Filing Scope and Business Context
Important identity note: The supplied filing is for American Equity Investment Life Holding Company (NYSE: AEL), not American National Group Inc. It is a Form 10-K for the fiscal year ended December 31, 2013, with unaudited fourth-quarter information included.
The company is a single-segment life insurer focused primarily on fixed index and fixed-rate annuities, distributed through approximately 45 national marketing organizations and more than 27,000 independent agents. Life insurance is a smaller business. The company operates in all 50 states and the District of Columbia.
Key Financial Metrics
| Metric | 2013 | 2012 | Change |
|---|---|---|---|
| Total revenues | $2.611 billion | $1.652 billion | +58% |
| Net income | $253.3 million | $57.8 million | +338% |
| Operating income | $163.4 million | $110.2 million | +48% |
| Diluted EPS | $3.38 | $0.89 | +280% |
| Net investment income | $1.384 billion | $1.287 billion | +8% |
| Operating cash flow | $862.7 million | $784.3 million | +10% |
| Aggregate investment spread | 2.72% | 2.70% | +2 basis points |
| Average yield on invested assets | 4.98% | 5.28% | -30 basis points |
| Aggregate cost of money | 2.26% | 2.58% | -32 basis points |
Net income margin was approximately 9.7% of reported revenue; operating income margin was approximately 6.3%. These margins are materially affected by fair-value changes in derivatives and embedded derivatives and therefore are not necessarily representative of recurring profitability.
Sales, Assets, Capital and Liquidity
- Annuity deposits before coinsurance increased 7% to $4.212 billion; net deposits after coinsurance were $4.030 billion.
- Fixed index annuities represented approximately 92% of deposits before coinsurance, and approximately 97% of fixed index sales were premium-bonus products.
- Total investments increased to $30.347 billion from $27.537 billion; total assets increased to $39.621 billion from $35.133 billion.
- Policy benefit reserves increased to $35.790 billion from $31.774 billion.
- Cash and cash equivalents were $897.5 million at year-end, down from $1.269 billion.
- Net cash provided by operating activities was $862.7 million, while investing activities used $3.879 billion and financing activities provided $2.646 billion. Year-end cash declined by $371.0 million.
- Approximately 94.7% of fixed maturity securities were investment grade under NRSRO ratings; the filing states that 98% were investment grade under NAIC designations.
- American Equity Life reported statutory capital and surplus of $1.871 billion and a risk-based capital ratio of 344%, up from 332% in 2012.
- For 2014, American Equity Life could distribute up to $195.0 million without prior Iowa Insurance Commissioner approval, subject to statutory and contractual restrictions.
Debt and Financing
- Notes payable increased to $550.0 million from $309.9 million, primarily following issuance of $400 million of 6.625% senior unsecured notes due July 2021.
- Subordinated debentures totaled $246.1 million.
- The company retired $184 million of convertible notes in 2013, paying cash and issuing approximately 5.5 million common shares; the transactions produced a $32.5 million pretax loss on extinguishment of debt.
- Approximately $206 million of net proceeds from the 2021 notes remained at year-end and were intended for potential retirement or repurchase of $160.3 million of outstanding convertible notes.
- The company entered into a new $140 million revolving credit facility maturing in November 2017; no borrowings were outstanding at December 31, 2013.
Material Changes Versus Prior Comparable Period
- Reported earnings increased sharply, driven largely by a $1.076 billion derivative fair-value gain in 2013 versus a $221.1 million gain in 2012. This included gains on call options and the 2015 notes hedges and is a significant non-recurring or volatile component.
- Index annuity benefits increased 57% to $1.273 billion, including $908.7 million of index credits versus $447.4 million in 2012.
- Amortization of deferred sales inducements increased 190% to $253.1 million, and amortization of deferred policy acquisition costs increased 122% to $365.5 million.
- Net realized investment gains improved to $40.6 million from a $6.5 million loss; net OTTI losses recognized in operations declined to $6.2 million from $14.9 million.
- Accumulated other comprehensive income fell to $46.2 million from $686.8 million, primarily because rising interest rates reduced the fair value of available-for-sale investments. Gross unrealized losses increased to $861.4 million from $83.9 million.
