulative
effect of accounting changes in the Corporate and Other Segment decreased $112.7
million primarily due to corporate operations which decreased $83.6 million on
lower net realized investment and other gains. The Investment Management Segment
income before income taxes and cumulative effect of accounting changes decreased
$43.0 million on lower advisory fee income in 2001 and one-time revenue activity
in the prior year period. Investment Management Segment advisory fees decreased
due to lower average assets under management in the current period and one-time
fees and a lawsuit settlement in the timber investment management unit and a
performance fee earned by the mezzanine fund manager in the prior year period.
The G&SFP Segment income before income taxes and cumulative effect of accounting
changes decreased $19.6 million, or 9.4%, to $188.5 million primarily due to
decreased net realized investment and other gains. The Asset Gathering Segment
decreased $29.2 million, or 18.1%, due to lower commission income due to lower
sales and redemptions in the mutual funds business and lower net realized
investment and other gains, partially offset by lower operating expense.
Partially offsetting these decreases was an increase in the Protection Segment
of $17.1 million, or 6.0%, primarily due to growth in net investment income and
lower operating expenses, partially offset by decreased net realized investment
and other gains (losses).
Revenues of $6,586.2 million for the nine months ended September 30, 2001
increased $109.9 million, or 1.7%, compared to the nine months ended September
30, 2000, including revenue growth of $128.5 million in the G&SFP Segment, an
increase of 7.7%. The increase in G&SFP revenues is primarily due to the premium
growth in the single premium annuity business, which improved $91.2 million due
to two large sales in the first quarter of 2001. G&SFP net investment income
also increased resulting from an increase in invested assets backing spread
based products compared to the prior year period. Revenues increased $111.7
million, or 4.8%, in the Protection Segment, primarily due to an increase in
premiums and growth in net investment income, partially offset by a decrease in
net realized investment and other gains. These increases in revenues were
partially offset by a decrease in the Corporate and Other Segment, which
decreased $29.2 million, or 2.0%. Corporate and Other's net investment income
decreased $79.2 million driven by the utilization of capital for the stock buy
back program, dividends paid to shareholders and capital supplied for the growth
of the retail and institutional businesses. In addition, net realized investment
and other gains from venture capital partnerships decreased by $26.1 million.
The Investment Management Segment revenues decreased $75.4 million, or 43.0%,
primarily due to lower average assets under management in the current period and
nonrecurring advisory fee income in the prior period. Investment Management
Segment advisory fee income in the prior year period included the receipt of an
incentive fee in connection with the restructuring of a timber management
contract, as well as the lawsuit settlement, and a performance fee received by
the mezzanine fund manager. Asset Gathering Segment revenues decreased $25.7
million, or 2.8%, primarily due to decreases in management advisory fees and
commission income from the mutual funds business of $75.6 million, driven by the
impact of redemptions, market depreciation and lower sales. In addition, net
realized investment and other gains decreased $11.6 million. The decrease in
Asset Gathering Segment Revenues was partially offset by an increase in net
investment income of $46.1 million driven by the fixed annuity business and
$22.9 million in increased premiums primarily due to the single premium
immediate annuity business.
Benefits and expenses of $5,871.2 million for the nine months ended September
30, 2001 increased $297.3 million, or 5.3%, compared to the nine months ended
September 30, 2000. The increase is driven by G&SFP increasing $148.0 million,
or 10.2%, primarily due to an increase in reserves resulting from sales of
single premium annuities in the nine months ended September 30, 2001. Benefits
and expenses in the Protection Segment increased $94.5 million, or 4.6%,
primarily due to increases in the benefits to policyholders for growth in the
individual long-term care insurance business and amortization of deferred policy
acquisition costs, partially offset by decreased operating expenses due to
on-going cost reduction programs. The Corporate and Other Segment benefits and
expenses increased $83.7 million or 6.8% driven by a $90.0 million increase
operating expenses primarily the result of an acquisition by Signature Fruit.
The Asset Gathering Segment's increase in benefits and expenses of $3.5 million,
or 0.5%, is primarily due to increased
25
JOHN HANCOCK FINANCIAL SERVICES, INC.
benefits to policyholders business and amortization of deferred policy
acquisition costs, partially offset by lower operating expenses driven by lower
commission expense in the mutual fund business on lower front end load mutual
fund sales and lower redemptions of deferred sales charge mutual fund shares.
Partially offsetting these increases in benefits and expenses is a decrease of
$32.4 million, or 30.6%, in the Investment Management Segment. The decrease in
Investment Management is driven by lower operating expenses due to reduced
incentive compensation payments and on-going expense reduction efforts and
one-time expenses in the prior year. One-time expenses in the prior year
included the payment of incentive fees for the restructuring of a portfolio, a
legal settlement in the timber investment management business and performance
fees paid to the management of the mezzanine fund.
Results of Operations by Segment
We operate our business in five segments. Two segments primarily serve retail
customers, two segments serve institutional customers and our fifth segment is
the Corporate and Other Segment, which includes our international operations.
Our retail segments are the Protection Segment and the Asset Gathering Segment.
Our institutional segments are the Guaranteed and Structured Financial Products
Segment and the Investment Management Segment.
We evaluate segment performance and base management's incentives on segment
after-tax operating income, which excludes the effect of net realized investment
gains and losses and other unusual or non-recurring events and transactions.
Segment after-tax operating income is determined by adjusting GAAP net income
for net realized investment and other gains and losses, cumulative effect of
accounting changes, and certain other items which we believe are not indicative
of overall operating trends. While these items may be significant components in
understanding and assessing our consolidated financial performance, we believe
that the presentation of segment after-tax operating income enhances the
understanding of our results of operations by highlighting net income
attributable to the normal, recurring operations of the business. However,
segment after-tax operating income is not a substitute for net income determined
in accordance with GAAP.
A discussion of the adjustments to GAAP reported income, many of which affect
each operating segment, follows the table below. A reconciliation of segment
after-tax operating income, as adjusted, to GAAP reported net income precedes
each segment discussion.
[Enlarge/Download Table]
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------------------------------
2001 2000 2001 2000
------------------------------------------------------
(in millions)
Segment Data: (1)
Segment after-tax operating income:
Protection Segment..................................... $ 72.7 $ 63.8 $224.8 $193.4
Asset Gathering Segment................................ 41.0 38.4 109.9 104.0
-------------------------------------------------
Total Retail........................................ 113.7 102.2 334.7 297.4
Guaranteed and Structured Financial Products
Segment............................................. 61.9 48.2 180.5 160.3
Investment Management Segment.......................... 7.0 7.8 17.0 40.2
-------------------------------------------------
Total Institutional................................. 68.9 56.0 197.5 200.5
Corporate and Other Segment............................ 22.3 23.9 62.6 73.3
-------------------------------------------------
Total segment after-tax operating income............... 204.9 182.1 594.8 571.2
After-tax adjustments: (1)
Net realized investment and other gains (losses), net. (34.6) (2.7) (63.7) 47.3
Restructuring charges.................................. (3.0) (2.4) (22.3) (10.1)
Group pension dividend transfer........................ -- -- -- 5.7
Demutualization expenses............................... -- -- -- (10.2)
Other demutualization related costs.................... -- -- -- (10.2)
Surplus tax............................................ 3.8 7.3 3.8 14.5
-------------------------------------------------
Total after-tax adjustments......................... (33.8) 2.2 (82.2) 37.0
-------------------------------------------------
Income before cumulative effect
of accounting changes................................ 171.1 184.3 512.6 608.2
Cumulative effect of accounting changes, net of tax.... -- -- 7.2 -
-------------------------------------------------
Net income............................................. $171.1 $184.3 $519.8 $608.2
=================================================
(1) See "Adjustments to GAAP Reported Net Income" set forth below.
26
JOHN HANCOCK FINANCIAL SERVICES, INC.
Adjustments to GAAP Reported Net Income
Our GAAP reported net income is affected by net realized investment and other
gains and losses and other unusual or non-recurring events and transactions
presented in the reconciliation of GAAP reported net income to segment after-tax
operating income in Note 2 - Segment Information in the notes to the unaudited
consolidated financial statements. A description of these adjustments follows.
In both periods, net realized investment and other gains and losses, except for
gains and losses from mortgage securitizations and mezzanine funds have been
excluded from segment after-tax operating income due to their volatility between
periods and because such data are often excluded by analysts and investors when
evaluating the overall financial performance of insurers.
The volatility between periods can be impacted by economic conditions, as well
as by changes in the volume of activity, which can be influenced by us and our
investment decisions. Net realized investment gains and losses from mortgage
securitizations and mezzanine funds were not excluded from segment after-tax
operating income because we view the related gains and losses as an integral
part of the core business of those operations.
Net realized investment and other gains have been reduced by: (1) amortization
of deferred policy acquisition costs to the extent that such amortization
results from net realized investment and other gains and losses and (2) the
portion of net realized investment and other gains and losses credited to
participating pension contract holder accounts. We believe presenting net
realized investment and other gains and losses in this format provides
information useful in evaluating our operating performance. This presentation
may not be comparable to presentations made by other insurers. Summarized below
is a reconciliation of (a) net realized investment and other gains per the
unaudited consolidated financial statements and (b) the adjustment made for net
realized investment and other gains to calculate segment after-tax operating
income for the three and nine month periods ended September 30, 2001 and 2000.
[Enlarge/Download Table]
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------------------------------
2001 2000 2001 2000
------------------------------------------------------
(in millions)
Net realized investment and other gains (losses)............... $(35.0) $(6.0) $(85.3) $ 73.6
Amortization of deferred policy acquisition costs related to
net realized investment and other gains (losses)............ (5.8) 0.7 1.5 (2.4)
Amounts credited (charged) to participating pension contract
holder accounts............................................. (14.1) 4.0 (15.0) 8.7
-------------------------------------------------
Net realized investment and other gains (losses), net of
related amortization of deferred policy acquisition costs
and amounts credited to participating pension contract
holders per unaudited consolidated financial
statements (1).............................................. (54.9) (1.3) (98.8) 79.9
Net realized investment and other gains (losses)
attributable to mortgage securitizations and mezzanine
funds....................................................... 1.0 -- 3.5 2.0
-------------------------------------------------
Net realized investment and other gains (losses), net -
pre-tax adjustment to calculate segment operating income.... (55.9) (1.3) (102.3) 77.9
Less income tax effect......................................... 21.3 (1.4) 38.6 (30.6)
-------------------------------------------------
Net realized investment and other gains (losses), net -
after-tax adjustment to calculate segment operating income.. $(34.6) $(2.7) $(63.7) $ 47.3
=================================================
(1) Net realized investment and other gains (losses), net of related
amortization of deferred policy acquisition costs and amounts credited to
participating pension contract holders for the three month periods ended
September 30, 2001 and 2000, includes $5.9 million and $1.4 million,
respectively, and for the nine month periods ended September 30, 2001 and
2000 includes $(3.2) million and $1.3 million, respectively, in net
realized gains(losses) generated in the closed block. This balance is
included in contribution from the closed block in the unaudited
consolidated financial statements.
The Company incurred after-tax restructuring charges as part of its on-going
Competitive Position Project, which was undertaken to reduce costs and increase
future operating efficiency by consolidating portions of our operations as well
as the sale of part of the full-service retirement plan business. Additional
information regarding restructuring costs is included in Note 3 - Severance in
the notes to the unaudited consolidated financial statements. After-tax
restructuring costs were $3.0 million and $2.4 million, for the three month
periods ended September 30, 2001 and
27
JOHN HANCOCK FINANCIAL SERVICES, INC.
