Business Context and Reporting Period
Filing identity: The supplied Form 10-K is for American Equity Investment Life Holding Company, not American National Group Inc. It covers the fiscal year ended December 31, 2016, with comparative information for 2015 and 2014. The company operates primarily through life insurance subsidiaries and sells fixed index and fixed-rate annuities, with a smaller life insurance business.
The company has one reportable segment, focused on accumulating policyholder funds and earning investment spreads. It is licensed in all 50 states and the District of Columbia and had 530 full-time employees at year-end.
Financial Performance and Position
| Metric | 2016 | 2015 | Change |
|---|---|---|---|
| Total revenues | $2.220 billion | $1.519 billion | Up 46% |
| Net investment income | $1.850 billion | $1.692 billion | Up 9% |
| Income before tax | $130.2 million | $337.3 million | Down 61% |
| Net income | $83.2 million | $219.8 million | Down 62% |
| Diluted EPS | $0.97 | $2.72 | Down 64% |
| Operating income, non-GAAP | $122.3 million | $195.8 million | Down 38% |
| Operating income per diluted share | $1.43 | $2.42 | Down 41% |
| Net cash provided by operating activities | $1.414 billion | $504.8 million | Up $909.5 million |
| Total assets | $56.053 billion | $49.029 billion | Up 14% |
| Total investments | $44.758 billion | $39.570 billion | Up 13% |
| Policy benefit reserves | $51.637 billion | $45.495 billion | Up 13% |
| Stockholders’ equity | $2.292 billion | $1.945 billion | Up 18% |
Reported net income was heavily affected by fair-value changes in derivatives and embedded derivatives. Derivative income was $164.2 million in 2016 versus a $336.1 million loss in 2015, while the change in fair value of embedded derivatives was a $543.5 million expense in 2016 versus a $464.7 million benefit in 2015. These items materially increased reported revenue but were more than offset by related expenses and other adjustments.
Investment spread narrowed: average invested-asset yield declined to 4.51% from 4.73%, aggregate cost of money declined to 1.90% from 1.96%, and aggregate investment spread declined to 2.61% from 2.77%. Investment spread measured in dollars increased to approximately $1.0 billion from $924.8 million because average annuity balances grew.
2016 total annuity deposits before coinsurance were $7.128 billion, compared with $7.084 billion in 2015. Fixed index annuity deposits fell 16% to $5.725 billion, while multi-year guaranteed annuity deposits increased to $1.303 billion from $214.4 million. Deposits through banks and broker-dealers increased 65% to $610.6 million. Net deposits after coinsurance were $5.392 billion, down from $6.612 billion.
Cash and cash equivalents were $791.3 million at year-end, compared with $397.7 million in 2015. Net cash flow from annuity deposits and funds returned to policyholders was $3.2 billion, down from $4.7 billion. The filing does not present a single consolidated free-cash-flow measure.
Debt, Capital and Liquidity
- Notes and loan payable totaled $493.8 million, including $400 million of 6.625% senior notes due 2021 and a $100 million term loan due 2019.
- Subordinated debentures totaled $241.9 million. Total reported debt and subordinated debentures were approximately $735.6 million before considering other liabilities.
- The company entered into a credit agreement providing a $150 million unsecured revolving facility, maturing in 2021, and a $100 million term loan, maturing in 2019. No amount was outstanding under the revolving facility at year-end.
- American Equity Life’s statutory capital and surplus was $2.727 billion, and its risk-based capital ratio was 342%, compared with 336% in 2015.
- Up to $272.7 million could be distributed by American Equity Life in 2017 without prior Iowa Insurance Commissioner approval, subject to statutory and covenant restrictions.
- The company issued 5.59 million shares upon settlement of forward sale agreements and received $134.7 million of net proceeds, which were contributed to American Equity Life.
- The 2016 annual dividend increased to $0.24 per share from $0.22. The holding company had $36.4 million of cash at year-end and depends substantially on subsidiary distributions and fees for liquidity.
Material Changes Versus the Prior Comparable Period
- Net income and operating income declined substantially despite higher revenue, primarily because of unfavorable changes in embedded derivative values, lower investment yields, and higher amortization of deferred acquisition costs and sales inducements.
