American Equity Investment Life Holding Company — Q1 2012 Form 10-Q
Reporting period: Three months ended March 31, 2012; filed May 7, 2012. The provided filing identifies the registrant as American Equity Investment Life Holding Company, not American National Group Inc. The company specializes in individual annuities, primarily deferred annuities, and also sells life insurance.
Financial performance and position
<>| Metric | Q1 2012 | Q1 2011 / Year-end 2011 |
|---|---|---|
| Total revenues | $599.7 million | $452.9 million |
| Income before taxes | $16.1 million | $48.3 million |
| Net income | $10.5 million | $31.3 million |
| Diluted EPS | $0.16 | $0.48 |
| Operating income, non-GAAP | $29.8 million | $30.6 million |
| Net cash from operating activities | $457.7 million | $239.7 million |
| Total assets | $33.0 billion | $30.9 billion at December 31, 2011 |
| Stockholders’ equity | $1.37 billion | $1.41 billion at December 31, 2011 |
| Cash and cash equivalents | $2.53 billion | $405.0 million at December 31, 2011 |
Revenue growth was driven principally by higher net investment income and derivative fair-value gains. These benefits were largely offset by a $230.8 million increase in the fair value of embedded derivative liabilities, resulting in substantially lower GAAP net income. The effective tax rate was 35.1% in both periods.
- Net investment income increased 12% to $326.9 million, reflecting growth in annuity assets, while average invested-asset yield declined to 5.61% from 5.96%.
- The reported investment spread declined to 2.93% from 3.14%; adjusted spread was 2.99% versus 3.12%.
- Annuity deposits before coinsurance decreased 27% to $979.4 million; net deposits after coinsurance were $880.7 million versus $1.276 billion.
- Average net annuity liabilities increased 19% to $24.8 billion.
- Investment and derivative activity produced $1.15 billion of net investing cash flow and contributed to a $2.12 billion increase in cash during the quarter.
Material changes versus the prior comparable period
- Net income fell 67%, while operating income declined 3%, reflecting volatile fair-value accounting for fixed-index annuity derivatives and embedded derivatives.
- Change in fair value of derivatives increased to $259.2 million from $148.7 million, but change in fair value of embedded derivatives increased more sharply to $359.1 million from $128.3 million.
- Interest-sensitive and index-product benefits decreased 13% to $139.1 million, primarily because of lower index credits.
- Amortization of deferred sales inducements decreased 46% to $16.7 million, and amortization of deferred policy acquisition costs decreased 38% to $34.3 million.
- Other operating costs increased 24% to $21.7 million. Prospective adoption of new acquisition-cost guidance caused $3.0 million of additional expense and reduced after-tax net income by approximately $1.9 million, or $0.03 of diluted EPS.
- The company corrected a prior-period error in Q1 2011 related to single-premium immediate annuity reserves; the correction increased Q1 2011 after-tax net income by $2.7 million.
- Other comprehensive loss was $48.5 million, primarily from lower net unrealized investment gains, compared with a $14.2 million loss in Q1 2011. Comprehensive loss was $38.0 million.
Debt, liquidity, risks and contingencies
- Notes payable were $300.6 million and subordinated debentures were $268.6 million at March 31, 2012. No borrowings were outstanding under the $160 million revolving credit facility.
- The parent had $15 million of cash and access to the undrawn revolving facility; management expected parent-company liquidity to cover reasonably foreseeable 2012 obligations.
- Insurance subsidiaries had $1.6 billion of statutory capital and surplus. Up to $195.5 million could be distributed by American Equity Life during the remainder of 2012 without prior regulatory approval, subject to applicable restrictions and covenants.
- The fixed-maturity portfolio totaled $20.5 billion, with 93.3% investment-grade by NRSRO ratings and 98% investment-grade under NAIC designations. Gross unrealized losses totaled $168.1 million at March 31, 2012.
- Residential mortgage-backed securities remained exposed to housing-market and credit risks; the company reported no subprime RMBS exposure but held $418.3 million of Alt-A RMBS at fair value of $383.5 million.
- Commercial mortgage loans totaled $2.8 billion, with a $39.9 million allowance for credit losses. Loans in workout, delinquent or collateral-dependent status represented approximately $119.2 million of principal, and commitments to fund additional mortgage loans totaled $55.2 million.
- A 10% increase in market interest rates, defined as 33 basis points at quarter-end, was estimated to reduce fixed-maturity fair value by approximately $623.0 million and stockholders’ equity by approximately $187.7 million after specified adjustments.
- The company was defending a purported class action concerning alleged improper annuity sales practices. No class had been certified, and management could not estimate the timing or amount of any potential loss.
- Management stated that disclosure controls and procedures were effective as of March 31, 2012, with no material changes in internal control over financial reporting.
Outlook and management commentary
Management expected prior reductions in policyholder crediting rates to benefit 2012 investment spreads progressively, although lower reinvestment yields could offset those benefits. Low interest rates were cited as a factor reducing demand for fixed-index annuities and creating reinvestment risk as callable securities mature or are redeemed. The filing provides no formal earnings guidance.
Most important facts to verify
- Confirm the registrant and company identity, because the filing text names American Equity Investment Life Holding Company rather than American National Group Inc.
- Reconcile GAAP net income with operating income and evaluate the sensitivity of results to derivative and embedded-derivative fair values.
- Assess the sustainability of investment spreads as portfolio yields decline and callable-bond proceeds are reinvested at lower rates.
- Review RMBS, corporate-bond and commercial-mortgage exposures, including unrealized losses, impairments, workouts and collateral-dependent loans.
- Verify statutory capital, dividend capacity, risk-based-capital requirements and parent-company liquidity restrictions.
- Monitor the unresolved annuity-sales litigation and any subsequent developments affecting potential liabilities.