2000, respectively and $22.3 million and $10.1 million for the nine month
periods ended September 30, 2001 and 2000, respectively.
During 1999, we recorded an amount related to the transfer of certain assets
from the Guaranteed and Structured Financial Products Segment to the corporate
account within the Corporate and Other Segment. The $5.7 million after-tax
credit occurring in the first quarter of 2000 is a change in estimate of this
transaction based on information that became available in 2000.
In December 2000, the American Institute of Certified Public Accountants issued
Statement of Position (SOP) 00-3. SOP 00-3 which was adopted with respect to
accounting for demutualization expenses by the Company effective December 31,
2000, requires that demutualization related expenses be classified as a single
line item within income from continuing operations and should not be classified
as an extraordinary item. No after-tax charges for demutualization related
expenses were incurred during the three month period ended September 30, 2000
and $10.2 million (net of tax of $0.4 million) were incurred during the nine
month period ended September 30, 2000. No demutualization costs were recognized
in 2001. The Company considers demutualization expenses to be an adjustment to
GAAP recorded net income.
The Company incurred after-tax charges for other demutualization related
expenses to improve our financial analysis and financial reporting abilities.
These charges primarily included consulting fees and planning and expense
management costs. After-tax charges for other demutualization related expenses
were $10.2 million (net of tax of $5.4 million) for the nine month period ended
September 30, 2000. No such costs were incurred in 2001.
Effective within the year 2000, the Company is no longer subject to the surplus
tax imposed on mutual life insurance companies. During the three month periods
ended September 30, 2001 and 2000, the Company recognized a reduction in equity
based taxes of $3.8 million and $7.3 million, respectively, and during the nine
month periods ended September 30, 2001 and 2000 the Company recognized a
reduction in equity based taxes of $3.8 million and $14.5 million, respectively,
resulting from a revised estimate related to prior years. This after-tax credit
was excluded from after-tax operating income for these periods.
28
JOHN HANCOCK FINANCIAL SERVICES, INC.
Retail-Protection Segment
The following table presents certain summary financial data relating to the
Protection Segment for the periods indicated.
[Enlarge/Download Table]
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------------------------------
2001 2000 2001 2000
------------------------------------------------------
(in millions)
Revenues.................................................. $841.2 $772.0 $2,484.3 $2,322.3
Benefits and expenses..................................... 727.3 674.1 2,137.5 2,029.5
Income taxes.............................................. 41.2 34.1 122.0 99.4
-------------------------------------------------
Segment after-tax operating income (1).................... 72.7 63.8 224.8 193.4
-------------------------------------------------
After-tax adjustments: (1)
Net realized investment and other gains
(losses), net....................................... (0.3) (2.0) (24.0) 7.0
Surplus tax............................................ 1.5 5.5 1.5 8.4
Demutualization expenses............................... -- -- -- (6.9)
Restructuring charges.................................. (1.0) (1.8) (3.8) (5.4)
-------------------------------------------------
Total after-tax adjustments.............................. 0.2 1.7 (26.3) 3.1
-------------------------------------------------
Income before cumulative effect of accounting changes..... 72.9 65.5 198.5 196.5
Cumulative effect of accounting changes, net of tax....... -- -- 11.7 --
-------------------------------------------------
Net income................................................ $ 72.9 $ 65.5 $ 210.2 $ 196.5
=================================================
Other Data:
Segment after-tax operating income:
Non-traditional life (variable and universal life)..... $ 29.1 $ 25.7 $ 91.0 $ 73.8
Traditional life....................................... 26.9 24.9 83.1 81.6
Long-term care......................................... 19.8 13.8 55.3 39.7
Other.................................................. (3.1) (0.6) (4.6) (1.7)
-------------------------------------------------
Segment after-tax operating income (1).................... $ 72.7 $ 63.8 $ 224.8 $ 193.4
=================================================
(1) See "Adjustments to GAAP Reported Net Income" included in this MD&A.
Three Months Ended September 30, 2001 Compared to Three Months Ended September
30, 2000
Segment after-tax operating income was $72.7 million for the three months ended
September 30, 2001, an increase of $8.9 million, or 13.9%, from $63.8 million
for the three months ended September 30, 2000. Non-traditional life insurance
business after-tax operating income increased $3.4 million, or 13.2%, primarily
due to increased fee income. Traditional life insurance business after-tax
operating income increased $2.0 million, or 8.0%, primarily resulting from
reductions in operating expenses. Long-term care insurance business after-tax
operating income increased $6.0 million, or 43.5%, resulting from lower
expenses, higher investment income, and positive morbidity gains.
Revenues were $841.2 million for the three months ended September 30, 2001, an
increase of $69.2 million, or 9.0%, from $772.0 million for the three months
ended September 30, 2000. Premiums increased $39.7 million, or 10.6%, primarily
due to long-term care insurance premiums, which increased $22.8 million, or
15.2%, driven by continued growth in the business. In addition, traditional life
insurance premiums increased primarily due to the prior year's comparable period
reversal of premiums as part of the resolution of the class action lawsuit. The
transactions associated with the class action lawsuit had no net effect on
operating income in the period because these increases were offset by
adjustments to benefits and expenses in the same period. Universal life and
investment-type product charges consist primarily of cost of insurance fees and
separate account fees and were $105.1 million for the three months ended
September 30, 2001, an increase of $7.4 million, or 7.6%, from $97.7 million for
the three months ended September 30, 2000. This was primarily due to fee
29
JOHN HANCOCK FINANCIAL SERVICES, INC.
increases partially offset by a decline in separate account performance. The
segment's net investment income increased $22.0 million, or 7.4%, primarily due
to increased asset balances.
Benefits and expenses were $727.3 million for the three months ended September
30, 2001, an increase of $53.2 million, or 7.9%, from $674.1 million for the
three months ended September 30, 2000. Benefits to policyholders increased $80.5
million, or 19.8%, due to a $47.4 million increase in traditional life insurance
reserves primarily attributable to prior year's comparable period reversal of
benefits as part of the resolution of the class action lawsuit and $26.0 million
due to growth in the long-term care insurance business. The transactions
associated with the class action lawsuit had no net effect on operating income
in the period because these increases were offset by adjustments to revenues in
the same period. Other operating costs and expenses decreased $28.0 million, or
26.0%, primarily due to a decrease of $18.0 million in operating expenses on
traditional life insurance products mainly attributable to on-going operating
cost reductions. The Segment's effective tax rate on operating income was 36.2%
and 34.8% for the three months ended September 30, 2001 and 2000, respectively.
Nine Months Ended September 30, 2001 Compared to Nine Months Ended September 30,
2000
Segment after-tax operating income was $224.8 million for the nine months ended
September 30, 2001, an increase of $31.4 million, or 16.2%, from $193.4 million
for the nine months ended September 30, 2000. Non-traditional life insurance
business after-tax operating income increased $17.2 million, or 23.3%, primarily
due to higher fee income and net investment income. Traditional life insurance
business after-tax operating income increased $1.5 million, or 1.8%, primarily
resulting from higher investment income and reductions in operating expenses
offset by increased benefits to policyholders. Long-term care insurance business
after-tax operating income increased $15.6 million, or 39.3%, resulting from
lower expenses, higher investment income, and positive morbidity gains.
Revenues were $2,484.3 million for the nine months ended September 30, 2001, an
increase of $162.0 million, or 7.0%, from $2,322.3 million for the nine months
ended September 30, 2000. Premiums increased $89.7 million, or 7.9%, primarily
due to long-term care insurance premiums, which increased $90.4 million, or
22.2% driven by continued growth in the individual business. Universal life and
investment-type product charges were $309.0 million for the nine months ended
September 30, 2001, an increase of $12.7 million, or 4.3%, from $296.3 million
for the nine months ended September 30, 2000. This was due to increases in both
universal and variable life product fees, of $6.9 million and $5.8 million
respectively from the comparable prior year period, primarily driven by
universal life account value increases and variable life products fee increases.
Segment net investment income increased $58.3 million, or 6.6%, primarily due to
increased asset balances.
Benefits and expenses were $2,137.5 million for the nine months ended September
30, 2001, an increase of $108.0 million, or 5.3%, from $2,029.5 million for the
nine months ended September 30, 2000. Benefits to policyholders increased $129.7
million, or 10.4%, due to growth in the long-term care insurance business.
Long-term care insurance benefits increased $99.2 million primarily due to
additions to reserves for premium growth and to higher claim volume from the
expansion of this business. Other operating costs and expenses decreased $64.7
million, or 19.9%, primarily due to a decrease of $56.2 million in operating
expenses on traditional life insurance products mainly attributable to on-going
operating cost reductions. Dividends to policyholders increased $1.8 million, or
0.5%, primarily due to increased dividends on traditional life insurance
products offset by decreased dividends in non-traditional life insurance
products. Amortization of deferred policy acquisition costs increased $41.2
million, or 40.8%, primarily due to higher gross profits on both the traditional
life and non-traditional life products. The Segment's effective tax rate on
operating income was 35.2% and 33.9% for the nine months ended September 30,
2001 and 2000, respectively.
30
JOHN HANCOCK FINANCIAL SERVICES, INC.
Retail-Asset Gathering Segment
The following table presents certain summary financial data relating to the
Asset Gathering Segment for the periods indicated.
[Enlarge/Download Table]
Three Months Ended Nine Months Ended
September 30, September 30,
2001 2000 2001 2000
------------------------------------------------------
(in millions)
Revenues.................................................. $296.2 $297.2 $880.0 $894.1
Benefits and expenses..................................... 240.0 239.5 721.6 738.4
Income taxes.............................................. 15.2 19.3 48.5 51.7
-------------------------------------------------
Segment after-tax operating income (1).................... 41.0 38.4 109.9 104.0
-------------------------------------------------
After-tax adjustments: (1)
Net realized investment and other
gains, net........................................... 6.6 2.6 -- 6.3
Surplus tax............................................. -- 0.4 -- 0.5
Demutualizaton expenses................................ -- -- -- (0.1)
Other demutualization related costs..................... -- -- -- (1.4)
Restructuring charges................................... (0.3) (0.4) (15.4) (1.4)
-------------------------------------------------
Total after-tax adjustments............................... 6.3 2.6 (15.4) 3.9
-------------------------------------------------
Income before cumulative effect of accounting changes..... 47.3 41.0 94.5 107.9
Cumulative effect of accounting changes, net of tax....... -- -- (0.5) --
-------------------------------------------------
Net income................................................ $ 47.3 $ 41.0 $ 94.0 $107.9
=================================================
Other Data:
Segment after-tax operating income (loss):
Annuity................................................ $ 25.1 $ 25.3 $ 66.8 $ 70.9
Mutual funds........................................... 14.2 13.4 42.4 35.5
Other.................................................. 1.7 (0.3) 0.7 (2.4)
-------------------------------------------------
Segment after-tax operating income (1).................... $ 41.0 $ 38.4 $109.9 $104.0
=================================================
(1) See "Adjustments to GAAP Reported Net Income" included in this MD&A.