- Management recorded $81.2 million of adverse operating-income impact from assumption unlocking and revisions related to investment spreads, deferred costs, and lifetime income benefit riders.
- Investment yield continued to decline, and management reduced new-money and renewal crediting rates to protect spreads. Renewal rate actions covering approximately $16–17 billion of account values were expected to reduce cost of money by about 8 basis points when fully implemented.
- Fixed index annuity sales weakened as competition increased, while multi-year guaranteed products and bank distribution partly offset the decline.
- Net other-than-temporary impairment losses increased to $22.7 million from $19.5 million. The 2016 impairments primarily involved telecommunications, materials, energy and utility-related securities.
- Accumulated other comprehensive income increased to $340.0 million from $201.7 million, helped by improved unrealized investment values.
- The company stated that the material weakness in internal control over financial reporting identified at December 31, 2015, relating to lifetime income benefit reserve code changes, was fully remediated during 2016.
Outlook, Risks, Contingencies and Unusual Items
Management expects continued pressure from the prolonged low-interest-rate environment. Lower yields on new investments may compress spreads, reduce product competitiveness and require further crediting-rate reductions. Rising rates could instead increase surrenders and withdrawals, force asset sales at losses, and create liquidity pressure.
The Department of Labor fiduciary rule scheduled to begin phasing in on April 10, 2017 was identified as a material business risk. Management expected potential effects on IRA-related annuity sales, agent compensation, compliance costs, product design and litigation exposure.
- Reinsurance exposure is material. Policy benefit reserves ceded to Athene were approximately $3.9 billion and to EquiTrust approximately $0.7 billion. The company remains liable to policyholders if reinsurers fail to perform.
- The company’s investment portfolio was predominantly fixed income; 95.9% of fixed maturity securities were investment grade under NRSRO ratings, while 4.1% were below investment grade.
- Gross unrealized losses on fixed maturity securities totaled $584.7 million, plus $8.1 million on a held-for-investment corporate security. Management considered the losses temporary, but future credit deterioration could produce additional impairments.
- Interest-rate sensitivity was significant: a modeled 10% increase in rates, or 31 basis points, would reduce fixed-maturity fair value by approximately $1.0 billion and stockholders’ equity by approximately $291.7 million after stated adjustments.
- The fair value of fixed index annuity embedded derivatives was $6.563 billion and depended on significant assumptions about discount rates, option costs, lapses, withdrawals and mortality.
- The company estimated a remaining $0.6 million litigation liability related to the settled Los Angeles annuity practices class action. It also had $75.5 million of mortgage-loan funding commitments and $82.7 million of unfunded commitments to limited partnerships and secured bank loans.
- Projected contractual obligations totaled $52.983 billion, including $51.628 billion of projected annuity and single-premium universal-life payments through 2036. These amounts depend on actuarial assumptions and are not equivalent to debt maturities.
- Financial strength ratings for American Equity Life were A- from A.M. Best and Standard & Poor’s and BBB+ from Fitch, all with stable outlooks at the dates disclosed.
Important Facts for Investors to Verify
- Confirm the issuer: the supplied filing is for American Equity Investment Life Holding Company, not American National Group Inc.
- Reconcile GAAP net income with non-GAAP operating income and isolate derivative fair-value effects before assessing recurring profitability.
- Evaluate whether lower investment yields and the 2.61% investment spread can support expected crediting rates, acquisition-cost amortization and lifetime income rider obligations.
- Review the investment portfolio’s credit quality, unrealized losses, sector concentrations and future other-than-temporary-impairment risk.
- Assess liquidity under both low-rate reinvestment conditions and a rising-rate surrender scenario, including the parent company’s reliance on regulated subsidiary distributions.
- Monitor the Department of Labor fiduciary-rule developments and their effect on independent-agent and IRA-related sales.
- Review reinsurance counterparty strength, trust collateral requirements and the company’s continuing liability for ceded policy obligations.
- Verify the effectiveness of the remediation of the prior material weakness and the sensitivity of reserves and deferred acquisition costs to actuarial assumption changes.