- Book value per share declined to $19.40 from $27.46, while book value per share excluding AOCI increased to $18.75 from $16.49.
- Life subsidiary statutory net income increased to approximately $205.2 million from $82.0 million, and statutory capital and surplus increased from $1.659 billion.
- The annual common dividend increased to $0.18 per share from $0.15.
Fourth-Quarter 2013 Information
| Metric | Q4 2013 | Q4 2012 |
|---|---|---|
| Total revenues | $837.3 million | $304.7 million |
| Net income | $51.0 million | $36.4 million |
| Diluted EPS | $0.65 | $0.55 |
| Loss on extinguishment of debt | $31.0 million | Not reported |
Quarterly results are substantially affected by index performance and derivative fair-value accounting. The filing also revised prior quarterly presentation of premiums and benefits for classification errors related to life-contingent immediate annuities; management concluded the errors were not material to prior periods.
Guidance, Outlook, Risks and Unusual Items
- Management intended to continue reducing policyholder crediting rates where possible, with a stated objective of restoring the investment spread to a 3.00% target. Management estimated approximately 0.60% of room remained before minimum guaranteed rates would be reached across the book.
- Management expected the low-interest-rate environment to continue affecting investment yields, annuity pricing, product sales and spreads. It also expected to remain fully invested after excess liquidity caused by government agency bond calls during 2012 and part of 2013.
- Future sales growth is constrained by statutory capital, rating-agency requirements, reinsurance capacity and available liquidity. Management stated that external capital could be required if growth exceeded internal capital generation.
- Interest-rate risk is significant: a modeled 40-basis-point increase in rates was estimated to reduce fixed maturity fair value by approximately $922.9 million and reduce stockholders’ equity by approximately $250.8 million through AOCI and related adjustments.
- Derivative and embedded-derivative fair values create substantial earnings volatility. A 100-basis-point increase in the discount rate used for fixed index annuity embedded derivatives would reduce reserves by $279.3 million, with offsetting effects on deferred acquisition costs and sales inducements.
- Reinsurance counterparties include EquiTrust and Athene. The company remains liable to policyholders if reinsurers fail to perform. Coinsurance deposits were approximately $0.9 billion with EquiTrust and $2.1 billion with Athene at year-end.
- The company recorded a $21.2 million estimated liability for a purported class-action settlement concerning suitability of annuity sales to persons over age 65. The settlement received court approval in January 2014 but remained subject to appeal and completion of the claims process.
- Guaranty-fund assessment expense was unusually high in 2013, including $8.5 million related to the insolvency of Executive Life Insurance Company of New York.
- Commercial mortgage loan commitments totaled $79.6 million, and unfunded commitments included $24.4 million to limited partnerships and $20.8 million to secured bank loans.
- Principal risks include prolonged low or rapidly rising interest rates, spread compression, policyholder surrenders, credit defaults, mortgage-loan losses, investment impairments, reinsurance counterparty failure, regulatory and tax changes, litigation, ratings downgrades, and information-technology failures.
Most Important Facts to Verify
- Verify the issuer identity: the source filing is for American Equity Investment Life Holding Company, not American National Group Inc.
- Separate recurring operating income of $163.4 million from GAAP net income of $253.3 million and assess the impact of the $1.076 billion derivative fair-value gain.
- Review the sustainability of the 2.72% investment spread against the 3.00% target, minimum guaranteed crediting rates and declining portfolio yields.
- Assess the $861.4 million of gross unrealized investment losses, the resulting decline in AOCI and sensitivity to further rate increases.
- Review debt maturities, convertible-note repurchase plans, the 2021 notes, credit-facility covenants and potential dilution from convertible notes, warrants and equity issuance.
- Evaluate statutory capital, the 344% RBC ratio, the $195 million dividend capacity and the effect of future sales growth on insurer capital and ratings.
- Confirm the final cost and appeal status of the $21.2 million class-action settlement and any other litigation or regulatory contingencies.
- Review reinsurance trust collateral and counterparty credit exposure, particularly the company’s continuing liability for ceded policy obligations.