Three Months Ended September 30, 2001 Compared to Three Months Ended September
30, 2000
Segment after-tax operating income was $41.0 million for the three months ended
September 30, 2001, an increase of $2.6 million, or 6.8%, from $38.4 million
reported in the comparable prior year period. Annuity business after-tax
operating income was $25.1 million for the three months ended September 30,
2001, a decrease of $0.2 million, or 0.8%, primarily due to a decrease in
variable annuity product fees, resulting from lower average account balances.
Mutual funds after-tax operating income increased $0.8 million, or 6.0%,
primarily due to lower commissions and operating expenses, which decreased $21.4
million, or 24.2% from the comparable prior year period.
Revenues were $296.2 million for the three months ended September 30, 2001, a
decrease of $1.0 million, or 0.3%, from $297.2 million reported for the
comparable prior year period. The decrease in revenues was primarily due to
lower management advisory fees and commission income, which decreased $20.2
million, or 15.3%, driven by the mutual funds business due to a decrease in
average assets under management and lower sales. Net investment income was
$131.0 million for the three months ended September 30, 2001, an increase of
$19.5 million, or 17.5%, from $111.5 million reported in the comparable prior
year period. Net investment income increased primarily due to increases in
invested assets backing fixed annuity products and an increase in yields on
those assets. The average investment yield on invested assets backing fixed
annuity products was 8.24% and 8.08% for the three months ended September 30,
2001 and 2000, respectively. Investment-type product fees were $31.2 million for
the three months ended September 30, 2001, a decrease of $2.0 million, or 6.0%,
from $33.2 million reported for the
31
JOHN HANCOCK FINANCIAL SERVICES, INC.
comparable prior year period. The decrease in investment-type product fees is
primarily due to a decline in the average variable annuity reserves which
decreased 18.9% to $6,283.6 million for the three months ended September 30,
2001 from $7,747.2 million reported in the comparable prior year period. The
decrease in average variable annuity reserves is driven by depreciation of the
equity markets. The mortality and expense fees as a percentage of average
account balances were 1.26% and 1.34% for the three months ended September 30,
2001 and 2000, respectively.
Investment management revenues, commissions, and other fees were $111.9 million
for the three months ended September 30, 2001, a decrease of $20.2 million, or
15.3%, from $132.1 million for the comparable prior year period. Average mutual
fund assets under management were $29,172.2 million for the three months ended
September 30, 2001, a decrease of $3,407.7 million, or 10.5%, from $32,579.9
million reported in the comparable prior year period, due to net redemptions and
market depreciation in latter half of the prior year. The mutual fund business
experienced net redemptions for the three months ended September 30, 2001 of
$11.2 million compared to net deposits of $145.1 million in the comparable prior
year period. The mutual fund business incurred $42.4 million in redemptions for
the three months ended September 30, 2001 related to the sale of the
full-service retirement plan business. Absent the impact on assets under
management of the sale of the full-service retirement plan business, the mutual
fund business experienced net deposits of $31.2 million for the same period. In
addition, mutual fund business assets under management decreased due to realized
net market depreciation of $3,411.9 million for the three months ended September
30, 2001 compared to $1,228.3 million of net realized net market appreciation in
the comparable prior year period. Investment advisory fees were $42.9 million
for the three months ended September 30, 2001, a decrease of $7.4 million, or
14.7%, from $50.3 million reported in the comparable prior year period and were
0.59% and 0.62% of average mutual fund assets under management for the three
months ended September 30, 2001 and 2000, respectively. Underwriting and
distribution fees decreased $12.9 million, or 18.3%, to $57.4 million for the
three months ended September 30, 2001, primarily due to a decrease in asset
based distribution fees, front end load charge mutual fund sales and lower
deferred sales charges due to decreased assets under management, lower sales and
lower redemptions. Shareholder service and other fees were $11.4 million for the
three months ended September 30, 2001 compared to $11.7 million reported in the
comparable prior year period.
Benefits and expenses increased $0.5 million, or 0.2%, to $240.0 million for the
three months ended September 30, 2001 from $239.5 million reported in the
comparable prior year period. Benefits to policyholders increased $19.5 million,
or 20.5%, primarily due to an increase in interest credited on fixed annuity
account balances due to higher average account balances and an increase in the
average interest credited rate. The average interest credited rate on fixed
annuity account balances was 6.02% and 5.80% for the three months ended
September 30, 2001 and 2000, respectively. Other operating costs and expenses
decreased $23.7 million, or 18.7%, to $103.2 million for the three months ended
September 30, 2001 from $126.9 million reported in the comparable prior year
period primarily due to a decrease in operating expenses. Operating expenses
decreased in the annuities and mutual fund businesses due to on-going expense
reduction programs. Amortization of deferred policy acquisition costs increased
$4.9 million, or 28.0%, to $22.4 million for the three months ended September
30, 2001 from $17.5 million reported in the comparable prior year period, in the
annuities business due to revised projections of estimated gross profits based
upon changes in estimated future lapse rates. The Segment's effective tax rate
on operating income was 27.0% and 33.4% for the three months ended September 30,
2001 and 2000, respectively.
Nine Months Ended September 30, 2001 Compared to Nine Months Ended September 30,
2000
Segment after-tax operating income was $109.9 million for the nine months ended
September 30, 2001, an increase of $5.9 million, or 5.7%, from $104.0 million
reported in the comparable prior year period. Annuity business after-tax
operating income was $66.8 million for the nine months ended September 30, 2001,
a decrease of $4.1 million, or 5.8%, primarily due to a decrease in variable
annuity product charges, resulting from lower average account balances. Mutual
funds after-tax operating income increased $6.9 million, or 19.4%, primarily due
to lower commissions and operating expenses that decreased $80.1 million, or
27.0% from the comparable prior year period, partially offset by lower
management advisory fees, commissions, and other fee revenue.
Revenues were $880.0 million for the nine months ended September 30, 2001, a
decrease of $14.1 million, or 1.6%, from $894.1 million reported for the
comparable prior year period. The decrease in revenues was due to lower
management advisory fees and commission income which decreased $75.6 million, or
17.9%, primarily from the mutual funds business due to a decrease in average
assets under management, lower sales and lower redemptions. Net investment
income was $373.5 million for the nine months ended September 30, 2001, an
increase of $46.2 million, or 14.1%, from $327.3 million reported in the
comparable prior year period. Net investment income increased primarily due to
increases in invested assets backing fixed annuity products and an increase in
yields on those assets. The average investment yield on invested assets backing
fixed annuity products was 8.13% and 8.02% for the nine months ended September
30, 2001 and 2000, respectively. Investment-type product fees were $96.6
32
JOHN HANCOCK FINANCIAL SERVICES, INC.
million for the nine months ended September 30, 2001, a decrease of $6.5
million, or 6.3%, from $103.1 million reported for the comparable prior year
period. The decrease in investment-type product fees is primarily due to a
decline in the average variable annuity reserves, driven by depreciation of the
equity markets. Average variable annuity reserves decreased 15.3% to $6,533.5
million for the nine months ended September 30, 2001 from $7,717.6 million
reported in the comparable prior year period. The mortality and expense fees as
a percentage of average account balances were 1.28% and 1.35% for the nine
months ended September 30, 2001 and 2000, respectively.
Investment management revenues, commissions, and other fees were $346.3 million
for the nine months ended September 30, 2001, a decrease of $75.6 million, or
17.9%, from $421.9 million for the comparable prior year period. Average mutual
fund assets under management were $29,957.3 million for the nine months ended
September 30, 2001, a decrease of $2,684.3 million or 8.2%, from $32,641.6
million reported in the comparable prior year period, due to market
depreciation. The mutual fund business experienced net deposits for the nine
months ended September 30, 2001 of $112.8 million, despite difficult market
conditions in the nine months ended September 30, 2001. In the comparable prior
year period , the mutual funds business experienced net redemptions of $219.4
million. The mutual fund business incurred $465.7 million in redemptions for the
nine months ended September 30, 2001 related to the sale of the full-service
retirement plan business. Absent the impact on assets under management of the
sale of the full-service retirement plan business, the mutual fund business
experienced net deposits of $578.5 million for the same period. Deposits and
reinvestments for the nine months ended September 30, 2001 include the funding
of a $247.0 million institutional advisory account. Redemptions and withdrawals
continue to slow decreasing $824.5 million, or 17.6%, to $3,848.5 million from
$4,673.0 million in the comparable prior year period. Investment advisory fees
were $136.0 million for the nine months ended September 30, 2001, a decrease of
$9.6 million, or 6.6%, from $145.6 million reported in the comparable prior year
period and were 0.61% and 0.59% of average mutual fund assets under management
for the nine months ended September 30, 2001 and 2000, respectively.
Underwriting and distribution fees decreased $66.8 million, or 27.7%, to $174.0
million for the nine months ended September 30, 2001, primarily due to a
decrease in asset based distribution fees, front end load mutual fund sales and
lower deferred sales charges due to decreased assets under management, lower
sales and lower redemptions. Shareholder service and other fees were $36.3
million for the nine months ended September 30, 2001 compared to $35.5 million
reported in the comparable prior year period.
Benefits and expenses decreased $16.8 million, or 2.3%, to $721.6 million for
the nine months ended September 30, 2001 from $738.4 million reported in the
comparable prior year period. Benefits to policyholders increased $68.0 million,
or 25.7%, primarily due to an increase in interest credited on fixed annuity
account balances due to higher average account balances and an increase in the
average interest credited rate. The average interest credited rate on fixed
annuity account balances was 6.11% and 5.74% for the nine months ended September
30, 2001, respectively. Other operating costs and expenses decreased $90.6
million, or 21.6%, to $329.4 million for the nine months ended September 30,
2001 from $420.0 million reported in the comparable prior year period. The
decrease was primarily due to the decrease in commission fees incurred in the
mutual fund business, the result of lower front-end load mutual fund sales and
lower deferred sales charges due to lower redemptions. In addition, mutual fund
operating expenses decreased due to operating efficiencies, lower subadvisory
asset based fees due to a decline in average assets under management, and the
sale of the full-service retirement plan business. Amortization of deferred
policy acquisition costs increased $5.9 million, or 11.0%, to $59.5 million for
the nine months ended September 30, 2001 from $53.6 million reported in the
comparable prior year period, primarily due to revised projections of estimated
gross profits based upon changes in estimated future lapse rates. The Segment's
effective tax rate on operating income was 30.6% and 33.2% for the nine months
ended September 30, 2001 and 2000, respectively.
33
JOHN HANCOCK FINANCIAL SERVICES, INC.
Institutional-Guaranteed and Structured Financial Products Segment
The following table presents certain summary financial data relating to the
Guaranteed and Structured Financial Products Segment for the periods indicated.
[Enlarge/Download Table]
Three Months Ended Nine Months Ended
September 30, September 30,
2001 2000 2001 2000
------------------------------------------------------
(in millions)
Revenues.................................................. $493.9 $492.1 $1,870.1 $1,699.2
Benefits and expenses..................................... 400.2 418.7 1,599.1 1,454.8
Income taxes.............................................. 31.8 25.2 90.5 84.1
-------------------------------------------------
Segment after-tax operating income (1).................... 61.9 48.2 180.5 160.3
-------------------------------------------------
After-tax adjustments: (1)
Net realized investment and other gains
(losses), net....................................... (36.9) (11.3) (51.3) (24.4)
Restructuring charges.................................. -- (0.1) (0.7) (2.3)
Surplus tax............................................ 2.1 4.0 2.1 5.5
Demutualization expenses............................... -- -- -- (0.2)
Other demutualization related costs.................... -- -- -- (1.7)
Group pension dividend transfer........................ -- -- -- 5.7
-------------------------------------------------
Total after-tax adjustments............................... (34.8) (7.4) (49.9) (17.4)
-------------------------------------------------
Income before cumulative effect of accounting changes..... 27.1 40.8 130.6 142.9
Cumulative effect of accounting changes, net of tax....... -- -- (1.2) --
-------------------------------------------------
Net income................................................ $ 27.1 $ 40.8 $ 129.4 $ 142.9
=================================================
Other Data:
Segment after-tax operating income:
Spread-based products:
GICs and funding agreements.......................... $ 42.4 $ 32.2 $ 120.7 $ 100.8
Single premium annuities............................. 14.0 7.7 41.4 34.2
Fee-based products..................................... 5.5 8.3 18.4 25.3
-------------------------------------------------
Segment after-tax operating income (1).................... $ 61.9 $ 48.2 $ 180.5 $ 160.3
=================================================
(1) See "Adjustments to GAAP Reported Net Income" included in this MD&A.
Three Months Ended September 30, 2001 Compared to Three Months Ended September
30, 2000
Segment after-tax operating income was $61.9 million for the three months ended
September 30, 2001, an increase of $13.7 million, or 28.4%, from $48.2 million
reported in the comparable prior-year period. GICs and funding agreements
after-tax operating income was $42.4 million, an increase of $10.2 million, or
31.7%, from $32.2 million reported in the comparable prior year period,
primarily due to increased investment spreads as a result of an increase in
average invested assets. On a total-company basis, GICs and funding agreements
accounted for 20.7% of after-tax operating income for the three months ended
September 30, 2001 as compared to 17.7% in the comparable prior period. Single
premium annuities after-tax operating income was $14.0 million, an increase of
$6.3 million, or 81.8%, primarily due to underwriting gains in the current
period compared to underwriting losses driven by one large contract in the
comparable prior year period. Fee-based products' after-tax operating income was
$5.5 million, a decrease of $2.8 million, or 33.7%, from $8.3 million reported
in the comparable prior year period, primarily due to the transfer of
non-participating annuities to spread-based products at year-end, 2000.
Revenues increased $1.8 million, or 0.4%, to $493.9 million for the three months
ended September 30, 2001 from $492.1 million reported in the comparable prior
year period. Net investment income increased $16.9 million, or 3.9%, to $455.5
million for the three months ended September 30, 2001 from $438.6 million
reported in the comparable prior year period, primarily as a result of a higher
level of average invested assets backing spread-based products. Average invested
assets backing spread-based products increased $4,185.2 million, or 23.8% to
$21,745.2 million for the three months ended September 30, 2001 from $17,560.0
million reported in the comparable prior year period. The average investment
yield on these invested assets decreased to 7.43% for the three months ended
34
JOHN HANCOCK FINANCIAL SERVICES, INC.
September 30, 2001 compared to 8.59% reported in the prior year period,
reflecting the lower interest rate environment in the current period. Premiums
decreased $13.3 million, or 35.2%, to $24.5 million for the three months ended
September 30, 2001 from $37.8 million reported in the comparable prior year
period primarily driven by single premium annuities. Investment-type product
charges were $13.7 million for the three months ended September 30, 2001, a
decrease of $2.0 million, or 12.7%, primarily due to lower asset based fees on
Separate Account GICs. Investment-type product charges were 0.52% and 0.54% of
average fee-based policy reserves for the three months ended September 30, 2001
and 2000, respectively.
Benefits and expenses decreased $18.5 million, or 4.4%, to $400.2 million for
the three months ended September 30, 2001 from $418.7 million reported in the
comparable prior year period. The decrease was largely due to a $12.5 million
decrease in benefits to policyholders as a result of decreased sales of single
premium annuity contracts. Interest credited on account balances for
spread-based products was $307.4 million for the three months ended September
30, 2001, an increase of $8.8 million, or 2.9%, from $298.6 million reported in
the comparable prior year period. The increase in interest credited was due to
an increase in average account balances for spread-based products of $3,740.7
million to $20,439.8 million for the three months ended September 30, 2001 from
$16,699.1 million reported in the comparable prior year period partially offset
by a decrease in the average interest credited rate on account balances for
spread-based products. Other operating costs and expenses were $15.7 million for
the three months ended September 30, 2001, a decrease of $3.5 million, or 18.2%,
from $19.2 million reported in the comparable prior year period. The decrease
was primarily due to lower management fee expenses and lower systems expenses
related to projects completed during 2000. Dividends of $8.8 million for the
three months ended September 30, 2001, decreased $2.1 million, or 19.3%, from
$10.9 million reported in the comparable prior year period, reflecting a lower
level of distributable surplus to participating contract holder accounts. The
Segment's effective tax rates on operating income were 33.9% and 34.3% for the
three months ended September 30, 2001 and 2000, respectively. The decrease in
the effective tax rate is primarily due to increases in certain tax credits and
deductions in the current period.
Nine Months Ended September 30, 2001 Compared to Nine Months Ended September 30,
2000
Segment after-tax operating income was $180.5 million for the nine months ended
September 30, 2001, an increase of $20.2 million, or 12.6%, from $160.3 million
reported in the comparable prior-year period. GICs and funding agreements
after-tax operating income was $120.7 million, an increase of $19.9 million, or
19.7%, from $100.8 million reported in the comparable prior year period,
primarily due to increased investment spreads largely as a result of growth in
average invested assets. On a total-company basis, GICs and funding agreements
accounted for 20.3% of after-tax operating income for the nine months ended
September 30, 2001 as compared to 17.6% in the comparable prior period. Single
premium annuities after-tax operating income was $41.4 million, an increase of
$7.2 million, or 21.1%, primarily due to underwriting gains in the current
period compared to underwriting losses driven by one large contract in the
comparable prior year period. Fee-based product after-tax operating income was
$18.4 million, a decrease of $6.9 million, or 27.3%, from $25.3 million reported
in the comparable prior year period, primarily due to lower asset-based fees on
Separate Account GICs.
Revenues increased $170.9 million, or 10.1%, to $1,870.1 million for the nine
months ended September 30, 2001 from $1,699.2 million reported in the comparable
prior year period. Net investment income increased $99.3 million, or 7.7%, to
$1,387.3 million for the nine months ended September 30, 2001 compared to the
prior year period, primarily as a result of a higher level of average invested
assets backing spread-based products. Average invested assets backing
spread-based products increased $3,735.2 million, or 22.3% to $20,502.7 million
for the nine months ended September 30, 2001 from $16,767.5 million reported in
the comparable prior year period. The average investment yield on these invested
assets decreased to 7.91% for the nine months ended September 30, 2001 compared
to 8.66% reported in the prior year period, reflecting the lower interest rate
environment in the current period. Premiums increased $77.1 million, or 21.4%,
to $438.1 million, which follow sales proceeds of our annuity products.
Investment-type product charges were $44.5 million for the nine months ended
September 30, 2001, a decrease of $5.5 million, or 11.0%, primarily due to lower
expense recoveries from participating contracts. Investment-type product charges
were 0.51% and 0.55% of average fee-based policy reserves for the nine months
ended September 30, 2001 and 2000, respectively.
Benefits and expenses increased $144.3 million, or 9.9%, to $1,599.1 million for
the nine months ended September 30, 2001 from $1,454.8 million reported in the
comparable prior year period. The increase was largely due to a $157.4 million
increase in benefits to policyholders as a result of increased sales of single
premium annuity contracts. Interest credited on account balances for
spread-based products was $946.5 million for the nine months ended September 30,
2001, an increase of $92.9 million, or 10.9%, from $853.6 million reported in
the comparable prior year period. The increase in interest credited was due to
an increase in average account balances for spread-based products of $3,314.7
million to $19,342.8 million for the nine months ended September 30, 2001 from
35
JOHN HANCOCK FINANCIAL SERVICES, INC.
$16,028.1 million reported in the comparable prior year period partially offset
by a decrease in the average interest credited rate on account balances for
spread-based products. The decrease in the average interest credited rate on
account balances for spread-based products reflects the lower interest rate
environment in the current period. Other operating costs and expenses were $42.6
million for the nine months ended September 30, 2001, a decrease of $9.9
million, or 18.9%, from $52.5 million reported in the comparable prior year
period. The decrease was primarily due to lower management fee expenses and
lower systems expenses related to projects completed during 2000. Dividends of
$26.3 million for the nine months ended September 30, 2001, decreased $2.9
million, or 9.9%, from $29.2 million reported in the comparable prior year
period, reflecting a lower level of distributable surplus to participating
contract holder accounts. The Segment's effective tax rates on operating income
were 33.4% and 34.4% for the nine months ended September 30, 2001 and 2000,
respectively. The decrease in the effective tax rate is primarily due to
increases in certain tax credits and deductions in the current period.
36
JOHN HANCOCK FINANCIAL SERVICES, INC.
Institutional-Investment Management Segment
The following table presents certain summary financial data relating to the
Investment Management Segment for the periods indicated.
[Enlarge/Download Table]
Three months ended Nine months ended
September 30, September 30,
2001 2000 2001 2000
------------------------------------------------------
(in millions)
Revenues......................................................... $33.2 $45.4 $99.7 $173.3
Benefits and expenses............................................ 22.2 32.0 71.9 105.4
Income taxes..................................................... 4.0 5.6 10.8 27.7
--------------------------------------------------
Segment after-tax operating income (1)........................... 7.0 7.8 17.0 40.2
--------------------------------------------------
After-tax adjustments: (1)
Net realized investment and other gains (losses), net......... -- 0.7 (0.1) 1.0
Restructuring charges......................................... (0.2) -- (0.7) --
--------------------------------------------------
Total after-tax adjustments...................................... (0.2) 0.7 (0.8) 1.0
--------------------------------------------------
Income before cumulative effect of
accounting changes............................................ 6.8 8.5 16.2 41.2
Cumulative effect of accounting changes, net of tax.............. -- -- (0.2) --
--------------------------------------------------
Net income....................................................... $ 6.8 $ 8.5 $16.0 $ 41.2
==================================================
(1) See "Adjustments to GAAP Reported Net Income" included in this MD&A.
Three Months Ended September 30, 2001 Compared to Three Months Ended September
30, 2000
Segment after-tax operating income was $7.0 million for the three months ended
September 30, 2001, a decrease of $0.8 million, or 10.3%, from $7.8 million
reported in the comparable prior year period. The decrease was primarily due to
lower advisory fees in 2001, partially offset by higher earnings on the sale of
equity investments and higher mortgage origination and servicing fees.
Total revenues decreased $12.2 million, or 26.9%, to $33.2 million for the three
months ended September 30, 2001 from $45.4 million reported in the comparable
prior year period. Net investment income was $8.9 million for the three months
ended September 30, 2001, an increase of $1.9 million from $7.0 million reported
in the comparable prior year period, primarily due to an increase in income
recorded this year on one-time gains on the sale of equity investments held by
John Hancock Energy Resources Management. Investment management revenues,
commissions, and other fees decreased $16.0 million, or 40.7%, to $23.3 million
for the three months ended September 30, 2001, from $39.3 million in the prior
year period, primarily due to a decrease in investment advisory fees. Investment
advisory fees decreased $17.2 million, or 44.6%, to $21.4 million for the three
months ended September 30, 2001 compared to $38.6 million reported in the prior
year period primarily due to $8.2 million of one-time performance fees received
by the mezzanine fund manager in 2000, and $5.1 million lower investment
advisory fees at Independence Investment LLC resulting from lower average assets
under management in 2001, partially offset by $1.2 million higher mortgage
origination and servicing fees at John Hancock Real Estate Finance. Mortgage
origination and servicing fees were $1.9 million for the three months ended
September 30, 2001 compared to $0.7 million in the prior year period. Investment
management revenues, commissions and other fees were 0.33% and 0.43% of average
advisory assets under management in 2001 and 2000, respectively. Net realized
investment gains increased $1.0 million for the three months ended September 30,
2001 due to increased securitization activity at John Hancock Real Estate
Finance.
Benefits and expenses decreased $9.8 million, or 30.6%, to $22.2 million for the
three months ended September 30, 2001, from $32.0 million reported in the
comparable prior year period. The decrease was primarily due to $4.9 million of
one-time performance fees paid to the management of the mezzanine fund in 2000
which were not repeated in 2001, and a decrease of $2.8 million in operating
expenses, primarily compensation, at Independence Investment LLC, based on lower
investment advisory fee revenues. In addition, operating expenses declined $1.8
million at John Hancock Real Estate Finance. Total operating costs and expenses
were 0.31% and 0.35% of average advisory assets under management in 2001 and
2000, respectively. The Segment's effective tax rate on operating income was
36.4% and 41.8% for the three months ended September 30, 2001 and 2000,
respectively.
37
JOHN HANCOCK FINANCIAL SERVICES, INC.
Nine Months Ended September 30, 2001 Compared to Nine Months Ended September 30,
2000
Segment after-tax operating income was $17.0 million for the nine months ended
September 30, 2001, a decrease of $23.2 million, or 57.7%, from $40.2 million
reported in the comparable prior year period. The decrease was primarily due to
lower investment advisory fees from lower average assets under management in the
current period and one-time revenue activity in the prior year period.
Revenues decreased $73.6 million, or 42.5%, to $99.7 million for the nine months
ended September 30, 2001 from $173.3 million reported in the comparable prior
year period. Net investment income was $18.1 million for the nine months ended
September 30, 2001, an increase of $0.8 million from the comparable prior year
period. Investment management revenues, commissions, and other fees decreased
$76.0 million, or 49.3%, for the nine months ended September 30, 2001, primarily
due to a decrease in investment advisory fees, which decreased $76.3 million to
$73.4 million for the nine months ended September 30, 2001 compared to $149.7
million reported in the prior year period. The decrease in investment advisory
fees was primarily due to $35.5 million of incentive fees received in 2000 in
connection with the restructuring of a timber management contract, $14.3 million
of performance fees received in 2000 by the mezzanine fund manager, a $9.8
million legal settlement during the prior year period associated with our timber
management operation and $13.8 million lower investment advisory fees due to
lower average assets under management at Independence Investment LLC in the
current year period. Mortgage origination and servicing fees were $4.7 million
for the nine months ended September 30, 2001 compared to $4.4 million in the
prior year period. Investment management revenues, commissions and other fees
were 0.35% and 0.54% of average advisory assets under management in 2001 and
2000, respectively. Net realized investment gains increased $1.5 million for the
nine months ended September 30, 2001 primarily due to increased securitization
activity at John Hancock Real Estate Finance.
Benefits and expenses were $71.9 million for the nine months ended September 30,
2001, a decrease of $33.5 million, or 31.8%, from $105.4 million reported in the
comparable prior year period. The decrease was primarily due to $13.5 million of
incentive compensation payments related to the receipt of incentive fees from a
timber management contract and a legal settlement during the prior year period
associated with our timber management operation. The Company also paid an $8.6
million performance fee to the management of the mezzanine fund in the prior
year period. In addition, operating expenses decreased $7.9 million at
Independence Investment LLC, primarily compensation expenses, due to lower
average assets under management compared to the prior year period. Operating
expenses for John Hancock Real Estate Finance decreased $2.2 million primarily
due to on-going expense reduction efforts throughout the segment. Other
operating costs and expenses were 0.32% and 0.37% of average advisory assets
under management in 2001 and 2000, respectively. The Segment's effective tax
rate on operating income was 38.9% and 40.8% for the nine months ended September
30, 2001 and 2000, respectively. The effective tax rate for the Institutional
Investment Management Segment is higher than our other business segments
primarily due to state taxes on certain subsidiaries.
38
JOHN HANCOCK FINANCIAL SERVICES, INC.
Corporate and Other Segment
The following table presents certain summary financial data relating to the
Corporate and Other Segment for the periods indicated.
[Enlarge/Download Table]
Three Months Ended Nine Months Ended
September 30, September 30,
2001 2000 2001 2000
------------------------------------------------------
(in millions) (in millions)
Revenues................................................... $442.3 $424.5 $1,354.4 $1,309.4
Benefits and expenses...................................... 426.2 396.0 1,306.2 1,213.2
Income taxes (benefits).................................... (6.2) 4.6 (14.4) 22.9
--------------------------------------------------
Segment after-tax operating income (1)..................... 22.3 23.9 62.6 73.3
--------------------------------------------------
After-tax adjustments: (1)
Net realized investment and other gains (losses), net... (4.0) 7.3 11.7 57.4
Restructuring charges................................... (1.5) (0.1) (1.7) (1.0)
Surplus tax............................................. 0.2 (2.6) 0.2 0.1
Demutualization expenses................................ -- -- -- (9.7)
Other demutualization related costs..................... -- -- -- (0.4)
--------------------------------------------------
Total after-tax adjustments................................ (5.3) 4.6 10.2 46.4
--------------------------------------------------
Income before cumulative effect of accounting changes...... 17.0 28.5 72.8 119.7
Cumulative effect of accounting changes, net of tax........ -- -- (2.6) --
--------------------------------------------------
Net income................................................. $ 17.0 $ 28.5 $ 70.2 $ 119.7
==================================================
(1) See "Adjustments to GAAP Reported Net Income" included in this MD&A.
Three Months Ended September 30, 2001 Compared to Three Months Ended September
30, 2000
Segment after-tax operating income from international operations was $8.9
million for the three months ended September 30, 2001, a decrease of $0.3
million from $9.2 million reported in the comparable prior year period. The
decrease in segment after-tax operating income is primarily due to The Maritime
Life Assurance Company, our majority-owned Canadian subsidiary. Increased
expenses for employee benefits and technology projects and reserve increases for
Group termination experience were largely offset by tax benefits associated with
the reduction in Canadian tax rates.
Segment after-tax operating income from corporate operations was $11.6 million
for the three months ended September 30, 2001, a decrease of $0.1 million from
$11.7 million reported in the comparable prior year period. The decrease was
primarily due to lower net investment income on corporate surplus due to greater
surplus requirements in our other business lines, the stock buyback program and
dividends to stockholders paid for the first time at the end of last year. These
negative variances were almost offset by expense reductions.
The Segment's effective tax rate on operating income was (38.5)% and 16.1% for
the three months ended September 30, 2001 and 2000, respectively. This rate
decreased primarily due to a decrease in the deferred tax liability associated
with contracts entered into to transfer the management of certain lease
investment residuals to a foreign jurisdiction, non-taxable income and a
reduction in Maritime's deferred tax liability to reflect decreased Canadian tax
rates.
Nine Months Ended September 30, 2001 Compared to Nine Months Ended September 30,
2000
Segment after-tax operating income from international operations was $34.9
million for the nine months ended September 30, 2001, an increase of $15.0
million from $19.9 million reported in the comparable prior year period. The
increase in segment after-tax operating income is primarily due to Maritime
where individual life experienced favorable expense, mortality and investment
margins and group insurance benefited from reductions in their waiver of premium
and claim litigation reserves.
39
JOHN HANCOCK FINANCIAL SERVICES, INC.
Segment after-tax operating income from corporate operations was $22.3 million
for the nine months ended September 30, 2001, a decrease of $25.2 million from
$47.5 million reported in the comparable prior year period. The decrease was
primarily due to nonrecurring net investment income on the proceeds from the IPO
in 2000, lower net investment income on corporate surplus due to greater surplus
requirements in our other business lines, the stock buyback program and
dividends to stockholders.
The Segment's effective tax rate on operating income was (29.9)% and 23.8% for
the nine months ended September 30, 2001 and 2000, respectively. This rate
decreased primarily due to a decrease in the deferred tax liability associated
with contracts entered into to transfer the management of certain lease
investment residuals to a foreign jurisdiction, low income housing credits,
non-taxable income and a reduction in Maritime's deferred tax liability to
reflect decreased Canadian tax rates.
General Account Investments
On the effective date of the Plan of Reorganization, the Company's invested
assets were allocated between the closed block and operations outside the closed
block. In view of the similar asset quality characteristics of the major asset
categories in the two portfolios, the invested assets in the closed block have
been combined with the Company's invested assets outside the closed block for
purposes of the following discussion and analysis.
Overall Composition of the General Account
Invested assets, excluding separate accounts, totaled $56.9 billion and $52.2
billion as of September 30, 2001 and December 31, 2000, respectively. The
portfolio composition has not significantly changed at September 30, 2001 as
compared to December 31, 2000. The following table shows the composition of
investments in our general account portfolio.
[Enlarge/Download Table]
As of September 30, As of December 31,
2001 2000
-----------------------------------------------------
Carrying % of Carrying % of
Value Total Value Total
-----------------------------------------------------
(in millions) (in millions)
Fixed maturity securities (1)..... $39,842.1 70.0% $32,573.4 62.4%
Mortgage loans (2)................ 10,678.3 18.8 10,900.0 20.9
Real estate....................... 481.7 0.8 519.0 1.0
Policy loans (3).................. 1,994.9 3.5 1,969.2 3.8
Equity securities................. 1,135.3 2.0 1,372.3 2.6
Other invested assets............. 1,315.8 2.3 1,393.7 2.6
Short-term investments............ 159.2 0.3 214.0 0.4
Cash and cash equivalents (4)..... 1,338.9 2.3 3,280.0 6.3
-----------------------------------------------------
Total invested assets (5)...... $56,946.2 100.0% $52,221.6 100.0%
=====================================================
(1) In addition to bonds, the fixed maturity security portfolio contains
redeemable preferred stock with a carrying value of $746.0 million and
$735.3 million as of September 30, 2001 and December 31, 2000,
respectively. Carrying value is composed of investments categorized as
held-to-maturity, which are carried at amortized cost, and investments
categorized as available-for-sale, which are carried at fair value. The
total fair value of our fixed maturity security portfolio was $39,827.9
million and $32,393.5 million, at September 30, 2001 and December 31,
2000, respectively.
(2) The fair value of the mortgage loan portfolio was $11,469.3 million and
$11,359.6 million as of September 30, 2001 and December 31, 2000,
respectively.
(3) Policy loans are secured by the cash value of the underlying life
insurance policies and do not mature in a conventional sense, but expire
in conjunction with the related policy liabilities.
(4) Cash and cash equivalents are included in total invested assets for the
purposes of calculating yields on the income producing assets for the
Company.
(5) Total Investments on the Company's Consolidated Balance Sheet excludes
amounts for cash and cash equivalents of $1,338.9 million and $3,280.0
million as of September 30, 2001 and December 31, 2000 and closed block
total investments of $8,874.3 million and $8,203.2 million as of September
30, 2001 and December 31, 2000, respectively.
Consistent with the nature of the Company's product liabilities, assets are
heavily oriented toward fixed maturity securities. The Company determines the
allocation of assets primarily on the basis of cash flow and return requirements
of its products and by the level of investment risk.
40
JOHN HANCOCK FINANCIAL SERVICES, INC.
Fixed Maturity Securities. The fixed maturity securities portfolio is
predominantly comprised of low risk, investment grade, publicly and privately
traded corporate bonds and senior tranches of asset-backed securities (ABS) and
mortgage-backed securities (MBS), with the balance invested in government bonds.
The fixed maturity securities portfolio also includes redeemable preferred
stock. As of September 30, 2001, fixed maturity securities represented 70.0% of
general account investment assets with a carrying value of $39.8 billion,
roughly comprised of 55% public securities and 45% private securities. Each year
the Company directs the majority of net cash inflows into investment grade fixed
maturity securities. Typically between 5% and 15% of funds allocated to fixed
maturity securities are invested in below-investment-grade bonds, while
maintaining a policy to limit the overall level of these bonds to no more than
10% of invested assets and the majority of that balance in the BB category.
Allocations are based on an assessment of relative value and the likelihood of
enhancing risk-adjusted portfolio returns. While the Company has profited from
the below-investment-grade asset class in the past, care is taken to manage its
growth strategically by limiting its size relative to the Company's total
assets.
The following table shows the composition by issuer of the fixed maturity
securities portfolio.
Fixed Maturity Securities -- By Issuer
[Enlarge/Download Table]
As of September 30, As of December 31,
2001 2000
-----------------------------------------------------
Carrying % of Carrying % of
Value Total Value Total
-----------------------------------------------------
(in millions) (in millions)
Corporate securities.............. $31,638.2 79.4% $25,193.6 77.4%
MBS/ABS........................... 6,460.7 16.2 5,483.5 16.8
U.S. Treasury securities and
obligations of U.S. government
agencies....................... 217.4 0.5 205.8 0.6
Debt securities issued by foreign
Governments.................... 1,386.2 3.5 1,549.9 4.8
Obligations of states and political
Subdivisions................... 139.6 0.4 140.6 0.4
-----------------------------------------------------
Total........................ $39,842.1 100.0% $32,573.4 100.0%
=====================================================
In keeping with the investment philosophy of tightly managing interest rate
risk, the Company's MBS & ABS holdings are heavily concentrated in commercial
MBS where the underlying loans are largely call protected, which means they are
not pre-payable without penalty prior to maturity at the option of the issuer.
By investing in MBS and ABS securities with relatively predictable repayments,
the Company adds high quality, liquid assets to the portfolios without incurring
the risk of cash flow variability. The Company believes the portion of the
MBS/ABS portfolio subject to prepayment risk as of September 30, 2001 and
December 31, 2000 was limited to 10.0% and 3.3% of total MBS/ABS portfolio and
1.6% and 0.6% of total fixed maturity securities holdings, respectively. The
increase is due to a $500 million portfolio in a new duration neutral strategy
used in the corporate investment segment as a liquid alternative to a cash
portfolio.
The Securities Valuation Office (SVO) of the National Association of Insurance
Commissioners evaluates all public and private bonds purchased as investments by
insurance companies. The SVO assigns one of nine investment categories to each
security it reviews. Category 1 is the highest quality rating, and Category 6 is
the lowest. Categories 1 and 2 are the equivalent of investment grade debt as
defined by rating agencies such as Standard & Poor's (S&P) and Moody's (i.e.,
BBB-/Baa3 or higher), while Categories 3-6 are the equivalent of
below-investment grade securities. SVO ratings are reviewed and may be revised
at least once a year.
The following table sets forth the SVO ratings for our bond portfolio along with
an equivalent S&P rating agency designation. The majority of the bonds are
investment grade, with 87.8% invested in Category 1 and 2 securities as of
September 30, 2001. Below investment grade bonds were 8.4% of total invested
assets as of September 30, 2001. This allocation reflects the Company strategy
of avoiding the unpredictability of interest rate risk in favor of relying on
the Company's bond analysts' ability to better predict credit or default risk.
The bond analysts operate in an industry-based, team-oriented structure that
permits the evaluation of a wide range of below investment grade offerings in a
variety of industries resulting in a well-diversified high yield portfolio. A
majority 61.2% of below investment grade bonds are in category 3, the highest
quality below investment grade. Category 6 bonds, those in or near default,
represent securities that were originally acquired as long-term investments, but
subsequently became
41
JOHN HANCOCK FINANCIAL SERVICES, INC.
distressed. The carrying value of bonds in or near default was $246.0 million
and $216.7 million as of September 30, 2001 and December 31, 2000, respectively.
As of September 30, 2001 and December 31, 2000, $1.6 million and $2.6 million,
respectively, of interest on bonds near default was included in accrued
investment income. It is the Company's policy to reverse any accrued investment
income and cease accruing interest income on bonds in default and accrue
interest income on bonds near default that the Company expects to collect.
Fixed Maturity Securities -- By Quality
[Enlarge/Download Table]
As of September 30, As of December 31,
---------------------------------------------------------------------------------
2001 2000
---------------------------------------------------------------------------------
SVO S&P Equivalent Carrying % of Carrying % of
Rating (1) Designation (2) Value (3) Total Value (3) Total
-----------------------------------------------------------------------------------------------------------------
(in millions) (in millions)
1 AAA/AA/A............. $17,727.0 45.4% $14,614.2 45.9%
2 BBB.................. 16,576.9 42.4 12,877.8 40.5
3 BB................... 2,932.2 7.5 2,793.3 8.8
4 B.................... 1,109.2 2.8 1,066.4 3.3
5 CCC and lower........ 504.8 1.3 269.7 0.8
6 In or near default... 246.0 0.6 216.7 0.7
---------------------------------------------------------------------------------
Total................ $39,096.1 100.0% $31,838.1 100.0%
=================================================================================
(1) With respect to securities that are awaiting an SVO rating, the Company
has assigned a rating based on an analysis that it believes is equivalent
to that used by the SVO.
(2) Comparisons between SVO and S&P ratings are published by the National
Association of Insurance Commissioners.
(3) Does not include redeemable preferred stock with a carrying value of
$746.0 million and $735.3 million as of September 30, 2001 and December
31, 2000, respectively.
Mortgage Loans. As of September 30, 2001 and December 31, 2000, the Company held
mortgage loans with a carrying value of $10.7 billion and $10.9 billion,
respectively, including $2.4 billion and $2.5 billion, respectively at each
period end of agricultural loans, and $1.3 billion and $1.2 billion,
respectively, of loans managed by our majority-owned Canadian subsidiary,
Maritime Life Assurance Company, of which $0.6 billion at each period end were
government-insured by the Canada Mortgage and Housing Corporation (CMHC).
42
JOHN HANCOCK FINANCIAL SERVICES, INC.
Investment Results
The following table summarizes the Company's investment results for the periods
indicated. Overall, the yield, net of investment expenses, on the general
account portfolio decreased from the three months ended and the nine months
ended September 30, 2000. The lower yield was impacted by floating rate
instruments which reflect a decrease in the three-month LIBOR of 420 basis
points, and the result of scheduled maturities rolling over into new investments
with less favorable interest rates and narrower acquisition spreads than those
present in our 2000 fixed maturity portfolio. The inflow of new cash was
invested at rates that were less than the overall portfolio earnings rate during
the first nine months of 2000. Indicative of this environment, between September
2000 and September 2001, the 10-year U.S. Treasury rate fell by 132 basis
points, while Moody's seasoned BAA spreads decreased 9 basis points.
[Enlarge/Download Table]
Three Months Ended Nine Months Ended
As of As of As of As of
September 30, 2001 September 30, 2000 September 30, 2001 September 30, 2000
------------------------------------------------------------------------------------
Yield Amount Yield Amount(2) Yield Amount Yield Amount(2)
------------------------------------------------------------------------------------
(in millions) (in millions) (in millions) (in millions)
General account
assets-excluding policy loans
Gross income 7.51% $ 1,016.5 8.20% $ 992.2 7.75% $ 3,058.8 8.31% $ 2,962.6
Ending assets-excluding
policy loans 54,951.3 48,268.2 54,951.3 48,268.2
Policy loans
Gross income 5.99% 29.8 5.73% 27.9 6.19% 92.0 6.03% 87.9
Ending assets 1,994.9 1,950.1 1,994.9 1,950.1
Total gross income 7.46% 1,046.3 8.11% 1,020.1 7.70% 3,150.8 8.22% 3,050.5
Less: investment expenses (53.5) (68.3) (181.1) (206.2)
-------------- -------------- ------------- ------------
Net investment
Income (1) 7.08% $ 992.8 7.57% $ 951.8 7.25% $ 2,969.7 7.67% $ 2,844.3
============== ============== ============= ============
(1) Total Company's net investment income as shown on the Unaudited
Consolidated Statements of Income excludes amounts for the closed block of
$167.5 million and $155.8 million for the three months ended September 30,
2001 and September 30, 2000, and $500.0 million and $423.1 million for the
nine months ended September 30, 2001 and the period from February 1, 2000
through September 30, 2000, respectively.
(2) Prior period results have been restated to conform to the 2001
presentation due to a reclassification of investment returns related to
equity indexed universal life insurance policies sold through Maritime, a
majority-owned subsidiary of the Company, to benefits to policyholders.
Liquidity and Capital Resources
Liquidity describes the ability of a company to generate sufficient cash flows
to meet the cash requirements of its business operations. The assets of the
Company consist of the outstanding capital stock of the Life Company, and
investments in international subsidiaries. The Company's cash flow consists of
dividends from its subsidiaries offset by expenses and stock repurchases. As a
holding company, the Company's ability to meet its cash requirements, pay
interest on any debt, pay expenses related to its affairs and pay dividends on
its common stock substantially depends upon dividends from its subsidiaries.
State insurance laws generally restrict the ability of insurance companies to
pay cash dividends in excess of prescribed limitations without prior approval.
The Life Company's limit is the greater of 10% of the prior year-end statutory
surplus or the prior calendar year's statutory net gain from operations of the
Life Company. The ability of the Life Company, the Company's primary operating
subsidiary, to pay shareholder dividends is and will continue to be subject to
restrictions set forth in the insurance laws and regulations of Massachusetts,
its domiciliary state. The Massachusetts insurance law limits how and when the
Life Company can pay shareholder dividends. The Life Company, in the future,
could also be viewed as being commercially domiciled in New York. If so,
dividend payments may also be subject to New York's holding company act as well
as Massachusetts' law. The Company currently does not expect such regulatory
requirements to impair its ability to meet its liquidity and capital needs.
However, the Company can give no assurance it will declare or pay dividends on a
regular basis. The Company did not declare or pay a dividend to shareholders in
the nine months ended September 30, 2001 or 2000. On November 5, 2001 the
Company announced that its Board of Directors has declared an annual dividend to
shareholders of
43
JOHN HANCOCK FINANCIAL SERVICES, INC.
$0.31 per common share payable on December 13, 2001 to shareholders of record on
November 16, 2001. In the fourth quarter of 2000, the Company announced that its
Board of Directors declared an annual dividend to shareholders of $0.30 per
common share payable on December 14, 2000 to shareholders of record on November
20, 2000.
In March 2001, in accordance with a filing made with the Commissioner of
Insurance for the Commonwealth of Massachusetts, the Life Company paid a
dividend to the Company in the amount of $250.0 million. None of this dividend
was classified as extraordinary by state regulators. The funds from these
dividends, together with the net proceeds of the IPO, were principally
designated to repurchase common stock of the Company. In the fourth quarter of
2001, the Life Company will dividend ownership of Direct Foreign Operations
(DFO) and its remaining 55% ownership of John Hancock Canadian Holdings to the
Company. In addition, in the fourth quarter of 2001, the Life Company will pay a
cash dividend of approximately $11.0 million to the Company. In the nine months
ended September 30, 2000, the Life Company declared $466.0 million and paid
$200.0 million in dividends to the Company. None of this dividend was classified
as extraordinary by state regulators. The funds from these dividends in 2000,
together with the net proceeds of the IPO, were principally designated to
repurchase common stock of the Company and fund the December 2000 dividend to
shareholders.
Sources of cash for the Company's insurance subsidiaries are from premiums,
deposits and charges on policies and contracts, investment income, maturing
investments, and proceeds from sales of investment assets. In addition to the
need for cash flow to meet operating expenses, our liquidity requirements relate
principally to the liabilities associated with various life insurance, annuity,
long term care, and structured investment products, and to the funding of
investments in new products, processes, and technologies. Product liabilities
include the payment of benefits under life insurance, annuity, long term care,
and structured investment products and the payment of policy surrenders,
withdrawals and policy loans. The Company periodically adjusts its investment
policy to respond to changes in short-term and long-term cash requirements and
provide adequate funds to pay benefits without forced sales of investments.
The liquidity of our insurance operations is also related to the overall quality
of our investments. As of September 30, 2001, $34,303.9 million, or 87.8% of the
fixed maturity securities held by us and rated by Standard & Poor's Ratings
Services, a division of the McGraw-Hill Companies, Inc. (S&P) or the National
Association of Insurance Commissioners were rated investment grade (BBB or
higher by S&P or 1 or 2 by the National Association of Insurance Commissioners).
The remaining $4,792.2 million, or 12.2%, of fixed maturity investments, and
8.4% of invested assets, were rated non-investment grade. For additional
discussion of our investment portfolio see the General Account Investments
section above in this Management's Discussion and Analysis of Financial
Condition and Results of Segment Operations.
We employ an asset/liability management approach tailored to the specific
requirements of each of our product lines. Each product line has an investment
strategy based on the specific characteristics of the liabilities in the product
line. As part of this approach, we develop investment policies and operating
guidelines for each portfolio based upon the return objectives, risk tolerance,
liquidity, and tax and regulatory requirements of the underlying products and
business segments.
Net cash provided by operating activities was $1,553.6 million and $815.8
million for the nine months ended September 30, 2001 and 2000, respectively. The
increase in 2001 compared to 2000 was primarily due to a smaller net other asset
and other liability increase. This smaller increase was largely a result of a
derivative accounting change in reporting affecting non-cash items. In addition,
there was an a initial cash transfer to the closed block of $158.6 million
during the first nine months of 2000, which did not recur in the current period.
Net cash used in investing activities was $5,312.2 million and $1,070.5 million
for the nine months ended September 30, 2001 and 2000, respectively. The
increase in cash used in 2001 as compared to 2000 resulted from approximately
$7,329.7 million of acquisitions of fixed maturity securities in excess of sales
of fixed maturity securities during the nine months ended September 30, 2001,
compared to approximately $3,200.4 million in the prior year period.
Net cash provided by financing activities was $1,948.3 million and $473.9
million, for the nine months ended September 30, 2001 and 2000, respectively.
The increase in 2001 as compared to 2000 resulted from approximately $3,006.6
million increase in deposits on universal life insurance and investment type
contracts, partially offset by approximately $706.8 million increase in cash
payments made on withdrawals of universal life insurance and investment-type
contracts. This activity was partially offset by non-recurring cash activity
related to the IPO in the
44
JOHN HANCOCK FINANCIAL SERVICES, INC.
first quarter of 2000. In addition, the Company used $492.2 million in cash to
acquire treasury stock during the nine months ended September 30, 2001, with no
activity for the nine months ended September 30, 2000.
On June 7, 2001 President Bush signed into law The Economic Growth and Tax
Relief Act of 2000 (HR 1836). Among its many provisions the law creates three
distinct periods of estate law during the next 20 years. First, during tax years
2002 through 2009, it provides a lengthy phase-in period of estate tax rate
reductions and estate transfer exemption increases. Second, in 2010, the bill
provides a brief repeal period, eliminating the estate tax for one year. Third,
and lastly, commencing in 2011, the estate tax law reverts back to present law,
as if HR 1836 had never existed. The Company' expects that this law will impact
the sales of survivorship products used in estate planning. The Company expects
to mitigate this effect through the sale of single life and corporate-owned life
insurance (COLI) products, as well as through ongoing collaboration with its
producers to increase the sale of life insurance products to meet consumers'
protection and asset accumulation needs.
On October 26, 2000, the Company announced that its Board of Directors
authorized a stock repurchase program, with no termination date, under which the
Company will purchase up to $500 million of its outstanding common stock. On
August 6, 2001, the Company's board of directors authorized a $500 million
increase to the stock repurchase program, bringing the total amount authorized
to be used to repurchase Company stock to $1.0 billion. Under the stock
repurchase program, purchases will be made from time to time, depending on
market conditions, business opportunities and other factors, in the open market
or through privately negotiated transactions, and which may be, if deemed
appropriate, through a systematic program. During the nine months ended
September 30, 2001, the Company repurchased 13.1 million shares with a total
cost of $492.2 million. Since the inception of the Program through September 30,
2001, the Company has repurchased 16.1 million shares with a total cost of
$584.0 million.
Cash flow requirements also are supported by a committed line of credit of $1.0
billion. The line of credit agreement provides for two facilities: one for $500
million pursuant to a 364-day commitment (renewable on August 3, 2002) and a
second for $500 million pursuant to a five-year facility (renewable on August 3,
2005). The line of credit is available for general corporate purposes. The line
of credit agreement contains various covenants, among these being that
shareholders' equity meet certain requirements. To date, we have not borrowed
any amounts under the line of credit.
As of September 30, 2001, we had $1,166.8 million of debt outstanding consisting
of $451.0 million of debt classified as short term and $715.8 million classified
as long term, including $447.3 million of surplus notes. The commercial paper
program established at the Company has replaced the commercial paper program at
its indirect subsidiary, John Hancock Capital Corporation. During the nine
months ended September 30, 2001, $1,985.0 million in commercial paper was issued
by the Company and $362.0 million was outstanding at September 30, 2001.
The Company has an effective shelf registration statement which provides for the
possible issuance, from time to time, of up to $1.0 billion of the Company's
debt and equity securities. To date, no debt or equity securities have been
issued under the shelf registration.
The risk-based capital standards for life insurance companies, as prescribed by
the National Association of Insurance Commissioners, establish a risk-based
capital ratio comparing adjusted surplus to required surplus for each of our
United States domiciled insurance subsidiaries. If the risk-based capital ratio
falls outside of acceptable ranges, regulatory action may be taken ranging from
increased information requirements to mandatory control by the domiciliary
insurance department. The risk-based capital ratios of all our insurance
subsidiaries as of year end were above the ranges that would require regulatory
action.
We maintain reinsurance programs designed to protect against large or unusual
losses. Based on our review of our reinsurers' financial statements and
reputations in the reinsurance marketplace, we believe that our reinsurers are
financially sound, and, therefore, that we have no significant exposure to
uncollectable reinsurance in excess of uncollectable amounts already recognized
in our unaudited consolidated financial statements.
Given the historical cash flow of our subsidiaries and current financial
results, management believes that the cash flow from the operating activities
over the next year will provide sufficient liquidity for our operations, as well
as to satisfy debt service obligations and to pay other operating expenses.
Although we anticipate that we will be able to meet our cash requirements, we
can give no assurances in this regard.
45
JOHN HANCOCK FINANCIAL SERVICES, INC.
Important Factors that May Affect Future Results
The statements, analyses, and other information contained herein relating to
trends in the Company's operations and financial results, the markets for the
Company's products, the future development of the Company's business, and the
contingencies and uncertainties to which the Company may be subject, as well as
other statements including words such as "anticipate," "believe," "plan,"
"estimate," "expect," "intend," "will," "should," "may," and other similar
expressions, are "forward-looking statements" under the Private Securities
Litigation Reform Act of 1995. Such statements are made based upon management's
current expectations and beliefs concerning future events and their effects on
the Company, which may not be those anticipated by management. The Company's
actual results may differ materially from the results anticipated in these
forward-looking statements.
These forward-looking statements are subject to risks and uncertainties
including, but not limited to, the following: (1) a significant downgrade in our
ratings for claims-paying ability and financial strength may lead to policy and
contract withdrawals and materially harm our ability to market our products; (2)
elimination of Federal tax benefits for our products and other changes in laws
and regulations that could adversely affect sales of our insurance and
investment advisory products; (3) as a holding company, we depend on dividends
from our subsidiaries and the Massachusetts insurance law may restrict the
ability of the Life Company to pay dividends to us; (4) we face increasing
competition in our retail and institutional businesses from mutual fund
companies, banks and investment management firms as well as from other insurance
companies; (5) a decline or increased volatility in the securities markets, and
other changes in general economic conditions, may adversely affect our business,
particularly our variable life insurance, mutual fund, variable annuity and
investment business; (6) our life insurance sales are highly dependent on a
third party distribution relationship; (7) customers may not be responsive to
new or existing products or distribution channels, (8) interest rate volatility
may adversely affect our profitability; (9) our net income and revenues will
suffer if customers surrender annuities and variable and universal life
insurance policies or redeem shares of our open-end mutual funds; (10) the
independent directors of our variable series trusts and of our mutual funds
could reduce the compensation paid to us or could terminate our contracts to
manage the funds; (11) under our Plan of Reorganization, we were required to
establish the closed block, a special arrangement for the benefit of a group of
our policyholders, and we may have to fund deficiencies in our closed block, and
any overfunding of the closed block will benefit only the holders of policies
included in the closed block, not our stockholders; (12) there are a number of
provisions in our Plan of Reorganization, our Restated Certificate of
Incorporation and by-laws, laws applicable to us, agreements that we have
entered into with our senior management, and our stockholder rights plan, that
will prevent or discourage takeovers and business combinations that our
stockholders might otherwise consider to be in their best interests; (13) we
will face losses if the claims on our insurance products, or reductions in rates
of mortality on our annuity products, are greater than we projected; (14) we
face risks relating to our investment portfolio; (15) the market price of our
common stock may decline if persons who received common stock as compensation in
the reorganization sell their stock in the public market; (16) we may experience
volatility in net income due to changes in standards for accounting for
derivatives and other changes; (17) our United States insurance companies are
subject to risk-based capital requirements and possible guaranty fund
assessments; (18) the National Association of Insurance Commissioners'
codification of statutory accounting practices adversely affected the statutory
surplus of the Life Company; (19) we may be unable to retain personnel who are
key to our business; (20) we face risks from assumed reinsurance business in
respect of personal accident insurance and the occupational accident component
of workers compensation insurance; (21) litigation and regulatory proceedings
may result in financial losses, harm our reputation and divert management
resources, and (22) we face unforeseen liabilities arising from our acquisitions
and dispositions of businesses.
Readers are also directed to other risks and uncertainties discussed, as well as
to further discussion of the risks described above, in other documents filed by
the Company with the United States Securities and Exchange Commission. The
Company specifically disclaims any obligation to update or revise any
forward-looking information, whether as a result of new information, future
developments, or otherwise.
46
JOHN HANCOCK FINANCIAL SERVICES, INC.
ITEM 3. QUANTITATIVE and QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Capital Markets Risk Management
The Company maintains a disciplined, comprehensive approach to managing capital
market risks inherent in its business operations. To mitigate these risks, and
effectively support Company objectives, investment operations are organized and
staffed to focus investment management expertise on specific classes of
investments, with particular emphasis placed on private placement markets. In
addition, a dedicated unit of asset / liability risk management (ALM)
professionals centralizes the implementation of its interest rate risk
management program. As an integral component of its ALM program, derivative
instruments are used in accordance with risk reduction techniques established
through Company policy and with formal approval granted from the New York
Insurance Department. The Company's use of derivative instruments is monitored
on a regular basis by senior management and reviewed quarterly with the
Company's Committee of Finance.
The Company's principal capital market exposures are credit and interest rate
risk, although we have certain exposures to changes in equity prices and foreign
currency exchange rates. Credit risk pertains to the uncertainty associated with
the ability of an obligor or counterparty to continue to make timely and
complete payments of contractual principal and/or interest. Interest rate risk
pertains to the market value fluctuations that occur within fixed maturity
securities or liabilities as market interest rates move. Equity and foreign
currency risk pertain to price fluctuations, associated with the Company's
ownership of equity investments or non-US dollar denominated investments, driven
by dynamic market environments.
Credit Risk
The Company manages the credit risk inherent in its fixed maturity securities by
applying strict credit and underwriting standards, with specific limits
regarding the proportion of permissible below investment grade holdings. We also
diversify our fixed maturity securities with respect to investment quality,
issuer, industry, geographical, and property-type concentrations. Where
possible, consideration of external measures of creditworthiness, such as
ratings assigned by nationally recognized rating agencies, supplement our
internal credit analysis. The Company uses simulation models to examine the
probability distribution of credit losses to ensure that it can readily
withstand feasible adverse scenarios. In addition, the Company periodically
examines, on various levels of aggregation, its actual default loss experience
on significant asset classes to determine if the losses are consistent with the
levels assumed in product pricing and rating agencies' quality-specific cohort
default data. These tests have generally found the Company's aggregate
experience to be favorable relative to these external benchmarks and consistent
with priced for levels.
As of September 30, 2001, the Company's fixed maturity portfolio was comprised
of 87.8% investment grade securities and 12.2% below-investment-grade
securities. These percentages are consistent with recent experience and
indicative of the Company's long-standing investment philosophy of pursuing
moderate amounts of credit risk in return for higher expected returns. We
believe that credit risk can be successfully managed given our proprietary
credit evaluation models and experienced personnel.
Interest Rate Risk
The Company maintains a tightly controlled approach to managing its potential
interest rate risk. Interest rate risk arises from many of our primary
activities, as we invest substantial funds in interest-sensitive assets to
support the issuance of our various interest-sensitive liabilities, primarily
within our Protection, Asset Gathering and Guaranteed & Structured Financial
Products Segments.
The Company manages interest rate sensitive segments of the business, and the
supporting investments, under one of two broadly defined risk management methods
designed to provide an appropriate matching of assets and liabilities. For
guaranteed rate products, where contractual liability cash flows are highly
predictable (e.g., GICs or immediate annuities) sophisticated duration-matching
techniques are utilized to manage the segment's exposure to both parallel and
non-parallel yield curve movements. Typically this type of management is
expressed as a duration tolerance of only +/- .05 years, with other measures
used for limiting exposure to non-parallel risk. For non-guaranteed rate
products, such as whole life insurance or single premium deferred annuities,
liability cash flows are less predictable. Therefore, a conventional
duration-matching strategy is less effective at managing the inherent risk. For
these products, we manage interest rate risk based on scenario-based portfolio
modeling that seeks to identify
47
JOHN HANCOCK FINANCIAL SERVICES, INC.
the most appropriate investment strategy given probable policyholder behavior
and liability crediting needs under a wide range of interest rate environments.
As of September 30, 2001, there have been no material changes to the interest
rate exposures as reported in the Company's 2000 Form 10-K.
Derivative Instruments
The Company uses a variety of derivative financial instruments, including swaps,
caps, floors, and exchange traded futures contracts, in accordance with Company
policy. Permissible derivative applications include the reduction of economic
risk (i.e., hedging) related to changes in yields, price, cash flows, and
currency exchange rates. In addition, certain limited applications of "income
generation" are allowed. Examples of this type of use include the purchase of
call options to offset the sale of embedded options in Company liability
issuance or the purchase of swaptions to offset the purchase of embedded put
options in certain investments. The Company does not make a market or trade
derivatives for the purpose of speculation.
The Company's Investment Compliance Unit monitors all derivatives activity for
consistency with internal policies and guidelines. All derivatives trading
activity is reported monthly to the Company's Committee of Finance for review,
with a comprehensive governance report provided jointly each quarter by the
Company's Derivatives Supervisory Officer and Chief Investment Compliance
Officer. The table below reflects the Company's derivative positions that are
managing interest rate risk as of September 30, 2001. The notional amounts in
the table represent the basis on which pay or receive amounts are calculated and
are not reflective of credit risk. These exposures represent only a point in
time and will be subject to change as a result of ongoing portfolio and risk
management activities.
[Enlarge/Download Table]
As of September 30, 2001
-------------------------------------------------------------------------------
Fair Value
-----------------------------------------------
Weighted +100 Basis
Notional Average Term -100 Basis Point As of Point
Amount (Years) Change 9/30/01 Change
-------------------------------------------------------------------------------
(in millions, except for Weighted Average Term)
Interest rate swaps.............. $13,058.4 7.8 $(754.7) $(518.7) $(284.9)
CMT swaps........................ 393.0 1.2 6.4 6.4 6.4
Futures contracts................ 811.8 8.5 (33.2) (0.7) 31.1
Interest rate caps............... 337.0 5.0 0.9 2.1 4.2
Interest rate floors............. 8,328.0 8.7 189.0 82.0 36.8
Swaptions........................ 30.0 23.7 (3.5) (1.5) (0.6)
------------------ -----------------------------------------------
Totals...................... $22,958.2 8.0 $(595.1) $(430.4) $(207.0)
================== ===============================================
Our non-exchange-traded derivatives are exposed to the possibility of loss from
a counterparty failing to perform its obligations under terms of the derivative
contract. We believe the risk of incurring losses due to nonperformance by our
counterparties is remote. To manage this risk, Company procedures include the
(a) on-going evaluation of each counterparty's credit ratings, (b) the
application of credit limits and monitoring procedures based on an internally
developed, scenario-based, risk assessment system, (c) monthly reporting of each
counterparty's "potential exposure", (d) master netting agreements and, where
appropriate, (e) collateral agreements. Futures contracts trade on organized
exchanges and, therefore, have effectively no credit risk.
48
JOHN HANCOCK FINANCIAL SERVICES, INC.
PART II OTHER INFORMATION
ITEM 6. EXHIBITS and REPORTS on FORM 8-K
(a) Exhibits
Exhibit
Number Description
------ -----------
10.25 Employment Continuation Agreement between John Hancock Life
Insurance Company, John Hancock Financial Services, Inc. and Michael
A, Bell (+)
10.26 Second Amended and Restated Employment Continuation Agreement
between John Hancock Life Insurance Company, John Hancock Financial
Services, Inc. and Thomas E. Moloney.(+)
10.27 Second Amended and Restated Employment Continuation Agreement
between John Hancock Life Insurance Company, John Hancock Financial
Services, Inc. and David F. D'Alessandro.(+)
10.28 Second Amended and Restated Employment Continuation Agreement
between John Hancock Life Insurance Company, John Hancock Financial
Services, Inc. and Derek Chilvers.(+)
10.29 Second Amended and Restated Employment Continuation Agreement
between John Hancock Life Insurance Company, John Hancock Financial
Services, Inc. and Maureen Ford.(+)
10.30 Second Amended and Restated Employment Continuation Agreement
between John Hancock Life Insurance Company, John Hancock Financial
Services, Inc. and Robert Walters.(+)
10.31 Second Amended and Restated Employment Continuation Agreement
between John Hancock Life Insurance Company, John Hancock Financial
Services, Inc. and John M. DeCiccio.(+)
10.32 Amended and Restated Employment Continuation Agreement between John
Hancock Life Insurance Company, John Hancock Financial Services,
Inc. and Wayne A. Budd.(+)
----------------
(+) Management Contract or Compensatory Plan or Arrangement.
(b) Reports on Form 8-K.
On August 3, 2001, the Company filed a Current Report on Form 8-K, dated August
3, 2001, reporting under Item 5 thereof the Company's operating results for the
second quarter of 2001.
On September 17, 2001, the Company filed a Current Report on Form 8-K, dated
September 17, 2001, reporting under Item 5 thereof the non-material impact of
the terrorist acts of September 11, 2001 on the Company's financial strength.
49
JOHN HANCOCK FINANCIAL SERVICES, INC.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended,
the Registrant has duly caused this Report to be signed on its behalf by the
undersigned thereunto duly authorized.
JOHN HANCOCK FINANCIAL SERVICES, INC.
Date: November 13, 2001 By: /s/ THOMAS E. MOLONEY
---------------------
Thomas E. Moloney
Senior Executive
Vice President and
Chief Financial Officer
50
EXHIBITS INDEX
Exhibit
Number Description
------ -----------
10.25 Employment Continuation Agreement between John Hancock Life
Insurance Company, John Hancock Financial Services, Inc. and Michael
A, Bell (+)
10.26 Second Amended and Restated Employment Continuation Agreement
between John Hancock Life Insurance Company, John Hancock Financial
Services, Inc. and Thomas E. Moloney.(+)
10.27 Second Amended and Restated Employment Continuation Agreement
between John Hancock Life Insurance Company, John Hancock Financial
Services, Inc. and David F. D'Alessandro.(+)
10.28 Second Amended and Restated Employment Continuation Agreement
between John Hancock Life Insurance Company, John Hancock Financial
Services, Inc. and Derek Chilvers.(+)
10.29 Second Amended and Restated Employment Continuation Agreement
between John Hancock Life Insurance Company, John Hancock Financial
Services, Inc. and Maureen Ford.(+)
10.30 Second Amended and Restated Employment Continuation Agreement
between John Hancock Life Insurance Company, John Hancock Financial
Services, Inc. and Robert Walters.(+)
10.31 Second Amended and Restated Employment Continuation Agreement
between John Hancock Life Insurance Company, John Hancock Financial
Services, Inc. and John M. DeCiccio.(+)
10.32 Amended and Restated Employment Continuation Agreement between John
Hancock Life Insurance Company, John Hancock Financial Services,
Inc. and Wayne A. Budd.(+)
----------------
(+) Management Contract or Compensatory Plan or Arrangement.
51
Dates Referenced Herein and Documents Incorporated by Reference
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